Xponential Fitness Q2 2024 Earnings Call Transcript

Quartr
Provided by Quartr
August 1, 2024

There are 14 speakers on the call.

Operator

and welcome to the Xponential Fitness Inc. 2nd Quarter 2024 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. As a reminder, this conference is being recorded.

Operator

It is now my pleasure to introduce your host, Adri Wannemik, Investor Relations. Thank you. You may begin.

Speaker 1

Thank you, operator. Good afternoon and thank you all for joining our conference call to discuss Xponential Fitness' Q2 2024 Financial Results. I am joined by Brenda Morris, Lead Director Mark King, Chief Executive Officer and John Malone, Chief Financial Officer. Sarah Luna, President, will join Mark and John for the question and answer portion of the call. A recording of this call will be posted on the Investors section of our website at investor.

Speaker 1

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.

Speaker 1

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 was issued earlier today prior to this call. Please note that all numbers reported in today's prepared remarks refer to global figures unless otherwise noted. As a reminder, in order to ensure period over period comparability and consistent with our reporting methods since IPO, we present all KPIs on a fully pro form a basis, meaning for the full KPI history presented, we only include brands that are under our ownership as of the current reporting period.

Speaker 1

For the period ended June 30, 2024, this includes AKT, BFT, Club Pilates, Cycle Bar, Lindora, Pure Bar, Rumble, StretchLab and Yoga 6. I will now turn the call over to Brenda Morris, Lead Director of Xponential Fitness.

Speaker 2

Thanks, Avery, and thank you all for joining us this afternoon on Xponential's 2nd quarter 2024 earnings conference call. During my brief tenure as Interim CEO, I enjoyed the opportunity to speak with many of you. On behalf of the entire Board, we thank you for your engagement and patience during our leadership transition. Prior to announcing Mark King as the new CEO, we've been in active discussions for some time about adding him to our Board of Directors. During that process, we got to know him well and we are thrilled that he agreed to assume the CEO role in addition to joining the Board.

Speaker 2

Mark has succeeded wherever he has been, rising from a territory sales representative to CEO in his 34 years at Taylor Made, growing sales and market share at Adidas and most recently adding 1400 new locations and increasing international growth during his tenure at Taco Bell. The Board is equally impressed with Mark's career long focus on workplace culture, on franchisees and on exceeding end user expectations. We have full confidence in his ability to lead the company moving forward and to further Exponential's mission of making health and wellness accessible to all. I'll now turn it over to Mark to share some high level reflections from his 1st 6 weeks at the company.

Speaker 3

I appreciate the warm introduction, Brenda, and thank you for all your help since my arrival. I look forward to continue to work with you and our Board of Directors. And a good afternoon to all of you. I am thrilled to be CEO of Xponential Fitness and my excitement has only grown since I got here. So first things first, why am I here?

Speaker 3

When you think about what, for example, Adidas and Taco Bell were like when I joined, you get an idea of what I look for, strong growing brands, passionate stakeholders, scalable teams and models that are poised to generate significant cash with a little bit of fine tuning. I saw all of the same things in Xponential prior to me joining the company and now that I'm here, I'm confident I am in the right place. Over the past 6 weeks, I have spoken to so many people, franchisees, employees, vendors to get a better understanding of our business. Throughout the process, I have been impressed by the passion, the hard work, expertise of Exponential's franchisees and employees. While I obviously haven't yet had sufficient time to develop a detailed strategy, I thought it would make sense to share some early observations.

Speaker 3

To start with, Xponential has a strong stable of core brands that have significant growth and profit potential. For the foreseeable future, we will be focusing on growing our existing portfolio of brands rather than pursuing additional acquisitions. This will ensure that 100% of our management team's focus is on supporting the growth of our existing brands and franchisees. The single greatest determinant of our future success is the underlying health and profitability of our franchisees. We will put franchisees at the front and center of our operational processes and support efforts.

Speaker 3

Helping to ensure franchisees thrive will not just be a single initiative, but rather our core focus across all operations every day. I referenced a minute ago that I haven't yet had the time necessary to develop a detailed strategy to share with you today. What I can tell you though is that high growth companies like Exponential need to constantly innovate and adapt their cultural mindset to the pace at which marketplace has evolved in today's economy to not just grow, but scale profitably. So the strategic initiatives I will be developing and sharing with you in the coming quarters will be focused on that, architecting long term predictable profitability. Lastly, I think it's important to also be matter of fact that refining how high growth companies scale and mature doesn't take place in a vacuum.

Speaker 3

Together with John, the rest of the team and our key stakeholders, we're also going to be navigating around the change in leadership away from a founder led business amidst some regulatory issues that the company has previously disclosed. As John will discuss in greater detail, they've had an understandable impact on the business in the near term and our outlook needs to reflect that. From my vantage point today though, I share John's confidence that those issues aren't going to meaningfully impact our multi year goals nor will some of the consumer spending issues we saw in the retail segment of the business. I will now turn it over to John to discuss our Q2 results and 2024 guidance.

Speaker 4

Thanks, Mark. It's great to have you on board and thank you to everyone for joining the call. While we had hoped this wouldn't be the case, we are confronted with the reality where the business is facing some short term disruptions for our change in leadership and continued regulatory uncertainty. In addition to some distractions at our senior leadership level that followed the resignation of our former CEO, we are also level setting how we operate more broadly under new leadership. We are excited about the long term opportunity all this represents, but we will have to work through some shorter term challenges as we transition away from a founder led organization.

