Franklin Covey Co (FC) 2011 Q2 法說會逐字稿

Good day ladies and gentlemen, and welcome to the Second Quarter 2011 Franklin Covey Company Earnings Conference Call. My name is Derek, and I will be your operator for today.

(Operator Instructions)

As a reminder, this conference is being recorded for replay purposes. I would now like to the conference over to Mister Derek Hatch, Corporate Controller with Franklin Covey. You may proceed.

Thank you. Before we begin today, this afternoon's presentation, I want to once again, thank you for joining us, and we will begin with the forward-looking statements. 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 ability of the Company to hire productive sales professionals, general economic conditions, competition in the Company's targeted market place, 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 policy of the Company's clients and other factors 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 and 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 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. With that out of the way, we'd like to turn the time over to our Chief Executive Officer and Chairman of the Board, Mister Bob Whitman.

Thank you, Derek. We are delighted to have the chance to talk with all of you today and appreciate you joining us. Hopefully each of you have seen the press release that went out about an hour ago, and we are also delighted to report that revenues were up 19% for the quarter and 20%-- 21% year-to-date. And that our adjusted EBITDA for the quarter was up 78% and up 68% year-to-date. So, this hopefully will be a more fun call, and continue to progress over the last many quarters. I like to organize my comments then on the following four headlines.

First, we are pleased the Company's strong performance and results in the second quarter. Second, we continue to be encouraged by the strong booking trans momentum, we are continuing to see in the business. Third, based on these trends, we expect to achieve significant growth in revenues and profitability during 2011. And fourth, that we believe we have the opportunity to continue strong growth in the future.

So, I will just give some background on each of those. In terms of the quarter, from a revenue perspective, revenue for the second quarter totaled $35.5 million, which is an increase of $5.7 million or 19.2%, compared to the $29.8 million in revenues that we achieved the second quarter of fiscal 2010. This was pretty much as expected because our strong bookings during the fourth and first quarters were expected to translate into significant revenue growth and they did.

As shown in slide four, we are pleased to have achieved in all of our major channels. Revenues in our government services group grew by $2.6 million in the quarter, reflecting the previously discussed government services contract that we were awarded at the end of last year's third quarter. We also achieved growth in all of our other key channels. In fact, seven of the eight direct offices, both domestic and international, grew revenues during the second quarter, as did three of our four field support practices, our international licensee partners as a group, and all three of our national account practices.

You remember from last quarter, that the sales performance had been down all of the last quarter reflecting the lower revenue repeat of the kickoff of the big contract last year. We expected it to come back this quarter and they did. Revenues in our four geographic directiles from the US, excluding the government services region, grew $2.4 million or 20% in the quarter, again reflecting the delivery of the training engagements booked during the fourth and first quarters, and all four of our geographic domestic offices grew revenues during the quarter. Revenues also grew in our international direct offices by 13%, including Japan where revenue grew 23%. We also achieved growth in our Australian office.

Revenue in the UK office was essentially flat for the quarter, slight decline of $77,000, but based on bookings we expect UK revenues to be slightly up, flat to slightly up, but probably slightly up to last year, during the third quarter. Our international licensee partner royalties revenues grew 12% in the quarter with most other international licensee partners going over the prior year including nine of the 10 largest partners. And then in our national account practices, our educational practice grew, the sales performance practice grew, as did the customer loyalty practice. So, very broad-based. Good bookings in all of our areas, which is encouraging for the future.

From a profitability standpoint, our gross margin dollars increased by $3.8 million, or 20% for the quarter. Our gross margin percentage increased a little bit to 65.1% versus 64.9% in the second quarter of fiscal 2010. And we were really pleased to be able to maintain or improve our gross margin percentage in all of our major offering categories. Our SG&A expenses declined to 56.1% of sales during the second quarter, compared to 62.1% of sales in the second quarter 2010. In absolute dollar terms, SG&A expense increased approximately $1.4 million during the quarter, compared to last year, this of course is primarily due to an increase in associate costs, or commissions there is (inaudible) increased commissions on the improved sales compared to prior year.

Terms of profitability as we said, the strong revenue growth and improvements in gross margin and SG&A, percentages resulted in an adjusted EBITDA for the quarter being $3.6 million. This is up $1.6 million or 77% compared to last year second quarter. Year-to-date, as I noted earlier, we are up 68% year-to-date, we have had a good strong entire six months. Income from operations increased $2.6 million during the quarter, to $1.5 half million. Pre tax income of $850,000 was up $2.7 million compared to a loss of $1.85 million during last year second quarter. So, on this first point we felt very good--really good about the Company's second-quarter performance on essentially every major method.

