Franklin Covey Co (FC) 2013 Q3 法說會逐字稿

Welcome to the Q3 2013 Franklin Covey earnings conference call. My name is John and I will be your operator for today's call. At this time, all participants are in listen only mode. Later, we will conduct a question and answer session.

Please note that this conference is being recorded. I will now turn the call over to Mr. Derek Hatch, Corporate Controller. Mr. Hatch, you may begin.

Thanks, John. On behalf of Franklin Covey, I would like to extend a welcome to you to our earnings call this afternoon to discuss the financial results for the quarter ended June 1, 2013.

Before we get to the entertaining part, I would 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 ability of the Company to hire productive sales professionals, general economic conditions, competition in the Company's targeted marketplace, market acceptance of new products or services and marketing strategies, changes in the Company's market share, changes in the size of the overall market for the Company's products, changes in the training and spending policies of the Company's clients, and other factors 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 that the Company's actual future performance will meet management's expectations. These forward-looking statements are based upon management's current expectations and we undertake no obligation to update or revise these forward-looking statements to reflect events or circumstances after the date of today's presentation, except as required by law.

I would also like to call your attention to the information below that applies to regulation G regarding non-GAAP financial measures and our use of the non-GAAP financial measure adjusted EBITDA. With that out of the way, I'd like to turn the time over to Mr. Bob Whitman, our Chairman and CEO.

Thanks, Derek. I'd like to welcome everyone to our fiscal third-quarter conference call and appreciate all of you joining us.

As shown in slide 3, over the past years and quarters, we have been pleased to be able to achieve both significant and consistent growth in revenue, adjusted EBITDA, adjusted EBITDA margin, operating income, net income, and net income per share diluted. While in any given quarter, growth may have been higher or flatter on a trailing 12 months basis, as you can see, the gross reach of these metrics has been strong and consistent. We were pleased to be able to continue these trends in the third quarter and for the trailing 4 quarters where we achieved growth on all of these metrics.

Some key financial metrics for the third quarter and for the trailing 4 quarters follow. First, revenue grew 8.7% for the quarter and 9.7% for the trailing 4 fiscal quarters, and that was even after the devaluation impact of the yen in our Japan office.

Adjusted EBITDA grew 8.9% for the quarter and 18.6% for the trailing 4 quarters. Adjusted EBITDA margin increased to 14% for the quarter and was at 15.8% for the trailing 4 quarters. Income from operations grew 19.7% in the quarter and 53.9% for the trailing 4 quarters. Net income grew 30.6% for the quarter and 34.7% for the trailing 4 quarters. And net income per share diluted increased 44.4% for the quarter.

I would like to also briefly share some key metrics leading to our progress on our other key strategic objectives. In 2005, Franklin Covey laid out a plan for taking advantage of the huge opportunity which we believed existed in the performance improvement industry. This plan included three elements, which have become to be known internally as the three Rs, which are relevance, reach, and returns.

The financial data just shared provided a brief update on our return objectives, but I would like to now briefly share some headlines regarding our continued progress on our relevance and reach objective as well. Our relevance objective is about the quality and impact of our solutions. We've made strong progress on this objective over the years and this progress continued during the third quarter.

We have several metrics. First, the quality of our best in class solutions provides us with pricing power. As you can see on slide 4, our gross margins have increased steadily over the past years and quarters. And this trend continued in the third quarter where gross margins increased from 63.3% to 65.6% in the quarter, reflecting an increase in the mix of client-employee facilitator purchases as well as an improvement in cost of goods sold in our on-site office.

You can see also for the trailing 4 quarters, our gross margin percentage increased to 67.2% from 65.2% for the same period a year ago.

Second, we have made good progress increasing the flexibility and scalability of our content delivery options, showing strong growth in every one of our delivery modalities. As you know, some companies have made delivery modality -- for example, online delivery or subscription service delivery -- their super ordinate strategic choice. Having made that fundamental choice, they then do their best to create good content that could be delivered effectively through that modality.

Our strategic approach has had a different focus. Our first priority has been on the quality of our content as measured by client impact. And then as you can see on slide 5, we utilize various modalities to extend our reach and to increase the stickiness of our content inside client organizations.

During the third quarter, delivery increased the reach of our delivery modality. On-site delivery increased 12.5% to 2702 training days delivered in this year's third quarter compared to 2401 training days delivered in last year's third quarter. For the trailing 4 quarters, on-site training days delivered increased 10.9% compared to the same period last year.

These on-site training days, though they represent a smaller percentage of our total business, are often the start of much more pervasive client implementations that often result in clients licensing in-house trainers who then purchase content directly from us. This helps embed it in their organizations.

The second delivery modality, our licensed client-employed in-house trainer as we call them, licensed facilitators who are employees of client organizations, our revenues from that group increased 19.9% to $9.2 million during the quarter and increased 27.3% to $40.6 million for the trailing four quarters.

Technology at system delivery is increasing significantly throughout the Company. More than 85% of our licensed client employee trainers now become certified virtually, either online or through our web-based delivery. Approximately 45% of our revenue in our execution practice now includes purchase of a license to utilize our my40x software, which drives implementation of our execution methodology.

