Xponential Fitness, Inc.

Q2 2022 Earnings Conference Call

8/11/2022

spk02: Greetings, and welcome to the Exponential Fitness Incorporated second quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. The question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the call over to Kimberly Esterkin of Investor Relations. Thank you. You may begin.
spk00: Thank you, Operator. Good afternoon, and thank you all for joining our conference call to discuss Exponential Fitness' second quarter 2022 financial results. I am joined by Anthony Geisler, Chief Executive Officer, Sarah Luna, President, and John Malone, Chief Financial Officer. A recording of this call will be posted on the Investor section of our website at investor.exponential.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 useful 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 we 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 Exponential Fitness.
spk07: Thanks, Kimberly, and good afternoon, everyone. We appreciate you joining our second quarter earnings conference call. I'll begin with an overview of our performance. Sarah will then join me to speak about our progress against our growth strategies. John will conclude with a review of our second quarter financial results and an update to our full year outlook. Exponential Fitness is the largest global franchisor of boutique fitness workout brands. Our business model is straightforward. We license our boutique studio operations, share our business processes and branding with franchisees, and in exchange charge royalties and other fees for our services. As our AUVs grow and as we increase the number of studios, we become more profitable, given that the royalties generated from system-wide sales are very high margin and given our SG&A platform scales. As of the end of the second quarter, franchisees collectively operated over 2,350 studios in 14 countries around the world across 10 leading brands in major workout modalities. We are pleased with our operational execution and resulting financial performance in the second quarter. Total members in North America for the second quarter increased by approximately 32% year over year. Our Q2 North American system-wide sales grew for the eighth consecutive quarter, up 45% year over year. Finally, We ended the quarter with run rate North American AUVs of 480,000, up from 384,000 year over year. The dynamic growth in run rate AUVs is a strong reminder that despite inflationary pressures to date, the workouts our franchisees provide across our diverse portfolio of 10 brands are an integral part of our members' lives. Importantly, as we continue to open more studios and as our AUVs continue to grow, our profitability increases, driven by high-margin royalties from growing system-wide sales, with an active pipeline of approximately 2,800 studios contractually obligated to open globally, and only about a quarter of our conservative North American total addressable market currently penetrated. Studio openings are not expected to slow anytime soon, continuing to drive profitability. For the second quarter, we posted net revenues of $59.6 million, an increase of 66% year-over-year. Q2 adjusted EBITDA of $17.6 million, or 30% of revenue, was up 112% from $8.3 million, or 23% of revenue, in the prior year period. While we acknowledge we are operating in a time of inflation and macroeconomic pressures, including labor and supply chain constraints, our business has remained resilient. First, Exponential's customers continue to prioritize their health as a necessary investment. Our customers do not view fitness as discretionary spend. The majority of our members have a typical household income of approximately $130,000 and subscribe to reoccurring membership packages with fees that are a relatively small piece of their overall budgets. Second, as a franchise business model, we benefit from highly predictable reoccurring revenue streams and limited ongoing capital requirements. In the second quarter, approximately 68% of our revenue was reoccurring, largely driven by royalties. This percentage is lower than our 70% plus historical reoccurring revenues due to the high number of studio equipment installations in the quarter as we prepare to ramp openings in the second half of the year. We expect the percentage of reoccurring revenues will continue to fluctuate from time to time based on the number of equipment installations and subsequent studio openings in the period. Finally, paramount to Exponential Fitness's ongoing success is our ability to proactively support and grow our franchise system. Our business has remained resilient, and we have not experienced significant operational headwinds around talent acquisition or supply chain management. Given that approximately 25% of health clubs and 30% of studios closed permanently during the pandemic, there remains an adequate supply of fitness instructors in the space. In terms of supply chain, our equipment is primarily sourced in the United States, and as previously mentioned, we continue to take steps to proactively purchase equipment inventory for brands with a high volume of studio openings in the pipeline to mitigate against any potential disruptions in the coming quarters. In addition, these advanced purchases have been particularly beneficial given the current high inflationary environment. Based on these factors, despite the uncertain macroeconomic environment, we remain confident about the go-forward trajectory of our business, particularly as the positive momentum has continued into the third quarter. As one of the only scaled boutique fitness franchise operators during the 2008 financial downturn, I am keenly aware of the steps required to keep a business running successfully during economic volatility. At LA Boxing, I successfully scaled the business through the downturn before selling it in December of 2012. More recently, Exponential has proven resilient in the face of COVID-19, growing our business significantly against a backdrop of industry contraction. One of the most important things I have learned in my career in fitness and franchising is that partnering with the right operators who have the tenacity, courage, and capital to successfully run their business, no matter how challenging the operating environment they face, is critical for success. As you may have heard me speak to previously, we take our franchisee selection process very seriously, with only 2% of our leads becoming franchisees. Our franchisees generally are corporate veterans looking for an entrepreneurial opportunity. Their resilience and business acumen is evidenced by the fact that in the company's history, including most recently during the pandemic, we had zero studios closed permanently. Our franchisees have borrowed over $200 million from the SBA without any non-repayments under our ownership. Between our strong franchisee base, the support we provide our franchisees, and the continued strength of our underlying business, we feel confident that Exponential will not only be able to successfully weather a slowdown or recession, but maintain a solid growth trajectory going forward. As we continue to scale our global footprint, optimizing complex systems, data, and business intelligence is an increasingly important driver of our success. With that, I'm excited to announce the appointment of Jair Clark to serve on our board of directors as well as on our