Welcome to the Q1 2019 Franklin Covey Earnings Conference Call. My name is Angela, and I will be your operator for today's call. [Operator Instructions] Please note this conference is being recorded. I will now turn the call over to Derek Hatch. Mr. Hatch, you may begin.

Thanks, Angela. Good afternoon, ladies and gentlemen, and Happy New Year. On behalf of Franklin Covey Company, I'd like to welcome you to our conference call to discuss our financial results for the first quarter of fiscal 2019, which ended on November 30, 2018. 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 stabilize and grow revenues, the acceptance of and renewal rates of 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 products, changes in the training and spending policies of the company's clients and other factors discussed and identified 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 anyone 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 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. We also like to point out on the next slide that we have adopted in May 2014 the FASB issued ASU 2014-09, which is Revenue from Contracts with Customers. This is the new revenue recognition standard that everybody's heard a lot about and we just wanted to point out that we adopted ASU 2014-09 on September 1 towards beginning of this quarter, using the modified retrospective approach. Under this transition method, we applied the new standard to contracts which were not completed as of the adoption date and recognized a cumulative effect adjustment, which reduced retained earnings by $3.1 million net of tax. The comparative prior period information has not been restated and continues to be presented according to revenue accounting standards, which were in effect for those periods. The impact of the implementation of the new revenue recognition standard resulted in us recognizing $1.1 million of additional revenue in the first quarter, which primarily impacted the Education Division and recording $1 million more of adjusted EBITDA, which also primarily impacted the Education Division. Refer to the appendix for additional information regarding the adoption of the new revenue recognition standard. And with that out of the way, we'd like to turn the time over to Mr. Bob Whitman, our Chairman and Chief Executive Officer.

Thanks Derek. Good afternoon, everyone. We really appreciate you joining us today. In our year-end report, two months ago, we said that having crossed the bridge in our transition to our subscription business model, we now expect to generate high rates of growth in adjusted EBITDA and cash flow going forward. As shown in Slide 4, specifically we said that we expect reported adjusted EBITDA to increase from $11.9 million in fiscal '18 to between $18 million and $22 million in fiscal '19, which is growth of 50% to 85%, and then increase to between $35 million and $40 million in fiscal 2021, which would be more than triple the $11.9 million in fiscal '18. We expected also that reported - the sum of reported adjusted EBITDA plus the change in deferred revenue would increase from $23.3 million in fiscal '18 to between $30 million and $34 million in fiscal '19, which is growth of between 29% and 45%, and then increase to between $47 million and $52 million in fiscal 2021. And, finally, our net cash generated to increase from $15 million in fiscal '18 to between $18 million and $22 million in fiscal '19 and then to between $35 million and $40 million in fiscal 2021. We're really happy to have reaffirmed that these expectations today that we still expect this kind of really rapid growth in EBITDA and cash flow and of course that is strengthened by the very strong first quarter performance we had. We're happy to report that this revenue, EBITDA, and cash flow for the first quarter and for the latest 12 months were somewhat stronger than expected, and they have given us a good push up the mountain toward achieving our longer objectives for this year and beyond. Just for a second, I…