In our sales performance practice, with the acquisition of NinetyFive 5, more than 50% of our expected annual revenue will now include technology-based implementation tools, including our 5 Online subscription service. And in our education practice, more than 270 Leader in Me online subscriptions were sold in the third quarter alone compared to 80 in last year's third quarter.

So again, technology is becoming increasingly important part of how we deliver and these models are migrating to having subscription or software elements almost every solution.

A third metric we look at is, as it relates to relevance, is to continue to have a very high revenue renewal rate, which reflects our impact in client organizations. Approximately 90% of our revenue from one year repeats in the next year and this for the trailing 12 months, so it stayed right in that range.

Finally, a final metric is we have achieved significant growth in all our practice areas over the past several years. As shown on slide 6, since we began this initiative, each of our practices has grown and grown significantly. You can see on that chart, leadership has grown from 32 million to more than 40 million; education from about 3 million to 18 million and so on. But each of our practice areas has grown significantly.

If you look at slide 7, for the quarter, we continued to have significant revenue growth in a number of our practice areas with Trust growing 66% during the quarter, education 63%, sales performance 36%, reflecting also the integration of the NinetyFive5 team, and execution growing 7%.

Revenue in our customer loyalty practice decreased 13% in the quarter, reflecting a decline in revenue related to one large contract, which this would be the last quarter that we have that comparison. It was partially offset by the expansion of two other large clients and two new account wins.

Revenue in our leadership practice decreased 14% in the third quarter, reflecting both the emphasis during the quarter on our Trust practice. We had a major marketing initiative tour of the United States -- a various-city tour that emphasized the Trust Practice in this quarter. And the focus of our leadership practice team right now is on the refinement and the pending launch of our new leadership offerings in mid-2014.

As previously noted, during the third quarter we completed the purchase of NinetyFive5, the sale of transformation companies, which is expected to roughly double the size of our sales performance practice and expand our offerings to include the 5 Online, sales improvement tools and coaching. And we believe creates strong revenue momentum going into the future.

It's already starting to have some very good wins during this quarter integrating their content with ours, and so we feel that this is off to a good start. So that kind of summarizes our reach initiative.

The final of the 3Rs is -- or our relevance, which is the final of the 3Rs is our reach initiative, which is about significantly increasing the size, capability, and productivity of our sales and delivery forces around the world. As many of you know, we have hundreds of unfilled sales territories in the US and Canada and in our direct offices in Japan, UK, and Australia, as well as international account practices.

This provides us with a lot of headroom for continued and accelerating growth.

The key metrics we established years ago, by which we measure the success of our reach initiative include, first, continuing to increase the size of our sales force. Our number of client partners increased from only 48 in 2004 to 130 at the end of fiscal 2012, with almost 70 client partners still in their ramp-up. And this group of ramping client partners creates embedded future growth as they complete their ramp up in the coming years.

As of the end of the second quarter, our client partner count totaled 137. We are on track to bring our total to approximately 150 active CPs by year end or shortly thereafter. We have also established office by office plans for hiring 30 new client partners in each of the next two years. So we feel good about our first metric.

We are growing the size of our sales force.

The second metric is having new client partner ramp up according to plan. As you can see on slide 8, revenue from ramping client partners during fiscal 2012 exceeded expectations with these ramping client partners generating $40.5 million in revenue in fiscal 2012 compared to our expectation of $35.8 million.

With the addition of the new sales manager position which we implemented this year to focus exclusively on helping new client partners ramp up, we are also making very good progress in the ramp of new client partners for this year and on retention, and will report further on this in our year-end report.

Third metric is having the productivity of fully ramped client partners continue to increase. The average revenue per seasoned client partner -- we call them seasoned, they have fully ramped up -- increased from $816,000 in -- a little more than $800,000 -- $816,000 in fiscal 2004 to more than $1.5 million in fiscal 2012. These client partners' productivity has continued to increase this year, with the average revenue per seasoned or alumni client partner increasing by double digits through the third quarter.

The final metric here is having the productivity of our international licensee partners also continue to increase. As shown on slide 9, the gross revenue of our international licensee partners, on which we earn a royalty of approximately 15%, has increased from $24 million in fiscal 2004 to $82.3 million in the trailing 4 quarters ended the third quarter. Licensee royalty revenue increased 9.3% in the third quarter and 8.7% in the trailing 4 quarters.

So, hopefully, that is a useful update on each of our strategic objectives. The final thing I would like to talk about is give some comments on our outlook. Each of our key momentum indicators continues to be very positive and the momentum in our business continues to be both strong and broad-based. Talk about two elements of that.

First, our corporate pipeline of booked days and awarded revenue. As shown in slide 10, our corporate pipeline of booked days and awarded revenue, which, as you know, is a measure of business already booked or rewarded in our four geographic direct offices in the US, international account practices and in the government excluding one large contract, grew $6.5 million or 23% in the quarter to $34.2 million, as of the end of the third quarter.

This, for us, really a very important metric because these are booked or contracted business, typically delivered in the coming quarter or two quarters. It is also shown on slide 10 this particular government contract, the pipeline associated with it, which reflects a full-year pipeline, declined significantly during the quarter -- $7.5 million during the quarter. This decline represents primarily -- is primarily related not to the value of the contract which, would change in the contracting timeframe given this year's government events, for the renewal of the large government contract.

