Quest Software Reports Second Quarter 2008 Results

Quest Software, Inc. (Nasdaq: QSFT) today reported financial results for the quarter ended June 30, 2008. Total revenues increased 21.9% to $173.4 million compared to the prior year’s second quarter revenue of $142.3 million. Total revenues for the first six months of 2008 increased 18.5% to $346.2 million compared to $292.1 million for the same period in 2007. The Company’s cash and investments at June 30, 2008, totaled $419.7 million, an increase of $36.2 million over the comparable balance at March 31, 2008. Quest generated cash flow from operations of $24.0 million in the second quarter of 2008. "We are pleased with our financial performance through what has been a tough macroeconomic environment in the first half of 2008,” said Vinny Smith, Quest CEO. "We are continuing to drive our business to support our customers’ requirements across the breadth of their IT infrastructure with innovative products and services.” GAAP Results Quest Software’s net income for the second quarter of 2008 was $8.3 million, or $0.08 per fully diluted share. This compares to net income of $7.9 million, or $0.08 per share on a fully diluted basis, for the second quarter of 2007. Operating margins decreased year-over-year from 5.5% to 2.5% in the second quarter, resulting in operating income of $4.4 million which compares to $7.9 million for the corresponding period in 2007. Net income for the first six months of 2008 was $21.6 million, or $0.20 per fully diluted share, versus net income of $22.8 million, or $0.22 per fully diluted share, for the comparable period in 2007. Non-GAAP Results On a non-GAAP basis, net income for the second quarter of 2008 was $17.7 million, or $0.17 per fully diluted share. This compares to non-GAAP net income of $17.4 million, or $0.17 per share on a fully diluted basis, for the second quarter of 2007. The non-GAAP operating margin was 10.8% in the second quarter of 2008, resulting in non-GAAP operating income of $18.7 million, compared to non-GAAP operating margin and operating income of 13.8% and $19.6 million, respectively, for the corresponding period in 2007. For the six months ended June 30, 2008 non-GAAP net income was $39.9 million, or $0.38 per fully diluted share. This compares to non-GAAP net income of $43.6 million, or $0.41 per fully diluted share, for the six months ended June 30, 2007. The non-GAAP operating margin was 12.1% in the first six months of 2008, resulting in non-GAAP operating income of $42.0 million, compared to non-GAAP operating margin of 18.2% and non-GAAP operating income of $53.1 million in the comparable period of 2007. Non-GAAP results exclude the after-tax effects of amortization of intangible assets acquired with business combinations, share-based compensation expenses, expenses associated with our stock option investigation and write off of in-process research and development. A reconciliation of GAAP to non-GAAP financial results is included with this press release. Quest Software’s management prepares and uses non-GAAP financial measures in the presentation of the Company’s results to provide a consistent understanding of its historical operating performance and comparisons with peer companies. Management believes that non-GAAP reporting provides a more meaningful representation of the Company’s on-going economic performance and therefore uses non-GAAP reporting internally to evaluate and manage the Company’s operations. By excluding charges such as those described above from its GAAP-based results, we believe these non-GAAP financial measures are more likely to facilitate investors’ understanding of the Company’s ongoing business operating results. These non-GAAP financial measures also facilitate comparisons to the operating results of the Company’s competitors and provide investors with greater transparency with respect to the supplemental information used by management in its operational and financial decision making. Financial Outlook Quest Software management offers the following updated guidance for the twelve months ending December 31, 2008: Annual revenue is expected to be in the range of $705 million to $720 million; GAAP operating margin is expected to be in the range of 11.0% to 12.0%. Our GAAP guidance is based on information available as of the date of this release; Non-GAAP operating margin is expected to be in the range of 17.5% to 18.5%. The non-GAAP guidance excludes approximately $28.5 million in amortization of acquisition-related intangible assets, $1.0 million charge for in-process research and development acquired in May 2008, $13.0 million related to share-based compensation expense recognized in the six months ended June 30, 2008, and $2.2 million in expenses associated with the stock option investigation. Second Quarter 2008 Conference Call Information Quest Software will host a conference call today, Tuesday, August 5, 2008, at 2:00 p.m. Pacific Time, to discuss its results. A simultaneous Web cast of the conference call will be available on Quest Software’s Web site in the Investors – IR Events section at www.quest.com. A Web cast replay will be available on the same Web site through August 5, 2009. An audio replay of the conference call will also be available through August 12, 2008, by dialing (888) 203-1112 (from the U.S. or Canada) or (719) 457-0820 (outside the U.S. and Canada), using confirmation code: 1815438. About Quest Software, Inc. Quest Software, Inc., a leading enterprise systems management vendor, delivers innovative products that help organizations get more performance and productivity from their applications, databases, Windows infrastructure and virtual environments. Through a deep expertise in IT operations and a continued focus on what works best, Quest helps more than 90,000 customers worldwide meet higher expectations for enterprise IT. Quest provides customers with client management as well as server and desktop virtualization solutions through its subsidiaries, ScriptLogic and Vizioncore. Quest Software can be found in offices around the globe and at www.quest.com. Quest, Quest Software and the Quest logo are trademarks or registered trademarks of Quest Software in the United States and certain other countries. Other trademarks and registered trademarks are property of their respective owners. Forward-Looking Statements This release and the matters to be discussed on the conference call may include predictions, estimates and other information that might be considered forward-looking statements, including statements relating to expectations of future revenue and operating margin performance and other operating prospects. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could differ from those anticipated as a result of various factors, including: the impact of adverse changes in general economic conditions on our relationships with customers, strategic partners and vendors; reductions or delays in information technology spending; variations in demand or the size and timing of customer orders; competitive conditions in our various product areas; uncertainties relating to ongoing litigation and government investigations arising from our stock option investigation; rapid technological change; risks associated with the development and market acceptance of new products and product strategies; disruptions caused by acquisitions of companies and/or technologies; fluctuating currency exchange rates and risks associated with international operations; the need to attract and retain qualified employees; and other risks inherent in software businesses. For a discussion of these and other related risks, please refer to our recent SEC filings, including our Annual Report on Form 10-K for the year ended December 31, 2007, which are available on the SEC's website at www.sec.gov. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date thereof. We undertake no obligation to update forward-looking statements to reflect events or circumstances after the date thereof. QUEST SOFTWARE, INC. CONDENSED CONSOLIDATED INCOME STATEMENTS (In thousands, except per share data) (Unaudited)         Three Months Ended Six Months Ended June 30, June 30,   2008   2007 2008 2007   Revenues: Licenses $ 75,286 $ 65,803 $ 154,428 $ 140,072 Services   98,147     76,514   191,785   152,014 Total revenues 173,433 142,317 346,213 292,086 Cost of revenues: Licenses 1,775 659 4,189 2,662 Services 16,333 13,536 31,404 26,517 Amortization of purchased technology   4,669     3,220   9,593   6,277 Total cost of revenues   22,777     17,415   45,186   35,456 Gross profit 150,656 124,902 301,027 256,630 Operating expenses: Sales and marketing 81,275 65,822 157,647 129,058 Research and development 39,297 29,849 77,518 58,114 General and administrative 22,220 19,779 45,691 36,344 Amortization of other purchased intangible assets 2,511 1,587 5,312 3,129 In-process research and