Pegasystems Inc. (PEGA) Q4 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and thank you for standing by. And welcome to the Pegasystems Fourth Quarter Fiscal Year 2012 Earnings Conference Call. [Operator Instructions] As a reminder, today's conference may be recorded. It is now my pleasure to turn the floor over to Craig Dynes, Chief Financial Officer. Sir, please go ahead.

Good evening, and welcome to the Pegasystems 2012 Q4 earnings conference call. Before I introduce Alan Trefler, Pegasystems' Founder and CEO, I will start with our Safe Harbor statement and then provide my financial commentary. Some statements contained in this presentation may be construed as forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. The words anticipates, projects, expects, plans, intends, believe, estimates, targets, forecasting, could, and other similar expressions, identify forward-looking statements, which speak only as of the date the statement was made. Because such statements deal with future events, they are subject to various risks and uncertainties. Actual results for the fiscal year 2013 and beyond could differ materially from the company's current expectations. Factors that could cause the company's results to differ materially from those expressed in forward-looking statements are contained in the company's press release announcing its Q4 2012 earnings and in the company's filings with the Securities and Exchange Commission, including its report on Form 10-K for the year ended December 31, 2012, and other recent filings with the SEC. The company undertakes no obligation to revise or update forward-looking statements as a result of new information since these statements may no longer be accurate or timely. Q4 was an outstanding finish to 2012. New license signings were off the chart, driving license revenue up 18% for the year, total revenue to a new record of $461.7 million and pushing license backlog to an all-time record level of $255 million. The fact that we were able to set these new records in this ongoing terrible economy is a testament to the value that our customers see and are achieving with PRPC. Throughout the year, we have noted that because of the economy, customers were unable to get deals done. Unlike last year, deals were rarely lost but delayed from quarter to quarter until the end of the budget year when delays are no longer possible. We noted in our 10-K filing that like last year, for the second time in our history, more than 50% of the year's new license signings or bookings were closed in Q4. We believe that this pattern was due to the ongoing customer concern over this uncertain economy. Europe's economy was especially bad where bookings were off 26% in 2012. But we still beat the competitors and won the deals. Signing licenses especially term licenses, so late in the year barely impacts our near-term revenues. Selling a term license in Q1 gives us several quarters of term license revenue. But closing term licenses in Q4 results in very little incremental term license revenue hitting the P&L in the fiscal year. However, there is a positive side. Our term license backlog has ballooned to $211.5 million at the end of the year from $161.4 million at the end of last year. This drives future license revenue. In fact, as detailed on Page 32 of our 10-K, we're already holding $55.2 million of term license revenue for 2013. This is an increase of $17.5 million, or 46.4% over where we were last year. And at the end of 2011, we held $37.7 million of 2012 term license revenue. Our big Q4 bookings quarter will drive 2013 revenue just as last year's Q4 bookings drove 2012 term license revenue up 35% from $34.4 million in 2011 to $46.6 million in 2012. Throughout the year, perpetual license revenue was lagging 2011. In fact, at the end of Q3 2012, perpetual license revenue was less than 2011 levels by about $9 million. As a result of our Q4 bookings, perpetual license revenue for the year was up $8 million or 9% from 2011. Maintenance revenue was $133.5 million for 2012, an increase of $16.5 million, or 14%, for the year. For several years, we have worked towards our objective to build a strong, robust partner organization. Our partners now lead in a majority of all engagements. As a result of our success with enabling both our partners and our customers, there were record numbers of new PRPC projects in 2012, and they were completed without us having to ramp up our Professional Services business. So we've been successful in reducing services revenue as a percentage of total revenue from 39.5% in 2010 to 38.6% in 2011 to 35.6% in 2012. Improving our revenue mix in favor of high-margin license and maintenance revenue provides gross profit leverage to our business model. In fact, gross margins increased from 60.4% in 2011 to 65.9% in 2012. In dollars, this represents