Xponential Fitness, Inc.: Form 10-Q for the period ended Sep 30, 2023

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes thereto and the other financial information included elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2022. In addition to historical consolidated financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results and timing may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in the section titled “Factors Affecting Our Results of Operations” and “Risk Factors” and in our Annual Report on Form 10-K for the year ended December 31, 2022.

Xponential Fitness LLC (“XPO LLC”), the principal operating subsidiary of Xponential Fitness, Inc. (the “Company,” “XPO Inc.,” “we”, “us,” and “our”), is the largest global franchisor of boutique fitness brands. On July 23, 2021, the Company completed an initial public offering (“IPO”) of 10,000,000 shares of Class A common stock at an initial public offering price of $12.00 per share. Pursuant to a reorganization into a holding company structure, the Company is a holding company with its principal asset being a 66% ownership interest in XPO LLC through its ownership interest in Xponential Intermediate Holdings, LLC (“XPO Holdings”).

We operate a diversified platform of ten brands spanning across verticals including Pilates, indoor cycling, barre, stretching, rowing, dancing, boxing, running, functional training and yoga. In partnership with its franchisees and master franchisees, XPO LLC offers energetic, accessible, and personalized workout experiences led by highly qualified instructors in studio locations throughout the U.S. and internationally, with franchise, master franchise and international expansion agreements in 49 U.S. states and 22 additional countries as of September 30, 2023. The Company's portfolio of brands includes Club Pilates, the largest Pilates brand in the United States; CycleBar, the largest indoor cycling brand in the United States; StretchLab, a concept offering one-on-one and group stretching services; Row House, the largest franchised indoor rowing brand in the United States; AKT, a dance-based cardio workout combining toning, interval and circuit training; YogaSix, the largest franchised yoga brand in the United States; Pure Barre, a total body workout that uses the ballet barre to perform small isometric movements, and the largest barre brand in the United States; Stride, a treadmill-based cardio and strength training concept; Rumble, a boxing-inspired full-body workout; and BFT, a functional training and strength-based program.

As of September 30, 2023, 2,596 studios were open in North America and franchisees were contractually committed to open 2,031 additional studios under existing franchise agreements. In addition, as of September 30, 2023, we had 384 studios open internationally and our master franchisees were contractually obligated to sell licenses to franchisees to open an additional 1,042 new studios, of which master franchisees have sold 261 licenses for studios not yet opened as of September 30, 2023.

During the nine months ended September 30, 2023 and 2022, we generated revenue outside the United States of $10.3 million and $9.1 million, respectively. As of September 30, 2023 and December 31, 2022, we did not have material assets located outside of the United States. No franchisee accounted for more than 5% of our revenue. We operate in one segment for financial reporting purposes.

Restructuring Plan

In the third quarter of 2023, we began a restructuring plan that involves exiting company-owned transition studios and other measures designed to reduce costs to achieve our long-term margin goals and focus on pure franchise operations. The plan was approved and initiated in the third quarter of 2023 and is expected to continue throughout 2023 and 2024. During the three and nine months ended September 30, 2023, we recognized restructuring charges of $6.3 million, primarily for write off of abandoned right-of-use assets, loss on sale or disposal of assets, and other restructuring charges.

We expect to recognize additional restructuring charges throughout 2023 and 2024 totaling approximately $8.5 million to $10.5 million, for accelerated right-of-use asset amortization related to company-owned transition studios with a cease use date in the fourth quarter of 2023 and for other restructuring charges. Additionally, we are negotiating lease terminations for operating leases for which we have lease liabilities recorded and for some of which we have accelerated right-of-use asset amortization through the cease use date. Termination of these leases may result in net gains from lease liability decreases in excess of previously accelerated right-of-use assets. Cash outflows related to these lease terminations are expected to be incurred through 2024.

Once completed we estimate annualized gross savings of approximately $9.0 million to $12.0 million under the restructuring plan. Additionally, we may not be able to fully realize the cost savings and benefits initially anticipated from the restructuring plan, the expected charges may be greater than expected, and we may not be able to reach agreement with contractual counterparties, any of which could negatively impact our business.

Factors Affecting Our Results of Operations

In addition to the impact of the risks described under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2022, we believe that the most significant factors affecting our results of operations include:

