Earnings Call Transcript - FC Q3 2021

Derek Hatch, Corporate Controller

Thank you, Adrienne. Good afternoon, ladies and gentlemen. On behalf of Franklin Covey, I would like to welcome you to our conference call to discuss the third quarter of fiscal 2021 financial results and hope everyone is having a great summer. Before we begin this presentation, we’d like to remind everyone 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 our subscription offerings, including the All Access Pass and Leader in Me memberships; the duration and recovery from the COVID-19 pandemic; the ability of the company to hire productive sales professionals; general economic conditions; competition in the company’s targeted marketplace; market acceptance of new offerings 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 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 Mr. Bob Whitman, our Chairman and Chief Executive Officer. Bob.

Bob Whitman, Chairman and CEO

Thanks very much, Derek. Good afternoon, everyone. We're happy to have the opportunity to talk with you today. I really appreciate you joining us. We’re pleased to report, as you saw in the press release, that our third quarter results were strong, and even stronger than expected. And we believe this again reflects the strength, power, quality and durability of our customer value proposition and of the high growth, durable subscription business model that we have created. Just some highlights. As shown on slide three, revenue was up 58% in the quarter and it was also greater than fiscal '19's strong third quarter. Gross margin percentage was up 587 basis points. Our operating SG&A as a percentage of sales improved to 63.6%. Adjusted EBITDA increased $12.2 million in the quarter to $8.6 million. Our net cash from operating activities increased 65% to $30.9 million, and we ended the quarter with $51 million in liquidity even after making a major investment in the acquisition of Strive. Just want to provide a little more detail on each of these key highlights. Revenue in the third quarter was $58.7 million, which represented a big increase compared to the $37.1 million of revenue in last year’s third quarter, which was impacted by the COVID pandemic. Importantly though, this $58.7 million of revenue was not only significantly higher than last year’s third quarter, it was also higher than the $56 million in revenue achieved in the strong third quarter of fiscal '19 pre-pandemic. This strong growth was driven primarily by the strength in growth of All Access Pass and also with our subscription business in education. All Access Pass subscription sales increased 17% to $19.2 million, that’s growth of $2.8 million compared to the third quarter of fiscal 2020. Importantly, this represented a growth of 40% compared to the $13.8 million in All Access Pass sales achieved in the strong third quarter of fiscal 2019. When you take the subscription plus subscription services, sales grew 43% to $29.7 million in the third quarter compared to $20.8 million in the third quarter of fiscal 2020. Our total balance of deferred subscription revenue grew 26% in the third quarter to $55.3 million, an increase of $11.4 million compared to our balance of $43.9 million at the end of last year’s third quarter. This represented a very strong growth of 39% compared to our deferred revenue balance of $39.9 million in the third quarter of fiscal '19, and then, finally our balance of unbilled deferred revenue grew 23% to $41.3 million in this year’s third quarter and grew 74% compared to our $23.7 million balance of unbilled deferred revenue in the third quarter of fiscal '19. We’ve talked in the past sort of having roughly a third of our contracts multiyear; it’s now more than 40%, and these contracts represent 52% of all of our All Access Pass subscription revenue is now in multiyear contracts in North America. That’s really encouraging and exciting. Our revenue growth was strong, and as shown in slide five, the growth of our profitability and cash flow related to this revenue growth was even more significant. Gross margin percentage for the company increased 587 basis points to 78.2% in the third quarter compared to 72.3% in last year’s third quarter, and gross margins in the Enterprise Division itself actually grew to 81.5% in the third quarter. Operating SG&A as a percentage of sales declined to 63.6%. Note, that adjusted EBITDA increased to $8.6 million in the third quarter, an increase of $12.2 million compared to last year’s adjusted EBITDA loss of $3.6 million. Looking at year-to-date, adjusted EBITDA increased to $17.4 million, which is a big increase compared to the $5.4 million in year-to-date adjusted EBITDA through last year’s third quarter.

Steve Young, CFO

Thank you, Bob, and good afternoon everyone. It’s nice to be with you, so I’ll just jump right in. As shown in slide 12 and as Bob talked about, our performance for the third quarter was stronger than expected and showed positive momentum on almost every front. As you know, our adjusted EBITDA for the third quarter was $8.6 million, an increase of $12.2 million compared to last year’s third quarter of negative $3.6 million and an amount substantially exceeding our expectation of adjusted EBITDA of between $4 million and $4.5 million. Importantly, this $8.6 million in adjusted EBITDA is also significantly higher than the $3.1 million of adjusted EBITDA achieved in the strong third quarter of FY '19. As also shown, both year-to-date and last 12 months adjusted EBITDA substantially exceeded that achieved in both FY '20 and FY '19, and our last 12 months adjusted EBITDA of $26.3 million, as Bob said, substantially exceeds our full year guidance of $20 million to $22 million for FY '21. Our cash flow and liquidity position also increased significantly. Our net cash generated year-to-date through the third quarter was $11 million. This was $23.2 million higher than the negative $12.2 million of net cash generated in last year’s third quarter and was also higher than the negative $4.8 million in net cash generated in FY '19 and the negative $7.2 million generated in FY '18. This increase in net cash generated reflects strong growth in adjusted EBITDA, and that our balance of billed and unbilled deferred revenue increased by almost $17.1 million or 25% to $96.6 million in the third quarter.

