Franklin Covey Co (FC) 2014 Q1 法說會逐字稿

Welcome to the Q1 2014 Franklin Covey Company earnings conference call. My name is Leslie, and I will be your operator for today. (Operator Instructions). Please note that this conference is being recorded.

I'll now turn the call over to Mr. Derek Hatch, Corporate Controller. Mr. Hatch, you may begin.

Thank you. First of all, everyone, Happy New Year. We are excited to have you on our call this afternoon. And on behalf of the Company, I would like to welcome you to our first-quarter earnings release call. Before we get going this afternoon, I'd like to remind everyone that this presentation contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements are based upon management's current expectations and are subject to various risks and uncertainties, including, but not limited to, the ability of the Company to stabilize and grow revenues; the 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 the Company's actual future performance will meet management's expectations. These forward-looking statements are based on management's current expectations, and we undertake no obligation to update or revise these forward-looking statements to reflect events or circumstances after the date of today's presentation, except as required by law.

With that out of the way, we would like to turn the time over to Mr. Bob Whitman, our Chairman and Chief Executive Officer.

Thanks, Derek. Hello, everyone. We're delighted to have a chance to talk with you today. Let me start out and say, having just reported our strongest fourth quarter and fiscal year ever in November, we were pleased really to be able to continue our momentum during the first quarter; while, as I'll discuss in a moment, we had expected the quarter to be even stronger.

Revenue turned out to be the second-strongest ever for a first quarter for our current business, exceeded really only by last year's first quarter. As you can see in slide 3, over the past four years, while certain individual quarters have been stronger than others, we have achieved year-over-year trailing four quarters revenue growth for every quarter. We are pleased that this trend continued in the first quarter, where, as you can see, trailing four quarters revenue increased $290.3 million from $175 million for the same period the year before.

Our four geographic US direct offices, our education practice, our sales performance practice, and our global licensee partner network operations all posted their strongest first-quarter revenue ever. Bookings for these same operations were also very strong during the quarter; and, as a result, we had our largest pipeline of booked days and awarded revenue, ever, for the end of the first quarter.

The strong performance in these operations was offset somewhat by the decline in revenue in our government services unit, resulting from the shutdown and then slower-than-expected restart in the Federal Government. This resulted in a need to shift revenue which had been booked for delivery in the first quarter into future quarters.

With larger-than-anticipated negative foreign exchange impact in Japan, also, and our decision to increase our first-quarter growth investments to ensure the continuation of the strong growth in the future, this resulted in our first quarter coming in lower than we had expected. Fortunately, the full amount of the government contract which was not utilized in the first quarter is still available for booking into the second and third quarters, and much of it has already been booked and is being delivered.

With this, and the expected positive future impact from our first-quarter growth investments, we feel confident about both the direction and momentum of the business and about our previously provided annual guidance range, which I'll talk to in a minute.

I'd like to just briefly first provide some further detail on the factors which impacted our otherwise really positive results in Q1 first quarter, and how we expect those factors to reverse or moderate in the coming quarters. Second, then review the continued progress on our key growth initiatives, including our salesforce productivity and ramp-up, and our ongoing product development and practice initiatives, including the pending launch of our re-created 7 Habits offering. And then, finally, discuss the underpinnings of our confidence in our annual adjusted guidance range.

So, first, just maybe quickly review the future impact that we see, and the factors which impacted our first quarter. First discuss government revenues -- in September, we were awarded the third renewal of a large federal government agency content and training contract. We immediately began scheduling the delivery of millions of dollars of training days under this contract for October and November. With the government shutdown in October, however, this agency, along with most other parts of the government, was forced to reschedule essentially all of the October training days into future quarters.

As of the first week in November, we still had a significant number of government training days on the books for delivery in November, and the expectation of booking additional training days for November. The time required to restart government operations, however, turned out to be much longer than either the government or we had expected. In fact, it wasn't really finally fully authorized until the very last day of our quarter. As a consequence, nearly all of the training days we had booked for November under the contract, together with nearly all new governmental bookings, were pushed into future months and quarters.

As noted, the full amount of government revenue related to that contract that was not realized in first quarter is available to be rescheduled and delivered in the second and third quarters. And as noted, training under that contract for the second quarter is nearly completely scheduled now, and being delivered, and the excesses we expect to be booked and delivered in the third quarter.

From a foreign exchange standpoint, approximately a year ago the value of the yen declined significantly relative to the US dollar. This has negatively impacted our operating results in last year's second, third, and fourth quarters, and negatively impacted revenue in the first quarter by approximately $1 million. While we expect foreign exchange weakness to continue to have an impact on our operations in the future quarters, at the current exchange rate its impact would be significantly less than in the last four quarters. So we're expecting some moderation of that going forward.

The third element affecting the first quarter is the magnitude of our growth investments. Over the past several years we've invested heavily in growth, as you know. Last year we invested more than $20 million in growth initiatives, and expect to make continuing investments approximately as follows. First, approximately 4% of our revenue, or $7 million to $9 million a year, will be invested in innovation and new product development.

Second, an additional 3% to 4% of revenue, or $6 million to $8 million a year, is invested in practice leadership and these client-facing product applications. Third, approximately $7 million to $9 million per year in marketing in these thousand or so and marketing events which we have that invite clients to come and experience the content and hear the premise. And another $4 million to $5 million annually for the hiring of new client partners and related sales personnel. And so in the previous years we were investing roughly that amount, $18 million to $20 million; so our results are after having swallowed those investments.

In addition to these ongoing investments, while our salesforce is paid on commission, each client partner receives a monthly draw against their commissions equal to approximately 67% of his or her anticipated commissions for the coming year, based on the new sales goals that they are given and accept for that year.

So with significant revenue growth we have achieved each year, sales goals for our client partners have also increased each year. And with these increased goals, they receive increased draw amounts, which are expensed in the quarter and which are not usually -- they are a little behind in the early quarters, and they are ahead in the later quarters.