Second point, is that we continue to be excited and encouraged by the trends we are seeing in the business . We are very encouraged by the continued strong momentum in our bookings during the second quarter, as you can see on slide five. One of our key metrics is what we refer to as booked days, which are commitments for the future delivery of training engagements on site at client locations. This metric is tracked primarily for our North American direct offices, and so these numbers are reflective only of that group and our domestic practices. As shown on slide five, in last year's second quarter we booked approximately 2100 days for future delivery in North America, which of course is up a lot of versus the prior year and this year second quarter we booked approximately 2750 days for future delivery which is an increase of just over 30% during the quarter.

As shown on slide six, the strong booking momentum and the addition of new contracts during the quarter resulted in our closing the quarter with approximately 12 million more in our pipeline of booked days and awarded contract revenue to be delivered in future months and quarters. Primarily, in our North American operations where we collect this data, then we added the end of the second quarter a year ago. We expect as normal the bulk of these bookings will be delivered over the next two to three quarters. As it has over the past-- as always a portion of this pipeline relates to government contracts.

Starting at the end of last year's third quarter, as you recall, the pipeline jumped a lot because we had this one very large contract. That continues to be a portion of this but not a majority by far, approximately 20% of this pipeline. Because it is a government contract, the exact timing of it any day, we are always hopeful that the government will keep the budget going each day. Today they have--To date, they have. We are hopeful that he government will continue to fund this operation so this revenue will continue. As you may also recall, is that it just noted the large new government contract was first reflected in our pipeline reported at the end of last year's third quarter. And this added significantly to both the overall size of our pipeline and to the incremental growth in our pipeline then and since.

Although we expect to continue to receive significant revenues from this contract in the future, beginning at the end of the third quarter, the year-over-year growth in the size of our total pipeline related at least to this contract, will be much less than it was at the end of the third quarter last year when the first big bump happened. On the other hand, the vast majority of our total pipeline relates to non government operations, and a significant portion of any year-over-year growth that we've had in the size of our pipeline also relates to our non government operations. We expect this portion of the pipeline to continue to have strong growth. Again, as noted we still have $12 million more in revenue already on the books to be delivered in coming quarters, than we had at this same time last year. So we expect our future growth be strong.

Third point, is based on these trends, we expect to achieve continued improvement in both revenues and profitability during the back half of 2011. As a result of this booking momentum and the strength of other lead measures, we really expect to achieve this growth, despite the potential impact of the earthquake and the tsunami on the operations of our Japanese office. But just to make a few comments about our Japanese office. Thankfully, all of our associates and their families are safe and well, and most experienced very little damage to their homes or property, which is good. Our office shook, and we lost a couple of computer monitors that fell to the floor, but otherwise we experienced very little damage and all of our employees are back at work full-time.

We were very fortunate, that we feel ourselves and among our associates, but obviously we feel like, like you all do, very deeply for the human loss and devastation in the physical and emotional toll these events are taken on Japanese people is beyond belief. A testament to their resiliency, really the resilience of all the Japanese people, is that by most reports companies employees are now back at work, and things are moving ahead as mush like normal as they can be. As relates to our business obviously in the first ten days following the earthquake with electricity and transportation disrupted and the nation focused on the tragedy, many people asked to stay home.

Some of our training engagements were canceled or rescheduled, but this notwithstanding, we expect that our March revenue and profit will still be higher than planned and than last year, with the tsunami happening mid month. Encouragingly, more than half of the training days that were canceled came from one large insurance client, who has currently all of their available people focused obviously on assisting and processing insurance claims and therefore, they had to cancel or delay training. But, overall, to date, cancellations have not been wide spread.

In terms of our own new bookings, our pace has been consistent with the average booking pace for the year, which is ahead of last year. But in this month, it will be below the accelerated pace of the previous two much which is understandable. As a consequence of these new bookings, this ongoing booking activity, we had more revenue come onto the books than has been canceled to date. So despite any impact in Japan, based on the strong pipeline of booked days and awarded revenue, and on the momentum we have, we continue to expect that we will achieve our adjusted EBITDA range between $18 million and $21 million in 2011, and we believe that the opportunity to continue to achieve strong performance in the coming quarters of the year, remains substantial as each of our operations is gaining strength.

Just maybe note that this growth in terms of --but understand this potential for growth and over the past several years has been driven by two key initiatives. One is the growth in the size of productivity of our sales forces, both in our direct offices, and our licensee offices, and the second has been the growth in our practices, both those we call field support practices, and international account practices. As you can see on slide seven, from 2004 to 2010, driven primarily by the increases in the size and productivity of our sales and delivery forces, revenue in our direct offices grew 28%, and EBITDA grew 67%. In slide eight, during the same years, you see that royalty revenue for international licensees partners more than doubled from $4.3 million to $9.2 million, reflecting revenue growth in their own operations between $25 million to something like $65 million.

