Business Context and Reporting Period
Company: Franklin Covey Co.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: February 23, 2002 (Second Quarter of Fiscal 2002)
Business Overview: The Company provides integrated training and performance solutions, including productivity workshops, consulting, and products such as the Franklin Planner. Operations are divided into Consumer, Organizations, and Education business units. The Education unit (Premier Agendas) was sold in December 2001 and is reported as discontinued operations.
Key Financial Metrics
| Metric | Quarter Ended Feb 23, 2002 | Six Months Ended Feb 23, 2002 |
|---|---|---|
| Net Sales | $103.3 million | $187.7 million |
| Gross Margin | $56.8 million (54.9%) | $104.3 million (55.6%) |
| Operating Income (Loss) | ($39.6 million) | ($70.1 million) |
| Net Income (Loss) | $35.1 million | ($51.9 million) |
| Net Income Attributable to Common Shareholders | $32.9 million | ($56.2 million) |
| Cash and Cash Equivalents | $61.5 million | $61.5 million |
| Net Cash Provided by Operating Activities | N/A | $12.6 million |
| Total Debt (Current + Long-term) | $37.4 million | $37.4 million |
Note: Net Income for the quarter and six months includes a significant one-time gain from the sale of discontinued operations. Income from continuing operations was a loss of $24.4 million for the quarter and $46.0 million for the six months.
Material Changes vs. Prior Period
- Revenue Decline: Net sales decreased 21% in the quarter and 27% for the six months compared to the prior year. Product sales dropped 25% (quarter) and 29% (six months), driven by a 60% decline in handheld electronic device sales and reduced retail traffic. Training and services sales also declined due to corporate budget cuts and travel restrictions following September 11, 2001.
- Margin Compression: Gross margin percentage decreased to 54.9% (quarter) and 55.6% (six months) from 55.7% and 57.8% in the prior year, respectively. This was caused by increased manufacturing costs, loss of printing volume efficiencies, and higher fixed costs per participant in training seminars.
- Operating Expenses: Selling, general, and administrative (SG&A) expenses increased as a percentage of sales to 56.8% (quarter) and 61.4% (six months). Increases were driven by severance costs ($1.7M quarter, $2.9M six months), product development costs, and EDS outsourcing transition costs.
- Significant Non-Recurring Items:
- Gain on Sale of Discontinued Operations: Recognized a $60.8 million after-tax gain from the sale of Premier Agendas.
- Accounting Change: Recorded a $61.4 million after-tax cumulative effect of adopting SFAS No. 142 (Goodwill and Other Intangible Assets), resulting in a write-off of goodwill for Consumer and Organizations units.
- Impairments: Recorded a $14.5 million impairment charge on the investment in Franklin Covey Coaching LLC (joint venture) and a $4.5 million charge for other impaired assets (including a note receivable from a bankrupt subsidiary purchaser).
- Management Loan Reserve: Increased the provision for losses on management stock loans by $8.5 million in the quarter and $18.5 million for the six months due to declining stock prices.
Guidance, Outlook, and Risks
- Outlook: Management anticipates that cash flows from operating activities will continue to be adversely affected by unfavorable sales performance for the remainder of fiscal 2002. The Company expects interest expense to decrease due to lower debt balances following the payoff of term loans and lines of credit using proceeds from the Premier sale.
- Liquidity: The Company terminated a tender offer for 7.3 million shares in January 2002 to preserve cash and maintain a strong balance sheet. Management believes existing capital resources are sufficient to meet working capital requirements for the foreseeable future.
- Risks and Contingencies:
- Joint Venture Termination: The Franklin Covey Coaching LLC joint venture is expected to be terminated or restructured by August 31, 2002, due to failure to meet earnings thresholds.
- Management Stock Loans: The aggregate loan loss reserve is $19.5 million. Participants' loans plus accrued interest exceed the value of their stock holdings by $25.9 million. Inability to collect these loans could have a significant adverse effect on financial position.
- SEC Inquiry: The Company received an SEC subpoena regarding its management stock loan program and the cancelled tender offer. The Company is cooperating and believes it complied with applicable laws.
- Economic Conditions: Continued adverse economic conditions and reduced corporate spending on training and supplies pose ongoing risks to revenue.
Investor Verification Checklist
- Continuing Operations Viability: Verify the sustainability of the business excluding the one-time $60.8M gain from the Premier sale, as continuing operations generated a significant loss.
- Management Loan Exposure: Assess the risk of the $25.9 million shortfall between management loan balances and collateral stock value, and the potential for further reserve increases.
- Joint Venture Resolution: Monitor the outcome of the Franklin Covey Coaching LLC termination/restructuring and potential for additional impairment charges.
- Revenue Recovery: Evaluate the trajectory of handheld electronic device sales and corporate training bookings, which have seen steep declines.
- SEC Investigation Status: Track the progress of the SEC inquiry into the management loan program and tender offer.