Mark Furlong - Director of Investor Relations Mike Gianoni - President and Chief Executive Officer Tony Boor - Chief Financial Officer, and Executive Vice President of Finance and Administration.

Tom Roderick - Stifel Matt Lemenager - Baird Brian Peterson - Raymond James Justin Furby - William Blair & Company Rishi Jaluria - D. A. Davidson Peter Levine - Evercore ISI Monika Garg - KeyBanc Ryan MacDonald - Needham & Company.

Good day, and welcome to the Blackbaud Inc. Q3 2018 Earnings Conference Call. Today's conference is being recorded. As a reminder, we will take questions at the end of today's presentation. Please limit yourself to one question and one follow-up. At this time, I would like to turn the conference over to Mark Furlong. Please go ahead..

Good morning, everyone. Thanks for joining us on Blackbaud's third quarter 2018 earnings call. Today, we will review our financial and operational results, and provide commentary on our performance in the context of our four-point growth strategy.

Joining me on the call today are Mike Gianoni, Blackbaud's President and CEO; and Tony Boor, Blackbaud's Executive Vice President and CFO. Mike and Tony will make prepared comments, and then we will open up the call for your questions.

Please note that our comments today contain forward-looking statements subject to risks and uncertainties that could cause actual results to differ materially from those projected. Please refer to our most recent Form 10-K and other SEC filings for more information on those risks.

We believe that a combination of both GAAP and non-GAAP measures are more representative of how we internally measure our business. Unless otherwise specified, we will refer only to non-GAAP financial measures on this call. Please note that non-GAAP financial measures should not be considered in isolation from or as a substitute for GAAP measures.

A reconciliation of GAAP and non-GAAP results is available in the press release we issued last night. And a more detailed supplemental schedule is available in our presentation on our Investor Relations website.

Please also note that unless otherwise specified, we will refer to 2018 results and comparable 2017 results as adjusted to reflect our adoption on January 1 of ASC 606 related to Revenue from Contracts with Customers.

Before I turn the call over to Mike, I'll briefly cover our upcoming investor marketing activity, which is available on our Investor Relations website.

During the fourth quarter, our team will be attending the Stifel Midwest One-on-One Conference in Chicago, Credit Suisse's 22nd Annual Technology Media and Teleconference in Scottsdale - 21st Annual Needham Growth Conference in San Francisco, Raymond James Technology Investor Conference in New York and NASDAQ Investor Conference in London.

We will also be holding meetings with investors in New York, Dublin and Edinburgh. With that, I'll hand the call over to Mike..

Thanks Mark. Good morning everyone and thanks for joining our call today.

We've continued transforming the business towards reoccurring revenue model with our recurring revenue comprising 90% of total in the third quarter and we continue to gain momentum and our aim to deliver digital transformation across the social good community and all the markets we serve.

As many of you know, we held our Annual User Conference BBCON earlier this month and it's clear that the progress we've made is resonating with the individuals that use our solutions every day. We had packed agenda and introduced more than 80 new product and innovation updates to a record high attendance.

Roughly 3,000 attendees joined us in Orlando which includes 100 of first time attendees representing our community of new and existing customers.

There's no question that our customers are excited about the new Blackbaud an accelerated pace of innovation which was evident by the overwhelmingly positive audience reaction to the long list of main stage announcements and light up at our customer showcase for product demos.

Our BBCON attendees are part of the growing Blackbaud community of over 40,000 customers and millions of software users that collectively represent 80% of the top 50 most influential nonprofits.

Over 90% of higher education institutions, will $1 billion campaigns, 26 of the largest nonprofit hospital systems in the US and third, of the Fortune 100 companies.

We're the only Cloud Software Company in the world uniquely positioned to serve and connect the entire philanthropic ecosystem which includes nonprofits, foundations, corporations, education institutions, healthcare organizations, faith-based organizations and individuals.

IDC ranked Blackbaud as 24th largest cloud Software Company in the world and Force [ph] listed us as one of the world's most innovative growth company. We estimate that each of the verticals we serve are larger than $500 million in TAM.

Our market share is less than 15% across each of these markets and our total adjustable market is roughly $10 billion in total. This is a conservable opportunity for us, which we will continue to expand overtime through acquisitions and new solution development.

We're enabling the digital transformation not only through our software services data intelligence and expertise, but newly formed partnerships and expansion of other existing relationships like with Microsoft. Also our focus on the industry extends beyond our cloud software technology and solutions.

A great example is a newly formed partnership we announced at BBCON with Points of Light.

The world's largest organization dedicated to volunteer service we're key partner with them defining new inform standards, it will help the social good community measure, understand the impact volunteerism, enabling organizations to collective manage data and provide actionable insights to yield improved performance and outcomes in volunteer programs.

I'm going to cover the quarter in the context of our four-point strategy. The first of our four strategies is integrated in open solutions in the cloud and we continue to aggressively drive this. As you'll recall, we made a major announcement in July introducing our comprehensive cloud solution for faith communities.

We are now bringing our prudent strength in financial management, fund raising, marketing, payments and analytics together with completely new church management capabilities. With this move, we'll now provide integrated end-to-end cloud capabilities that enable churches that digitally transform the operations through a single connected experience.

This means churches will finally have a comprehensive modern cloud solution build for the way they work on a single accountable provider, who can help them reduce their IT footprint by eight [ph] more systems and vendors. We have several early adopters using the church management system today in close collaboration with our product teams.