During these same years, our national account practices almost doubled revenues from $9.8 million to $19.5 million. So we believe that our seven practice areas, execution, education, speed of trust, sales performance, customer loyalty, and our two newest areas, that we designated as practice of leadership and productivity. Each has the potential in coming years to achieve at least $50 million in revenue, even at relatively low levels of penetration in their defined markets. And toward this goal, we believe that over the next three or four years, revenue in the practices should grow by approximately $40 million, with something like 30% flow through just from the gross practices alone. We also expect to nearly double the size of our sales and delivery force over the next four years, and we expect this acceleration to produce significant revenue and profit growth in the business.

In summary, we were very encouraged by our results. The momentum we're seeing in the business is good, seems strong. We believe we will have the potential to achieve strong growth in future quarters and years, and we will look forward to reporting on our continued progress as we go through the year. When Steve Young and I talk to you, and to our other prospective shareholders, there are several questions which seem to come up frequently. And today, rather than ask each of our executive team members to give a report on their areas of responsibility, we thought it might be helpful to address three of the most frequently asked questions, that we--that Steve and I get.

We'd like to do that as three frequently asked questions, and then our executive team will be on the line should you have any specific questions. The three questions that Steve and I would like to address are these. One, many of you have asked for a review of how our revenue breaks down by practice area. Steve is going to provide that and discuss that. Second, we get asked lot of times, how we think about the valuation of the Company, and knowing everything we know, how do we look at the valuation of the Company, and I thought that maybe it would be helpful to share three different lenses through which we look at that question. And third, which we've covered in some other web casts, and we will just do briefly, what should investors understand some unusual balance sheet items. Following this, we will open it up to answer your general questions, and I am now going to turn this on to Steve Young to address question one, which how our revenue breaks down by practice area.

Thank you, Bob, and good afternoon everyone. It's nice to be with you. So as Bob said, for the first time on our conference call we are presenting the sales results summarized by practice. If you look on page 11, you'll see each practice is listed separately, and the results are compared to the prior year. We hope that this information is meaningful to you. You'll notice on page 11 that six of the seven practices show significant growth. Only one practice is down, due primarily due to being compared to a very strong result last year.

We expect all of these practices to grow, and to grow quite significantly in the future. For several quarters now, we have said that we are investing in practices. This means that we have been investing in the leadership, offerings, marketing et cetera, related to these seven practices. We believe that our investments are paying off, and that the practice leadership has been and will continue to be a crucial part of our growth strategy. Behind each one these rows or each one of our practices, is the developed and developing leadership team.

These practice leaders are the ones who are experts in their subject matter, they are thought leaders, they are business developers and closers, they are the ones who-- are the business leaders who create and maintain, leverage business models and the ones who can keep these practices laser focused. So you can see the numbers there, that, that there are significant growth in the practices, and we are excited about the leadership team and the practice leads over each of these practices. We are excited and based upon the foundation that has been laid, and upon our results so far as you can see, we do expect these practices to grow. So, Bob, that is a summary of page 11.

I think that is very helpful. As Steve said, we see the expansion of our EBITDA margins, and covered those fixed costs, and we plan these different practices so to speak, and they had to come up through the ground, and get profitable, and each of them now contributes meaningfully on the margin, more than 30% incremental margins to the bottom line of growth. Thank you, Steve. So the second question that we are going to try to address today, is how we think about the valuation of the Company. Because you have asked us that, we thought we would share the information with everybody. I'd like to maybe share three perspectives on the valuation, we hope you'll find it useful. We know of course that you will do it your own way, and you already do it your own way but nevertheless, it might be helpful to see it as we see it.

First, someone maybe suggested three different lenses to which to view valuation as least that we do. One, is that under one way of assessing value, our current--the current market cap reflects only the value of our international licensees business alone. I know that is a bold statement, but that is actually how we see it. In my prior investment experience, and attempting to establish a value for the Company, we would try to value each of the company's assets and operations and see how far through the assets and operations you had to go, starting from the top, before you effectively got the rest of the company for free so to speak. At Franklin Covey, that analysis, you might conclude that you only have to go through one operation, which is the value of international licensee business before you might feel that you were effectively getting the rest of the company for free.

Our licensee business includes licensees, with 42 international licensee partners each of them pays us royalties, equal to approximately 15% of their gross revenues. Last year, this business generated EBITDA more than $8 million and this business has grown significantly during the first two quarters. Our international licensee partners are tremendously capable people who have more doubled their business over the next five to six years with their collective revenues growing from approximately $25 million to more than $70 million, and our royalties going from approximately $4 million to $10 million. Our overhead for running this operation is a couple of million is pretty fixed, because we already have our regional people in place.