The annual one-year renewal process for this contract occurred at the end of the third quarter last year. And it was thus for the whole contract through a full year was included in our pipeline and at the end of last year's third quarter, where this year, it's just the final quarter. This year, the contracts renewal process is scheduled to occur in our fiscal first-quarter, so we hope to add back a significant amount of pipeline related to this contract early in our first quarter and see our government business grow again in fiscal 2014.

Our prospective business pipelines, which are measures of the amount of potential new business currently being discussed with and proposed to existing and potential clients, also increased significantly compared to last year and reached record levels in our US geographic offices and our direct offices in Australia, Japan, and the UK and international account practices. These prospective business pipelines are one stage earlier in our business development process than our pipeline of booked days and awarded revenue, and historically have been strong predictors of the likely strength of our bookings and revenue in the coming months or quarters. So we feel good about the size of the pipeline, which, as I mentioned, has never been larger.

In fact, the conversion of this large prospective business pipeline at the end of the third quarter has already begun to translate into significant new contractual bookings in our fiscal fourth quarter.

So overall, we are very encouraged by the strength of our third-quarter results, by the momentum we are continuing to see in the business, by the continued growth in the size and productivity of our direct sales forces and by the growth in our international licensee partner operations. And despite continued softness in our government business, which will extend through the fourth quarter, the overall momentum and the trajectory of our business and what we believe it indicates for the coming quarters and through fiscal 2013, is a full and beyond and very positive in its consequence.

We are reaffirming our fiscal 2013 full-year adjusted EBITDA guidance range of between $30 million and $32 million, with the hope of ending up in the upper half of that range. I'd like to thank each of you for your continuing support and guidance, and now I'd like to turn the time over to Steve Young, our CFO, for some brief remarks. Steve?

Thank you, Bob. Good afternoon, everyone. It is nice to be with you. I'm happy to just review a little bit our income statement and a couple of comments about our balance sheet.

So first of all, our income statement. Revenue, as shown in slide 11, in the three and three-fourths years since the end of fiscal 2009, a time when many in the performance improvement industry have struggled to grow, we are pleased that our revenue has grown from $123 million to $180 million, an increase of more than $57 million or 46% during that time period.

Revenue increased $3.6 million to $44.9 million during the third quarter, an increase of 8.7% compared to the $41.3 million in revenue achieved in the third quarter of FY 2012.

For the trailing 4 quarters, revenue grew $15.9 million or 9.7%. The breakout of revenue for each of our channels is shown on slide 12.

Adjusted EBITDA for the quarter increased $500,000 or 8.9% to $6.3 million, compared to $5.8 million in the third quarter of fiscal 2012, which you can see on slide 13. For the trailing 12 months, adjusted EBITDA increased $4.5 million to $28.5 million, an 18.6% increase compared to last year. Adjusted EBITDA for both the third quarter and for the trailing 12 months was the best ever for our current business.

Income from operations, as shown in slide 14, increased $0.7 million for the third quarter to $4.1 million, a 19.7% increase compared to the third quarter of fiscal 2012. For the trailing four-quarter period, income from operations increased $7.1 million to $20.3 million, an increase of 53.9% compared to the same four-quarter period last year.

Net income increased $0.5 million for the quarter, as you can see in slide 15, a $2.1 million or $0.13 per diluted share, of 30.6% increase compared to the $1.6 million or $0.09 per share in net income achieved in the third quarter of fiscal 2012. For the trailing four-quarter period, net income increased $2.6 million to $10 million, a 34.7% increase compared to the same period last year.

As you can see on slide 16, our net cash generated for the quarter decreased a little bit, $200,000, to $4.8 million, down 4.2% from the net cash generated in the third quarter of FY 2012. This reflects an increase in curriculum development costs of about $500,000 and cash paid for taxes, which increased about $250,000.

For the trailing four quarters, our net cash generated increased to $22.4 million, an increase of $3.6 million or 19.2% compared to the same period last year.

Our adjusted EBITDA margin also remained very strong for the quarter and expanded significantly for the trailing 12 months. As shown in slide 17, despite significant year-over-year staffing investments in new client partners and other sales support people, our adjusted EBITDA to sales remained a strong 14% for the third quarter.

For the trailing 4 quarters, a flow-through of increased revenue to adjusted EBITDA resulted in an increase in our adjusted EBITDA as a percentage of sales to 15.8%, up from 14.6% for the same period one year ago and 13.4% for the 12 months prior to that, so a reasonable and steady increase in that percentage.

We expected continued strong revenue growth and continued high flow-through of incremental revenue to adjusted EBITDA. We expect our adjusted EBITDA as a percentage of sales to continue to increase, and believe it should reach approximately the 18% on a full-year basis within the next year or so.

We are particularly pleased that these operating results are being achieved while continuing to make significant ongoing growth investments in the business. Including R&D, practice leadership, marketing, hiring new client partners, training consultants, and event marketing people, and in building, mentoring, and training infrastructure for our direct offices as well as helping us accelerate our international licensee partner growth.