Because of our Blackbaud's SKY platform. We're incorporating real-time customer feedback and quickly advancing changes in the platform. No one in this industry has taken this approach. Has a modern engineering platform like Blackbaud's SKY or has these cloud application assets to even do so.

To be clear meaningful revenue will take some time, but we believe this solution is a game changer in a very large adjustable market. In concert with these engineering efforts, we're ramping up our go-to-market resources as well. Additionally, we continue to rapidly innovate in the other vertical markets that we serve.

At BBCON, we announced our cloud solution for higher education. Introducing a new education management portfolio along with stewardship management and guided fundraising capabilities tailored for higher education.

This is another exciting next step forward and our continued commitment to provide comprehensive purpose built cloud solutions that drive digital transformation.

This new cloud solution will enable customers to manage the complete student lifecycle from admissions to alumni engagement, student enrolment, classroom scheduling and student information system.

It's a solution offering that we've been building for quite some time it's a massive opportunity for Blackbaud to deliver innovation with a connected cloud in a market as comprised predominantly of the Spirit [ph] legacy point solution software.

We began a few years ago by extending our K-12 school solutions with a significant enhanced set of functionality for universities. The good news here, is we have an entirely new addressable market in the higher education space with a very proven commercial grade scalable platform with a broad customer set in the K-12 space.

This means universities can now have access to digital transformation in a very new way on a proven platform.

We announced our cloud solutions for higher education institutions main stage at BBCON and our associated were flooded by customers excited about the potential of a comprehensive cloud solution to transform the way they manage their operations. Calvary University for example is a private 40-year institution and one of our early adopters.

Calvary told us that they saw massive opportunities automate manual processes influence with development office and that seamless integration with their Raiser's Edge and Financial Edge NXT separated Blackbaud from the competition. In a similar fashion, St.

Louis College another private four-year institution was looking for a solution to connect, admissions, academics, finance, marketing and advancement operations.

Blackbaud's cloud solution for higher education institutions takes full advantage of the rapid innovation, modern user experience, enhanced capabilities made possible by our Blackbaud's SKY platform.

Just like our cloud for faith communities our development didn't start from scratch and we moved quickly by leveraging pre-existing capabilities available Blackbaud SKY like our Blackbaud ID single sign-on capability and SKY UX user interface component library.

We have a high velocity engineering environment leveraging mature ecosystem of existing and ever evolving software services and components. The new higher education cloud is another great demonstration of our ability to rapidly build new solutions to further adjust customer needs and grow our addressable markets.

We also took main stage at BBCON with Microsoft to share a major step forward in the nonprofit partnership we announced last year with the announcement of the integrated cloud initiatives for nonprofits.

Which is a joint investment to accelerate cloud innovation in areas that address critical market needs across the mission lifecycle of nonprofits? As part of this initiative, we announced our first jointly developed solution called nonprofit resource management which is a breakthrough in helping nonprofits effectively sourced, track, distribute and measure the impact of their resources across core business processes or managing the distribution of material goods, the financial and human capital distribution.

We're in an unprecedented era of humanitarian need is becoming more costly and complex to respond due to global conflicts, natural disasters and localized challenges whether it's urgently needed medical supplies, disaster response equity or essential needs like food and clothing, every dollar saved in every supply were efficiently distributed as a power to transform and save lives.

The nonprofit resource management solution suite is currently in development in collaboration with early adopters. The first capability set hold goods distribution will be released December 19 with program design in other capabilities to follow.

The solution will be sold jointly through Blackbaud and Microsoft partner and sales channels and will work seamlessly with Blackbaud solutions providing a connected experience for the customer.

This is another step forward in an involving partnership between Blackbaud and Microsoft, jointly developed, home market and co-sell innovative software technologies that will compel the industry forward. This leads me to our second growth strategy which to drive sales effectiveness.

Selling integrated cloud solutions that are purpose built for our customers' needs like our cloud solution for K-12 private schools for example is a key competitive differentiator for our sales team.

Our sales account executive now lead the total solution selling strategy by vertical focused on reoccurring revenue and driving more products for customer. Higher ASPs and increased customer retention over the long-term.

We know that attaching training, analytics and payments improves the cloud experience drives customer outcomes, improves retention and increases customer lifetime value. We continue to innovate and acquire solutions that create greater value for our customers.

We've poured [ph] the foundation to develop a highly productive and scalable direct sales model and we're now underway ramping our sales hiring more significantly in past trends with over 100 opening underway with good progress in filling the positions. Let's turn to our third strategy which is TAM expansion.

We're continuing to expand TAM into new or near adjacencies with acquisitions and product investments. We've been executing this strategy for several years now and have primarily expanded our TAM through acquisitions until now.

With the introduction of the Blackbaud Cloud Solution for faith communities, our expanded cloud for higher education and integrated cloud initiative for nonprofits, we're now in a position to organically build and not just acquire incremental TAM.

These solution introduction will add approximately $2 billion to our TAM which now stands at roughly $10 billion in total. Our final strategic initiative is a focus on operational efficiency to strengthen the business and deliver improved profitability.

We continue driving towards a more scalable operating model that creates efficiency and consistency in how we execute through infrastructure investments, productivity initiatives, and organizational realignments.

In 2018, we've been executing a cohesive workplace strategy to better align our organizational objectives with our geographically diverse workforce. In Q2, we moved into our new global headquarters and the employee feedback has been overwhelmingly positive.