We believe the growth of these licensee employees to double their operations again in the next four to five years, as many are really accelerating their progress. This business as you know is non-capital intensive, it generates great royalties, our agreements with most licensee partners require annual increases in their minimum royalty payments to us, and as we have evaluated businesses that might be similar, not just saying that we are correct, but as we looked at it, businesses like this, but have been--that reasonable movement we think that this kind of business is maybe 16 times EBITDA for that particular kind of business, and if you were to valuate this, the value-- there are some a trade above and some below, that this is a unique business. The value of the licensee business alone is arguably higher than the current marketing cap of the Company.

For those who might want to use a lower EBITDA multiple, it might mean you have to add the education practice to the licensees before you get the rest of the company essentially for free. However one values the licensee business, we believe it is worth a substantial amount, and have no intention of selling it. But this provides a significant--this underpinning of value provides a significant downside protection of value for investor purchases Franklin Covey stock, and we hope with that foundation underpinning it, you can focus on growth. That is one lens.

The second lens, evaluation, is one that depends on the peer group to which we are compared. We believe that investors often struggle with which peer group to compare it. Within the corporate training business or related kind of things, on one end of the spectrum there are companies that are sometimes referred to as body shops, where most of the training and consulting is customized and conducted or delivered by humans and by consultants and therefore viewed as less scalable. These companies in our analysis tend to trade at around 10 times EBITDA.

At the other end of the spectrum are subscription services, consulting light, or product type consulting companies who primarily sell products or services with a third or less of their revenues coming from consultant billing. These companies often trade between 15 and 22 times EBITDA. We are currently valued at a lower multiple than at even the lower end of the body shops. In fact, our mix of business--in fact though our mix of our business is much closer to the subscription services, consulting light or privatized consulting companies. You might interested to know that more than 60% of our revenues come from trading-- training products, subscriptions, training materials, online contracts, et cetera. And our on-site trainers are often just the first step in the training process that openly results in companies buying manuals, buying intellectual property et cetera.

So it is more of an entry point than it is an end point. Did you know we have 9500 active trainers certified inside companies, they order materials, and deliver training pursuant to intellectual property contracts and the like. If you look at slide nine, perhaps a good measure for looking at the relative scalability of our business on this scale, is body shop on one end, to subscription services on the other, it shows on slide nine, a great company like GP Strategies, which provides more consulting services, according to the information from their public filings, generates revenue per employees of approximately $137,000 per employee. And they are a great company. Just a different model.

The other end of the spectrum, a great company like Corporate Executive Board, whose offering is more subscription services oriented, generates revenue from employee of $234,000, while someone like Gartner Group, who is also more on the subscription services scale, end of the scale, achieved revenue per employee of $289,000. As you see in this slide, our revenue per employee is actually closer to that being achieved by Corporate Executive Board and Gartner, than it is to the more consulting oriented companies. But unless you see it in that peer group, which we probably haven't done a good job of doing it, you might think we are more of a body shop than a productized consulting.

So finally then, the third view is, rather than valuing Franklin Covey on an EPS basis, we believe that valuing it on a total enterprise value to EBITDA, or perhaps even better, on a total enterprise value to free cash flow is much more reflective of the true multiple. As you know, some of you know, because of the required accounting for the sale lease back of our corporate campus, several years ago, our campus real estate still appears on our balance sheet as an asset that is being depreciated, even though we haven't owned it for at least five years. On our balance sheet is also the related capitalized lease obligation which is also just a lease obligation.

As a result of this and other factors, we report large non-cash depreciation and amortization charges, and in fact our depreciation and amortization is approximately $8 million a year for as our ongoing CapEx spending as little more than $1 million a year. So that gap and the real economics suggest that the total enterprise value to EBITDA is a much better method to value than EPS multiple. Even better measure perhaps is to look at total enterprise value to after-tax free cash flow. Because of the significant profitability of this business, and a large approximately $28 million net operating loss tax carried forward in the US, and approximately $10 million in foreign tax credits, if we were to say, achieve $20 million in adjusted EBITDA, we would generate approximately $14 million of after-tax free cash flow.

So at current trading value, at today's closing price we are trading only approximately 10.4 times free cash flow. Whereas certain of our consulting light or subscription services peers are trading at 20 to 25 times free cash flow. So I think a lot of things, where we ought to trade, but it just seems like we think their downside protection and value provided by the underpinning of value that is in the--that the licensee business represents. That there is perhaps, for many in this categorization, or misunderstanding that our business today is really productized training and consulting business not a human based consulting business in that most of our revenues come from that.