While these investments totaled more than $17 million in the trailing four quarters, we were still able to receive -- to increase adjusted EBITDA, operating income and net income for the same 12-month period. We see significant opportunities for continued growth and believe that we will be able to continue to make high return on our investments in each of these areas.

Over the past 3.5 years, our revenue has increased approximately $57 million. Over this same timeframe, over $25 million or 45% of this increased revenue flowed through to adjusted EBITDA, with adjusted EBITDA increasing from $3.2 million to $28.5 million over that period.

For the trailing four fiscal quarters, our flow-through has been 28.1%. For the third quarter, our flow-through in incremental revenue to incremental adjusted EBITDA has been 14.2%. This reduction in flow-through for the quarter reflects absorption of the increase in hiring and other sales force infrastructure costs necessary to increase the number of annual client partner hires to 30 and to help ensure the ramp up.

We expect our flow-through to be a bit higher in the fourth quarter than it was in Q3. We also expect flow-through to be significant over the next year or so, for us to reach our stated target of 18% adjusted EBITDA to sales.

And now a little bit on the balance sheet. When you look at our balance sheet, you will see that our current balance sheet includes preliminary purchase accounting for the NinetyFive5 acquisition. As you know, purchase accounting may take up to a year to complete. While we don't expect to take a year, the current recorded amounts in the balance sheet are preliminary based upon preliminary evaluations and are not final.

You will see that the purchase accounting preliminary impacts -- or primarily impacts intangible assets, goodwill, current liabilities, and contingent consideration as you would expect. You will also see at the end of Q3 that our cash balance was $8.9 million. This was generally expected cash balance considering $3.3 million that we paid in the quarter as acquisition-related payments to NinetyFive5.

And Covey Link will continue to have quarterly acquisition-related payments for the next year and potentially for a few future years after that if -- as we expect NinetyFive5 to do well. Those will be earnout payments.

So next, just a few things that we normally go through. Our product amortization costs for the quarter were $500,000. We expect them to be approximately $2 million for the year.

Share-based compensation in the quarter was about $500,000. We expect to be around $2.8 million for the year.

Depreciation and amortization totaled $5.5 million last year. We expect that to be a little less than $6.3 million this year, reflecting the NinetyFive5 acquisition and some computer additions.

Net interest and discounting costs totaled $600,000 again this quarter. We expect to be a little less than $2.5 million this year.

We now expect our effective tax rate to be a little less than 42% for the year. And, as you noticed, our weighted average number of shares, both basic and diluted, decreased significantly this quarter to less than 16.5 million shares. We currently expect our number of shares outstanding will still be less than 16.5 million by year-end.

So now, with that, we are happy to turn the call over to Shawn Moon and Sean Covey to review our revenue performance in each major channel. Shawn Moon heads all of our direct offices, our execution Trust and sales performance practices. And, as you know, Sean Covey heads our education and productivity practice, our international licensee partner network and our innovations group. So, Shawn, take it away.

This is Shawn Moon. There are two Shawns. So this is Shawn Moon, to clarify. Good afternoon, everybody.

Revenue in our five direct offices in the US and Canada grew 11% in the third quarter and 14% for the trailing four quarters. Revenue in our four geographic offices, excluding the government team, grew 12% in the third quarter and 15% for the trailing four quarters.

Revenue in our government services region increased $200,000, or 4%, in the third quarter. The government services revenue increased 7% for the trailing four quarters.

In our international direct offices, our revenue for the offices in Japan, the UK, and Australia, declined 8% during the third quarter, with the benefit of a 3% increase in revenue in the UK and a 2% increase in revenue in Australia being more than offset by a 15% foreign exchange related decline in revenue in Japan. In yen, Japan's revenues grew 2%, actually, while their EBITDA grew 21%.

For the trailing four quarters, revenues in these direct offices decreased $300,000, or 1%, after the impact of a JPY1.6 million related decline. Without this foreign-exchange related decline, revenue for the trailing four quarters in these offices grew $1.3 million or 5%.

The investments we have made in our US direct offices, including the investments in our sales managers, our marketing and events, our practices, et cetera, have resulted in revenue growth of 14% over the trailing 12 months. We have started the implementation of these investments in our international direct offices.

We talked about the sales performance practice in NinetyFive5; talked about the revenue with this practice increased $900,000, or 41%, in the third quarter, reflecting an increase of the acquisition of NinetyFive5. As you know, shortly after the end of our fiscal second quarter, we announced the acquisition of the sales transformation company. NinetyFive5 is a strategic addition to Franklin Covey sales performance practice.

We believe this acquisition positions Franklin Covey's sales performance practice to be one of the world's largest sales enablement companies. Not only does this double the size of our sales performance practice, it also adds a technology-based subscription service component to support and implement Franklin Covey's award-winning sales methodology. Bob talked about that a few minutes ago.

NinetyFive5 has been a successful licensee of Franklin Covey's sales and leadership training content for the past six years. So as a consequence, the integration of both companies' methodologies and organizations are expected to be highly synergistic for our clients.

The consideration for these assets purchased consist of $4.2 million, the assumption of certain liabilities and potential earnout payments up to a maximum of $8.5 million, based on cumulative EBITDA.

Revenue in our customer loyalty practice decreased 13% in the quarter as we mentioned, reflecting the decline in the revenue related to one large contract, partially offset by the expansion of two large clients and two new account wins. Sean Covey.

