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A Shift to Subscriptions Is Revitalizing Franklin Covey's Prospects

By Asit Sharma - Apr 10, 2019 at 4:56PM

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Abandoning the sale of consulting services and products in one-off fashion has turned out to be an extremely effective idea.

Franklin Covey (FC 3.14%) edged closer to profitable operations in the second quarter of fiscal 2019 as a business model shift now in its third year continues to strengthen the company's financial position. Offering organizational consulting services and products to multiple teams via enterprise-wide subscriptions is generating steadily higher sales and decreased losses against the company's former piecemeal sales model.

Below, let's delve into the results released on April 4. Note that all comparative numbers in the discussion that follows are presented against the prior-year quarter.

Franklin Covey: The raw numbers

Metric Q2 2019 Q2 2018 Change (YOY)
Revenue $50.4  million $46.5 million 8.4%
Net income (loss) ($3.52 million) ($2.74 million) (28.5%)
Diluted earnings per share ($0.25) ($0.20) (25%)

Data source: Franklin Covey. YOY = year over year.  

What happened this quarter?

Several people at a meeting in a contemporary office space

Image source: Getty Images.

  • Sales of the "All Access Pass" (AAP) in Franklin Covey's enterprise division rose 33%, helping to push enterprise sales up 8% to $33.9 million. AAP subscribers jumped 29% against the comparable quarter.
  • Management cited domestic and international direct office revenue, as well as increased government business, as factors in the improved enterprise top line. In addition, the company acquired one of its licensees serving Germany, Switzerland, and Austria during the quarter, which added $0.5 million to the division's quarterly sales. 
  • Sales in the organization's second major segment, education, also improved by 8%, to $9.7 million.
  • Deferred revenue dipped nearly 13% to $45.2 million. However, deferred revenue in the fast-growing subscription business increased by 23% to $39.6 million.
  • Unbilled deferred subscription revenue (revenue that has been contracted but not yet billed, and thus does not appear on the balance sheet) jumped 61% to $25 million.
  • Gross margin slipped just 10 basis points to 70.2%. The company largely kept selling, general, and administrative expenses (SG&A) even with the prior year, leading to operating leverage: An operating loss of $3.5 million represented an improvement over the $5.8 million operating loss recorded in the second fiscal quarter of 2018.
  • However, the difference in net earnings between periods shown in the table above is due to a $3 million tax benefit the company recorded in the prior-year quarter due to U.S. tax legislation, against income tax expense of $410,000 in the current quarter.
  • Reduced operating losses in the current year are translating into improved cash flow. In the first two quarters of fiscal 2019, Franklin Covey generated $13.4 million in operating cash, versus $9.4 million in the comparable prior-year period.
  • Franklin Covey intends to further capitalize on the effectiveness of its subscription model. The company plans to increase its sales force by one-third over the next three years, adding 20 new sales "client partners" this year to its base of 230, and 55 new partners between fiscal 2020 and 2021. 

What management had to say

CEO Bob Whitman focused on the multiple beneficial effects of the subscription model shift on Franklin Covey's ongoing financial results in the company's earnings press release:

We are very pleased with the trajectory of our results for the second quarter and first half of fiscal 2019, which exceeded our expectations, and produced increased sales, increased gross profit, improved operating results, and a significant increase in Adjusted EBITDA in the quarter, fiscal year, and for the latest 12 months. These financial results reflect the growth and impact of our high recurring revenue, high-margin, high flow-through, low capital intensity subscription business model.

Looking forward

Franklin Covey left its current fiscal 2019 guidance unchanged. Management still expects adjusted EBITDA to land between $18 million and $22 million this year, against full-year adjusted earnings of $11.9 million in fiscal 2018. After two business quarters, the company has generated $4.1 million in adjusted EBITDA, so management expects fairly healthy earnings in the back half of the year.

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