Because a substantial portion of all these investments I mentioned are budgeted as a percentage of forecasted annual revenue, and our first quarter is typically not our largest revenue quarter, the first quarter typically bears the largest in proportionate share of incremental investments. The flow-through of incremental revenue increases in each subsequent quarter. And as you can see in slide 4, a significant portion of our EBITDA for the year -- a much more significant portion -- occurs in each of the subsequent quarters as you swallow these investments.

This pattern has been accentuated with the growth of our education practice, where almost half its revenue occurs in our fourth quarter, which is the summer, when teachers and administrators are out of school and available for training.

One last note on this. We had invested even more in growth in this year, first quarter, than normal because of the large class of new client partners we hired right after year-end. Second, because the increased draws against commissions building from our very strong growth in fiscal 2013, particularly the fourth quarter. Third, accelerated product development investments associated with our pending end-of-second-quarter launch of our re-created 7 Habits of Highly Effective People leadership offering. And, fourth, a decision which we made to hold a worldwide training conference at the beginning of this quarter -- first quarter, to make sure that everybody throughout the world was aligned around the execution of this year's plan, and off to a strong start.

These combined investments added more than $1.5 million in year-over-year costs during the first quarter. And we expect to recognize significant incremental revenue as a result of these investments in future quarters, which should also result in increased sales flow-through for the rest of the year.

Finally, during the fourth quarter, a lease from our relatively large tenant in our multi-tenant office campus expired; and, therefore, we had no leasing revenue in the first quarter. This space has now been re-leased for a minimum of five years, and nearly 100% of the space in our office campus is now under leases with good credit tenants for the next few years. The time required to sign and initiate the new lease resulted in about a $270,000 negative year-over-year impact on adjusted EBITDA in the first quarter. But as a result of the new lease, the sequential positive impact in our second quarter and future quarters will be the same, about $270,000 a quarter.

So just to summarize, the government revenue that got pushed off was the major reason for us missing the expectations we've had. And, thankfully, all of that revenue is still -- all of the un-booked revenue is still available for booking and is now being -- has been booked in second quarter, and is being booked into the third quarter and delivered.

The yen will have -- and other foreign exchange will continue to have an impact, but we think less. And the significant growth investments that we've made, we think are essential to continuing our growth; and they are paying off now, and will continue to pay off throughout the year. And the re-signing of the lease will give us about $270,000 a quarter of increased adjusted EBITDA.

Now I'd like to bring you up to date. So that's kind of a summary of the things that affected of the quarter. I'd now like to bring you up to date on our progress in our major growth initiatives. As you know, the basic premise for our growth is that we want to maintain the best-in-class content and solutions, ones that really have a seismic impact on our clients that cause them to buy, and buy more, and embed this in their culture and repeat that revenue every year. And then, second, it's to build a worldwide selling and delivery organization that can scale across the world.

I'll start with a brief report on our sales -- on the second one of those initiatives, which is our salesforce growth and productivity -- and just hit five bullet points. The first is that the size of our salesforce continues to increase. Our number of client partners increased from 120 in fiscal 2012 to 147 client partners at the end of the first quarter. Of these 147 client partners, approximately half are still in their ramp-up period. And this is a great benefit for us because these client partners generate substantial current revenue while creating significant embedded future growth potential as they complete their ramp-up over the next few years.

We've added 27 net new salespeople since the beginning of fiscal 2013, so that's in -- basically in five quarters, as we had been five behind. As noted in previous reports, our goal is to add approximately 30 net new client partners this year, and every year. We want to make up also for the five we didn't hire last year, and we have a detailed office-by-office plan for meeting this goal this year and for each of the next several years.

As you can see in slide 5, adding new salespeople and having them ramp up according to plan provides us with a real opportunity to accelerate our growth. What is shown in this slide is if we -- hiring the net new 30 client partners a year, and having them ramp up according to the schedule which they've exceeded in the past, means that by year five, just hiring 30 a year, there's an extra $117 million of revenue. And yet you only have one class, Class 1, in that slide that's fully ramped up. And so this is a critical initiative for us. We've put a lot of effort into it over the years, and it's paying big dividends.

Second, our new client partners are ramping up somewhat ahead of plan. As you can see in slide 6, during fiscal 2013, revenue from our client partners in ramp-up again exceeded expectations, with these ramping client partners generating $41.3 million in revenue compared with our target of $34.7 million. With the addition of our new sales manager positions in fiscal 2013, there is exclusive focuses to help new client partners ramp up. We made exceptional and accelerated progress in both the ramp-up and retention of new client partners in fiscal 2013. This trend continued for the trailing four quarters period, with our ramping client partners' revenue continuing to be somewhat above our projected ramp rate.

Third, the productivity of our fully ramped client partners continues to increase. From fiscal 2004 through fiscal 2013, our average revenue per seasoned client partner, ramped up client partner, increased from a little over $800,000 to more than $1.7 million, which was a compounded average growth rate in productivity of 8%. Which has somewhat exceeded our originally targeted productivity growth expectation which we set in 2005. During fiscal 2013, the productivity of these fully ramped client partners increased 7%. And for the trailing four quarters, their productivity continued to increase.

Our retention rate for fully ramped client partners has also been very strong. In fiscal 2005 we established a goal of having an annual retention rate of approximately 95% for these fully ramped client partners. And our actual retention rate has been very close to that, at 94.5% in each year.

Fourth, the productivity of our global licensee partners also continues to increase. As shown in slide 7, the gross revenue of our global licensee partners, on which we earn a royalty of approximately 15%, has increased from around $29 million in 2004 to a little over $80 million in fiscal 2013. Our royalties from these global licensee partners increased commensurately from $4.5 million in fiscal 2004 to $12.9 million in fiscal 2013. Our royalty and new license revenue from licensees continued to increase in fiscal 2013, growing 9.5%. And this growth continued for the trailing four quarters, where royalty and new license revenue from licensees grew 13.4%.

