PEGA

Pegasystems Inc. (PEGA)

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Pegasystems Inc. (PEGA)

Q1 2008 Earnings Call

May 9, 2008 9:00 am ET

Executives

Craig A. Dynes – Senior Vice President and Chief Financial Officer

Alan Trefler - Chief Executive Officer and Chairman

Analysts

Geoff Hulme - Porter Orlin

Edward Hemmelgarn - Shaker Investments

Gregg Speicher - Moss Creek

[Hal Barry – Graham Partners]

Unidentified Analyst – [Inaudible] River Partners

Presentation

Operator

Welcome to the Pegasystems first quarter 2008 earnings call. (Operator Instructions) At this time, for opening remarks, I would like to turn the call over to Craig Dynes.

Craig A. Dynes

Welcome to the Pegasystems 2008 Q1 earnings conference call. With me here in Cambridge is Alan Trefler, Pegasystems’s Chairman and CEO. Before I introduce Alan, I will start with our Safe Harbor statement and provide my financial commentary.

Certain 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, intend, belief, estimates, targets, forecasting, could and other similar expressions identify forward-looking statements, which speak only of the date that statement is made.

Because such statements deal with future events, they are subject to various risks and uncertainties. Actual results for the year 2008 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 include, without limitation, variation in demand and the difficulty in predicting the completion of product acceptance and other factors affecting the timing of our license revenue recognition, the level of term license renewals, our ability to release new products and evolve existing ones, the impact on our business of the recent credit market turmoil, and the ongoing consolidation in the financial services and healthcare markets, our ability to attract and retain key personnel, reliance on key and third-party relationships, management of the company’s growth, and other risks and uncertainties.

Further information concerning factors that could cause actual results to differ materially from those projected is contained in the company’s filings with the Securities and Exchange Commission, including its report on Form 10-K for the year ended December 31, 2007, and 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.

Given the challenge of the economy, Q1 was a great start to 2008. Our revenue of $48.5 million was a new quarterly record for the company and represents 29% growth in Q1 2007. In the quarter, we increased net income to almost $3 million, generating a strong $13.9 million in cash flow from operations, and ended the quarter with $161 million of cash and short-term investments.

Q1 results were driven by dramatic increase in license revenue. License revenue was up $5.4 million or 45% from Q1 2007. Most of the increase was in term license revenue, which was up 162%. The mix of term versus the perpetual license bookings can fluctuate from quarter to quarter, which causes our backlog of term licenses to move up and down. In Q3 and Q4 2007, we booked many more term deals than we were able to recognize.

This quarter our revenue is catching up, so as a result of the increase in term license revenue the total of our outstanding term license decreased by about $4.5 million from $71.4 million at December 31 to $66.9 million. These are non-cancelable term licenses where we fulfilled all of the requirements to recognize revenue.

While this $66.9 million is not yet recorded in our financial statements, they will hit our P&L as payments become due. It is worth noting that at the end of the license term, which is typically in the range of three to five years customers must either renew their license or stop using the software.

As I said, the mix of perpetual and term licenses varies, so in contrast to the slight decrease in our backlog of term licenses, there was a $4.4 million offsetting increase in the license component of deferred revenue which shot up by $8.7 million to $41.9 million from $33.2 million at December 31.

In a limited number of arrangements we granted a license to unspecified future software releases. In these circumstances the arrangement is recognized as a subscription. And this quarter we recognized subscription license revenue, which was approximately $500,000 for the quarter.

License signings were down from Q4. This is an expected trend and consistent with prior years as bookings on our industry are historically greater in the third and fourth quarter than they are in the first two quarters. This quarter we expanded our financial statement presentation to show maintenance revenue on the face of the income statement.

Often companies group maintenance and professional services together into one category, usually just called services. However, professional services comprised of consulting and education is a lot different from maintenance revenue. Maintenance is a function of the strength of our growing user base, which renew maintenance contracts on an annual basis because of the value that they place on their Pega applications.

Maintenance revenue is almost $9 million per quarter and is up 27% from Q1 2007. This is a strong and predictable source of revenue, which will now be highlighted in the income statement. Other software companies use this approach, which we felt was the most transparent and informative presentation.

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