For our employees outside of Charleston, South Carolina were leveraging a more flexible offer strategy to replace and upgrade one of our existing offices and expand our footprint into new location.

We've already successfully transitioned seven of our offices moving our employees into highly monitored and more collaborate facilities and more centrally located for our employees and closer to our customers.

Overall the key for us, is optimizing our office utilization improving our geographic sales coverage and enhancing our employees daily experience, improved productivity and effectiveness.

Overall I'm pleased with the continued transformation in the business and shift towards reoccurring revenue and I'm particularly excited about the accelerated pace of innovation that we're delivering for our customers and the reaction of the market.

Our announcements of new cloud solutions have significantly expanded our addressable customer IT spend and our TAM.

Our commitment to developing fully integrated end-to-end clouds like the newly introduced Faith Cloud, Higher Ed and the integrated cloud initiative with Microsoft our game changers for the industry in a massive opportunity for Blackbaud.

Although we recently reset our guidance for this year, as previously explained our future long-term opportunity has expanded over the last few months given our TAM expansion announcements and solutions. I'll now turn the call over to Tony to cover our financial performance in greater detail. Before we open it up for Q&A.

Tony?.

Thanks Mike. Good morning, everyone. Please refer to yesterday's press release and investor materials posted to our website for the full detail of our Q3 financial performance. Today I'll focus on key highlights, so we can get to your questions. Our third quarter revenue was $210 million an increase of 1.2% on an organic basis over 2017.

Recurring revenue represented 90% of total revenue which is 390 basis points higher than Q3, 2017 and 4.9% growth on an organic basis. We continued reducing the mix of one-time services in other revenues which is positive for us long-term that creates a significant drag on our total company revenue growth in the near term.

One-time services and other revenue represented 10% of total revenue mix and declined 23% versus Q3, 2017. The primary drag on recurring revenue was driven by consumer behaviour associated with our transactions related business lines. Turning to profitability, our gross margin was 60.5% which is a 40 basis point decline versus Q3, 2017.

We generated operating income of $40 million representing an operating margin of 18.9% and diluted earnings per share of $0.59.

It's important to note, that operating margin performance is inclusive of our investments into innovation like our entirely new Faith Cloud expansion of Higher Education Cloud, Integrated Cloud initiative with Microsoft, acquisition of Reeher an investment to ramp in sales hiring that we began in the third quarter.

Moving to the cash flow statement and balance sheet. In Q3, we generated $58 million in free cash flow.

We continued making necessary innovation and infrastructure investments to support our move to the cloud amounting to $3 million in CapEx primarily associated with our new headquarters and investments in infrastructure and $10 million for capitalized software development.

During the quarter, we paid out $6 million in cash dividends to shareholders and ended with $400 million in net debt. Our capital strategy calls for a debt to EBITDA ratio of less than 3.5 times and at the end of Q3, we stood at 2.0 times. Turning to the full year, we updated our full year financial guidance on October 8.

The change in our outlook can be summarized into three major categories. The first category is one-time services. One-time services was roughly half of the variance to plan since we last updated you on our Q2 earnings call.

We're shrinking our one-time services revenue by design which has been part of our strategy for several years now and a positive shift in our business model. For the second year in a row, the rate of decline in one-time services and other has exceeded our initial estimates.

Our latest projections now have us declining at roughly $16 million for the year which is a similar decline of the experience in 2017 and a faster rate of decline on a percentage basis. Category two is transactional revenue. This category is nearly as larger variance to plan as category plan.

We've seen some recent shifts in consumer behaviour that are impacting our transactional business and transactional nature of this business makes it the least predictable in our recurring portfolio to forecast.

And although our sales teams have improved our ability to attach transaction based solutions onto new deals and have successfully closed larger deals. We're experiencing slower than expected growth due to consumer behaviour and fewer major one-time events. The third category is subscription revenue which is the least material variance.

We're now underway with a major project to more aggressively ramp sales headcount and continue to drive sales productivity and hire more than 100 sales and sales support roles. We anticipate this headcount ramp to fuel growth in late 2019 and more fully in 2020.

And as we expected and shared with your previously, our retention has declined a point this quarter. Overall our unit retention is now 92% which is positive on the whole given we're in the midst of customer migrations and sun setting multiple legacy products.

We're more than three quarters away through Sunset program which has gone well and we're actively migrating customers onto Blackbaud SKY powered solutions. The revenue shortfall driven by these three categories is primarily resulting in our revision to non-GAAP operating margin, diluted earnings per share and free cash flow.

We received some questions on free cash flow given we had a larger revision in operating income. So I want to provide clarity on that change. First, the mix of business we lost associated with the revenue shortfall isn't our lowest margin profile. This is the biggest driver of the change.

The second largest driver is roughly $9 million associated with acquisitions to Reeher given acquisition cost, interest expense and software capitalization and third feel lesser extent. The original free cash flow guidance didn't contemplate the investment for making in the sales.

Finally as Mike mentioned, we're making incremental investments as part of our workplace strategy. We're currently expecting incur before tax restructuring cost associated with these activities of between $6 million to $8 million with substantially all of those costs expected to be incurred by the end of 2019.

Year-to-date we've recorded approximately $3.6 million in restructuring charges associated with this initiative. We're expecting to gain operating efficiencies behind 2019 with an estimated payback of roughly two years and future annual before tax savings of between $3 million and $4 million per year beginning in 2020.

