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FC > SEC Filings for FC > Form 10-K on 14-Nov-2012All Recent SEC Filings

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Form 10-K for FRANKLIN COVEY CO


14-Nov-2012

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following management's discussion and analysis is intended to provide a summary of the principal factors affecting the results of operations, liquidity and capital resources, contractual obligations, and the critical accounting policies of Franklin Covey Co. (also referred to as the Company, we, us, our, and Franklin Covey) and subsidiaries. This discussion and analysis should be read together with our consolidated financial statements and related notes, which contain additional information regarding the accounting policies and estimates underlying our financial statements. Our consolidated financial statements and related notes are presented in Item 8 of this report on Form 10-K.

EXECUTIVE SUMMARY

Franklin Covey Co. is a global content and intellectual property company focused on individual and organizational performance. Our mission is to "enable greatness in people and organizations everywhere," and we believe that we are experts at solving seven pervasive, intractable problems, each of which requires a change in human behavior. Our approximately 630 employees worldwide are organized to address these seven problems, which include the following:
Leadership, Execution, Productivity, Trust, Loyalty, Sales Performance, and Education. As we deliver our solutions to these problems, we believe there are four important characteristics that distinguish us from our competitors.

1. World Class Content - Our content is principle centered and based on natural laws of human behavior and effectiveness. Our content is designed to build new skillsets, establish new mindsets, and provide enabling toolsets.

2. Breadth and Scalability of Delivery Options - We have a wide range of content delivery options, including: on-site training, training led through certified facilitators, on-line learning, blended learning, intellectual property licenses, and organization-wide transformational processes, including consulting and coaching.

3. Global Capability - We operate four regional sales offices in the United States; wholly owned subsidiaries in Australia, Japan, and the United Kingdom; and contract with licensee partners who deliver our curriculum and provide services in over 140 other countries and territories around the world.

4. Transformational Impact and Reach - We hold ourselves responsible for and measure ourselves by our clients' achievement of transformational results.

Our offerings are described in further detail at www.franklincovey.com. The information contained in, or that can be accessed through, our website does not constitute a part of this annual report. These descriptions should not be viewed as a warranty or guarantee of results. We have some of the best-known offerings in the training industry, including a suite of individual-effectiveness and leadership-development training products based on the best-selling book, The 7 Habits of Highly Effective People and its execution process, The 4 Disciplines of Execution.

Our results for the fiscal year ended August 31, 2012 reflect continued momentum in the marketplace as we experienced improved operating results and strengthened our liquidity position during the fiscal year. Our sales increased to $170.5 million compared with $160.8 million in fiscal 2011 and $136.9 million in fiscal 2010. Our fiscal 2012 sales represent 6 percent growth compared with fiscal 2011 and 25 percent growth compared with fiscal 2010. Fiscal 2012 fourth quarter sales were $51.0 million, which represents the strongest quarterly sales performance ever under our current business model. Sales growth was generally broad based across our primary delivery channels and course offerings during the year. The following table sets forth sales data from our continuing operations by category and by our primary delivery channels (in thousands):


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YEAR ENDED
AUGUST 31,                 2012         Percent change        2011         Percent change        2010
Sales by Category:
Training and
consulting services      $ 158,779                    5     $ 150,976                   17     $ 129,462
Products                     8,456                   13         7,455                   76         4,226
Leasing                      3,221                   36         2,373                  (26 )       3,186
                         $ 170,456                    6     $ 160,804                   17     $ 136,874

Sales by Channel:
U.S./Canada direct       $  86,698                    2     $  85,397                   24     $  68,695
International direct        28,773                    5        27,464                   13        24,228
International
licensees                   14,301                   14        12,590                   14        11,092
National account
practices                   27,367                   20        22,780                   17        19,447
Self-funded marketing        8,368                   (7 )       9,013                   12         8,075
Other                        4,949                   39         3,560                  (33 )       5,337
                         $ 170,456                    6     $ 160,804                   17     $ 136,874

Nearly all of our major practices and content groups had increased sales and we believe that our ongoing investments in curriculum development and increasing the size of our sales force will help us maintain this favorable sales growth momentum.