Finally, the success of our salesforce growth and productivity initiatives has driven the growth of our non-government direct offices in the US and of our national account practices. As you can see in slide 8, over the past three years, revenue in our non-government US direct offices increased $25.5 million, from $54 million to almost $80 million, which is a compounded average growth rate of 13.7%, reflecting these ongoing investments in growing our salesforce. As also shown in slide 8, during this same period, revenue in our national account practices -- which include our education, sales performance, and customer loyalty practices -- grew $15.3 million, from $19.4 million to almost $35 million, a compounded average growth rate of 21.3%. This growth continued for the trailing four quarters, for revenue in our non-government direct offices grew $12.7 million or 14%.

And as shown in slide 9, revenue in our national account practices grew $11.7 million for the latest four quarters, or 42%. We expect to achieve -- we continue to achieve significant growth in both our direct offices and national account practices again in fiscal 2014, and for the rest of the quarters in 2014.

Now I'll give just a really brief overview of our progress on our quality results for clients' objectives, as we call it. It's in the quality of our solutions that are delivered. We've made significant progress on our quality objective over the past years, and this progress continued during the first quarter and for the trailing four quarters. We measure progress in this objective along several dimensions. The three that I'll note are high revenue renewal rates, pricing power of our offerings, and the growth of our various practices.

First, revenue renewal rates. Our revenue renewal rate remained very high in fiscal 2013, with approximately 90% of our revenue from fiscal 2012 repeating in fiscal 2013. And for the trailing four quarters, again, approximately 90% of our revenue from the same period last year repeated in those trailing four quarters.

Second, pricing power. The quality of our best-in-class branded solutions continues to provide us with pricing power across all of our various delivery modalities. As a result, as shown in slide 10, our gross margins have increased steadily over the past years and quarters. This trend continued in the first quarter and for the trailing four quarters, with our gross margin increasing to 68% from 66.1% in the first quarter of fiscal 2013.

Third and final, the growth of our practices is shown in slide 11. Since 2005, each of our seven practice areas has grown significantly. And as you can see in slide 12, during the trailing four quarters, we achieve significant revenue growth across almost all of our practice areas, with education growing 56%; execution, 29%; sales performance, 26%, including the acquisition of NinetyFive 5; trust, growing 23%; productivity, 11%; and customer loyalty, 6%.

Revenue in our leadership practice decreased 17% for the trailing four quarters, reflecting both [imps] on our trust practice; the decline in leadership practice revenue related to the expected decline in revenue from the large government agency contract; and the focus of our leadership practice team on the refinement and pending launch of the re-created 7 Habits of Highly Effective People offering beginning at the end of this year; so fiscal second-quarter, which of course we are in.

This is one of the most important product re-creations ever for us. It's one that -- with all of the success we've had with new product launches, and we've been fortunate, as you've seen from the growth of these practices to have had success. In each case, these have been primarily -- in the past, these have been primarily launches that are US-based, with the exception of the productivity offering, which was global.

But there's no offering that's more global than The 7 Habits of Highly Effective People, so this launch for us represents an opportunity to have a truly global launch. It's something that can have a big impact. And I'm going to ask Sean Covey and Shawn Moon to discuss this new offering, and the worldwide marketing launch initiatives associated with it, in just a moment. We expect the launch of this new offering to drive strong growth in leadership practice revenues during the second half of fiscal 2014 and beyond.

Finally, 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. As you can see in slide 13, our pipeline of booked days and awarded revenue -- which is a measure of business already booked or awarded in our five direct offices in the US, including our normal government business but excluding the large government contract; and in Canada and in our national account practices -- grew $3.3 million to $31.5 million at the end of the first quarter. This reflects a 12% year-over-year increase compared with the $28.2 million pipeline we had at the end of the first quarter of fiscal 2013, and represents our largest-ever first-quarter pipeline, the pipeline of awarded revenue and booked days.

The government contract pipeline of booked days and awarded revenue, which is specific to this one contract, declined $2.2 million or 39%. This decline is related mostly to a change in the contractual timeframe for this contract to five months instead of 12 months, which resulted from the sequestration of the government last year. And so we expect that later in this year we'll add a significant amount of pipeline when the renewal comes up again. We hope to add -- we hope to win the renewal again and add substantially to our pipeline business there.

Our prospective business pipeline is also really strong. This is a measure of the amount of potential new revenue currently being discussed with both existing and potential clients, and increased significantly during the quarter compared with last year, and reached record levers in [all with all] -- our US geographic offices; our direct offices in Japan, Australia, and UK; and in our national account practices.

These prospective business pipelines are a stage earlier in the business development process than the actual contractual pipeline that we just discussed, but historically have been very strong predictions of the likely strength of our future bookings and revenue. In fact, the conversion of this large prospective business pipeline at the end of the first quarter has already begun to translate into significant new contractual bookings and revenue in our second quarter.

So, overall, we're very encouraged by the momentum we continue to see in the business; by the continued growth and the size and productivity of our direct salesforces; the growth in our international and global licensee partner operations; and, despite the shifts in revenue during the first quarter of our government business, by the overall momentum and trajectory of our business. As a consequence, we reaffirm our fiscal 2014 full-year adjusted EBITDA guidance range of between $35 million and $37 million.

I'd like to just make two notes, and then turn the time over to Shawn and Sean. First is that as you think about this shift of revenue from the first quarter, almost all of the government revenue which shifted out of the first quarter will be recognized in the third quarter, since much of our second-quarter bookings really is that contract already in place. So we started booking; got it in place in October/November; also got it in place for the second quarter. The first quarter shifted; we didn't have room in the second quarter. It will be moved into the third quarter. We already had a strong second quarter. That's the first point.

The second is because we are confident about our strategy, direction, and momentum, we're going to continue to make significant growth investments in new salespeople, marketing, product development, every quarter. As a consequence, if revenue shifts earlier, as it did in the fourth quarter when we picked up some revenue from the first quarter -- or later, as it happened in the first quarter -- it can have an impact on and individual quarter without affecting our confidence or performance for the year.

So, with that, I just like to again express appreciation to each of you for joining today. We'll have a longer-than-normal opportunity for question and answer.

