Xponential Fitness, Inc. (NYSE:XPOF) Q2 2023 Earnings Call Transcript

Xponential Fitness, Inc. (NYSE:XPOF) Q2 2023 Earnings Call Transcript August 6, 2023

Operator: Greetings, and welcome to the Xponential Fitness Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Avery Wanamaker [ph], Investor Relations. Please go ahead.

Unidentified Company Representative: Thank you, operator. Good afternoon and thank you all for joining our conference call to discuss Xponential Fitness Second Quarter 2023 Financial Results. I am joined by Anthony Geisler, Chief Executive Officer; Sarah Luna, President; and John Meloun, Chief Financial Officer. A recording of this call will be posted on the Investors section of our website at investor. Xponential.com. We remind you that during this conference call, we will make certain forward-looking statements, including discussions of our business outlook and financial projections. These forward-looking statements are based on management’s current expectations and involve risks and uncertainties that could cause our actual results to differ materially from such expectations.

For a more detailed description of these risks and uncertainties, please refer to our recent and subsequent filings with the SEC. We assume no obligations to update the information provided on today’s call. In addition, we will be discussing certain non-GAAP financial measures in this conference call. We use non-GAAP measures because we believe they provide you information about our operating performance that should be considered by investors in conjunction with the GAAP measures that we provide. A reconciliation of these non-GAAP measures to comparable GAAP measures is included in the earnings release that was issued earlier today prior to this call. Please also note that all numbers reported in today’s prepared remarks refer to global figures, unless otherwise noted.

I will now turn the call over to Anthony Geisler, Chief Executive Officer of Xponential Fitness.

Anthony Geisler: Thanks, Avery, and good afternoon, everyone. We appreciate you joining our second quarter earnings conference call. I’m proud to share yet another consistent quarter of results to continue to highlight the strength of our business and the health of our franchisees. On the call today, we will address several key concepts aimed at providing additional clarity on the business. We will also be speaking about these items in more detail at our Analyst and Investor Day on September 6, when we will provide a full overview of the business and financial performance, layout company strategy and discuss longer-term growth metrics. Let’s turn to our second quarter results. Xponential franchisees now operate nearly 2,900 studios globally with over 5,800 licenses sold across our 10 leading fitness brands.

We have franchise, master franchise and international expansion agreements in 19 countries outside of North America. Total members across North America saw growth of 29% year-over-year to a total of 697,000 at the end of the second quarter. Over 90% of these customers are actively paying members. Along with growth in our membership base, North American studio visits for the second quarter increased by 32% year-over-year, reaching a total of $12.9 million. This drove record North American system-wide sales of $341 million, which represents a 37% increase over the second quarter of 2022. Q2 North American run rate average unit volumes of $561,000 were up 17% from $480,000 in Q2 of 2022, our 12th straight quarter of AUV growth. We continue to believe that AUV growth is the most direct measure of our franchise systems health.

North America same-store sales growth remained strong at 15% in the second quarter, and we are particularly pleased with the performance of our more mature cohort with studios over three years old increasing same-store sales by 16%. Now that we are further removed from COVID-impacted time periods, we believe this metric has begun to normalize. John will speak about these calculations in more detail shortly. Turning to revenue. For the quarter, net revenue totaled $77.3 million, an increase of 30% year-over-year. Adjusted EBITDA totaled $25.3 million in Q2 or 33% of revenue, up 43% from $17.6 million or 30% of revenue in the prior year period. Let’s now turn to our four strategic growth areas. I’ll discuss the first three and then turn the call over to Sarah to discuss the fourth.

Beginning with the increase of our franchise studio base, we ended Q2 with 2,892 global open studios opening 141 net new studios in the second quarter. We sold 234 licenses globally in Q2 2023, with about 30% of licenses bought by existing franchisees, bringing total sold licenses to 5,872. We also continue to have an increasing pipeline with almost 2,000 licenses sold and contractually obligated to open on a global basis, excluding our master franchise agreement obligations. We are always pleased when an existing franchisee purchases additional licenses as it reinforces their satisfaction with our model and the success of their businesses. In fact, over 56% of our studios have owners who have purchased multiple Xponential licenses. Looking at this in a bit more detail, our average franchisee has bought 2.6 licenses with 1.3 studios currently open.