Speaker 4

Both the weaker second quarter results and the reduced guidance for the year should be considered in that context. Importantly, with regards to the 2nd quarter, while some specific headwinds pressured our top and bottom lines in Q2, which I will detail shortly, the core Studio operating KPIs that we use to measure the strength of the franchise system remains strong, including total member growth, total visits, as well as run rate AUVs, which have all achieved new historical levels. North America run rate average unit volumes of 638,000 in the 2nd quarter increased 10% from 581,000 in the prior year period. AUV growth continues to be driven by a higher number of actively paying members and the continued favorable trend of proportionate studio openings coming from our scale brands that generate high levels of sales. The improvement from mix can be attributed to the growth at our higher AUV brands like Club Pilates and StretchLab and further attributed to the recent optimization of the brands in our portfolio.

Speaker 4

Over the past 8 months, we have acquired Lindora and we have divested Rojas and Stride as we aim to own brands that best fit Xponential Fitness' long term growth goals. Today, we are also announcing the winding down of our AKT brand. We expect this to be completed in the Q3 of this year. At the end of the Q2, AKT had 8 open studios and was not a significant contributor to revenue and EBITDA. Therefore, this winding down will not have a material impact on our financials.

Speaker 4

Further, we will not be pursuing the Kinergy rebranding partnership for AKT, as we instead will focus our resources on our remaining brands. We ended the quarter with 3,102 Global Open Studios, opening 108 gross new studios during Q2 with 89 in North America and 19 internationally. There were 85 studio closures in the period. And as a reminder, we previously shifted our strategy regarding studio closures and are no longer taking on any company owned studios. Rather, we are concentrating resources on helping franchisees identify and resolve issues as early as possible to improve operations and their success within our system.

Speaker 4

As a reminder, we are estimating normal annual closures in the range of 3% to 5% of the global system, but we expect closures to come in towards the higher end of the range this year. We sold 87 licenses globally in the Q2, which trended lower due to approval delays in our annual franchise disclosure renewal cycle, in addition to elevated concerns in the franchise sales process around ongoing regulatory scrutiny. Despite these hurdles, which we believe will normalize over time, we still have over 1800 licenses sold and contractually obligated to open in North America, plus an additional over 1,000 master franchise obligations internationally. This backlog of already sold licenses at our current rate represents over 5 years of future studio openings globally. On the international front, the company executed a new master franchise agreement for our BFT brand in Scandinavia.

Speaker 4

The growth expectations for Scandinavia will be 30 studios over the next 10 years. 2nd quarter North America system wide sales of $421,500,000 were up 24% year over year with growth driven primarily by the 7% same store sales increase within our existing base of open studios, coupled with growth from new studio openings. Roughly 95% of the system wide sales growth came from volume or new members, which has remained consistent with historical performance and approximately 5% came from price. On a consolidated basis, revenue for the quarter was $76,500,000 down 1% year over year. This was primarily driven by equipment, merchandise revenues and other service revenues, which I will discuss shortly.

Speaker 4

73% of the revenue for the quarter was recurring, which we define as including all revenue streams except for franchise territory revenues and equipment revenues, given these materially occur upfront before Asideo opens. Franchise revenue was $43,000,000 up 22% year over year. The growth was primarily driven by higher royalties generated by the increase in system wide sales on a larger base of operating studios and healthy same store sales growth. In the quarter, we also recognized favorable franchise territory revenues, driven primarily by the terminated licenses from the RowHouse brand. Equipment revenue was $12,900,000 down 10% year over year.

Speaker 4

With installation volumes materially the same year over year, the decrease in revenue was driven by a higher proportion of installations in the period occurring in brands that are less equipment intensive. Merchandise revenue of $5,900,000 was down 30% year over year and came in below our expectations. In the period, we did see a slowing in retail purchases by members at the studio level, which resulted in lower merchandise purchases from our franchisees to replenish inventory. The company instituted early in Q2 a one time promotion and most recently in July offered a semi annual sale intended to stimulate franchisee merchandise buying. While we believe the lower sales are being driven by a general softness in consumer spending that has been impacting retailers across different sectors.

Speaker 4

This softness in merchandise revenue did not carry over to membership growth trends in the period. We are excited by Mark's depth of experience in optimizing wholesale and merchandising as we evaluate additional ways to drive our merchandise sales or our franchisees and Exponential. Importantly, Q2 year over year growth in membership and visits have increased 17% and 20%, respectively. This demonstrates that traffic remains strong in our studios and our members continue to view Exponential's health and wellness offerings as essential part of their routine. Franchise marketing fund revenue of $8,400,000 was up 27% year over year, primarily due to continued growth in system wide sales from a higher number of operating studios in North America.

Speaker 4

Lastly, other service revenue, which includes sales generated from company owned transition studios, rebates from processing studio system wide sales, B2B partnerships, XPath and XPath, amongst other items was $6,300,000 down 51% from the prior year period. The decline in the period was primarily due to our strategic move away from company owned transition studios over the last year, resulting in lower package and membership revenues. Turning to our operating expenses. Cost of product revenue were 12,900,000 down 10% year over year. The decrease was primarily driven by a lower volume installations in equipment intensive brands and lower volumes of merchandise sales during the period.

Speaker 4

Given the softness in the merchandise sales in the period, the company recorded a $500,000 write down slow moving merchandise inventory, which did contribute to higher costs. Cost of franchise and service revenue were 5,800,000 dollars up 57% year over year. The increase in franchise sales commissions was driven primarily by terminated licenses from the RowHouse brand. Selling, general and administrative expenses of $37,000,000 were down 1% year over year. The decrease in SG and A was primarily associated with the net lower costs from operating company owned transition studios where we have ceased operations, offset by restructuring costs from settling the leases from the company owned transition studios and increased legal fees to address regulatory issues.