audit and human capital management committees. Given Jair's current role as global chief technology officer of commercial systems at Microsoft and his prior senior digital leadership roles at Disney and at IBM, It's hard to imagine anyone who could be a better fit for the board as we continue to scale our global business. With that as a background, let's move to our four key strategic areas of growth, beginning with our first two growth levers, increasing our franchise studio base across all of our brands in North America and expanding our brands and studio base internationally. We ended the quarter with 2,357 global studios. opening 128 net new studios in the second quarter. We also experienced strong demand for our franchise licenses, selling 251 licenses globally in Q2, maintaining our annualized run rate of 1,000 licenses per year. In North America, we have almost 1,900 licenses sold and contractually obligated to open and have a replenishing pipeline of organic new studio expansions. offering us four to five years of visibility into our growth. On the international front, we have almost 1,000 studios obligated to be open, and we continue to gain traction in terms of international expansion. We recently announced new master franchise agreements, or MFAs, for Club Pilates in the U.K. and Cycle Bar in Japan. As a reminder, our MFAs are structured to provide exponential with high margin flow through given we require minimal ongoing SG&A to support MFA growth. The Club Pilates MFA in the UK gives the master franchisee the opportunity to license at least 50 Club Pilates studios over the next 10 years. In Japan, our new MFA provides the master franchisee the opportunity to license at least 30 cycle bar studios over the next eight years. These new partnerships will bring Exponential's global reach to 14 countries. On the M&A front, the BFT integration remains on track. As of today, BFT has over 200 open studios globally. Regarding future M&A, the pipeline of opportunities remains robust, and we will continue to opportunistically evaluate potential brands in new modalities. Turning to our third key growth driver, expanding margins and driving free cash flow conversions. As our business continues to grow, we are increasingly reaping the benefits of our asset-light, scalable operating model, providing us with consistent and growing margin performance. Considering the current macro environment, we are very pleased to have held our operating margins steady. We continue to expect our adjusted EBITDA margin will be in the low 30% range for the full year 2022, and we remain on track to achieving our long-term adjusted EBITDA margins. John will discuss this further when he discusses our full-year outlook. 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.
spk01: Thank you, Anthony. The health of our brand portfolio remains strong. As noted earlier, despite the elevated inflationary environment, exponential consumers continue to prioritize their health and wellness, engaging with our brands through both in-studio and digital experiences. Our visitation rates have continued to increase, with total visits growing 28% year over year. This member engagement demonstrates that our offerings are not considered discretionary, but rather an integral part of our customers' lifestyle. Our core KPIs are continuing to grow, and our churn levels remain steady at approximately 1.5% after 12 months. During the second quarter, we continued to optimize the ways in which we attract prospective members while simultaneously focusing on delivering increased value to current members. Continued investments into improving our customer experience will translate into growing memberships, AUVs, and overall system-wide sales. Beginning with our in-person offering, XPath provides subscribers access across our U.S. studio locations under a single monthly recurring subscription. XPath has been a powerful engagement platform for us. helping us attract new, retain existing, and re-engage previously turned customers. The platform's primary goal is to fill classes to 100% capacity, which we are currently doing at a $0 customer acquisition cost for the franchisees. By driving more bookings into existing classes, XPath helps our franchisees increase studio profitability. XPath has also proven to be a powerful acquisition tool for the broader exponential system. with 25% of XPAS members having no prior studio relationship, purchasing an additional membership or class pack at our studios. Many of our cohorts are still in the earliest stages, and we are excited about these early signals of customers adopting both XPAS subscriptions and in-studio memberships. Since being fully rolled out at the end of 2021, XPAS has been profitable for exponential, due in part to our careful management of acquisition and marketing spend. In terms of digital engagement, X Plus offers thousands of live and on-demand digital workouts on a single platform. X Plus continues to be a helpful tool to further promote brand awareness, increase customer engagement, and supplement our customers' in-person class attendance. The majority of our brands offer promotional subscription to X Plus with a membership purchase. In fact, during the height of the pandemic, we started to test a membership bundle offering at Stretch Labs. which provided in-studio classes and access to our digital library. This test case was successful, and we have since rolled this out to our entire Stretch Lab network. We continued to see great success after the rollout and are expanding this offering as an enhanced value proposition to all Club Pilates memberships. We are eager to see the results of this new program, which addresses customer demand for further optionality in their fitness routine and increased membership value. In addition, as a standalone digital platform that interfaces with consumers around the world where we have yet to open a studio, X Plus is highly conducive to B2B subscription options and commercial marketing partnerships. For example, as previously announced, we expanded our digital offering in collaboration with Lululemon and its home gym technology, The Mirror. Our four featured brands, Pure Bar, Rumble, Yoga 6, and AKT, are on track to go live on The Mirror this fall. Another B2B opportunity and driver in North American studio growth is our nationwide partnership with LA Fitness. This partnership provides us the exclusive right to open our exponential fitness studios within LA Fitness locations with a minimum development commitment of 350 franchise locations over five years. Today, we currently have seven open studios within LA Fitness locations and will continue to build out this footprint. Our in-studio B2B partnerships continue to track nicely as well. We recently announced three exponential brand partnerships with leading energy drinks. Celsius is now the official energy drink partner of Cyclebar, and C4 Energy is now the proud energy drink partner of Row House and Rumble Studios. The mission of both C4 and Celsius align with our own brand's growth initiative, something we consider essential when securing brand partners. We are excited to continue to broaden the omnichannel offerings we can provide to our consumers as we create unique fitness communities for our membership base. Thank you again for your time. I'll now turn the call over to John to discuss our second quarter results and outlook in more detail.