And third, therefore, on a relative basis, whether it is relative to EBITDA or free cash flow we are trading at a-- there seems to be some real room for multiple expansion and evaluation. So, hopefully that is helpful. We do believe also that we have significant opportunities for the continued growth that I mentioned earlier, and that they are not being factored in very much. We believe in that, that the company is currently being valued very conservatively. So Steve, I'll turn it back to you to address the third question.

Thank you Bob. Again so, the third question we are asked often about our balance sheet uniqueness, I have entitled this section "hidden treasures". We do still have a $28 million net operating loss carry forward, and $10 million of foreign tax credit that will be very valuable to us in the future. We do have a financing obligation on our balance sheet that is really the capitalization of our rent. We do have $50 million plus of notes receivables that are reserved against and don't show our balance sheet.

To me these are all hidden treasures, even though they are uniqueness when they are understood or most of the time they are viewed positively. You might be interested to know that in the second quarter, we paid our revolving line of credit down by $9.8 million, in the quarter. Additionally, just to complete the slide, if you look at page 10, the adjusted EBITDA, this is the reconciliation of net income to adjusted EBITDA and please note, on this schedule, that we have included share-based compensation as a non-cash item. Obviously, that's listed on this sheet. We have talked about page 11. Page 12 is selected cash flow information that we include each time. Page 12 shows that our operations generated $5.9 million of cash in the quarter.

And lastly, page 13 is a page that is new to our webcast and conference call. Page 13 shows that for the trailing 12 months, our sales have grown 20% and adjusted EBITDA has grown 80%. And you can see the individual growth numbers there that Bob talked about. So we believe this was a very good quarter. Thank you.

Thank you, Steve. At this time we would like to open the call to questions from you. And so we will turn it over to our moderator to do so.

(Operator Instructions)

Questions will be taken in the order received. Our first question is coming from the line of Joe Janssen from Barrington Research. You may proceed.

Good evening. Joe Janssen.

How are you?

I'm doing good. I appreciate all the color on the evaluation perspective of your company. I think it is extremely helpful and I agree with you. I think investors have definitely been asking that question. If I could take this one step further, if possible, can I get a approximate EBITDA margins by business unit to help you get to that value?

Yes. That is a good question. We'll have it prepared today, we have no issue providing that in a future web cast. If you want me to give you, and try to give you a general idea today or we can wait until the next webcast, what would you like to do?

Any guidance would be helpful. I know you've mentioned international direct or excuse me, license practices were around 85% or 90% flow through, but the other ones would be helpful.

It looks at how marginal flow-through by business. Here is basically how you look at it, at domestic direct opposite because we have certain overhead that we cover and we operate a lot of their functions, collections and so forth, centrally. Gross margins are in the high 60%s, say 68%, our direct selling costs are about 20%. We have--when we hire new salespeople, we have a cost of starting them up, that compresses yield by 5% or so but even when you are growing and spending new money, and in some cases adding new consultants et cetera, we would end up in a division where between 40% and 45% of incremental revenue would flow through from our domestic direct offices, and those offices make up say $75 million of our business.

Our international direct offices, because they cover all their own overhead, do all their own accounts and billing, collections, have IT, et cetera, their overhead is heavier, the marginal contribution towards that overhead though is similar. Margins are actually slightly higher. In some cases like Japan, where we have third party sales agents in some areas, our selling cost may be higher but on the margins, you expect international direct offices, 30% to 35% flow through on incremental revenues and in certain of the offices like Australia and UK, you have something closer to 40% flow through on those direct offices.

In our international licensee business, because we have built the infrastructure already, and are covering that overhead, incrementally, not 100%, but something very close to 100% flow-through on incremental royalties, and we expect at this point, because we have teams in charge of Europe, the Middle East and Africa region, the Americas and Asia, that we will add very little additional costs as those businesses grow because we have already staffed up for that. Excuse me. I am so sorry. Excuse me.

In our practice areas, we have, as Steve mentioned, each of them has a team and we have added to those teams over the years. So the flow-through of some of these have been smaller than there will be going forward but now, that we generally be teams in place, our education business and these other direct practices, I'd say, education sales performance should flow-through in the mid-30%s on incremental revenue. In customer loyalty, it is lower because the portion of our revenue is from data collection which has lower margins but even with that, the flow through on incremental revenue is nearer the 20%s at this point. And so, I hope that is helpful. Joe, is that responsive to your question?

Yes, no, it is, I appreciate it. Another modeling question. It looks like in Q2, your tax rate was around 64% and bringing year-to-date tax rate around 69% and I think Steve did a good job highlighting this hidden treasures. Since it is difficult to model, any kind of guidance you can give for Q3 or Q4?