I'm just now going to ask Sean Covey to provide a brief overview of their efforts to re-create The 7 Habits; and then Shawn Moon to provide an overview of our significant worldwide launch activities.

Sean?

Okay. Hello, everyone. This is Sean Covey, good to be with you. I'll just give a quick overview of what's happening in product development. I've been in product development, overseeing it for the last 20 years at Franklin Covey, and so we're very excited to come out with the new 7 Habits signature program and its family of products. We're calling this a re-creation because it's much bigger than an upgrade. This is a significant redo, and we expect to see great results from this. It will come out in March, and we think we're going to see impact on this over the next couple of years in a big way.

So a little bit of context about this product. This is a three day program, and this is our single-largest, best-selling product in the world that we have right now. Internationally, it accounts for about 50% of the products that they sell, so it's even bigger internationally because the other practices haven't not -- grown as much there as of yet.

It's a three-day program, as I mentioned. We also have one-day versions of it, and so forth. And it's meant to help individuals become more effective, as well as helping teams and organizations improve their performance by improving their cultures. To put it in perspective, as well, we've done over the last 20 years, about $1 billion in sales of this solution, so this is a very big, new, thing for us.

Consistently we find that this program is ranked among the highest, if not the highest, of all the programs that our clients teach. We win awards with it consistently. You could argue -- there's no official statistics kept on this, but you could argue this is really the most successful leadership development program ever created. And it's been about eight years since we last upgraded the program.

And so we're excited about this. In the last two years, we've been working on this. We started by gathering a lot of feedback from clients around the world. We asked them what's working, what's not, what could make this better? We did a lot of research around this. We've been working on this for about two years. We've spent millions of dollars to try to perfect it. We've done a lot of beta tests around the globe to try to make it better and get input and feedback to make sure it's really and truly a global product.

So, from all this feedback that we gathered, we implemented this, and we've created we think an extraordinary offering; and a family of offerings, for that matter. What's new and improved about it? Well, a few things stand out. For one, the big picture on this is impact. We really wanted to take this from the idea of taking a leadership development course to really living it and applying it to helping transform individuals, as well as really making a difference at the team level and at the organizational level.

So as part of this, we've developed a companion product with this that we're calling Leader Implementation. It's all around helping an organization that really wants to have cultural impact; take The 7 Habits and institutionalize it, by certifying all of their managers and leaders on how to apply The 7 Habits at the team level -- how to model it, how to coach around it, how to improve performance, how to get effective feedback and give effective feedback.

So the whole idea is really applying and institutionalizing this. As part of this, we went around the world and found several organizations that have literally transformed their companies using The 7 Habits as a key tool. And we highlight these companies, and show how they've done it, and how they can do it inside of their own companies. We have a lot of technology in this new workshop. We have a new Living The 7 Habits app that you can download that will track your progress, that will give you data reminders and tips.

There's a great contract. It's a 49-day contract you can take that is a regimen on how to apply The 7 Habits over these 49 days. There are many new video illustrations inside the program. We use video a lot because it helps create a center line that is replicable so that clients can teach this when we do the Train the Trainer programs. We offer a lot of videos so the clients can get great impact in their teaching and their efforts.

We have many new videos inside the program; great new illustrations. We have that one new video for example on the London Royal Ballet and how they create such great shows and students again and again, and how they do it. We've got videos on this orchestra in South America. They've created instruments out of a landfill, and how their community went about doing this, and the way it transformed their community. And we've got just many new videos and illustrations to back up all the key teachings that we have in this program.

Finally, we have a lot of new skill and drill. This was one of the areas of feedback that we've heard from our clients that people wanted more practice, less theory. And so we've really shifted the emphasis from theory to practice -- more coaching, more role playing, more skill and drill. So when you package all of this together, we think this is a real big re-creation, as we call it, or upgrade.

And as I mentioned before, I've been in this role for quite some time. And Franklin Covey is known for producing best-in-class solutions, and we have a reputation for always having the top product in the category. And I believe this is the finest offering we've ever created over the last 20 years, and it's been an evolution because we've gotten better and better at product development. And I think we've been able to apply all of those learnings and skills to create something extraordinary.

So this is, as I mentioned, will be coming out in March, just a couple of months from now, and we are excited about the impact.

Thank you, Sean. And Shawn Moon, if you would just talk about -- briefly talk about how this worldwide launch is going to roll out between now and then, starting now and through the end of February, just preceding the launch.

I'd be happy to. Thanks, Bob. So, first of all, I'd like to say that the field is remaining focused on the, we'll call it the sales go-to-market strategy, which really is targeted around face-to-face meetings, and our ongoing marketing events and our sales management and task substitution that is associated with all of that. And that really has been the catalyst behind the continued growth of our pipeline. We're excited about that, and we are maintaining our focus of that.

Now, as part of this, we are in the middle -- in fact, I'm calling you from frozen Chicago right now -- because we are in the middle of our pre-launch to all of our sales staff, meeting region by region, team by team, introducing them to this new product, and offering and sales strategies around all of this. We are in the process of launching globally 7 Habits marketing events in 250 cities around the world. All of those will take place over the next nine months.

In that tour, we're calling it tour, we will showcase the solution to about 20,000 individuals, influencers, and decision-makers. And the goal is to certify north of 1000 facilitators through this process by August 31. We also anticipate that that will build a pipeline in excess of $20 million on this product alone. We are very excited about that. We have -- we are doing this in the first -- excuse me, this quarter. We are starting this process where we have 60 cities between US, UK, and Australia.

And so we're starting this process now. And our goal is to certify somewhere north of 480 facilitators in this quarter, in this product. This is a process and a methodology that has been very successful in the past in previous launches. And we're taking that model that has worked -- not just in the US and Canada and UK and Australia -- in this quarter, which we are doing, but applying that worldwide over the next nine months.

I just have to report on the level of excitement that we're seeing from the field. We are very, very enthusiastic about this new offering. As Sean mentioned, we believe this is the finest offering that Franklin Covey has produced, and the salesforce is very, very enthusiastic about it. We're only halfway through. By the end of the week, we'll complete that process. And we're having a region-by-region opportunity to create specific strategies.