Our gross profit for fiscal 2012 increased to $112.7 million compared with $103.5 million in fiscal 2011 primarily due to increased sales. Our gross margin, which is gross profit as a percent of sales, increased to 66.1 percent compared with 64.3 percent in fiscal 2011 primarily due to increased international licensee royalty revenues and increased facilitator sales.

Our operating expenses increased $2.7 million primarily due to a $4.2 million increase in selling, general, and administrative expenses that was partially offset by a $0.4 million decrease in depreciation expense and a $1.0 million decrease in amortization expense.

Increased sales and improved operating margins combined to increase our income from operations to $17.6 million compared with $11.1 million in fiscal 2011. Our net income increased 63 percent to $7.8 million ($.43 per diluted share) in fiscal 2012 compared with $4.8 million ($.27 per diluted share) in the prior year.

Further details regarding these items can be found in the comparative analysis of fiscal 2012 to fiscal 2011 as discussed within this management's discussion and analysis.

Our liquidity position strengthened significantly during fiscal 2012 and we had $11.0 million of cash and cash equivalents at August 31, 2012 compared with $3.0 million at August 31, 2011. Our working capital (current assets minus current liabilities) increased to $27.5 million at August 31, 2012 compared with $16.7 million at the end of fiscal 2011. For further information regarding our cash flows and liquidity refer to the Liquidity and Capital Resources discussion found later in this management's discussion and analysis.

Business Overview

We believe that our internal, or organic, growth and continued innovation with respect to our content and curriculums are the foundation of our long-term strategic growth plan. Each year we invest significantly in the development and enhancement of our existing content and to develop new services, features, and products. We expect to continue the introduction of new or refreshed content and delivery methods and consider them key to our long-term success.

Other key factors that influence our operating results include the number of organizations that are active customers; the number of people trained within those organizations; the continuation or renewal of


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existing services contracts; the availability of budgeted training spending at our clients and prospective clients, which is significantly influenced by general economic conditions; and our ability to manage operating costs necessary to develop and provide meaningful training and related products and services to our clients. For a further discussion of risk factors that may influence our results of operations and financial position, refer to Item 1A - Business Risks as contained in this report on Form 10-K.

Our fiscal year ends on August 31, and unless otherwise indicated, fiscal 2012, fiscal 2011, and fiscal 2010 refer to the twelve-month periods ended August 31, 2012, 2011, and 2010 and so forth.

RESULTS OF OPERATIONS

The following table sets forth, for the fiscal years indicated, the percentage of total sales represented by the line items through income from continuing operations before income taxes in our consolidated statements of operations. This table should be read in conjunction with the following discussion and analysis and the consolidated financial statements, including the related notes to the consolidated financial statements:

YEAR ENDED
AUGUST 31,                                                 2012        2011        2010
Sales:
Training and consulting services                           93.1 %      93.9 %      94.6 %
Products                                                    5.0         4.6         3.1
Leasing                                                     1.9         1.5         2.3
Total sales                                               100.0       100.0       100.0

Cost of sales:
Training and consulting services                           30.6        32.3        32.1
Products                                                    2.3         2.3         1.6
Leasing                                                     1.0         1.1         1.2
Total cost of sales                                        33.9        35.7        34.9
Gross profit                                               66.1        64.3        65.1

Selling, general, and administrative                       52.5        53.0        56.7
Depreciation                                                1.8         2.2         2.7
Amortization                                                1.5         2.2         2.7
Total operating expenses                                   55.8        57.4        62.1
Income from operations                                     10.3         6.9         3.0
Interest income                                             0.0         0.0         0.0
Interest expense                                           (1.4 )      (1.6 )      (2.1 )
Discount on related party receivable                       (0.8 )         -           -
Income from continuing operations before income taxes       8.1 %       5.3 %       0.9 %

FISCAL 2012 COMPARED TO FISCAL 2011

Sales

We offer a variety of training courses, consulting services, and training-related products that are focused on leadership, execution, productivity, trust, loyalty, sales performance, and education that are provided both domestically and internationally through our sales force, certified client facilitators, international licensee partners, or through the Internet in on-line presentations. For the fiscal year ended August 31, 2012, our consolidated sales increased by $9.7 million to $170.5 million. The following sales analysis for the fiscal year ended August 31, 2012 is based on activity through our primary sales channels:


