Welcome to the Q3 2018 Franklin Covey Earnings Conference Call. My name is Sheryl, 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. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to your host Derek Hatch. Sir, you may begin. Derek Hatch Thank you, Sheryl. On behalf of Franklin Covey Company, I would like to welcome you to our third quarter conference call to discuss our earnings this afternoon. Before we get started, I would 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 stabilize and grow revenues, the acceptance of 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 and 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 which are 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 that the company’s actual future performance will meet management’s expectations. These forward-looking statements are based upon 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, I would like to turn the presentation over to Mr. Bob Whitman our Chairman and Chief Executive Officer.

Thanks Derek, and good afternoon to everyone. Hope you are all well. We're happy to have the chance to talk with you today We're really pleased with the results for the third quarter. Over the last three years, we've consistently focused on four key objectives. These objectives outlined in Slide 3 are first, to achieve strong overall revenue growth and accelerating growth in the enterprise division. Second, to achieve aggressive growth in the subscription and subscription-related business. Third, to expand our gross margins; and finally, to continue to significantly increase the lifetime value of our customer and build clients for life. We're really pleased that in the third quarter and really through the three quarters year to date, we've made significant progress on each of these four objectives. I am just going to hit the bullet point on each. First, as you can see on Slide 4, first, revenue growth was strong. Revenue grew 15.3% in the third quarter; and year-to-date, it is also growing 15.3%, so it's been consistent all year long. In addition to achieving strong overall revenue growth, one of our most important objective has been to achieve robust growth in the enterprise division, our largest growth engine. I am really pleased that revenue in the enterprise division grew 17.6% in the quarter, and again 17.5% year-to-date, and the invoiced sales amounts grew -- in the enterprise division grew 9.3% in the third quarter and have grown 8.9% year-to-date, so we're delighted to return to high-single-digit growth on the amount of invoiced sales in the enterprise division. Second, our subscription and related revenue growth was very strong. Our overall subscription and related revenue grew 43% in the third quarter and 47% year-to-date, and subscription-related revenue in the enterprise division grew an even more significant 66% in the…

Thank you, Bob and please good afternoon, everyone. I am happy to be able to share some numbers and add a little color to the numbers Bob talked about. We did have a strong third quarter. As Bob mentioned, our revenue grew 15.3% both in the quarter and year-to-date, and our total subscription and subscription-related revenue grew 43% in the third quarter and 47% year-to-date. Subscription and subscription-related revenue in the enterprise division grew at even more rapid rate at 66% in the third quarter and 78% year-to-date. Deferred revenue billed on the balance sheet at the end of the third quarter was $34.5 million, a year-over-year increase of 46% or $10.9 million. Deferred revenue billed and unbilled at the end of the third quarter was $49.6 million, a year-over-year increase of $23.5 million or 90% compared to the $26.1 million in total deferred revenue balances, again billed and unbilled that we had at the end of last year's third quarter. Gross margin, our gross margin increased 670 basis points to $69.2 million in the third quarter and our gross margin dollars increased $7.6 million or 27.7% to $34.9 million. Third, our adjusted EBITDA was $0.6 million higher than last year and also slightly higher than our guidance even after making significant growth investments that we've talked about. Finally, our total number of paid subscribers grew 37% year-over-year in the third quarter and grew 45% in the enterprise division. I'll now provide just some additional detail on these key metrics that we just talked about. Slide 6 shows the 15.3% growth in revenue in the quarter to $50.5 million, which is a growth of $6.7 million compared with the $43.8 million of revenue we reported in the third quarter of last year. Our revenue has grown $19.2 million, the same…