Turning to our next growth driver, international expansion. We have over 1,000 studios obligated to open under master franchise agreements. Of note, just recently, we announced the signing of a master franchise agreement in France for our Club Pilates brand, which represents our 19th country outside of North America. The agreement gives the master franchisee the opportunity to license a minimum of 75 Club Pilates studios in France over the next 10 years and is indicative of Xponential’s approach to international expansion, wherein we partner with world-class experienced operators who can rapidly scale our brands. As a reminder, our MFAs are structured to provide Xponential with high-margin flow-through. We typically receive a percentage of revenue share with very little corresponding SG&A.

Xponential is currently targeting approximately 50 countries with our 10 existing brands or potentially 500 different MFA opportunities, which provide significant white space for future growth. Our third key growth driver is to expand margins and drive free cash flow conversion. Adjusted EBITDA margins again increased to 32.6% during the second quarter, demonstrating continued operating leverage. As we continue to scale, holding company-owned transition studios will create headwinds when optimizing margins. Therefore, going forward, we no longer will take on company-owned transition studios. As of the date of this call, we are operating 38 company-owned transition studios and have nine corporate LA Fitness studios under our Club Pilates and StretchLab brands.

We plan to continue operating these nine studios in order to prove out the LA Fitness nontraditional studio concept. The company-owned transition studios currently generated immaterial amount of net operating loss. We plan to refranchise these studios down to 0, and we will no longer take on any company-owned transition studios going forward. We are confident this shift in strategy will drive additional leverage to SG&A expenses while also benefiting AUVs in the long run. Importantly, as John will speak to shortly, we are raising guidance on several of the guided metrics for the year. We remain on track to achieve adjusted EBITDA margins in the 35% to 39% range by year-end and adjusted EBITDA margins of 40% in 2024. We look forward to providing an overview of the business and financial performance, layout company strategy and discuss longer-term growth metrics at our Analyst and Investor Day on September 6 at the New York Stock Exchange.

With that, I’ll pass the call on to Sarah to discuss our fourth and final growth driver, increasing our same-store sales and AUVs.

Sarah Luna: Thank you, Anthony. We drove strong in-studio performance in the second quarter and further built out our ecosystem of B2B partnerships, strengthened our omnichannel fitness offering and continued refining our XPASS and XPLUS services. During the second quarter, North America visitation rates grew 32% year-over-year, and our North America actively paying membership base grew to over 628,000 members. With our product continuing to be very sticky and playing an integral role in our members’ lifestyle, Xponential continues to retain its membership base. Xponential aims to ensure that members have access to a boutique fitness experience that matches their individual needs and interests. Let’s now discuss how our omnichannel offerings help drive customer engagement, resulting in higher same-store sales and AUVs. Our XPASS offering is one way we enhance customer engagement by having frictionless access to all 10 of our brands on a single recurring monthly membership platform.

Inception to date, there have been over 60,000 bookings made on XPASS. XPASS is beneficial for both consumers and franchisees. It provides consumers with flexibility to snack across fitness modalities while driving new lead generation for in studio memberships. This quarter, we will be introducing an advertising channel into the XPASS app to give Xponential studio customers access to third-party exclusive offers, launching in categories such as mental health, apparel and healthy foods. This initiative will drive further benefit to our members while serving as another means for driving incremental lead flow to the studios. XPLUS is the second critical element of our omni-channel approach. XPLUS allows our customers to access digital classes at all 10 of our brands from the comfort of their own home and as a supplement to in-person classes at our studios.

