UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)


[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended February 29, 2020


[   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from __________ to __________

Commission file no. 1-11107

FRANKLIN COVEY CO.
(Exact name of registrant as specified in its charter)


Utah
(State of incorporation)

 
87-0401551
(I.R.S. employer identification number)
2200 West Parkway Boulevard
Salt Lake City, Utah
(Address of principal executive offices)

 
84119-2099
(Zip Code)
Registrant’s telephone number,
Including area code
 
(801) 817-1776

Securities registered pursuant to Section 12(b) of the Act:

Title of Each Class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $.05 Par Value
FC
New York Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past
90 days.  Yes  ☒   No   ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes  ☒   No   ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company.  See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer 
 ☐  
Accelerated Filer
 ☒
Non-accelerated Filer
 ☐  
Smaller Reporting Company
 ☒
Emerging Growth Company
 ☐      


If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ☐   No   ☒

Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock as of the latest practicable date:

13,869,729 shares of Common Stock as of March 31, 2020




PART I.  FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS

FRANKLIN COVEY CO.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per-share amounts)

             
   
February 29,
   
August 31,
 
   
2020
   
2019
 
   
(unaudited)
 
ASSETS
           
Current assets:
           
Cash and cash equivalents
 
$
24,810
   
$
27,699
 
Accounts receivable, less allowance for doubtful accounts of $4,076 and $4,242
   
48,722
     
73,227
 
Inventories
   
2,795
     
3,481
 
Prepaid expenses and other current assets
   
15,531
     
14,933
 
Total current assets
   
91,858
     
119,340
 
                 
Property and equipment, net
   
18,368
     
18,579
 
Intangible assets, net
   
45,350
     
47,690
 
Goodwill
   
24,220
     
24,220
 
Deferred income tax assets
   
7,066
     
5,045
 
Other long-term assets
   
14,923
     
10,039
 
   
$
201,785
   
$
224,913
 
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
Current liabilities:
               
Current portion of term notes payable
 
$
5,000
   
$
5,000
 
Current portion of financing obligation
   
2,465
     
2,335
 
Accounts payable
   
8,735
     
9,668
 
Deferred subscription revenue
   
46,746
     
56,250
 
Other deferred revenue
   
7,561
     
5,972
 
Accrued liabilities
   
18,717
     
24,319
 
Total current liabilities
   
89,224
     
103,544
 
                 
Term notes payable, less current portion
   
17,500
     
15,000
 
Financing obligation, less current portion
   
15,379
     
16,648
 
Other liabilities
   
6,587
     
7,527
 
Deferred income tax liabilities
   
180
     
180
 
Total liabilities
   
128,870
     
142,899
 
                 
Shareholders’ equity:
               
Common stock, $.05 par value; 40,000 shares authorized, 27,056 shares issued
   
1,353
     
1,353
 
Additional paid-in capital
   
216,045
     
215,964
 
Retained earnings
   
59,956
     
59,403
 
Accumulated other comprehensive income
   
322
     
269
 
Treasury stock at cost, 13,209 shares and 13,087 shares
   
(204,761
)
   
(194,975
)
Total shareholders’ equity
   
72,915
     
82,014
 
   
$
201,785
   
$
224,913
 


See notes to condensed consolidated financial statements


2


FRANKLIN COVEY CO.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands, except per-share amounts)

                         
   
Quarter Ended
   
Two Quarters Ended
 
   
February 29,
   
February 28,
   
February 29,
   
February 28,
 
   
2020
   
2019
   
2020
   
2019
 
   
(unaudited)
   
(unaudited)
 
                         
Net sales
 
$
53,745
   
$
50,356
   
$
112,357
   
$
104,185
 
Cost of sales
   
15,079
     
14,990
     
31,662
     
32,037
 
Gross profit
   
38,666
     
35,366
     
80,695
     
72,148
 
                                 
Selling, general, and administrative
   
36,221
     
35,925
     
75,620
     
70,568
 
Depreciation
   
1,653
     
1,697
     
3,273
     
3,251
 
Amortization
   
1,170
     
1,300
     
2,340
     
2,538
 
Loss from operations
   
(378
)
   
(3,556
)
   
(538
)
   
(4,209
)
                                 
Interest income
   
13
     
9
     
18
     
22
 
Interest expense
   
(557
)
   
(623
)
   
(1,162
)
   
(1,255
)
Discount accretion on related party receivable
   
-
     
243
     
-
     
258
 
Loss before income taxes
   
(922
)
   
(3,927
)
   
(1,682
)
   
(5,184
)
Income tax benefit
   
2,019
     
410
     
2,235
     
310
 
Net income (loss)
 
$
1,097
   
$
(3,517
)
 
$
553
   
$
(4,874
)
                                 
Net income (loss) per share:
                               
Basic and diluted
 
$
0.08
   
$
(0.25
)
 
$
0.04
   
$
(0.35
)
                                 
Weighted average number of common shares:
                               
Basic
   
13,841
     
13,937
     
13,911
     
13,927
 
Diluted
   
13,990
     
13,937
     
14,118
     
13,927
 
                                 
                                 
COMPREHENSIVE INCOME (LOSS)
                               
Net income (loss)
 
$
1,097
   
$
(3,517
)
 
$
553
   
$
(4,874
)
Foreign currency translation adjustments,
                               
net of income tax provision
                               
of $0, $(11), $0, and $0
   
90
     
438
     
53
     
129
 
Comprehensive income (loss)
 
$
1,187
   
$
(3,079
)
 
$
606
   
$
(4,745
)














See notes to condensed consolidated financial statements
3


FRANKLIN COVEY CO.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

             
   
Two Quarters Ended
 
   
February 29,
   
February 28,
 
   
2020
   
2019
 
   
(unaudited)
 
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net income (loss)
 
$
553
   
$
(4,874
)
Adjustments to reconcile net income (loss) to net cash
               
provided by operating activities:
               
Depreciation and amortization
   
5,613
     
5,789
 
Amortization of capitalized curriculum costs
   
2,029
     
2,856
 
Stock-based compensation expense
   
3,644
     
1,989
 
Deferred income taxes
   
(2,012
)
   
(1,402
)
Change in fair value of contingent consideration liabilities
   
(91
)
   
76
 
Loss on disposal of assets
   
38
     
-
 
Changes in assets and liabilities, net of effect of acquired business:
               
Decrease in accounts receivable, net
   
24,556
     
21,197
 
Decrease in inventories
   
681
     
402
 
Decrease (increase) in prepaid expenses and other assets
   
(180
)
   
2,425
 
Decrease in accounts payable and accrued liabilities
   
(6,959
)
   
(6,298
)
Decrease in deferred revenue
   
(8,888
)
   
(8,842
)
Increase (decrease) in income taxes payable/receivable
   
(1,605
)
   
214
 
Decrease in other long-term liabilities
   
(6
)
   
(182
)
Net cash provided by operating activities
   
17,373
     
13,350
 
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Purchases of property and equipment
   
(2,516
)
   
(2,195
)
Curriculum development costs
   
(2,232
)
   
(1,256
)
Purchase of note receivable from bank (Note 12)
   
(2,600
)
   
-
 
Acquisition of business, net of cash acquired
   
-
     
(32
)
Net cash used for investing activities
   
(7,348
)
   
(3,483
)
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Proceeds from line of credit borrowings
   