spk11: Thanks, Sarah. It's great to speak with you to discuss Exponential's second quarter results. Second quarter North America system-wide sales of $249.8 million or up 45% from $172 million in the second quarter of 2021. On a consolidated basis, revenue for the quarter was $59.6 million, up 66% from $35.8 million in the prior year period. All five of the components that make up revenue grew during the quarter. Franchise revenue was $27.6 million, up 55% from $17.8 million in the prior year period. The growth was primarily driven by higher royalties as well as increased revenue generated from franchise license fees. Equipment revenue was $12.4 million, up 160% from $4.8 million in the prior year period. This increase in equipment revenue continues to be driven by a higher number of equipment installs along with a greater concentration of installs within equipment-intensive brands. Merchandise revenue was $6.8 million, up 50% from $4.5 million in the prior year period. The improvement during the quarter was primarily driven by a higher number of open studios along with increased foot traffic across studios. Franchise marketing fund revenue of $4.9 million was up 49% from $3.3 million in the prior year period, primarily due to strong system-wide sales and average unit volume growth. Lastly, other service revenue was $7.9 million, up 45% from $5.4 million in the prior year period. The increase in other service revenue was primarily driven by an increase in credit card rebates on higher system-wide sales and higher B2B and brand fee revenue. Turning to our operating expenses, cost of product revenue was $13.5 million, up 115% from $6.3 million in the prior year period. The increase was driven by higher equipment installations for new studio openings and merchandise revenue in the period. Costs of franchise and service revenue were $4.5 million, up 45% from $3.1 million in the prior year period. The increase continued to be driven by costs related to franchise sales commissions and from technology fee costs from a higher number of open studios. selling general and administrative expenses of $29.3 million were up 38% from $21.2 million in the prior year period. This increase was largely due to costs associated with public company expenses and higher non-cash equity-based compensation, as well as expenses related to one-time legal costs. As a percentage of revenue, SG&A expenses were 49% of revenue in the second quarter compared to 59% in the prior year period. Depreciation and amortization expense was $3.6 million, an increase of 49% from $2.4 million in the prior year period. Marketing fund expenses, which include expenses related to corporate marketing, were $4.1 million, up 43% from $2.9 million in the prior year period. The increase was driven by higher spend afforded by higher marketing fund revenue and due to lower spend in the prior year period due to the pandemic. Acquisition and transaction expenses were a credit of $31.6 million versus an expense of $0.3 million in the second quarter of 2021. This improvement is due to the change in non-cash contingent consideration primarily related to our acquisition of Rumble. As I noted on prior earnings calls, the Rumble contingent consideration is driven by our share price. We mark the market at each quarter and accrue for the earn out. We recorded net income of $31.5 million in the second quarter, compared to a net loss of $8 million in the prior year period. The increase was the result of $11.6 million of higher overall profitability and $31.8 million of lower non-cash contingent consideration, primarily related to the Rumble acquisition, and was offset by a $4 million increase in non-cash equity-based compensation expense. 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, which excludes the $31.6 million change in fair value of non-cash contingent consideration and $0.2 million expense related to the second quarter remeasurement of the company's tax receivable agreement liability, was $0.1 million. compared to an adjusted net loss of $7.8 million in the prior year period. To calculate adjusted net loss per share, we isolate the portion of the net income loss that is attributable to Exponential Fitness, Inc., which is $0.1 million, and we reduce this number by $1.7 million to account for the dividend attributable to Exponential Fitness, Inc., paid on our preferred shares. This results in an adjusted net loss of $0.07 per share on 25.4 million shares. A reconciliation of net income to adjusted net income is provided in our earnings press release. Adjusted EBITDA was $17.6 million in the second quarter compared to $8.3 million in the prior year period. Adjusted EBITDA margin grew to 30% in the second quarter compared to 23% in the prior year period. Our 2022 outlook anticipates adjusted EBITDA margins of over 30% and long-term, we expect this number to grow to over 40 to 45%. Turning to the balance sheet, as of June 30th, 2022, cash, cash equivalents, and restricted cash were 29.3 million, up from 21.3 million as of December 31st, 2021. Total long-term debt was 131.7 million as of June 30th, 2022, compared to 133.2 million as of December 31st, 2021. Moving to our outlook. Based on current business conditions, our year-to-date performance, and our expectations as of the date of this call, we are increasing our full-year 2022 outlook for revenue and adjusted EBITDA and reaffirming our guidance for studio openings and system-wide sales in North America as follows. We continue to expect our total 2022 global new studio openings to be in the range of 500 to 520, This range represents the highest number of studio openings in our company's history. We also continue to project North American system-wide sales to range from $995 million to $1.5 billion, or $1 billion at the midpoint, which represents a 41% increase from the prior year and the highest North American system-wide sales in our history. Total 2022 revenue will be higher than initially forecasted, and is now expected to be between $211 million to $221 million, an increase of 39% from 2021 at the midpoint of our guided range. The increase in range was primarily attributed to higher overall franchise revenues, higher revenue from B2B and brand fee partnerships, and better performance in our company-owned transition studios. Adjusted EBITDA is now expected to range from $68 to $72 million, a 156% year-over-year increase at the midpoint of our guided range. This new adjusted EBITDA guidance range translates into roughly a 32.4% adjusted EBITDA margin at the midpoint. With regards to SG&A spend, we are seeing some cost pressure from general operations and particularly legal, which was $7.4 million in the first half of 2022. We view this legal spend as an isolated event for purposes of our adjusted EBITDA. Based on the visibility today, SG&A, excluding equity-based compensation for 2022, will now be roughly 42% of total revenue at the midpoint of our outlook. Longer term, we are anticipating SG&A at approximately 25% to 30% of revenue. Given our asset-light model, CapEx continues to be a small percent of overall revenue. We anticipate our capital expenditures for 2022 to be approximately $7.5 million to $9.5 million or 4% of revenue at the midpoint. Going forward, capital expenditures will be primarily focused on the BFT integration, tenant improvements related to a larger retail warehouse to scale merchandise sales, and maintenance and other technology investments to support our digital offering. For the full year, we expect our tax rate to be in the mid to high single digits, share count for purposes of earnings per share calculation to be $25.7 million, and $3.25 million in quarterly dividends to be paid related to our $200 million convertible preferred stock. A full explanation of our share count calculation and associated pro forma EPS and adjusted EPS calculation 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. Thank you again for your time and for your support of Exponentials. We look forward to speaking with you on our next earnings call. We will now open the call for questions. Operator?
spk02: Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for your questions. Our first questions come from the line of Alex Perry with Bank of America. Please proceed with your questions.
spk05: Hi. Thanks for taking my questions and correcting a strong quarter here. So just wanted to get maybe a little more color on, you know, the guidance in terms of the revenue guidance, you kept the system wide sales number the same in the studio openings, the same. So presumably the equipment number would sort of be in line with your expectation. What was the Delta that brought, you know, the rev guide up? Thank you.
spk11: Yeah. Thanks Alex. So from a revenue perspective, the, The three categories that we saw upside in kind of the first half, which we wanted to adjust guidance from a mixed perspective, is upside in the franchise revenue. We've announced a number of these B2B deals, which have provided some revenue upside that was favorable and we perceive as favorable through the rest of the year. And then we've seen better performance in the transition studios that we've spoken of in the past. Roughly half to 1% of transition studios that we own have been performing better than the assumptions we originally had in our original guidance. So the three of those combined gave us the opportunity to adjust the guidance upwards on revenue.
spk05: Perfect. And then just in terms of the system-wide sales guidance in particular, what does it sort of assume in terms of run rate AUVs? Do you expect a continued progression at the at the franchise level, I think you're already above sort of pre-pandemic AUVs. So, and then maybe if you could also speak to, do you normally see the same sort of churn as the rest of the fitness industry in the back half in terms of, you know, members leaving as, you know, people go back to school and the holiday season, maybe just speak to us about sort of the seasonality as well. Thanks.
spk11: Yeah. So Alex, as it relates to, you had a couple of questions in there. I'll tackle a couple and I'll turn it over to Sarah. From an AUV perspective, yeah, we have exceeded pre-COVID levels, you know, 480,000 on average per studio in Q2. We do expect AUVs continue to grow, you know, into the foreseeable future, which will drive the system-wide sales. I think that answered the first part of your question. And I think you had a couple else in there that, what was the second part to that?
spk05: Just in terms of the seasonality of the business, could you just talk to the AUV progression and how you tie that back to potential membership churn in the back half? Do you normally lose members in 3Q and 4Q like other fitness players?
spk01: Typically what we see on the second half of the year is that Q4 tends to be a little bit higher in terms of AUVs. because of the Black Friday promotions and some of the year-end promotions that lead into a strong January interest across our membership base. But because we are in a recurring subscription model, we don't typically see that churn increases or that people cancel because they're away for Thanksgiving for four days or away for Christmas and the holidays for a week. They typically keep their membership and continue to come as often as they can during those times. but they're not canceling and then re-upping once they're back into their regular routine. So we do anticipate that AUVs will continue to grow, you know, in steady state for the rest of the year.
