Franklin Covey Co. (FC) Q1 2017 Earnings Report, Transcript and Summary

Welcome to the Franklin Covey Fiscal Year 2017 Q1 earnings call. My name is Adrian and I will be your operator for today’s call. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to Derek Hatch, Corporate Controller. Please go ahead.

Thank you Adrian. Good afternoon ladies and gentlemen and happy New Year. On behalf of the company, welcome to our first quarter investor call this afternoon. Before we get started, I just 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 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, renewals of all access passes, changes in training and spending policy of the company’s clients and other factors identified and discussed in the company’s most recent annual report on Form 10-K and other periodic reports filed with the Securities and Exchange Commission. Many of these conditions are beyond our control or influence, any one of which may cause future results to differ materially from the company’s current expectations and there can be no assurance that the company’s actual future performance will meet management’s expectations. These forward-looking statements are based 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, I'd like to turn the time over to Chief Executive Officer and Chairman of the Board, Mr. Bob Whitman.

Thanks Derek. Good afternoon everyone, we appreciate you joining us, we're happy to have the chance to talk with today. I would like to just briefly provide you an update on, first our progress on All Access Pass including how it's changing our business both strategically and economically. Some of you have asked us to kind of give a context for the strategic relevance of that and also how we expect the compounded impact of new All Access Pass sales plus the renewal of prior year passes to impact the next few quarters as those start kicking in. Second, we'll discuss our results for the first quarter on both a reported and on an apples-to-apples pre-deferral basis and how our investments and activities in the first quarter have built the foundation for what we expect will be a strong balance for the year. And finally review again our detailed outlook and guidance for 2017. So first I'd like to discuss our progress on the All Access Pass and then I'll ask Steve Young to review our results for the quarter and our guidance for the year. Maybe first just to note about the economics of All Access Pass, we've had some questions about. Well the accounting for All Access Pass is on a subscription basis. So it might be helpful to note a couple of differences in how the economics of All Access Pass work compared to those of some other subscription offerings. Number one, how many subscription offerings bill and collect monthly, the All Access Pass is billed and collected upfront, ahead of the time when we actually recognized most of the revenue. So it doesn't affect our cash flow and in fact it improves the cash flow as a percentage of reported revenue. Second, some subscription offerings are cancellable on a relatively short notice that's given rise to whether or not ours are, there are not. Each All Access has a contract term of at least a year and is automatically renewable unless cancel these 90 days prior to the start of the new pass year. Third, when we talk about amounts invoice for All Excess Pass, I just want to clarify that we're talking about amounts actually invoiced that have either already been collected, amounts already been collected or which represent a valid collectible receivable and this differs of course from the concept of contract value, which is often utilized by some who offer subscription services. That out of the way, just wanted to talk about a couple of things. First is strategic impact of All Access Pass in response to questions we’ve received, we thought it would be helpful to put it in context. All Access Pass we think leverages Franklin Covey’s unique strategic strengths. And we believe that it has the potential to change the basis for competition and be truly disruptive in our industry. This context, one of the most important opportunities for performance improvement most organizations have lies in getting a greater portion of their operations to perform at the levels that are closer to those already, they're already doing in their best performing units. In other words moving the average [indiscernible] righter and tighter, they're getting closer and closer to what they already know how to do in pockets. In Slide 3 there's an illustration of that kind of where the campfire - the intersection of where the campfire symbol appears. The point is every organization has pockets of great performance and that's represented by the campfire. Operation to our customers are delighted, employees are engaged and the financial results are exceptional. These campfires or great performance are celebrated and studied by the organization in hopes of replicating their performance. The metaphor is you're looking across your operation, you see these brightly glowing wonderful campfires or great performance, you want to go visit them and stand around them and figure out what's going on and because you're trying to figure out how to replicate them. So that’s the first idea. The second is, every organization as shown by the blue line and the red line has variability in its performance. So variability is a given, however the extent of that variability is not. Our research and work over the years with thousands of organizations, has really found that what truly differentiates top performing organizations from their lesser performing counterparts, typically is not that the relative performance of even their top performing units is meaningfully different, in fact, there are studies, the results achieved by top performers, top performing companies top 20% of units and the results achieved by a lesser performers top 20% of units is often essentially the same. Both top performing and lesser performing organizations have pockets or campfires or great performance, they both know how to operate high levels of performance. Rather what differentiates the top performers from lesser performers is the top performer’s greater ability to institutionalize or implement across the organization the things they already know how to do in their top performing units. This is about getting large numbers of people to voluntarily do things differently or better. The operations of best performers as shown in the red line or simply righter or tighter than those of their competitors. They are better at training their campfires or great performance into wildfires. And so that's the big opportunity for most organizations. This kind of performance improvement is what Franklin Covey helps our organizational clients achieve. As show in Slide 4, just to put in context what we do, Franklin Covey helps organizations improve in three areas that are central in achieving these kind of behavioral change that leads to great performance. One, increasing the effectiveness of the individuals throughout the organization, so the way -- motivate themselves, they interact with others is effective. Second, helping to develop strong leaders who can engage those people properly. And third, providing approaches, processes and tools which help focus the collective efforts of these effective people and leaders on executing on the organization's highest priorities and that's a key point as you can have a lot of individuals that are effective and have been well trained but somehow are not pulled together. So our execution methodology and other things pull those effective people together toward results. Over the past years, really