Many of our subscribers also hold in studio memberships, including those who have subscriptions through their brick-and-mortar memberships. We are constantly developing new content for our XPLUS platform, and we’re excited to see this digital channel continue to translate into increased consumer stickiness and brand affinity. Also, during the quarter, we solidified an XPLUS licensing deal with our master franchisor for BFT, which enables us to offer on-demand classes to members across 250 international BFT locations. We are excited to introduce our omnichannel experience to global consumers and expect to pursue similar licensing deals with other MFAs. B2B partnerships like our relationship with Princess Cruises are the third key element of Xponential’s omnichannel strategy.

These partnerships provide a means of reaching new audiences, generating revenue and creating lead flow with little or sometimes negative acquisition costs. As of the end of Q2, Pure Barre, YogaSix and StretchLab have been launched across the entire fleet of Princess Cruise ships. In addition, in September, we will have our first one-of-a-kind sea-going retreat for Club Pilates, which is to set sale in Alaska. Club Pilates classes will be offered by top-notch instructors amidst Alaskan glaciers and mountains and in conjunction with Royal Princess’ culinary entertainment and activity options. This experience is already selling itineraries and we intend to launch future retreats across our other brands. The renewal we announced with Lululemon in June is another great example of a B2B partnership that is helping to grow Xponential.

Members of Lululemon studio can stream a diverse range of workouts featuring Pure Barre, Rumble, AKT and YogaSix-classes as well as take advantage of discounted classes at the brick-and-mortar locations of these brands across North America. The cross-promotional offering is an efficient and effective way of introducing new customers to our brands and building an enduring interest in Xponential Fitness’ modalities. In the second half of 2023, we will continue to explore additional B2B partnerships to enhance our XPLUS and XPASS offerings to further build out our omnichannel fitness capabilities. Through these offerings, we look forward to expanding the breadth and depth of tools available to our franchisees to bring people into the Xponential ecosystem, drive higher customer retention and create a world-class fitness experience.

As a portfolio company, we have the ability to leverage our scale, our vendor relationships, our omnichannel offerings and partnerships across all our brands to ultimately achieve the goal of driving more members into the franchisee studios. Importantly, our performance data validates this as studio-level KPIs continue to grow each quarter. Thank you again for your time. I’ll now turn the call over to John to discuss our second quarter results and 2023 outlook.

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John Meloun: Thanks, Sarah. It’s great to speak with everyone today. Before diving into our results for the quarter, I’d like to discuss our calculations for average unit volumes and same-store sales, both of which have been consistently defined and calculated throughout our history. I will also provide clarity on historical and go-forward treatment of studio closures under KPI reporting and how they would be categorized as well as provide an overview on how to think about brand level economics. Starting with North American quarterly run rate average unit volumes. We define this as the average quarterly sales activity for all studios that are at least six months old, at the beginning of the respective quarter multiplied by four to get an annualized number.

Studios with zero sales in the period as well as our 19 LA Fitness locations are and have always been excluded from this calculation. With that said, inclusion of zero sales studios in nontraditional locations would not result in a material difference to AUVs. For Q2 2023, our calculation for run rate AUV of $561,000 included 99% of our entire North American studio base older than six months. When including 100% of studios, run rate AUV would have been just 1% lower. Similarly, when calculating our North American same-store sales, we have followed the industry standard practice of including only studios that have 13 months of continuous sales activity as disclosed in our SEC filings. Our Q2 2023 same-store sales of 15% included 97% of our North American studio base older than 13 months.

For Q2 2022, same-store sales of 25% included 98% of these studios. Turning to the go-forward treatment of studio closures under KPI reporting. Any studio that does not have sales for nine consecutive months will now be deemed closed for KPI reporting purposes. We have provided a full reconciliation of studio accounts under this new method in the 10-Q. It’s important to note that applying this new method to historical figures results in minimal differences. Turning to brand level data. Xponential has always taken a portfolio approach to its brands where there is a diversification of modality and varying levels of revenue performance depending on the maturity of the brand. We will be providing more detail on the unit level economics that underpin our portfolio of brands, which we will discuss at our upcoming Analyst and Investor Day.