Good afternoon, everyone. Just a second on guidance, and thank you, Bob, and thank you for being on the call today. So, as Bob mentioned, just as a reminder, our current guidance for the year is that adjusted EBITDA will increase from the $11.9 million last year to a range of between $18 million and $22 million this year. But the sum of adjusted EBITDA plus the change in deferred revenue on our balance sheet will increase from the $23.3 million last year to a range of $30 million to $34 million this year. And the net cash generated, as we defined on Slide 28 in the appendix, will increase from $15 million last year to a range of $18 million to $22 million this year, and we're happy to reaffirm this guidance for the year. With year-over-year growth of adjusted EBITDA on $2.6 million in the first quarter, we are pleased to have gotten off to a strong start toward achieving the growth reflected in this full year guidance. We expect to retain this $2.6 million year-over-year adjusted EBITDA growth year-to-date through the second quarter. The second quarter's reported adjusted EBITDA is expected to be essentially the same as last year's second quarter, reflecting that substantially all of the growth in sales in the second quarter will be subscription sales, whose revenue will be recognized over time. But that the increased sequential cost for marketing for new client partners, et cetera, will be recognized in the quarter. In the third quarter, we expect strong growth in both this high margin, high flow through revenue, and in adjusted EBITDA, with even stronger year-over-year growth in adjusted EBITDA in our seasonally high fourth quarter. In the second quarter we expect revenue to grow at a rate of 4% to 6% before moving back to the high-single digit revenue growth in our third and fourth quarters. This 4% to 6% allows for some expected impact of our government business from the current federal government shutdown and for the final spill-over impact from the non-renewal of the Education Foundation contract in last year's second quarter. So again we're very pleased with our strong performance in the first quarter. We expect to have a banner year in 2019 with very strong growth in adjusted EBITDA and cash flow. Thanks Bob.

Great. With that, we'll open it for questions and turn it back to the operator.

[Operator Instructions] Our first question is from Alex Paris with Barrington Research. Please go ahead.

This is Chris Howe sitting in for Alex. I have two areas of concentration for these questions. The first is just in regard to - excuse me if you mentioned this, the average Pass holder population. What is the average Pass holder population, and how would you characterize its growth moving forward? And just to follow up on that, you mentioned the average purchase price increased to 33,900 approximately. What is your - what are your goals as you head to 2021 in regard to mix between price and volume and perhaps extending contracts more towards these multi-year time frames?

So first question then, if I heard it correctly is just kind of what's the average size of the typical All Access Pass contract, and that is – population, so the average population , I mean, roughly around 200 people in the average population, and that's expanded some of course from the start, where it was more like a 120 or 130 in the early parts of that. So the way we're doing a better job at finding bigger populations inside organizations and the reputation and referrals from other organizations has helped us there. We've typically had a price increase each year, but as you know we have a scaled pricing schedule, which is greater the population the better absolute price you have. And so, when you look at the revenue per Pass, you've got the positive of having an increase in price, and that’s somewhat impacted though by, as you expand – as they expand population. They qualify for the volume discounts that increase our revenue per customer, it reduces our revenue per seat sum, but of course we're really focused on revenue per customer. And so, I think the trends going forward is that with the significant increase in the number of multi-year contracts, we expect over the next couple of years that from the 20s in terms of having mid-20% of our contracts being multi-year contracts, with that, we'll move toward 50% over the next two or three years. Paul, I don't know, if you want to add any color or commentary?

I would just say that everything you said Bob that, we also see that upon renewal, we get expansion. And so, the longer we get into this thing and you mentioned out the ‘21, ‘22, we'll go through another couple of year's worth of renewal cycles with these clients, which will have them add-on as well, so I think we'll probably see that average size increase from that standpoint as well.

Does that response suit you?

Yes, that was very helpful. And then my second area of concentration is just on the sales force. You mentioned your net new hires so far have been 10 with the goal of reaching 20 for this year. So assuming you reach 20 with that existing sales force, what is the timeframe for that entire sales force to be completely ramped up in line with the incremental revenue that you mentioned from the last call and just when it would be fully optimized and matured?

Paul, do you want to address this?

So our ramp, if you remember back on Slide 21, with the five-year ramp, so we expect a new client partner in their first full year that will generate $200,000 that will increase to $500,000 and to $800,000 and to $1.1 million and finally $1.3 million. And, at that point, we consider them fully ramped. So the class we hired this year, depending on when we're hiring them in the year, roughly five years from now, that class is ramped, and we intend to continue to hire net 20 per year. These are Enterprise Division numbers we're talking about. Sean will mention Education in a second, but net 20 a year and then each class ramps at that schedule.

Just to clarify, the goal, the 20 - the net 20 hire goal is for the Enterprise Division. This year we're kind of holding the line on Education, because we added a lot in the last couple of years and they're kind of swallow it. We've built a lot of infrastructure and made investments last year. But Sean, I don't know, if you want to address anything more on sales force growth?