-
     
46,032
 
Payments on line of credit borrowings
   
-
     
(48,993
)
Proceeds from term notes payable financing
   
5,000
     
-
 
Principal payments on term notes payable
   
(2,500
)
   
(3,125
)
Principal payments on financing obligation
   
(1,139
)
   
(1,020
)
Purchases of common stock for treasury
   
(13,833
)
   
(12
)
Payment of contingent consideration liabilities
   
(911
)
   
(301
)
Proceeds from sales of common stock held in treasury
   
484
     
444
 
Net cash used for financing activities
   
(12,899
)
   
(6,975
)
Effect of foreign currency exchange rates on cash and cash equivalents
   
(15
)
   
63
 
Net increase (decrease) in cash and cash equivalents
   
(2,889
)
   
2,955
 
Cash and cash equivalents at the beginning of the period
   
27,699
     
10,153
 
Cash and cash equivalents at the end of the period
 
$
24,810
   
$
13,108
 
                 
Supplemental disclosure of cash flow information:
               
Cash paid for income taxes
 
$
1,381
   
$
831
 
Cash paid for interest
   
1,144
     
1,276
 
                 
Non-cash investing and financing activities:
               
Purchases of property and equipment financed by accounts payable
 
$
985
   
$
369
 
Use of notes receivable to modify revenue contract (Note 12)
   
3,246
     
-
 

See notes to condensed consolidated financial statements
4


FRANKLIN COVEY CO.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(in thousands and unaudited)


                             Accumulated              
   
Common
   
Common
   
Additional
         
Other
   
Treasury
   
Treasury
 
   
Stock
   
Stock
   
Paid-In
   
Retained
   
Comprehensive
   
Stock
   
Stock
 
   
Shares
   
Amount
   
Capital
   
Earnings
   
Income
   
Shares
   
Amount
 
                                           
Balance at August 31, 2019
   
27,056
   
$
1,353
   
$
215,964
   
$
59,403
   
$
269
     
(13,087
)
 
$
(194,975
)
Issuance of common stock from
                                                       
treasury
                   
131
                     
9
     
123
 
Purchase of treasury shares
                                                   
(3
)
Stock-based compensation
                   
1,851
                                 
Cumulative translation
                                                       
adjustments
                                   
(37
)
               
Net loss
                           
(544
)
                       
Balance at November 30, 2019
   
27,056
     
1,353
     
217,946
     
58,859
     
232
     
(13,078
)
   
(194,855
)
                                                         
Issuance of common stock from
                                                       
treasury
                   
(3,361
)
                   
241
     
3,591
 
Purchase of treasury shares
                                           
(393
)
   
(13,830
)
Stock-based compensation
                   
1,793
                                 
Restricted stock award
                   
(333
)
                   
21
     
333
 
Cumulative translation
                                                       
adjustments
                                   
90
                 
Net income
                           
1,097
                         
Balance at February 29, 2020
   
27,056
   
$
1,353
   
$
216,045
   
$
59,956
   
$
322
     
(13,209
)
 
$
(204,761
)




























See notes to condensed consolidated financial statements
5


FRANKLIN COVEY CO.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY – PRIOR FISCAL YEAR
(in thousands and unaudited)


                             Accumulated              
   
Common
   
Common
   
Additional
         
Other
   
Treasury
   
Treasury
 
   
Stock
   
Stock
   
Paid-In
   
Retained
   
Comprehensive
   
Stock
   
Stock
 
   
Shares
   
Amount
   
Capital
   
Earnings
   
Income
   
Shares
   
Amount
 
                                           
Balance at August 31, 2018
   
27,056
   
$
1,353
   
$
211,280
   
$
63,569
   
$
341
     
(13,159
)
 
$
(196,043
)
Issuance of common stock from
                                                       
treasury
                   
64
                     
11
     
166
 
Purchases of common shares
                                                       
   for treasury
                                                   
(7
)
Stock-based compensation
                   
946
                                 
Cumulative translation
                                                       
adjustments
                                   
(309
)
               
Cumulative effect of
                                                       
accounting change
                           
(3,143
)
                       
Net loss
                           
(1,357
)
                       
Balance at November 30, 2018
   
27,056
     
1,353
     
212,290
     
59,069
     
32
     
(13,148
)
   
(195,884
)
                                                         
Issuance of common stock from
                                                       
treasury
                   
53
                     
11
     
162
 
Purchases of common shares
                                                       
   for treasury
                                                   
(5
)
Stock-based compensation
                   
1,043
                                 
Restricted stock award
                   
(426
)
                   
28
     
426
 
Cumulative translation
                                                       
adjustments
                                   
438
                 
Net loss
                           
(3,517
)
                       
Balance at February 28, 2019
   
27,056
   
$
1,353
   
$
212,960
   
$
55,552
   
$
470
     
(13,109
)
 
$
(195,301
)



















See notes to condensed consolidated financial statements
6


FRANKLIN COVEY CO.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

NOTE 1 – BASIS OF PRESENTATION

General

Franklin Covey Co. (hereafter referred to as us, we, our, or the Company) is a global company focused on organizational performance improvement.  Our mission is to “enable greatness in people and organizations everywhere,” and our global structure is designed to help individuals and organizations achieve sustained superior performance through changes in human behavior.  We are fundamentally a content and solutions company, and we believe that our offerings and services create the connection between capabilities and results.  Our expertise extends to seven crucial areas: Leadership, Execution, Productivity, Trust, Educational Improvement, Sales Performance, and Customer Loyalty.  We believe that our clients are able to utilize our content to create cultures whose hallmarks are high-performing, collaborative individuals, led by effective, trust-building leaders who execute with excellence and deliver measurably improved results for all of their key stakeholders.

In the training and consulting marketplace, we believe there are three important characteristics that distinguish us from our competitors.

World Class Content – Our content is principle-centered and based on natural laws of human behavior and effectiveness.  When our content is applied consistently in an organization, we believe the culture of that organization will change to enable the organization to achieve their own great purposes.  Our content is designed to build new skillsets, establish new mindsets, and provide enabling toolsets to our clients.

Breadth and Scalability of Delivery Options – We have a wide range of content delivery options, including: subscription offerings, which includes the All Access Pass (available in multiple languages), the Leader in Me membership, and other subscription offerings; intellectual property licenses; on-site training; training led through certified facilitators; on-line learning; and organization-wide transformational processes, including consulting and coaching services.

Global Capability – We have sales professionals in the United States and Canada who serve clients in the private sector and in governmental organizations; wholly-owned subsidiaries in Australia, China, Japan, the United Kingdom, Germany, Switzerland, and Austria; and we contract with licensee partners who deliver our content and provide related services in over 140 other countries and territories around the world.

We are committed to, and measure ourselves by, our clients’ achievement of transformational results.

We have some of the best-known offerings in the training industry, including a suite of individual-effectiveness and leadership-development training content based on the best-selling books, The 7 Habits of Highly Effective People, The Speed of Trust, The Leader in Me, and The 4 Disciplines of Execution, and proprietary content in the areas of Execution, Sales Performance, Productivity, Educational Improvement, and Customer Loyalty.  Our offerings are described in further detail at www.franklincovey.com.  The information posted on our website is not incorporated into this report.
7


The accompanying unaudited condensed consolidated financial statements reflect, in the opinion of management, all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position and results of operations of the Company as of the dates and for the periods indicated.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to Securities and Exchange Commission (SEC) rules and regulations.  The information included in this quarterly report on Form 10-Q should be read in conjunction with the consolidated financial statements and related notes included in our annual report on Form 10-K for the fiscal year ended August 31, 2019.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the dates of the financial statements, and the reported amounts of revenues and expenses during the reporting periods.  Actual results could differ from those estimates.