• Licensing new qualified franchisees, selling additional licenses to existing franchisees and opening studios. Our growth depends upon our success in licensing new studios to new and existing franchisees. We believe our success in attracting new franchisees and attracting existing franchisees to invest in additional studios has resulted from our diverse offering of attractive brands, corporate level support, training provided to franchisees and the opportunity to realize attractive returns on their invested capital. We believe our significant investments in centralized systems and infrastructure help support new and existing franchisees. To continue to attract qualified new franchisees, sell additional studios to existing franchisees and assist franchisees in opening their studios, we plan to continue to invest in our brands to enable them to deliver positive consumer experiences and in our integrated services at the brand level to support franchisees.
• Timing of studio openings. Our revenue growth depends to a significant extent on the number of studios that are open and operating. Many factors affect whether a new studio will be opened on time, if at all, including the availability and cost of financing, selection and availability of suitable studio locations, delays in hiring personnel as well as any delays in equipment delivery or installation. To the extent franchisees are unable to open new studios on the timeline we anticipate, or at all, we will not realize the revenue growth that we expect. We believe our investments in centralized systems and infrastructure, including real estate site selection, studio build-out and design assistance help enable franchisees to open studios in a timely manner, and we plan to continue to invest in our systems to continue to provide assistance during the opening process.
• Increasing same store sales. Our long-term revenue prospects are driven in part by franchisees’ ability to increase same store sales (discussed below). Several factors affect our same store sales in any given period, including the number of stores that have been in operation for a significant period of time, growth in total memberships and marketing and promotional efforts. We expect to continue to seek to grow same store sales and Average Unit Volumes (“AUVs”) by helping franchisees acquire new members, increase studio utilization and drive increased spend from consumers. We also intend to expand ancillary revenue streams, such as our digital platform offerings and retail merchandise.
• International and domestic expansion. We continue to invest in increasing the number of franchisees outside of North America. We have developed strong relationships and executed committed development contracts with master franchisees to propel our international growth. We plan to continue to invest in these relationships and seek new relationships and opportunities, including through acquisitions and partnerships, in countries that we have targeted for expansion. In the U.S., we may from time to time consider acquisition of and partnership with certain complimentary assets or businesses that can enhance and expand our brands and operations.
• Demand and competition for consumer income. Our revenue and future success will depend in part on the attractiveness of our brands and the services provided by franchisees relative to other fitness and entertainment options available to consumers. Our franchisees’ AUVs are dependent upon the performance of studios and may be impacted by reduced capacity as a result of various factors, including shifting consumer demand and behavior for fitness services. Macroeconomic factors such as inflation and recession, and economic factors affecting a particular geographic territory, may also increase competition for discretionary income, impact the returns generated by franchisees and therefore impact our operating results.

Key Performance Indicators

In addition to our financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”), we regularly review the following key metrics to measure performance, identify trends, formulate financial projections, compensate our employees, and monitor our business. While we believe that these metrics are useful in evaluating our business, other companies may not use similar metrics or may not calculate similarly titled metrics in a consistent manner.

Beginning in the quarter ended June 30, 2023, we introduced an additional definition for studios no longer operating to better capture the composition of our studios in operation. A studio is considered no longer operating and excluded from the total number of studios in operation if it has no sales for nine consecutive months or more. If a studio deemed to be no longer operating subsequently generates sales at a future date, it re-enters the operating studio count (and the number of studios no longer operating is reduced). All prior periods presented have been updated to reflect this additional definition. Under application of this additional definition, the number of operating studios remains materially the same as previously reported.

The following table sets forth the total number of operating studios in North America for the three and nine months ended September 30, 2023 and 2022:

(1) Includes previously franchised company-owned studios that were converted to franchisee-owned studios in the period.

(2) Includes previously franchisee-owned studios that were converted to company-owned studios in the period.

The following table sets forth the total number of operating studios internationally for the three and nine months ended September 30, 2023 and 2022:

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The following table sets forth the total number of operating studios globally for the three and nine months ended September 30, 2023 and 2022:

The following table sets forth our key performance indicators for the three and nine months ended September 30, 2023 and 2022:

($ in thousands)

(1) Global franchise licenses sold are presented gross of terminations.

(2) The definition of “adjusted EBITDA” and a detailed reconciliation of adjusted EBITDA are set forth below under the section entitled “Non-GAAP Financial Measures”.

The following table presents additional information related to our studio and license key performance indicators for the three and nine months ended September 30, 2023 and 2022:

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(1) Global franchise licenses sold are presented gross of terminations.

(2) Reflects the number of licenses for studios which have already been sold, but not yet opened, by master franchisees under master franchise agreements, net of terminations.

System-Wide Sales

System-wide sales represent gross sales by all studios in North America. System-wide sales includes sales by franchisees that are not revenue realized by us in accordance with GAAP. While we do not record sales by franchisees as revenue, and such sales are not included in our consolidated financial statements, this operating metric relates to our revenue because we receive approximately 7% and 2% of the sales by franchisees as royalty revenue and marketing fund revenue, respectively. We believe that this operating measure aids in understanding how we derive our royalty revenue and marketing fund revenue and is important in evaluating our performance. System-wide sales growth is driven by new studio openings and increases in same store sales. Management reviews system-wide sales weekly, which enables us to assess changes in our franchise revenue, overall studio performance, the health of our brands and the strength of our market position relative to competitors.

New Studio Openings

The number of new studio openings reflects the number of studios opened during a particular reporting period. We consider a new studio to be open once the studio begins offering classes. Opening new studios is an important part of our growth strategy. New studios may not generate material revenue in the early period following an opening and their revenue may not follow historical patterns. Management reviews the number of new studio openings in order to help forecast operating results and to monitor studio opening processes.

Studios No Longer Operating

A studio is considered no longer operating and excluded from the total number of studios operating if it has no sales for nine consecutive months or more. If a studio deemed to be no longer operating subsequently generates sales at a future date, it re-enters the operating studio count (and the number of studios no longer operating is reduced).