Speaker 4

Our strategy to shift away from taking on company owned transition studios has decreased run rate SG and A expenses and improved EBITDA margins. We continue to make progress on the remaining leases and expect to have entered settlement agreements with landlords for substantially all remaining lease liabilities by the end of the year. We have entered into settlement agreements on approximately $17,000,000 of the original estimated $25,000,000 in lease termination payments. The company has paid approximately $13,000,000 through the Q2. Impairment of goodwill and other assets was $12,100,000 up 67% year over year, primarily due to a decrease in Cyclewire's actual and forecasted cash flows, resulting in the value of goodwill exceeding its fair value.

Speaker 4

Depreciation and amortization expense was $4,500,000 an increase of 5% from the prior year period. Marketing fund expenses were $7,800,000 up 44% year over year driven by increased spending afforded by higher franchise marketing fund revenue. As a reminder, as the number of studios and system wide sales grow, our marketing fund increases. Since we are obligated to spend marketing funds, an increase in marketing fund revenue will always translate into an increase in marketing fund expenses over time. Acquisition and transaction expenses were a credit of $1,200,000 compared to a credit of $31,300,000 in the Q2 of 2023.

Speaker 4

As I've noted on prior earnings calls, this includes the contingent consideration activity, which is related to the Rumble acquisition earn out and is driven by the share price at quarter end. We mark to market the earn out each quarter and accrue for the earn out. We recorded a net loss of $13,700,000 in the 2nd quarter or a loss of $0.29 per basic share compared to a net income of $27,500,000 or earnings per basic share of $1.44 in the prior year period. The net loss was the result of $4,900,000 of lower overall profitability, a $30,000,000 decrease in acquisition and transaction income, which includes non cash contingent consideration primarily related to the Rumble acquisition, a $2,300,000 increase in restructuring and related charges from our company owned transition studios, a $4,900,000 increase in impairment of goodwill and other assets, primarily associated with CycleBar and $900,000 increase in loss divestiture, partially offset by a $1,900,000 decrease in non cash equity based compensation expense. We continue to believe that adjusted net income is a more way to measure the performance of our business.

Speaker 4

A reconciliation of net income to adjusted net income is provided in our earnings press release. Adjusted net income for the Q2 was $700,000 which excludes $1,200,000 in acquisition and transaction income, $300,000 expense related to the remeasurement of the company's tax receivable agreement, dollars 12,100,000 related to the impairment of goodwill and other assets, dollars dollars 900,000 loss on brand divestiture and $2,300,000 restructuring and related charges. This results in an adjusted net loss of $0.03 per basic share on a share count of 31,800,000 shares of Class A common stock. After accounting for income attributable to non controlling interest and dividends on preferred shares. Adjusted EBITDA was $25,400,000 in the 2nd quarter, up slightly compared to $25,300,000 in the prior year period.

Speaker 4

Adjusted EBITDA margin was approximately 33% in the 2nd quarter and flat with the prior year period. The results were below our expectations primarily due to the lower equipment revenues on a higher mix of less equipment intensive installs as well as unforeseen headwinds related to the previously mentioned softness in merchandise revenues. Due to this softness, we also wrote down slow moving retail inventory. During Q2, our unlevered free cash flow conversion exceeded 90% of adjusted EBITDA as we require minimal capital expenditures to grow the business. As a reminder, the company has approximately $160,000,000 in federal and state net tax loss carry forward that will result in a minimal cash tax burden for the coming years.

Speaker 4

We continue to expect that our anticipated interest expense in 2024 will be approximately 45,000,000 dollars assuming no additional debt pay down and we anticipate negligible working capital impact on cash flow. For the full year, we would expect levered adjusted EBITDA cash flow conversion of over 50%, excluding any effects for preferred dividends and one time restructuring costs, and this will convert to over 70% in the coming years. Turning to the balance sheet. As of June 30, 2024, cash, cash equivalents and restricted cash were $26,000,000 down from $40,200,000 as of June 30, 2023. Material cash uses in the period included the $5,000,000 related to the settlement of company owned transition studio leases and $11,500,000 for debt principal and interest payments.

Speaker 4

Total long term debt was $330,100,000 as of June 30, 2024 compared to 265 $900,000 as of June 30, 2023. The increase in total long term debt is primarily due to the repurchase and immediate retirement 2023. We continue to evaluate different financing options with potential lenders in efforts to lower our interest expense. Let's now discuss our outlook for 2024. Based on current business conditions, the 2nd quarter shortfalls, operational impacts stemming from regulatory issues, our CEO leadership transition and our expectations as of the date of this call, we are adjusting guidance for the current year as follows.

Speaker 4

We expect 2024 global new studio openings to be in the range of 500 to 520, down from $540,000,000 to $560,000,000 and representing an 8% decrease at the midpoint from the prior year. We project North America system wide sales to range from $1,705,000,000 to $1,715,000,000 unchanged from the previous $1,705,000,000 to $1,715,000,000 and representing a 22% increase at the midpoint from the prior year. Total 20.24 revenue is expected to be between $310,000,000 to $320,000,000 down from the previous $340,000,000 to $350,000,000 dollars and representing a 1% year over year decrease at the midpoint of our guided range. Adjusted EBITDA is expected to range from $120,000,000 to $124,000,000 down from $136,000,000 to $140,000,000 and representing a 16% year over year increase at the midpoint of our guided range. This range translates into roughly 39% adjusted EBITDA margin at the midpoint.