The midpoint of our current guidance indicates a free cash flow margin of roughly 17%. Excluding the $9 million impact from the acquisition of Reeher free cash flow margin would be roughly half a point higher than the 17.4% margin we posted in 2017.

In summary, we're continuing to execute against our strategic plan which is strengthening the business and we're maintaining our disciplined approach to balanced investments to drive growth with improved profitability.

We will continue to execute in our capital deployment strategy to maintain a strong balance sheet, return capital to shareholders and create growth and scalability. With that I'd like to open up the line for your questions..

[Operator Instructions] and we'll take our first question from Tom Roderick with Stifel..

So Tony, I know you're not in position to offer any sort of formal guidance for next year just yet, but I was hoping that you might be able to offer us some qualitative commentary as to how we ought to marry your comments here on the call about aggressive investments for new initiatives and the reality of course with those benefits won't begin to accrue from those investments until the end of 2019 and into 2020.

So as we think about own models for next year, is it sort of best to think about the current recurring organic growth rate as being sort of the new normal for right now until some of those investments start to pay off and then as we think about the current margin rate.

Is that just temporarily depressed because of the IT [ph] payment and services this quarter or is that, a level that we ought again use this kind of baseline when we think about adjusting our models for those investments that are going in for next year. Thanks..

Thanks Tom. The investment in sales, we talked about this a bit at Investor Day I want to make sure we're clear. This is kind of plan, the new norm for us as a company. We've historically added about 10% a year. We noted at Investor Day that we have 100 plus openings posted.

So we would expect that you'll see this kind of heightened and accelerated hiring for the foreseeable future, not just one point in time. We started seeing the ramp in those heads coming onboard in Q3 as we spoke about, so we ended up at 472 direct sales heads in the Q3.

I think we had a 440 which is roughly in line with where we were at the end of Q2. So we ramped up a bit there, but still quite a bit more to go through the rest of the year and then through 2019 we will continue ramp sales headcount because of the sheer size of the market opportunity and need for better coverage.

So that will continue to push and create down pressure on margins through 2019 because we won't see the real impact in those additions until late 2019 or 2020 more so from a revenue perspective. By the time they get higher and get on boarded, build pipeline and close deals and then we recognize that rateably. So that will put some pressure on margins.

We're doing other things hopefully to improve our growth rate in the nearer term. So we're very focused as you know and have been on improving our productivity to existing sales force which is now 470 heads. So I'm hopeful that we'll see some improvements in organic growth in 2019 which will help a bit.

This quarter to the other part of your question, this quarter margins were certainly muted by the investment in the sales hiring and marketing hiring.

That said, the falloff in some of the one-time transactional revenue because we didn't see that kind of repeat of major one-time events and then some of the things we had related to just consumer behaviour on the smart business.

Did let some downward pressure on margins in the quarter that assuming we see some improvement on those revenue trends in Q4 would be a bit more accretive..

Excellent. That's really helpful commentary. Thank you. Mike when I think about sort of the new education initiative and you talked about student information, management services. Can you talk a little bit about some of the incumbents in the new areas where you're going after.

I know there's been a lot of questions about how you're going to go after sort of the Blackbaud and structure course management market.

Who are the incumbents on the information management side? Can you just talk about some of the incumbents that you think are sort of right for an opportunity to go after as you look at these new initiatives and education? Thank you guys..

Sure. Yes, we're really excited about that announcement. First of all what we've done and we started this a while ago.

As we've essentially taken the education management platform that's in our K-12 market that we talked about a lot in the last couple of years and we've built on that and added a lot more sophisticated functionalities for universities and so it's a same core platform. So although it's a new cloud platform for universities in that market from us.

It's not a whole new software platform it's an enhanced platform. The key message there is, it's a commercially solid, scalable, with many, many customers in production in K-12 on the same platform extended for universities so it's not starting from scratch if you will.

The incumbents there are companies like Lucian is in there and college campus and few others. We have several clients signed up. I'm using the system already. I highlighted one at our conference a couple weeks ago and there's a few that we're talking about now and so those are the incumbents.

What's exciting for us is, before this we were predominantly focused after college and university level only in the development office and the fundraising office. So now we cover a much broader platform set and wallet [ph] share with the IT departments and universities than we ever had.

We've gone from basically a departmental play over to an enterprise players within colleges and universities and we're starting with the smaller institutions.

Gave away we're at the platform and who's using the system today, but those are the incumbents and we're not anticipating to see someone like Workday we're going after the much larger universities, but this is a pretty wide open market with many legacy players in there and so we think, we have a really great opportunity like we've had with K-12 schools and still have K-12 in this new market.

So we're pretty excited about this whole opportunity..

And we'll take our next question from Rob Oliver with Baird..

It's actually Matt Lemenager on for Rob this morning. Mike a question on the faith-based solution.

In terms of the functionality that customers are asking for, what types of things were already built into the Blackbaud portfolio from other products and then what areas need to be built out before that product is released into general availability?.

Sure, so in that faith-based market several of our cloud solutions have already been available for a while.

So in things like fundraising or when some of those institutions have K-12 schools that hold cloud platform has been available and our Financial Edge NXT, what we announced was a whole [indiscernible] set up capabilities that is brand new for us.

And so, those are several modules that run a church from facilities to day care and many other functions that we never had before and those are integrated with the other solutions that we provide like financials and fundraising and so in that market at the church level, we're now able to replace 10 or 12 or more single point solutions and replace all those vendors with one single cloud.