eight years, we have invested more than $100 million in content, processes, integrated solutions and portals to build solutions that help our clients achieve superior business outcomes. Building on these and other investments, Franklin Covey has established three areas which we believe - in which we believe we have strategic leadership. As shown in Slide 5 these three areas are, first, having best in class content and the related services that go with those. Our best in class purpose branded solutions include offerings and solutions such as four disciplines of execution, speed of trust, seven habits of highly effective people, five choices to extraordinary productivity, helping clients, et cetera. And these best in class solutions and offerings because they are viewed as best in class, provide us with pricing power, strong gross margins, solution longevity. We have two of our purpose brand solutions, each of which has generated cumulative revenues over its history of more than a billion each. There are several others that are well on their way. Our investments in content development have also resulted in a number of bestselling books which reinforce these brands. So the best in class content is [indiscernible] and solutions. Second, having the most flexible range of delivery modalities, this flexibility allows us to get the water to the end of the row within an organization with different modalities to get different kinds of content or training or tools to the front line people. And it uses a combination of different modalities rather than being modality centric. And then finally having the broadest sales and delivery reach, we have a direct or licensee presence now in more than 125 countries allows us uniquely really to offer seamless solutions to global clients worldwide. And how does this connect with All Access Pass. Well each of these strategic advantages compelling on its own, All Access Pass leverages and strengthens these strategic differentiators and advantages. By offering our entire arsenal of best in class branded solutions with almost infinite delivery flexibility in terms of the different mixes, deliverable almost anywhere in the world and at a very compelling offering price, All Access Pass provides customers an extremely compelling value proposition. We believe that All Access Pass has a potential to change the basis for competition in the performance improvement industry in a couple of ways. One, instead of competing course against course around a single job to be done that a client might have, All Access Pass puts our entire arsenal of content at our client's fingertips allowing them to address a broad range of jobs to be done, areas where they want to make progress at a price equivalent to or lower than that offered by others who may be only have a few content areas which are even of lesser quality. Second, instead of competing, utilizing only a specific delivery modality as many of our competitors do, where you're competing against online learning or webinar series or whatever, All Access Pass offers literally hundreds of flexible delivery options across all modalities. The ultimate flexibility allows clients to address any of the hundreds of jobs to be done they might have with different impact journeys. We've mapped out literally hundreds of different ways in which [indiscernible] going to apply mixes of the content and solve specific problems and that's just the start because almost infinite in its application. Some early indications of All Access Pass is disruptive potential included in just its first full year. More than a thousand organizations have purchased All Access Passes. Almost all of these clients have organizational impact journeys that have been mapped out with our implementation specialists that are underway to extend well beyond their initial one-year license period. Though it’s still early on, the All Access Pass renewal rate has been very high and indications are that the renewal rate in second quarter is likely to remain so and beyond. Next, some medium sized companies reported because of the All Access Pass, Franklin Covey is now their only content provider. And some larger organizations are telling us as a result of All Access Pass they're playing to significantly reduce the number of content providers with whom they do business. So for all these reasons, we believe that All Access Pass can be strategically important to Franklin Covey. So hopefully that's helpful for those of you who have had questions just on strategically where do we see All Access Pass. Economically, we’ve reviewed this before but thought we'd give an update. All Access Pass is we believe increasing the lifetime value of our customers. At the outset, we'd expected the All Access Pass would have a higher initial sale size with a higher renewal rate and the prospect of expanding passholder population then adding on the sale of services which in fact Covey has a broad capability to deliver. We expected the combination of these factors would result in significant increase in the lifetime value of our customers. And the results to date are supportive of these assumptions although it's still relatively early. As to increase in the average spend, just an update we gave last quarter for the 299 previous active Franklin Covey facilitator clients who are now All Access Passholders. Their total spend increase from 10.9 million for the four quarters ending November 28, 2015 to 15.9 million for the four quarters ending November 26, 2016, an increase of 45.8%. So it seems to be playing out well that the average purchase size is higher to start with. As for renewal rate, in the first quarter, the passholder renewal population was small having sold only 19 passes in the first quarter of the prior year. As a point of interest at that time none of the passes had an automatic renewal feature provision which they now all have wherewith if you don't I mean obviously we're working with clients but it automatically renews and they're expecting that to happen, if they don't otherwise make a decision 90 days prior to the expiration. We still work them to make sure they affirm that they would go in with that expectation. Nevertheless without that provision, 15 of these 19 passholders did renew their pass either before or during the first quarter, with an additional first quarter pass holder now expects to renew this month. They just had a change in management that required some new signatures and that will happen this month. Now this renewal rate also doesn't consider the add-on sales of services and training manuals and offerings to All Access Passholders which is becoming quite substantial. During the 13 months since inception of All Access Pass, the amount of add-on sales of services and products invoice totaled just over $4 million which is an amount equal to just over 14% of the total value of passes invoiced and we believe we're just getting started there. We mentioned last quarter that we're having these discovery days with new passholders and we've had now these discovery days was about half of the passholders and continuing to move through now with that new process but as we do so we're trying new opportunities to add on to passholder populations add new services et cetera. So the combination of having a higher initial sale price, a higher passholder renewal rate plus add-on sales of service and materials is expected as we said to significantly increase the lifetime value of our customers. Next point, targets of All Access Pass continues to be strong and is expected to be even stronger as the compounded impact of having new All Access Pass sales plus significant renewal sales from the prior quarters begins to