an increase of $52.5 million in gross profit from $251.9 million in 2011 to $304.3 million in 2012. Q4 operating expenses increased by $14.3 million from Q3 to $77.8 million. Virtually all of the increase was in sales and marketing primarily due to Q4 commissions on such a great bookings quarter. In 2012, we increased sales and marketing headcount by 56 new employees, of which 39 were in sales. We've been steadily growing our sales capacity since 2006, and we see more growth ahead of us. We believe that our increase in license signings and revenue during this period is directly attributable to this investment, and we will continue to grow our sales capacity in order to cover new accounts, new geographies and new vertical markets. During 2012, we added 204 new employees to our R&D organization, 79 of which were contractor replacements. We find that in many situations, we're more effective with our own employees than with contractors. We will continue to invest on R&D to lengthen our lead over possible competitors and make improvements in the product that will drive license revenue growth. G&A expenses increased by only $700,000, or 3%, in the year. As we increase our international footprint, we will incur increased tax and accounting fees along with a need for additional headcount. Our FAS 123R charge for stock-based compensation for 2012 was about $11.5 million on a pretax basis. Note 15 to the financial statements details how this charge is allocated to cost of revenue and operating expenses. This charge is also shown as an adjustment on our GAAP to non-GAAP reconciliation that can be found in our earnings press release. In spite of the wild ride in the foreign currency markets, we recorded a net FX loss of just less than $1 million. I say net because we have gains on the FX line but offsetting hedging losses on the other income net line of the P&L. Our low GAAP income tax rate is due to the $1.2 million U.S. domestic production benefit, and a further $1.2 million benefit related to lower foreign income tax rates. This was partially offset by a $1 million of permanent differences related to nondeductible meals [ph] and foreign stock compensation. Because of the economy, we managed expenses appropriately. So 2012 turned out to be a good year. Net income of $30.9 million is an increase of $20.1 million or 186% from 2011. On a non-GAAP or pro forma basis, we generated $42.5 million, or $1.09 per share, of net income on a fully diluted basis, well above our $0.91 non-GAAP guidance. We have provided a non-GAAP reconciliation as supplemental information in order to compare results to analyst models. On this reconciliation, we have added back certain noncash charges, such as our stock compensation or FAS 123R charge as well as the amortization of intangible assets that are created by purchase accounting. In addition, to present a more normalized or run rate view of earnings, we have added back all the extraordinary expenses, onetime or duplicate expenses, which were the result of moving to our new offices in Cambridge. Our cash flow from operations was a very solid $43.6 million. As a result, our cash position increased by $11.6 million from $111 million last year end to $123 million at 12/31/12. Due to the amazing Q4 license signings, our trade accounts receivable balance increased by $37.1 million from $97 million at the end of last year to $134 million at the end of this year. Strong collections that fueled our cash flow, reduced our days billed outstanding, or DBOs, from 65.3 at the end of last year to 60.4 at the end of this year. During the year, we purchased just over 185,000 shares for $5.2 million at an average price of approximately $28. Late in the year, our board voted to increase the balance available to repurchase our common stock $15 million and extend the buyback period to December 31, 2013. Therefore, at year end, we had a balance remaining of approximately $14.8 million available for future repurchases. Overall, in spite of the continued economic uncertainty, 2012 was a good year. We grew license revenue, significantly increased gross profit, which drove an almost tripling of net income. The year was a challenge. Bookings were delayed from quarter to quarter, which pushed license revenue into next year. However, we managed expenses accordingly and ended up exceeding our EPS guidance. The revenue mix improved, cash flow improved and we ended the year with record backlog, which will drive further growth in 2013. With the filing of the 10-K, my responsibilities as CFO are complete. Pegasystems is a far different company than when I started more than 6 years ago. It is well positioned for continued growth in 2013 and beyond. And with this expectation for 2013 as well as the Q4 highlights, I now, for the last time, turn the call over to Pega's founder and CEO, Alan Trefler.