All right. Thanks Steve. Hello everyone. Happy to have the opportunity to just share a little bit about the enterprise division third quarter and give a little bit of an update on where we are then year-to-date. In the enterprise division, third quarter revenue was up -- came in at $39.9 million representing growth of $6 million or 17.6% compared with revenue of $33.9 million in last year's third quarter. In the enterprise division, the gross margin increased a significant 949 basis points to 73.2% up from 63.7% in last year's third quarter. This combination of higher revenues and a higher gross margin percentage increased the enterprise division's gross margin dollars by $7.6 million in the third quarter. As noted by Steve previously, this $7.6 million increase in gross margin benefited from the non-repeat of a $1.8 million charge last year related to exiting the publishing business in Japan. This growth in gross margin dollars more than offset the $3.9 million of additional All Access Pass related growth investments that we made in the enterprise division in the third quarter, resulting in reported EBITDA of $4.3 million and amounted $1.9 million or 79% higher than in the last year's third quarter. Year-to-date just an update there here, through the third quarter, the enterprise division's revenue has grown $16.9 million or 17.5% to $113.7 million compared with $96.8 million year-to-date through this point last year. Our gross margin has increased 698 basis points to 73.4% up from 66.4% last year. This combination of significantly higher revenue in a significantly higher gross margin percentage has driven a significant increase in the enterprise division's EBITDA to $11.7 million year-to-date through the third quarter this year, growth of $6.7 million or 133% compared with $5 million in adjusted EBITDA generated in the first three…

All right. Thanks Paul. Hi everybody. This is Sean and I'm excited to give you a quick update on education and how we are doing there. So on Slide 13 on the education division, the reported revenue of $9.2 million in the third quarter reflects year-over-year growth of $0.6 million or 7.4%. The education division the adjusted EBITDA in the third quarter was a negative $0.7 million, which was less than last year's third quarter EBITDA of $0.3 million and this reflects the staffing and marketing investments that the education division makes during the first, second and third quarters, so that we can generate contracts and deliver on the fourth quarter. With the hundreds of new schools, this revenue is primarily recognized in the fourth quarter and as a reminder, in the fourth quarter, this is the quarter in which the education division generates about half of our annual revenue and virtually all of our annual EBITDA comes from the fourth quarter. Year-to-date through the third quarter, revenue for education has grown by $2.2 million or 9% to $27.4. So I am excited to share some other good developments in education. I am pleased to share that the Leader in Me, which is our primary model that we're selling. So our whole school improvement model is now in over 4,000 schools and in over 50 countries and we're very excited to see it expanding around the globe through a partnership network similar to what we've created on the corporate side. For example, we now have over 300 leader in these schools in Brazil through our partner there. Just recently in the last couple of months, we entered China through several new partners, each owning pieces of China and we feel like this is going to bring on hundreds of new…

Thanks so much Steve and Paul and Sean and as you can hear there are a lot of exciting things going on in the company and the flywheel continues to turn and quarter-by-quarter we just see the momentum continue to build based on driven by the impact we are having with customers, the ability to retain those customers, expand their relationships with us and expand our sales force and reach around the world. Finally I'll just talk about making note about our business model inflection point. We've now reached an inflection point we're under any of a wide variety of revenue growth scenarios. We expect to achieve strong revenue growth, increasing gross margins and then significantly increasing and accelerating flow through of revenue to increases in adjusted EBITDA and cash flow. Underpinning this inflection is the powerful interplay among four key factors that are outlined in Slide 14. There are first, the positive and widening gap between the growth in our subscription-related revenue and the decline or the winding out of our legacy facilitator and on-site business. As you can see illustratively in figure 8, as you can see that 14, during the initial transition to All Access Pass in 2017, the significant rapid growth to our subscription-related revenue was largely offset by declines in revenue in the revenue for our legacy facilitator and on-site delivery channels even though only less than half the initial sales were made to those clients. Nevertheless it interrupted that channel. However in fiscal 2018, 19 and beyond, there is a positive gap growing between the growth of our subscription-related business and the decline in our increasingly smaller legacy facilitator and on-site business. That positive space is expected to continue to grow as the legacy business gets smaller and smaller and as we continue to…

Okay. Thanks Bob. So our year-to-date adjusted EBITDA as we mentioned is $3.7 million higher than last year. So we know the math and are pleased that if our fourth quarter adjusted EBITDA result were the same as last year's $10.9 million, then adjusted EBITDA would $11.4 million for the year. Within our guidance range of $10 million to $15 million, we do expect Q4 adjusted EBITDA to be as much as last year with increases in sales and gross margin at least covering our increased growth investment. Therefore, we affirm our original guidance of $10 million to $15 million and as you see if we have the same as last year, would be $11.4 million. We also mentioned for many of you I think would be interested in some of the schedules in the appendix. We put additional information there that we believe would be helpful to those of you who are analyzing the company and building models and those kind of things. So we would encourage you to look at the schedules there where we intend to give you the information that you need to complete you analysis. So thank you.