kick-in in the coming quarters. As shown in Slide 6, 32.2 million of All Access Pass and pass through, the amounts have been invoiced since the inception of the All Access Pass offering last year. This amount equals 27% of the total amounts invoiced for the option of selling All Access Pass for that same 13-month period. This increase you know the penetration of All Access Pass increased to 38% as you can see in this year’s first quarter and then really has increased a lot really through December, it's now cumulative for the year at 42% for the year to date. Total All Access Pass and pass related amounts invoiced were as you see 6.3 million in this year's first quarter compared to 383,000 in the first quarter of fiscal 2016 and 9 million year to date through January 4 versus actually the same 383,000 last year through January 4 because really we didn't make any additional sales of All Access during December of last year. So All Access Pass has the potential to a strength in our overall economics by increasing lifetime value, further increasing our already strong gross margins because of the high margins of these IP contracts that really is what All Access Pass is. It's reducing the marketing cost per sale because of All Access Pass’ higher average sales size and because of the expected high revenue renewal rate that doesn't require a lot of new marketing. And this is positively impacting the ramp-up rate for new client partners who have a bigger initial sales size and a higher renewal rate in the second year. Now with all of the All Access Pass’ benefits it’s also requiring a transition both operationally and from an accounting standpoint. Let me just talk about a couple of those things which you're aware of I think. But one, All Access Pass’ sales cycle is longer than for a facilitator sale. From the time a sales opportunity enters the pipeline until it’s closed, today the average All Access Pass has taken 86 days compared to only 34 days for the facilitator sales that is often replacing. So this reflects both the one, All Access Pass is often a more strategic sale which is a good thing for us long term. It's one of the things that allows us to get a bigger initial sales size. It often requires a higher level of executive sponsorship than does a traditional facilitator order of materials. And so it just takes longer from that standpoint also, the customer is purchasing an intellectual property license and because we want to protect our intellectual property it requires a contract to be signed versus just a purchase order for materials which a facilitator can place. During the first you know and I appreciate things, it's a little harder to predict exactly the date those things are going to get signed. During the first quarter, for example, 1.4 million of All Access Pass contracts which were agreed to and expected to close the last week of the quarter which just happened to be Thanksgiving week, rolled over and normally would have come because the facilitator would place an order, rolled over to the week after Thanksgiving just after quarter end because [indiscernible] were not available over Thanksgiving and just signed on Monday and Tuesday when they got back. Because All Access Pass sales however began to increase significantly in last year's second, third and fourth quarters, the year-over-year impact of this longer sales cycle will have less impact in future quarters because it’s up against a higher percentage of that same issue last year. Another challenge or at least transition point is with - although our - with All Access Pass, our total sales of IP have increased - intellectual property have increased substantially. However these increases in intellectual property sales have been offset by declines in onsite sales. As really some of these onsite delivery customers have purchased the pass and are now considering to which modality they will deliver the All Access Pass content, where in the past they might have decided to just hire us to do it. They've now got the pass and are deciding what to do. We're encouraged that after several quarters of declines in book days that have resulted from this transition that year-to-date through December, for the first time in more than a year, the number of onsite days we've booked held even to the prior year. So at least the volume of onsite days and then most of this is coming from having these discovery days and selling ad on services to All Access Passholders. These days are at a lower rate because All Access Passholders get a price break on delivery and so that's still affecting us some on the revenue side but we had both of those factors in previous quarters and we don't know at least year-to-date this year, just the revenue per day not the number of days. This relative improvement in the pace of new days as I mentioned was driven significantly by the sale of add-on services to All Access Passholders and we expect that the amounts invoiced in connection with the renewal of the significantly increasing amounts of All Access Pass is invoiced in last year’s second, third and fourth quarters were All Access Pass amounts invoiced increased from 400,000 in the first quarter to over 3 million in the second quarter to more than 6 million in the third and to more than 12 million in the four, so that high renewal rate, all of the sudden the renewal which didn't make much difference in the first quarter with 80% of 400,000, if we have that same renewal rate in the second quarter that would be 2.4 million, then in the third quarter 4.8 million and in the fourth quarter 9.6 million, all of a sudden the compounding effect of renewals of prior years plus new sales even if we weren't able to turn you know improve the onsite sale that's been affecting. Even without that we would overcome that in the second, third and fourth quarters particularly in the third and fourth. So we feel that these transitions will you know we’d get through them this year but they have been a little lumpy. All Access Pass sales have also affected revenue recognition as you know moving significantly increased portion of invoiced amounts into subscription service revenue. This is significantly impacting our recognized revenue versus deferred revenue in fiscal ’17 that’s the reason we’ve tried to provide guidance by quarter. But the effect of this should be substantially reversed in fiscal ’18 as this deferred revenue is recognized as revenue which will also smooth out - help to smooth out our year so that less of it is in the back end of the year. Despite these transitional issues we expect All Access Pass’ benefits to accelerate our growth, improve our business model and increase the predictability of our results. We believe that we're poised to begin seeing the impact of these positive benefits in the second quarter. These will accelerate in this year's third and fourth quarters and beyond as the combined impact of strong new All Access Pass sales together with high renewal rates more than offsets any impact in onsite revenue and facilitator sales. One other point finally is that we expect that this compounding effect of new sales plus renewals will become even more pronounced as we offer All Access Pass in more countries around the world in the coming quarters ultimately by shortly after the first year will be - All Access Pass will be available in operations that represents approximately 165 million of our total invoiced amounts will be selling All Access Pass. And so today that's been more like 85 million or 90 million because if that expands, then the same compounding can kick-in in future years. So with that, let me now turn the time over to you Steve to review the Q1 results and guidance.