Our fiscal year ends on August 31 of each year and our fiscal quarters end on the last day of November, February, and May of each year.

The results of operations for the quarter ended February 29, 2020 are not necessarily indicative of results expected for the entire fiscal year ending August 31, 2020, or for any future periods.

Accounting Pronouncements Issued and Adopted

In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), which supersedes FASB Accounting Standards Codification (ASC) Topic 840, Leases.  The new guidance requires lessees to recognize a lease liability and corresponding right-of-use asset for all leases greater than 12 months.  Recognition, measurement, and presentation of expenses depends upon whether the lease is classified as a finance or operating lease.  We adopted the new lease guidance prospectively on September 1, 2019.  As part of the adoption of ASU 2016-02, we elected to apply the package of practical expedients, which allows us to not reassess prior conclusions related to lease classification, not to recognize short-term leases on our balance sheet, and not to separate lease and non-lease components for our leases.  On September 1, 2019, the adoption of ASU 2016-02 resulted in the recognition of $1.5 million of lease liabilities and right-of-use assets on our condensed consolidated balance sheets for operating leases.  For lessors, accounting for leases is substantially the same as in prior periods and there was no impact from the adoption of ASU 2016-02 for those leases where we are the lessor.  Refer to Note 5, Leases for further information regarding our leasing activity.

The lease for our corporate campus is currently accounted for as a financing obligation and related building asset on our consolidated balance sheets, as the contract represented a failed sale-leaseback under previous leasing guidance.  In transition to Topic 842, we reassessed whether the previously failed sale-leaseback met the sale criteria under the new leasing standard.  Based on this assessment, we determined that the sale criteria under the new leasing standard was not met and we will continue to account for the corporate campus lease as a finance obligation on our consolidated balance sheet in future periods.

8


Accounting Pronouncements Issued Not Yet Adopted

Credit Losses on Financial Instruments

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.  This accounting standard changes the methodology for measuring credit losses on financial instruments, including trade accounts receivable, and the timing of when such losses are recorded.  ASU No. 2016-13 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2019.  Early adoption is permitted for fiscal years, and interim periods within those years, beginning after December 15, 2018.  We expect to adopt the provisions of ASU No. 2016-13 on September 1, 2020 and are currently evaluating the impact of this guidance on our financial position, results of operations, and disclosures.

Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement

In August 2018, the FASB issued ASU No. 2018-15, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract (ASU 2018-15).  This guidance clarifies the accounting for implementation costs in a cloud computing arrangement that is a service contract and aligns the requirements for capitalizing those costs with the capitalization requirements for costs incurred to develop or obtain internal-use software.  The new standard is effective for interim and annual periods beginning after December 15, 2019, and early adoption is permitted.  We are currently evaluating the effects, if any, the adoption of ASU 2018-15 may have on our financial position, results of operations, cash flows, or disclosures.


NOTE 2 – INVENTORIES

Inventories are stated at the lower of cost or net realizable value, cost being determined using the first-in, first-out method, and were comprised of the following (in thousands):
             
   
February 29,
   
August 31,
 
   
2020
   
2019
 
Finished goods
 
$
2,775
   
$
3,434
 
Raw materials
   
20
     
47
 
   
$
2,795
   
$
3,481
 


NOTE 3 – TERM NOTES PAYABLE

Pursuant to the credit agreement we obtained in August 2019 (the 2019 Credit Agreement), we have the ability to borrow up to $25.0 million in term loans.  At August 31, 2019, we had borrowed $20.0 million of the available term loan amount.  During November 2019, we borrowed the remaining $5.0 million term loan available on the 2019 Credit Agreement.  The additional $5.0 million term loan has the same terms and conditions as the previous term loan and does not change the amount of our quarterly principal payments.  However, the maturity date of the term loans is extended for one year as a result of the additional payments.  At February 29, 2020, our future principal payments on the term loans are as follows (in thousands):
9


YEAR ENDING AUGUST 31,
 
Amount
 
2020
 
$
2,500
 
2021
   
5,000
 
2022
   
5,000
 
2023
   
5,000
 
2024
   
5,000
 
   
$
22,500
 


NOTE 4 – FAIR VALUE OF FINANCIAL INSTRUMENTS

At February 29, 2020, the carrying value of our financial instruments approximated their fair values.  The fair values of our contingent consideration liabilities from previous business acquisitions are considered “Level 3” measurements because we use various estimates in the valuation models to project the timing and amount of future contingent payments.  The fair value of the contingent consideration liabilities from the acquisitions of Jhana Education (Jhana) and Robert Gregory Partners (RGP) changed as follows during the quarter and two quarters ended February 29, 2020 (in thousands):

   
Jhana
   
RGP
   
Total
 
Balance at August 31, 2019
 
$
3,468
   
$
1,761
   
$
5,229
 
Change in fair value
   
98
     
(7
)
   
91
 
Payments
   
(282
)
   
(500
)
   
(782
)
Balance at November 30, 2019
   
3,284
     
1,254
     
4,538
 
Change in fair value
   
153
     
(335
)
   
(182
)
Payments
   
(129
)
   
-
     
(129
)
Balance at February 29, 2020
 
$
3,308
   
$
919
   
$
4,227
 

At each quarterly reporting date, we estimate the fair value of the contingent liabilities from both the Jhana and RGP acquisitions through the use of Monte Carlo simulations.  Based on the timing of expected payments, $1.3 million of the Jhana and $0.5 million of the RGP contingent consideration liabilities were recorded as components of accrued liabilities on our condensed consolidated balance sheet at February 29, 2020.  The remainder of our contingent consideration liabilities are classified as other long-term liabilities.  Adjustments to the fair value of our contingent consideration liabilities are included in selling, general, and administrative expense in the accompanying condensed consolidated statements of operations.


NOTE 5 – LEASES

Lessee Obligations

In the normal course of business we rent office space, primarily for international sales administration offices, in commercial office complexes that are conducive to sales and administrative operations.  We also rent warehousing and distribution facilities that are designed to provide secure storage and efficient distribution of our training products, books, and accessories.  All of these leases are classified as operating leases.  Operating lease assets and liabilities are recognized at the commencement date based on the present value of the lease payments over the lease term.  Since most of our leases do not provide an implicit rate, we use our incremental borrowing rate based on the information available at the commencement date in determining the present value of lease payments.  Leases with an initial term of 12 months or less are not recorded on the balance sheet.  For operating leases, expense is recognized on a straight-line basis over the lease term.  We do not have significant amounts of variable lease payments.
10


Some of our operating leases contain renewal options that may be exercised at our discretion after the completion of the base rental term.  At February 29, 2020, we had operating leases with remaining terms ranging from less than one year to approximately six years.  The amounts of assets and liabilities (in thousands) and other information related to our operating leases follows:

   Balance Sheet
   February 29,
 
   Caption    2020  
Assets:
       
Operating lease right of use assets
Other long-term assets
 
$
1,662
 
           
Liabilities:
         
  Current:
         
    Operating lease liabilities
Accrued liabilities
   
921
 
  Long-Term:
         
    Operating lease liabilities
Other long-term liabilities
   
741
 
      
$
1,662
 
           
Weighted Average Remaining Lease Term:
         
    Operating leases (years)
     
2.7
 
           
Weighted Average Discount Rate:
         
    Operating leases
     
4.2
%

During the quarter and two quarters ended February 29, 2020, lease expense totaled $0.4 million and $0.8 million, respectively.  For the quarter and two quarters ended February 28, 2019, lease expense also totaled $0.4 million and $0.8 million.  Operating lease expense is reported in selling, general, and administrative expense in our condensed consolidated statements of operations.

