Franklin Covey Company

Welcome to the Q1 2020 FranklinCovey Earnings Conference Call. My name is Cynthia, and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. During the question-and-answer session, if you have a question, please press star, then 1 on your touch-tone phone. Please note that this conference is being recorded. I will now turn the call over to Derek Hatch. Derek, you may begin.

Thank you, Cynthia. Hello, everyone, and Happy New Year. On behalf of FranklinCovey, we'd like to welcome you to our first quarter of fiscal 2020 conference call to discuss our earnings this day. Before we begin, we'd like to remind everybody that this presentation contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based upon management's current expectations and are subject to various risks and uncertainties, including, but not limited to, the ability of the company to hire or to stabilize and grow revenues, the acceptance and renewal rates for the all-access pass, the ability of the company to hire productive sales professionals, general economic conditions, competition in the company's targeted marketplace, market acceptance of new products or services and marketing strategies, changes in the company's market share, changes in the size of the overall market for the company's product, changes in the training and spending policies of the company's clients, and other factors identified and discussed in the company's most recent annual report on Form 10-K, and other periodic reports filed with the Securities and Exchange Commission. Many of these conditions are beyond our control or influence, any one of which may cause future results to differ materially from the company's current expectations, and there can be no assurance the company's actual future performance will meet management's expectations. These forward-looking statements are based on management's current expectations, and we undertake no obligation to update or revise these forward-looking statements to reflect events or circumstances after the date of today's presentation, except as required by law. With that out of the way, we'd like to turn the time over to our Chief Executive Officer, Mr. Bob Whitman. Thanks, Derek.

Good afternoon and Happy New Year. We hope all of you had a great holiday. We really appreciate you joining us today. We're really pleased to report that our strategic and financial momentum continues to be very strong in the first quarter. As you know, our goals and expectations for fiscal 2020 and for years to come are really twofold. First, to continue to be the leader in what we view as the most strategically important and lucrative segments of the performance improvement industry. And second, to consistently generate extremely high rates of growth and adjusted EBITDA and cash flow. Our first quarter and latest 12 months results were very strong actually on both of these objectives. Strategically, we had a significant number of large all-access past client wins and expansions in the first quarter. And as shown on slide three, Our all-access pass and related sales grew 22%. We retained more than 90% of our all-access pass subscription revenue for the 16th straight quarter, and a significant 32% of our all-access passes are now multi-year passes, up from 22% at the end of last year's first quarter. Driven by this, we had very strong financial results in the quarter. Our revenue grew 8.9%. Our gross margin percent increased by 337 basis points to 71.7%. As a result, our adjusted EBITDA increased 56.5% or 1.8 million to 5 million for the quarter and grew a similar percentage, 55% or 8 million for the latest 12 months and actually a little faster, 8.8 million for the latest 12 months in constant currency. These results have gotten us off to a strong start toward our expectation and guidance of increasing adjusted EBITDA from 20.6 million in 2019 to between 27 and 32 million in fiscal 2020, which represents growth of between 31 and 55 percent. We expect to build on this momentum over the balance of fiscal 2020 and beyond. Specifically, as we discussed in our year-end conference call and as shown in slide four, Over the next three years, we expect to grow adjusted EBITDA in constant currency from the 20.6 million we achieved in fiscal 2019 to between 27 and 32 million in fiscal 2020. It's a noted growth of between 31 and 55%, and then to between 36 and 41 million in fiscal 2021, and to between 45 and 50 million in fiscal 2022. We also expect to increase our net cash generated to between $25 and $30 million in fiscal 2020, and then to between $35 and $39 million in fiscal 2021, and to between $44 and $49 million in fiscal 2022. Today, we'd like to briefly review our financial results and then address four key topics which underlie our expectation of continuing to achieve this very rapid growth in adjusted EBITDA and cash flow in fiscal 2020. 20, 21, 22, and for the foreseeable future thereafter. First, I'd like to dig a little deeper into our financial results for the first quarter and for the latest 12 months. First, revenue. Our revenue, as you can see in slide five, grew 8.9 percent or 4.8 million in the first quarter and grew 14.5 million or 6.7 percent for the latest 12 months. Our total subscription related revenue grew 21% or 5.8 million for the quarter to 33.6 million and grew 23.3% or 24.2 million to 128 million for the latest 12 months. Our invoice revenues grew 8.4% or 3.8 million in Q1. This was led by US and Canada where invoice revenue grew a little over 10% for the second straight quarter. Our balance of billed and unbilled deferred subscription revenue grew 16.8 million, or 26% in the first quarter, to 82.7 million, compared to a balance of 65.9 million at the end of last year's first quarter, and compared to a 47.7 million balance at the end of the first quarter of fiscal 2018. In addition, our total value of contracts signed in the quarter grew 17.5%, or 7.9 million, our strongest contracting quarter in the last several years, very strong contracting quarter. And that increased to 53.1 million. As shown in slide six, the high flow through of this revenue growth drove