Franklin Covey Co. — Q3 FY2023 Form 10-Q
Reporting period: Quarter and three quarters ended May 31, 2023. Franklin Covey provides organizational performance-improvement content and services, including All Access Pass (AAP) and Leader in Me subscriptions, training, and consulting.
Financial performance
| Metric | Q3 FY2023 | Q3 FY2022 | First three quarters FY2023 | First three quarters FY2022 |
|---|---|---|---|---|
| Net sales | $71.4 million | $66.2 million | $202.6 million | $184.0 million |
| Gross profit / margin | $54.2 million / 75.9% | $51.1 million / 77.3% | $154.2 million / 76.1% | $142.8 million / 77.6% |
| Income from operations | $6.6 million | $5.9 million | $15.8 million | $15.0 million |
| Net income | $4.6 million | $7.2 million | $11.0 million | $12.9 million |
| Diluted EPS | $0.32 | $0.51 | $0.76 | $0.90 |
| Adjusted EBITDA | $11.9 million | $10.9 million | $31.6 million | $28.9 million |
Q3 sales increased 8% year over year (9% on a constant-currency basis); first-three-quarter sales rose 10% (12% constant currency). Q3 gross margin declined 1.4 percentage points, reflecting a higher mix of onsite programs and lower-margin Education sales. SG&A rose with hiring and compensation investments, commissions, stock compensation, and travel, although Q3 SG&A as a percentage of revenue improved to 63.9% from 64.4%.
Q3 net income fell despite higher operating and pretax income, primarily because the prior-year quarter included a tax benefit while FY2023 recorded tax expense. The effective tax rate was about 31% versus a 29% benefit rate in Q3 FY2022. For the first three quarters, the rates were about 29% and 7%, respectively; prior-year results benefited from foreign tax credits and an FDII deduction that did not recur.
Revenue drivers and material changes
- Q3 Enterprise sales grew 6% to $53.2 million; Education sales increased 18% to $17.1 million. First-three-quarter Education sales rose 23% to $45.6 million.
- Q3 AAP subscription and related-services sales grew 6% to $41.3 million; rolling four-quarter sales increased 15% to $156.6 million. AAP contracts of at least two years represented 52% of contracts, compared with 42% a year earlier.
- Education growth reflected more training and coaching days and higher Leader in Me subscription revenue. Education adjusted EBITDA declined to $1.6 million from $1.9 million in Q3, and was $1.3 million for the first three quarters versus $1.8 million, as delivery costs and mix weighed on margins.
- International direct-office sales rose 23% in Q3, led by improvement in China; licensee revenue increased 9%. Management cited continuing economic, geopolitical, foreign-exchange, and lingering pandemic-related headwinds in some markets, particularly China and Japan.
Cash flow, liquidity, and debt
- Operating cash flow was $25.9 million for the first three quarters, down from $39.5 million, mainly due to working-capital movements, including lower accounts payable and accrued liabilities and a decrease in deferred revenue.
- Investing cash outflow was $10.4 million, including $6.8 million of curriculum development and $3.5 million of property and equipment purchases. Financing cash outflow was $36.6 million, including $29.7 million of treasury-stock purchases.
- Cash was $39.3 million at May 31, 2023, down from $60.5 million at August 31, 2022. The company reported no revolving borrowings and $62.5 million available under its new facility, for more than $100 million of available liquidity. $13.2 million of cash was held by foreign subsidiaries.
- Notes payable totaled $8.6 million, including current and long-term portions; the financing obligation totaled $8.8 million. On March 27, 2023, the company replaced its prior credit agreement with a five-year facility providing up to $70 million, including a $7.5 million term loan and $62.5 million revolving availability. The term loan and revolver rate was 6.7% at quarter-end; borrowings are secured and subject to financial covenants. Management said it was in compliance at May 31.
- The company repurchased 664,133 shares for $25.0 million during Q3. A new $50 million authorization was approved in February; $21.6 million remained at May 31. Repurchases are discretionary and subject to credit-agreement covenants.
Outlook, risks, and notable items
Management expressed confidence in subscription-model durability and Education momentum, and expected operating cash flows to remain strong. It stated that existing cash, operating cash flows, and available external funds should support operations for at least 12 months. FY2023 estimates included approximately $9.7 million for curriculum development, $3.9 million for property and equipment, $4.1 million of depreciation, and $4.3 million of intangible amortization. No specific consolidated revenue or earnings guidance was provided.
Key risks cited include macroeconomic weakness and inflation, foreign exchange and geopolitical pressures, competition and acceptance of new offerings, cybersecurity, and potential disruption in financial institutions. Cash balances exceeded FDIC insurance limits; the company said it was taking additional steps to protect cash. It also cautioned that inflation could increase material cash requirements. A one-percentage-point increase in the variable borrowing rate on the term-loan balance would add approximately $35,000 of interest expense over 12 months.
Important facts for investors to verify
- Whether AAP and Leader in Me subscription growth, renewals, and multiyear contract trends continue, including the conversion of contracted and unbilled revenue into recognized sales.
- Whether Education revenue growth translates into improved margins given higher delivery costs and lower-margin service mix.
- How operating cash flow and deferred revenue evolve, and whether repurchases remain consistent with liquidity needs and credit covenants.
- The effects of tax-rate normalization, foreign exchange, and economic or geopolitical conditions on reported results.
- Credit-facility covenant headroom, variable-rate exposure, and the company’s management of cash held above insured limits.