Thank you, Bob. Good afternoon everyone. First I hope that you'll find our Q1 financial report, our earnings release and the news bulletin issued on December 22 to be helpful. These reports contain information and detailed explanation of the quarter's results compared to last year. As outlined in these reports, the first quarter results reflect a decrease in reported sales and in adjusted EBITDA compared to last year. These changes reflect the combined impact of increases in deferred revenue, non-repeat business, the somewhat longer sales cycle for All Access Pass that Bob talked about, increased growth related cost and less onsite revenue offsetting the significant growth in All Access Pass sales. Before I talk about numbers, let me set some context. First, our first quarter has been an investment and staging quarter that establishes a foundation for the rest of the year. Our enterprise and government sales cycles include making significant first and second quarter net investments in growing our sales and delivery forces and end marketing. These investments in term drive increase in sales pipelines which are harvested in the third and fourth quarter and whose high gross margins generate high flow through to adjusted - and adjusted EBITDA in those quarters. This pattern in our corporate business as you can see in Slide 7 has been extenuated by the strong growth of the education practice, where more than half of its revenue and substantially all of its EBITDA comes in the fourth quarter. Except for commissions and other incentive compensation costs which track consistent with revenue, our other costs are relatively similar or flat in a quarter. As a result, our SG&A to sales percentage is higher. And the gross margin percentage and EBITDA to sales percentage lower in the first two quarters with these ratios reversing in the third and mostly fourth quarters where SG&A to sales percentage is lower and the gross margin percentage and EBITDA to sales percentage is higher in those quarters. Second, this pattern continued in this year's first quarter after a strong fourth quarter last year in which reported adjusted EBITDA plus the change in deferred revenue less certain cost was 23.6 million which was up 6.3 million or 36% compared to some of those same factors in the fourth quarter of fiscal 2015. We made significant new investments in the first quarter. These investments included hiring new client partners, new education coaches, All Access Pass and education practice marketing, investments in the translation and localization of all of our core content included in the All Access Pass into fifteen major languages in addition to English and the development of the new All Access Pass portal. As a result of this, SG&A in the first quarter increased 900,000 that’s excluding the 1.6 million increase in SG&A associated with going direct in China whose operations covered this investment and contributed adjusted EBITDA. These investments are expected to be significantly more to cover their costs by increased revenue and gross margin over the next few quarters. So maximum investments, we expect to cover those costs. With higher SG&A to sales percentage in the first two quarters, any shift in the high margin revenue plus or minus results in a high leverage impact on recognized adjusted EBITDA. This is expected to change substantially in 2015 where we expect the recognition in - 2018, I’m sorry. We expect the recognition of the significantly increased amounts of deferred revenue to increase reported revenue in the first two quarters significantly increasing year-over-year reported first and second quarter results and reducing the concentration of adjusted EBITDA in the third and fourth quarters. Hope that makes sense that the impact next year this transition to a subscription type rev will have a smoothing impact on our revenue and adjusted EBITDA in coming years but not in this year. Two primary revenue shifts impacted our results in this year's first quarter. First, we had a 1.7 million reduction in revenues in the sales performance practice. In the first quarter of last year, we benefited from a big first quarter in our sales performance practice where revenues for the practice increased 2.2 million which is 52% compared to the first quarter of fiscal 2015 reflecting the contracting of several large sales performance intellectual property contracts. In this year's first quarter, the combination of a shift in the contracting period for one major contract until July which also impacted revenue in our UK office during the first quarter since it shared revenue for this contract. And the pending merger of two of our major sales performance clients who we expect to continue to utilize our content and services post merger, but who will not contract until the merger is completed and there is no revenue presumed for this in this year resulted in 1.7 million of high margin intellectual property revenue received in last year's fourth quarter not to repeat in the first quarter this year. Second, about 1.4 million of All Access Pass sales as Bob talked about that we expected to be contracted during this quarter shifted into the week following Thanksgiving because signatures could not be obtained during the Thanksgiving week. So, fundamentally we achieved what we're supposed to in the quarter as far as preparing us for quarters Q2, Q3 and Q4 and we're able to maintain our guidance even with these shifts and decreases. Before we do guidance, kind of summarizing all this as I get like five key points that are takeaways from Q1. The first was of course that All Access sales are expected to increase each quarter this year and we expect high renewal rates. That's number one. Second, we believe that the operations which did well or okay financially in Q1 will do rest - well in the rest of the year including China which had a great launch in her first quarter, our education practice, Japan, government, Global 50 and others. We expect those that did well to continue to do well. Additionally, after diligent review which you can imagine, we believe that the operations that did not go so well financially in Q1 will improve in Q2 and do well in Q3 and Q4. This includes the regional offices UK sales performance and some others. So we look at this and we see what happened in Q1, we think it's going to do better in Q2 and they are actually going to do well in Q3 and Q4 and that's what our guidance is based upon. Third point that we've made over again but it's still a major point is that obviously the impact of deferred sales on reported earnings and sales is significant in this year. In our three regional offices alone, adjusted EBITDA was impact 1.5 million by deferred revenue and there's also an impact in gross margin as you defer the deferred sale at extremely high margin, you’re impacting the gross margin percentage in this year. The fourth key point again which we talked about but worth repeating is the cash generated is not impacted by deferred sales. The cash is the same. We bill, we collect, we have a valid receivable, so cash is unimpacted. Even though the calculation of days sales outstanding looking at reported numbers and our reported margins are impacted, our fundamental underlying receivables and cash are not affected by deferring these sales. And the fifth thing is, we realized that our projections for adjusted EBITDA are very backend loaded in the fourth quarter but that's the way we see it. As we layout each month and each quarter that's what we see. So I think those are five key points or takeaways from this quarter. So guidance. And all of our guidance is excluding the impact of foreign exchange good or bad. So during our November conference call, we issued financial guidance for fiscal 2017, the guidance was that for this year the sum of reported adjusted EBITDA plus the change in deferred revenue less certain costs which are incidentally 15% will range between 35 million and 38 million. We want to take this opportunity to affirm this guidance. In addition because we are transitioning our business model to one where our significant portion of revenue is expected to be recognized as subscription revenue, we recently provided expanded and more detailed guidance. As you can see in Slide 8 contains that guidance which is by quarter for both as reported and for the combination of as reported plus the change in the deferred revenue less this 15% of cost and that’s as we released in the news bulletin on December 22. So this guidance that you can read on slide 8 and 9 can be summarized as follows. Once again, for the third time that adjusted EBITDA plus the change in deferred revenue less these costs will range between 35 million to 38 million. Second that adjusted EBITDA as reported will range between 10 million and 14 million. Third that a significant portion of adjusted EBITDA will be generated in the third and fourth quarters, consistent with what we normally see. And fourth that net cash generated will range between 21 million and 24 million. So we look forward to the coming year and happy to answer any questions at any time if you'd like to call for a more detailed discussion of the numbers.