Thank you, Craig. Despite a difficult environment and a pretty tough start to the year, I'm pleased to reiterate that Q4 was a phenomenal quarter for Pega with the result that 2012 was a record year for the company: record in revenue, profits, transactions and backlog. And because we carefully managed our investments in light of economic uncertainty, we achieved record profits in 2012 and, as Craig mentioned, actually exceeded the guidance we had originally given a year ago. Our business was very strong in North America and Asia. And while Europe was very challenging, we really saw some nice wins in Q4. In terms of verticals, financial services was very strong across all geographies. Public Sector were strong in both North America and Europe, and our communication vertical was strong in Q4. Health care saw better performance than in the past 3 quarters as payors and pharmacy benefit managing firms began buying again with some of the health care political uncertainty behind them. In insurance, we broke into 2 of the world's top 5 insurers, a promising steppingstone into those companies as well as winning key deals for the new business underwriting, customer service in both property and casualty and life companies. Now I love engaging with clients to hear firsthand of their challenges and their opportunities. And it's great to see implementations of our software and hear what works well and what clients would like to see us work on. In Q4, perhaps the most common theme I heard is how challenging it is for these organizations to keep up with change: changing customer preferences, changing customer expectations of channel access, changing expectations to service quality, of being able to bring new offerings to markets quickly, changing work structures and, of course, changing government regulations. And when we talk about the registered tagline on my business card, Build for Change, it's like a breath of fresh air for them. As we discussed Pega, there was a genuine excitement and enthusiasm. These organizations finally have a technology that can automate their business processes to increase productivity but do it in a way that can improve customer experience, to improve growth and retention, and all while giving them -- by giving them a level of business agility that they never thought technology could provide. It is the real world returns that clients are achieving with Pega, the agility to quickly adapt their business applications to new products, new regulations, changing policies that drove Pega's success in Q4 and 2012. As clients tell me, "Your software allows us to do more with less in delivering service. But we equally chose it because it's the only technology that allows our customer-facing and case management business applications to keep up with all the changes in the marketplace." We believe that the market for a software platform that provides huge economic returns and enables continuous business agility can become as important to the software industry as ERP was back when companies were automating their back office financials and supply chain functions. And so we continue to be very excited and confident about the huge opportunity in front of us and our unique capability to serve it. As we remain focused on serving the world's leading organizations, we maintain a target account approach in the named verticals I've been talking about, and it's based on building strong relationships. We, most often in conjunction with our partners, work with our clients to identify the business return they will see by a solving a problem with Pega, and then work to ensure that the business results are actually achieved as a result of the implementation. At a certain point, we've been seeing customers who have used Pega for one or more business processes recognize the transformational value of software. For enterprises [indiscernible] really is a platform to broadly automate their operations. In Q4, we won several transformational buys -- sometimes referred to on our earnings calls as "whales" or "tuna" -- and we won over 20 other substantial deals for both new use and radiation [ph] in existing accounts. In financial services, for example, one of the world's largest banks chose Pega to bring process automation to their entire mortgage operation. The organization had successfully implemented Pega in one aspect of the operation and found the customer experience benefits, productivity benefits and increased agility so compelling that they are transforming their entire operation around Pega. One of the largest Asia Pacific telecom companies decided to transform their order management process using Pega software. Again, this is an organization that had made a purchase of Pega for one aspect of the order management process and had such improvement in productivity, customer experience and agility that they bought the platform for this aspect and their whole company. And a large global bank headquartered in Europe, after several successful projects, bought Pega to dramatically improve productivity and agility across the bank. This large, multiyear buy is exactly the kind of business we're increasingly seeing with our most strategic clients. Now these large transformational successes, each typically build on a set of smaller successes, which is why it is also so exciting to report many other key wins, like one of the world's premier investment banks, who bought Pega for authentication and onboarding of new clients; another top 5 bank bought Pega for order processing, exceptions management and claims processing; a large fin service company chose Pega to handle all of their customer service case management. And we had public sector wins in both North America and Europe. One European government chose Pega for all of the unemployment benefit plans management they're doing. We also were chosen in one of the large U.S. states for unemployment benefits administration. There's sort of an interesting twist on being able to get business out of tough times. In the communications vertical, we had additional great wins for the use of Pega to automate order management processes, a very complex and expensive process which changes constantly. And we continue to win business for our decisioning and Next-Best-Action marketing solutions in communications companies where the return from increased retention and cross-sell is staggering. And as I mentioned, a couple of great break-in wins in the insurance market, wins in policy servicing and underwriting and for multichannel contact centers. In all of these cases, customers were automating work to improve customer service and increase productivity but had a technology need that required them to keep up with change. To increase their organizational agility, they chose Pega. Now despite the continued growth of Pega, given the lumpiness of our business, I'm often asked about the competitive dynamics of our market and whether we are losing business to the stack vendors. From my perspective, our competitive position relative to the large stack companies continues to improve. As I said earlier, traditional models of software that involve either coding or monolithic applications, they just do not do well when the