It is important to point out that our well-established brands in North America at scale, meaning brands that have over 150 open studios in North America, which include Club Pilates, StretchLab, Pure Barre, CycleBar and YogaSix represent more than 90% of our total studio base at quarter end and generate weighted average AUVs of approximately $578,000. These brands have existed for several years and have had time to develop a strong following among members, typically driving higher AUVs. Our five growth brands, which include Row House, Rumble, BFT, STRIDE and AKT account for less than 10% of our studio base in North America at quarter end. These brands have had the benefit of Xponential support system for shorter time periods, yet continue to mature in the brand awareness and membership base.

Our established brands generated 16% Q2 2023 same-store sales and make up 94% of North American system-wide sales. As the brands mature, the studio AUVs and corresponding franchisee profitability will improve as the largely uniform operating expenses are leveraged, noting some slight variations driven by labor and other expense items. Our brands have roughly the same monthly operating expenses, and these expenses can vary across designated market areas. For example, rent and labor costs in New York City would typically be higher compared to Louisville, Kentucky. The exception to the operating expenses occurs more frequently in our StretchLab and Pure Barre brands. StretchLab has a higher labor cost given the mostly one-on-one model, but also generates higher AUVs. Pure Barre has more of an owner-operator model that allows the owner to internalize some of the expenditures they would otherwise have for labor.

In some instances, franchisees of lower AUV concepts have transitioned from semi absentee to owner operator in order to reduce labor costs and internalize more of their overall spend. Now turning to our results for the second quarter. North America system-wide sales of $341.3 million were up 37% year-over-year. The growth in North American systemwide sales was driven primarily by the 15% same-store sales in the existing base of open studios that continue to acquire new members, coupled with 115 new North American studios that opened in the second quarter. On a consolidated basis, revenue for the quarter was $77.3 million, up 30% year-over-year. Reoccurring revenue for the quarter was 74%, which we have consistently defined to include all revenue streams, except for franchise license sales and equipment revenues given these materially occur upfront before studio opens.

That being said, all five of the components that make up our revenue grew during the quarter. Franchise revenue was $35.1 million, up 27% year-over-year. This growth was primarily driven by an increase in royalty revenue as member visits and system-wide sales reached all-time highs. In addition, we saw increased instructor training revenues and higher monthly tech fees that will continue to increase as we open more studios domestically. Equipment revenue was $14.4 million, up 17% year-over-year. This increase in equipment revenue is the result of continued higher volumes of global equipment installations in addition to a higher mix of equipment-intensive brands like BFT and Rumble. Merchandise revenue was $8.4 million, up 24% year-over-year.

The increase during the quarter was primarily driven by a higher number of operating studios and increased foot traffic compared to the prior year. Franchise marketing fund revenue of $6.6 million was up 34% year-over-year, primarily due to strong system-wide sales from a higher number of open studios in North America. Lastly, other service revenue, which includes rebates from processing studio system-wide sales, B2B partnerships, XPASS and XPLUS amongst other items, was $12.8 million, up 62% from the prior year period. The increase in the period was primarily due to increased revenue from sales generated in our company-owned transition studios, increased rebates from the processing of studio-level system-wide sales and our higher revenues from our B2B partnerships.

Turning to our operating expenses. Cost of product revenue were $14.2 million, up 5% year-over-year. The increase was primarily driven by a higher volume of equipment installations for new studio openings and a higher mix of equipment-intensive brands in the period. Cost of franchise and service revenue were $3.7 million, down 18% year-over-year. The decrease was driven by fewer license terminations in Q2 of 2023. Selling, general and administrative expenses of $44.4 million were up 52% year-over-year. As a percentage of revenue, SG&A expenses were 57% of revenue in the second quarter, up from 49% in the prior year period. As Anthony spoke to earlier, we expect our shift in strategy regarding company-owned transition studios will begin to have a positive impact in the second half on this line item and drive leverage in SG&A.