Speaker 4

We expect total SG and A to range from $135,000,000 to $140,000,000 or $110,000,000 to $115,000,000 when excluding one time lease restructuring charges and under $100,000,000 when further excluding stock based costs. In terms of capital expenditure, we anticipate approximately $8,000,000 to $10,000,000 for the year or approximately 3% of revenue at the midpoint. Going forward, capital expenditure will be primarily focused on the integration of Lindora and maintenance on other technology investments

Speaker 5

to support our digital offerings. For the

Speaker 4

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 31,800,000 dollars $1,900,000 in quarterly cash dividends related to our convertible preferred stock or $2,200,000 if paid in kind. A full explanation of our share count calculation and associated pro form a EPS and adjusted EPS calculations can be found in the tables at the end of our earnings press release as well as our corporate structure and capitalization FAQ on our investor website. This concludes today's prepared remarks. Thank you all for your time today. We will now open the call for any questions.

Speaker 4

Operator?

Operator

Thank you. We will now be conducting a question and answer Our first question comes from Randy Konik with Jefferies. Please proceed with your question.

Speaker 6

Hey, good afternoon everybody and Mark welcome. I guess Mark, I want to kind of focus on you and kind of maybe what will be very helpful to the audience is you brought up the word fine tuning and you have these other great experiences in your history leading these other companies and very different types of companies at that. So I guess what would be really helpful is you give us some perspective on maybe some of the problems you saw maybe at Adidas or at Taco Bell at the time and some of the fine tuning you implemented there? And maybe some of the issues you see here or the items you see there as an opportunity for you to fine tune here at X Financial to start? Thanks.

Speaker 3

Thanks, Randy. First of all, I think when I went to the Adidas business, it was very broken. So it really was a turnaround which this is nothing like a turnaround. The Taco Bell business was very robust. I think the challenge at Taco Bell was how do you grow same store sales and how do you continue to grow a store base that's already at over 7,000.

Speaker 3

So those were the challenges there. As I come here and I look at after just this is my 6th week on the job, I came here because there was so much good about this business. The brands are great, the momentum is very positive and if you really look at the numbers of Q2 most of the big indicators are very positive. I think what I see is the growth has been very, very rapid and internally our processes, our ability to manage the complexity of the multi brand strategy, those are things to me that need fine tuning. I think you'll pick up G and A and as we become more efficient and more effective.

Speaker 3

I think as we really focus on franchisee development, I would say the 1st week here I was able to spend 4 hours with 7 of the 8 brands and some of the franchisees. And was really able to hear some of the challenges that they have which allows us then to come back inside and say how do we really organize around these challenges which is around communication, training, coaching, getting some of the franchisees to understand how to make money in their studios. Those are things we've always done, but maybe to have it at a higher priority.

Speaker 6

Super helpful. And then how do you think about just international? Obviously, you have a lot of experience there. Give us your thoughts on what you see as kind of opportunities as you assess international going forward? Thanks.

Speaker 3

Okay, Randy. A big opportunity in international, I heard that coming in, but now I really see it. The first thing I know from managing multi brands over my life is that if a brand is very popular here in the United States like Club Pilates, it transfers to other nations really nicely and I think we're seeing that. And then you have an opportunity with BFT which started in Australia to really grow that internationally. And really the key internationally is to find really great master franchises.

Speaker 3

That's really the key is the great partner because you don't have as much oversight when you leave the country. And I think was able to do that at my last job and really looking forward to finding those opportunities here.

Speaker 6

Super helpful and again welcome. Thanks Mark.

Operator

Our next question comes from John Heinbockel, Bugheme Partners. Please proceed with your question.

Speaker 5

Yes. I wanted to start 2 quick things. The you talked about disruption and distraction. So the manifestation of that, where has that shown up and how long does that take to correct? And then for Mark, maybe when you think about what you're hearing from the franchisees, what specifically, know you talked about communication and training, but beyond that, is there anything specifically they think they're not getting from the platform that they could be?

Speaker 3

John, thanks for the question. I'll take the second part first. The feedback from the franchisees was very consistent and that is better communication, not really sure what that means in all cases, but it is one that we can fix rather simply by having more consistent monthly calls. I think they're looking to have a voice to be more engaged in what we're thinking about and the directions that we take and have a lot of experience around that. Almost to the point where before we make big decisions we have hopefully some alignment around the direction and how we're going to do it.

Speaker 3

And I think what they're really asking for is a voice. They understand there's a difference between franchisor and franchisee. We have some responsibility and they have executing out in the field. And I think by providing the kind of support that they're asking for, which we have done a good job in the past, but I think reemphasizing that will go a long way to kind of calm some of the noise.

Speaker 4

Yes. And John to kind of answer your question around the disruption, the best way to frame it up is, there's probably about a 90 day or about 1 quarter kind of push out of where we thought we would be. So in essence, the expectations for Q2 is kind of the way we're looking at Q3 now. So we did have some consumer kind of impacts related to retail, those throw through the P and L. There was some opening disruption in the quarter.

Speaker 4

The openings didn't go away. They just shifted to the right into the future. So the getting back on track question is, we'll return quickly back to kind of where we should have been in Q3 or in Q2 and Q3 is how we kind of see the trajectory moving forward.

Speaker 5

And then as a follow-up, right? Maybe, John, if you can talk through, you took revenue down $30,000,000 you took EBITDA down $16,000,000 Obviously, those 2 relate to each other. But maybe the bulk of the revenue, was that merchandise Q2 that you're assuming the same thing in the back half? Was that the biggest piece? And then what else is in the $16,000,000 whether there's SG and A or some other impact?

Speaker 5

If you could flush that out, that would be helpful.