a 56.5% or 1.8 million increase in adjusted EBITDA in the first quarter. with adjusted EBITDA increasing to $5 million from $3.2 million in the first quarter of fiscal 19. For the latest 12 months, 55% of the $14.4 million of revenue growth we generated flowed through to increased adjusted EBITDA. This resulted in adjusted EBITDA increasing $8 million, or 55%, to $22.4 million for the latest 12 months, up from $14.4 million for the same 12-month period a year ago. Constant currency adjusted EBITDA grew an even greater 61%, or 8.8 million, to 23.3 million for the latest 12 months. This high flow-through of increases in revenue to increase in adjusted EBITDA again demonstrates the combined power of our strong high single-digit revenue growth, our increase in gross margin percentage, and the fact that SG&A has been declining as a percentage of sales. Both the enterprise and education divisions achieved strong revenue growth in the first quarter. As you can see in slide 7, in the enterprise division, which accounted for 78% of total company revenue in the quarter, revenue grew 8.7%. Invoice sales grew 7.8%. The value of contracts signed grew 18.2%. All excess pass and related sales grew 22%. and deferred revenue, build and unbuild, all related to the all-access path, invoice sales grew 31%, so a very strong revenue momentum in the enterprise division. As you can see in slide 8, in addition to achieving strong revenue growth, the enterprise division's gross margin dollars increased an even more significant 15.4% in the first quarter. This reflected the combined impact of strong revenue growth and a 433 basis point increase in gross margin percentage. In addition, operating SG&A as a percentage of sales declined slightly for the quarter, even after covering the cost of adding 23 new client partners in the enterprise division in fiscal 19, and also the cost associated with the conversion of the German office to a direct office this year. So for the latest 12 months, SG&A as a percentage of sales declined a significant 241 basis points. So the combination of these factors, you know, improving revenue, improving gross margins, improving SG&A as a percentage of revenue, drove a 47% or $2.5 million increase in adjusted EBITDA in the enterprise division for the quarter, with adjusted EBITDA increasing to $7.7 million. from 5.3 million in last year's first quarter. For the latest 12 months, adjusted EBITDA increased 41.4% in the enterprise division, or 8.2 million to 28 million. As shown in slide nine, strong quarterly and latest 12 months performance reflects continuation of the strong growth in revenue in adjusted EBITDA in the enterprise division over many quarters. As you can see, you know, in slide nine, In the last 10 quarters, enterprise divisions' latest 12-month revenue has grown from $135.9 million to $174.3 million, growth of $38.5 million. And during the same period, latest 12-month adjusted EBITDA increased from $10.7 million to $28 million, growth of $17.3 million. So this represents a 45% flow-through of increases in revenue over that period, to increases in adjusted EBITDA. So this model is continuing to drive strong revenue growth, high gross margins, declining revenue, and accelerated growth in adjusted EBITDA. As shown in the slide in 11, in the education division, the majority of whose revenue and profitability occurs in the fourth quarter, as you know, when schools are out and teachers and administrators are available to go through training, revenue grew 7.1% in the first quarter. Education's gross margin percentage declined 172 basis in this year's first quarter due primarily to an increase in the mix of services they sold relative to intellectual property licenses. This is expected to reverse in the second half of the year when price increases kick in in the fourth quarter and when we have a very high absorption of our coaches in the third and fourth quarters. The SG&A also increased in the quarters. You know education invests early on to make sure we're ready to service all the revenue later on. It reflected the increased commissions on increased revenues. The SG&A increase also reflected investments in new client partners, the addition of symposium marketing events in this year's first quarter, and an increase in the amortization of deferred commissions. Education's pipeline of opportunities is strong, and we expect significant growth in its revenue and EBITDA in fiscal 2020 as a whole. Again, we're really pleased with the strength of our first quarter and for the latest 12 months. This momentum has gotten us off to a strong start toward our growth objectives for the year, and we expect this momentum to further accelerate in the coming years, as we'll discuss later. Now I'd like to address four key topics which underline our expectation of achieving this very rapid growth and adjusted EBITDA and cash flow in 20, 21, 22, and for the foreseeable future thereafter. As shown in slide 12, these topics include, number one, just touching on the greatest points of leverage in our business model, those points of leverage that are driving the high flow through of increases in revenue to increases in adjusted EBITDA. Topic two is really addressing why the strategic space in which we play is so attractive and why we are winning in that space. Topic three, which I'll ask Paul Walker to cover, is where we see opportunities to accelerate revenue growth in the future. And topic four, which I'll ask Steve Young to address, is how we plan to utilize the significant amount of excess cash we expect to generate over the next three years. Turning to topic one, the points of greatest leverage in our business model. There are three that I'd like to address. The first point of leverage is that because all excess pass is generating high gross margins, Our gross margin dollars are growing even faster than our revenue. As you can see in slide 14, over the last two years, the enterprise division's gross margin percentage has increased 156 basis points from 73.9% for the latest 12 months ending Q1 fiscal 19 to 75.5% for the latest 12 months in the quarter just ended. As a