Bob Whitman, Chairman and CEO

Great, thanks so much, Steve. We feel great about our momentum; pleased to be in a position to increase our guidance and really excited about the business. Just before we turn to Q&A, I’d like to thank our absolutely tremendous associates around the world for their continued and unwavering commitment to our mission, our clients, and the excellence in all they do, they are amazing. I would also like to recognize and thank our great leaders. Our top leadership roles are all filled by extremely talented, experienced and committed individuals who have a combination of long tenure and yet because of the relatively young age many years of strong service still ahead of them. They lead in a way that engages their teams and predictably grows their operations and our overall business strategically, culturally and financially. I’m thrilled that given the strong results, trends and strategic position of Franklin Covey’s business, we are now prepared to make some key promotions on the executive team that will help to further accelerate our progress. I’m really excited about each of these. Our executive team has functioned as a true partnership for many years and our goal has been to have each leader continue to increase his or her responsibilities while still keeping all members of our executive team on the playing field and contributing in both old and new ways, even as the rules change. That will continue to be the case following the key leadership promotions that will take place effective September 1.

Paul Walker, President, COO

Thanks Bob and hello everyone. I’ll briefly describe these three factors and then go into just a bit of depth on each. The first factor that we expect will continue to drive this significant growth in our subscription sales and profitability is that the already significant lifetime customer value of our All Access Pass holding organizations will continue to increase. The second factor is that as we continue to aggressively grow our salesforce and our licensee network, the volume of new high lifetime value All Access Pass logos will accelerate. And third, the recent acquisitions of Strive and then Jhana, which you’ll recall that we acquired in mid-2017. Together, they’re accelerating our ability to address larger and larger populations inside new and existing All Access Pass clients, further helping to accelerate the growth of the pass inside those organizations. First, All Access Pass and subscription services revenue will continue to climb and that will drive increasing lifetime customer value. As shown in slide 20, in our North American operations, All Access Pass has first, a relatively large and continually increasing average pass size now at $43,000, which is up from $37,000 just a year ago. The second point, as we’ve discussed in the past, we have a lot of headroom for continued client-partner growth. We expect that the continued addition of at least 30 net new client partners each year will help drive significant subscription and subscription services growth since almost all of these new people have the sale as All Access Pass or in the case of education, Leader in Me subscriptions. Additionally, we expect significant growth to come from the approximately 120 existing client partners that we’ve hired over the past few years, who are still in the ramp process. Lastly, the recent acquisition of Strive, coupled with Jhana, is accelerating our ability to address larger and larger populations. Strive will enable seamless integration and deployment of Franklin Covey’s best-in-class content, services, technology and metrics to provide highly engaging learning experiences.

Steve Young, CFO

Okay, thank you again. So as you know, in the past quarters we have confirmed our guidance that we expected to generate adjusted EBITDA of between $20 million and $22 million this year. Based on the strong performance in the third quarter and year-to-date and our expectations of a strong fourth quarter, we’re glad to now be in a position to adjust that guidance upward. Our new guidance is that we expect adjusted EBITDA for FY '21 to be between $24.5 million and $26.5 million. The middle of this range would reflect adjusted EBITDA growth of more than 75% compared to the $14.4 million of adjusted EBITDA achieved in last year FY '20. With our last 12 months adjusted EBITDA through the third quarter already at $26.3 million, if our fourth-quarter result is at least the same as last year’s strong fourth quarter, our results to the fourth quarter would already be at the top end of that range, and we do expect to achieve strong growth in revenue in the fourth quarter.

Bob Whitman, Chairman and CEO

Thanks so much, Steve. We feel great about our momentum; pleased to be in a position to increase our guidance and really excited about the business. Just before we turn to Q&A, I’d like to thank our absolutely tremendous associates around the world for their continued and unwavering commitment to our mission, to our clients, and the excellence in all they do, they are amazing. So now I would like to open the time for question and answers.

Operator, Operator

Thank you. Our first question comes from Andrew Nicholas from William Blair. Your line is open.

Andrew Nicholas, Analyst

Hi, thank you. Good afternoon and congratulations to each of you; Jen, Bob and Paul on the new roles. I guess to start, in terms of the guidance and the guidance change, you touched on the increased spending in the fourth quarter. So I was hoping you could spend a little bit more time on exactly what those investments are. I know Steve you listed them, but if we could get maybe a few examples of what those spending initiatives look like. And then relatedly, is there any way to quantify that spend and should we view that as kind of a one-time set of initiatives or are these kind of a multi-quarter spend that you’re kind of leaning into growth with?

Bob Whitman, Chairman and CEO

Thanks, Andrew, I’ll try to give you a little more context and then invite Paul and Steve to add on. I think there is some in both categories. The general ones that we always do are the continued investment in client partners. It’s a little bit more back-end loaded this year because we didn’t hire as many in the first half, and therefore we’re adding more in this back half. We are also kind of a one-time expenditure in some marketing initiatives. We’ve been working with some firms and these aren’t big dollar amounts, but incrementally the combination of the marketing, which is maybe $0.5 million extra and involve really increasing our footprint around the world in thought leadership and some things that we’ll be announcing later this year, these are really kind of the outsourced work that we’ve been doing. Our client partners incrementally are adding maybe $0.5 million or so in the fourth quarter. I think the ones that are just more one-time or is it – in last year’s fourth quarter we had reserved a bunch for compensation and profit sharing and so forth, so most of our compensation is tied to results and because of the overall results for the year, we’re going to be lower because of the pandemic. We reversed some of those things in the fourth quarter this year. There will be true and so that’s a more meaningful couple of million-dollar swing between those two and I think those are the primary things. We also have some travel coming back, you know not a lot, but there is some coming back as offices open and clients expect you to be there and see them and so those expenses will come back a little more than they were in last year’s fourth quarter and that will be somewhat ongoing. But basically the thought is that it’s possible that the fourth quarter could be higher than the end of our top of our range, but we do have some expenses relating to those areas that we’re talking about in the fourth quarter.