So it's a pretty big move for us. It really simplifies the operating side of a church by having one integrated platform with a common user experience and a common reporting system. Just think about a church that might run on 10 or 12 standalone individual pieces of software from multiple vendors.

They all have separate long ons and separate reporting systems and it's really complex and difficult and [indiscernible] compared to what we've just announced in the market. So on the church management side that's what's new. We have several customers already using it and it will be in general availability in production sometime in Q2 of next year..

Got it. Thanks Mike. And a quick one would be I know the transaction, we've seen less one-time events and with the upcoming mid-term elections here. How much does something like that helped the transactional business.

Is that expected to be a little bit of an impact in the fourth quarter or not really?.

It's hard to tell, right. So Presidential Elections especially the last one we saw some uptick and different types of institutions because of advocacy, lots of other activities related to that. Mid-term elections. I don't know it's hard to tell really what our customer base might or might not do related to mid-term elections.

We don't have a solution that is actually used for elections, but we have a lot of customers that generate activity about advocacy related to elections and again, we've seen it with the last Presidential Election it was a big effect there. So it's really hard to say what may or may not happen based on mid-term elections..

And Matt I'd just add on, the one probably thing we're still looking at now going into the end of the year or good indicator force just how the tax reform might impact giving as how we do on giving Tuesday which is coming up in the near term.

So will have a better sense there, that's the probably the only other wild card as to see how end of year giving goes..

We'll take our next question from Brian Peterson with Raymond James..

So Tony, this is probably for you. But just on the sales investments. I know you're adding a lot of capacity over the next several quarters. Can you just remind us on the typical ramp to productivity for new sales hires.

When should we expect those to drive new bookings? And given that this is a big investment for you, does that maybe make you take a little bit of more of conservative approach towards your guidance as you think about 2019, 2020 just from a philosophy perspective going forward?.

Brian one of the things, is how quickly will we be able to hire the right folks. So we're being selective about who we hire, as we talk about the business.

changes we made in the last couple of years, we've also moved to the Hunter Farmer model and so a lot of these hirers a much bigger percentage will be focused towards true prospecting because we still are way over weighted towards back the base and so we hope to correct that just balance a bit through this hiring efforts over the next couple of years.

And those PAE's as we refer to them Prospect Account Execs are large are going to be out in the field which does make it a little tougher to hire at times and onboard. The time to ramp on the reps is really disparate.

If you're hiring kind of associated count reps or [indiscernible] kind of folks, they have a much quicker ramp on just a handful of months to productivity.

Where I think probably the longest is looking at those true new prospect AE than a specific vertical with a very specific large product set, that they're selling the large cloud with a lot of different solutions and that can stretch out.

I would say that, you could get to the extreme with enterprise and strategic reps could be out more than a year to kind of full productivity and then folks in between their depending on the type of reps and what they're selling and where. So we will be conservative. I think one thing I forgot to mention was Tom's question as well.

We did take a little bit more of a hit initially when the new ramps are ramping, we pay out a draw in lieu of commission to those folks and that draw is not capitalizable [ph] as commissions would be in most cases and so we actually have a bit higher expense that we incur during that ramp period and again because it's mostly.

I think, we last quarter made it to 90% recurring revenue roughly which is about two quarter sooner than we anticipated as a total company because of that, the mix of one-time versus recurring has now shifted to like 70-30 and we expect it will shift more to recurring over the next couple of years as well, which means a little later revenue recognition also..

Got it and just maybe on the transactional component. And I understand that there is not as much visibility into that part of your revenue.

Is there any way you could parse out maybe what's happening domestically versus internationally? I think you guys called out some UK dynamics before, just curious what's happening domestically with regards to your transactional business and how that trended to the third quarter. Thanks guys..

So the domestic looked good. So the number of accounts we saw in, the volumes we were seeing looked good. The one thing we did have was average transaction size was down a little bit from where we expected, so that was probably the biggest issue and then onetime events. And when you think about last year, it's unfortunate but also drives volumes.

We had a couple of big hurricanes that hit very populated areas last year by the end of the third quarter and that drove a lot of [indiscernible] we also had international events and so there's the seasonality your - in predictability of when those one-time events will happen and how many and how big.

So that's kind of some of the difficulty in forecasting that and for the last piece for the US, would have been the smart tuition fees.

That was an oddity in itself and we don't have good visibility and that until the school year starts and we're talking about that investment that, with just different pattern with mix of parents and kids for that total smart population.

We had a bit of change this year and we noted that after the school year started, we just had a higher mix of parents that we're paying with ACH versus credit card and higher mix that we're paying on time instead of past due and therefore less follow-up fees and so that kind of shifted the mix on smart.

And then the last thing we noted with smart that impacts us a little bit because we're now selling smart as part of this overall K-12 cloud.

We've got to do a better job, we've got an opportunity to do a better job with our sales team to get the schools to implement the smart tuition fees earlier in the process not layers in many cases they have to implement over a couple of school year period just because there's fairly several modules to be implemented and we've got to do a better job of making sure to get smart and upfront where what we've seen as that [indiscernible] direction little bit on this year that was not anticipated.

So I guess implementing smart later in the process and therefore missing the whole school season..

And we'll take our next question from Justin Furby with William Blair & Company..

Mike I was hoping you could get some color around RE NXT and where we are from a development standpoint. Are there still functionality gap that exists when you compare to the old on-prem raises absolution that you haven't brought over yet or what do you think at this point if you're an on-prem customer.

