FRANKLIN COVEY CO FC
March 05, 2013 - 12:31pm EST by
scrooge833
2013 2014
Price: 14.07 EPS $0.61 $0.78
Shares Out. (in M): 15 P/E 23.0x 19.0x
Market Cap (in $M): 220 P/FCF 24.0x 20.0x
Net Debt (in $M): 24 EBIT 24 30
TEV ($): 244 TEV/EBIT 10.5x 8.5x

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  • Education

Description

FranklinCovey can double over the next 2 years. It provides training and consulting solutions worldwide to over 5,000 organizations including business, government, and non-profit institutions.  The training and consulting business is a highly fragmented industry with mom-and-pop gurus and professors providing services based on specific expertise.  Franklin Covey, has created a global brand name in this industry with billion dollar brands that can easily be sold to multinational and Fortune 500 companies as well as regional organizations.

Their training content is focused on delivering principle-based curriculums and effectiveness tools. Examples of training programs include: “7 Habits of Highly Effective People”, “The Speed of Trust”, and “The 4 Disciplines of Execution”. For a more complete flavor of their offerings see their website: www.franklincovey.com

FranklinCovey completed its  turn-around, which began in 2008. The company exited the day-planner/retail business and instead leveraged the company’s advantages to focus on the professional training market. We are investing after the company overcame all the major challenges, put new infrastructure in place, and set the platform for growth.

At this stage, the company making new hires and they have a good history of data to illustrate how these new salespeople scale overtime. One model of  the impact the revenue ramp of new sales hires shows inherent leverage in the business model. For every incremental $1mm of revenues, the company can generate $350,000 of incremental EBITDA, 60% of which converts to free cash flow.

The company has two primary competitive advantages - 1) Content & Brand, and 2) Distribution. Both advantages are quite durable in our opinion.

First, their content is second to none. For example, “The 7 Habits” brand has generated over $1.0B in cumulative sales since it first appeared. Their Leadership programs are taught in companies across the globe and increasingly in K-12 schools (growth 39%). They continue to add new content each year in Execution, Sales Effectiveness, and Productivity (growth 32%)  which provide great cross sell opportunities. Each year the company spends over 4% of revenues on R&D to refresh existing content and generate new proprietary training programs. Over 80% of their revenue is from customers who bought the previous year - so even though it is not subscription-based revenue - the repeat nature of their revenue, could over time as people become more familiar with the story, command a higher multiple.

Second, the company has built several distribution channels. There are 117 client partner reps today, and the infrastructure is ready scale up to 500 people over time. The company added 20 net new client partner reps in 2012 and has said they will hire 30 new ones in 2013. Part of the company’s worldwide distribution comes from licensing their content to partners in foreign countries where they receive a 15% royalty on sales (management has indicated they hope to double this revenue by FY2015.. Finally, over 45,000 client facilitators have been certified to train FC programs. These facilitators operate within organizations and purchase FC content to be used in training - buying materials from FC.

We think FC has been mis-priced for a few reasons. First, the company is under followed. There is only one analyst who covers the company. Second, most people believe the company is still in the  day-planner business through retail locations. And lastly, the numbers that appear on public data sources is misleading.

1. The $33mm of debt that appears on the balance sheet is really a sale-leaseback transaction the company did years ago on their HQ. This debt is tied to the real-estate which also remains on the books. Over time both these accounts will zero out when the lease expires. As a result, it is economically misleading to account for this debt as general company debt. If this were classified as an operating lease, the debt would not show up on the books.

2. Bloomberg reports 18.2mm shares outstanding. However, there is 3.2mm shares included in that number that are sitting in escrow and will come back to the company. In 2000, the company had a stock loan program.
Employees borrowed from Wells Fargo and bought FC stock. The company took over the $50mm in obligations from Wells Fargo. So the company has a $50mm receivable that has been completely reserved. Once the stock crosses $15 and change (the number changes slightly due to interest on the loan)  the 3.2mm shares of stock will come back to the company satisfying the obligation. Effectively, they have already bought back 3.2mm shares at $15.10, but no additional cash will leave the company when the shares are retired.

We think that over the next two years as the new salespeople ramp and international licensees start selling more of the company’s programs, revenue could grow to over $200mm from $170mm today. Given the leverage in the model, EBITDA could be near $40mm at that time - the company has indicated on calls that $40 mm is doable in (FY15). Analysts have them doing $33 million in adjusted EBITDA in FY14.

Unlike many “consulting body shops” or Wall Street brokerage firms where the companies assets leave the building every night, FC's revenue comes from a mix of content, consulting, presentations, software and materials.
The closest peer (GPX) trades for 9x EV/EBITDA, and other comps trade around 10-12x. so I think it is not unreasonable to think that a a 9x multiple is doable on the low side and 11x-12x on the higher side due to the repeat nature of their business and the incremental margin on each new dollar of sales. Using this number on FY2014 numbers would equate to a $20-$26 stock price with 3 million fewer shares on the balance sheet - and a $25-$32 dollar stock price based on FY15 numbers.
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Shares outstanding will decrease over time due to a stock loan program issued before. 
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