customer has to solve sophisticated business challenges, like multichannel customer service, dynamic case management, and this is especially true when the customer needs a level of business agility. Usually, in the selling process, we can demonstrate our unique differentiation in these areas. But sometimes, the client does decide on the free incumbent approach. They'll give it a try. But I'm happy to say that this frequently runs out of runway as change occurs and as they work to try to get the implementation in. And our target account model means we would maintain the relationship with our key target customers, often selling it to other parts of the organization but always being there and very, very frequently end up re-winning the business or the next application when something important comes up. Our capacity to cover and deliver to the market demand is critical. Consequently, we will continue to expand our coverage of target accounts, particularly when the account is either not covered or only partially covered. We plan to add additional account executives, plus the support staff and enablement for those account executives. Partners continue to be central to our strategy. And we will also continue to invest in the growth of Pega and its partner ecosystem, both for business development and for delivery. Now in 2012, we increased the certified partner delivery capacity by over 70%. But perhaps even more exciting is that the investment by our partners and the growth in the number of senior-level technical architects certified within our partners -- at these levels, we call them senior system architects or lead system architects -- our partners more than doubled the numbers we had the year before. And of our total pipeline at the end of 2012, about 60% of it, was either sourced or leveraged in conjunction with our partners. And it's really exciting to see how the world's leading integrators and partners, companies like Accenture, Capgemini, Cognizant, TCS and many others are embracing Pega as a key strategic technology. Now as I discussed in July, we have been investing in creating and rolling out Pega Academy, an online self-study enablement capability. We launched this in the middle of 2012, and by the end of the year, over 75,000 lessons have been taken using this model of enablement. It is exciting that Pega Academy is becoming the primary way that Pega and partners receive technical training. We will continue to grow and expand the use of Pega Academy to help increase coverage, speed of onboarding new staff and ensure culture certification in the Pega ecosystem. Now as we've discussed during the year, to align our own Professional Services strategy to best complement the partner strategy, we have repositioned our Professional Services to be Pega Consulting. The charter of Pega Consulting is to provide value to clients and partners without focusing on the historical Professional Services' implementation-oriented model. As a result of the strategic commitment to the partner and customer delivery ecosystem, we expect little or no growth in our own consulting services business in 2013 because we're building on the goal and the objective of feeding the ecosystem. Yes, this is something we've been talking about for sometime now, and I thought it was really interesting, as Craig discussed, how the revenue mixes were changing, entirely consistent with our strategy to be a software company. Now in 2012, we had some excellent results from our engineering teams. We released major versions of our core platform PegaRULES Process Commander, major new releases of our multichannel customer service and Next-Best-Action marketing offering and over 20 industry vertical frameworks. We also showed continued growth in our cloud business in 2012 with more customers using our cloud solution for production and hosting of their applications in addition to development and test. We more than doubled the cloud business last year and see it continuing to grow well in 2013. We will continue to invest in both the core platform and the key horizontal and vertical frameworks to help our customers increase their adoption and success with Pega software. Before moving on to discuss guidance, let me again thank Craig for his many contributions over the last 6-plus years. And Craig, we're all wishing you the best as you move on to the next step in your career. With your CFO duties fulfilled, I guess I'm the guy who'll be discussing the guidance and the other elements of the 2013 plan. Now as Craig and I have often stated, Pega takes a disciplined, long-term approach to how we engage with clients and sell our products. We don't give crazy discounts at quarter end, and we avoid the practices that have so often led to the demise of software firms. Now this can exacerbate the natural lumpiness of quarters in our business. But managing for the longer term is critical to our view of being a successful enterprise. And that furthermore, from a revenue perspective, the fact that our customers can chose to buy either term or perpetual licenses can even further change the mix and increase the lumpiness in any given quarter. So Pega's approach has been to only give annual guidance and will continue doing that at the start of each year and only supplement that with color commentary as the year progresses. Now given all the uncertainties in the macro environment, all predictions are challenging. However, we anticipate that 2013 will be a year of good growth because we believe in the market, the product and our clients. Our guidance for 2013 targets revenue of about $510 million with non-GAAP EPS of about $0.20 and GAAP EPS of $0.83. We anticipate license revenue to be key to this growth as we expect flat to slightly down numbers from our consulting services and training businesses as we continue the strategy of leveraging partners by moving an increased amount of business to them and having more of a consultative model for Professional Services but also introducing increasingly the self-study model for training. We will watch the macro environment closely, but our current expectation is we will continue to invest in both sales and research and development in 2012 (sic). As in the past, we expect revenue to be back-end loaded with about 45% in the first half and 55% in the second. So to conclude, Pega technology offers a better solution than traditional coding or monolithic point applications. It's terrific in environments of process automation, of customer service and especially good in environments needing frequent change. Traditional approaches to business applications simply cannot provide the business returns and the agility that organizations [indiscernible] in this increasingly competitive, fast-paced and global market. We see this as a $15 billion-plus market opportunity for clients to just do the work automation in a world of continuous change, and we're on an aggressive journey to be the market leader of it. 2012 was a very good year for Pega and another proof point that leading organizations are recognized in adopting new ways of doing things. We look forward to continue this journey in 2013. And with that, Doug, can you open the line for any questions?