We are already executing on the plans to ramp down these studios and we’ll share additional details on the positive impact this will have at the Analyst and Investor Day. Depreciation and amortization expense was $4.3 million, an increase of 20% from the prior year period. Marketing fund expenses were $5.5 million, up 34% year-over-year, driven by the increased spend afforded by higher franchise marketing fund revenue. Acquisition and transaction expenses were a credit of $31.3 million versus a credit of $31.6 million in the second quarter of 2022. As I noted on prior earnings calls, the contingent consideration is related to the Rumble acquisition earn-out and is driven by the share price at quarter end, we mark-to-market the earnout each quarter and accrue for the earnout.

We recorded net income of $27.5 million in the second quarter compared to a net income of $31.5 million in the prior year period. The slightly lower net income was the result of $5.3 million of higher overall profitability, offset by a $0.4 million increase in noncash contingent consideration primarily related to the Rumble acquisition, a $1.6 million increase in noncash equity-based compensation expense and a $7.2 million increase in write down of brand assets associated with taking on a number of Rumble founder company-owned transition studios in the period. We continue to believe that adjusted net income is a more useful way to measure the performance of our business. A reconciliation of net income to adjusted net income is provided in our earnings press release.

Adjusted net income for the second quarter was $4.2 million, which excludes the $31.3 million gain in fair value of noncash contingent consideration, a $0.7 million liability increase related to the second quarter remeasurement of the company’s tax receivable agreement and the $7.2 million noncash write-down of brand assets. This results in adjusted net earnings of $0.05 per basic share on a share count of 33 million shares of Class A common stock after accounting for income attributable to noncontrolling interest and dividends on preferred shares. Adjusted EBITDA was $25.3 million in the second quarter, up 43% compared to $17.6 million in the prior year period. Adjusted EBITDA margin grew to 33% in the second quarter compared to 30% in the prior year period.

As a reminder, our 2023 outlook anticipates adjusted EBITDA margins reaching the 35% to 39% range, and we expect this number to grow to 40% in 2024. Turning to the balance sheet. As of June 30, 2023, cash, cash equivalents and restricted cash were $40.2 million, up from $29.3 million as of June 30, 2022. Total long-term debt was $265.6 million as of June 30, 2023, compared to $131.7 million as of June 30, 2022. The increase in total long-term debt is primarily due to the repurchase of 85,340 shares of convertible preferred stock at a price of $22.07 per share announced in January. These shares prior to the repurchase would have been convertible into 5.9 million shares of Class A common stock. As mentioned on previous earnings calls, the company remains focused on optimizing our capital structure.

If market conditions prove favorable, the company intends to pursue a whole business securitization of our repeating revenue streams, which will provide cheaper access to fixed rate financing in place of our existing floating term loan debt. Now turning to our outlook. Based on current business conditions and higher levels of performance in the second quarter, we are increasing our full-year 2023 guidance for system-wide sales, revenue and adjusted EBITDA, and we are reaffirming guidance for new studio openings as follows. We expect 2023 global new studio openings to remain unchanged in the range of 540 to 560. This range represents the highest number of studio openings in our company’s history and an 8% increase at the midpoint over 2022. We now expect North America systemwide sales to range from $1.385 billion to $1.395 billion, up from the previous $1.37 billion to $1.38 billion or a 35% increase at the midpoint from the prior year.

Total 2023 revenue is now expected to be between $295 million to $305 million, up from the previous $290 million to $300 million, a 22% year-over-year increase at the midpoint from the prior year. Adjusted EBITDA is now expected to range from $102.5 million to $106.5 million, up from $102 million to $106 million, a 41% year-over-year increase at the midpoint from the prior year. This range translates into a roughly 34.8% adjusted EBITDA margin at the midpoint. In terms of capital expenditures, we anticipate approximately $10 million to $12 million for the year or approximately 4% of revenue at the midpoint. Going forward, capital expenditures will be primarily focused on the BFT integration, XPASS and XPLUS new features and maintenance on other technology investments to support our digital offerings.