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U.S./Canada Direct - This channel includes our four regional field offices that serve clients in the United States and Canada and our government services group. During fiscal 2012, sales through our four regional offices increased by $4.7 million, or 8 percent, compared to the prior year. We believe that our strategy of additional sales personnel, increased events, and focus on our practice groups were key drivers of increased sales at our regional sales offices during the year. Partially offsetting increased regional office sales were expected reductions from contracts with a governmental agency that included more revenue in the initial phases (which occurred primarily in fiscal 2011) of the contracts than in subsequent periods. As a result, sales through our government services group decreased $3.4 million compared with fiscal 2011. However, during the third quarter of fiscal 2012 we won a renewal of these contracts with the governmental agency and we expect to continue to deliver training and consulting services throughout the life of these contracts, which includes the first three quarters of fiscal 2013, at similar levels to those delivered in the corresponding periods of fiscal 2012. We believe that we will be successful in renewing these contracts in fiscal 2013, but we cannot guarantee a successful outcome as many of the aspects of renewal are out of our control. Our sales through the U.S./Canada direct channel in future periods will be sensitive to general economic conditions and renewal of the existing contracts, such as the government services contracts described above. However, we remain optimistic about future growth and looking forward, our pipeline of booked days and awarded revenue continues to be strong and at August 31, 2012 exceeded the prior year.

Subsequent to August 31, 2012 the northeastern region of the United States suffered significant infrastructure damage from Hurricane Sandy and other storms that followed. As a result of these storms, many of our clients were unable to operate their businesses for a period of time. Although we expect our clients to reschedule postponed programs in future periods, we anticipate that storm related cancelations may adversely impact our first quarter sales in fiscal 2013 by approximately $0.3 million to $0.4 million.

International Direct - Our three international offices are located in Australia, Japan, and the United Kingdom. The improvement in international direct sales was primarily due to increased sales in Japan, which increased $2.2 million compared with fiscal 2011. The sales growth in Japan was primarily due to the recovery of the Japanese economy from the effects of the devastating earthquake and tsunami that struck northern Japan during March 2011. Sales were also up $0.2 million at our office in the United Kingdom during fiscal 2012. However, these increases were partially offset by a $1.1 million decrease in sales at our office in Australia, which were primarily attributable to sales force performance issues that we have addressed and we expect improvement in Australia in future periods. During fiscal 2012, the translation sales from foreign currencies to United States dollars had a $0.7 million favorable impact on our international office sales.

International Licensees - In countries or foreign locations where we do not have an office, our training and consulting services are delivered through independent licensees, which may translate and adapt our curriculums to local preferences and customs, if necessary. Our licensee sales increased $1.7 million compared with the prior year as many of our licensees reported strengthening sales in their countries during the year, which resulted in increased royalties. However, continued civil unrest and economic uncertainty in some of the countries where our licensees operate may have adverse effects on certain licensees' performance in future periods.

National Account Practices - Our national account practices are comprised of programs that are not typically offered in our regional field offices and include The Leader In Me curriculum designed for students from our education practice, Helping Clients Succeed from the sales performance group, and Winning Customer Loyalty from our customer loyalty practice. During fiscal 2012, our national account practice sales increased due to a $4.2 million increase in education practice sales resulting from a general increase in demand for these school-based services as The Leader In Me program continues to generate favorable results at schools in the United States and in other countries. Our sales performance practice also increased sales by $0.9 million over the prior year as this group obtained new contracts during the fiscal year. These increases were partially offset by a $0.5 million decrease in customer loyalty practice sales primarily resulting from the completion of a large contract in fiscal 2012.


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Self-Funded Marketing - This group includes our public programs, book and audio sales, and speeches through our speakers' bureau. The decrease in sales was due to reduced public speaking revenues resulting primarily from the retirement of Dr. Stephen R. Covey from public speaking events in late fiscal 2011. Decreased speakers' bureau sales were partially offset by a $0.5 million increase in book and audio product sales resulting primarily from the release of new publications during the year. We expect to continue to release new publications in future periods and believe that these new publications will continue to show strong performance in the marketplace.