No, just the ramp rate for the Education client partners is about the same, it's 2, 5, 8, 11 over four, five-year period. And we find a lot of client partners who can get well over $2 million, so we're encouraged by that. It's about the same ramp rate.

I think what you’re headed toward is that if we were to hire net 20 salespeople a year for five straight years with only the first class being fully ramped, we'd add another $60 million of revenue just on the - just classes one through five with only one of the classes being fully ramped. And when fully ramped, if you stop hiring then, the total revenue would end up around 90 million just from the ramp up of five straight classes, even at 20. So it's an important initiative as we mentioned, All Access Pass is helping us meet that initiative even more than it has historically just because of the one-year payback on new hires.

Our next question is from Tim McHugh with William Blair. Please go ahead.

Hi, it's actually Trevor Romeo on for Tim. First, I just wondering if you could talk a little bit more about the invoices for Education being down 17%. I know you called out the impacts from the large Education Foundation contract, but are there any other factors that are accelerating that decline? And would that metric still be declining if you remove that impact?

I'll let chime in. Let me just put in context that we reported, I think in last quarter that the total impact on revenue for the pay in latest 12 months on invoice revenue was around $4 million from this - $3.5 million from this Education contracts. So you can see a quite substantial in itself, but Sean, I don't know if you want to add?

So contract signed was down some, and again, the two big reasons are; one, the big Education Foundation contract not renewing as we've talked about quite a bit. The second primary reason for this being down is the fact that we changed the Leader in Me implementation model. We basically - it's the same cost that we stretched it out over more years. So we still get the same revenue, but we get it over more time, and so a lot of the workshops that were traditionally scheduled in previous years didn't hit in this first quarter and won't hit this year but we'll hit - it's a good thing for the long term, but it hurts us in the short term. Between those two that accounts for most of the impact for the lack of growth, just looking forward, I feel like we've got good growth ahead of us for many reasons. Our pipeline looks healthier than last year. We're getting better results for schools the outcomes that we're getting, and naturally spreading school talk with each other and helping them achieve academic results, attendance improvements and so forth. And, again, our penetration is so lower in 2% of the schools in North America and 8% of the districts. Between district growth and school growth, we feel really good about our future and consider this impact of the Foundation contract kind of a one-year blip. It not only hurt us in the revenue impact immediately, but also just in the opportunity cost of focusing on this and now we've got our focus elsewhere. So I feel fundamentally there is not a major concern in the market and the market changes.

And my expectation is that with this change of model, while the revenue per school would be slightly less in the year; for the year, we expect the velocity to increase and have - we probably have our biggest addition of new schools and we have more new schools added this year than we've had for several years aside from the Foundation contract.

And then, Steve, I think you mentioned at the end that second quarter might see an impact from the government shutdown, I'm sure it's probably depend on how long this goes on, but how much of an impact are you expecting at this point?

We really haven't put a number to that, it's just a comment to say there are a few things going on that would cause us to think that maybe our revenue won't be the normal 7% to 9% but more like 4% to 6%. Our government shutdown being one of those, but I really don't have a number to put out there of what the impact might be, partially because of what you said, we don't know how long it's going to go and it can be so specific to a specific government contract that decides to delay implementation or something for a couple of months.

Just putting in context and I think that's a great answer would be, putting in context, it doesn't have the potential for really big, big impact because only a portion of our government business in federal government to start with in much of this and Department of Defense that has continued contracts and so forth. But the idea that in the agencies and other things - and we have a lot of state and local businesses that is unaffected by, but we are just noting that it could hit us by $1 million or so this quarter of stuff that we'd plan to deliver that might get pushed and that we're doing $1 million, if it were $1 million to $1.5 million just in the order of magnitude that would shave off a point or two of growth. And so that plus the impact we know we're going to have on the - from the Education contract causes just to be a little conservative on that one.

And then just one more quick one. Do you have a sense, at this point, of the full-year impact from ASC 606? And whether it would hurt or help any of the quarters this year?