spk11: And one other point to add, you know, prior to COVID, the AUVs climbed and we never really saw the top end of where the studios could perform to. So the expectation going forward is AUVs will kind of get back onto that trend where they'll continue to climb as we fill capacity and add new members to the studio and as the younger cohorts of studios that have opened last year, this year, get to, you know, I don't want to say full potential, but, you know, continue to grow to higher capacity.
spk05: Perfect. That's really helpful. Best of luck going forward.
spk02: Thank you. Our next question has come from the line of Brian Harbor with Morgan Stanley. Please proceed with your questions.
spk09: Hey guys, maybe the first one, how many of the openings in the second quarter were international? And what kind of countries and brands are you seeing really drive that right now?
spk11: Yeah, so from a mixed perspective, we're still seeing about a 75% to 25% split between domestic and international. So about 25% of the openings in the second quarter were international. Some of the brands that typically drive more of the openings are the ones we've sold the most of and are relatively new. Club Pilates still seems to be a top performer. We've sold a lot of licenses, and they have a pretty strong AUV, so we're getting openings continued there. Stress Lab is another brand where we've sold a lot of licenses, and those licenses are now translating to openings. And our most recent acquisition of BFT is, continues to be one of the top openers. So the three top are Club Pilates, Stretch Lab, and BFT.
spk09: Okay, great. John, also just your comment on SG&A and the cost pressure in there. Is that mainly just personnel related? Are you hiring more than you expected to in the past? Because I assume that kind of stays in the base, or I don't know if there's anything one time in there.
spk11: Yeah, so related to SG&A, there was some one-time expenses that I called out, particularly around legal. We did have to do some defensive legal work around trademarks, particularly around BFT. And then we had some patent issues, again, related to one of our public competitors around defending a patent around BFT as well. So we do view those legal costs as one-time. We don't believe that they will be a material spend going forward. However, if they are, we will treat those as one-time add-backs as we did in this quarter. Thank you.
spk02: Thank you. Our next questions come from the line of Jonathan Kopp with Baird. Please proceed with your questions.
spk06: Yeah. Hi. Thank you. I want to just ask about the recent consumer behavior you're seeing. If you're seeing any changes in the membership or the packs that members are buying within the concepts, or if you expect to see any differences across the concept if there is a tougher consumer environment. And if that were the case, how might you react?
spk07: Yeah, the answer is no. We're continuing to see membership up, usage up, the consumers continue to spend money. So we're still seeing that 25% of our membership is on the reoccurring four times a month, 25% on the reoccurring eight times a month, and about 50% of the member units on the unlimited. About 60% of the dollars gathered are coming from the unlimited members. But the unit splits about 25-25-50, and that's remained constant and still continues to be the case today.
spk06: Okay, that's great to hear. And then, John, maybe one follow-up on the outlook for the year. Could you maybe just help to clarify, you know, when I look at your revenue year-to-date, you know, it's up a lot, 70%, and the full year, the midpoint's up 39%. So could you just provide any other shaping comments on factors we should think about when modeling revenue in the second half and some of the pieces?
spk11: Yeah, I mean, the position we're taking, you know, related to raising guidance is kind of looking at the performance in the first half and making the adjustment to the full year based off of the upside we've seen so far. You know, given the macro environment, you know, we still want to remain somewhat cautious and not be naive to think that you know, things couldn't change or go flat. We're not seeing that. We are seeing the momentum continue into, you know, up to the point of this call. So we've, again, taken a conservative approach, you know, and make sure that we deliver on the outlook that we've put out there. So, you know, the 221 on the top end, you know, that's kind of where we're committing, you know, our outlook from a revenue perspective. And, you know, roughly the $72 million on the bottom line adjusted EBITDA You know, that's where we see the high end right now as we continue to perform through Q3. You know, we'll come back to you guys and provide updates at that point. But, you know, I think the outlook now represents, you know, based off of the performance in the first half, the upside we saw, you know, and we'll continue to adjust through the back end of this year, the guidance as we see fit.
spk06: Okay, and just last clarification, if I could. The master franchise agreements you've signed this year, Could you quantify how much that's contributing to the year or any rough perspective? Thanks again.
spk11: Yeah, I mean, from an international perspective, we don't break out what the contribution is. Again, when you think about the international business, though, the flow through is much higher as we arrange these master franchise agreements where we get an upfront fee for the initial licenses to sell in those markets, and then as they sell licenses to their sub-franchisees, we don't have the SG&A cost to support that because that's borne by the master franchisor, so there's high margin flow through. So although we don't break it out or segment international, there is very profitable margin flow through on the international, and particularly with the acquisition of BFT being a contributor from day one. The international side of the business does have pretty high margin contribution and will continue to increase quarter on quarter as they open more studios and sell more licenses.
spk06: Okay. Understood. Thank you.