Okay. Hello, everyone. This is Sean Covey now. I hope you all are doing well.

So let me report on our loyalty revenue from our international licensee partner offices. Our international licensee partner network, as you know, is composed of 44 partners that represent over 160 countries and, as was mentioned before, they all pay us a 15% royalty on top line revenue. And these partners -- the royalty revenue grew 9.3% in the third quarter and 8.7% for the trailing four quarters, reflecting continued momentum in our licensee partner network.

This growth reflects our continued penetration in the Asia-Pacific region, particularly in countries like China, Indonesia, India, and Thailand, as well as very strong performances in Brazil, in Mexico, in Central America, and throughout the Middle East region. We are also very excited about the growth we are experiencing in Africa from seven new partners that we have signed up during the last year, including new partners in Kenya, Botswana, Uganda, and Tanzania.

Our partner network has been one of the most consistent areas for our Company, having had strong growth for 14 consecutive quarters, and we continue to have significant growth potential in the following three areas, as you look at our network. The first is building untapped markets. We have plans to activate and to build each and every market that we are in.

There are currently many large markets that we have barely touched so far that present large growth opportunities, such as Russia and France and Italy. We are also just beginning operations throughout the African continent. We expect a lot of growth there.

Second, growing the sales force. We are teaching our partners how to implement best practices around expanding the size and increasing the productivity of their sales forces, just as we are doing in our direct offices.

And then, third, expanding our practices. We are helping our partners expand into new practice areas. Today, the majority of their business comes from just one practice -- the leadership practice -- and we see a lot of room for growth as they begin to build out the other six practice areas.

So let me just share a few words, also, about our education practice. Revenue in our education practice increased $1.5 million or 63% in the third quarter, and $6.4 million or 52% for the trailing four quarters. We anticipate rapid growth for the foreseeable future and we have now signed up about 1400 schools in our whole school transformation process, which we call The Leader in Me.

The primary reasons for this strong growth is because of the kind of performance results that we are getting in the schools that are very consistent across the board. Results such as increased test scores, increased student self-confidence, greater teacher and parent satisfaction, declining discipline referrals, and school climates that everyone seems to want to be a part of.

Many of the schools find their own funding to pay for the Leader in Me process, but we are also finding lots of other money pouring into help pay the bill for these schools, including money from foundations, chambers of commerce, large organizations in the community, higher education institutions, and federal grants.

As well, we have now licensed The Leader in Me process to three different entities in three different countries and anticipate many more such partnerships being formed. The work we are doing in education is very inspiring to our entire Company and to our corporate clients, and it also drives helps our mission to enable greatness in people and organizations everywhere.

Our objective for The Leader in Me is to get to 10% of the K through 12 schools in North America with the hope that we can fundamentally help transform the education system.

With that, I will turn it back to Bob.

Great. And let's just open it for questions now.

We will now begin the question and answer session. (Operator Instructions) Joe Janssen, Barrington Research.

Thank you for taking my call. First question. If we could -- I appreciate both Seans giving the commentary within the channels.

Within sales performance, can you give me an idea, if you exclude the NinetyFive5, what growth looked like in that section?

I'll take it on just -- or Shawn, you can. Without the effect of NinetyFive5 in the quarter, year-over-year revenues have been more or less flat for the sales performance practice, otherwise. And we would -- as we mentioned at the end of the second quarter, we would expect in the fourth quarter their revenues would have increased without NinetyFive5.

And so the dip that we'd had in the first half we expected would recover itself without the acquisition in the back half. But with the acquisition, it added some to the third and it will add more to the fourth.

All right, and then if I could drill into the government side, taking what you said in the prepared remarks, do you -- if I look into Q4, I think, one, it was a positive to see it up. I think many, myself included, expected to be negative, but at a lesser rate.

If I look into Q4, what I assume -- is it flat to low single-digit growth, realistic? And then in Q1, I heard the comments on the renewal of the large contract. If that was one, would we expect accelerating rate of growth there going into 2014?

Yes. I think in the fourth quarter we would expect a significant decline in government revenues because, with the renewal of the contract in last year's fourth quarter -- it happened right at the end of the third quarter. They made a large upfront payment buying intellectual property rights at the start of the quarter, which is a result of the delayed renewal process that will not occur in this quarter.

And so there are good things happening in the government, actually, and I think a lot of good activity that's gone on in this quarter to build a pipeline, I think independent of that contract they will do some really good things this quarter. But with that contract renewal gap, that will affect our fourth quarter. We have expected that.

And so in our guidance we are expecting that the revenue from that renewal will not occur in the fourth quarter. And we are not forecasting our first quarter, but we hope that with the renewal process that we will win the renewal again and that we can have a good surprise in the first quarter.

What was the original contract size on that? Was it $10 million?

Yes, it was approximately $10 million. There was an initial stage, Joe, where we were training more than 55,000 leaders that started in the fourth quarter of fiscal 2010 and went into the first quarter of fiscal 2011. The first two quarters of that contract were almost $5 million each in those first two quarters, maybe even a little more in those two quarters.

