February
12, 2008
Ms.
Linda
Cvrkel
Branch
Chief
Securities
and Exchange Commission
Division
of Corporate Finance
Washington,
D.C. 20549-0305
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RE:
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Franklin
Covey Co. (the Company)
Review
of Form 10-K for the year ended August 31, 2007
File
No. 1-11107
Response
to Commission Letter Dated January 31,
2008
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Dear
Ms.
Cvrkel:
This
letter is written in response to the Staff’s review of the Company’s Form 10-K
for the year ended August 31, 2007 as outlined in the Commission’s letter dated
January 31, 2008. As requested, the Company is providing the
following supplemental information and responses regarding our financial
statements and disclosures as contained in our Form 10-K for the fiscal year
ended August 31, 2007. As requested by the Commission, the Company
has disregarded the first comment from the letter dated January 31,
2008. The Company will incorporate revisions and additional
disclosures as requested by this comment letter in its future filings, as
appropriate, with the Commission.
Consolidated
Financial
Statements
Note
17. Income
Taxes
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1.
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We
note that you significantly reduced your valuation allowance for
deferred
tax assets in 2006 primarily as a result of improved operating performance
and the expectation of future profitability. Tell us and revise
Note 17 and MD&A in future filings to provide an enhanced discussion
of the reasons why you believed that realization of the deferred
tax
assets was more likely than not during 2006 given your lack of history
of
profitability. Refer to the guidance provided in paragraphs
20-25 of SFAS No. 109. Your response should clearly explain the
specific nature and timing of the factors that caused you to believe
your
deferred tax assets were realizable during the fourth quarter of
2006.
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Response: As
required by paragraphs 20-25 of Statement of Financial Accounting Standards
(SFAS) No. 109, Accounting for
Income Taxes, the Company considered all available evidence, both
positive and negative, in the determination to reverse substantially all of
the
valuation allowances on its deferred tax assets in fiscal 2006. The
determination to reverse these valuation allowances was complex and required
the
use of significant judgment by the Company’s management since the realizability
of deferred tax assets in future periods is inherently dependent upon estimates
and projections of future financial results. The positive evidence
considered by the Company regarding the future realizability of deferred tax
assets consisted primarily of the following items:
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a.
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Significant
Improvement in
Operating Results Resulting in Cumulative Earnings in Recent Years
–
From fiscal 2002 through fiscal 2006, pre-tax income improved
$135.8 million as the Company went from a pre-tax loss of $122.2
million
to pre-tax income of $13.6 million. During that time, the
Company made many strategic changes and has demonstrated its ability
to
achieve the expected results from those strategic changes as further
discussed below. The Company was able to perform well against
budgeted targets through fiscal 2006, which resulted in the Company
achieving consistent improvements in domestic pre-tax income from
2004
through 2006 as well as forecasted improvements that were expected
to
continue into the foreseeable future. As a result of these
improvements, at August 31, 2006 the Company had cumulative positive
domestic pre-tax income for the preceding three fiscal
years. In addition, at August 31, 2004 the Company had a gross
deferred tax asset related to its net operating loss carryforwards
of
$21.3 million, which was reduced to $14.3 million as of August 31,
2006
and further reduced to $9.8 million at August 31, 2007 as a result
of the
actual utilization of net operating loss carryforwards from the Company’s
ability to generate taxable income.
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b.
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Consideration
of Pre-Tax
Earnings Sources – The Company considered the availability and
timing of various income sources as they relate to the expected
realization of the deferred tax assets. At August 31, 2006, it
was determined that $112 million of taxable income was needed over
the
next 20 years for the Company to realize the benefits of its deferred
tax
assets. Of this amount, $69 million would be provided from the
reversal of temporary taxable differences while the remaining $43
million
would need to be provided from the pre-tax earnings of the
Company. Based upon improving operating results and better
forecasting as described above, the Company believed that it was
more
likely than not that $43 million could be generated from operations
over
the next 20 years.
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During
fiscal 2007, the Company continued the recent trend of improving operations
and
increased domestic pre-tax income. At August 31, 2007, the Company
determined that $94 million of taxable income was needed over the next 19 years
to realize its deferred tax assets. Of the required $94 million, $66
million will be provided from the reversal of temporary taxable differences
while the remaining $28 million will need to be provided from the pre-tax
earnings of the Company. The Company continues to believe that
it is more likely than not that $28 million of taxable income can be generated
from operations over the next 19 years. During the fiscal year ended
August 31, 2007 the Company recognized $15.7 million of pre-tax income and
for
the quarter ended December 1, 2007 the Company recognized $4.2 million of
pre-tax earnings.
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c.