spk02: Thank you. Our next question has come from the line of Randy Connick with Jefferies. Please proceed with your questions.
spk08: Hey, guys. I just want to follow up actually first on that, the master franchise agreements. Maybe just remind us where you have them, where you don't have them and are planning to potentially have them going forward. And just like longer term, how do you think about international, let's say like five years out from now, again, pretty nice margin opportunities and so forth, and just adding to your TAM. Just want to get more flavor on that longer term piece on the master franchise side. Thanks, guys. Thank you.
spk01: Yeah, happy to take that question. So today we have MFA commitments of roughly 1,100 studios across 12 different international countries. And our international strategy is to find the best partner to grow and scale our brands internationally on behalf of the brands. So we're going out looking for various countries where we know that we can be successful both economically and the legal conditions are conducive to franchising. But more importantly, we're looking for the right partner to be us in that given country. So today we've got some good presence in Australia as well as Japan, and then some of our other countries are kind of in their early innings of starting to develop and open their studios. From a contribution standpoint, it's still about 25% at this point, but we'll start to see that shift as the countries continue to grow and develop, and we'll see a little bit of that shift on the P&L.
spk08: Oh, that's super helpful. And then just as we think about, you know, you talked a little bit about some cost items impacting things. Any thoughts around, you know, any offsets you guys can kind of have with that, potential changes in royalty rates or anything like that, you know, mandating kind of pricing changes on the studio side? Just kind of curious on how you're thinking about, you know, inflation and just maybe some offsets or things to react. Thanks, guys.
spk07: Thanks, Randy. We continue to be focused on that in Q1 as well as in Q2. We did procure some equipment, which allowed us to not only hit the opening numbers we needed, but also allowed us to kind of hedge against any of that type of inflationary situation. So, you know, we continue to look at that and, you know, continue to progress forward. But John had some more thoughts on that, too, as well.
spk11: Yeah, I mean, some of the other things we're looking at in the second half is opportunities around some of our Pubco expenses. Obviously, going public, you know, insurance is one of the high-ticket items that we had, and recently going through a renewal of that policy and seeing some favorable expenses there. So we are looking pretty much across all our vendors to optimize spend in the second half and, again, try and drive margin expansion there. You know, we do see, you know, the commitment we made around getting to the 40 to 45%, you know, adjusted EBITDA margins. You know, long-term, we're on track to achieve that. Even though we had a little bit of higher SG&A this quarter, again, we viewed that as one time. So the focus is in Q3 and Q4 is getting back on track, driving optimization out of SG&A, continue to focus on vendors, as Anthony mentioned, making sure we We mitigate inflation or cost increases around equipment by procuring in advance and or in larger volumes to make sure that we hit the openings but, again, hit the margin target. So it's kind of an all-hands-on-deck effort across the company to continue to drive down costs through various strategies.
spk08: Very helpful. Thanks, guys.
spk02: Thank you. Our next questions come from the line of John Highbuckle with Guggenheim Securities. Please proceed with your question.
spk10: So maybe you can talk to, I know all the brands are different, but maybe talk to the issue as you climb toward 500,000 AUV capacity utilization, excess capacity still to be utilized in the studios. So where do we stand on that? And also from a functional standpoint, right, Not all slots are created equal, right? They're obviously more popular slots. And I don't know if you have a thought at what AUV level, maybe we're not even close to it, you know, does capacity become an issue for the member experience? That would be helpful.
spk01: There are actually a couple of different strategies that we deploy when we're looking at capacity and how that then correlates with AUVs. So when we first opened a studio, we opened with a pretty minimal schedule so that we can fill the studio, fill the schedule, and create this community feel across the members as well as within that location. And we start with very aggressive pricing. As we start to see that there's more demand, we add more classes very carefully but also start to increase the price points so that we are able to then meet the supply and demand curves, you know, with the appetite that the consumer has for spending on their membership. Once you get to a mature studio that's in their sustainable business, We then look at driving AUVs with some of the vendor partners that we have. So driving retail and some of the brands is driving private training or workshops, teacher training, you know, like with a brand with Club Pilates. And now that we have a B2B department now bringing in, you know, additional lead flow and revenue opportunities through those partnerships as well. So we're looking at continuing to expand the four-wall economics without necessarily driving additional utilization at the studio level. We chatted about bringing X Plus to the Club Pilates and Stretch Lab memberships, and part of that idea was to continue to add value and benefit to the existing brick and mortar membership, but also giving the member the opportunity, if they can't get into class or into a stretch session, to still be able to enjoy an expo experience. So we're looking at a lot of different ways of how we continue to meet demand where it is while also driving AUVs.
spk10: Right. Maybe as a follow-up to that, as you think about the real estate strategy going forward, the tension between cannibalization and network effect, I guess I would think most of the brands are at such a young level that the network effect and convenience benefit far outweighs cannibalization. But how do you think about that dynamic?