The percentage we are using is an approximate percentage of what we expect for the year. So, obviously, due to the maintenances that we have, that rate will go up and down depending on what the actual result is, but we are using 71% for the year.

For an annual basis?

As you know, that is not the cash basis.

Right, it's not cash based, right.

A lot of it is not reflective of the base business. It includes interest from the more than $50 million tax on the taxable income on the interest from $50 million of receivables that doesn't appear on the balance sheet, from the employee stock loan program. It includes also, when foreign cash gets transferred in, it includes at least implied tax on that.

Okay, and Bob, if I am looking one or two years out, margins are high, talk about a lot leveraging the business, and it looks like incremental contributions in Q2 are high 20%s, like 28% and overall, around 10.2% in the quarter. How high can that margin get and what level of revenue would I need to get to?

We think our targeted EBITDA to sales margin is 17%. And we believe that another $30 million in sales or so would get very close. To that margin. We have been moving it up quarter by quarter, on a trading 12 month basis and so I think it will take to get to 17%, will probably take another $30 million of annual revenue to get there. You could argue that above that, you could just keep going since you are adding 20% to 40% and 80% et cetera but then I think we would choose, if we got to 17% or so to accelerate our growth to try to keep the EBITDA margins in that range, I think you would be trading off growth for incremental profit if you tried to go much higher.

Great. I will jump back in queue.

Thanks.

Your next question comes from the line of Patrick Retzer from Retzer Capital. You may proceed.

Hello.

How are you?

Congratulations on a great quarter. I am good. We've sorted done this the last couple of quarters but now we are looking at very little debt. A company that generates a huge amount of cash, and I agree with all of your valuation methodologies, that the company the stock is way undervalued so when can we start buying back some stock here?

Maybe I can try to answer that almost mathematically, let's say up around $20 million in EBITDA that you generated over $14 million in free cash flow. For us the timing, even though the business is not that seasonal, because of our big fourth quarter, a lot of that cash is collected, a lot of the excess cash is going to come in at the end of the calendar year. In fact, we used about $12 million of the excess cash in December and early January to pay down our credit facility. At this point in the year, because sales built into our fourth quarter, where our working capital has been, via the earn out, toward the speed of trust practice, it did very well last year, and so we used a little over $5 million for the earn out payments in March, and so for us, the next big slug of cash given to refunding working capital, we will be generating profitable--obviously profitable operations and free cash flow but investing that free cash flow in working capital to fund this extra $12 million in sales that is in the pipeline, I would expect to answer your question Pat, that in November and December, next year, that is when we would start to see that $14 million of free cash flow and aside from the $5 million that we invested this year, that we would have $8 million or $9 million or $10 million that we would start to use at that point to return to shareholders in some form.

Okay. But based on where we are going here, and the fact that the stock doesn't create a lot of volume, wouldn't that make sense to start nibbling away on a gradual basis tomorrow? Even if we have to access a line of credit to do that?

It probably would, and that will be a topic we have had on the board. We just didn't know exactly the size of the payout. We also are growing a little faster than we had budgeted for the year, which is more working capital in a sense, but we also had some large clients, including the government clients, who because of the budget staffing we are -- the payables get stretched, the receivables get stretched a little bit. I think philosophically, you now we are not opposed, we've used more than $50 million of excess cash in the last year to buy back stock and think we feel the same way. We see the numbers, we just want to make sure we have plenty of liquidity to be able to grow sales. If we have another few contracts and--so our first investment will be that, is making sure we have plenty of working capital to grow and fund working capital. But beyond that, that is a pretty knowable amount, it's about 18% to 20% of incremental sales. And I think with that in mind, I suspect you will see it in coming quarters begin to put in some kind of a purchase authorization and began to nibble away at this.

Okay. From where I stand, the sooner the better, other than that, keep up the great work.

Thank you.

Your next question comes from the line of James [DeYoung] from Credit Suisse. You may proceed.

Hello Jamie.

Hello Bob. Nice quarter. I just have one question I wanted to ask you. Given the free cash flow this year say, $15 million, next year another $20 million, so that gets your enterprise value down to conservatively $120 million for the Company, and we are already more than two quarters of the way through this fiscal year. Pretty soon, I think you're going to get more analyst coverage, but people are going to start looking at valuing this Company off of next year's numbers, so any way you look at it, we are at 5.5 to 6 times enterprise value to cash flow for the business and growing top line 20%, bottom line conservatively 35%, 40%, so, is it fair building out some of the questions that were asked previously, given the cash flow comes in towards the back half of the year.