We implemented, before the holiday, a goal to fill about 400 to 700 seats in these first 60 events. We are very pleased to -- at the momentum there. We are currently at 1200 registrations for those events, so we're tracking a little bit ahead of the game. A very exciting start, and we believe that this will have not just a significant impact this quarter, but on our year overall. So we're very enthusiastic about it.

Thanks, Shawn. I think, at this point, we'll open it up for questions. And Steve Young and all of our senior management team is here, so I think we'd be ready to respond to anything you have.

(Operator Instructions). Alex Paris, Barrington Research.

Yes, thank you for taking my question. This is Joe actually filling in for Alex. Shawn, let me welcome you to Chicago. It's pretty cold here.

It's delightful.

Let me just focus on a couple of modeling questions. Bob, I just want to make sure I get this right. I appreciate all your commentary around the quarter versus expectations. I think it's explainable that the large government contract, et cetera. Just so I'm getting this right, that the impact of the contract was pushed to Q3. FX, I think you have one more quarter of where it impacts you and then it's somewhat -- we'll call it normalizes in Q3 and beyond. And the lost revenues from the lease is going to reverse next quarter and beyond, is that right?

Yes. Yes, this quarter, yes, that we're in right now. Yes.

And then I'm just curious, in your press release, you mentioned other postponed government work. And I think you alluded to it in the prepared remarks, and that's dependent -- the resolution of that is dependent -- I guess uncertainty still going on with government operations. How big of an impact is that, exactly?

I'll let maybe Shawn Moon, if you'd like to respond to that, it'd be great.

So, when the -- two parts to that, Joe. The government -- the large contract that we had, that first one expired at the end of August 31, and expected renewal of that was September. Didn't renew until October, which we were thrilled with, because we could condense our delivery and when that -- with the government shutdown, that just put that off. We ended up delivering exactly one day, the very last day of November, and we anticipated $1 million.

So that, as Bob talked about, that was the impact of that particular contract. But the sequestration and the shutdown of the government really brought our entire government business to a halt. It wasn't even that people wouldn't purchase from us, there was such skittishness with our buyers that they wouldn't even meet with us. There was such uncertainty. And it's a different sales environment in the government to begin with, that even after the government came back online it didn't mean that all of their strategies and plans and everything just picked up right where they left off.

In fact, it took them a good six weeks to get back into gear. And so it was a very frustrating time from a government perspective. We are very pleased that a budget has been passed and that we're seeing momentum and good meetings and lots of interest. We anticipate this new offering that has always played well and been a strong offering for the government -- we expect that we'll have a continued level of interest there.

And so the momentum has really -- has started back up again? But it did take the wind out of the sails for that particular buying group for more than just the nine days that the government was shut down.

There's a budget in place, Joe, and it is starting to thaw. And I think people are now recognizing they know what they have to deal with. Just also maybe, Joe, or just correct, or just refine one response. On the yen-related impact, the major devaluation occurred at the end of December last year. And it had a big impact on the whole year. Almost $3 million, or a little more than $3 million of revenue was lost; and, say, half of that in EBITDA as a result of the yen.

Thankfully, we are now anniversarying that starting in January, so now the incremental impact should be less. But the yen has also declined a little further, which affected us in November as well. So we think we'll still have the negative impact at least at the current exchange rate, we'll have the negative impact. It just will be maybe half the impact we had last year, so it will feel better.

All right. (Multiple speakers) to a lesser degree in Q2, and then somewhat normalized in Q3, okay.

Joe, one other comment on the government business, if I might.

Sure, go ahead.

While the shutdown was really devastating to that particular team in the first quarter, it might actually have been one of the better things that happened in the longer term because of the pressure that was put on our leaders to actually pass a budget, and not just kick the can down the road 30 or 45 days as what they have historically done.

So the fact that we now have a budget in place for two years -- there's still some uncertainty, and we still have some issues there, but the pressure that was applied in the first quarter -- and hurt us in the first quarter -- actually helps us down the road.

Okay, great. And then one last question, and I'll jump back in queue. The net new 17 CPs hired, that was in Q1, right?

Yes.

And then, just refresh my memory, how does that compare from Q1 of last year? And then secondly, given you're more than 50% of your way to your goal, any reason why you couldn't go above? Is there any limiting factor that wouldn't allow you to go to, say, 40? I know this is a high number -- or even 50?

Let me tell you, what happened is that we -- as we reported in November, some of our hiring occurred right toward year-end for last year as well. So between the hiring we did in last fiscal year, it turned out we wanted to hire right before the big sales training conference, and so a lot of those people fell in. So that was really more of last year's number than this, and we were behind a little bit on that.

And so we tend to hire in classes, so the next big group of people will be hired between now and mid-year, and the remainder between mid-year in the end of the year. So I think for us we wanted to hire net 35 new people this year; but the 17, most of those really count as part of last year's hires because they were hired immediately following the end of the fiscal year.

Right, right. And that net 35 encompasses five from the previous quarter.

Yes, picking up the five we missed last year, which were just timing issues. Somebody accepts an offer, and then their husband won't move, and they can't take the assignment and things happen.

That's good. Thank you for taking my questions.

Thanks much, Joe. Keep warm.

Jeff Martin, ROTH Capital.

Thanks. Good afternoon, guys. Could you give us some insight into what you think the sales cycle will be for the new 7 Habits offering? In other words, I'm trying to get at -- when will we really start to see the impact from that on the revenue side? And what kind of growth do you expect out of Leadership as a result over the coming years?

Here's fundamentally what will happen we think, Jeff, is this. Shawn noted that it will start in March. Actually it will start February 22, so what we're doing right now is building these events. These first 60 events will happen between now and the end of February, mid-February actually. And this is, primarily, a lot of our existing 7 Habits facilitators. In last year's second quarter we had a project management launch and some other facilitator initiatives, were pulled off on anything but this. And so we'd expect to do somewhere between $3 million and $4 million of revenue in 7 Habits in this quarter, primarily to our existing facilitators.