Number of Studios Operating

In addition to the number of new studios opened and studios no longer operating during a period, we track the number of total studios operating at the end of a reporting period. While nearly all our franchised studios are licensed to franchisees, from time to time we operate a limited number of company-owned transition studios (typically as we take possession of a studio following a franchisee ceasing to operate it and as we prepare it to be licensed to a new franchisee). Management reviews the number of studios operating at a given point in time in order to help forecast system-wide sales, franchise revenue and other revenue streams.

Non-Traditional Studio Locations

Non-traditional studio locations refers to studios that are not operated as standalone studio locations. We currently operate 34 non-traditional studio locations globally, which are comprised of studios operated inside of other fitness facilities and on cruise ships.

Licenses Sold

The number of licenses sold in North America and globally reflect the cumulative number of licenses sold by us (or, outside of North America, by our master franchisees), since inception through the date indicated. Licenses contractually obligated to open refer to licenses sold net of opened studios and terminations. Licenses contractually obligated to be sold internationally reflect the number of licenses that master franchisees are contractually obligated to sell to franchisees to open internationally that have not yet opened as of the date indicated. The number of licenses sold is a useful indicator of the number of studios that have opened and that are expected to open in the future, which management reviews in order to monitor and forecast our revenue streams. Of the franchisees that opened their first studio in 2019, on average it took approximately 12.2 months from signing the franchise agreement to open. The length of time increased during 2020 and 2021 due to COVID-related opening restrictions. Of the franchisees that entered into the system in 2021 or later and opened their first studio in 2022, on average it took approximately 10.5 months from signing the franchise agreement to open a studio. Management also reviews the number of licenses sold globally and the number of licenses contractually obligated to open internationally in order to help forecast studio growth and system-wide sales.

Average Unit Volume

AUV is calculated by dividing sales during the applicable period for all studios contributing to AUV by the number of studios contributing to AUV. LTM AUV (last twelve months as of period end) consists of the average sales for the trailing 12 calendar months for all traditional studio locations in North America that have been open for at least 13 calendar months as of the measurement date and that have generated sales for the last 13 calendar months as of the measurement date. Quarterly run-rate AUV consists of average quarterly sales for all traditional studio locations in North America that are at least six months old at the beginning of the respective quarter, and that have sales in the period, multiplied by four. We measure sales for AUV based solely upon monthly sales as reported by franchisees. AUV growth is primarily driven by changes in same store sales and is also influenced by new studio openings. Management reviews AUV to assess studio economics.

Same Store Sales

Same store sales refer to period-over-period sales comparisons for the base of studios. We define the same store sales base to include studios in North America that are in traditional studio locations and that have generated sales for the last 13 consecutive calendar months as of the measurement date. Any transfer of ownership of a studio does not affect this metric. We measure same store sales based solely upon monthly sales as reported by franchisees. This measure highlights the performance of existing studios, while excluding the impact of new studio openings. Management reviews same store sales to assess the health of the franchised studios.

Results of Operations

The following table presents our condensed consolidated results of operations for the three and nine months ended September 30, 2023 and 2022:

(in thousands)

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The following table presents our condensed consolidated results of operations for the three and nine months ended September 30, 2023 and 2022 as a percentage of revenue:

Three Months Ended September 30, 2023 and 2022

The following is a discussion of our consolidated results of operations for the three months ended September 30, 2023 and the three months ended September 30, 2022.

Revenue

($ in thousands)

Total revenue. Total revenue was $80.4 million in the three months ended September 30, 2023, compared to $63.8 million in the three months ended September 30, 2022, an increase of $16.7 million, or 26%. The increase in total revenue was primarily due to an increase in same store sales and an increase in open studios.

Franchise revenue. Franchise revenue was $36.4 million in the three months ended September 30, 2023, compared to $30.0 million in the three months ended September 30, 2022, an increase of $6.4 million, or 21%. Franchise revenue consisted of franchise royalty fees of $24.2 million, franchise territory fees of $5.3 million, technology fees of $4.0 million and training fees of $2.9 million in the three months ended September 30, 2023, compared to franchise royalty fees of $18.0 million, franchise territory fees of $7.0 million, technology fees of $2.9 million and training fees of $2.1 million in the three months ended September 30, 2022. The increase in franchise royalty fees, technology fees and training fees was primarily due to a 15% increase in same store sales and 499 net new studio openings globally since September 30, 2022. Franchise territory fees decreased due to a decrease in franchise agreement terminations in the current year.

Equipment revenue. Equipment revenue was $12.6 million in the three months ended September 30, 2023, compared to $11.8 million in the three months ended September 30, 2022, an increase of $0.8 million, or 7%. Most equipment revenue is recognized in the period when the equipment is installed. Global equipment installations in the three months ended September 30, 2023, totaled 116 compared to 136 in the prior year period, primarily due to the timing of installations and a decrease in studio openings compared to the prior year period. The increase in average revenue per install is due to brand mix, international versus North America mix and a higher proportion of equipment installed with brands with higher equipment prices.

Merchandise revenue. Merchandise revenue was $8.5 million in the three months ended September 30, 2023, compared to $6.3 million in the three months ended September 30, 2022, an increase of $2.2 million, or 35%. The increase was due primarily to a higher number of operating studios in the current year period.

Franchise marketing fund revenue. Franchise marketing fund revenue was $6.9 million in the three months ended September 30, 2023, compared to $5.2 million in the three months ended September 30, 2022, an increase of $1.8 million, or 34%. The increase was primarily due to an increase in same store sales and 381 new studio openings in North America since September 30, 2022.