Speaker 4

Yes. To kind of give you an idea of the way we're looking at it, I mean, in Q2, the significant portion of the miss was in retail. Not only did we see below kind of volumes of sales in the quarter, We also ran a promotion to kind of stimulate buying from franchisees and we did it at the cost of margin. One of the other things that we did given the slow moving inventories, we did take a reserve against the slow moving inventory. So we're not kind of put in a position where later we'll have to take that.

Speaker 4

We figured we'd just do it now while we saw the volumes down. The openings did come in a little bit less than we expected in the Q2, again shifting out into the future periods. So that did have an impact. And then royalties were not for the most part, the business is performing very high from a KPI. The royalties were just a little bit more optimism in our forecast than we were looking for.

Speaker 4

As you look out into the future in the second half, given a little bit of the uncertainty around the consumer and what we saw in retail, we did take a pretty conservative approach in the second half and brought down retail sales. So I would say the biggest chunk of the shift in the guidance is coming from the Q2 miss, but then retail in the later half of the year as well as the pull down over the number of openings. So for the equipment revenue installs, it's having an impact there. That's really where it's focused. SG and A in the Q2 was well within our control.

Speaker 4

I think it's for the first time in a while given that we don't have the transition studios kind of creating volatility in the numbers has made it really easy to predict. So it really was just kind of a Q2 top line issue and then taking a pretty conservative approach on retail and equipment into the future. That also being said, we wanted to make sure that we had enough conservatism in the model for Mark to kind of make any necessary fine tuning adjustments as he kind of relays out his strategy. So as we kind of put more arms around what that looks like in the coming weeks months, we'll have a better idea of the full year picture. But we want to make sure we took a conservative approach in the second half to give Mark the ability to make whatever adjustments he sees to drive the business forward.

Speaker 5

Makes sense. Thank you.

Operator

Our next question comes from Ryan Myers with Lake Street Capital. Please proceed with your question.

Speaker 7

Hey, guys. Thanks for taking my questions. First one for me, John, you just kind of talked on the last question that a lot of the studio openings kind of got pushed into Q3. But overall, for the full year, the new studio openings were taken down a little bit. So maybe just unpack that.

Speaker 7

Is there less of a willingness for franchisees to open up more studios? Or how should we kind of

Speaker 4

understand that? Hey, Ryan, it's just more of a timing thing. Again, when you think about I don't want to say the quarter was kind of taken off, but the distraction with all of the change, a lot of people kind of put themselves on hold, whether they were signing leases or moving forward with development. So everything just kind of shifted 90 days. So the way we look at it is, given the push out of Q2, we do see the back end coming back with roughly about 300 openings in the second half.

Speaker 4

That's how we're kind of looking at it. So it's not that they're going away, it's just that everything kind of shifted to the right. The momentum of where we were going with the distractions around Q2, people kind of paused for a little bit of time. So kind of getting that engine removing, talking to franchisees, making sure they're comfortable that everything is fine, there's no issues with the business and that they could move forward. It just kind of took us a little bit of time to get that rolling again.

Speaker 4

But we do expect in the second half the cadence of openings to grow quarter on quarter and again seeing roughly about the 300 ish openings in the second half from where we are in the first half.

Speaker 7

Got it. That's helpful. And then is there any change in the same store sales expectation for the second half of the year?

Speaker 4

No. As we've always said that, we expect same store sales to kind of normalize in the mid to high single digits. We're kind of there 7.5% in the second quarter. I think you'll still see kind of mid to high single digits, probably more in the middle of that range as we kind of normalize the end of the year. So expectations are fine.

Speaker 4

Business is normalizing as we should. As I said on previous earnings calls, I think we're finally in a year where you're getting normal kind of normalization of same store sales without COVID having prior year or prior impacts. So the business is doing well. Club Pilates continues to be an above average performer when it comes to same store sales. So that necessarily does pull up the average in relation to the mid to high single digits.

Speaker 4

But but that's what you should continue to keep thinking about it, very similar to Q2 and a little bit normalization in Q3 and Q4.

Speaker 7

Got it. Thank you for taking my questions.

Operator

Our next question comes from Karen Wolf Meyer with Piper Sandler. Please proceed with your question. Hey, good afternoon guys. Thanks for taking

Speaker 8

the question. I'd like to touch on the lower merch revenue that you cited and some consumer weakness, but you're not really seeing it in the membership trend. And I guess the question is, what gives you confidence that it's not going to eventually translate into membership? And what gives you confidence that your consumer is still going to be coming in even if they do have to cut costs and you're already seeing them have to cut costs? Thanks.

Speaker 4

Yes, I think, Corine, the way we're looking at this many different ways. It was definitely a retail impact in the quarter. One of the things that is giving me confidence is when we continue to look at our new studio openings and the cohorts, the Q1 cohort has performed very well, actually better than the prior cohorts in 2023. The Q2 one, albeit they've only at most been open 3 months is showing very similar and strong trends. So as we continue to open up more locations, we're seeing really good ramps in relation to new members joining.

Speaker 4

So first and foremost, the new growth is showing strength still. When you look at the existing installed base of studios, our same store sales and studios that were open 36 plus months was 8%. So the older studios are still outperforming studios that are less than 3 years old. So from that perspective, you see good aging even in more mature units. Overall membership has grown.

Speaker 4

It didn't decline. We're still seeing net more members at the end of every month quarter. So conservatively, I think we could sit here and say, listen, we have yet to hear about the consumer weakening to the point where they're going to start trading in their gym memberships. We haven't seen that in the data. So from as the way we say here, we do typically get around 5% price and the majority of the system wide sales growth is on volume.

Speaker 4

That hasn't shown any change in trends or shifted. We talk about consumers and this is part of their lifestyle and what they do as part of their well-being and wellness. So we haven't seen any willingness of members to want to kind of trade that off due to cost.

