Investors were prepared for the worst when business performance management specialist Cognos (NASDAQ:COGN) reported its fiscal third-quarter earnings on Wednesday. The results, at the high end of its pre-released range, were hampered by the late release of its newest product, the Cognos 8 software suite, and by weak sales to midsize clients.
But the most troubling tidbit was the 18% year-over-year decline (and a 4% sequential drop) in license revenues. Income from the Asia/Pacific region was the hardest hit, declining 12% year over year. It's no wonder why earnings suffered as a result -- they dropped 16.2% year over year and 1.6% sequentially.
With enterprise software companies, license revenues are the strongest indicator of future revenues, since new licenses lead to more money coming in. They also carry the highest gross margins -- typically more than 90% -- so it's no wonder why Cognos' margins dipped slightly with the change in its revenue mix.
Looking closer at the results, we see that the blame could be placed on the smaller number of large deals -- seven of them exceeding $1 million, compared with 15 in the year-ago period. But the truth is that there are only so many large deals to be had, and competition for them has become immense. That, in turn, has led to longer sales cycles with these larger customers across the industry.
This is where the problem lies: As salespeople concentrate on winning the larger deals, many smaller deals have slipped away or remained in the pipeline. So, as the total amount of large deals available continues to decline, it becomes more important to win more medium-sized deals to boost sales. The good news is that Cognos management has acknowledged the problem and is changing its incentive program to reward salespeople for closing small and midsize deals, not just the large ones.
The delays in Cognos' latest product upgrade delays did hurt, as did the company's decrease in mid-tier customers. But there is still hope. The Cognos 8 release is behind the company now, and management's effort to have its sales force concentrate on large and small clients alike will certainly help. It will take another quarter or two to determine whether the company can get back on the growth track, but it's always good to see a management team that acknowledges the problems it faces and confronts them head-on, just the way Cognos is doing.
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Fool contributor Rob Perri wishes you happy holidays from Europe. He doesn't own any shares of the companies mentioned above.