I'm less concerned about when we buy back the stock, but given what you talked about with the comps, and the Company currently trading at less than half of the other comps and more like 25%, when we start going off of next year's numbers, it's safe to say that you would be more than comfortable buying back stock at prices, at 50%, 60%, or 70% higher than where the stock currently trades, and you can't get coverage and other managers don't want to buy--take positions in the Company because it is ill -liquid you'd be more than happy to continue to take out the weak hands as you continue to grow the business. Am I not correct?

You are correct.

Perfect, thank you.

Any lack of purchasing has nothing to do with the price of the stock. If we believe in the future that we have laid out, the price is a small -- the price at which we buy is a small issue. For us it is just making sure that we have plenty of liquidity. For example, if we had used all of our cash two years ago to buy back stock, we would not have had the money to do the speed of trust practice, which has added $10 million-- $12 million of annual revenue to what we're doing. If we had invested all of our excess cash in a buyback, and then when this large government contract which required us to fund significant working capital for six months, we would have been a point where we would've had to have shut down sales in order to fund it and so for us, we understand and I think have demonstrated, an understanding that buying back stock at a discount is a smart thing to do.

We are managing a slightly more complex equation than that. That enters into the question, but it is only true excess cash flow, that could not possibly hurt the flow of the business that I'm going to invest. I appreciate, (inaudible) philosophically, yours and Pats comments are exactly on point. We couldn't agree--we couldn't be more philosophically aligned, we just have other factors to manage besides what is the share price, how much we've got to make sure that we can grow the business.

If there are accretive acquisitions to be made, that is a better use for the cash, I'm all for it. I'm just sitting here, looking at a business that is trading at 3.7 times enterprise value to EBITDA on next year's numbers in 5.5 times free cash flow to enterprise value. So it just makes no sense when you're looking at the comps, and we're growing faster than the comps. Anyway. Thanks a lot. Good work.

Thank you.

(Operator Instructions)

Your next question comes from Bill Gibson from Andrew [Strugley]. You may proceed.

Thank you for the comments on what is going on in Japan. But could you give us a little more flavor of some of the international licensees, specifically Europe, which is having their own troubles, and Asia, particularly India and China?

Sure. Thanks Bill, thanks for your interest. Europe, for us, is a picture of about nine different licensee partners. And in each of the markets we have-- even though they have grown, many of them have grown like five X since their start. For example, in the central European countries, we received, I think in it's first year they had $300,000 revenues, so we had $30,000 licensing fees, today they-- I won't disclose their numbers but they are a multi-million-dollar business today growing rapidly.

So our growth in Europe, is really driven more by the strength of the team, because we have such opportunity, we have such low penetration, the size, and quality of the team is more determining than the economy in Europe today. Giving the example, in Scandinavia, where one of our strongest partners, we have some of our strongest partners, the whole population of Scandinavia is less than California, but they have become, this year, our second largest licensee partner. They have a very strong team, they're focused, they are not in high-growth markets and yet, because of the low penetration, they have grown for seven to eight years now, very strong partner. I hope that is a useful example maybe in Europe, for what we think the potential is elsewhere. We have got other partners who are doing that same thing and some who aren't. But we see Europe actually as a very good growth area for us, more partner specific issues than it is if they are not growing as rapidly, but it is economy or opportunity.

In India, we just had our partners here last week, which just in our Redwood Council meeting, and co-senior management meetings. We view ourselves as, not as hey, we have direct offices and licensee offices, we view ourselves as having 50 offices, eight of which are owned by the Company 100%, 42% of which are licensees, but we view them all as our partners. The growth rate in India is extraordinary. They have moved from having four employees six years ago, to I think they reported 187 and expect to add another 100 over the next two years and so their business is exploding. We have a whole team going there next week, and we have a new education opportunity going there. The first 25 schools in our K-6 Leader and Me practice going on there.

China, is one of our fastest growing areas as well. We have strong partners in almost all of the economies in which you would like to have strong partners. We have good partners in some areas that--who just don't have maybe the capital or whatever to grow in some smaller markets, but in general, these partners have made investments we have made investments in them in terms of time and money in training, and products and so forth. We feel like this network is poised to accelerate growth. I don't know if that--

Bob, this is Sean.

Hello Sean.

Do you want me to add a couple of things here?

I knew you were in that beta today, so I didn't know if you-- thank you.

Sure, sure. Hello this is Sean Covey, I lead our international licensee partners. And just to echo what Bob has said, I think the growth opportunities is immense in almost every one of these markets. If you look at where they are compared to most of our US direct offices, they are many years behind and they're doing very well but the penetration levels are very low. So we feel like there is just years and years of growth ahead. China's are largest operation. As you might expect. The potential there is just-- I think all of these could be very, very significant businesses.