development   955     -   955   - Total operating expenses   146,258     117,037   287,123   226,645 Income from operations 4,398 7,865 13,904 29,985 Other income, net   3,026     6,140   10,911   11,192 Income before income tax (benefit) provision 7,424 14,005 24,815 41,177 Income tax (benefit) provision   (842 )   6,070   3,261   18,336 Net income $ 8,266   $ 7,935 $ 21,554 $ 22,841   Net income per share: Basic $ 0.08   $ 0.08 $ 0.21 $ 0.22 Diluted $ 0.08   $ 0.08 $ 0.20 $ 0.22   Weighted average shares: Basic 104,247 101,819 103,774 101,819 Diluted 106,643 105,462 106,277 105,150 Reconciliation of Non-GAAP Financial Measures to Comparable U.S. GAAP Measures (Unaudited) The Company has provided a reconciliation of each non-GAAP financial measure used in this earnings release and related conference call and Web cast to the most directly comparable GAAP financial measure. These measures differ from GAAP in that they exclude amortization of intangible assets acquired with business combinations, share-based compensation expenses, expenses, including indemnification advances, associated with ongoing legal matters arising from our stock option investigation, write off of in-process research and development and the estimated tax effect related to each of these items. The Company’s basis for these adjustments is described below. Quest Software’s management prepares and uses non-GAAP financial measures in the presentation of the Company’s results to provide a consistent understanding of its historical operating performance and comparisons with peer companies. Management believes that non-GAAP reporting provides a more meaningful representation of the Company’s on-going economic performance and therefore uses non-GAAP reporting internally to evaluate and manage the Company’s operations. The Company’s management believes that by excluding charges such as those described above from its GAAP-based results, these non-GAAP financial measures are more likely to facilitate investors’ understanding of the Company’s ongoing business operating results. These non-GAAP financial measures also facilitate comparisons to the operating results of the Company’s competitors and provide investors with greater transparency with respect to the supplemental information used by management in its operational and financial decision making. Management excludes the expenses described above when evaluating the Company’s operating performance and believes that the resulting non-GAAP measures are useful to investors and financial analysts in assessing the Company’s operating performance due to the following factors: The Company does not acquire businesses on a predictable cycle. The Company, therefore, believes that the presentation of non-GAAP measures that adjust for the impact of amortization and charges for acquired in-process research and development that are related to business combinations, provide investors and financial analysts with a consistent basis for comparison across accounting periods and, therefore, are useful to investors and financial analysts in helping them to better understand the Company's operating results and underlying operational trends. Amortization costs are fixed at the time of an acquisition, are then amortized over a period of several years after the acquisition and generally cannot be changed or influenced by management after the acquisition. Although share-based compensation is an important aspect of the compensation of the Company’s employees and executives, share-based compensation expense and its related tax impact because such charges are generally fixed at the time of grant, are then amortized over a period of several years after the grant of the share-based instrument and generally cannot be changed or influenced by management after the grant. Share-based compensation is not an expense that typically requires or will require cash settlement by the Company. Ongoing expenses associated with our stock option investigation include expenses incurred for outside legal fees and costs, consulting services and other professional fees, and indemnification expenses for current and former directors and officers. Because these expenses are non-recurring and unique to the stock option investigation, we believe they are not indicative of future operating results and that investors benefit from an understanding of our operating results without giving effect to them. The estimated income tax effects on the above