For the full-year, our tax rate is expected to be mid-to high single-digits, share count for purposes of earnings per share calculation to be 32.7 million and $1.9 million in quarterly dividends to be paid related to our convertible preferred stock. A full explanation of our share count calculation and associated pro forma EPS and adjusted EPS calculations can be found in the tables at the back of our earnings press release as well as our corporate structure and capitalization FAQ on our Investor website. Finally, before turning the call over for questions, I want to communicate that our Board of Directors on August 1 has authorized a new up to $50 million share repurchase. Our lender, MSD Capital has already amended our term loan financing agreement and is funding the capital to complete the repurchase.

Pro forma, adjusting for this incremental $50 million in term loan debt, the company will have less than 3x net debt-to-adjusted EBITDA for the full-year 2023 based on the midpoint of our guided range. Thank you for your time today and for your support of Xponential. We will now open the call for questions. Operator?

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Q&A Session

Operator: Thank you, sir. Ladies and gentlemen, we will now be conducting a question-and-answer session. [Operator Instructions] Our first question is from Randy Konik of Jefferies. Please go ahead.

Randal Konik: Hey guys, thanks for a very thorough presentation, lots of good data for us to dig in on. So I guess one thing that really struck me on the AUV side was, A, it’s very strong. And then, B, you talked about strength in visitation growth during the quarter. So maybe could you give us some perspective if you think about that AUV strength quarter-over-quarter — in the quarter year-over-year. Can you give us some — bounce it out with how much is like visitation growth, some pricing, maybe mix shift with the higher AUV concepts. Just want to get your perspective on what’s driving that overall number?

Anthony Geisler: Yes, I’ll take that. So the system-wide sales growth that you saw from Q1 to Q2, again, as consistent with prior quarters, you’re getting 95% of system-wide sales growth, two different ways. One, from obviously opening up new studios. But two, it’s volume, it’s not price. So it’s simply the 95%, 5% did that calculation, reaffirming Q2 is very similar, that is 95% volume. And in visitation, when you think about visitation in the summer months, you typically see more families take vacations. So visitation was flat roughly to Q1, but you still have the benefit of growing systemwide sales and members. So you’ll see that kind of in the early part of Q3 as well. July is more of a summer travel month, while kids are out of school, parents tend to take more vacation.

So visitation in the summer months is relatively flat. But when you look at historical patterns and seasonality, August and September, you see when kids come back to school, parents usually have more time and they kind of return back to their workout regimens. But visitation is still greater than Q1, but it is flat when you look at it from like June to July.

Randal Konik: Understood. And then on the additional country, I guess, France up to 19 countries now, maybe give us some flavor on what’s been developed so far? How that’s been going? What maybe differences you’re seeing from your MFAs in the different regions or countries? And then kind of how you’re thinking about the pace of new country openings, let’s say, over the next three to five years? That would be very helpful. Thank you.

Sarah Luna: Yes, I can take that one. We’ve got a lot of development out there in terms of potential. We mentioned that there’s 50 countries that we’ve identified, times 10 brands, so 500 total MFAs that we can go out and develop and pursue. In terms of the recent MFAs, we’ve got Switzerland, Ireland as well as France. Those are existing franchise partners of our domestic studios that have decided to open abroad, which is really exciting to see. And they’re in the early stages of going out and looking for leases and developing out those studios. So we should know soon how they perform, but we feel very confident in the performance of our franchise partners, given that they’re strong performers domestically.

Anthony Geisler: And to follow that up, Randy, like looking into the future in regards to your question around what does the openings internationally look like compared to domestic, it’s going to follow suit. We’ve been — right now, the total mix is around 90:10, with 90% domestic, 10% international, but we’ve been selling and opening closer to 75:25. So assuming long-term metrics, north of 500 units a year, you could probably assume about 25% of those will come internationally over the coming years.