Other service revenue. Other service revenue was $16.0 million in the three months ended September 30, 2023, compared to $10.6 million in the three months ended September 30, 2022, an increase of $5.5 million, or 52%. The increase was primarily due to a $6.1 million increase in package and memberships revenue due to a higher average number of company-owned transition studios, partially offset by a $0.3 million decrease in on-demand revenue and $0.3 million decrease in other preferred vendor commission revenue and brand fee revenue.

Operating Costs and Expenses

($ in thousands)

Costs of product revenue. Costs of product revenue was $12.7 million in the three months ended September 30, 2023, compared to $11.8 million in the three months ended September 30, 2022, an increase of $0.9 million, or 7%, compared to an increase in related revenues of 17%. Costs of product revenue as a percentage of related revenue decreased to 60% in the three months ended September 30, 2023, from 66% in the comparable prior year period. The decrease was due to an increase in company-owned transition studio merchandise revenue, which generates higher gross margin.

Costs of franchise and service revenue. Costs of franchise and service revenue was $3.6 million in the three months ended September 30, 2023, compared to $4.8 million in the three months ended September 30, 2022, a decrease of $1.3 million, or 26%. The decrease was primarily due to a $1.5 million decrease in franchise sales commissions, consistent with the related franchise territory revenue decrease, partially offset by an increase in cost of technology fees.

Selling, general and administrative expenses. Selling, general and administrative expenses were $48.6 million in the three months ended September 30, 2023, compared to $32.8 million in the three months ended September 30, 2022, an increase of $15.7 million, or 48%. The increase was primarily attributable to restructuring charges of $6.1 million in the current year; increase in salaries and wages of $4.3 million related to a higher average number of company-owned transition studios; increase in occupancy expenses of $3.7 million primarily related to company-owned transition studios; an increase in intangible asset write down of $0.9 million; and a net increase in other variable expenses in 2023 of $2.1 million, partially offset by a decrease in legal expenses of $1.4 million related to various legal matters.

Depreciation and amortization. Depreciation and amortization expense was $4.2 million in each of the three-month periods ended September 30, 2023 and 2022.

Marketing fund expense. Marketing fund expense was $5.8 million in the three months ended September 30, 2023, compared to $4.3 million in the three months ended September 30, 2022, an increase of $1.6 million, or 37% and is consistent with the increase in franchise marketing fund revenue.

Acquisition and transaction expenses (income). Acquisition and transaction expenses (income) was ($1.9) million in the three months ended September 30, 2023, compared to $16.3 million in the three months ended September 30, 2022, a decrease of $18.2 million, or 112%. This income/expense primarily represents the non-cash change in contingent consideration related to 2017 and 2021 business acquisitions.

Other (Income) Expense, net

($ in thousands)

Interest income. Interest income primarily consists of interest on notes receivable and was insignificant in each of the three-month periods ended September 30, 2023 and 2022.

Interest expense. Interest expense was $10.6 million in the three months ended September 30, 2023, compared to $3.3 million in the three months ended September 30, 2022, an increase of $7.3 million, or 219%. Interest expense consists of interest on long-term debt, accretion of earn-out liabilities and amortization of deferred loan costs and debt discount. The increase in interest expense is due to higher average debt balances and higher interest rates in the current year period.

Other expense. Other expense consists of Tax Receivable Agreement (“TRA”) expense, which was $1.8 million in the three months ended September 30, 2023.

Income Taxes

($ in thousands)

Income taxes (benefit). Income taxes (benefit) were $0.2 million in the three months ended September 30, 2023, compared to ($0.3) million in the three months ended September 30, 2022.

Nine Months Ended September 30, 2023 and 2022

The following is a discussion of our consolidated results of operations for the nine months ended September 30, 2023 versus the nine months ended September 30, 2022.

Revenue

($ in thousands)

Total revenue. Total revenue was $228.5 million in the nine months ended September 30, 2023, compared to $173.7 million in the nine months ended September 30, 2022, an increase of $54.8 million, or 32%. The increase in total revenue was primarily due to an increase in same store sales and an increase in open studios.

Franchise revenue. Franchise revenue was $104.5 million in the nine months ended September 30, 2023, compared to $83.1 million in the nine months ended September 30, 2022, an increase of $21.4 million, or 26%. Franchise revenue consisted of franchise royalty fees of $68.8 million, franchise territory fees of $15.9 million, technology fees of $11.4 million and training fees of $8.4 million in the nine months ended September 30, 2023, compared to franchise royalty fees of $49.9 million, franchise territory fees of $20.6 million, technology fees of $6.6 million and training fees of $6.0 million in the nine months ended September 30, 2022. The increase in franchise royalty fees, technology fees and training fees was primarily due to a 17% increase in same store sales and 499 new studio openings globally since September 30, 2022. Franchise territory fees decreased due to a decrease in franchise agreement terminations in the current year.

Equipment revenue. Equipment revenue was $40.1 million in the nine months ended September 30, 2023, compared to $31.9 million in the nine months ended September 30, 2022, an increase of $8.2 million, or 26%. Most equipment revenue is recognized in the period when the equipment is installed. Global equipment installations in the nine months ended September 30, 2023, totaled 395 compared to 376 in the prior year period, primarily due to the increase of studio openings compared to the prior year period. The increase in average revenue per install is due to brand mix, international versus North America mix and a higher proportion of equipment installed with brands with higher equipment prices.