[Operator Instructions] Our first question comes from the line of Nathan Schneiderman with Roth Capital.

Alan, I wanted to start off with a question for you. what [indiscernible] about [Technical Difficulty]

Nathan, you're breaking up a bit. Can you try to come a little closer to the microphone?

Last quarter, you made a comment about a desire [indiscernible] of your quarterly results. And I took that to mean that mix [indiscernible]. [Technical Difficulty]

Our next question will come from the line of Steve Koenig with Wedbush Securities.

I wanted to just clarify. And then maybe, if I could, one follow-up. On the whales, am I inferring correctly that you -- that the 4 deals you cited in the print, 2 with insurance and 2 with public sector, that those were 4 -- you had 4 whales, meaning over $5 million, and those were the deals? Or is that not correct? And can you provide any additional color?

No, that's not correct. In reality, the way -- when we break into an account -- you don't break into an account on the back of a whale. You've got to prove yourself. But just being able to get into places we've been trying to get in for a long time that already have incumbent solutions but, obviously, decided they were adequate, so that, from my point of view, was the exciting message about those particular deals. I think all of the whales actually did represent follow-on transformational sales, the customers that were already established customers, and we have just taken it up to the next level.

Okay, great. And Alan did you -- would you be able to say how many large megadeals -- whales there were?

Well, we don't want to get into too much of a detail because all whales are also not of the same size or structure, et cetera. But I think as we talked about the first 9 months of the year, we talked about how customers were splitting things up, how one of the issues we'd had with the first couple of quarters is it was really just being a little tentative -- no, more than a little tentative, about doing something that might have been a big whale or maybe a midsize tuna, doing that and perhaps chopping it up into -- I'm not a fish guy, so I'm going to stop here. What we saw is that several of those clients, as we had hoped and kind of expected, did come back and make that bigger commitment. And it's especially refreshing in this world where there's so much disappointment with so many software companies when customers have success and choose to double down with you. That's one of the things that makes us as a company really proud.

Okay, great. And if I may ask one follow-up? Alan, I'm curious to get your view. As you move to providing more cloud, certainly testing and development and some deployment activity as well, how does that change the nature of the integration work that you or your partners have to do?

Well, for -- so we've got a lot of really terrific integration facilities built into our system that work whether you're on cloud or on premise. And part of our pitch to our clients is that sometimes it makes sense to be on the cloud, and sometimes it make sense to be on premise. One of the reasons that people often prefer to be on premise is when the integration is very heavy, when there's lots of systems, possibly lots of sensitive client data and just lots of traffic that it can be just more efficient to have the application running inside the firewall. So we're completely prepared for either one of those. And at this point, whether it's a cloud integration or an on-premise integration, I think we've got those all really quite nailed, and our partners are extremely experienced at making that work in both environments.

And Mr. Schneiderman has reconnected.

Alan, I wanted to start off. Last quarter, you made a comment about your desire to reduce the volatility of results. And I took that to mean that you might want to try to shift the business more towards smaller deals and in ratable deals. This quarter, you did not mention that at all. So I just want -- was hoping you could share your current thoughts on that and if there are some changes in the way you're going about deals going forward if you could articulate that.

So a couple -- it's a great question. And I think it's an important one to spend a minute or 2 on. So we understand how frustrating it must be for investors and analysts to have to deal with the volatility of the business. And whereas we've accepted it as being part of the business model, as our management team in the second half of last year put on its thinking caps and was thinking about our plans for 2013, we were asking what types of things can we do to decrease volatility? And we came up with a number of ideas. And on the previous call, I mentioned that we were going to begin to implement some management changes. We made some changes to some of the compensation system for some of our managers, in particular in sales. We can't really do it for individual reps because individual reps are always going to be lumpy. But we think that maybe, as we aggregate up the management chain, we can do some things to create -- to move from this sort of end-of-year event to something that might be much more first half-second half or even, God willing, closer to quarters. I really haven't spoken about it because frankly, we've rolled out some things. And we are excited, but this isn't going to be a change that's going to happen overnight. It's going to be something that will take a while. Relative to your question about smaller deals, I wonder if this has to do with customer preferences? If we're dealing with a top 5 insurance company and they decide -- or a top 5 bank or a huge telco -- if they decide that they want to really change the way they cross-sell outside [ph] customers or they want to redo their onboarding process for lending, that's going to be a big deal. It may become a smaller sign kind of "Well, let's get our feet wet and do it in an area." But the only reality of it is that given the nature of our clients and until with scale -- and I do expect with scale, we'll see more of those -- we get more diversified into clients of different sizes. I think we're going to continue to have the whales. And even if we move to ratable, I don't see a huge difference between -- as I think about our business, there's not a huge conceptual difference between the $45 million we added to backlog in the last year, our license backlog, and the money we've put on the line of revenue for licenses in the quarter. Some of that could have gone either way based on customer preferences, the best thing for the client, et cetera. So I think that we need to -- we just need to understand that the business will be lumpy. We've decided we're going to see what we can do to address that. But I think that's going to be a journey, as opposed to something you're going to see miracles in Q1 and Q2.