And then once the initial surge was done, then there was a decline in revenue, but still as substantial as they trained other people. And then beyond that, the lumpiness just occurred on the renewal dates of that contract, ongoing, the absolute size is smaller than that now that that initial phase is over. And we would expect the renewal to be smaller, but kind of in line with what it has been this past 12 months.

Okay. Great. And then, just -- I wanted to switch gears and talk about sales force and the model here for a second. I heard your comments through Q2. Did you make any net new hires in Q3?

We made some new hires in Q3. We also -- some of the people we hired in Q1 that -- you know, there are some of those that don't make it. And so we haven't done the exact -- I don't have the exact analogy analysis of the net.

We know where we are headed. We had just gone to the Redwood Council meeting where everybody is giving their forecast through year-end, so our confidence that close to year-end, and the start date might be September 15 through September 20, but approximately at year-end will be in that 150 range that we targeted. But I think in the actual quarter, probably add a few -- a net decline of a few client partners net. You know, at six months and you can figure out who is making it and who is not, and that tends to happen about that time.

Okay. And in terms of the success that you have had and that has come really threefold, adding net new client partners aside, you have made leaps and jumps here in terms of efficiency as you go through the ramp as well as mature salesmen. Are we approaching a steady state here? Do you think you can make the efficiency gains going forward, albeit maybe at a slower rate? Let me get your thoughts on that.

Yes. Shawn, why don't you (multiple speakers).

Sure. Yes, Joe, I think we are -- we are pleased with what we have seen so far with the ramp up of our new client partners. That's historically been something that we would normally need to make some progress on. We have gotten certainly better and very pleased with what we have seen so far this year.

We feel like that's a function of several things, including sales management structure as well as, I think, a tighter sales management process and training and development process that has helped each of these guys.

Also important to that, I think, Joe, is that we have added this marketing infrastructure, which we have talked about in previous calls, to do a lot of lead generation. We have added support people to -- we call test substitutes so that our salespeople, who are very valuable on the front lines, are doing a lot of setting their own appointments et cetera.

So the amp up this year in marketing expenditures and regional practice leaders to help close it, is with the objective of not having a slowing at all in the productivity. In fact, the productivity growth this year of our ramped up client partners has been higher than at any time I can remember. I don't know if, statistically, it's the highest ever in history, but it might be.

Excluding the government business, I mean, we've had three quarters of growth now where mid-teens growth in these offices, and it is split between new client partner ramp up and productivity growth in the alumni group. So we see that we've have now made a step up, that we should be able to, with more certainty, hire and ramp up people. We've had good results with it in the past, but to be able to do that at scale.

And the same time we have added resources to our best client partners, our top client partners, and allowing them to accelerate their own business. So we don't see a slowdown there.

And then, Bob, what are you seeing in the international direct? I know this is relatively new in the early innings of adoption, but are you seeing the same level of ramp in efficiency gains? Maybe slightly lower than what you are seeing in the US, just given the (multiple speakers).

Yes, this is Sean, Joe. The answer to that is, yes, we are seeing the same pattern follow a little bit slower because they haven't had the entire access to all of the practices, but we are seeing the same thing. So as an example, we have accelerated the number of events that we have done in the UK, for example. And the pipeline now associated with those events and the lead generation that comes from those events is allowing new client partners to hit the ground running a little bit faster than they have historically been able to do. And the pipeline is reflecting that.

So the answer is, yes, we are seeing the same trends in our international direct offices. And by the way, they have the same plans -- aggressive hiring plans every other office has.

Great. Thank you.

Our next question comes from Jeff Martin from ROTH Capital Partners.

Thanks. Good afternoon. Bob, can you talk about -- you have got a leadership content rollout and update rollout on 7 Habits. Can you kind of help us understand what all is involved in that? I believe that is midyear next year, and if you expect that to be kind of a driver of resurgence of the leadership practice in terms of its growth trajectory.

I'll have Sean Covey just talk about the plans for the launch and I'll maybe just respond to the impact of the practice.

Yes. Hi, Jeff. Sean Covey here. So, yes, this is a major overhaul for us. We are going to be -- right now we are in the middle of refining The 7 Habits. It has been such an extraordinary offering for so long. We want to keep the soul of what we've got in there, but make it more timely.

So we are spending a lot of time and money revamping videos, giving more surround sound, developing mobile applications, online support systems, and so forth, to make this bigger and better. A new look and feel, and more penetration, better implementation inside of companies. So we think this will take it to the new level.

When we redid The 7 Habits eight years ago, it was a big resurgence in adoption and in sales. We expect the same.

We are expecting to launch this somewhere in the March-April time frame of next year. We are planning on doing a 250-city tour around the world where we will announce and launch this to existing clients as well as to new clients.

And, yes, so I think we expect the resurgence of the leadership practice, The 7 Habits is the biggest piece of that practice right now. Internationally, it is the biggest product we sell by far outside of the United States. And so I think we are well-equipped to launch this with a bang, to get it into multiple languages very quickly and we are expecting big things from this.

Jeff, maybe just two other comments. We have seen a small decline overall for the year in the leadership practice. That raises questions, well, gosh, has it lost its power or whatever.

We think, honestly, not -- it's more related to two things. One is that a significant portion of that large government contract was a leadership development contract. And so with the decline in the government spending, and the timing of this contract, it affects the leadership offering directly.