The approximate future minimum lease payments under our operating leases at February 29, 2020, is as follows (in thousands):

YEAR ENDING AUGUST 31,
 
Amount
 
Remainder of 2020
 
$
541
 
2021
   
727
 
2022
   
202
 
2023
   
116
 
2024
   
93
 
Thereafter
   
98
 
  Total operating lease payments
   
1,777
 
Less imputed interest
   
(115
)
  Present value of operating lease liabilities
 
$
1,662
 

11


Lessor Accounting

We have subleased the majority of our corporate headquarters campus located in Salt Lake City, Utah to multiple tenants.  These sublease agreements are accounted for as operating leases.  We recognize sublease income on a straight-line basis over the life of the sublease agreement.  The cost basis of our corporate campus was $36.0 million, which had a carrying value of $6.6 million at February 29, 2020.  The following future minimum lease payments due to us from our sublease agreements at February 29, 2020, are as follows (in thousands):

YEAR ENDING AUGUST 31,
 
Amount
 
Remainder of 2020
 
$
1,955
 
2021
   
2,341
 
2022
   
1,514
 
2023
   
1,514
 
2024
   
1,527
 
Thereafter
   
1,275
 
   
$
10,126
 

For the quarter and two quarters ended February 29, 2020, sublease revenue totaled $1.0 million and $1.9 million, respectively.  During the quarter and two quarters ended February 28, 2019, sublease revenue also totaled $1.0 million and $1.9 million.  Sublease revenues are included in net sales in the accompanying condensed consolidated statements of operations.


NOTE 6 – SHAREHOLDERS’ EQUITY

In December 2019, Knowledge Capital Investment Group (Knowledge Capital), an investor which held 2.8 million shares of our common stock stemming from its initial investment in Franklin Covey over 20 years ago, wound up its operations and distributed its assets to investors.  On December 9, 2019, prior to the distribution of its assets to investors, we purchased 284,608 shares of our common stock from Knowledge Capital at $35.1361 per share, for an aggregate purchase price of $10.1 million, including legal costs.  Our CEO and a member of our Board of Directors each owned a partnership interest in Knowledge Capital.  As of the date hereof, Knowledge Capital does not own any shares of our common stock.


NOTE 7 – REVENUE

Contract Balances

Our deferred revenue totaled $56.9 million at February 29, 2020 and $65.8 million at August 31, 2019, of which $2.6 million and $3.6 million were classified as components of other long-term liabilities at February 29, 2020, and August 31, 2019, respectively.  The amount of deferred revenue that was generated from subscription offerings totaled $48.0 million at February 29, 2020 and $58.2 million at August 31, 2019.  During the quarter and two quarters ended February 29, 2020, we recognized $21.4 million and $42.5 million of previously deferred subscription revenue.

Remaining Performance Obligations

When possible, we enter into multi-year non-cancellable contracts which are invoiced either upon execution of the contract or at the beginning of each annual contract period.  ASC Topic 606 introduced the concept of remaining transaction price which represents contracted revenue that has not yet been recognized, including unearned revenue and unbilled amounts that will be recognized as revenue in future periods.  Transaction price is influenced by factors such as seasonality, the average length of the contract term, and the ability of the Company to continue to enter multi-year non-cancellable contracts.  At February 29, 2020, we had $82.7 million of remaining performance obligations, including the amount of deferred revenue related to our subscription offerings, of which approximately 75 percent will be recognized over the next 12 months.  The remaining performance obligation does not include other deferred revenue, as amounts included in other deferred revenue include items such as deposits that are generally refundable at the client’s request prior to the satisfaction of the obligation.
12


Disaggregated Revenue Information

Refer to Note 11, Segment Information, to these condensed consolidated financial statements for our disaggregated revenue information.

NOTE 8 – STOCK-BASED COMPENSATION

The cost of our stock-based compensation plans is included in selling, general, and administrative expense in the accompanying condensed consolidated statements of operations.  Our stock-based compensation expense was comprised of the following for the periods presented (in thousands):
                         
   
Quarter Ended
   
Two Quarters Ended
 
   
February 29,
   
February 28,
   
February 29,
   
February 28,
 
   
2020
   
2019
   
2020
   
2019
 
Long-term incentive awards
 
$
1,566
   
$
824
   
$
3,201
   
$
1,557
 
Restricted stock awards
   
175
     
175
     
350
     
350
 
Employee stock purchase plan
   
52
     
44
     
93
     
82
 
   
$
1,793
   
$
1,043
   
$
3,644
   
$
1,989
 

During the two quarters ended February 29, 2020, we issued 270,531 shares of our common stock under various stock-based compensation arrangements.  Our stock-based compensation plans also allow shares to be withheld to cover statutory income taxes if so elected by the award recipient.  During the first two quarters of fiscal 2020, we withheld 103,117 shares of our common stock for taxes on stock-based compensation arrangements, which had a fair value of $3.6 million.  The following is a description of the developments in our stock-based compensation plans during the quarter and two quarters ended February 29, 2020.

Stock Options

During December 2019, our Chief Executive Officer (CEO) and Chief Financial Officer (CFO) exercised stock options.  Nearly all of the stock options exercised would have expired in January 2020.  The following information applies to our stock option activity during the two quarters ended February 29, 2020.

         
Weighted
 
         
Avg. Exercise
 
   
Number of
   
Price Per
 
   
Stock Options
   
Share
 
Outstanding at August 31, 2019
   
568,750
   
$
11.67
 
Granted
   
-
     
-
 
Exercised
   
(350,000
)
   
(11.73
)
Forfeited
   
-
     
-
 
                 
Outstanding at February 29, 2020
   
218,750
   
$
11.57
 
                 
Options vested and exercisable at
               
February 29, 2020
   
218,750
   
$
11.57
 

13


The stock options were exercised on a net basis (no cash was paid to exercise the options) and we withheld 102,656 shares of our common stock with a fair value of $3.6 million for income taxes.  The intrinsic value of the exercised options totaled $8.0 million and we recognized an income tax benefit of $1.8 million (Note 9) during the quarter ended February 29, 2020.  The remaining stock options outstanding at February 29, 2020 expire in January 2021.

Fiscal 2020 Restricted Stock Award

Our annual restricted stock award granted to non-employee members of the Board of Directors is administered under the terms of the 2019 Franklin Covey Co. Omnibus Incentive Plan, and is designed to provide our non-employee directors, who are not eligible to participate in our employee stock purchase plan, an opportunity to obtain an interest in the Company through the acquisition of shares of our common stock.  The annual award is granted in January (following the annual shareholders’ meeting) of each year.  For the fiscal 2020 award, each eligible director received a whole-share grant equal to $100,000 with a one-year vesting period.  Our restricted stock award activity during the two quarters ended February 29, 2020 consisted of the following:

         
Weighted-Average
 
         
Grant Date
 
   
Number of
   
Fair Value
 
   
Shares
   
Per Share
 
Restricted stock awards at
           
August 31, 2019
   
28,525
   
$
24.54
 
Granted
   
21,420
     
32.68
 
Forfeited
   
-
     
-
 
Vested
   
(28,525
)
   
24.54
 
Restricted stock awards at
               
February 29, 2020
   
21,420
   
$
32.68
 

At February 29, 2020, there was $0.6 million of unrecognized compensation expense remaining on the fiscal 2020 Board of Director restricted share award.