result, as noted, the enterprise division's gross margin dollars have grown even faster than its revenues. The second point of leverage is that with this increase in gross margin, a higher and higher percentage of our revenues are also all excess past revenues that have this high gross margin. As you can see in slide 15, there's quite a bit of information on this table, but in the upper portion of the table, you'll see that all excess past and related sales revenues and enterprise division have grown from 41.2 million at the end of the latest 12 months for Q1 fiscal 18 to 85.8 million for the latest 12-month period. As also shown with this strong growth, all excess past and related sales have increased from 29 percent of our total enterprise division sales two years ago to 49 percent of total enterprise division sales here for the latest 12-month period through this year's first quarter. We expect All Access Pass and related sales to continue to grow as a percentage of sales, increasing to more than 75% of total Enterprise Division sales over the next few years, with the balance being made up of licensee royalties, which will also be related to All Access Pass, and then some of our legacy on-site and facilitator revenue and miscellaneous revenue would make up the difference. With this strong growth in all excess paths and related sales has also come a significant increase in the amount of our deferred revenue balances. As you can see in slide 16, our balance of deferred revenue, billed and unbilled, has increased from 18.1 million at the end of fiscal 17's first quarter to more than 82.7 million at the end of this year's first quarter. With this has come significantly increased visibility into what we expect to be our future growth. We already know it's on our balance sheet and so a significant amount of what we're expecting and forecasting in the future is already on our balance sheet. The third and final point of leverage is that all excess passes high revenue retention rate is creating high lifetime customer value and this is allowing SG&A to decline as a percentage of sales. It was illustrated in slide 17 The combination of all access passes attractive gross margins and high revenue retention as well as high add-on services attachment and the fact that it's sticky and we're retaining this is creating very high lifetime customer value. This high retention is allowing operating SG&A to decline as a percentage of sales in the enterprise division because we're retaining substantially all the revenue that we're selling. The combination of these three points of leverage Again, strongly enjoying gross margins, the increasing share of our revenue that's being generated is subscription related, and the high retention of that revenue is really creating very strong operating leverage in the income statement. Topic two is nearly addressed quickly. Why the strategic space in which we play is so attractive and why we're winning. We often get questions on We're trying to get a little better understanding of the strategic space in which we play and why it is that we're winning and retaining the revenue that we are, and our passes are being renewed. So we wanted to address that. Just to say that first, the market for organizational performance in which we play is huge and expanding. When you think about it, almost every organization's largest investment is in its people, its collective investment in its people. and therefore its biggest opportunity for organizational performance improvement most often lies in increasing the collective performance of its people. In pursuit of this improvement, it's estimated that organizations globally spend more than $90 billion on outsourced learning and development solutions and services. They spend an additional approximately $220 billion for their learning and development staffs and for internal content development, And then in addition to the learning and development budgets, there are countless additional billions spent on consulting and other performance initiatives outside the learning and development spend. So there's a lot of money, effort, and time spent on this topic. Second, we are playing in what we believe is the largest and most strategic and most lucrative space in this market, and we're winning. In slide 19... Just the organizational performance market can generally be captured as shown in that slide. At the bottom of the pyramid is the job of developing skills and capabilities in individual learners. On the left-hand side of the bottom row is developing personal and interpersonal skills. And on the right-hand side, you have technical skills. Currently, the vast majority of training at the bottom of the pyramid, so to speak, is focused on the bottom right-hand side on developing technical skills. Increasingly, enterprises are turning to online and do-it-yourself video content to provide this kind of training, and they should. It's an economically smart way to leverage new technology while engaging individual learners online, especially with an increasingly dispersed workforce. As you move to the left-hand side of the bottom of the pyramid, beyond technical skills into the terrain of personal and interpersonal skills, And even more importantly, as you go up the pyramid to developing leaders who can achieve results and engage their people, and even higher to the top, to help organizations achieve major strategic initiatives that require large-scale change in human behavior, you'll find the very challenges that line leaders and C-level executives value most and have the budgets to address. These are organizations' must-win challenges, challenges such as closing an operational gap, improving sales performance, measurably increasing trust throughout an organization or improving an organization's key customer loyalty metrics. Leaders not only invest a significant portion of their outsourced learning and development budgets to address these challenges, but also a disproportionate share of their internal learning and development budgets as well as portions of their operating budgets are focused on addressing these problems. We are