items adjust the provision for income taxes to reflect the effect of the non-GAAP adjustments on non-GAAP operating income. These non-GAAP financial measures are not prepared in accordance with accounting principles generally accepted in the United States ("GAAP”) and may differ from the non-GAAP information used by other companies. There are significant limitations associated with the use of non-GAAP financial measures. The additional non-GAAP financial information presented here should be considered in conjunction with, and not as a substitute for or superior to, the financial information presented in accordance with GAAP (such as net income and earnings per share) and should not be considered measures of the Company’s liquidity. Furthermore, the Company in the future may exclude amortization related to new business combinations from financial measures that it releases, and the Company expects to continue to incur share-based compensation expenses. QUEST SOFTWARE, INC. CONDENSED CONSOLIDATED INCOME STATEMENTS (In thousands, except per share data) (Unaudited)       Three Months Ended   Six Months Ended June 30, 2008 June 30, 2008 GAAP   Adjustments   Non-GAAP GAAP   Adjustments   Non-GAAP     Revenues: Licenses $ 75,286 $ 75,286 $ 154,428 $ 154,428 Services   98,147     98,147   191,785   191,785 Total revenues 173,433 173,433 346,213 346,213 Cost of revenues: Licenses 1,775 (1 ) (1) 1,774 4,189 (2 ) (1) 4,187 Services 16,333 (276 ) (1) 16,057 31,404 (535 ) (1) 30,869 Amortization of purchased technology   4,669   (4,669 )   -   9,593 (9,593 )   - Total cost of revenues   22,777     17,831   45,186   35,056 Gross profit 150,656 155,602 301,027 311,157 Operating expenses: Sales and marketing 81,275 (2,222 ) (1) 79,053 157,647 (3,949 ) (1) 153,698 Research and development 39,297 (1,586 ) (1) 37,711 77,518 (3,222 ) (1) 74,296 General and administrative 22,220 (2,083 ) (2) 20,137 45,691 (4,482 ) (2) 41,209 Amortization of other purchased intangible assets 2,511 (2,511 ) - 5,312 (5,312 ) - In-process research and development   955   (955 ) (3)   -   955 (955 ) (3)   - Total operating expenses   146,258     136,901   287,123   269,203 Income from operations 4,398 18,701 13,904 41,954 Other income, net   3,026     3,026   10,911   10,911 Income before income tax (benefit) provision 7,424 21,727 24,815 52,865 Income tax (benefit) provision   (842 ) 4,905 (4)   4,063   3,261 9,739 (4)   13,000 Net income $ 8,266   $ 17,664 $ 21,554 $ 39,865   Net income per share: Basic $ 0.08   $ 0.17 $ 0.21 $ 0.38 Diluted $ 0.08   $ 0.17 $ 0.20 $ 0.38   Weighted average shares: Basic 104,247 104,247 103,774 103,774 Diluted 106,643 106,643 106,277 106,277   (1) Represents share-based compensation expense. (2) Represents $0.6 million and $2.2 million in expenses related to our stock option investigation for the three and six months ended June 30, 2008, respectively, and $1.5 million and $2.3 million in share-based compensation expense for the three and six months ended June 30, 2008, respectively. (3) Represents a one-time charge to write off in-process research and development acquired in May 2008. (4) Represents the tax effect of adjustments. QUEST SOFTWARE, INC. CONDENSED CONSOLIDATED INCOME STATEMENTS (In thousands, except per share data) (Unaudited)       Three Months Ended   Six Months Ended June 30, 2007 June 30, 2007 GAAP   Adjustments   Non-GAAP GAAP   Adjustments   Non-GAAP     Revenues: Licenses $ 65,803 $ 65,803 $ 140,072 $ 140,072 Services   76,514   76,514   152,014   152,014 Total revenues 142,317 142,317 292,086 292,086 Cost of revenues: Licenses 659 (1 ) (1) 658 2,662 (3 ) (1) 2,659 Services 13,536 (243 ) (1) 13,293 26,517 (507 ) (1) 26,010 Amortization of purchased technology   3,220 (3,220 )   -   6,277 (6,277 )   - Total cost of revenues   17,415   13,951   35,456   28,669 Gross profit 124,902 128,366 256,630 263,417 Operating expenses: Sales and marketing 65,822 (1,813 ) (1) 64,009 129,058 (3,903 ) (1) 125,155 Research and development 29,849 (1,667 ) (1) 28,182 58,114 (3,578 ) (1) 54,536 General and administrative 19,779 (3,189 ) (2) 16,590 36,344 (5,705 ) (2) 30,639 Amortization of other purchased intangible assets   1,587 (1,587 )   -   3,129 (3,129 )   - Total operating expenses   117,037   108,781   226,645   210,330 Income from operations 7,865 19,585 29,985 53,087 Other income, net   6,140   6,140   11,192   11,192 Income before income tax provision 14,005 25,725 41,177 64,279 Income tax