Second thing is that while the other practices are all out doing these marketing events and launch events, which are ongoing, we have not been doing that in the leadership offering. We have decided to step back, let the other practices do all the things they are doing. They will continue to do that. But when we come out and ready for the 250 cities tour, that will be the start of our marketing events, et cetera in that.

And so it's the one practice that hasn't had -- well, that and customer loyalty don't have marketing events going on in any scale. And so we think that, independent of this new product launch, there is a commitment in leadership practice to be ready for prime time marketing events by mid-next year. But the rallying cry will be around the relaunch of our offerings and the addition of new things.

These marketing events are sequenced about six quarters out. So we have a plan that incorporates the timing of when each practice will receive their focus. And so The 7 Habits launch really is designed to address the leadership practice.

That segues into my next question was -- on the events, I forget what percentage increase in terms of number of events you're having this year versus last, and really wanted to frame a question around what is your plan for events next year, which practices are given the most emphasis and then how many events next year versus this year, if you have that level of planning out yet.

Yes, and so we will be increasing the number of events. This past year, we increased the number from around 650 events to in the range of approximately 1000. The timing of these things happen -- the way that these events work is people come into a marketing event. There may be 18 to 20 organizations represented at an event.

And then over the next period of time, some become prospects, others don't. There is a follow-up process, a sales cycle that ensues. And, as a consequence, we receive revenue over a period as much as a year later, and there is a bulge in the 4- to 6-month period. There is ongoing revenue that continues from these events.

And so, many of them, and although the expenses we have occurred this year, the reason why we have such a large pipeline right now is because these events have generated a lot of activity and prospects in our prospective business pipeline, which then will become -- will close in this quarter, in the first quarter and second quarter, and even the third quarter of next year.

And so the number of events will be up some, probably 15% next year, but I think the more important thing for us is that we have learned a lot this year about refining our targeting who is most likely to purchase. We look at -- we have standardized the way we run these events. There is a lot more efficiency. So the yield from the events, we would expect to be a bigger increase than the number of events as we go into next year.

And then really a lot of the impact comes from the events we have already been having this year. And going into -- for example, in the third quarter, we had all these speed of Trust marketing events. Others were ongoing from other practices. We had 30-some-odd marketing events during the quarter.

They generated a couple of million dollars of revenue in the quarter for the quarter, but $7 million in the pipeline opportunities were also generated, which will come in over the next one to three quarters.

Okay. And then, one more question, if I could. On the facilitator sales, is there any read-through to that in terms of the economy and stabilization of the economy? And do you expect that to be a trend?

I think there is some -- the willingness of organizations to pay to train these licensed facilitators. I mean, it is not a robust thing where people are opening the gates and just throwing money. But I think there probably is something to do with that.

But these marketing events, introducing people to the content, giving them the chance to try it out, the large increase in the number of on-site programs that we have held where people get a chance to see what it's like, and then they decide to certify, is something that we think -- embedding, for us, having almost $40 million of revenue every year come from renewals of these 12,000 teachers who are buying materials to do their teaching classes inside the companies, is a big strategic thing for us, because we want to do knowledge transfer, get people invested in the solution, and then having them buy just content from us.

And so I think it will continue. It's been a driver of the business for years. It will continue to be. But I think the resurgence that it might be more related to the marketing events and the specific initiatives around new product launches than it is specifically to the economy, although there is some improvement.

Great. Thanks for your time. Appreciate it.

Thanks so much, Jeff.

Marco Rodriguez, Stonegate Securities.

Hello. This is Dan Trang sitting in for Marco Rodriguez. I wonder if you could provide us some color on the government business spending patterns in the quarter. And can you discuss the government's thinking on spending for the remainder of the calendar year?

Sure. I am sorry. I didn't get your name.

Dan Trang. I am sitting in for Marco Rodriguez.

Yes, this is Shawn Moon. You know, this has been an interesting year within the federal government with the sequestration and some of the budget challenges -- the significant budget challenges. Those challenges have come -- and the benefits themselves in two ways.

The first is that there actually have been furloughs and other things that have happened with people's jobs where literally jobs have gone away. But the bigger challenge that we've had, frankly, is the panic that has ensued. There is still massive amounts of spending that is available, but people have chosen, even when they have had the budget and haven't had the mandate to stop, they have chosen for the fear of the optics around it and other things to not do it.

So we have seen some unique challenges in the government spending patterns this year and we anticipate those challenges maintaining over the next several months to the end of the calendar year. The team has responded well to this and has been very, very creative in what they have done in terms of reaching out to the market.

Interestingly, we implemented an initiative last quarter with this team that resulted in 1300 additional new facilitators being part of the Franklin Covey facilitation family. And so when budget dollars are loosened up, either at year-end or new budget or just new budget parameters, we have a whole big new base of people who will start buying from us. We think that will have a significant impact.

And there are a number of other things that are happening on that team to respond to the challenges that we have. And the challenges are real and our response to them is pretty aggressive.

Okay.

Does that answer your question, Dan?

Yes. And a follow-up question. Can you provide any details on specific international clients that have expanded their sales into the other modules?