Fiscal 2020 Long-Term Incentive Plan Award

On October 18, 2019, the Organization and Compensation Committee of the Board of Directors granted a new long-term incentive plan (LTIP) award to our executive officers and members of senior management.  The fiscal 2020 LTIP award is similar to the fiscal 2019 LTIP award and has three tranches, one of which has a time-based vesting condition and two of which have performance-based vesting conditions as described below:

Time-Based Award Shares – Twenty-five percent of the 2020 LTIP award shares vest to participants after three years of service.  The total number of shares that may be earned by participants after three years of service is 25,101 shares.  The number of shares awarded in this tranche is not variable and will not fluctuate based on financial measures.

Performance-Based Award Shares – The remaining two tranches of the 2020 LTIP award are based on fiscal 2022 qualified adjusted earnings before interest, taxes, depreciation, and amortization (Adjusted EBITDA) and fiscal 2022 subscription service sales, respectively.  The number of shares that will vest to participants for these two tranches is variable and may be 50 percent of the award (minimum award threshold) or up to 200 percent of the participant’s award (maximum threshold) depending on the levels of qualified Adjusted EBITDA and subscription service sales achieved.  The number of shares that may be earned for achieving 100 percent of the performance-based objectives totals 75,315 shares.  The maximum number of shares that may be awarded in connection with the performance-based tranches of the 2020 LTIP totals 150,630 shares.

14


The fiscal 2020 LTIP has a three-year life and expires on August 31, 2022.

Compensation expense recognized during the quarter and two quarters ended February 29, 2020, for long-term incentive plan awards in the table above includes expense related to awards granted in previous periods for which we believe the performance conditions are probable of being achieved.

Employee Stock Purchase Plan

We have an employee stock purchase plan (ESPP) that offers qualified employees the opportunity to purchase shares of our common stock at a price equal to 85 percent of the average fair market value of our common stock on the last trading day of each fiscal quarter.  During the quarter and two quarters ended February 29, 2020, we issued 7,293 shares and 15,427 shares of our common stock to participants in the ESPP.


NOTE 9 – INCOME TAXES

For the two quarters ended February 29, 2020, we recorded an income tax benefit of $2.2 million on a pre-tax loss of $1.7 million, which resulted in an effective tax benefit rate of approximately 133 percent for the first half of fiscal 2020.  We computed income taxes by applying an estimated annual effective income tax rate to the consolidated pre-tax loss for the period, adjusting for discrete items arising during the period, including the exercise of stock options during the second quarter of fiscal 2020 (Note 8).  The exercise of stock options during fiscal 2020 produced an income tax benefit of $1.8 million for the period.  Our annual effective rate was greater than our U.S. statutory rate, primarily due to non-deductible expenses and effective foreign tax rates which are significantly higher than the U.S. statutory rate.


15


NOTE 10 – INCOME (LOSS) PER SHARE

The following schedule shows the calculation of income (loss) per share for the periods presented (in thousands, except per-share amounts).

   
Quarter Ended
   
Two Quarters Ended
 
   
February 29,
   
February 28,
   
February 29,
   
February 28,
 
   
2020
   
2019
   
2020
   
2019
 
Numerator for basic and
                       
diluted loss per share:
                       
Net income (loss)
 
$
1,097
   
$
(3,517
)
 
$
553
   
$
(4,874
)
                                 
Denominator for basic and
                               
diluted loss per share:
                               
Basic weighted average shares
                               
outstanding
   
13,841
     
13,937
     
13,911
     
13,927
 
Effect of dilutive securities:
                               
Stock options and other
                               
stock-based awards
   
149
     
-
     
207
     
-
 
Diluted weighted average
                               
shares outstanding
   
13,990
     
13,937
     
14,118
     
13,927
 
                                 
EPS Calculations:
                               
Net income (loss) per share:
                               
Basic and diluted
 
$
0.08
   
$
(0.25
)
 
$
0.04
   
$
(0.35
)


NOTE 11 – SEGMENT INFORMATION

Segment Information

Our sales are primarily comprised of training and consulting services.  Our internal reporting and operating structure is currently organized around two divisions.  The Enterprise Division, which consists of our Direct Office and International Licensee segments and the Education Division, which is comprised of our Education practice.  Based on the applicable guidance, our operations are comprised of three reportable segments and a corporate services group.  The following is a brief description of our reportable segments:

Direct Offices – Our Direct Office segment has a depth of expertise in helping organizations solve problems that require changes in human behavior, including leadership, productivity, execution, trust, and sales performance.  We have a variety of principle-based offerings that help build winning and profitable cultures.  This segment includes our sales personnel that serve the United States and Canada; our international sales offices located in Japan, China, the United Kingdom, Australia, Germany, Switzerland, and Austria; our government services sales channel; and our public programs operations.

International Licensees – Our independently owned international licensees provide our offerings and services in countries where we do not have a directly-owned office.  These licensee partners allow us to expand the reach of our services to large multinational organizations as well as smaller organizations in their countries.  This segment’s results are primarily comprised of royalty revenues received from these licensees.
16


Education Practice – Centered around the principles found in The Leader in Me, the Education practice is dedicated to helping educational institutions build a culture that will produce great results.  We believe these results are manifested by increases in student performance, improved school culture, decreased disciplinary issues, and increased teacher engagement and parental involvement.  This segment includes our domestic and international Education practice operations, which are focused on sales to educational institutions such as elementary schools, high schools, and colleges and universities.

Corporate and Other – Our corporate and other information includes leasing operations, shipping and handling revenues, royalty revenues from Franklin Planner Corp. (Note 12), and certain corporate administrative functions.

We have determined that the Company’s chief operating decision maker is the CEO, and the primary measurement tool used in business unit performance analysis is Adjusted EBITDA, which may not be calculated as similarly titled amounts disclosed by other companies.  Adjusted EBITDA is a non-GAAP financial measure.  For reporting purposes, our consolidated Adjusted EBITDA may be calculated as our net income or loss excluding interest expense, income taxes, depreciation expense, amortization expense, stock-based compensation expense, and certain other charges such as adjustments for changes in the fair value of contingent liabilities arising from business acquisitions.  We reference this non-GAAP financial measure in our decision making because it provides supplemental information that facilitates consistent internal comparisons to the historical operating performance of prior periods and we believe it provides investors with greater transparency to evaluate operational activities and financial results.

Our operations are not capital intensive and we do not own any manufacturing facilities or equipment.  Accordingly, we do not allocate assets to the reportable segments for analysis purposes.  Interest expense and interest income are primarily generated at the corporate level and are not allocated.  Income taxes are likewise calculated and paid on a corporate level (except for entities that operate in foreign jurisdictions) and are not allocated for analysis purposes.  We periodically make minor changes to our reporting structure in the normal course of operations.  The segment information presented below reflects certain revisions to our reporting structure which occurred during the second quarter of fiscal 2019.  Prior period segment information has been revised to conform with our current segment reporting.