Thanks Steve. We will now as the operator to open this up for questions.

Thank you. We'll now being the question-and-answer session. [Operator Instructions] And our first question comes from Jeff Martin from ROTH Capital Partners. Jeff your line is open.

Hi Jeff.

Thanks. Good afternoon. Hi Bob and Steve. How are you?

Great. How are you doing?

Doing well, thanks. Bob could you give us an update on direct offices both domestically and internationally?

Yes, Paul.

Yes, the direct offices make up the vast majority of the enterprise division update that we gave, but they're doing well. They had a good third quarter.

In fact, the growth of the direct offices was a little higher than reported because license fees were relatively flat in the quarter. So the growth rate would have been couple hundred basis points higher in the enterprise division, but for the license fees all the rest of it relates to the direct offices keep pulling it.

Yes, just another note or two that we’ve commented on the past, so All Access Pass is going well. It's been sold in the US and Canada, of course the U.K., Australia. It's now – now that we've finished the translation, it's up and running in Japan, and we're starting to sell there and we're kind of on the cusp of doing so in China, and expect to do that in the first part of next fiscal year when we’ll start selling in China. I don’t know Jeff, if that’s helpful or if you have some specific questions.

I guess that just leaves Australia then, right.

Sorry, so the U.K., Australia, the US, and Canada are all selling All Access Pass, doing well with that. We are pleased with the revenue retention that we're seeing, and Bob mentioned the services that are being sold, it's kind of uniform across all of offices in terms of the performance related to All Access Pass.

Okay. And then Bob, last quarter you mentioned the decline in the legacy on-site and related would be about $7 million to $8 million this year. Just looking for an update if that's tracking to that…

Yes that's tracking Jeff, our guess is by the end of the year, it will be exerted about a $7 million drag on growth. That will be smaller again next year and the following year. So the break is coming off year-by-year as that business gets smaller, and it will be a smaller drag this year and a smaller drag again next year.

Okay. And then you also mentioned I think three new content programs last quarter. Could you speak generally to the new -- the content strategy and then specifically to some of those newer programs in terms of how they’re functioning?

Yes thanks Jeff, just speaking to this strategy, long ago, we made -- 17 years ago, we made the commitment to not only build to try to develop capabilities in people but to connect those capabilities to specific outcomes and like sales performance or customer loyalty or execution of a major initiative, and today over a third of all of our revenues relate to a circumstance where a client actually is engaging us to help drive home a specific outcome. So our content strategy is then across three things. One, we'll continue to be strong in building individual capabilities, particularly personal and interpersonal capabilities there. Second, we want to build particularly strong capabilities around two groups of leaders. One group is the first level leader, the first is -- which is really the connection between the company's strategy and its customers, and that's an increasingly -- it's always been important, but it's increasingly important as layers have been taken away above those managers and they are now doing jobs that require their managing teams virtually and et cetera, so that's a big effort for us. We added Jhana there. We have a new course focused on that one, we call the six critical practices for leading a team. We have a new book coming out in that same area. Everyone deserves a great manager. We put additional resources there. Another level is for the -- for the senior level manager who is responsible not only for leading a team, but leading a team of teams, leading multiple teams, and so leading leaders of teams and we have a new offering there called the four essential rules of leaders. We also have an integrated solution that combines trust and execution for those people. We're taking the Jhana capability that exists, Jhana was primarily focused for the first level managers and adding that capability with weekly feeds for senior level managers in education ultimately also for individuals to be effective. So everybody will be getting their -- ultimately getting there Jhana weekly, but for a specific job to be done and we're then trying to just -- and then we're also focusing on that connection between capability and outcomes. We already have execution. We're tying it very tightly to offerings like customer loyalty, manufacturing, sales performance, things like that and a strong broader offering on accountability throughout an organization. So that's our map. Is that helpful?

It is. It is. And then last question if I hop off here, your growth strategy longer-term how do you envision it in terms of sources of growth in terms of new content versus adding salespeople versus growing with existing passholders. How do you envision that over the intermediate and longer term?

