Franklin Covey Co. — Q1 FY2019 Form 10-Q
Reporting period: Quarter ended November 30, 2018; comparison is the quarter ended November 30, 2017. Amounts below are in U.S. dollars; financial statement figures are converted from thousands to millions unless stated otherwise.
Business context and results
Franklin Covey sells organizational performance, training and consulting solutions, including the All Access Pass (AAP) and The Leader in Me subscription offerings. Management says its shift from course-based sales toward subscription solutions is gaining momentum.
| Metric | Q1 FY2019 | Q1 FY2018 | Change / context |
|---|---|---|---|
| Revenue | $53.8m | $47.9m | Up 12%; ASC 606 adoption contributed $1.1m. Excluding that effect, current-quarter revenue was $52.8m, about 10% above the prior period. |
| Gross profit / margin | $36.8m / 68.3% | $32.9m / 68.6% | Gross profit rose 12%; margin declined 0.3 percentage points. |
| Operating loss | $(0.7)m | $(3.3)m | Improved by $2.6m. |
| Net loss / diluted loss per share | $(1.4)m / $(0.10) | $(2.4)m / $(0.17) | Improved year over year. ASC 606 improved reported net income by $0.8m; without adoption, net loss would have been $2.1m. |
| Adjusted EBITDA | $3.2m | $0.6m | Non-GAAP measure as defined by the company. |
| Operating cash flow | $8.1m | $2.3m | Improved, mainly from working-capital changes and better operating results. |
Revenue mix and material changes
- Subscription and subscription-related revenue grew 36%. Subscription revenue recognized in the quarter was $18.4m; deferred subscription revenue was $41.4m, up $9.9m (32%) from a year earlier.
- Revenue by segment: Direct Offices $38.5m (up $4.3m); International Licensees $3.7m (up $0.4m); Education Practice $10.3m (up $1.2m). The Education segment benefited from $1.1m of ASC 606 impact. Management attributed growth overall to subscriptions, licensee revenue and Education, partly offset by lower legacy facilitator revenue.
- ASC 606 was adopted September 1, 2018 using the modified retrospective method. It reduced opening retained earnings by $3.1m after tax and changed timing of revenue recognition, including for initial international license fees. Prior-year results were not restated; management cautions the timing change may cause quarterly revenue fluctuations.
- Remaining performance obligations were $65.8m, approximately 75% expected to be recognized within 12 months. This includes deferred subscription revenue and contracted amounts not yet recognized.
- SG&A rose $0.8m and depreciation rose $0.7m; lower amortization partly offset these increases. Higher commissions and investment in sales personnel contributed to SG&A growth.
Liquidity, debt and investment
- At November 30, 2018, cash was $11.1m, including $10.0m held by foreign subsidiaries. The company reported $21.5m available under its revolving credit facility.
- Current assets were $83.5m and current liabilities $82.4m. Accounts receivable was $55.6m; deferred revenue on the balance sheet was $46.2m current. The note reports total deferred revenue of $49.5m including $3.3m classified in long-term liabilities.
- Debt and financing obligations included $8.5m drawn on the revolver, $11.3m of term notes, and a $20.6m campus financing obligation. The revolver and term loans had a 4.2% effective variable rate; management estimated a 1 percentage-point rate increase would add about $0.1m interest over 12 months.
- Investing cash outflow was $2.1m, including $1.4m of property and equipment purchases and $0.7m of curriculum development. Financing cash outflow was $4.9m, including $2.8m net revolver repayments and $2.1m of term-note and financing-obligation principal payments. Ending cash was $11.1m.
- Management expected FY2019 property and equipment spending of about $6.0m, curriculum development spending of $5.5m, depreciation of $6.7m and amortization of $4.8m. It stated existing resources should support operations for at least 12 months, subject to business and market conditions.
Outlook, risks and unusual items
- Management expects Education to resume growth in FY2019 and says the impact of the expiration of a large six-year charitable funding commitment should be most pronounced early in the year and decline as the year progresses. It expects most Education sales growth in the fourth fiscal quarter.
- The company entered an agreement on December 5, 2018 to acquire its Germany, Switzerland and Austria licensee for $0.2m, plus about $0.8m of expected severance, legal and related expenses. Management expects the transition to direct ownership to create future growth opportunities.
- The quarter included a $0.1m tax expense despite a pre-tax loss, producing a negative 8% effective tax benefit rate. The company cited the lower U.S. statutory rate, GILTI tax, nondeductible expenses and higher foreign tax rates. It used the discrete method to calculate interim taxes.
- Credit facility covenants include funded debt to EBITDAR below 3.0x and fixed-charge coverage above 1.15x; the company reported compliance at quarter-end. Liquidity risks include sales and collections, economic conditions, cost control, financing availability and competitors’ offerings. Other noted exposures include foreign-exchange movements and variable interest rates.
- The company expects ASC 842 lease adoption on September 1, 2019 to increase reported assets and liabilities; the full impact and transition method had not been determined. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting reported.
Important facts for investors to verify
- How much of revenue and earnings growth is recurring subscription growth versus ASC 606 timing effects and other one-time or mix-related factors.
- Subscription renewals, deferred subscription revenue, unbilled deferred revenue and conversion of the $65.8m remaining performance obligations into recognized revenue and cash.
- Progress toward Education growth expectations, including the effects of the expired funding commitment and the seasonal concentration of sales in the fourth quarter.
- Revolver availability, covenant headroom, variable-rate exposure and the company’s ability to maintain liquidity while funding planned investment and debt payments.
- The cost and operating performance of the acquired DACH licensee, and the eventual balance-sheet impact of ASC 842 lease adoption.