Speaker 8

Got it. Very helpful. Thank you. And then, on the investigation that you've been undergoing, I think when we last spoke, you were communicating that a lot of it was on KPIs of the business. Could you just provide an update on how you're addressing those?

Speaker 8

And I guess how far along in the process are you to in cleaning that up? Thanks.

Speaker 3

Yes, Corrine, this is Mark. I mean we just we can't comment on that on an

Operator

Our next question comes from Chris O'Cull with Stifel. Please proceed with your question.

Speaker 9

Thanks. Good afternoon, guys. John, the 3% to 5% closure rate is pretty high when you consider Club Pilates and StretchLab are probably not closing many stores and the remaining brands are not that large of systems. So can you discuss about or talk about what is driving those closures and then what you're doing to reduce that rate of closures in those brands?

Speaker 4

Yes. In the quarter, we had around 85 closures. I think what you're really seeing here, Chris, is that we shifted strategies in the second half of last year to kind of start winding down the company taking over transition studios. In addition, we've started kind of lowering the amount of studio support that we provide to franchisees that need it and really starting to focus our efforts on providing better support, better processes to help franchisees understand like why they're having troubles or what their issues are. The we call it speed bump that you're seeing in Q2, I think is really just a lagging catch up related to studios that are now coming into that point where they probably should have ramped down or closed over time.

Speaker 4

The majority of the closures are in the CycleBar brand. A lot of these franchisees are ones that kind of preexisted the acquisition of CycleBar, probably in rent space and other areas that have higher operating costs. From that point, their breakeven is a little bit more challenged and the modality of cycling hasn't fully recovered pre COVID to post COVID. So you're seeing the fallout primarily in that brand. So the way what we're doing now is, Mark, as he mentioned, like our focus going forward is to really put more energy into what do we need to do to kind of fix these processes and make franchisees more successful.

Speaker 4

That's where we're putting the resources.

Speaker 9

Right now,

Speaker 4

I think it's a little bit of a tennis ball on the snake. In regards to the 3% to 5%, as I said on the call, this year, we'll probably be leaning more towards the high end of that range. I do feel that Q2 based off of the data that we have and what we're looking at was kind of the high point of closures in the year, then it should start to ramp down in the second half. Okay.

Speaker 9

And then, Mark, you mentioned the company had no plans for acquisitions, but would the company consider making additional divestitures?

Speaker 3

So Chris, let me say this. I think short term for me coming in, I really like the brands that we have right now. Some are performing at a high level, others are developing. I think short term, I'd just like to see us maximize the return not only on the ones that are developing but also find ways to grow for example Club Pilates. We're not really talking about any more divestiture right now and we're also not talking about acquisition, but I think that will change as time goes on.

Speaker 3

But for right now I would say I'd like to build these brands. We need our infrastructure here at headquarters to be able to catch up to this rapid growth that Expo has had over the last 4 or 5 years. So those are short term to me and I think that will provide plenty of short term growth and then we can look at acquisitions as we go forward.

Speaker 9

Okay, great. Thanks guys.

Operator

Our next question comes from Jonathan Komp with Baird. Please proceed with your question.

Speaker 10

Yes. Hi, good afternoon and Mark, welcome. I want to follow-up some of

Speaker 9

your introductory remarks.

Speaker 4

I know you

Speaker 10

talked about some of introductory remarks. I know you talked about some of the short term issues really not impacting the multiyear goals. Could you maybe just shed a little more light on your thinking there? I know it's early, but maybe if you have any perspective on what sort of a high growth or appropriate growth level for a concept like exponential maybe? And in part, my question relates to prior Analyst Day targets for the company where the plan was to sustain high teens system wide sales growth, if that's sort of realistic or do you think there might be more of a pause in the short term before returning to that type of growth?

Speaker 3

Jonathan, nice to meet you. First of all, I think it's a little early for me to have that kind of an outlook. But I guess what I meant in my opening comments is if you look at the big indicators, AUV growth year on year is up 10%, system wide sales up over 20%, visits, memberships continuing to grow and we have a pipeline of licenses to open 1800 more in the United States and 1,000 outside the United States. So I think there's plenty of opportunity to deliver the growth expectations that we've been talking about. Then I think once we stabilize that and really get back to getting past some of these short term headwinds, then I think we can look at what the growth rate should be.

Speaker 3

One of the things I really want to do though is to come back with a predictable growth rate, so we can have some stability around expectations. And I'm not really sure where that is yet Jonathan, but I think that's my goal here in the next few quarters.

Speaker 10

Great. That's really helpful to understand your process. Thank you. And then John, one follow-up, just thinking about the guidance change for the year. Could you comment on whether or by how much if it has your outlook for the franchise revenue has changed if at all?

Speaker 10

And as we think about the total revenue implied by the second half, it's implied lower year over year. So could you maybe just give some more detail on how to think about modeling some of the different revenue lines given the implied revenue decline on a total basis? Thank you.

Speaker 4

Yes. So the full year revenue guide, we did the 300 to 3 or excuse me, 300 to 310. I think the way to think about the cadence is you will see Q3 and Q4 kind of get back to where the street was kind of expecting Q2 to be. So from that perspective, the revenue does it will continue to grow. The cadence is going to really be driven by 2 things.

Speaker 4

1 is the continued growth with studio openings because then we get the benefit of the install. So equipment revenues will be a driver in Q3 and greater in Q4. We typically open the most amount of cities in the Q4 like we did last year. The royalties will continue to comp in that mid to high single digits, so you'll get that benefit. Equipment or merchandise revenue is going to be similar to Q2 and is how we're kind of looking at it.