Yes leaving out the decline of legacy business, so you usually have the pure growth of vehicles. Just retain -- if we can just retain revenue of more than 90% of the previous customers and add on 30% to 40% of that on sales, we already are in growth land each year just from retention and add-on sales. The driving of new cast sales though and so that's an important, driving a new past sales and growth beyond that involves the growth of the sales force in two components. The first is the ramp-up of people we already have. We have $40 million of revenue potential if we didn’t hire another salesperson just ramping those people up that we already have who are in their first or second or third year of the five year ramp just continuing to ramp those should add $40 million of revenue over the next couple years. And then we've never stopped on the issue of growing sales force although if you look at our number, you would say we had in the last year because we haven’t grown the net sales force very much, but that really mask what's been happening, three years ago, we had hired about 25 salespeople just to handle all of our events and so facilitators there. When we moved to All Access Pass, we decided that group of people just wasn’t geared to do the kind of strategic selling and so while we've grown -- we've hired and retained a bunch of new people, we had also lost that group of 25 by choice and by design, but we continue that strategy and so I think as you go forward, the addition of new salespeople ensuring the ramp of a new salespeople, the growth of our licensees that's kind of the distribution growth. The retention of new customers, of existing customers and add-on sales could continue without a lot of new content, but we want to build the strategic viability and importance of what we're doing by adding a few key pieces of content each year that strengthen our major strategic modes.

Okay. That's helpful. Thanks very much.

Thanks Jeff.

Our next question comes from Marco Rodriguez from Stonegate Capital. Marco your line is open.

Hi Marco.

Hi guys. How are you?

Great. How are you doing?

Doing really well thanks. Real quick question here, shifting over to the leader in the education division and maybe if you can talk a little bit about the same in expansions on a year-over-year, also on a year-to-date basis, some fairly significant growth rates and I know you talk to the fact that you've been adding and making some investments there. Was there any other sort of one-off type expenses or very large expenses that are not repeatable or are those types of run rate numbers now?

So our basic SG&A expenses and the increases, yeah, those are we do this every year where we make a lot of client partner investments, marketing investments, other infrastructure investments that help us get ready for the fourth quarter, which is when we bring out all the new schools and do most of the training during the summer months. So those are expenses that we think will pay off in the fourth quarter and will pay off and in coming years as well. So those aren’t one-time expenses. These are infrastructure, These are bodies. These are people. They are not just one-time things that will go away. So we have that infrastructure in place, but we think it's going to give us necessary to bring on 500 plus new schools in the fourth quarter as well as all the retention of the 2500 schools that we have right now.

Marco the one investment though that was made this year that won't incrementally increase is the one in research that really backed up you the Casel Certification and so forth. We made the determination that it was such an important thing in the education of peer-reviewed research and to make sure that we had a fertile field for doing that research. And so we upped our investment by almost $800,000 this last year. We're not -- that level won't go down a lot next year and we think we can retain that, but it won't be -- you won't have an incremental gain. That was a big jump this year for us that won't be incrementally repeat each year whereas the other ones will.

Got you. Okay. And you mentioned in your prepared remarks on the education side that the Leader in Me, you're sorry to kind of move that into the high school market and thereby kind of I guess doubling the market opportunity for you guys, if you can talk a little bit about how that sort of started and how you started to make your way into the high school market? And then if you could maybe talk a little bit about what might need to be changed in terms of delivery of the contact because I'm assuming that it's a little bit different to communicate with a team versus I am not sure you could.