Other - Our other sales are comprised primarily of leasing sales and shipping and handling revenues. The increase in other sales was primarily due to improved leasing revenues resulting from new lease contracts at our corporate headquarters. We continue to have vacant space available for lease at our corporate headquarters campus and we are actively seeking new tenants for this available property.

Gross Profit

Gross profit consists of net sales less the cost of services provided or the cost of goods sold. Our cost of sales includes the direct costs of conducting seminars, including presenter costs, materials used in the production of training products and related accessories, assembly and manufacturing labor costs, freight, and certain other overhead costs. Gross profit may be affected by, among other things, the mix of training and consulting courses sold to clients, prices of materials, labor rates, changes in product discount levels, and freight costs.

Our consolidated gross profit for the fiscal year ended August 31, 2012 increased to $112.7 million compared with $103.5 million in the prior fiscal year. The increase was primarily due to significantly improved sales in fiscal 2012 over fiscal 2011. Our consolidated gross margin increased to 66.1 percent of sales in fiscal 2012 compared with 64.3 percent in the prior year. The improvement in gross margin was primarily due to increased international licensee royalty revenues, increased facilitator sales, and increased intellectual property license sales, all of which have higher gross margins than the majority of our other programs and services.

Operating Expenses

Selling, General and Administrative - Our selling, general, and administrative (SG&A) expenses in fiscal 2012 increased $4.2 million compared with fiscal 2011. However, as a percent of sales, SG&A expenses declined to 52.5 percent of sales compared to 53.0 percent in the prior year. The increase in SG&A expenses was primarily due to 1) a $3.2 million increase in associate costs resulting from increased sales commissions and bonuses resulting from improved sales and operating results, and the addition of new personnel; 2) a $2.4 million increase in advertising and promotional costs that were primarily related to the launch of our new productivity offering The 5 Choices to Extraordinary Productivity and the launch of new strategic marketing initiatives that we believe had a favorable impact on overall fiscal 2012 sales; and 3) a $1.0 million increase in non-cash share-based compensation costs, primarily resulting from performance awards granted in the fourth quarter of fiscal 2011. These increases were partially offset by 1) a $1.0 million decrease in rent and utilities expenses primarily the result of reduced rent expense at our Japan office and reduced telephone and communication expenses; 2) a $0.7 million decrease in legal expenses resulting primarily from the settlement of certain litigation and the reimbursement of previously expensed legal costs; 3) $0.4 million of decreased professional services costs compared to the prior year; and 4) a $0.2 million reduction in outsourced services charges resulting primarily from a reduction in outsourced information technology support costs.

Depreciation - Depreciation expense decreased by $0.4 million compared to fiscal 2011 primarily due to the full depreciation of certain capital assets during the latter half of fiscal 2012. Based upon anticipated capital asset acquisitions in fiscal 2013 and previous depreciation expense levels, we currently expect depreciation expense to decline compared with fiscal 2012 amounts and to total approximately $2.8 million during fiscal 2013.


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Amortization - Amortization expense from definite-lived intangible assets decreased $1.0 million due to the full amortization of certain intangible assets in late fiscal 2011. As a result, we currently expect that intangible asset amortization expense will remain consistent with fiscal 2012 levels and to total approximately $2.5 million in fiscal 2013.

Discount on Related Party Receivable

Due to the settlement of litigation during fiscal 2012, with a required settlement payment by FC Organizational Products (FCOP), the amount of cash we received from FCOP was reduced from previous forecasts and our receivable balance from FCOP increased during fiscal 2012. In the fourth quarter of fiscal 2012, we received revised information from FCOP regarding scheduled payments to us and we reclassified a portion of the FCOP receivable to long-term assets and recorded a discount charge of $1.4 million to reduce the long-term receivable to its estimated present value at August 31, 2012. We discounted the long-term portion of the receivable based on forecasted repayments at a discount rate of 15 percent, which was the estimated risk-adjusted borrowing rate of FCOP at August 31, 2012. This rate was based on a variety factors including, but not limited to, current market interest rates for various qualities of comparable debt, discussions with FCOP's lenders, and an evaluation of the realizability FCOP's future cash flows. Based on improved operating results at FCOP during calendar 2012 and their forecasted cash flows in future periods, we believe that we will collect amounts receivable from FCOP and the discount will be recovered as interest income in future periods. However, the failure of FCOP to pay us for these receivables may have an adverse impact on our liquidity, financial position, and cash flows in future periods.