And that would represent gross, say, of $1 million in that particular channel, facilitator channel, for this quarter. By year-end we would think that we would have -- so let's say $3 million to $4 million in the second quarter. That number will be probably $4 million to $5 million in the third quarter, and even a little more than that in the fourth quarter. And so we'd expect that the year-over-year growth in the product line will be north of $5 million in the back half of the year, with the thought that it would be at about $10 million next year.

And so with that, the other practices are continuing to grow. And they are -- with these multiyear launches, the idea is to launch these things so that then they are a growth business without having to have big launches. We've just held off on this one for a few years to make sure that when we launched it, it really could be a global product. But that's the kind of impact, is $5 million incremental this year; $10 million incremental next year; and a truly global success is our goal.

Okay. And with the other practices, are you running the same number of events as last year, more events? How are you keeping your eye on the ball with some of the other practices that are growing (multiple speakers).

That's a great question. Every Monday morning we review the pace of these events. And what we're doing is we'll hold probably about 9% more events this year than last year. But what's happening, because we have a lot of new salespeople and because of a lot of marketing programs, we'll tend to put more people into these programs and it will benefit more salespeople. And so a single event, multiple salespeople can bring their clients to it and have the effect. So we think we can get the kind of -- as you've seen in our US direct offices, we've had mid-teens growth over the last years.

We think we can achieve that again this year, on top -- without 15% increase in events. The events account for about one-third of our pipeline. The rest is just ongoing face-to-face calls. So it plays an important role, but not the exclusive role, in our go-to-market strategy.

Okay. And then in Q1, your international license revenue was up a little bit, but definitely a slower growth than you've seen in the trailing four quarters. Do you think that's partly a reflection of people holding back, waiting for The 7 Habits update? And, also, what are your expectations for international license as a result of this relaunch? I would imagine they're pretty optimistic.

Go ahead Sean Covey, who oversees that --.

Okay, hello. So, I'm not really worried about this 1% growth in the first quarter, because last year we had a large contract in Brazil that was an advance that didn't repeat this year. It was around $2 million, so that will flow through over the next couple years. But if you take that out, we grew at about 8%. If you take out foreign-exchange impact, we grew at about 10%. So we feel like the operational health of the licensing network as a whole is pretty strong at 10% for the quarter, if you take out those few factors.

So I don't feel like there's been any significant bump at all in the ongoing performance of the licensees. Now, in terms of the product launch, we know it will have a big impact, and it will take a little longer than the US because we'll launch this, as Bob mentioned, at the end of February globally in English. And so India, and Singapore, and some of Africa will get it in English. And immediately they'll have some impact, but the majority of the countries speak other languages and it will take us 3 to 6 months to localize and translate the product.

So I think we'll see some impact this year, and a lot more next year. It will be higher leverage because, again, half of their sales are The 7 Habits. They know how to sell it well. They are in love with The 7 Habits. This is where they began. And so I think the impact is going to be significant and I'm very encouraged by that. I think it won't be as impactful this year as it will in the US.

Jeff, you're absolutely -- these questions are very insightful just because -- I think for us our playing process around product launches, et cetera, is exactly what you're suggesting, is we want to make sure that every practice is growing double-digits, every year, in perpetuity. Part of that is the product redevelopment and investment that we have ongoing. So there will be new additions, modules, things that people have to bring out to strengthen the solutions every year. Part of it is the event strategy and part of it is the growth of the salesforce. And so each has kind of an integrated plan between the channels and the practice, and they work together to accomplish these objectives.

Great. And one thing, Bob, I wanted to ask you is -- you've talked about getting more involved with the international license partners. That's something I think you didn't address in your commentary. Just was curious if you could give an update on how the progress is coming along, and where you think you are versus where you are wanting to be?

Great. Yes, Sean, why don't you take the first shot at it?

Yes, sure. Yes, so what we're trying to do, as I mentioned, it's a strength and a weakness, right? The 7 Habits is half the business internationally. That's great, and yet you've got the grow these other practices. That's a big opportunity, one of our biggest growth opportunities.

So what we're doing is we're taking it practice by practice. And we're -- inside the practice we are creating global practice leaders. So like an execution, we now have for the first time somebody that is part of the practice that is focused solely on the partners, the international licensees.

And we're going to do it -- instead of trying to boil the ocean, we're going to focus this year on five of our largest partners who are ready to launch and grow execution. We'll start there, spend most of our effort trying to get those five down, and then the next year, we'll take on another five. And that's the plan for each of the practices. So, execution is beginning this. We will --

Education.

Education is also doing the same thing. We are going to be, over time, doing it with Sales Performance. With the launch of 7 Habits we will have a lot of focus internationally, so this is the plan. We'll start getting double-digit growth in each of the practices internationally by extending the practice support. So there's specific focus internationally. And, again, this is one of the ways we're going to grow to our $200 million target by 2020.

And in license.

(Multiple speakers) gross licensing revenue, right.

(Multiple speakers), Jeff?

Yes, that's helpful. Thanks. And then not to monopolize the Q&A, but if I could ask one more question, Bob. On the NinetyFive 5, could you give us progress report? I was a little surprised to see a lower contingent consideration, given that it is a fairly recent acquisition.

Yes, I'd say, first of all, we feel very good about the acquisition, and the pipeline is significant. They had a good first quarter. We expect they'll have a strong second and third and fourth quarter, so I think from that standpoint we feel good about it. We had set some targets for the practice early on as part of their earnout that said -- we had our base earnout payments based on a business plan that we see signed off on. We also had some accelerated payments they could earn if we just -- it came right out of the box and knocked the cover off the ball. They will ultimately make it earn some of those greater ones. But I think it just -- it started off strong, but not strong -- it started off in line with what we had thought it would, but not at the ring-the-bell kind of level.