spk01: When we launch a brand, we go through a very aggressive Buxton research analysis. So we really take the members that we know like the brand, follow the brand, and take that demographic and then map it across the country. And we now then have enough data within the 10 brands to look at various fitness rows and what happens within those fitness rows as we continue to open various studios and various concepts within a concentrated area. We watch that very closely. We haven't seen any sort of cannibalization. If anything, we actually see that it becomes an attractor. So you have kind of like a food court. People go to that area. Everyone has something to eat, and it becomes this hub. So we find that with our studios as well. So if anything, the data is actually a little bit stronger, you know, dictating that that's actually a good model rather than saying that, you know, the studios and various concepts need to be –
spk10: Okay, thank you.
spk02: Thank you. Our next questions come from the line of Warren Chang with Evercore ISI. Please proceed with your questions.
spk04: Hey, good afternoon. Nice job in a pretty tough environment. Can you give us an update just on your franchisee's unit economics? Because the AUV side continues to trend really nicely in the right direction. But are your franchisees starting to see inflation show up on the cost side, especially just on the labor, rent, or financing side that are offsetting that AUV accretion?
spk07: Yeah, I mean, there's minimal, not material inflation, of course, everywhere. But we're not seeing that. Stores are continuing to operate. AUVs are continuing to grow. And so we're not, when you look at kind of labor costs or things like that, the You know, the labor that we have typically makes $40 to $50 per class. So there's, you know, kind of pressure on minimum wage or things like that in labor. They're not, you know, coming back to us looking for $51 or $52 a class. So our employees are already paid kind of above the minimum wage. So as minimum wage or the labor side increases, we're not really seeing any labor wage inflation. And so, you know, the stores are continuing to operate profitably. Obviously, we opened More units in Q2 than we did in Q1 continued to sell at the current 250 or more pace per quarter. So at the top of the funnel where we're seeing franchisees want to continue to buy more franchises, and we're seeing franchisees continuing to want to open as we see AUVs continue to grow. So the economics are still strong.
spk04: Got it. That's really helpful. And you gave a nice update on some of the partnerships that you've done, and you seem to continue to have new partnerships and kind of new shapes and sizes. Are there certain types that have been the most fruitful from a customer acquisition perspective that you would lean into going forward or that we can expect you to lean into going forward?
spk07: I mean, it's early innings on these partnerships, but obviously there's really a couple kinds of partnerships that we've been doing. One are partnerships that drive really butts in seats ultimately, right? How do we fill that last seat or those last three seats or whatever it might be in a particular brand or for a particular franchisee in a certain location? So that's one. And then the other one is really kind of on the vendor side, things that you see with you know, C4 Celsius or things of that nature. It gives another product for the franchisee to be able to sell and service the customer. But it doesn't necessarily, you know, put somebody in class, right? They're not going to come and sign up to take a cycle bar class so they can drink a Celsius. But there are other drivers like our healthcare deals and the beer deal and other things that we're doing to drive our digital customers even into the brick and mortar. So the partnerships really broke up in those two ways. but still early innings on the partnerships that are, you know, continuing to drive, you know, more people in seats. But you are seeing the AUV increase, and, you know, that's increasing somewhat from price, but also from, you know, driving more people into the studios.
spk04: Gotcha. Thank you. Good luck.
spk02: Thank you. Our next question has come from the line of Joe Altobello with Raymond James. Please proceed with your questions.
spk13: Thanks. Hey, guys. Good afternoon. Just want to go back to your franchisee base for a second, maybe speak to the health or the financial health of your franchisees. Are you seeing any signs that macro pressures are having any impact on that base? For example, are franchisees buying one or two licenses rather than three to four, for example?
spk07: No, we're not necessarily seeing that. Even in Q2, we were able to hit our current run rate number, and that's difficult to do typically in Q2 because as a franchisor, we have to refile in all the states to be able to sell franchises, so we're blocked out. So, you know, even in Q2 for a couple of our top selling brands like Rumble and BFT, we were still in the refiling process in Q2 in states like California, New York, which are places, you know, we sell well and want to be in. So, you know, we're still seeing franchisees continue to buy. We've never been a big company on doing, you know, 20 packs or 30 packs or 50 packs or things of that nature. We've typically always sold on average about three per franchisee because that allows them to get out and get open and develop over a shorter period of time. As a business, we've never had a problem scaling from the franchise sales side. So, you know, in other concepts, people may look at it and say, hey, if somebody wants to buy 10, I better sell them the 10 and wait to develop that over five years because I can't sell or scale as quickly anymore. For us, we would rather sell three three-packs to get to nine than sell one nine-pack and wait, right, because we could be developing those three three-packs in conjunction with each other. So not necessarily people coming and getting ones and twos. We still give a discount at three. So it tends to drive a lot of the sales part toward a three-pack.
spk13: Okay, that's helpful. Maybe just to follow up on that, looking at cash flow, was very strong here in the first half, and I guess you guys are going to have a high-class problem in the sense that you're going to sort of see cash build up on the balance sheet. What's the, I guess, top priorities in terms of cash deployment over the next, call it 18 or 24 months?