Thanks, Steve. At this point, let’s just open it for questions and look forward to getting your questions.

Thank you. [Operator Instructions] And the first question comes from Marco Rodriguez from Stonegate Capital. Please go ahead.

Good afternoon, guys. Hey, thank you. I have a few questions. Just wanted to get some clarification on some things. Specific kind of taking a look at page 6 of your slide presentation, on All Access Pass for Q1 ’17, you have total invoiced pass amounts of 4.9 million. And then you have revenue recognized as 3.7. So is that saying that 1.2 million of the 4.9 was deferred or how should I be looking at that?

No. The 3.7 million or 3.8 million recognized is the net amount of the deferral of the sales in that current quarter and then just a small of that, amount of that being recognized, offset by the revenue that is recognized from prior year sales. So every quarter will have some revenue that's recognized that was deferred in prior quarters and then will defer a significant amount of revenue of that current quarter, especially as we're talking All Access Pass sales. So again Marco, it's a net number of the deferral this quarter, the small amount that's recognized and the amounts that were recognized from the prior year.

So the 2.5 million or the 2.6 million that you have below that changing deferred All Access Pass revenue balance. Where is that coming from and how is that being generated now?

That's the change in the balance sheet. Okay?

Maybe I’m looking at the numbers wrong, but the balance sheet deferred revenue balance went down sequentially.

Well, the 2.5 million is the change in the balance sheet in this year. If you take the 2.7 or the 7.254 balance deferred at the end of the year and then the change in the deferral is the 2.5 million. That gets to the current deferred balance on the balance sheet related to these sales of 9.8 million. So every quarter, we’ll be talking about the change in deferred sales and also what the total deferred amount is because that is the number that is impacting sales so much.

Okay. Let me shift gears here then, just I'm not sure if I caught this or not, but the increased sales that you had in the quarter brought up SG&A fairly significantly on a year-over-year comparison basis. Can you walk me through what were the extra costs if you will that you saw in the quarter that are likely not to repeat?

The biggest single cost as an increase in SG&A is China. So China going from a licensee operation in which we don't have any of the operations in our financials where we were just reporting the royalty from that operation to an owned office or a direct office. So all of the SG&A of 1.6 million is an increase compared to last year. So that's the biggest single item. And then additionally, we mentioned things like in education, we add coaches, we added sales people through the year that’s an ad. We had implementation specialists, growth related ads that are annualized in this quarter. So that's the increase. Again, with the big, the largest one being China, which is totally offset by the sales in China so that our adjusted EBITDA actually goes up related to China even though there is such a significant increase in SG&A, that's more than offset by the increase in gross margin related to the increased sales.

Got you. And the investments made in All Access Pass in the quarter, were they fairly significant or not?

Well a good portion of the localization example, a good portion of that will be capitalized, but we did a lot of work on the portal and in IT and in innovations, preparing, getting ready for the All Access Pass and positioning the content properly on the portal. So yeah, there was a lot of work in many different areas of the company related to getting the All Access Pass portal and product functioning.

Marco I think your word is, we’re getting ready obviously for two things. One, we want to make sure that the offering in the portal is set for a very compelling for all the renewals that are coming up. Second, at the end of February, we're going to now launch All Access Pass globally, so that offices like China. Japan, all of our whole licensing network that currently do not sell All Access Pass that they'll have that available and so there are also marketing costs and training costs, and other things that went into it. These aren’t huge dollar volumes. We said we increase aside from China, another 900,000 of costs that are expensed in the quarter plus some significant investments in capitalized costs for curriculum and portal and other things.

Got you. And last quick question, I’ll jump back in the queue, I was wondering maybe you could expand a little bit more on the sales cycle elongation here, just trying to get a little bit better of a sense as far as your comment saying that the All Access Pass requires a higher level of company sponsorship. Is that just higher up the executive chain or are there additional company has a different segments of the business, any additional color there to kind of help me understand a little bit better the sales cycle would be helpful.

Let me ask Paul Walker just to address it first of all and then I’ll give some comments.

Hi, everybody. A couple of comments on that. The sales cycle is longer and I think you just alluded to one part of it. Typically, we end up going up at least one level in the organization for the decision and that's driven by two different things. One, there's now an IP contract that needs to be signed and the person who oftentimes has the authority to sign such a contract is a level up in the organization, so where we might have worked with a head of training and development in the past, we might now be needing to interface with the head of Human Resources or a division leader. So there's a little bit just the time related to getting on our calendar and then pushing through a final decision on their end and elongate a bit. Also, and this is probably good news I think for us is that the nature of the relationship now and what we're going to be doing with them and the job they're trying to get done have expanded. So we're in there not just talking about a single training initiative, but we're talking about additional ways that we can impact the organization through the pass and so there are more people that want to get involved. Not necessarily the decision, but in the decision about how they're going to use it and so that adds a few weeks as well and you try to have a final meeting to really launch and make sure we've got it scoped right and the pass is as large as we can get it.

Is that response more fulfilling?

Yeah. That's perfect. That’s very helpful.