Merchandise revenue. Merchandise revenue was $24.0 million in the nine months ended September 30, 2023, compared to $19.1 million in the nine months ended September 30, 2022, an increase of $4.9 million, or 26%. The increase was due primarily to a higher number of operating studios in the current year period.

Franchise marketing fund revenue. Franchise marketing fund revenue was $19.8 million in the nine months ended September 30, 2023, compared to $14.5 million in the nine months ended September 30, 2022, an increase of $5.2 million, or 36%. The increase was primarily due to an increase in same store sales and 381 new studio openings in North America since September 30, 2022.

Other service revenue. Other service revenue was $40.1 million in the nine months ended September 30, 2023, compared to $25.0 million in the nine months ended September 30, 2022, an increase of $15.1 million, or 60%. The increase was primarily due to a $13.6 million increase in package and memberships revenue due to a higher average number of company-owned transition studios and a $2.8 million increase in other preferred vendor commission revenue and brand fee revenue, partially offset by a $1.1 million decrease in on-demand revenue.

Operating Costs and Expenses

($ in thousands)

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Costs of product revenue. Costs of product revenue was $41.0 million in the nine months ended September 30, 2023, compared to $35.0 million in the nine months ended September 30, 2022, an increase of $6.0 million, or 17%, compared to an increase in related revenues of 26%. Costs of product revenue as a percentage of related revenue decreased to 64% in the nine months ended September 30, 2023, from 68% in the comparable prior year period. The decrease was due to an increase in company-owned transition studio merchandise revenue, which generates higher gross margin, and a higher percentage of non-branded merchandise revenue in 2023 for which we earn a commission with no corresponding cost of revenue.

Costs of franchise and service revenue. Costs of franchise and service revenue was $11.3 million in the nine months ended September 30, 2023, compared to $13.6 million in the nine months ended September 30, 2022, a decrease of $2.3 million, or 17%. The decrease was primarily due to a $3.1 million decrease in franchise sales commissions, consistent with the related franchise territory revenue decrease, partially offset by an increase in cost of technology fees.

Selling, general and administrative expenses. Selling, general and administrative expenses were $127.9 million in the nine months ended September 30, 2023, compared to $96.1 million in the nine months ended September 30, 2022, an increase of $31.8 million, or 33%. The increase was primarily attributable to restructuring charges of $6.1 million in the current year; an increase in salaries and wages of $16.0 million related to a higher average number of company-owned transition studios and to a one-time $2.6 million employee retention payroll tax credit in the prior year period; increase in occupancy expenses of $8.8 million primarily related to company-owned transition studios; increase in marketing and promotion expense of $1.7 million; increase in bad debt expense of $1.4 million; increase of $4.7 million in intangible asset write down, net of mutual termination agreement income related to the acquisition of 14 Rumble studios; increase in financial transaction fees and related expenses of $1.2 million and a net increase in other variable expenses in 2023 of $3.7 million, partially offset by a decrease in legal expenses of $3.5 million related to various legal matters and a decrease in equity-based compensation expense of $8.3 million primarily due to vesting of performance-based awards in the prior year period offset by an increase in expense related to RSUs granted since September 30, 2022.

Depreciation and amortization. Depreciation and amortization expense was $12.7 million in the nine months ended September 30, 2023, compared to $11.2 million in the nine months ended September 30, 2022, an increase of $1.5 million, or 13%. The increase was due primarily to amortization of intangibles related to the BodyFit trademark acquired in the second quarter of 2022 and to an increase in fixed assets to support our online offerings.

Marketing fund expense. Marketing fund expense was $16.3 million in the nine months ended September 30, 2023, compared to $12.7 million in the nine months ended September 30, 2022, an increase of $3.6 million, or 28% and is consistent with the increase in franchise marketing fund revenue.

Acquisition and transaction income. Acquisition and transaction income was $17.4 million in the nine months ended September 30, 2023, compared to $5.8 million in the nine months ended September 30, 2022, an increase of $11.6 million, or 201%. This income primarily represents the non-cash change in contingent consideration related to 2017 and 2021 business acquisitions.

Other (Income) Expense, net

($ in thousands)

Interest income. Interest income primarily consists of interest on notes receivable and was insignificant in each of the nine months ended September 30, 2023 and 2022.

Interest expense. Interest expense was $27.2 million in the nine months ended September 30, 2023 compared to $9.1 million in the nine months ended September 30, 2022, an increase of $18.2 million, or 201%. Interest expense consists of interest on long-term debt, accretion of earn-out liabilities and amortization of deferred loan costs and debt discount. The increase in interest expense is due to higher average debt balances and higher interest rates in the current year period.

Other expense. Other expense consists of TRA expense, which was $3.1 million in the nine months ended September 30, 2023.

Income Taxes

($ in thousands)

Income taxes (benefit). Income taxes (benefit) were $0.2 million in the nine months ended September 30, 2023, compared to ($0.2) million in the nine months ended September 30, 2022.