spk11: Yeah, so as far as cash, and you're right, I mean, as the company continues to generate cash operationally, there will be a, you know, more or less a stacking of cash on the balance sheet. You know, in the current capital structure, You know, we continue to evaluate and determine whether or not it's more efficient to, you know, change the convertible preferred or how we have our debt structured. So we are evaluating that. It is something that's on our radar. You know, long term, you know, if you look out two, three, four years, you know, the company will be putting off a lot of cash. So things that we have considered and talked about is, you know, the opportunity to do things like share buybacks or potentially dividends and We'll continue to evaluate that this year and into the next year. But from our perspective, our focus right now is driving operations and in peril, looking at how we could potentially change the capital structure so it's more efficient for us long term.
spk13: Okay, great. Thanks, guys.
spk02: Thank you. Our next questions come from the line of George Kelly with Roth Capital Partners. Please proceed with your questions.
spk12: Hi, thanks, everybody. So two questions for you, first on XPath. Just curious what the plan is to keep growing that product, and how soon could it be that we start seeing an impact on your overall royalty rate just as that volume through XPath builds?
spk01: Yeah, we're continuing to look at the way that our members are, you know, interfacing with XPath. Today, or over the last quarter, we were actually able to drive down our cost for conversion, so that declined even after being able to do that in Q1. So we're looking at ways that we can blend our acquisition of customers to make sure that we're not paying for every customer that's coming in, and then putting those customers into each of the individual studios. So really we're working on optimizing the marketing efficiency of XPath and then making that beneficial to the franchise partners. And then we're constantly looking at the technology and ways that we can continue to optimize the technology based on how consumers are using the membership as well as the digital experience.
spk12: Okay, gotcha. And then next question was on pricing. Curious, I know your AUVs now are exceeding pre-COVID, the pre-COVID highs. Just curious how much of that is pricing and how much of that is member growth?
spk01: Yeah, so today it's actually both. So we're seeing that the membership, average memberships per unit is growing, but we're also taking price on a daily basis. So as mentioned earlier, as we start to see that demand is high, supply is low, we work with the franchise partners at the corporate office to help them with their pricing model. We have five different pricing tiers across each of the brands. So as we start to see that utilization is high and their capacity is low, we first evaluate pricing and increase pricing where we feel that we can do that for new customers. And that will start to decrease some of the wait lists that we see across the studios and allow us to backfill canceled members with more expensive memberships.
spk12: Okay. I don't know if you have, maybe you don't, but is your consolidated member account sort of on par with pre-COVID levels or maybe you've, on an AUV or on a unit level basis, or maybe you've exceeded it?
spk07: That's definitely way higher. Utilization is higher, membership counts higher, AUV is higher. So all those, all those KPIs are, are past pre-COVID and continuing to climb.
spk11: And, and, and, It's on a per studio basis as well, so the average members per studio is well above the pre-COVID levels.
spk12: Excellent. Thank you.
spk02: Thank you. Our next questions come from the line of Peter Keith with Piper Sandler. Please proceed with your questions.
spk03: This is an add-on for Peter. Appreciate you taking the time. One quick one from us. You mentioned some revenue growth and the prepared remarks was driven by higher royalty rates. I was just curious. I thought that was kind of a study, maybe not as much of a lever. So I guess what do you have in terms of ways you can increase your royalty rates? Obviously, there's a balance there. And then maybe what's the long-term target for that?
spk07: Higher royalty dollars come from 7% times higher system-wide sales, not from driving a higher percentage. However, Club Pilates, for instance, has increased from 6% to 7% to 8%. And so now on a go-forward basis, Club Pilates, which is one of our highest AUV drivers, of course, highest system-wide sales driver with the most open units, on a go-forward basis for new units coming on, not existing, but for new units being added to the system and opened and sold, will drive at 8%. But the royalty growth we're talking about simply comes from the same average percentage times a larger system-wide sales number.
spk03: Okay. Got it. Understood. And then also going back on the business-to-business updates with MIR and LA Fitness and some of the others you've mentioned, I think it was once framed up that you can go to, say, a corporate and roll it out to their corporate employee base. I was just curious if you all have any updates on doing anything like that on the B2B front. Thanks.
spk07: Still an opportunity for us, and we don't have anything we can announce yet, but still continuing to do that, and it's still a focus like many others for us as we find ways to leverage our assets like X plus and X pass. Thanks.
spk02: Thank you. There are no further questions at this time. I would now like to turn the call back over to Anthony Geisel for any closing comments.
spk07: Thank you. And thank you again for joining today's earnings call. In addition to our investor support, I'd like to acknowledge the entire exponential fitness team and our franchisees for their strong operational execution in the second quarter. Thank you, team, for your hard work and dedication to making boutique fitness accessible to everyone. I'd also like to note that next month we'll be participating in the Jeffries Virtual Fitness and Wellness Summit, as well as the Piper Sandler Global Consumer Technology Conference in Nashville and the Raymond James Consumer Conference in New York City. We hope to see many of you out there. Make it a great day. Thank you.
spk02: This does conclude today's teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.
Disclaimer

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