Income Taxes

Our effective tax rate for fiscal 2012 was 43 percent and remained consistent with fiscal 2011. Our effective income tax rate was higher than statutory combined rates primarily due to taxable interest income on outstanding management common stock loans and uncertain tax positions. These increases in our effective rate were partially offset by the benefit of foreign tax credits in excess of the tax on income taxed by both U.S. and foreign jurisdictions. The effective tax rate for fiscal 2012 and fiscal 2011 includes the benefit of foreign tax credits to be claimed on our U.S. federal income tax returns.

We anticipate that our cash paid for income taxes will remain significantly less than our income tax provision during the foreseeable future as we utilize domestic net operating loss carryforwards and other deferred income tax assets. For instance, during fiscal 2012 we paid $2.3 million of cash for income taxes. After our domestic net operating loss carryforwards are utilized, we will be able to utilize our foreign tax credits, which will reduce our income tax liability in future periods. After utilization of these deferred tax assets, we expect our cash paid for income taxes to increase and match more closely a normalized provision for income taxes.

FISCAL 2011 COMPARED TO FISCAL 2010

Sales

The following analysis of our sales performance for the fiscal year ended August 31, 2011 is based on activity through our primary delivery channels as defined above.

U.S./Canada Direct - During fiscal 2011 we had increased sales at all of our offices in this channel, including our government services group. Sales through our regional sales offices increased by $8.4 million compared with fiscal 2010. These sales increases were broad based across nearly all of our practices and training programs offered. Sales through our government services group increased $8.3 million primarily due to contracts with a division of the federal government obtained during the third and fourth quarters of fiscal 2010. We recognized $16.8 million from these government services contracts during fiscal 2011, which is more than ten percent of our consolidated revenues for the year.


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International Direct - The improvement in international direct sales was primarily due to increased sales in Japan, which increased $3.3 million (on a continuing operations basis) compared to fiscal 2010. Despite the effects of the devastating earthquake and tsunami that struck northern Japan during March 2011 and caused our office to be closed for two weeks, we were able to recognize improved sales primarily due to increased publishing sales and the favorable impact of translating Yen-denominated sales to U.S. dollars. Although the natural disaster produced increased cancelations during the fiscal year, training and consulting sales remained flat compared to the prior year. Sales were also up $0.5 million at our office in Australia, and decreased by $0.6 million at our office in the United Kingdom.

International Licensees - During fiscal 2011, the majority of our larger foreign licensees had increased sales compared to the prior year, which resulted in a $1.4 million increase in licensee royalty revenues.

National Account Practices - During 2011, we had increased sales in each of the national account practices, which was led by a $1.6 million increase from our education practice.

Self-Funded Marketing - The increase in sales was primarily attributable to royalties related to new books. However, with the retirement of Dr. Stephen R. Covey from public speaking engagements during late fiscal 2011, overall speaking presentation revenues are expected to decline in future periods.

Other - The decrease in other sales was primarily due to reduced leasing revenues as certain lease contracts at our corporate headquarters expired in prior periods.

Gross Profit

Our consolidated gross profit increased to $103.5 million in fiscal 2011 compared to $89.1 million in the prior fiscal year. This increase was due to significantly improved sales during fiscal 2011. Our consolidated gross margin was 64.3 percent of sales in fiscal 2011 compared to 65.1 percent in the prior year. The slight decrease in gross margin percentage was primarily due to margins on a government services contract sale that included intellectual property that occurred in the fourth quarter of fiscal 2010 that did not repeat in the current year, increased sales of training programs that have higher costs, and decreased facilitator sales. These factors were partially offset by increased international licensee royalty revenues in fiscal 2011.

Operating Expenses

Selling, General and Administrative - Our SG&A expenses increased $7.7 million in fiscal 2011 compared with fiscal 2010. However, as a percent of sales, SG&A expenses declined to 53.0 percent compared to 56.7 percent of sales in the prior year. The increase in SG&A expenses was primarily due to 1) a $2.4 million . . .

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