Non-GAAP Financial Measures

In addition to our results determined in accordance with GAAP, we believe the following non-GAAP measures are useful in evaluating our operating performance. We use the following non-GAAP financial information to evaluate our ongoing operations and for internal planning and forecasting purposes. We believe that non-GAAP financial information, when taken collectively, is helpful to investors because it provides consistency and comparability with past financial performance. In addition, our management uses non-GAAP measures to compare our performance relative to forecasts and to benchmark our performance externally against competitors. However, non-GAAP financial information is presented for supplemental informational purposes only, has limitations as an analytical tool, and should not be considered in isolation or as a substitute for financial information presented in accordance with GAAP. In addition, other companies, including companies in our industry, may calculate and present similarly titled non-GAAP measures differently or may use other measures to evaluate their performance, all of which could reduce the usefulness of our non-GAAP financial measure as tools for comparison. A reconciliation is provided below for the non-GAAP financial measures to the most directly comparable financial measures stated in accordance with GAAP. Investors are encouraged to review the related GAAP financial measures and the reconciliation of the non-GAAP financial measures to their most directly comparable GAAP financial measures and not rely on any single financial measure to evaluate our business.

We believe that the non-GAAP financial measures presented below, when taken together with the corresponding GAAP financial measures, provide meaningful supplemental information regarding our performance by excluding certain items that may not be indicative of our business, results of operations or outlook.

Adjusted EBITDA

We define adjusted EBITDA as EBITDA (net income/loss before interest, taxes, depreciation and amortization), adjusted for the impact of certain non-cash and other items that we do not consider in our evaluation of ongoing operating performance. These items include equity-based compensation and related employer payroll taxes, acquisition and transaction expenses (including change in contingent consideration), litigation expenses (consisting of legal and related fees for specific proceedings that arise outside of the ordinary course of our business), employee retention credit (a tax credit for retaining employees throughout the COVID-19 pandemic), fees for financial transactions, such as secondary public offerings expenses for which we do not receive proceeds (including bonuses paid to executives related to completion of such transactions), expense related to the remeasurement of our TRA obligation, expense related to loss on impairment or write down of our brand intangible assets, restructuring and related charges incurred in connection with our restructuring plan that we do not believe reflect our underlying business performance and affect comparability. EBITDA and adjusted EBITDA are also frequently used by analysts, investors and other interested parties to evaluate companies in our industry.

We believe that adjusted EBITDA, viewed in addition to, and not in lieu of, our reported GAAP results, provides useful information to investors regarding our performance and overall results of operations because it eliminates the impact of other items that we believe reduce the comparability of our underlying core business performance from period to period and is therefore useful to our investors in comparing the core performance of our business from period to period.

The following table presents a reconciliation of net income, the most directly comparable financial measure calculated in accordance with GAAP, to adjusted EBITDA for the three and nine months ended September 30, 2023 and 2022:

(in thousands)

Liquidity and Capital Resources

As of September 30, 2023, we had $43.7 million of cash and cash equivalents, excluding $8.2 million of restricted cash.

We require cash principally to fund day-to-day operations, finance capital investments, service our outstanding debt and address our working capital needs. Based on our current level of operations and anticipated growth, we believe that our available cash balance and the cash generated from our operations will be adequate to meet our anticipated debt service requirements and obligations under our TRA, capital expenditures, payment of tax distributions and working capital needs for at least the next twelve months. Our ability to continue to fund these items and continue to reduce debt could be adversely affected by the occurrence of any of the events described under “Risk Factors”, as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2022. There can be no assurance, however, that our business will generate sufficient cash flows from operations or that future borrowings will be available under our credit facility or otherwise to enable us to service our indebtedness, including our credit facility, or to make anticipated capital expenditures. Our future operating performance and our ability to service, extend or refinance the credit facility will be subject to future economic conditions and to financial, business and other factors, many of which are beyond our control.

Credit Facility

On April 19, 2021, we entered into a Financing Agreement with Wilmington Trust, National Association, as administrative agent and collateral agent, and the lenders party thereto (the “Credit Agreement”), which consists of a $212 million senior secured term loan facility (the “Term Loan Facility”, and the loans thereunder, each a “Term Loan” and together, the “Term Loans”). Affiliates of the lenders also separately purchased 200,000 shares of our 6.50% Series A Convertible Preferred Stock (the “Series A Convertible preferred stock”) for $200 million. Our obligations under the Credit Agreement are guaranteed by Xponential Intermediate Holdings, LLC and certain of our material subsidiaries, and are secured by substantially all of the assets of Xponential Intermediate Holdings, LLC and certain of our material subsidiaries.

Under the Credit Agreement, we are required to make: (i) monthly payments of interest on the Term Loans and (ii) quarterly principal payments equal to 0.25% of the original principal amount of the Term Loan. Borrowings under the Term Loan Facility bear interest at a per annum rate of, at our option, either (a) the term secured overnight financing rate (“Term SOFR”) plus a Term SOFR Adjustment (as defined in the Credit Agreement per the fifth amendment discussed below), plus a margin of 6.50% or (b) the Reference Rate (as defined in the Credit Agreement) plus a margin of 5.50% (12.05% at September 30, 2023).