Yes sure. Yes so it is. We actually started in the high school market years ago, when we were much smaller. So we got some experience with working with them, but the Leader in Me started in elementary. We've gotten really good at it. We understand that market really well and what happens is you're selling to districts ultimately and these districts will bring on if they have 20 school, they'll bring on two elementary Leader in Me schools. They have great success with it. They like it. They go into the middle school and into the high schools and they start saying will hey, we really like this. We like what we've done. We would like to continue this. And so there has been a lot of pressure through the years and for five years in a row, we've said no, not this year and we've got so much growth opportunity with elementary, let's just stick with it. But finally there has been so much pressure from districts to develop a middle school and a high school solution that we decided that now is the time. So we spent the last two years developing the high school solution. We set the money on it already and we're launching it right now. We made a lot of adjustments. There are some things that work in Leader in Me in elementary that didn't work in high school. Because we had maybe 20 schools beta testing for the last four years, we kind of figured out what's working and what's not. So we made some adjustments. We have -- it's more classroom based. We have some really good curriculum around college and career success in readiness around leadership skills. It goes a lot deeper than we do in the elementary level and it really prepares them for college and the workforce. So we think that there's a lot of money in high schools. There's lot of opportunity. 95% of our business is K-6 right now. You add 7 to 12, we really think the market opportunity doubled. So this is our first year into it and we think we will get 100 schools which is about double what we were expecting next year and we think we can get 250 and we could see that growing really fast over the next five to seven years.

Got it. And do you have the capacity on the sales, five sales head side to deliver that or do you have to add additional people for that sort of a growth expectation?

I think the sales side will be similar to what it's been. We'll just keep adding 8 to 10 new sales people a year. We're not going to divide the sales group between high school and primary and secondary because they're selling to districts right and they want to keep that relationship. So we think that we'll have and we'll continue to have our same sales people selling both ways. This year we had a few of them that really cracked the code on it and they've got a lot -- they basically kind of did the same amount of new schools on the elementary side and added a lot of high schools on top of that. We'll watch it closely. If it comes a time where we need to divide the two we well, but we don't think it's the way to go at this point. But yes, we think we have the capacity to deliver good growth next year in both markets with our current strategy around sales people.

Understood. And shifting gears here, Bob, maybe if you could just talk a little bit more here on the shift in the business model? Obviously it's taken a little bit of time, but the numbers are starting to show the grand scheme if you will, but during this time we've had some changes in terms of the way you were structuring that business model and how sales were going to be made to the end customer. Do you feel as if now you are kind of settled on the formula as far as how to deliver everything content wise and sales wise or there are other initiatives maybe that you might be thinking about in the back of your mind that that might improve things or accelerating down the road?

Thanks Marco. I am going to let Paul respond firstly.

Just a couple of comments Marco, good question. I think the short answer is yes, I think that things are -- we have a strategy we believe in. We think things have filled out to use your word there for example, the first couple years trying to figure out what was the right support model for these All Access pass holding clients relative to implementation specialists. And we toyed around with a hybrid model that you think some of our delivery can form who delivered by day and kind of were supporting clients by night almost and we've now centered in half of this past little over a year now have been using a full-time team for that. It's working really well and so that's just one example of probably it doesn't where as we encounter new things that to figure out how to fall for those, but today primarily we have sales force that's very talented increasing in their skill and capability to go position a subscription-type sales that's renewable asset that once they’ve sold that, they are in there working with the client to look for expansion opportunities. We now know how to work through the renewal cycle and the procurement cycle. These things were new to us when we first started that having to have a contract for everything versus just a simple order for our facilitator purchase and so I do think for us the key will be keeping the revenue retention high, which we're doing, continuing to focus on some of these new service opportunities like coaching. We're just scratching the surface with what we can do with the Robert Gregory coaching content is growing rapidly but just scratching the surface there and so it will be adding client partners and then going deeper within the accounts we have and driving new sales I think.

Marco just one other comment is that this probably isn’t obvious, but we don’t have any sales people that weren't running the play and this is a great credit to our leadership. We had 17 managing directors who lead the direct sales forces and they're really, it's not like we got part of the sales force still selling the old way in part new. Everybody is selling the new thing. That transition is they're across the bridge on that and so it seems like now it's not like we -- we ask ourselves every day how we can do something better. It's not like we think we have everything figured out, but we do have something just delivering consistent increases in new past sales, retention, add on sales and our counter meetings are always it's been on the things we're not doing well, but that is not structural any more. We are across the bridge on organizationally now. It's just performance.

Understood. Thanks a lot guys. I appreciate your time.

Thank you so much.

Our next question comes from Kevin Liu from B. Riley. Kevin your line is open.

Hi Kevin.

Hi. Good afternoon. First I just wanted to clarify something I thought I heard on the call. Did you guys say that the invoice amount in education missed by $2.5 million relative to plan and if so, could you kind of elaborate on some of those causes?