We account for the following segment information on the same basis as the accompanying condensed consolidated financial statements (in thousands).
17



   
Sales to
             
Quarter Ended
 
External
         
Adjusted
 
February 29, 2020
 
Customers
   
Gross Profit
   
EBITDA
 
                   
Enterprise Division:
                 
Direct offices
 
$
37,973
   
$
28,702
   
$
4,734
 
International licensees
   
2,691
     
2,237
     
1,384
 
     
40,664
     
30,939
     
6,118
 
Education practice
   
10,893
     
6,460
     
(1,068
)
Corporate and eliminations
   
2,188
     
1,267
     
(994
)
Consolidated
 
$
53,745
   
$
38,666
   
$
4,056
 
                         
Quarter Ended
                       
February 28, 2019
                       
                         
Enterprise Division:
                       
Direct offices
 
$
36,414
   
$
27,294
   
$
2,543
 
International licensees
   
2,906
     
2,221
     
1,218
 
     
39,320
     
29,515
     
3,761
 
Education practice
   
9,698
     
5,429
     
(909
)
Corporate and eliminations
   
1,338
     
422
     
(1,888
)
Consolidated
 
$
50,356
   
$
35,366
   
$
964
 
                         
Two Quarters Ended
                       
February 29, 2020
                       
                         
Enterprise Division:
                       
Direct offices
 
$
80,085
   
$
60,113
   
$
10,444
 
International licensees
   
6,411
     
5,357
     
3,419
 
     
86,496
     
65,470
     
13,863
 
Education practice
   
21,974
     
13,117
     
(2,171
)
Corporate and eliminations
   
3,887
     
2,108
     
(2,675
)
Consolidated
 
$
112,357
   
$
80,695
   
$
9,017
 
                         
Two Quarters Ended
                       
February 28, 2019
                       
                         
Enterprise Division:
                       
Direct offices
 
$
74,885
   
$
54,364
   
$
6,183
 
International licensees
   
6,583
     
5,084
     
2,846
 
     
81,468
     
59,448
     
9,029
 
Education practice
   
20,044
     
11,822
     
(1,174
)
Corporate and eliminations
   
2,673
     
878
     
(3,722
)
Consolidated
 
$
104,185
   
$
72,148
   
$
4,133
 

18


A reconciliation of our consolidated Adjusted EBITDA to consolidated net income (loss) is provided below (in thousands).

   
Quarter Ended
   
Two Quarters Ended
 
   
February 29,
   
February 28,
   
February 29,
   
February 28,
 
   
2020
   
2019
   
2020
   
2019
 
Segment Adjusted EBITDA
 
$
5,050
   
$
2,852
   
$
11,692
   
$
7,855
 
Corporate expenses
   
(994
)
   
(1,888
)
   
(2,675
)
   
(3,722
)
Consolidated Adjusted EBITDA
   
4,056
     
964
     
9,017
     
4,133
 
Stock-based compensation expense
   
(1,793
)
   
(1,043
)
   
(3,644
)
   
(1,989
)
Decrease (increase) in the fair value of
                               
   contingent consideration liabilities
   
182
     
(52
)
   
91
     
(76
)
Knowledge Capital wind-down costs
   
-
     
-
     
(389
)
   
-
 
Licensee transition costs
   
-
     
(428
)
   
-
     
(488
)
Depreciation
   
(1,653
)
   
(1,697
)
   
(3,273
)
   
(3,251
)
Amortization
   
(1,170
)
   
(1,300
)
   
(2,340
)
   
(2,538
)
Loss from operations
   
(378
)
   
(3,556
)
   
(538
)
   
(4,209
)
Interest income
   
13
     
9
     
18
     
22
 
Interest expense
   
(557
)
   
(623
)
   
(1,162
)
   
(1,255
)
Discount accretion on related
                               
   party receivable
   
-
     
243
     
-
     
258
 
Loss before income taxes
   
(922
)
   
(3,927
)
   
(1,682
)
   
(5,184
)
Income tax benefit
   
2,019
     
410
     
2,235
     
310
 
Net income (loss)
 
$
1,097
   
$
(3,517
)
 
$
553
   
$
(4,874
)

Revenue by Category

The following table presents our revenue disaggregated by geographic region (in thousands).

   
Quarter Ended
   
Two Quarters Ended
 
   
February 29,
   
February 28,
   
February 29,
   
February 28,
 
   
2020
   
2019
   
2020
   
2019
 
                         
Americas
 
$
42,721
   
$
39,839
   
$
86,756
   
$
80,757
 
Asia Pacific
   
7,089
     
7,398
     
17,228
     
16,678
 
Europe/Middle East/Africa
   
3,935
     
3,119
     
8,373
     
6,750
 
   
$
53,745
   
$
50,356
   
$
112,357
   
$
104,185
 

19


The following table presents our revenue disaggregated by type of service (in thousands).

Quarter Ended
 
Services and
               
Leases and
       
February 29, 2020
 
Products
   
Subscriptions
   
Royalties
   
Other
   
Consolidated
 
                               
Enterprise Division:
                             
Direct offices
 
$
21,644
   
$
15,172
   
$
1,157
   
$
-
   
$
37,973
 
International licensees
   
410
     
-
     
2,281
     
-
     
2,691
 
     
22,054
     
15,172
     
3,438
     
-
     
40,664
 
Education practice
   
2,950
     
6,192
     
1,751
     
-
     
10,893
 
Corporate and eliminations
   
-
     
-
     
935
     
1,253
     
2,188
 
Consolidated
 
$
25,004
   
$
21,364
   
$
6,124
   
$
1,253
   
$
53,745
 
                                         
Quarter Ended
                                       
February 28, 2019
                                       
                                         
Enterprise Division:
                                       
Direct offices
 
$
23,102
   
$
12,416
   
$
896
   
$
-
   
$
36,414
 
International licensees
   
517
     
-
     
2,389
     
-
     
2,906
 
     
23,619
     
12,416
     
3,285
     
-
     
39,320
 
Education practice
   
2,583
     
5,368
     
1,747
     
-
     
9,698
 
Corporate and eliminations
   
-
     
-
     
-
     
1,338
     
1,338
 
Consolidated
 
$
26,202
   
$
17,784
   
$
5,032
   
$
1,338
   
$
50,356
 
                                         
Two Quarters Ended
                                       
February 29, 2020
                                       
                                         
Enterprise Division:
                                       
Direct offices
 
$
48,895
   
$
29,461
   
$
1,729
   
$
-
   
$
80,085
 
International licensees
   
1,000
     
-
     
5,411
     
-
     
6,411
 
     
49,895
     
29,461
     
7,140
     
-
     
86,496
 
Education practice
   
6,535
     
13,010
     
2,429
     
-
     
21,974
 
Corporate and eliminations
   
-
     
-
     
1,314
     
2,573
     
3,887
 
Consolidated
 
$
56,430
   
$
42,471
   
$
10,883
   
$
2,573
   
$
112,357
 
                                         
Two Quarters Ended
                                       
February 28, 2019
                                       
                                         
Enterprise Division:
                                       