Okay. If I could sneak in a quick follow-up. You may have answered this to Steve's prior question. But in case you didn't, could you share the number of 8-figure deals in the quarter and the number of 5-figure deals and how that compared against the year-over-year periods?

Yes, so we don't give those specific numbers. But we did have 4 deals that we thought were really quite large, that fell into that transformational category. And some of those deals, frankly -- and we don't count this from a bookings point of view at all when this happens. Some of those deals actually have options for follow-on pieces of business. And if the customer continues to be happy, we'll lead and roll into more stuff. So I guess what I'll tell you is the big change we saw is the return of the transformational deals that we had seen at the end of last year. And you'll remember we got a couple of them last year. We talked about them last year. And that had been sort of missing the first 9 months of this year and now we're back, which I think is obviously a very good thing. It says good things about the product and the clients.

Our next question comes from Raghavan Sarathy with Dougherty & Company. Raghavan Sarathy - Dougherty & Company LLC, Research Division: I apologize that, well, I'm in a taxi. Hopefully, you can hear me. Two quick questions from my end. You may have given this figure. I might have missed it. What was the license signings in the fourth quarter?

Well, we don't give a specific license signings number. But we did note that from the point of view of our bookings, from the point of view of the things that we compensate our sales force on, it actually was slightly higher than the completely remarkable 2011. So we had a brutal compare, if you actually look year-over-year. Some of the numbers were up 75%. And the fact that we were able to get back over that number after the first 3 disappointing quarters I think really is a testament to a lot of the work of the whole team who pulled that off. But no, we're not going to give the specific bookings number. Raghavan Sarathy - Dougherty & Company LLC, Research Division: Okay. And my second question is, in the last call, Alan, you mentioned that the license signings in Europe were down 50% through 9 months. Can you give us some color around how Europe did from a license signings perspective year-over-year in the fourth quarter? And likewise, North America in the fourth quarter and then for the whole year?

Yes, sure. So Europe was markedly better in Q4. And it pulled up that massive decline through 9 months down to what I would describe as only a modest disappointment. North America was strong, and APAC was great.

Our next question comes from line of Kevin Buttigieg with Longbow Research.

First, I was just wondering if you could provide an update on the search for a Chief Financial Officer, whether you were looking internally, externally, when you thought you might be ready to announce a decision in that regard?

Yes, sure. So we've begun the process, and we've been seeing actually a fair number of people, though I'd say we're still just in the middle of the process. I don't think we're anywhere close to coming to the end of it. What I will tell you is there is a lot of people who are interested in the business and interested in joining our company in our current condition and situation, particularly when they understand what some of the growth prospects and the potential of the technology can be. So I'm actually pretty pleased that we are going to be able to make a really, really good selection to fill Craig's big shoes. The reality is, it will take what it takes. I'd love to not be the guy giving guidance on the first quarter earnings call, and I would take that as sort of a personal goal. But we're not -- these are very important positions. The finance group at Pega is, from my perspective, extremely strong, and I have complete confidence in the numbers and the way we run the business. So we're moving fast but not in a hurry is the way I would say that.

Okay. And then just one follow-up, if I could. I mean, you mentioned the significant influence that partners have had on deals in 2012. How has that affected other aspects of the business in terms of your visibility to transactions or your ability to close deals? Does that sort of diminish that in a sense that it may be counter to some of the efforts that you're taking now to try to diminish the lumpiness in your business? Or does it not have any sort of influence on that at this point?

So first, I'll tell you we have excellent visibility to the deals with our partners and our resellers. So when they engage with one of the large companies that we're doing business with, our sales and Pega Consulting team are engaged with the partner to make sure that the right solution is scoped and the right sort of things are understood. So there's no visibility issue. Working with partners is something that is complicated. And it's one of the things we're putting a lot of effort into to try to make sure it doesn't slow things down. I can think of some that it has slowed down, and I can think of some that it has speeded up. But we're pretty confident that this should be a part of our strategy just given what we think could happen in the business in the coming years.

Our next question comes from Brian Murphy with Sidoti & Company. Brian Murphy - Sidoti & Company, LLC: Alan, you mentioned that the public sector was strong, and you gave us a little bit of color there. Could you go into a little bit more detail into what kind of runway you see there? It seems like that's an area sort of ripe for automation. And also, have you been adding to the sales force in that vertical?