Yes. And for us, we like this because on one hand, you had, you could get a quick answer at the end of a quarter from a facilitator who is just ordering more materials and you could give them an incentive to do that. Now, you're actually in a sales cycle that those discussions are being had day after day with decision makers who are really trying to get stuff done. And so it’s a change in the whole thing like that. Ultimately, we’ll have $175 million of the business that is really focused in this exact same sales process. It’s affecting us in those courses and we didn't have big All Access Pass sales last year obviously because we just had a facilitator in the first quarter other than the 300 in the second quarter. We had 3 million of All Access that that jumped to 6 million and then 12 million in the third and fourth. So the effect of this was less in future quarters, because you’re comping against quarters in which you had some of this, but it’s just part of the transition over and we've made the decision not to try to do promotions and things like that with clients. We want to have these deep conversations. And so there's some bumps, timing bumps as you go through this for a couple of quarters, but it doesn't affect our view of that. The really interesting thing, Paul could also give some color or commentary on this, the number of contracts, I mean, there is a very, very high percentage of those who are actually getting the advanced pipelines that ultimately close where in the past you might have said, if it didn't close by the end of the quarter, because you had lots of incentives and other things and then sometimes you just didn't close because if you can't marry [indiscernible] you don't do it at all. Here, it tends to not be that way. We, actually at this point in fact, every single large deal that we had at the end of the first quarter that we thought would close as of yesterday now, I mean most of them close in the first two weeks after a lot close in the first couple of days after, but now, every single one of those is closed, so these are serious people talking about serious business issues. There is a compelling value proposition and it's just, there's an adjustment because the sales people are used to being able to pull the facilitator switch and get a few million dollars at the end of the quarter. We're just saying, if we get across this bridge which we're doing quarter-by-quarter, we don't want to go back.

And our next question comes from Jeff Martin from ROTH Capital Partners. Please go ahead.

Hi, Bob. Hi, Steve. I apologize for background noise in the car. Did I hear you correctly that the addressable revenue pool for All Access Pass overtime is roughly 175 million?

Yeah. I’m saying out of our business, when you think, that's the combination of our US direct offices and our international direct offices, the licensee network, higher education and even a portion of the sales performance and customer loyalty practices, which really interface with our All Access Pass plus that really the same sale system will apply to about, of the existing revenue of $175 million. And so what that leaves that isn't affected is of course the educations business other than in higher ed is a completely different thing with the leader in me, the licensee network for education isn't there and then we have some other revenue from our sale leaseback of the office space here, books and audios and some data collection revenue and customer loyalty, but otherwise, the whole business ultimately will expand into this, essentially everything, except those will be All Access Pass driven, and really more than two-thirds of the pipelines in those offices that are selling All Access Pass are now opportunities that what they’re discussing is All Access Pass. So we expect this to accelerate.

So would you say by this time next year, your three quarters are even higher transitioned to All Access Pass. What kind of timeline should we expect for the bulk of that 175 million to be converted over?

Yeah. I think it’s in two pockets. In the US direct offices, I think it will account for two thirds of the revenue probably in the US direct offices will be either directly with pass or pass related in this instance, selling services or products that go with it. I don't know that internationally, that we mean every international, to the exactly same levels we are now just because their businesses have been different always, but I think the idea that it will grow in those offices I think is true, but it's just, it will take a longer time to transition. So I think on, if you take half the business being, half of that 175 million, a little more being the US direct offices, the government business is the same way, it’s transition. The UK and Australia, there's roughly say $110 million of the business that should be in that 60% plus range. And then I think as the new offices come on, it will take a while and they may only ever achieve 30% or 35% just because they’re very heavy services oriented offices historically more than content, it may take us a while longer to, I mean, we may never get to those levels, but I think it will take a year or two to get into the 30% to 40% probably.

That’s helpful. Thanks. And then could you touch on discovery days, I think you said, I heard you say about 50% covered with the All Access Pass holders, how has that been going versus your expectation and maybe some other anecdotal information you could provide would be helpful.

Yeah. Great. Let me just provide the idea, then Paul you can respond to how it’s going through in the US direct and in the direct offices in general. The idea again is the sale itself is more consolidated, you’re involving more people as Paul has described. What we want to do though is make sure that this for us is it’s great to make the sale. We want people to use it and renew every year. And if we do, you win the game eventually. The compounded effect of this wins if you can get renewals and if you don’t, then you’re in kind of caught in no man’s land. So for us, we just want to make sure that people are really utilizing the product and liking it and getting huge value out of it and so literally the day just somebody starts before they sign the contract, we've already scheduled an implementation specialist phone call with these people where they're discussing and almost always more than 90% of the time, they come out of that initial call already with what we call an impact journey or series of impact journeys planned out. They've got just part of the organizations, they're trying to get this done and that's already scheduled upfront. The challenge though is we've made a sales to maybe one person, ultimately even though it's a level up. What we want to do is go in to that organization and with the flexibility of All Access Pass, meet all, a bunch of other stakeholders, business owners, so this discovery day is we say look, we'll be willing to, if you'll be willing to invest as a client, the time to get a bunch of your senior leaders together, we’ll be willing to invest a day of our time and bring one of our senior consultants in too and we’ll spend, it's not a whole day mercifully, but it’s 3 or 4 hours where you're in there discussing what people are trying to get done and all of a sudden, you broaden the base of people who see how valuable the All Access Pass can be and how they can get value out of this as well. And so the idea was, you may have a discovery day was a new idea, kind of toward the end of the summer, we have process sized it. It began to be implemented in September-October. It’s accelerating now. It’s expected to be tried to get it done in thirty days, but since it's a relatively new process and we’re continuing to sell new ones, we’re only at about half of the days. I don’t know Paul if you want to add color or commentary to that.

I would just say, to date, we’ve completed 561. We have 40 additional scheduled. So we’ll be here in another few weeks about 600 and a little over half way there and as Bob mentioned there, it’s providing the foundation frankly for the $4 million as you see there on slide 6 of additional services and products. That’s where those are really driven, another 14% in addition to the passes that are sold and that 14% of revenue comes out of Discovery Days.