What are the biggest gaining factors of getting them to migrate and just as the thing here today, how many more years do you think we have left on that migration?.

Sure there's no gap to the functionality of the on-prem, but there are some gaps to things like integration still and there's some plug-in modules that exists out there, that aren't over in NXT world yet. So those represent some gaps for us that we still need to close and we're doing that. But there's no functionality differences really.

In fact, the NXT cloud solution is significantly more functionality and capabilities than the on-prem and the whole new categories like online digital marketing which is inherent in the Raiser's Edge NXT never even existed in the on-prem.

So there's actually a huge amount of functionality in the new platform, but there's still some gaps to plug around integration and some unit plug-in modules. So we're knocking those down. It takes a while to go through this process with any product.

So when we announced this a couple years ago, we said it would take several years and there's a still a couple years left to kind of knock this down and the customers that are still on-prem either need to see some of these integration or plug-in module gaps get closed or just hasn't been the right time for them and we're not forcing anyone to move, so it just takes some time not to perform until the product and the reception of that solution has been outstanding actually and it's really fill the gap that we didn't have before related to all the functionality in that solution.

The other thing to is because that product Raiser's Edge NXT was the first thing that we did in the SKY architecture, all the subsequent things that we're doing are inherently integrated. So like the faith church management solution day one, it's a part of Raiser's Edge NXT.

There's really no extra integration work, it's just core it shares all the core test dock [ph] and so the level of integration with RE NXT and new things like the church management is at a level where we haven't had before because there's no integration work to do, it's just one environment.

So really, really great from a competitive advantage standpoint..

And then maybe Tony, could you talk a little bit about your guidance thoughts with these newer routes and the impact. I'm just curious on the other side transactional business, should give what happened this year does that make you sort of rethink your guidance approach to that business for new account next year and going forward? Thanks..

Justin that's actually a really good question. We've been doing a lot of work internally this year on building out some new tools to better forecast the transactional business.

We've had several acquisitions and then just very sizable growth over the last couple of years in our kind of standard BBMS platform for the business and then when you add smart and just giving some of the other acquisitions and some of the planned expansions of products will drive even more on that front.

So actually building out some fairly robust tools that are using more sophisticated data modeling techniques and allowing us to forecast in a more granular level as well than what we would have done historically, so we can understand better impact of all the migration legacy product impacts, these one-time events and their impacts across the base.

As you can appreciate when you have something like a hurricane, you got to be able to sort across the entire population and understand what impact that had on various set of customers that would participate in something like that or the request Presidential Election, that was what we called the Trump effect and so there was quite a few different kind of [indiscernible] on both sides of that equation that we're impacted by those unusual events and so we're building much more robust tools to forecast that and with that also we're looking historically back at these one-time events to make sure we understand those more clearly and what kind of frequency they have and then when, so getting lot more sophisticated on that front.

So I think going into 2019 I feel that we'll be in a much better position to more accurately forecast our payments business in much more granular level than we have historically and we'll also understand the kind of dynamics of these historical one-time events, more fully so then we can clearly articulate what we anticipated and included in our guide for those things going forward..

And we'll take our next question from Rishi Jaluria with D. A. Davidson..

Let me start by asking about the jointly developed solution with Microsoft, the nonprofit resource management.

Just wondering if we can give some details, is this something that both you and Microsoft are going to sell jointly, separately? Is there kind of revenue sharing arrangement and is there kind of joint go-to-market? Maybe if you could give a little bit details about how that selling motion from the relationship standpoint looks like and then I've got a follow-up for Tony..

Sure, Ralph [ph] it's Mike I'll take that. We've in general have added building partnership with Microsoft started several years ago in engineering in a lot of work we've done with the SKY platform and continued into operations with our commitment to move production to Azure and then about a year ago.

We announced the go-to-market partnership which was the [indiscernible] another layer of relationship with them. We announced that year ago and so we're in the market with them in all of the growth of markets that we're in and they're in together which was several nonprofits and education institutions and healthcare or couple mention.

And so we do go to market together now. It's still early days on that, but we are partnering on sales deals and winning together in the market. It's still fairly new. We're still building the connected tissue, if their go-to-market teams and ours.

What we announced here is a, another layer of collaboration between Microsoft which is to jointly develop a new solution and we're developing that together. And the first component of that nonprofit resource management is a goods distribution.

You could think of it as a and I'll just categorize something like a supply chain management solution for - specifically for nonprofits. And we're developing in that together and because we are - it naturally will be integrated with both of our environments. Dynamics and Office 365 and our solutions as well which are complementary in the market.

So jointly developed and then specifically to your question also jointly sold that will be sold, both of us will be selling it together at standalone and together because we're partnering on new opportunities in the markets that we serve..

Got it. Thanks. That's really helpful. Mike and then finally you gave us some color on the Reeher acquisition, is that $9 million impact is that indicative of how the business model looks or is that a reflection of some kind of one-time cost related to accounting and then the acquisition itself.

Amaze [ph] is an asset that you can turn to be accretive to margins. Thanks..

Yes, Rishi so the $9 million was referring to the cash flow impact and as you know when we typically do guidance unless we have a deal that's very sort of close would not be included in our original guidance so Reeher was not in our original cash flow guide.

We were able to cover that because of the range we had on guide initially and what became the problem is then, later in the year. We also had not anticipated ramping sales headcount, so that was not in our original budget and guide either.