provision   6,070 2,213 (3)   8,283   18,336 2,361 (3)   20,697 Net income $ 7,935 $ 17,442 $ 22,841 $ 43,582   Net income per share: Basic $ 0.08 $ 0.17 $ 0.22 $ 0.43 Diluted $ 0.08 $ 0.17 $ 0.22 $ 0.41   Weighted average shares: Basic 101,819 101,819 101,819 101,819 Diluted 105,462 105,462 105,150 105,150   (1) Represents share-based compensation expense. (2) Represents $2.3 million and $3.9 million in expenses related to our stock option investigation for the three and six months ended June 30, 2007, respectively, and $0.9 million and $1.8 million in share-based compensation expense for the three and six months ended June 30, 2007, respectively. (3) Represents the tax effect of adjustments. QUEST SOFTWARE, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands) (Unaudited)   ASSETS     June 30, December 31, 2008 2007   Current assets: Cash and cash equivalents $ 327,508 $ 235,568 Restricted cash for an acquisition - 48,924 Short-term marketable securities 212 10,287 Accounts receivable, net 110,957 152,438 Prepaid expenses and other current assets 26,491 19,022 Deferred income taxes   10,775   11,014 Total current assets 475,943 477,253 Property and equipment, net 77,502 75,848 Long-term marketable securities 91,935 70,936 Intangible assets, net 80,129 76,641 Goodwill 606,341 563,766 Deferred income taxes 29,636 36,661 Other assets   22,654   18,025 Total assets $ 1,384,140 $ 1,319,130   LIABILITIES AND SHAREHOLDERS’ EQUITY   Current liabilities: Accounts payable $ 6,148 $ 4,590 Accrued compensation 44,913 46,437 Other accrued expenses 41,872 43,313 Current portion of income taxes payable - 1,962 Current portion of deferred revenue   232,784   211,840 Total current liabilities 325,717 308,142   Long-term liabilities: Long-term portion of deferred revenue 61,988 73,820 Long-term portion of income taxes payable 31,592 37,130 Other long-term liabilities   2,964   2,712 Total long-term liabilities 96,544 113,662   Shareholders’ equity   961,879   897,326 Total liabilities and shareholders’ equity $ 1,384,140 $ 1,319,130 QUEST SOFTWARE, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited)     Three Months Ended   Six Months Ended June 30, June 30,   2008       2007     2008       2007     Cash flows from operating activities: Net income 8,266 $ 7,935 $ 21,554 $ 22,841 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 11,206 8,483 23,209 16,788 Compensation expense associated with stock option grants 5,289 4,595 9,167 9,710 Deferred income taxes 1,546 169 2,118 (4,519 ) Excess tax benefit related to share-based compensation (1,808 ) - (3,138 ) - Provision for bad debts 280 177 414 42 In-process research and development 955 - 955 - Changes in operating assets and liabilities, net of effects of acquisitions: Accounts receivable (1,166 ) (14,294 ) 47,955 31,641 Prepaid expenses and other current assets 3,674 1,214 (29 ) 1,951 Other assets 12 (11 ) (892 ) 352 Accounts payable (78 ) (1,798 ) 1,083 (884 ) Accrued compensation 1,378 4,706 (5,092 ) (815 ) Other accrued expenses 500 1,902 (5,682 ) (4,378 ) Income taxes payable (5,895 ) (9,486 ) (14,488 ) (7,574 ) Deferred revenue (125 ) 3,316 2,132 (746 ) Other liabilities   (77 )   (21 )   20     (92 )   Net cash provided by operating activities 23,957 6,887 79,286 64,317 Cash flows from investing activities: Purchases of property and equipment (2,368 ) (5,510 ) (5,530 ) (7,633 ) Cash paid for acquisitions, net of cash acquired (4,520 ) (22,688 ) (52,672 ) (23,815 ) Cash restricted for an acquisition - - 48,924 - Purchases of cost-method investments - (2 ) (3,160 ) (2 ) Purchases of marketable securities - - (51,999 ) (20,167 ) Sales and maturities of marketable securities   4,194     26,818     39,064     33,398     Net cash used in investing activities (2,694 ) (1,382 ) (25,373 ) (18,219 ) Cash flows from financing activities: Repayment of capital lease obligations (51 ) (23 ) (107 ) (92 ) Proceeds from the exercise of stock options 18,178 - 36,824 - Excess tax benefit related to share-based compensation 1,808 - 3,138 - Other   -     99     -     99     Net cash provided by financing activities 19,935 76 39,855 7 Effect of exchange rate changes on cash and cash equivalents   (224 )   527     (1,828 )   631     Net increase in cash and cash equivalents 40,974 6,108 91,940 46,736 Cash and cash equivalents, beginning of period 286,534 326,792 235,568 286,164         Cash and cash equivalents, end of period $ 327,508   $ 332,900   $ 327,508   $ 332,900