The Credit Agreement also contains mandatory prepayments of the Term Loan with: (i) 50% of Xponential Intermediate Holdings, LLC and its subsidiaries’ Excess Cash Flow (as defined in the Credit Agreement), subject to certain exceptions; (ii) 100% of the net proceeds of certain asset sales and insurance/condemnation events, subject to reinvestment rights and certain other exceptions; (iii) 100% of the net proceeds of certain extraordinary receipts, subject to reinvestment rights and certain other exceptions; (iv) 100% of the net proceeds of any incurrence of debt, excluding certain permitted debt issuances; and (v) up to $60 million of net proceeds in connection with an initial public offering of at least $200 million, subject to certain exceptions.

Unless agreed in advance, all voluntary prepayments and certain mandatory prepayments of the Term Loan made (i) on or prior to the first anniversary of the closing date are subject to a 2.0% premium on the principal amount of such prepayment and (ii) after the first anniversary of the closing date and on or prior to the second anniversary of the closing date are subject to a 0.50% premium on the principal amount of such prepayment. Otherwise, the Term Loans may be paid without premium or penalty, other than customary breakage costs with respect to SOFR Term Loans.

The Credit Agreement contains customary affirmative and negative covenants, including, among other things: (i) to maintain certain total leverage ratios, liquidity levels and EBITDA levels (in each case, as discussed further in the Credit Agreement); (ii) to use the proceeds of borrowings only for certain specified purposes; (iii) to refrain from entering into certain agreements outside of the ordinary course of business, including with respect to consolidation or mergers; (iv) restricting further indebtedness or liens; (v) restricting certain transactions with our affiliates; (vi) restricting investments; (vii) restricting prepayments of subordinated indebtedness; (viii) restricting certain payments, including certain payments to our affiliates or equity holders and distributions to equity holders; and (ix) restricting the issuance of equity. As of September 30, 2023, we were in compliance with these covenants.

The Credit Agreement also contains customary events of default, which could result in acceleration of amounts due under the Credit Agreement. Such events of default include, subject to the grace periods specified therein, our failure to pay principal or interest when due, our failure to satisfy or comply with covenants, a change of control, the imposition of certain judgments and the invalidation of liens we have granted.

Immediately following the IPO, on July 23, 2021 we executed a first amendment to the Credit Agreement, which amended the amount of the prepayment premium applicable to the prepayment of the Term Loan, and paid off $115.0 million of the principal balance of the Term Loan.

On October 8, 2021, we entered into a second amendment (the “Amendment”) to the Credit Agreement. The Amendment provides for, among other things, additional Term Loans in an aggregate principal amount of $38 million (the “2021 Incremental Term Loan”), the proceeds of which were used to fund the BFT Acquisition and the payment of fees, costs and expenses related to the Amendment. The Amendment also (i) increased the amount of the quarterly principal payments of the loans provided pursuant to the Credit Agreement (including the 2021 Incremental Term Loan) commencing on December 31, 2021 and (ii) amended the amount of the prepayment premium applicable in the event the 2021 Incremental Term Loan is prepaid within two years of the effective date of the Amendment.

On September 30, 2022, we entered into a third amendment (the “Third Amendment”) to the Credit Agreement. The Third Amendment provides for, among other things, additional Term Loans in an aggregate principal amount of $7.5 million (the “2022 Incremental Term Loan”), the proceeds of which were used for the acquisition of BodyFit trademark and general corporate purposes, including funding working capital and the payment of fees, costs and expenses related to the Third Amendment. The Third Amendment also (i) increased the amount of the quarterly principal payments of the loans provided pursuant to the Credit Agreement (including the 2022 Incremental Term Loan) commencing on December 31, 2022 and (ii) amended the amount of the prepayment premium applicable in the event the 2022 Incremental Term Loan is prepaid within two years of the effective date of the Third Amendment.

On January 9, 2023, we entered into a fourth amendment (the "Fourth Amendment") to the Credit Agreement. The Fourth Amendment provides for, among other things, additional Term Loans in an aggregate principal amount of $130.0 million (the "January 2023 Incremental Term Loan"), the proceeds of which were used to fund the repurchase of a portion of our outstanding Convertible Preferred (the “Repurchase Transactions”) and the payment of fees, costs and expenses related to the Amendment and the Repurchase Transactions. The Fourth Amendment also (i) increased the amount of the quarterly principal payments of the loans provided pursuant to the Credit Agreement (including the January 2023 Incremental Term Loan) commencing on June 30, 2023 and (ii) amended the amount of the prepayment premium applicable in the event the January 2023 Incremental Term Loan is prepaid.

On August 3, 2023, we entered into a fifth amendment (the "Fifth Amendment") to the Credit Agreement. The Fifth Amendment provides for, among other things, additional Term Loans in an aggregate principal amount of $65.0 million (the "August 2023 Incremental Term Loan"), the proceeds of which were used for funding the accelerated share repurchase program; the payment of fees, costs and expenses related to the Fifth Amendment; and general corporate purposes. The Fifth Amendment also (i) increased the amount of the quarterly principal payments of the loans provided pursuant to the Credit Agreement (including the August 2023 Incremental Term Loan) commencing on September 30, 2023 and (ii) replaces the benchmark interest rate based on the LIBOR rate (and related LIBOR-based mechanics) applicable to the loans under the Credit Agreement with a benchmark interest rate based on the forward-looking Term SOFR (and related Term SOFR-based mechanics).