And so maybe Steve can speak to the actual bring back -- but I say, fundamentally, the practice feels really good. We met with their whole practice here recently, a month or so ago, the whole practice team. They've got a lot of strategic business scoring. They've won five new contracts that have the potential to be truly significant. They increased their forecast several times this last quarter, so we feel like they're getting their feet underneath them.

I would say that they, and we, were more optimistic about the first three months. The next three months, we're on track; and now they're starting to move a little ahead of what our expectations are.

I don't know, Steve, if you want to add anything to that.

Well, I just agree with what you said. We came out of the gate in good position, not quite the ring-the-bell position. The $500,000 bring back is valuation of the entire remaining earnout. So that is driven to a great extent by how you come out of the gate, as opposed to so much on how we believe it's going to earn out. So in the new accounting we -- as you know, we have to value the entire remaining earnout potential at the end of each quarter, and that's where that $500,000 -- well, it's actually a P&L benefit from looking at the value of the remaining earnout.

Right.

But that's $500,000 [to get us] potential earnout into $12 million or so. So we really -- our guaranteed payments are 4. We're re-valuing saying, hey, they may not get all the way to $12 million, but it's going to be --.

Okay. So a bit of aggressive earnout initially and performing to your expectation?

Yes. I'd say just one last comment. I think it's more the integration of the offerings. The two offerings were made to fit together, but they'd never been sold together. And we know that it takes a long time to get salespeople to sell it -- sell any new offering -- and I think that's all that really happened.

Pardon? Yes, we do have -- Shawn, you can speak to it. We have some new -- in this practice, one of the exciting new things really is we've never really had a licensed facilitator base selling this product, even though it makes so much sense in a salesforce to have sales leaders who themselves can do training, but we never productized the offering. It was more consumer [bids] than productized.

And so we have really spent -- we have three modules by the end of this quarter. And we had one up and going now, two more modules in the salesforce that will be delivered this quarter. And we think this will give a new base for providing existing clients with tools for implementation, as well as an alternative delivery method -- which, as you know, in the rest of our business, delivers $45 million revenue a year. None of it in (technical difficulty) sales performance.

So we're really very excited about it, and feel like we're now gaining traction.

And, Bob, if I can just comment. If there is an accomplishment in the first part of this integration that is most worth celebrating is the fact that we were able to complete one of the facilitator modules that we are selling, and getting great traction on. And, as Bob mentioned, in the coming six weeks or so, we'll have two additional ones. So that really represents (technical difficulty) offering that has never been productized in this way.

That, coupled with the electronic tools, really revolutionizes how we're able to go to market with is. So we're very excited about that.

Great, thanks for the details. Appreciate it, guys.

Marco Rodriguez, Stonegate Securities.

Good afternoon, guys. Thank you for (multiple speakers) questions. Hello. Most of my questions have actually been asked and answered; just a couple real quick follow-ups to get some clarification. On the government business, I heard a couple different numbers for the impact. I think I heard a $2 million impact in the prepared remarks, and then I think I heard Shawn say $1 million as well. So I'm just trying to quantify what was that negative impact in the quarter for the government business.

$1.5 million (laughter). No, it just happens to be -- that is the number.

Okay. No, that's perfect. And so that $1.5 million you're expecting to book the vast majority -- let's call it 80% plus -- in Q3, did I hear that correctly?

Yes, most, well -- yes, of the portion that got pushed out, the majority of that will go in Q3. Let me step back. This total size of the contracts are just over $5 million. On the last day of the quarter they purchased an intellectual property portion for a little over $1 million. And then the rest of the contract then was not -- none of that was delivered. And so the rest of that -- call it roughly $4 million, $3.8 million -- will be delivered in second and third quarters.

Okay. But you're going to have an extra $1.5 million in Q3 that didn't show up in Q1, correct?

Yes, yes.

Got it, okay. And then in terms of the ForEx impact, just looking again at your prepared remarks and the press release, it looked like -- maybe I misinterpreted -- the ForEx impact was about $1 million higher than you were expecting.

The impact in the first quarter of the foreign exchange was about $1 million. But from November 1, when we forecasted it would be flat to slightly down, we had, what? Another $150,000 or so of bottom-line impact from foreign exchange during the quarter. So the primary thing was the push-off of the government, but we also had the $150,000 or so of the bottom-line impact related to FX incrementally in the first quarter.

So total impact, $1 million on revenue. Bottom line for the whole quarter, what is that, Scott? $300,000 or $400,000 for the total quarter? So you'd say $400,000 for the quarter, Marco -- total FX impact, with the incremental from November 1 to the end being more in that $100,000 to $150,000 range.

Okay. Got it. Thanks a lot, guys.

Kevin Leary, Spitfire Capital.

Good afternoon, everybody. First question is on international direct. Even if I add back the $1 million or so that was FX related, revenue was still down, call it, $1 million. I know there's been some talk about the new leadership offering coming out, and I'm just wondering, is all of that decline waiting to unleash the new leadership offering? Or is there anything else underlying dragging down that growth?

Shawn, do you want to respond first?

Yes, there's a couple things. The new leadership offering is one thing. Second, we had significant opportunities that we actually move forward into the fourth quarter of last year. And that was something that had maybe a disproportionate impact in those offices than some of the direct offices in the US and Canada. And we had a leadership change in our UK operations as well. And that was one was a little bit disruptive, but very pleased with the direction of the new leader. So a combination of those things.

Going forward, the impact of 7 Habits launch will be more profoundly positive in those offices, because historically that's been the majority of what they've sold. So in Japan starting in June when the translation is complete, and immediately in the UK and Australia, we expect an impact in this quarter. We had about a -- we were down some -- hopefully it was a -- they've been working on big deals. Sometimes they shipped late and sometimes they shipped early. In this case, two particular deals in Japan worth about $840,000 moved into the fourth quarter.

Got it. And I think I heard earlier that about 50% of licensee revenue is leadership. Is it the equivalent in international direct, or is it a different ratio?

It is equivalent; maybe even a little higher.

Yes, maybe a little bit higher, particularly in Japan where it's higher than that.