No, we have. If you go back 3 years, I was very frustrated with the challenges and the problems we had getting traction in the public sector. And we've had a remarkable change. We -- this year had meaningful wins in state and local government, which I had not fully appreciated both how badly some of these states need automation and how you can actually take the same solution with a partner from state to state. And some of them like each other enough to give each other references. The Federal Government has been great. We are -- we've moved into a record number of new agencies and doing meaningful things, all of which are in places that have growth. And as I mentioned, a major European government chose us to help run their unemployment system. So -- or to be the technology that -- we're not running it -- that sits underneath their case management for unemployment. So I'm feeling great about government. We're expanding it quite rapidly. It's still obviously much smaller than financial services and some of our other more established verticals. But I think it's going to be an important growth market for us so long as the government doesn't completely melt down in the coming weeks. Brian Murphy - Sidoti & Company, LLC: And with the continued changes in the services organization, should we continue to look for the service gross margin to climb from here?

So I'm not sure that it will climb. We're going to try to protect the gross margin. But the service business is undergoing a pretty significant conceptual change. There's the training that needs to be done, there's reeducation. As we move, if you want to think about it visually, most service delivery firms fashion themselves on a model of a pyramid. They have a relatively small number of senior people, and then they have legions of folks who will go and do the grunt work at hourly rates and drive the solutions. Our Pega Consulting model ends up looking much more like a diamond. We will have some people capable of doing limited implementations because we never want to lose that as a capability. It's pretty important. But we are working to increase the level of thought leadership, to increase the way that our consulting people engage so that they're not seen as just the people who do the implementation, but they're increasingly seen as people who can have judgment and opinion about how customers can use the technology to really improve the business. I'll think of it more as the front end of the implementation. So my belief is that we can -- we obviously did a good job of managing margins this year overall. We're going to work to manage the margins. But that's a pretty big transition that we're going through, particularly this year. Brian Murphy - Sidoti & Company, LLC: Got it. And one more quick one on the regional segment breakout. The -- your other bucket was up 56% in 2012. Can you give us a breakdown on what's going on there?

I bet that was all APAC. I would... Brian Murphy - Sidoti & Company, LLC: Okay.

Yes. Oh, okay. And -- oh, this was the industry segment. Yes, we've actually had some very happy success in manufacturing, which we think actually could be an awesome industry for us. And we've now got a number of clients using us for front-ending the SAP systems that they've got, doing warranty processing. And the way we think about it is we incubate industries, and then when they hit some level, we break them out and frankly [ph] give them the full swathe of overhead that comes with that. So we don't want to do that prematurely. But over time, you will expect to see me talk about more industries. Brian Murphy - Sidoti & Company, LLC: Okay, glad to hear that. I was actually talking about the regional breakout. And so it sounds like the strength in 2012 was Asia. I mean, is Canada in that other bucket? Or just wondering if you're getting that growth from penetrating sort of new areas. Or what's behind the strength there?

Yes, I might ask one last question of Craig. Is Canada -- Canada is...

Yes, Canada is in the other. We are very strong with the Canadian banks, and the Canadian banks have been doing really well the last couple of years.

Our next question comes from Edward Hemmelgarn with Shaker Investments.

Okay, a couple of questions and then one comment. The -- one question. And this is maybe for you, Craig. Are there going to be any more duplicate expenses for headquarters in the numbers in 2013?

No, that's done. We're moved. We've moved into great offices. Everybody loves the offices. I think it's done a lot for communications and for morale. So that's all done.

Okay, great. Alan, I'm trying to get a little bit of a perspective on where you're going in terms of operating expenses in the future. Over the last few years, you've been doing a lot of investment spending to get into companies that you haven't been in. So I guess one of my questions is what's the percentage of the global 100 largest companies or global 500 that are your current clients?

So it's well under half.

For both? Or, I mean, are you more penetrated in the top 100 or...

We're a little more penetrated in the top -- in the global 500, it's probably 25%, 35%. And in the global 100, it would be -- I'm just sort of eyeballing my customer list again. I would say it's definitely under 50% at this stage. The other thing is some of these customers that we talk about, when you sell to one division of one of these companies, the other divisions of GE and whatever, do you kind of consider that one customer or do you consider them separate? They really make, in a lot of cases, reasonably autonomous decisions about what they consider strategic. And I'm not even including that. So we've got a lot of -- there's a lot of growth capability. One of the reasons we invested a bunch in the last 18 months is that we took a look at the top 10, and we realized that we weren't even calling the majority of them. And we've been in the process of fixing that.

What -- and I guess as a follow-up then, what's the percentage of your targeted companies, in other words, where you've assigned a sales person or multiple that you're currently penetrated? I mean, is it -- I mean, how many are you still like doing the groundwork and haven't -- you're spending money but not even getting anything? Is it 50%? Is it 60%?