Direct offices
 
$
48,111
   
$
25,091
   
$
1,683
   
$
-
   
$
74,885
 
International licensees
   
1,389
     
-
     
5,194
     
-
     
6,583
 
     
49,500
     
25,091
     
6,877
     
-
     
81,468
 
Education practice
   
6,501
     
11,080
     
2,463
     
-
     
20,044
 
Corporate and eliminations
   
-
     
-
     
-
     
2,673
     
2,673
 
Consolidated
 
$
56,001
   
$
36,171
   
$
9,340
   
$
2,673
   
$
104,185
 




20


NOTE 12 – INVESTMENT IN FC ORGANIZATIONAL PRODUCTS

We owned a 19.5 percent interest in FC Organizational Products (FCOP), an entity that purchased substantially all of our consumer solutions business unit assets in fiscal 2008 for the purpose of selling planners and related organizational products under a comprehensive licensing agreement.  On November 4, 2019, FCOP sold substantially all of its assets to Franklin Planner Corporation (FPC), a new unrelated entity, and FCOP was dissolved.  FPC is expected to continue FCOP’s business of selling planners and other related consumer products based on the license agreement which granted FCOP the exclusive rights described below.  In connection with this transaction, we exchanged approximately $3.2 million of receivables from FCOP to amend the term and royalty provisions of the existing license agreement.  The $3.2 million included a $2.6 million note receivable, which represented FCOP’s third-party bank debt that we purchased directly from the bank on the transaction date.  The amended license agreement grants the exclusive right to use certain of our trademarks and other intellectual property in connection with certain consumer products and provides us with minimum royalties of approximately $1.3 million per year.  We are also entitled to receive additional variable royalties if certain FPC financial metrics exceed specified levels.  FPC assumed the amended license agreement from FCOP upon the purchase of FCOP assets.  We recorded the $3.2 million consideration for the amendment to the license agreement as a capitalized cost of the license and will reduce our royalty revenue by amortizing this amount over the remainder of the initial term of the license agreement, which ends in approximately 30 years.  During the quarter and two quarters ended February 29, 2020, we recognized $0.9 million and $1.3 million of net royalty revenues from the amended license agreement with FPC.

We do not have an ownership interest in FPC, do not have any obligation to provide additional subordinated support to FPC, and do not have control over the day-to-day operations of FPC, which primarily consist of the sale of planning products and accessories.  We receive payments for royalties and rented space from FPC.  At February 29, 2020, we had $0.9 million receivable from FPC and at August 31, 2019, we had $1.0 million receivable from FCOP, each of which are recorded in current assets.  Since most of FPC’s sales and cash flows are seasonal and occur between October and January, we expect to receive the majority of the required cash payments for royalties and outstanding receivables during our second and third quarters of each fiscal year.  During the quarter ended February 29, 2020, we received $1.9 million of cash from FPC as payment for royalties and reimbursable operating costs.


NOTE 13 – SUBSEQUENT EVENTS

Effects of COVID-19 Pandemic

With the rapid spread of COVID-19 around the world and the continuously evolving responses to the pandemic, we have witnessed the significant and growing negative impact of COVID-19 on the global economic and operating environment.  Due to the rapidly changing business and education environment, unprecedented market volatility, and other circumstances resulting from the COVID-19 pandemic, we are currently unable to fully determine the extent of COVID-19’s impact on our business in future periods.  However, we are monitoring the rapidly evolving situation and its potential impacts on our financial position, results of operations, and cash flows.

Revolving Line of Credit

Subsequent to February 29, 2020, we obtained $14.9 million of cash (the available proceeds) from our revolving line of credit.  These proceeds will be included in our reported cash balance for future periods until the amount is repaid.
21


ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management’s discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  These statements are based upon management’s current expectations and are subject to various uncertainties and changes in circumstances.  Important factors that could cause actual results to differ materially from those described in forward-looking statements are set forth below under the heading “Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995.”

We suggest that the following discussion and analysis be read in conjunction with the Consolidated Financial Statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended August 31, 2019.


RESULTS OF OPERATIONS

Overview

Franklin Covey Co. is a global company focused on individual and organizational performance improvement.  We believe that our content and services create the connection between capabilities and results.  Our business is currently structured around two divisions, the Enterprise Division and the Education Division.  The Enterprise Division consists of our Direct Office and International Licensee segments and is focused on selling our offerings to corporations, governments, not-for-profits, and other related organizations.  Franklin Covey offerings delivered through the Enterprise Division are designed to help organizations and individuals achieve their own great results.  Our Education Division is centered around the principles found in The Leader in Me and is dedicated to helping educational institutions build cultures that will produce great results, including increased student performance, improved school culture, and increased parental and teacher involvement.

During 2016, we introduced the All Access Pass (AAP), which we believe is a ground-breaking subscription service that allows our clients unlimited access to our content through an electronic portal.  We believe the All Access Pass is a revolutionary and innovative way to deliver our content to clients of various sizes, including large, multinational organizations in a flexible and cost-effective manner.  Clients may utilize complete offerings such as The 7 Habits of Highly Effective People and The 5 Choices to Extraordinary Productivity, or use individual concepts from any of our well-known offerings to create a custom solution to fit their organizational or individual training needs.  We have also translated All Access Pass materials into numerous additional languages, which allows the AAP to be used effectively by multinational entities and provides for greater international sales opportunities.  The AAP is primarily sold through our Enterprise Division.

In our Education Division, we have launched our Leader in Me membership, which provides coaching, access to the Leader in Me online service, and authorizes use of Franklin Covey’s proprietary intellectual property.  The Leader in Me online service provides access to student leadership guides, leadership lessons, illustrated leadership stories, and a variety of other resources to enable an educational institution to effectively implement and utilize the Leader in Me program.  We believe that the tools and resources available through the Leader in Me membership will provide measurable results that are designed to develop student leadership, improve school culture, and increase academic proficiency.

Each of our subscription offerings allow clients to participate in training through a variety of delivery modalities, including on-line services and virtual training courses, which allow for presentation of our content to both clients and classrooms which are working remotely.  We believe that our investments in multiple high-quality offerings and content combined with multiple delivery modalities provide a learning environment that can be effectively tailored to both corporate and individual settings.
22


Our financial performance for the second quarter of fiscal 2020, which ended on February 29, 2020, continued the momentum and growth trajectory that began in the first quarter of fiscal 2020, despite the difficulties from the COVID-19 (or coronavirus) outbreak that significantly impacted our business at our Asian direct offices and at many of our licensee operations.  For the quarter ended February 29, 2020, our consolidated sales increased 7% to $53.7 million compared with $50.4 million in the second quarter of fiscal 2019.  Our second quarter sales growth was broad based through both our Enterprise and Education Divisions and was primarily attributable to increased subscription service revenues.  Increased sales for the second quarter led to increased gross profit and significantly improved operating results when compared with the prior year.

For the quarter ended February 29, 2020, our reported subscription and subscription-related revenue grew 24% compared with the second quarter of fiscal 2019.  At February 29, 2020, we had $48.0 million of deferred subscription revenue on our balance sheet, a 21%, or $8.4 million, increase compared with deferred subscription revenue on our balance sheet at February 28, 2019.  At February 29, 2020, we had $34.8 million of unbilled deferred revenue compared with $25.0 million of unbilled deferred revenue at February 28, 2019.  Unbilled deferred revenue represents business that is contracted but unbilled, and excluded from our balance sheet.