Speaker 4

We're not going to get aggressive on the assumptions around the revenue on the merchandise until we can just get a better handle on what's going on with the consumer and franchisee buying of retail. So outside of that, I think you're really seeing Q3 and Q4 look much like how the street was kind of looking at Q2 and Q3. Again, just everything is just shifting out around 90 days. But you will see overall revenue growth much higher in the second half than the first half of this year.

Speaker 10

Okay. Thank you.

Operator

Our next question comes from Warren Chiang with Evercore ISI. Please proceed with your question.

Speaker 11

Hey, good morning and welcome aboard, Mark. I was wondering if you can talk a little bit about what's embedded in the updated guidance in terms of pricing. Are there behaviors in terms of either elasticity or the mix of pack sizes that you're seeing, that you're embedding in the second half?

Speaker 4

Hey, Lauren, I'll take that. I mean, embedded in the guidance around pricing, I mean, you remember our members when they first joined their

Speaker 9

rate is initially locked in.

Speaker 4

So from that perspective, there is Most of the price increase that we get is coming from new members. In essence, they're Most of the price increase that we get is coming from new members. In essence, they're coming in at a higher price as we open up these studios. So the assumption around price is going to be consistent with what we've historically generated, which is about 5% of the growth in system wide sales.

Speaker 11

Got it. And then my follow-up was just on the franchisee process changes or opportunities around changing processes. It sounds like the biggest opportunity there is around communication, giving the franchisees more of a voice. Are there opportunities also around steps you can do to help with the unit economics for the franchisees or sort of like the onboarding processes I think as they join the platform?

Speaker 3

I'll take that Warren. Yes, I think it's all of that. First of all, I do think Exponential has done a really great job of communicating with the franchisees. I think when they begin to struggle then they look to us for solutions and I think we have to be really attentive to what they're asking for and not just money support, but understanding the P and L and how do they drive profitability and looking at their P and Ls with them to find savings on labor or build out costs or things that they might be spending money on. So that really is what came through loud and clear, meeting with all the different groups and I think we have the talent to do it and it's just about how do you prioritize your support and I think that's going to be one of the big priorities going forward.

Speaker 11

Thanks Mark. Thanks John, good luck.

Speaker 9

Thank you.

Operator

Our next question comes from Joe Altobello with Raymond James. Please proceed with your question.

Speaker 12

Thanks. Hey, guys. Good afternoon. Trying to understand maybe the cadence of how the quarter trended for you since you read your guidance in May and you were on the conference circuit in early June. So it seems like some of the weakness you saw sounded like it happened late in the quarter, maybe June.

Speaker 12

1, is that true? And then 2, did things actually normalize in July the way that you expected?

Speaker 4

Hey, Joe, I'll take that. Yes. So when we were kind of looking at early April, there was a promotion that was put in place around retails. We did see a little notice a little bit of a weakening as far as consumer spending at the point of sale inside the studio. So that promotion was put in place to stimulate retail orders at the wholesale corporate level.

Speaker 4

As we continue to progress through the quarter, we did see further and further declines around retail. We did start to see as let's just call it as Q2 kind of progressed a little bit more of the let's call it, the disturbances or distractions related to some of the headline stuff that was going on, the transition of the CEO. So when you look at like equipment installs and you looked at retail, they kind of progressed and I wouldn't say that snowballed as you got later into the quarter. As you get to June and as we sit here in July, we do we are being more proactive on the retail front and more conservative as well as the way we're looking at the business. I do feel like we've got the retail now into the outlook more at kind of the base level that we're seeing.

Speaker 4

So we've been conservative there. In regards to openings and the cadence around that, yes, I think we've got the kind of the motion going or getting the momentum back with franchisees moving forward and getting studios open. So it's again, Q2 was a little bit more of a, I would say, a stall in the sense that everything just pushed to the right. I do think we've stabilized retail in the outlook that we've just provided, and then we've kind of recasted the openings in the second half, respective of what we see now with franchisees. I think a lot of the noise that we heard in the second quarter around just concerns around some of the headline stuff is gone.

Speaker 4

We're not hearing that much from franchisees, and they're kind of back and reengaged again with moving the business forward. So again, going back to the cadence, you'll see higher revenue, higher EBITDA in the second half. When you kind of look at the margins in the second half, we talked about getting to 40% margins this year. The margins in the second half are actually exceeding that when you kind of recast the outlook and you see that revenues do come back and EBITDA and profit does come back and have better margins because we have a good handle now on SG and A.

Speaker 12

Got it. Very helpful. And maybe a second question on the studio openings, the 300 that you're expecting in the second half. How much visibility do you have into those openings at this point?

Speaker 4

Yes, like we've always had really good visibility. The key to this, Joe, is lease signings, right? So we do understand which franchisees sign leases and which brands. We are seeing, to our benefit from both an opening and a royalty performance perspective, Club Pilates continues to be one of the key drivers to our growth. So there was kind of an over shift to Pilates openings in Q2 and we're seeing that for the rest of the year.

Speaker 4

So we do have good visibility into the openings in the second half. We did take down the total openings for the year given the shift and the distraction from Q2, but we did it in a way that we felt was conservative in the sense that we want to make sure that we're making decisions in the best interest of franchisees when they get open and make sure they're ready to get open. So we did take a conservative approach on the total openings for the full year. So the $500,000,000 to the $520,000,000 we feel is a very achievable number. And it does take into account some of the recent distractions and kind of regaining momentum with the system.

Speaker 12

Okay. Got it. Thank you.