Oh, no, it would be -- of the targeted companies -- because the targeted companies does go into the global 500 that you were talking about. No, we exclude certain industries and certain areas and certain businesses that we don't think would make as good uses of our technology. I mean, we're -- as I mentioned, we're only 25% or 35% penetrated in those firms.

I guess my question then is, what -- when you look at where you've assigned a specific salesperson where they're spending time and they're calling on them, is it -- where you are in effect doing investment spending. Is that -- how does that mix change? Are you doing more investment spending? In other words, that you still have a lot of companies out there where you've got salespeople assigned and you haven't sold anything. Or is that kind of increasing? I mean, is where your percentage of penetration is getting better? And then how do you decide how much longer do you keep on -- how much rope do you give a sales effort? I mean, how many -- you do it for 3 years and then if you can't get anything, get out? Or what's the story?

How much rope you give a what? I didn't get that.

You give your sales organization. In other words, how long will you put up without making any penetration?

Well, I mean, if somebody isn't making progress engaging with customers, having the right meetings, being able to demonstrate that they can get the attention and get in front of the right people, they don't get much rope at all. We have a program we call 30-60-90 where we look to evaluate every new hire, not just in sales, across the entire company, to try to get early warnings about just things that were misfits. We can be patient. I mean, there are some customers -- I mentioned breaking into 2 of the world's largest -- 5 largest insurers. We had pursued those companies in different geographies and in different places, I would say, for 4 or 5 years. Not necessarily always with the same person and changing our strategy as we went. So if we think a customer, an organization, is right for this technology, we believe that part of having a relationship sales model is actually to build that relationship. And we got to be prepared to be sticky. Now that sales person may not make their quota or be successful with that client. But in that case, we might give them another one to work on kind of in the meantime so that they can have more success. But we're very analytical, I would say, in terms of looking specifically at the strategy and asking, is it working? And that's a pretty deep part of the culture.

Okay. So it sounds like you still have a lot of like what one would describe as investment spending there or -- and room to go for quite a few years then?

Yes, I mean, we're not running out of either opportunities to sell or opportunities to build deeper and broader relationships.

And we do have time for one final question. Our final question will come from the line of Raghavan Sarathy. Raghavan Sarathy - Dougherty & Company LLC, Research Division: Two quick follow-ups. Alan, can you talk about the pipeline exiting 2012? How much is probably up year-on-year? And the conversation, to the extent you can give us color, whales versus tunas. And the second question is, what is it -- have you seen any sort of improvement in Europe since the beginning of this year? And so what is your expectation from that region for this year?

So a couple of things. We don't let people put early-stage whales into a pipeline. You can't go and put in -- the typical, what I would describe as early or mid-stage opportunity, generally falls into the size of our average sales are actually smaller when you look at the pipeline. Because otherwise, we might unduly color what's going on. Obviously, once things get into the decision of legal phase, we will uplift them to what we think the deal is going to really come in as. What I would say is the pipeline between 2013 -- January 2013 compared to January 1, 2012, I would say it's up nicely. It's up consistent with the size of the increase of the sales force, which is what we would want to look at. And so, we feel pretty good about the pipeline. It was pretty sobering to deal with the unpredictable size problem last year. And I think it is premature to figure out exactly how that's going to go. But it's -- once again, it was very, very encouraging to see what happened in Q4, and it wasn't a onetime flush. These people were doing real stuff, and they felt they had to do it. They didn't have money they had to spend. They decided they had to make transformational, in some cases, other changes. Relative to England and Europe, I'm feeling a little better. But I'm actually leaving next week. I'm going to spend the whole week in Europe, and I think we'll have a better assessment then. As I said, Europe improved in the fourth quarter meaningfully. And I'm hoping it's going to stay at that level, which would still make us a little bit modest about covering some of the extra accounts there but would cause us to actually continue to invest in Europe because we think that there are major, major companies that we don't have coverage on, and we think we need to fix that. Well with that, I guess that was the last question, Doug. Let me just end by saying that I'm going to offer that you guys go to pega.com and take a quick look at our PegaWORLD Conference 3 months away. It's June 9 to 11 in Orlando. It's just an awesome opportunity to actually see firsthand what clients are doing. If you go to our website, we actually have some nice 4-minute videos that talk about some of the most remarkable transformations in systems and approaches that I've ever seen in companies like ING and a whole variety of firms. And I would recommend you look at those, but there's nothing like coming and seeing it in person. So put that on your calendars, June 9 to 11. And we look forward to talking to you again soon.

Thank you, gentlemen. Ladies and gentlemen, again, this does conclude today's conference. Thank you for your participation, and have a wonderful day. Attendees, you may log off at this time.