Business Context and Reporting Period
Company: Franklin Covey Co.
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Quarter ended February 27, 2010 (Fiscal Q2 2010) and the two quarters ended February 27, 2010.
Business Overview: Franklin Covey is a global provider of execution, leadership, and personal-effectiveness training. The company operates through regional sales offices in the U.S., wholly-owned subsidiaries in Australia, Japan, and the U.K., and licensee partners in over 150 countries. Its primary offerings include training services, consulting, and products based on the "7 Habits of Highly Effective People."
Key Financial Metrics
| Metric (in thousands) | Quarter Ended Feb 27, 2010 | Two Quarters Ended Feb 27, 2010 |
|---|---|---|
| Net Sales | $31,757 | $65,658 |
| Gross Profit | $20,205 | $41,717 |
| Gross Margin | 63.6% | 63.5% |
| Operating Income (Loss) | $(689) | $1,195 |
| Net Loss | $(381) | $(133) |
| Diluted EPS | $(0.03) | $(0.01) |
| Cash and Cash Equivalents | $3,162 | $3,162 (Ending Balance) |
| Net Working Capital | $1,678 | N/A |
| Line of Credit Outstanding | $10,536 | N/A |
| Total Debt (Current + Long-term) | $41,956 | N/A |
Note: Total Debt includes current portion of financing obligation ($676), line of credit ($10,536), note payable to bank ($901), and long-term financing obligation ($30,743).
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 6% ($1.9 million) for the quarter and 1% ($0.7 million) for the two-quarter period compared to the prior year. Growth was driven by training and consulting services (+10% QoQ), offset by declines in products (-18%) and leasing (-11%).
- Profitability Improvement: Operating loss narrowed significantly from $(3.4) million in the prior year quarter to $(0.7) million. For the two-quarter period, the company reported an operating profit of $1.2 million compared to a loss of $(4.1) million in the prior year.
- Expense Reduction: Selling, general, and administrative (SG&A) expenses decreased by $1.3 million for the quarter and $4.2 million for the two-quarter period, primarily due to cost-saving initiatives, reduced headcount, and lower marketing spend.
- Liquidity: Net working capital improved from a deficit of $(3.2) million at August 31, 2009, to a positive $1.7 million at February 27, 2010. Cash provided by operating activities increased to $3.8 million for the two-quarter period.
Guidance, Outlook, and Risks
Management Commentary and Outlook
- Sales Outlook: Management notes an improving booking pace and expects sales to strengthen for the remainder of fiscal 2010, particularly in U.S./Canada and international licensee channels.
- Cost Initiatives: The company anticipates continued benefits from restructuring and cost-saving initiatives throughout fiscal 2010.
- Capital Resources: Management believes existing capital resources are adequate to maintain operations for at least the next twelve months.
Debt and Covenants
- Line of Credit Modification: On February 25, 2010, the company entered a Fourth Modification Agreement extending the maturity to March 14, 2011. The facility allows up to $13.5 million borrowing until December 31, 2010, then reduces to $10.0 million.
- Covenants: The company must maintain a Funded Debt to EBITDAR ratio below 3.75:1.0 (as of Feb 27, 2010) and a Fixed Charge Coverage ratio above 1.5:1.0. Management states it is currently in compliance.
Risks and Contingencies
- Secondary Liability: The company may be secondarily liable for retail store lease payments if Franklin Covey Products (in which Franklin Covey owns ~19%) defaults.
- Subsequent Event: Post-period, the company paid $3.3 million in contingent payments to former owners of CoveyLink Worldwide, LLC.
- Tax Rate: The effective tax rate is projected to be approximately 75% for the fiscal year, higher than statutory rates due to foreign withholding taxes and management stock loan accruals.
Investor Verification Checklist
- Covenant Compliance: Verify the company's ability to maintain the Funded Debt to EBITDAR ratio below 3.75:1.0 and Fixed Charge Coverage above 1.5:1.0 to avoid default on the $13.5 million line of credit.
- Japan Operations: Assess the impact of continued economic weakness in Japan on international direct sales, which declined in the quarter.
- Secondary Lease Liability: Monitor the financial health of Franklin Covey Products to evaluate exposure to potential secondary liability on retail store leases.
- Contingent Payments: Review the terms of the CoveyLink contingent payments to understand future cash outflow obligations based on earnings growth.
- Revenue Mix: Analyze the sustainability of the shift toward higher-margin training services and licensee royalties versus declining product and leasing revenues.