We essentially still believe what we said at the - at the last year is that, expecting essentially a slightly positive but immaterial impact from 606 for the year. So we are - the million dollar benefit that we saw in Q1, we would expect to be less but a little bit of benefit in Q2, essentially no benefit in Q3 and then due to the timing of recognizing revenue under 606 versus 605, we would actually go the other way in Q4 and have a decrease to our revenue in Q4, as an impact of 606. So, up in Q1, up a little bit in Q2, pretty even in Q3, down by maybe a million or almost in Q4, so we end up with a slightly positive, I'd say, $500,000 or something like that, but immaterial impact for the year.

Our next question is from Jeff Martin with ROTH Capital Partners. Please go ahead.

Bob, if I could, on Slide 37, the Direct Office revenue breakdown, I wanted to touch on on-sites and facilitator, because I thought on-sites had been seeing some decline due to the transition of All Access Pass, does that on-site number in the first quarter of this year include add-on revenue?

What we're going to do in future quarters, Jeff, is that, we're going to break out the on-site and facilitator between that portion that is an add-on sale to All Access Pass, including manuals, and that which is the legacy, because it just what you said. We had a decline in legacy side more than offset by the growth in the add-on sales in - to All Access Pass, so we're going to break that out for you and for next - starting going forward and break that into All Access Pass plus add-on services plus add on materials, which are small. We'll see out the total for All Access Pass and add-on, so that'll reconcile and then you can see the decline in other facilitator and other on-site.

The decline in facilitator, this year's first quarter, is there anything to glean from that or are there abnormalities in the quarter relating to that - going on?

There is one structural thing, about $850,000 of that relates to a contract is an old contract. In the old days, we sold some IP contracts, not all our contracts is past wins that always showed up in the facilitator delivery channel just because that we had a small number of those, that contract occurred - it's ongoing contract, it just happened in different quarters this year than last year, so that about $800,000 of that difference is a timing difference of this one contract. Otherwise, it's just the normal decline in facilitator, which is now getting very small. So it's not - it's getting sort of both the decline in legacy on-site into, say, legacy facilitator, although it will be $7 million or $8 million in total this year, because of drag of 200 or 300 basis points on total revenue growth is becoming pretty small as a percent.

And then in terms of your outlined expectations for 2021, could you give us some high level detail in terms of - or insight into what the assumptions are? Is that just growing at the 7% to 9% rate on revenue on a net basis and adding 20 sales people a year, is that kind of a core of what the assumptions are behind that?

Yes, it is. It is a 7% to 8% revenue growth with high flow-through of incremental revenue in the 50% to 60% flow-through range of incremental revenue to incremental EBITDA this year; 45% to 50% next year; and then about 40% thereafter with the ramp up of about 20 new sales people a year and the margin is maintained.

Okay.

So it's kind of good play you're running right now.

Our next question is from Marco Rodriguez with Stonegate Capital. Please go ahead.

I was wondering if maybe you could just talk a little bit more about the quarter strength you saw, obviously you made a couple of mentions that exceeded your expectations, if you can maybe talk a little bit about the drivers there that helped that performance?

Yes. I think we had the revenue growth, we are pegging all of our numbers as we just said in Jeff's question that around 7% or 8% revenue growth. So the first thing is that revenue grew faster in the first quarter than that both on a reported invoiced and contracted basis. So that's good news just in that our normal, our conversion of the pipeline was a bit stronger. Our pipelines are bigger and I think our sales force is getting better of doing it. I don't know, Paul, if you have anything to add to that?

That's what I was going to say. I think, we're getting this was that - we've talked in prior calls that the big shift in the way that we sell - we have to - we didn't used to have to work through procurement departments and get a contract for every sale, lot of our sales were the reorder of a facilitator purchase and so for three years we've been at this now and our sales force are getting more depth frankly at finding these opportunities but then progressing them and we get more confident in the pipeline and I think we saw that - in fact Q4 as well frankly.