Our financial results for the quarter ended February 29, 2020 were influenced by a number of factors, which are described in further detail throughout this discussion and analysis.  The following is a summary of key financial results for the second quarter of fiscal 2020:

SalesOur consolidated sales for the second quarter of fiscal 2020 increased 7% to $53.7 million, compared with sales of $50.4 million in the second quarter of fiscal 2019.  Sales growth during the quarter was broad-based across our Divisions.  Enterprise Division sales during the second quarter of fiscal 2020 increased 3% to $40.7 million, compared with $39.3 million in fiscal 2019, despite significant decreases in the Company’s China and Japan direct offices, and certain international licensees related to business disruption from the COVID-19 outbreak.  Education Division revenues increased 12% to $10.9 million, compared with $9.7 million in the second quarter of fiscal 2019.  Our sales growth was primarily driven by increased sales of subscription services in both the Enterprise and Education Divisions.

Cost of Sales/Gross Profit – Our cost of sales totaled $15.1 million for the quarter ended February 29, 2020, compared with $15.0 million in the prior year.  Second quarter 2020 gross profit increased 9%, or $3.3 million, to $38.7 million compared with $35.4 million in fiscal 2019.  Our gross margin for the quarter ended February 29, 2020 improved 171 basis points to 71.9% of sales compared with 70.2% in the second quarter of the prior year, reflecting increased subscription revenues in the mix of services sold when compared with the prior year.

Operating Expenses – Our operating expenses for the quarter ended February 29, 2020 increased $0.1 million compared with the prior year, which was due to increased selling, general, and administrative (SG&A) expenses.  As a percent of sales, SG&A expenses decreased to 67.4 percent compared with 71.3 percent in the second quarter of fiscal 2019.  Increased SG&A expense was primarily related to increased commissions and bonuses on higher sales, increased investments in new sales and sales-related personnel, and a $0.8 million increase in non-cash stock-based compensation.  These increases in operating expenses were partially offset by $0.4 million of decreased licensee transition costs related to the fiscal 2019 acquisition of the Company’s licensee in Germany, Switzerland, and Austria (GSA); a $0.4 million decrease in our China office expenses resulting from suspended business operations due to the COVID-19 outbreak; and cost savings from various other areas of the Company’s operations.  At February 29, 2020, we had 255 client partners compared with 230 client partners at February 28, 2019.
23


Operating Loss and Net Income – Our loss from operations for the quarter ended February 29, 2020 improved to $(0.4) million compared with a loss of $(3.6) million in the second quarter of the prior year.  Our effective income tax benefit rate for the quarter ended February 29, 2020 was approximately 219 percent compared with an effective benefit rate of approximately 10 percent in the second quarter of fiscal 2019.  The higher tax benefit rate in fiscal 2020 was primarily due to the exercise of stock options, which produced a $1.8 million tax benefit in the quarter.  During the second quarter of fiscal 2020, we recognized net income of $1.1 million, or $.08 per diluted share, compared with a net loss of $(3.5) million, or $(.25) per share, in the prior year.

While our first two quarters of fiscal 2020 produced significant growth over the prior year and set the foundation for growth in the second half of fiscal 2020, the COVID-19 pandemic and unprecedented responses to the virus have had a crippling effect on the economies of the world.  The challenges and disruptions associated with the COVID-19 pandemic are expected to have a significantly adverse impact upon our financial results during the second half of fiscal 2020 and in future periods, depending on the duration and severity of preventative measures and the time needed to return to normal business operations.  During such times, normal business and decision-making processes are often interrupted.  Though we expect that the COVID-19 pandemic will have a significant adverse impact on our financial results during the second half of fiscal 2020, we believe our offerings will help our clients through these difficult periods by sharpening the focus and execution of their organizations on their most important priorities, building trust with stakeholders in a time of uncertainty, and transforming fear and uncertainty into high levels of engagement.

While the coming months will be full of uncertainty and challenges, we believe that we have entered this period operationally, strategically, and financially strong:  1) Operationally Strong – we had broad-based momentum in the second quarter and for fiscal 2020, especially in our subscription business; 2) Strategically Strong – our subscription model provides clients with the ability to access our best-in-class content and solutions across a wide variety of delivery modalities, including digital, live on-line, and in weekly micro-learning bursts.  Our investments in technology are allowing us to work with clients who have the need to convert previously-booked onsite services to live-on-line or digital to accommodate employees working remotely; and 3) Financially Strong – we entered this period with significant cash balances and a strong balance sheet.

Further details regarding our second quarter results are provided throughout the following management’s discussion and analysis.


Quarter Ended February 29, 2020 Compared with the Quarter Ended February 28, 2019

Enterprise Division

Direct Offices Segment
The Direct Office segment includes our sales personnel that serve clients in the United States and Canada; our directly owned international offices in Japan, China, the United Kingdom, Australia, and our offices in Germany, Switzerland, and Austria (GSA) which were acquired in the second quarter of fiscal 2019; and other groups such as our government services office.  The following comparative information is for our Direct Offices segment for the periods indicated (in thousands):

   
Quarter Ended
         
Quarter Ended
             
   
February 29,
   
% of
   
February 28,
   
% of
       
   
2020
   
Sales
   
2019
   
Sales
   
Change
 
Sales
 
$
37,973
     
100.0
   
$
36,414
     
100.0
   
$
1,559
 
Cost of sales
   
9,271
     
24.4
     
9,120
     
25.0
     
151
 
Gross profit
   
28,702
     
75.6
     
27,294
     
75.0
     
1,408
 
SG&A expenses
   
23,968
     
63.1
     
24,751
     
68.0
     
(783
)
Adjusted EBITDA
 
$
4,734
     
12.5
   
$
2,543
     
7.0
   
$
2,191
 

24


Sales.  For the quarter ending February 29, 2020, our U.S./Canada sales grew 8 percent, or $1.6 million, and government service sales increased $0.9 million compared with the prior year.  International direct office revenues decreased $1.1 million compared with the prior year, primarily due to the impact on our China and Japan offices from the COVID-19 outbreak.  Increased direct office sales were primarily attributable to the growth of the All Access Pass and recognition of previously deferred subscription revenues, as well as new contracts and renewals obtained during the quarter.  Our new GSA direct office also contributed $0.4 million of increased sales during the quarter.  Foreign exchange rates had an immaterial impact on Direct Office sales and operating results during the second quarter of fiscal 2020.

Gross Profit.  Gross profit increased due to increased sales in the second quarter as previously described.  Direct Office gross margin increased primarily due to the mix of services and products sold during the quarter, which featured increased subscription revenues.

SG&A Expense.  Decreased Direct Office SG&A expense was primarily due to the office closure in China related to the COVID-19 outbreak, reduced travel and advertising costs, and savings in other areas of Direct Office operations.  These reductions were partially offset by increased associate expenses resulting from increased commissions on higher sales and new sales and sales-related personnel.

International Licensees Segment
In countries or foreign locations where we do not have a directly owned office, our training and consulting services are delivered through independent licensees.  The following comparative information is for our international licensee operations for the periods indicated (in thousands):

   
Quarter Ended
         
Quarter Ended
             
   
February 29,
   
% of
   
February 28,
   
% of
       
   
2020
   
Sales
   
2019
   
Sales
   
Change
 
Sales
 
$
2,691
     
100.0
   
$
2,906
     
100.0
   
$
(215
)
Cost of sales
   
454
     
16.9
     
685
     
23.6
     
(231
)
Gross profit
   
2,237
     
83.1
     
2,221
     
76.4
     
16
 
SG&A expenses
   
853
     
31.7
     
1,003
     
34.5
     
(150
)