winning and retaining and expanding our business with organizational customers seeking to address just these kinds of challenges. In doing so, we're gaining access not only to the large outsourced learning and development budgets, the $90 billion piece, but also to the internal learning and development spend, the $220 billion piece, as well as to portions of organizations' operating budgets. Just three quick notes on that. As to winning at bigger portions of clients' outsourced learning and development budgets, there's a large financial service firm which has now been an all-access pass holder for nearly three years. who during this period has expanded their pass from 100 users to more than 8,000 users. Additionally, they are contracting for many dozens of training days, what we refer to as add-on services each year. This client has expanded its pass holder population rapidly in three short years because of the depth and breadth of content in the All Access Pass. Each time they encounter a new need in the organization, they consult with their FranklinCovey implementation specialist to determine how that need might best be met through the content and tools in the All Access Pass, and most often it can be. As this process has played out again and again, their commitment to All Access Pass has increased significantly. It's important to note that this client's not investing more money in addressing their needs than they did previously. In fact, they're spending a little bit less than they did traditionally, but they've shifted almost all of their spend away from their other historical providers and toward FranklinCovey and their All Access Pass. Similar things are happening with internal learning and development spend where we're winning, where people are recognizing they can take the content in All Access Pass and weave that content and the tools in All Access Pass throughout their leadership development frameworks. And in so doing, again, they're displacing a number of their former internal and external offerings. We have one example of a multinational Fortune 100 company who purchased Snowlex's path three years ago as a pilot with a relatively small population of 200 leaders, who recently increased their path to cover all 30,000 leaders in their organization and signed a three-year contract. Again, accessing not only the outsourced spend, but also their internal. And finally, we're also winning, as I noted, an important client's operating budgets. For example, the CEO of a large retail organization you'd know made the decision to implement our four disciplines of execution solutions systematically throughout their hundreds of stores using all access paths. As a result, their revenue and profits are at historic highs. They give credit to this whole process to four disciplines, and the organization has gained an increasing capability and tool set to execute strategies. So we're winning in all three budgets, and the reason we're winning, finally, is first because our well-known best-in-class branded solutions are focused on and known for their track record in delivering measurable outcomes on exactly these critical challenges that we talked about. Due to the importance of the challenges just outlined, organizations seek out best-in-class solutions that have a track record and credibility for delivering outcomes, and this is absolutely where FranklinCovey shines. FranklinCovey is known and trusted for being the partner of choice for organizations facing challenges, the solution to which require behavioral change at scale. Whereas most content in the learning and development space is unbranded and relatively undifferentiated, FranklinCovey's solutions and insights are well-known, best-selling, branded, and trusted. They receive 9s and 10s NPS scores from participants and buyers, and have a great track record and reputation for delivering desired outcomes. And so, with this branded content on important problems, that's the first reason we're winning, and the second is because they all access past structure. has an extremely compelling value proposition. With all access paths, the clients receive unlimited access to all of our well-known and trusted solutions, many of which are shown in slide 20. And they get that for their entire passholder population. And finally, as shown in slide 21, with all access paths, these solutions are available in an almost limitless combination of delivery modalities. They're available in 21 languages worldwide, so people can implement these solutions worldwide. They get the services of an implementation specialist who can help to curate and design impact journeys to meet specific needs the client has, as noted in this one client who's gone to pretty much every leader in their organization. The solutions can be purchased with add-on coaching and delivery services to help a client to achieve its desired outcomes. And all this is available at a price per population trained that's less than or equivalent to that typically charged for a single course in a single modality. And for clients who are already purchasing access to video libraries that help individuals develop technical skills or personal skills, All Access Pass is extremely additive because it allows organizations to transcend these basic skills and also address their more pressing 80-20 challenges. So delivering on this compelling value proposition is a key reason why sales of All Access Pass are growing rapidly, why we are retaining substantially all of the All Access Pass and related revenue we sell, and why past holder organizations are not only renewing their passes, but are doing so for multiple years. We have a similar value proposition in education, where educational institutions, again, are buying a subscription to the Leader in Me, finding enormous value in it, and expanding within their, of course, the school retains, we retain these schools, and they're expanding within districts. With that, I'm gonna ask Paul Walker, our present Chief Operating Officer, to address topic three, which is where we see opportunities for even more accelerated revenue growth in the future.