So that combined with the rapid growth in All Access Pass and also the high amount of deferred revenue we have on the books that benefits in the quarter. So again, if you just - our costs are a little better, we were more conservative in our forecasting, we ended up on costs. Revenue was a bit better and so just going through.

And then on the expense side, you mentioned, obviously you're a little bit more conservative or you spent a little bit less in the quarter. Where any sort of larger items delayed or was it just more of a process improvements in terms of your overall spend?

No, but it's a combination. We had some process improvement spending. We were - we challenged costs, but lot of it is just that we made - we had such big increases in the investment last year that the rate of growth of our expense is just less because we've really made all the investments in the ERP system in the implementation specialist et cetera. So the growth is now really on the margin, and that's why - that's really what underpins our guidance and expectation of having very high flow-through of incremental revenues. Our expenses were pretty much incremental. As you know, our sales force is paid on commission on the margin. Our implementation specialist will add one or two a year. Most of our sales leadership is heavily based on growth. And so it's a pretty high flow through and variable cost, so there is nothing, no deferred or delayed spending on anything of any substance.

And lastly, if maybe you can kind of update us on the international licensee just kind of where they are and how they're progressing with the All Access Pass model?

Sure. You can see they had a very strong quarter, on slide, where was that slide, Slide 37 or 38, had a nice quarter, up 11%. And I think Sean mentioned this on the last call that and we've talked about it to that, that we were delayed by nearly eight months and being able to launch the All Access Pass for our licensee partners around the world, and that really kind of froze them last year. They geared up for, lot of training was done, and then we didn't help them with that delay, that's now behind us. We had a great conference with them in September to kick off and kind of retrained everybody and re-galvanized everybody. And I think they're just - it's a focus thing, they were able to not have that delay in front of them and that's we're starting to see All Access Pass grow. We had some nice All Access Pass actually grew through the quarter. So September - October, little bit in September, November little better than October, December was good again, and so we're pleased with that now starting to grow in those licensee office as well.

Our next question is from Samir Patel with Askeladden Capital. Please go ahead.

So first just a housekeeping question. I don't know if it was you or Paul, Bob, but I think you mentioned that your target in a few years is 50% penetration in multi-year contracts?

Yes.

Just wanted to make sure. Okay, cool. The second question, unless I missed or I didn't hear any…

Sorry, there is people are just involved in more and more important things in getting bigger populations, it just becomes part of their culture of what they're doing. So we expect when they say three years change in my sales forces' ability to sell in the way we want to sell or to drive my customer loyalty metric, they're starting to recognize and we are certainly be strong enough to tell them that when they sign up for that. And for instance, if we take antibiotics for a week, we just sort of take three weeks to get rid of. We just don't know how upfront is going to take you three years to get this challenge done if you sign up or at least sign up so you can go together, so that's what's driving.

Right. Now that makes sense. The second question, I don't think you really discussed it, but there you'd out a press release about acquiring your operations in, I think, the German speaking markets and Europe. And I'm just curious, when you did China you've done that, is that sort of a trend and it's context. You've talked about the different selling model and so on and so forth that kind of optimizes for All Access Pass. I'm curious to what extent you kind of see your licensee network as capable of delivering that and to what extent maybe in certain markets you'd want to go direct over time?

Sure. We feel very good about our ability of our licensee operations to get up to speed and sell as they've worked on it. We've trained them. They're all in and committed, they've invested large sums of monies to do the translation. So we believe they will be very successful with All Access Pass. And, as you know, for us that doesn't affect deferred revenue, because their payment to us is on invoice basis. What was behind China and China with different question, which was simply an opportunity we felt like, it was coming to the end of our contract terms with our previous licensee and we just felt like to get to build the brand and to build new distribution in China and we do that. It was different situation here in Germany, so it's not part of the strategy to acquire International licensee partner operations, but it just turned out that there was a business change for our previous licensee partner in Germany that made it not possible for him to move forward and our choice was to either find a different - try to find a different partner and get that new partner up to starting over and moving up to speed or to acquire the operation there and we decided that whether it'd be very few markets in the world where we would do so. Now with that the four largest economies we are all direct and with the US, Japan, China and Germany. And so, we just felt like the better idea there is starting over there. They have a good sales force. We have a lot of good business there. We send a lot of All Access Pass business that way that needs to be delivered. And so, it just felt like a good opportunity to be direct there, but we don't anticipate doing that anymore in the future, which is to opportunistic and situational.