We did. We're saying through the third quarter, we were $2.5 million behind plan in the education group. I'll let Sean speak to that. He think he is going to make up portion of that if not all in the fourth quarter, but you can just address that Sean.

Yes we've had a couple things. One is, we've had a large multiyear funding agreement from a major donor that's helped sponsor new schools as corporation really believes in what we're doing and that was six-year agreement and that's basically it's come to an end and that's hurting us. We thought that we perhaps could get that renewed. They're probably going to wait a year or two before they start up again. So that was kind of unexpected and that's about as down some. Also just as a reminder about 50% of our revenue and over 60% of our contracted revenue happens in the fourth quarter. So, so much depends upon -- of the year depends upon how we do in the fourth quarter. We feel pretty good about our growth prospects in the fourth. So…

Is that -- we can address that Kevin, we can speak more, but I think that's basically, we just want to make clear that we were down a little bit versus our plan we were up on plan generally overall and our gross margins are so much higher that EBITDA wise we are well ahead gross revenue education has been off versus plan a little bit year-to-date primarily because of the reason I spoken to.

Yes, no that's helpful context and then the other question I had was just around facilitator sales. Could you just remind me how much it's down year-to-date and as you look to Q4 I would imagine that's always been kind of the more pronounced period for facilitator sales. How should we think about those sales trends kind of shifting over to AAP subscription invoicing?

What's in our plan, last year we were down to about $14 million of facilitator sales in the U.S. offices. We expected that would be down about 45% this year just a combination of people transitioning and just some of that business is always episodic and not repeating each year. We were down a little less than that and my guess is that we will end up the year at somewhere around $9 million of facilitator sales. So we're not accounting Paul and a huge big fourth quarter in facilitator. We normally had a promotion that will be smaller this year. Just in the sales, it's almost distraction from the sales force that focus on that but we do have a team in the side sales partners that are working on this. Paul, I don’t know if you want to add something.

No, we expect it will be down in the fourth quarter like we expect it to be down throughout the year and so…

It might be a little better than that.

Might be a little better, yes.

Maybe asking the question a little bit differently and because Q4 used to be so big for facilitator sales, do you guys have any sort of enhanced promotions or anything to that effect to help drive conversely a bigger benefit to your AAP invoicing activity?

Yes we've got, we do a number of little things to that point initiatives that we have going on internally that we use with our clients to drive for example expansion revenue within our current pass holders and so I when I spoke -- the client spoke about earlier and my example expanded from a 100% pass to a 2,000 person pass. So they added 1900 users. Not everybody has 1900 users, but we are constantly in there working with clients to try to expand what they're doing. That certainly gives us benefit inside a given quarter. The heavy focus on selling new logos that benefits us in a quarter and then in the fourth quarter there are a lot of passes to renew from prior years selling activity.

As you know Kevin, these activities no longer affect the quarter very much. So we have the expenses associated within the quarter and the revenue gets puts on those started deferred balances. So very little of that effort will actually affect the quarter rather than on the expense side, but it does drive longer term contracts etcetera that will benefit net year.

All right. Understood and appreciate you taking the questions.

Thank you.

Our next question comes from Trevor Romeo from William Blair. Trevor your line is open.

Hi Trevor. How are you?

Good. How are you?

Great.

Yes, it's Trevor in for Tim today. Thanks for taking the questions. Yes so I guess if I understood the comment in the prepared remarks correctly, it sounded like adjusted EBITDA in the fourth quarter would be similar to the level in the fourth quarter last year. And I would've expected it to be may be up a bit given the strong revenue growth that you guys have been seeing lately. So could you maybe just talk about what's driving that? Is it really only just a result of the investments you're making or is there anything else going on there?

The only other thing that's going on there that would be cost related is that our pattern of recognizing annual bonuses and commissions is skewed significantly toward the fourth quarter because that's when I call profit and since the annual bonuses are driven primarily by profit or the change in profit, we have a fairly significant increase in compensation in the fourth quarter just related to commissions and bonuses. And then we've talked a lot about the investments that we made in growth -- the investment that we've made in the year. A portion of those investments will be made in the fourth quarter and so we expect it will be a good fourth quarter and you look at the numbers in the fourth quarter is a very profitable and good fourth quarter. So our comment is partially reflecting the fact that last year's fourth quarter was so good and we expect an equally good fourth quarter this year and the pattern will most likely be revenue being good, our gross margin being up and our SG&A being up because of the investments we're making and what we just talked about, again still resulting in a great quarter that's probably consistent with last year and maybe a little bit more.