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Strategic
Changes and Future
Expectations – As previously mentioned, and as disclosed in various
Commission filings, the Company has made numerous strategic changes
during
the periods when it was losing money. These strategic
initiatives included selling operating divisions, closing unprofitable
or
underperforming store locations, headcount reductions, reduced capital
expenditures, asset sales, and various efforts to improve sales and
reduce
the corresponding cost of sales. These changes have thus far
contributed to improving financial results and the Company believed
at
August 31, 2006 that it was more likely than not that the trend of
improving domestic pre-tax income would continue. The Company
believes that these expectations were substantiated in fiscal 2007
and
during the first quarter of fiscal
2008.
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d.
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Long
Carryforward Periods and
History of Using Carryforwards Before Expiration – At August 31,
2006, the Company’s federal net operating loss carryforwards had a 20-year
carryforward period, thereby allowing the Company a significant amount
of
time to realize the related deferred tax assets. The Company
has never experienced a situation in which federal loss carryforwards
have
expired before being used.
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e.
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Ability
to Reasonably Forecast
Future Operating Results – During the periods from fiscal 2000
through fiscal 2004, the Company was involved in significant restructuring
activities which made it difficult for the Company to reasonably
forecast
operating results. However, as the Company began to focus more
on the remaining core operations and those operations continued to
stabilize in terms of revenues and operating expenses, the ability
to
forecast results significantly improved. Specifically, the
Company met or exceeded its budgeted results during both fiscal 2005
and
fiscal 2006. Also, the cumulative amount of income that would
be necessary to realize the remaining deferred tax assets, exclusive
of
those that are realizable due to the reversal of taxable temporary
differences, is likely achievable based upon the recent historical
results
and projected results.
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In
addition to the foregoing positive evidence, the Company also evaluated the
weight of negative evidence, which primarily consisted of the following
considerations:
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a.
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Operating
Losses Prior to
Fiscal 2005 – While the period from 2004 through 2006 showed
significant improvements in operating results, which included cumulative
pre-tax income, the Company
experienced significant operating losses from fiscal 2000 through
fiscal
2004. The Company considered the probability of a sustained
downturn in operating results as negative evidence; however, given
the
recent periods of operating income and the forecasted results for
future
periods, the Company concluded that these losses were not by themselves
sufficient negative evidence to overcome the positive evidence of
recent
cumulative earnings.
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b.
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Other
Factors – The
Company also considered other potentially negative factors including
the
expiration of unused deferred tax assets (none); unsettled circumstances,
such as litigation or environmental assessments, that could have
an
adverse impact on operations (no significant items noted); and a
carryforward or carryback period that is so brief that it would limit
realization of tax benefits (the carryforward period of most deferred
income tax assets appears ample). Although the realization of
deferred tax assets is necessarily based upon estimates of future
income
and other events, which could change, no other significant negative
factors were identified that would have an impact upon the Company’s
ability to realize its deferred tax
assets.
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At
August
31, 2006, in consideration of both the positive evidence and the negative
evidence as described above, the Company determined that it was more likely
than
not that substantially all of the Company’s deferred tax assets were realizable
and that the majority of the valuation allowances on those assets should be
reversed.
The
decision to reverse substantially all of the deferred tax asset valuation
allowances in the fourth quarter of fiscal 2006 was based on the positive and
negative evidence that accumulated during the entire fiscal year. One
of the significant pieces of negative evidence that no longer existed in the
fourth quarter was the existence of cumulative losses in recent years, which
the
Company has interpreted to mean the current year and two prior
years. The weight of other positive evidence also strengthened at
August 31, 2006 as the Company completed another full fiscal year of profitable
operations and updated its forecasts. Accordingly, management
concluded that the reversal of substantially all of the valuation allowances
in
the fourth quarter of fiscal 2006 was appropriate.
As
requested by the Commission, the Company will include a more detailed
description of these factors in its income tax footnote and in MD&A in
future periods, as appropriate.
Other
Management
acknowledges that the Company is responsible for the adequacy and accuracy
of
the disclosure in the filings; Staff comments or changes to disclosure in
response to Staff comments in the filings reviewed by the Staff do not foreclose
the Commission from taking any action with respect to the filing; and that
it is
the position of the Staff that the Company may not assert Staff comments as
a
defense in any proceeding initiated by the Commission or any person under the
federal securities laws of the United States in connection with the Company’s
response to the Commission’s comments.
The
Company believes that the supplemental information presented above is fully
responsive to the Staff’s comments on our annual report on Form 10-K for the
fiscal year ended August 31, 2007. Please contact me with any further
questions that you may have regarding these matters.
Sincerely,
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/s/
Stephen D. Young
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Stephen
D. Young
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Chief
Financial
Officer
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