So we had that ramp in sales and then also some of this revenue performance issue, is what really cause the update in guide. The $9 million would be inclusive of all the one-time acquisition integration related cost of illegal and deal cost etc.

also would be inclusive of the incremental interest expense on the depth that we incurred as well as any incremental CapEx or cap software.

So lot of those, a big chunk of that would be one-time in nature more associated with actual acquisition and not kind of future run rate from a free cash flow perspective and we would expect and anticipate that we will get Reeher which is what we said right up front to be accretive from a profitability standpoint.

I think what we said initially moving to acquisition you guys correct me if I'm wrong that it would dilutive the first year, but we expect that we would get it to be accretive in the first full year following the acquisition, so next year..

Yes and this is Mike. I'll just add that. We have already fully integrated that acquisition. So it's essentially no longer a company but a product and it's fully integrated, management has stayed. It's a really great. Management team and really great additive product for us.

And performing as anticipated from a growth on sales standpoint, but we want [indiscernible] and integrated it quite quickly couple of months and that's behind us now which helps from a go forward operating standpoint..

And we'll take our next question from Kirk Materne with Evercore ISI..

This is Peter Levine in for Kirk. On the church management can you kind of walk us through the sales process? I know you talked about there's eight to 10 star systems that these churches are using. I mean what products are they using, what's the sales process like. I'm not sure how in-depth church IT departments.

I mean who you're really selling into to kind of get them in and deploy new church management solution..

Sure it depends on the size of the institution because there are church of all sizes. There are institution that have tens and sometimes hundreds of churches with an institution that really depends on, if the sales motion is a single church or a large group of churches and we're selling to both of those types.

And there's there are differences in sizes too as well. The folks that we sell to are typically the CFO and IT firms.

Typically the structure in a faith-based institution is the individual that is equivalent of the President or CEO is something that is in the institution based on the fact that they were a priest or their function in the institution is one of faith and they moved up in the organization to then head up the whole organization and they typically have reporting them to CFO and have IT.

And so that's typically where we are as far as the sales motion. The solutions come from lots of different software providers out there. There's like all of our markets as lots of small providers and faith-based, is a couple of larger ones. One of them is called [indiscernible] brands. It's a private equity owned business with lots of legacy solutions.

And this new faith-based cloud that we have is now - allows us to go into an institution where historically we would sell fundraising and financials and now we cover pretty much, almost the entire IT spend and we could start a journey of replacing older solutions module, by module from an implementation standpoint.

So for example, faith-based institution might sign up for the whole cloud platform that we have and based on their point in time and might supply to implement a new financial system first or fund raising and then implement church management solution, if they have a school we provide our K-12 platform.

Some of them have universities as well, so this new higher end announcement applies directly to them also. So it really depends on the institution selling motion, but it's good for our folks that are in sales. And that business unit is, we covered all the topics now as opposed to just the departmental topic of fundraising.

So very, very different place than we have done historically and that's holds true with our university Higher Ed announcement as well..

Great. The second question I have is, go-to-market strategy. I know I believe at your Analyst Day you talked about hiring a more vertical focused sales team. So the newer reps that you're hiring - they're going more towards the church, higher Ed.

If you can kind of provide a little more color where we could see, [indiscernible] just on the product side..

Yes, we're adding them in across the whole company and internationally as well. So - think in terms of that the fact that we have such a large address of the market. We're adding sales headcount everywhere predominantly to Tony's earlier point on the new logo side. But it's in all of our verticals.

Over the last several years, we talked a lot about K-12 well we're still adding sales headcount there as well. There's over 30,000 addressable private K-12 schools in North America.

So we have a large addressable market opportunity each of the verticals including the new ones and these new cloud solutions like faith-based and higher Ed so it's across the board..

And we'll take our next question from Monika Garg with KeyBanc..

Generally you've talked about lower double-digit recurring revenue growth but given that in the back half of the year of course it's less than that.

Maybe could you just talk about how to think about the recurring growth rate going forward?.

The channels that we've had, we've described on the last investor day and the call we had couple weeks ago, is that predominantly one-time revenue on annual basis of 2018 and some transaction revenue, Tony answered some of those questions a couple of minutes ago puts the pressure on organic growth of the total company level.

The transition that we've been going through related to the fact that we have a much smaller one-time revenue is obviously quite healthy for the company that puts some short-term pressure on total organic growth.

And so we don't see that as a long-term issue at all in fact, the announcements we've made in the last couple of months faith-based and higher Ed clouds, obviously are producing revenue today but they're producing lots of opportunity and those announcements have expanded our TAM by $2 billion.

So loss of future opportunity to drive reoccurring revenue, which in term drives organic growth as well in those, in our existing and those new markets. Also from a sales standpoint, I talked a little bit about growing partnership with Microsoft. It's a growing partnership in the go-to-market side as well with their entire ecosystem.

They obviously have a very large global footprint and we're partnering with them. It's still fairly new, but we're partnering with them in North America and internationally as well. So actively involved in new pursuits today around the world with Microsoft.

But it's still a new relationship, new relationships are being formed, but we have really fantastic support from the executive team globally at Microsoft to drive a focus in this particular market. They have a higher interest in helping education institutions and nonprofits around the world.

They have a new business unit, a nonprofit business unit that's a little over year old and we've partnered with that business unit including the other verticals that are the common footprints to our verticals. So lots of opportunity there to drive organic growth with new solutions and a partnership with them..

All right, thank you. And then how to think about expansion of free cash flow margin going forward. Thanks a lot..