Yes. So I can speak to the international direct and maybe, Sean, you might want to talk about our licensees. So just recently, this morning, I was having an in-depth conversation with our general manager in the UK. And he was talking about the response to the NinetyFive5 acquisition in sales performance, practice, and what we are seeing there.

And we are actually pretty encouraged by the responses the market is giving us on that. We believe that that really is the next opportunity for growth within the international back-office is to get beyond just the leadership practice in The 7 Habits and Great Leaders offerings that we have, and expanding to sales performance and our Speed of Trust and our execution. We are on the early stages of that, but as I mentioned in my remarks, we are implementing the same strategy, the same process, methodologies, and structure in the international direct offices that we had with our direct offices. And the early returns are good. Our GM in the UK was thrilled with three different pursuits that are very sizable around our sales performance practice. And all of these are new as a result of the new practices. So we are encouraged by that.

And I'll just add a couple of things. This is Sean Covey. With our international partners, the new practices -- the relatively new practices are -- the room for growth is extraordinary.

The execution practice, for example, has become about 40% of our business in the Latin American countries -- South America, Central America, Mexico. And so that's just starting there, and in Asia we are just starting to penetrate there as well.

Sales performance is relatively new globally. This is going to be a great growth opportunity. There is a ton of pent-up demand from our partners that are very excited by the partnership we have with the new expanded practice and the opportunity there.

And our global deals -- the global multinational companies we are working with now is increasing all the time. This is a great advantage we have being in so many countries and having strong operations everywhere. We are getting more competitive with going after and landing big, large, multinational contracts. This is an area of focus for us and we want to really leverage the fact that we've got such a great penetration in so many countries.

Okay. Following up on that, can you describe some of the efforts you made there? You have talked about the penetration rates, but just kind of wondering some of the efforts made there and kind of the timeframe it's taken for those moves?

On the sales performance practice, historically, that has been a national accounts practice versus the field support practice. What that means, Dan, is that they have had their own independent sales force and no one has really been allowed to sell outside that tightly defined practice.

And as we look at expanding internationally, we have eliminated those internal barriers. So, now that they'll get help from the practice to be able to be articulate on the offering deals to deliver it with excellence, but we have opened the doors so that anyone can sell it. And so that's one of the things that we have done to help do that.

In the US and Canada, within our practices, we have a role called the regional practice leader. This is the liaison between the practice and the sales force. So they are a senior subject matter expert that sits primarily in business development and strategy -- account strategy.

And that's been a really critical element in growing the business. And there are some costs associated with that, you know; it's additional bodies. But that's been really critical in helping us grow our business within the US direct offices.

And we are now -- carefully; we are not spending where we cannot spend, but carefully implementing the same structure with the regional practice leaders in our international direct offices to help facilitate business development.

Another way of looking at this would be to look at just how long it might take to get a decent level of penetration, similar to the US and similar to international partner countries. And we think it's going to take 5 to 8 years or so to get execution really going at a good clip like it is in the US. I think it's a 5 to 8 year implementation process. We will have to do it one country at a time.

Same with Speed of Trust. It's been doing really well in the US. It's done very little internationally. It's a great growth opportunity.

Again, I think 5 to 8, 10 years to really get it to where it needs to be and where it can be. So it just gives you a lot of hope for the future that we can continue to grow the leadership practice internationally while also growing these new areas. And you can see a long runway. I mean, there is a lot of room for growth, for a long period of time as we implement these other practices.

Okay. Thank you.

Can I just make one more comment on that? Just real quickly, one of the things that we've done in the sales performance practice is we have moved away from just simply instructor-led delivery. And we've created -- we have an online self-paced delivery modality and we are just launching a train-the-trainer version, which we think will increase scale and will allow our international partners to move faster.

I know our dedicated time is up. We are happy to take additional questions for those who'd like to stay on. Are there additional questions?

We have no further questions at this time. I will now turn it over to Bob Whitman.

Great. We will just conclude it. Thank everyone for joining today and for your continued support. Let me just make a concluding statement.

Again, we are grateful to you, to our great clients, to all of our great associates for what we believe is a tremendous effort this quarter and for what they are about to do this quarter -- (inaudible) this quarter.

Also just note that we are getting to a point, I think, as a Company where we always -- in our industry, there are very, very few organizations that have ever gotten to as much as $20 million of sales. And so that's kind of -- you know their names in the training industry or the content industry if they've got $20 million of sales and it's a pretty small group.

We now have seven different operations within our company that are at least $20 million operations, whether that's a practice or offices. And, for us, at $20 million, I mean, you've got a real team we think can accelerate, that's got all their own resources, that knows how to run it.

And so our goal, whether it's an international licensee office or a direct office in the UK or Japan or a smaller practice, is getting each of these to $20 million. And we think we have a map for doing that just as you saw in that practice slide where they've kind of done from zero or close to zero to $20 million in some of those practices. And there are offices who have gone from $7 million to $20 million.

We were getting into a position now where we think we've got some really strong -- additionally strong engines pulling the train and our work increasingly is on strengthening those that -- how do we get the $5 million and $8 million operations to $20 million. So I think it's an exciting time for us.

Thanks to you for being on today and happy to talk to anybody one-on-one, of course, that would like to. Thanks very much.

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