The total principal amount outstanding on the Term Loans was $329.7 million at September 30, 2023. Quarterly principal payments of $1.2 million on the Term Loan as amended were due beginning September 30, 2023.

On January 9, 2023, we entered into a preferred stock repurchase agreement (the "Repurchase Agreement") with certain holders of the Convertible Preferred, pursuant to which we agreed to repurchase 85,340 shares of Convertible Preferred. On January 13, 2023, the repurchase was completed for an aggregate payment of $130.8 million. The excess of fair market value of $12.7 million over the consideration transferred was treated as deemed contribution and resulted in an increase to our accumulated deficit.

At September 30, 2023, there had been no material changes in our cash requirements from known contractual and other obligations as disclosed in Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations,” of our Annual Report on Form 10-K for the year ended December 31, 2022.

Accelerated Share Repurchase Program

On August 1, 2023, our board of directors approved a $50.0 million accelerated share repurchase program (the "ASR Program") to repurchase shares of our Class A common stock. Under the ASR Program, we paid a fixed amount of $50.0 million on August 9, 2023, to a third-party financial institution and received an initial delivery of 2,010,050 shares of our Class A common stock, which were retired immediately. On October 2, 2023, the final settlement of our ASR Program occurred, and we received an additional 588,827 shares of our Class A common stock from the third-party financial institution. Under the ASR Program, we also incurred $0.4 million in associated expenses, consisting primarily of legal fees and a 1% excise tax liability in accordance with the Inflation Reduction Act of 2022. In total under the ASR Program, we repurchased and immediately retired 2,598,877 shares of Class A common stock at an average price of $19.24 per share for $50.0 million, exclusive of legal fees and excise tax.

Cash Flows

The following table presents summary cash flow information for the nine months ended September 30, 2023 and 2022:

(in thousands)

46

Cash Flows from Operating Activities

In the nine months ended September 30, 2023, cash provided by operating activities was $38.2 million, compared to $37.5 million in the nine months ended September 30, 2022, an increase in cash provided of $0.7 million. Of the increase, $4.4 million was due to higher net income after adjustments to reconcile net income to net cash provided by operating activities, partially offset by $3.7 million primarily due to unfavorable changes in working capital related to prepaid expenses, deferred costs, and deferred revenue, partially offset by favorable changes in working capital related to accounts receivable, other current liabilities, and accrued expenses in the nine months ended September 30, 2023, compared to the nine months ended September 30, 2022.

Cash Flows from Investing Activities

In the nine months ended September 30, 2023 and 2022, cash used in investing activities was $8.6 million and $11.6 million, respectively. The change year over year in cash used was primarily attributable to a decrease of cash used to purchase intangibles assets and a decrease in issuing notes receivables; partially offset by a decrease in cash received from collection of notes receivable and an increase in cash used to purchase property and equipment.

Cash Flows from Financing Activities

In the nine months ended September 30, 2023, cash used in financing activities was $15.1 million, compared to $16.3 million in the nine months ended September 30, 2022, a decrease in cash used of $1.2 million. The decrease in cash used was primarily attributable to an increase in cash received from borrowings on long-term debt of $183.7 million, payment received from a shareholder of $8.1 million, and a decrease of $7.3 million in payments related to preferred stock dividend; partially offset by cash used of $50.4 million related to the ASR Program, an increase in tax payments of $6.2 million related to vesting of restricted stock units, distributions to Pre-IPO LLC Members of $7.5 million, and payment of $130.8 million related to the repurchase of convertible preferred stock.

Off-Balance Sheet Arrangements

As of September 30, 2023, our off-balance sheet arrangements consisted of guarantees of lease agreements for certain franchisees. Our maximum total commitment under these agreements is approximately $3.1 million and would only require payment upon default by the primary obligor. The estimated fair value of these guarantees at September 30, 2023 was not material, and no accrual has been recorded for our potential obligation under these arrangements. See Note 16 of Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for more information regarding these operating leases and guarantees.

In July 2022, we issued a standby letter of credit to a third-party financing company, who provides loans to our qualified franchisees. The standby letter of credit is contingent upon the failure of our franchisees to perform according to the terms of underlying contracts with the third party. We deposited cash in a restricted account as collateral for the standby letter of credit. The estimated fair value of these guarantees at inception was not material, and as of September 30, 2023 an accrual of $0.2 million has been recorded for our potential obligation under this guaranty arrangement. See Note 16 of Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for more information.

Critical Accounting Policies and Estimates

There have been no significant changes to our critical accounting policies and estimates from the information provided in Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations,” included in our Annual Report on Form 10-K for the year ended December 31, 2022.

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended as of September 30, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2023, our disclosure controls and procedures were effective at the reasonable assurance level.

Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

The Company has included in Part 1, Item 1A of Part 1 of its Annual Report on Form 10-K for the year ended December 31, 2022, a description of certain risks and uncertainties that could affect the Company's business, future performance or financial condition (the “Risk Factors”). There have been no material changes to the Risk Factors we previously disclosed in our filings with the SEC. Our operations could also be affected by additional factors that are not presently known to us or by factors that we currently consider immaterial to our business.