We have operations in Thailand, they are doing extraordinarily well, in Malaysia and Indonesia, all of which have great growth prospects. Looking to Latin America, we find that our operations in Panama, Mexico, Central America are doing very well. Brazil, again is just scratching the surface. Most of these big emerging economies like India and China and Brazil and Mexico are all growing at 25% plus with really unlimited potential for the next 10 or 20 years. So is actually quite an exciting business and as Bob mentioned, we have very, very good teams in place and the quality of the partner is usually the key. But many of these operations have 150 employees, 50 employees, 200 employees and they basically own the franchise for the whole country. We have got a bright future. I think the growth prospects are, it is hard to even put a cap on it.

Thank you, Sean. I came than liking the business and you got me excited here with nearly 100% incremental margins, internationally.

Yes, it's a good model.

Thank you.

Thanks Bill. Any other questions?

I do have a follow-up question coming from the line of Joe Janssen from Barrington Research. Please proceed.

Hello Sean. You mentioned low penetration. Any color on that as to why?

It is just that they are just new businesses. A lot of them have only been around, most of Europe, most of our partners there have been around only for five or six years. So they are just starting. A lot of them are entrepreneurial startups, some real quality people that got excited about our content and five, six years ago, they get going and it takes time to build a business. For example, in Germany, we have Arthur Andersen partner that runs Germany. And she started about five years ago, and they have got a few million dollar business that will grow to four or five or 10 times as big. Over the next many years. It takes time to establish a brand, to get some more key clients going, to build a team around you, and it is just traditional start up. Some of our more advanced

I appreciate that. One last question, I think we are running a little bit over here. Maybe this is for Bob, you talk about in the past, want to drill down on your sales force of it. You kind of laid out a timeframe of when they become profitable. I was just curious are you seeing any improvements on that, on productivity of new hires.

We are. Last webcast we talked about historically, we accepted and is a good model that we invest approximately $50,000 or $60,000, kind of a net investment of $50,000 or $60,000, the first year a salesperson came on, they generate $200,000 of revenues with 68% gross margins. We cover the cost, and lose $50,000 or $60,000. But in their second year, we get all that back, plus $100,000. And by year five, they would be generating $0.5 million of revenue --or of EBITDA or so, a little over that per each salesperson. We believe that was on a ramp, that assumed you went for $200,000 of revenue the first year, $500,000 the second, $800,000 the third, and $1 million the fourth and then $1.2 million in the fifth.

We believe-- we have observed over the last two years in our international account practices, and in other areas where we have narrowed the focus of the sales force giving them fewer offerings, and more practice support, that they have been able to ramp up much faster. So we are hopeful that our new hires will fully cover their costs plus $1.00 in their first year and be able to ramp maybe couple hundred thousand dollars faster in each of those checkpoints. We have evidence over the last three years. We are now accelerating the hires and expect that, that will be the new model as we go forward.

Are you still on pace? I think he mentioned 2011, 15; 2012, 20, and then 30 new hires in 2013, is that correct?

Is Shawn Moon on? He's not, okay, he's in Europe with our operations there. We affirmed that last week during our Redwood meeting. Those are more or less our targets and those aren't --that, kind of directionally right, to amp this up-- What we are doing is hiring classes around--in a more specialized way, we'll be hiring a certain number of salespeople for our productivity offerings, others in education, and others for execution, so they will come in with a specialty or a major, so to speak and focus on that one area until they get up to a point where they ramp, we think with the supportive practices getting more repetitions on a narrower set of offerings, and a narrower set of target customers that we can accelerate ramp.

Great. I appreciate that. And lastly I want to say you have done a great job in turning this business in to a growing and profitable business. Keep up the good work.

Thank you so much Joe, we sure appreciate your support. We are about out of time, is there one last question?

At this time I showed no further questions. I would like to hand it back to Bob Whitman for any closing remarks.

Great. We would just like to express our appreciation to each of you for joining the call today, also for your support and guidance throughout the years, and we look forward to a --our report for the next quarter. Thank you very much we look forward to seeing many of you-- just note that on June 1, in New York, we will be having investor day, and investor and analyst day and we will get more details out on that. It will be in connection with Barrington, but Clayton Christiansen who is one of our board members, and is on the cover, you may have seen it, of Forbes magazine last week, he is a professor at Harvard Business School. Will also be there and we'll have an investor day, he will be giving a luncheon speech on their latest research at the Harvard Business School on the money management industry and the paper that he and some others are about to write for the Harvard Business Review. I thought that would be interesting for you. So please plan on June 1. We would love to see all of you there. Thanks so much. We appreciate it. Goodbye.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.