And Trevor just following up also on Kevin's question about the fourth quarter, obviously on the amount of business that we contract or invoice during the fourth quarter just a much smaller percentage of it shows up in the quarter even though you have all the expenses and so as a consequence there is huge lumpiness that we always had in the fourth quarter will become less and less. So as we add more of this deferred revenue.

Okay. Got it. Understood thanks. And then just what kind of operating cash flow do you expect to generate this year and I guess just generally with the subscription model gaining some more traction, what sort of I guess cash flow conversion ratio do you see for the business going forward?

Yes it's Steve here. Historically, let's just say cash flow relative to adjusted EBITDA of course and if you add back the balance of the increase in deferred revenue toward our cash flow, historically our cash flow is really been attracted very high, very close to our adjusted EBITDA because you add to it your amortization of capitalized development cost that's already deducted from purchase of gross margin and then subtracting the CapEx and such to get to our cash flow. And so it's usually pretax been maybe $3 million or $4 million less than our adjusted EBITDA or the adjusted EBITDA plus the change in deferred and so the contribution issue will actually be similar to that. It's just that we may in a very similar way, the cash we're generating will be very strong this year and our investments this year with the incremental investment in implementation specialists, the $3.5 million for the localization of content in 16 languages, $4 million of portal cost, $5 million investment in the ERP system etcetera, we invested those in things that won't be -- we won't have to invest in again next year that at least won't have to increase next year. And on a cash basis form actually be investing in a lot of those next year, but so the cash generation will be high about $4 million less than the sum of adjusted EBITDA plus the change in deferred and our investments were also higher this year. And so investment will go down -- one other point Bob is certainly that part of the reason the incremental increase in cash is so high compared to the incremental increase in adjusted EBITDA is because our balance sheet consumes less than 20% about 15% of that incremental adjusted EBITDA is consumed on the balance sheet by increase in receivables. So it makes a very high flow through of cash available for the capital investment that Bob talked about.

Okay. Great. Thank you guys very much for the detail.

Thanks for the great questions.

And our final question comes from Patrick Retzer from Retzer Capital. Patrick, your line is open.

Good afternoon, gentlemen. Congratulations on another great quarter.

Thanks Pat.

So you just got done talking about cash and cash flow. Bob, a year ago you made a couple of significant acquisitions. Since then understandably you've been pretty quiet on the stock buyback front, even though historically you've been very aggressive there. Can you comment on the outlook for buying stock back here in the foreseeable future?

Sure. Yes I think your analysis is exactly right. In this past year and a little bit before, we made a couple of acquisitions. We invested in the new portal, localization of the content, a new ERP system. So our capital spending was planned and it was significantly higher than it has been in other years. And at the same time we are having the transition to the All Access Pass that we're making the growth in investment there. So as Bob talked about the incremental flow through to cash of the incremental increase in adjusted EBITDA will generate and our decrease amount that we allocate to capital spending will mean that we'll have excess cash again in the near future and what we have normally done is if there is no acquisition or something like that is to buy back shares. So we still have the same -- we're still the same people with the same overall capital strategies and intend to buy back shares with excess cash.

Okay. That sounds good. That's all I had. Keep up the good work and thanks for your effort.

Thanks Pat. We appreciate your support. Any other questions?

At this time, we show no further questions in queue.

All right. We'll then just conclude by again thanking each of you for joining us during the call today. Maybe moreover thank you so much for your tremendous focus you’ve had over this transition over the last couple of years, being willing to invest the time and the analysis which wasn’t easy and really learning the business, understanding what drives it. We're grateful that we're now showing there is all those factors are headed in the right direction and hopefully it makes it a little easier to follow us, but we really appreciate everyone sticking in there through this transition and we look forward to now to hopefully rewarding everybody. So thanks very much.

And thank you ladies and gentlemen. This concludes today's conference call. Thank you for your participation. You may now disconnect.