Our next question is from Zach Cummins with B. Riley FBR. Please go ahead.

I just want to say congrats on the strong start to the year. But, Steve, I just wanted to ask you, did you quantify the expected impact to the revenue line in the Education segment in terms of related to the loss of that Foundation contract?

For the quarter, we're around about $700,000 of revenue and $300,000 to $400,000 of adjusted EBITDA.

And in the second quarter, it'd be about half of that and then it will be over.

And then in terms of your guidance progress with All Access Pass and your international Direct Offices, should we expect this to follow a similar trajectory or ramp as similarly to how it was rolled out here domestically or just kind of how should we be thinking about this as they start to ramp up on All Access Pass?

I'll take that, Zach. So, I don't know whether the trajectory will be exactly the same in some of these offices. So just a bit of context. We launched in the UK and Australia at the same time we did in the US and Canada, and so they are way down the road like we are. And have converted about as much of their business to All Access Pass as we have here in the US and Canada. That's an easier diet for us. Those are English-speaking countries. Japan is now selling All Access Pass, so that's a new phenomenon since we launched the portal for them with the Japanese language. I think candidly, it will be a little bit of a slower conversion for them just because it's Japan and the language and the culture, but we expect that the trajectory - the shape of the curve will look the same, but it just maybe a little bit more elongated with them. And then China, of course, kind of a similar thing. In China, we won't actually start selling All Access Pass until the spring. We're just finishing up their portal. We have to do a separate version of the portal and install it in China for them. I think what will happen is, we'll have a year or two as we get going in each of these countries. And then it will really start to go in these countries. What would my bet is.

And I think all my other questions are kind of asked by the previous analyst on the call. So I appreciate you taking the time to answer my questions and congrats again on the strong start to the year.

Our next question is from Patrick Retzer with Retzer Capital Management. Please go ahead.

Congratulations on a great start meeting your guidance for the fiscal year. And one thing on Franklin Covey call if we didn't talk about returning capital to shareholders, you talked about that quite a bit last quarter, and more a thing, of course, silent on this call, is there anything you can add there?

Yes, I think we can just add a couple of things. One, we had very good cash collections during the fall and the first part of the second quarter. We also have a good amount available on our credit line and available into our purchase authorization and we haven't changed in our desire to do that, and so I think we will have the liquidity and intend to do it. During the quarter, we did not, but just - just getting ourselves ready to be in that position. So there's nothing there. But we'll remind - you're very well diversed and exactly what we bought around it. It's been over about approximately 80 million over the last four years. And so we anticipate that the excess cash will be returned to shareholders in that form. Occasionally we're in the middle of something, whether it's like the acquisition of our German office, so that's something else that's because it's - we have knowledge of something that could first be perceived as being material that we can't do anything, and from time from time we are in windows like that but otherwise we intend to be purchasers there.

Well, notwithstanding being locked up for some reason. I mean the stock is down about 25% from a year ago. I would think all other things being equal, this would be an opportune time moderately.

That we agree. I mean, I think if you look at the expected growth in the EBITDA and cash flow, our current value doesn't reflect that - the price to future cash flow is low when compared to, if you believe we're going to be in the top 10% of all Russell 2000 companies, but we do think it's substantial.

Okay.

But thanks for reminding me.

Keep up the good work.

We have no further questions at this time. Speakers, any closing remarks?

Just to thank everyone for being part of this and we also look forward to seeing many of you here at our Analyst and Investor Day next week. We think you will find it a chance to go deep on understanding more or some of these things. We won't go into this detail on the financial side, but a lot on the business side and answer any questions that you have. So, we look forward to seeing you next week, and thanks for being on the call today. Thank you so much.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.