And Jeff, the answer to really, what we’re kind of saying is that aside from the education, we’re really saying honestly, we have one thing, we do sell intellectual property passes, primarily All Access and we add on services and populations et cetera and that’s really what the whole business we expect will be.

And the next question comes from Kevin Liu from B. Riley & Company. Please go ahead.

Hi. Good afternoon. Just on the international licensee business, I understand because of the impact of China going direct, but I think there is also reference that the other licensees declined a bit. Could you just address that and then talk a little bit about what's going on there and then more generally for both international direct and licensee, as you start to localize and translate your All Access Pass, what sort of impact do you expect that to have on both sales cycles as well as actual recognized revenues over the course of this year?

Great. Let’s provide those. And maybe, I’ll ask Sean Covey to respond to the licensee business.

Yes. The licensee business that chart you look at has got China in it. So it's hard to compare, but just looking at the growth business itself, the first quarter was down a little bit, about 5%. On a gross revenue basis, not the recorded licensee revenue that we show, but on a gross revenue basis, down about 5%, which is unusual, because almost every quarter has been up for many years and it's primarily a couple of things. I'm not really worried about it, because I feel like second quarter is coming in much better and the year looks good, but it's primarily I think part of it was the China operation also impacted Hong Kong, Singapore and Taiwan. They're three of our bigger partners. I think the focus on launching the new big office centrally in China, the direct office really took the eye off the ball on those other properties and then we had like three other partners that just had a bad first quarter. So overall, I feel good about the growth, the continued growth of the partners. We did have a down first quarter. The All Access Pass, as Bob mentioned, we have 15 languages coming on. We've all the European languages, Spanish, Portuguese, all the major Asian languages will all be ready at the end of this month. We have a certification process. Our goal is to sell a few hundred of these by the end of the fiscal year. It's going to take some time to get going. The partners are generally very excited about this. It's kind of like it's about time. This is what our clients have been asking for. Many of their best sales and biggest sales are to multinational corporations that want multiple languages, so that's going to be very helpful. So I believe that this will, we've had really strong growth for the past many years with the licensees. I think that All Access Pass will secure it for many more years to come that continued double digit growth that we've experienced for so long and, but I think it's going to take I think this year, we’ll have six months of selling it. I think it will really start hitting more strongly next year. So anyway, I don't know if that's responsive to your question.

Yeah. But just a quick follow-on to that, I mean do you expect, are there any licensee partners or perhaps international direct customers that you feel are just going to wait for All Access Pass or will the sales cycles ongoing now just continue, even though they know this is coming down the pike.

Well, they will, will clients be waiting? I think that it's, I think, most of our clients internationally don't know much about it at this point. I think some of the large multinational US companies do, but the international ones that are based in international countries do not. I think for us because we recognize royalties, we won’t have to defer revenue with licensee partners. When they sell, we’ll recognize it right up front, even though they might be deferring revenue, we wouldn’t need to.

I think also the sales cycle question in these offices will be less just because these offices have always been, they've not been facilitator based operations, they've always sold, strategic kind of on-site things and so for them, the sales cycle, I suspect will not be very different and they'll be using All Access Passes, the vehicle through which they deliver content for continued on-site assignments. And that's why I mentioned earlier to Jeff’s comment, that because services have represented a much higher percentage of our international direct office business than has IP, the replacement of the IP with All Access has all the advantages that it has, but we have a bigger services base as a percentage that should continue to -- I expect would continue to go well and they will use All Access as the way in which they deliver the content. That's one reason why All Access as a percentage of total revenues won't be as high because services as a percent will be higher. Also, I expect it won’t have the same impact on sales cycle since the on-site days already have a long sales cycle. Bob, I’m not sure if you want to add to that. Okay. Is that helpful, Kevin?

Yeah. Definitely helpful. Thanks for taking the questions.

And the next questions comes from Tim McHugh from William Blair. Please go ahead.

Hi, guys. This is actually Trevor Romeo in for Tim today. Hi. First one, it sounds like the metrics and the renewal rates that you guys quoted for All Access Pass have been pretty strong so far. I just wanted to ask a little bit more qualitatively as you’ve kind of expanded it, what's the reception from clients been like, what kind of feedback have you heard from them?

In terms of the, on renewal specifically?

Just in terms of like, I guess, how they're using the program and how they like it so far?

Great. I think right now, I mean I can tell you that every Tuesday from 9 until 1 o'clock, there's only one topic which is making sure that every person is delighted, finding anybody who we think is that setting up an on-site visit to go out and try to recover if there's any problem or whatever. I think right now, the number of recovery calls is very small. So I think the answer is that early on because we said that from day one, we want people to get value and be utilizing this very quickly that more than 90% of the people who have purchased have impact journeys that extend beyond the term of their pass. And so, they've already committed to doing things in their organization that they're not assuming they're not renewing, they know it's kind of automatic renewal but that the point is that they can stop it, but that they're not intending. They've committed to impact journeys where they're trying to get stuff done in their organization that is going to take a while. And so they're delighted that they now have the access to it. So I’d say that there seems to be very, very high levels of satisfaction with what it is. A lot a plans to expand. We had, of the initial pass is actually 10 of the 15 that did renew expanded there not only renewed, but they expanded their pass size or upgraded. So they either added population to it or they added content to it, moving from All Access Pass to All Access Pass plus or from a personal effects. So I think the indications are that people are using it and they're liking it, but for us, what we're learning also in these discovery days is that there are a lot of opportunities that we might not have ever even, that we don't even know about where they've got a specific problem and what they need is some content around a specific thing for a specific group. And so we're adding to All Access Pass a whole group of webcasts series on topics that have come up in these discovery days where they don't need a whole course, they just want to take managers through a specific thing, I don't know, Scott Miller if you want to mention anything more about that, again, but it’s just part of what we're finding is that there is a lot of usage. There are a lot more opportunities for usage and these discovery days identify 20 other ways in which they, somebody has got an issue here or an issue there, but we can add new content or we can get new group schooling and so we’re kind of on the early side of it. I can say just looking at the heat map of one's expected to renew, the vast majority or from all the conversation we're having or expecting to renew right now a very, very small minority you're expecting not to and we've got some yellows that we're not sure, but it's still the vast majority are already expecting to do it. Many are renewing early. We already for the second quarter have a number of them that have signed up even though their pass doesn't expire until the end of the quarter because a lot of them were sold toward the end of a quarter and a number of those were signed up already. We just won't be invoicing them. They're not counted in their numbers here, because we haven't invoiced them yet. But does that give a color to it? It seems to be going well, but it’s the thing we think most about.