Got it, got it. Okay. And then second question, just balance sheet-related, maybe for Steve. Looking at cash, it declined about $10 million during the quarter, and it looks like most of that is a reduction in accrued liabilities. Can you just bridge me through the fourth quarter of last year to the first quarter of this year, and what drove the paydown, what those different accounts were?

Sure. There's several impact in cash. Let me back up just a little bit. The primary reduction is related to the payment of our year-end commissions and bonuses. So, all of the executive team as an example is paid an annual bonus, the same as in many companies. So at year-end that's accrued, and it's all paid in the first quarter. So, since last year was a good year, then those are reasonable amounts. Additionally, since our Q4 results were -- sales results were good -- the amount of our accrued commissions at the end of the year are higher than any other month. And so those are paid in the fourth -- in the first quarter. So it's those types of payments.

Additionally, impacting our cash balance, we paid $1 million in acquisition payments related to NinetyFive 5. Because of our 7 Habits work, we had $2.7 million of capitalized development payments, which is a high amount for a quarter. Very valuable, et cetera, but it's higher than a normal quarter of capitalized development.

And then, because we allowed the net exercise of share-based compensation awards that vested, we actually paid just over $3 million in the purchase, if you will, of shares because of share-based compensation awards.

So the combination of all of those things impacted our cash balance.

Great, that's helpful. Thank you. And then lastly, the new lease that was signed -- the new sublease that was signed -- is that at a similar rate? So once you guys get back to a run rate lease revenue, will it be similar to what you've seen in the past?

Yes. It is about at the same rate.

Okay, understood. Okay, great. Thanks for taking my questions.

I might just add on this last -- I might just add -- let me just add on this cash point, the other thing that impacts our cash balance at any period is obviously our receivable balance. And just note for everybody that our receivable balance, while high at the end of the quarter, we believe is -- the information we have has decreased $9 million since the end of the quarter.

Through collections?

Through collections, not write-offs, yes (laughter).

Sarkis Sherbetchyan, B. Riley and Company.

Thank you. Most of my questions have been answered. One quick clarification. So, were overall sales in Q1 generally consistent with your internal expectations? Or where there some surprises beyond the government shutdown that impacted the results? Thank you.

Yes, thanks so much. Generally they were in line with our expectations, with the exception of some of the -- you work on these larger deals, as we mentioned in the last quarter's call, there was about $1.5 million or so of large deals between Japan and the US that got moved into the quarter. But otherwise, our booking pace and everything was as expected. And so, really, with the exception of the international direct offices which we've spoken about -- I think the bookings, the revenue, everything else, was really on track with expectations in the first quarter; in some cases, somewhat ahead.

Okay, that's helpful. And then one housekeeping item. Is it possible to break out the cost of goods sold by line item? That would be pretty helpful.

Steve?

By line item of training products.

Yes, we're going to -- Derek Hatch will go over that.

So we're talking for training and consulting services, products, and leasing?

Yes.

Yes, cost of goods sold for training and consulting services was $12.414 million. Products was $506,000. And leasing was $467,000. That should total $13.387 million for a gross profit of [$30.041] million for the quarter.

Thank you so much. That's helpful.

Donnie Wilkerson, Private Investor.

Yes, thanks for taking my questions. I noticed in the commentary -- thank you. I noticed in your commentary for the Q4, there was considerable discussion about the education practice; and, specifically, the role of The Leader in Me program in that. Could you talk a little bit about how that impacted the Q1, and how you see that going forward for the balance of the year?

You bet. I'll ask Sean to do that.

Sure. Yes, so, two years ago, we grew the education practice at 40%. Last fiscal year, we grew it at 65%. First quarter this year, it grew at 24%. And so the growth continue strong, and we have a large -- the thing that's encouraging is we're getting larger and larger contracts with the district level. We're even talking to some leaders at the state level, education leaders at the state level. So we have over 2000 Leader in Me schools now, about 1800 in the United States and the other 200 are outside.

We have major growth initiatives going on in the several foreign countries like Brazil. This year we're focused on getting a large education partner established in China. So the momentum is strong, and we continue to hire -- we've gone from six salespeople to over 20 now. And so we expect good, solid growth, and don't see anything slowing down at all in our growth and our potential here.

We have, for example, an opportunity with one large district in a real big metro area that could be about 200 schools that we would implement just over a few-month period, and we're negotiating the contract right now. But because we -- again, we focus on quality always first. And because of that focus -- for example, in New York City, we started with just a handful of schools. Have done really well with them, and so now the New York City district is very interested in doing more with us.

And so we'll continue to focus on quality, on getting great research done. That's a big area of focus now. And also we do a lot of fundraising or fund matching with chambers of commerce, with foundations, and so forth. Because businesses are very interested in education, and there's a lot of money out there looking for something that works, and we feel like we've got something that does work. And so we're pleased with the progress.

Does that help? Any other questions around that?

Yes, just one additional question. I understand that within that program the signature Habits program is part of that. Will the new offering now be included in that? And will there be some effort to re-up those that have participated in the old program recently? Or how will that play out?

Yes, yes. The 7 Habits signature program is a key component of The Leader in Me process, one of about six items that go into it. And it will be incorporated, yes, so the new 7 Habits will be part of The Leader in Me, and we'll be launching that right along with the rest of the country. So we're excited about that, and it will help improve the program and we think keep the acceleration of growth strong for education.

Very good, thank you.

I just -- one thing. The more rapidly education grows, the more pressure it puts on the early quarters financially, too, because half of the revenues from education comes in the fourth quarter. And you have the draws to salespeople, the new recruitment of salespeople, the R&D investment, et cetera. It tends to contribute less to the bottom line in the early quarters and hugely in the later quarters. And so we're excited about it, but it does create a little bit of an anchor on the first quarter or two from a profitability standpoint.

And I show no further questions at this time.

All right. We'd like to thank everyone. And thanks for staying on a little longer to answer these -- or to ask these questions. We appreciate your continued support and look forward to talking to you again in April, if not before. Thanks so much.

Thanks, everyone.

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