Operator

Our next question comes from Jeff Van Sinderen with B. Riley Securities. Please proceed with your question.

Speaker 13

Hi, everyone, and welcome, Mark. I realize it's early, but can you give us maybe a little more color on what you think is missing in terms of infrastructure at the headquarters kind of at the corporate level? And do you need to increase SG and A to invest in some of those areas that are lacking?

Speaker 3

Hey, Jeff. How are you?

Speaker 9

All

Speaker 13

right. Couple of

Speaker 3

things strike me right off the bat. One is that the complexity of having 8 brands in one building is it's challenging. You have the expo culture, you have a culture of every one of those brands and then you also have the administration of every one of those brands. So that's an area that I think we have to look at to be to kind of simplify the operation and look for efficiencies and effectiveness and no, I don't think it's about more G and A. I think it's about better use of the G and A.

Speaker 3

So that's the first thing I would say. Second thing is what hurt us in Q2, merchandise sales is again we're kind of a victim of the fast growth over the past 4 or 5 years and we don't really have the right infrastructure to service 3,100 studios from the way we're structured and set up from what's the range, how do we source, how do we find the right margins. So I think there's some really low hanging fruit there. We've got a lot of great people killing themselves every day to do a good job and I think it's around a little bit better structure looking for efficiency and effectiveness and I think if we find that those are really the 2 big areas that I think short term that I think we can really address here in the next quarter and make some real improvements.

Speaker 13

Okay, thanks for that. And then just I guess wondering if there's any more you can give us on maybe the incoming trend in member focused KPIs versus the upcoming trend in the quarter? And then also what you're seeing so far in Q3? In other words, are they steady or are they slowing overall with comps or just any other color you guys can give us there?

Speaker 7

Hey, Jeff, it's Sarah. We're seeing that all of the studio level KPIs are strong and continue to be the strongest that they've been. So average membership is up per studio, total membership count is up, total revenue is up. So we are starting and continuing to see that those KPIs are incredibly strong and we're really proud of all the work that we continue to put into the brands and the strength of the brands from that level.

Speaker 13

Okay. Thanks for taking my questions.

Operator

Next question comes from George Kelly with ROTH Capital Partners. Please proceed with your question.

Speaker 9

Everybody, thanks for taking my questions. First one for you, curious if you could give us an update just on the status of a potential refi. And just wondering, is it kind of on hold until the investigation is clear? Or is it still you're still sort of actively exploring it?

Speaker 4

Yes. We kind of dual path that I mean our optimal goal is to get our securitization done. That's where we've been focused for quite some time. That was kind of disrupted with some of the regulatory inquiries that the business encountered. But we've been dual pathing what is the best option for the company.

Speaker 4

I can tell you there are options on the table, multiple options. We're just trying to kind of determine what's in the best interest in of the company long term. Could we continue on kind of a similar path that we're on today, which is kind of a direct lending? Or can we get a securitization done in the near term? That's really what we're kind of balancing is do we lock in something now or do we continue to kind of lean into the current issues and get those resolved so that we can go ahead and get a securitization done.

Speaker 4

So we are working on it. It is front of mind. We've been I brought Mark up to speed when he first got here. We've engaged with the Board. We've had a lot of discussions.

Speaker 4

We understand the path for which we need to move forward. I do believe that you'll see some sort of refinancing in play when it's appropriate. But we're taking our time to make sure we're making the right long term decision for the company to get cheaper capital.

Speaker 9

Okay, understood. And then second question, John, in prior calls, you've walked us through the ramp in EBITDA margin for this fiscal year. I was curious if you could do that for the 3rd and 4th quarters, just kind of what high level is baked into your guidance? And then the bigger question is, are you still comfortable with 40 plus percent EBITDA margin in fiscal year 2025?

Speaker 4

I think it was in 2025 was 45% is what we are marching towards. But to talk about 2024 second half, we talked about reaching 40% adjusted EBITDA margins in the year. As I previously mentioned, in the second half, we will get there. So this kind of Q2 kind of shortfall does not have an impact on our ability to meet that kind of guidance or instruction as far as the cadence is concerned. The second half of twenty twenty four, we do see above 40% adjusted EBITDA margins in our model.

Speaker 4

So and I have a pretty high degree of confidence that we'll continue to keep marching after 2024 in 2025 closer to 45% margin. Now that is pre all the fine tuning that Mark will kind of relay out with us and the leadership team. But based off of the model that we're looking at today, you will continue to see the cadence of adjusted EBITDA incline over time. Again, the key driver here is the growth in system wide sales. The model at this point is very simple.

Speaker 4

We have a pretty fixed SG and A. You have 500 plus openings a year. You're seeing good same store sales comp, good system wide sales growth. And you're going to see royalties as a percent of your total mix continue to increase and they're virtually 100% accretive and leveraged to the model. So as we continue to open more stores, continue to make improvements in the sales at our franchisee level and they generate higher sales and royalties, this thing just continues to leverage.

Speaker 4

So second half, greater than 40% adjusted EBITDA margin is what we're expecting for the second half. And I do believe in 2025, you'll continue to see the adjusted EBITDA margin close ramp up closer to 45% in that year.

Speaker 9

Okay. That's helpful. Thank you.

Operator

We've now reached the end of our question and answer session. I would now like to turn the floor back over to Mark King, CEO for closing comments.

Speaker 3

Thank you to everyone for joining today's earnings call and for your continued support of Xponential Fitness. I really look forward to meeting many of you at the upcoming investor events in September and speaking with you again

Speaker 7

on our

Speaker 3

Q3 earnings call in November. Thanks.

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Earnings Conference Call
Xponential Fitness Q2 2024
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