Okay, great. That's helpful. And then just one more kind of switching gears a bit, the education practice did grow in the quarter. It looks like the growth rate has been kind of decelerating in the last several quarters. Is there any particular reason for that. And if you could give any kind of any more color on how to think about growth for that practice in the future that would be great?

Sure. Well, last year, the practice grew at 20%, which was solid and not as high as some of the earlier years, which were more around 30, but we, yes, it’s smaller, it's harder obviously to grow at the same rate, bigger numbers. But we look at this year and we're expecting high growth again. Oftentimes, it's hard to see exactly what's happening in the first three quarters, because we work for the first three quarters to close deals in the fourth quarter. And most of the growth comes then, all of our leading indicators look really good, the contracted new schools that we are starting for the year. So this first quarter, we grew at 7%, which has typically been around 15% or 20%. I still think we're going to close the year in the 15% to 20% range. We've got good leading indicators in place. A good way to think about our businesses is new schools that we bring on. This year, our goal is to bring on 800 new schools, 600 in the US and 200 outside the US. So that would be on top of 3,000. Currently, we have 3,000 schools, 2100 in the US, 900 outside. So our goal is 800 new ones, 600 US, 200 outside. And we install the leader in me, it takes about three years to install it and then we also have a membership package, which is a renewal subscription service. Basically, it works just like All Access Pass. It’s kind of the All Access Pass equivalent for education. And that's about eight grand a year and per school. And so our goal there is last year, we had 94% renewal on that. And so we just think about it in terms of boy, bring on 800 new schools, get 95% of them to renew their subscription to leader in me and it's a really good business model. So, yeah, I think that the growth is decelerating a little bit from where it was years ago and I think it'll can, we see the potential is not changing much at all that we can still continue to grow at double digits for a long time to come. So any other follow-up questions on that?

No. That was helpful. Thank you. Thanks for taking my question guys.

And our next question comes from Alex Paris from Barrington Research. Please go ahead.

Good afternoon. This is Chris Howe sitting in for Alex Paris. Just had one last one for you guys. You had mentioned earlier in the call about some clients who are only using All Access Pass after having used All Access Pass in addition to other services. Was this client specific driven by your sales force or was this the result of the expansion of your content?

Yeah. I didn't explain it well. What I’m really saying is that one of the reasons why on-site sales have declined some is that where historically the person who chose to do on-site is maybe somebody who wasn't that committed to doing too much. And so they weren't sure what they were going to do. So they just hired us to deliver the content early on. Now, those people have been engaged at a higher level and are saying, gosh, we have a lot of strategic things we can do, they buy the pass, where in the past, they might have just hired us to train for a day. They've now bought the pass. We're in there doing the Discovery Day and will ultimately sell them. We are selling them on-site days. But it's just that the sales cycle, we may have frozen somebody in the headlights who would have bought, who would have said, oh, sure, just commit and train on one class for a day, when they understand the value of All Access, they're saying, gee, for not that much more for my population, I could have all your content and do a lot of things. So it was just a statement that part of the reason why on-site days declined for three quarters, they've come back now year to date for the first four months even has been that that you've got on-site clients who now are saying, gosh, maybe, I should be thinking of doing more. But whether they’re thinking of doing more, they first buy a pass, then they go through discovery day and that's just extended the time, but now it's starting to generate new days.

I can give you one example of that. We had one of our early purchasers of the pass last year in November, purchased the pass for 100 users and the client partner and our implementation specialist getting in there and working with them to determine how they were going to use it. They started using 100% path, things are going well. In the first quarter of this year, they upgraded the audience site when they renewed from 100 people to 3000 people and they booked 96 consulting days with us. And that's an extreme example. We have a number that are smaller examples of that though, where you get in, you do the discovery day right, the clients start to get a feel for the volume of things they can be doing with us and with the pass and then that naturally leads to some of those things they will do on their own and some of those things they want to contact with us to do. And that's where we're starting to see our on-site days pick back up just because we're not kind of on the backside of many of those conversations now.

That's very helpful. Thank you for the example.

And that concludes our question-and-answer session. I will now turn the call back over to Bob for final remarks.

Okay. Thanks very much. Thanks everyone for joining today. Appreciate your great questions. Look forward to answering more detailed questions from many or all of you as you, if you like and Steve and myself and the whole team are available as you'd like. So thanks very much. Let's say, we feel good about it. We had a strong December. The pipelines that were built during the first quarter as a consequence of these investments were really significant. We have what we call the A pipeline and sales force for All Access Pass and just generally is quite strong through the December. And as you saw in that one chart that the revenue, the percentage of revenue through -- year to date, through January is 42% All Access versus 38% for the first quarter saying that in one month, even with the holidays, you've been able to increase it enough to move it. So we feel good about where we are. I think this will be another bit of a transition quarter as we've given guidance on what we expect things are kicking in, in the third and fourth quarter, we’ll start to see the effect of this. So thanks very much. Look forward to talking to you. Thank you.

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