Monika this is Tony. We had a really good quarter from a free cash flow perspective. I think on year taking in consideration some of the difficulties we've seen on the one time services side of the business is just some of the transactions with these onetime events, non-repeating. Feel like we're doing really well in that front.

As we said earlier on one of the questions, we had $9 million impact estimated for the Reeher acquisition will put downward pressure.

And then also if you recall moved into our new headquarters facility this year which was a fairly sizable increase in cost and we've also taken quite few charges as part of our facility and workforce optimization strategy and those things are going to give us really nice paybacks but it's going to take a couple of years.

I think this year the rough math if we didn't do the acquisitions with that $9 million impact plus backing out the impact of our new headquarters we would have been at about 19% free cash flow margin.

So I feel like we're really good on where we are there and I think that as we ramp sales investments [indiscernible] put some downward pressure, it's going to put pressure on our overall profitability.

But as we start growing to your point, our recurring revenue more quickly overtime that will give us a lot more room to expand margins more fully and continue to kind of what we've done over the last few years.

so I do think that overtime you get past some of these initial investments start seeing some of the paybacks we'll be able to see some expansion and free cash flow margins.

You know I [indiscernible] balance sheet one of the things that really hit me, the team has been really focused on cleaning up our accounts receivable, if you look comparably our deferred revenue balances are up substantially from yearend yet our account receivable relatively flat.

That tells you, we're doing a really good job on collecting those new billings and overall DSO continues to improve. So from a working capital perspective, I think the team is doing a really stellar job there as well which will help free cash flow margin going forward also..

[Indiscernible] down on the facilities front.

We talked about this forward, we have a long-term global plan related to facilities and it includes better facilities closer to our customers, a lot of flexibility for our associates and that long-term plan puts a little pressure on increased cost in a short-run, but actually we'll be adding to margin in the longer run and so the plan is, economically feasible for the company from a margin standpoint and creates a better footprint for us, not globally as well..

And we'll take our next question from Ryan MacDonald with Needham & Company..

I guess first off, now that we've anniversary the JustGiving acquisition I guess was in early October. Can you sort of refresh us on sort of how that business is progressing from an integration perspective as well as any updates to the timeline for when you expect JustGiving to be washed in the US and then as you look at JustGiving and everydayhero.

Strategically moving forward whether those solutions you're expecting to integrate them or leading with one versus the other..

Yes sure the JustGiving acquisition is really a great expansion for us because it gets us into some direct to consumer platform that we really didn't have at that scale.

The challenge we had this year which we talked about in the last couple of weeks, is giving is down in the back half of the year in the UK in general which puts a little bit of pressure on JustGiving. The platform and the business is performing quite well.

We've hired some really great folks to globally expand that platform including in the US from cloud software companies these folks [indiscernible] some cloud software companies that are consumer facing. So really good skill ad. We're integrating the platform with our middle and back office solution. So it will make it unique in that regard.

It will be the only platform like that which is integrated with core Blackbaud solutions and that's well underway. And so by doing that, it makes it operationally friendly if you will for our customers.

Where today some other platforms if they're use to make a donation for example, it creates a lot of back office work for our customers and then a lot of cost, we'll eliminate that. With the integration work that we're doing, so we're happy with the acquisition.

It's performing well a little less than anticipate this year, but mostly due to year-over-year compare of less onetime events as well in that platform, but overall it's been a really great add for us and a really great expansion into a direct to consumer facing model and we're working on launching that platform in the US fairly soon..

Great thanks and then just a quick follow-up.

In terms of sort of the strategic focus of the business I guess as we look out in the 2019 obviously a lot of work is being done now in ramping that sales headcount and really building out some of these newer solutions that you've announced for early adopters right now and then general release in mid-to-late 2019.

Can you talk about sort of the balancing focus of continuing along that organic growth focus versus typically some focus on expansion via M&A and whether or not you're shifting the balance there as we look out in 2019, 2020..

Yes I would say that, we continue to look at candidate acquisitions that makes sense for us for Near Adjacencies TAM expansions for the vertical markets that we're focused in, we're not changing that and so that strategy continues from M&A standpoint. What has changed significantly is our ability to add a significant TAM through organic development.

So the faith-based announcement, the faith-base cloud and higher Ed cloud as I mentioned added about $2 billion in TAM for us and those are organic developments and so we have two plays [indiscernible] run now from a TAM expansion which has continued to look at - will run cloud, tuck-in, TAM expansion acquisitions and organic builds.

And so we'll continue down the path of both of those as they make sense and so the ramp with the organic builds will has begun if you will and that's with early adopters and going to general availability and back half of next year and as we continue to add go-to-market folks in those verticals and the others.

So I wouldn't say that it's not binary meaning there's no flip to organic only TAM expansion, what we've had, what we've done is we've just added a second play which is organic build of TAM expansion to the M&A playbook that we have, so we'll continue to do both..

And that does conclude today's question-and-answer session. I'd like to turn it back over to Mike Gianoni for any additional or closing remarks..

Thanks, operator. Thanks everyone. I'll just close by saying that we remain committed to driving innovation as we've shown with our recent announcements around our cloud solutions for Faith and Higher Ed market and joint development with Microsoft for nonprofit.

All of these have added $2 billion to our TAM so we're really excited about the future related to those investments. We look forward to updating on progress on the next call. Thanks everyone..

And that does conclude today's conference. Thank you for your participation. You may now disconnect..