Goosehead Insurance, Inc.: Form 10-Q for the period ended Sep 30, 2023

OVERVIEW

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 the related notes and other financial information included elsewhere in this Form 10-Q. In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Our actual results and timing of selected events may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed under “Risk factors” and elsewhere in this report and in the Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

We are a rapidly growing personal lines independent insurance agency, reinventing the traditional approach to distributing personal lines products and services throughout the United States. We were founded with one vision in mind—to provide consumers with superior insurance coverage at the best available price and in a timely manner. By leveraging our differentiated business model and innovative technology platform, we are able to deliver to consumers a superior insurance experience. Our management team continues to own approximately 36% of the company, representing our commitment to the long-term success of the Company.

Financial Highlights for the Third Quarter of 2023:

• Total revenue increased 23% from the third quarter of 2022 to $71.0 million
• Core Revenue* increased by 22% from the third quarter of 2022 to $63.1 million
• Total Written Premiums placed increased 30% from the prior-year period to $802.9 million
• Net income increased by $8.2 million from the third quarter of 2022 to $11.3 million, or 16% of total revenues
• Adjusted EBITDA* increased 104% from the third quarter of 2022 to $22.4 million, or 32% of total revenues
• Basic and diluted earnings per share were $0.29 and $0.28, respectively, and Adjusted EPS* was $0.46 per share for the three months ended September 30, 2023
• Policies in Force increased 18% from September 30, 2022 to 1,456,000 at September 30, 2023
• Corporate sales headcount decreased 23% from September 30, 2022 to 316 at September 30, 2023
• As of September 30, 2023, 132 of these Corporate sales agents had less than one year of tenure and 184 had greater than one year of tenure
• Total franchises decreased 31% compared to the prior-year period to 1,584; total operating franchises decreased 8% from September 30, 2022 to 1,285 at September 30, 2023
• In Texas as of September 30, 2023, 48 operating Franchisees had less than one year of tenure and 259 operating Franchisees had greater than one year of tenure
• Outside of Texas as of September 30, 2023, 206 operating Franchisees had less than one year of tenure and 772 had greater than one year of tenure

*Core Revenue, Adjusted EBITDA and Adjusted EPS are non-GAAP measures. Reconciliation of Core Revenue to total revenue, Adjusted EBITDA to net income and Adjusted EPS to EPS, the most directly comparable financial measures presented in accordance with GAAP, are set forth under "Key performance indicators".

Certain income statement line items

Revenues

For the three months ended September 30, 2023, revenue increased by 23% to $71.0 million from $57.7 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023, revenue increased by 30% to $198.3 million from $152.0 million for the nine months ended September 30, 2022. Total Written Premium, which we believe is the best leading indicator of future revenue, increased 30% to $803 million for the three months ended September 30, 2023 from $616 million for the three months ended September 30, 2022. Total Written Premium increased 35% for the nine months ended September 30, 2023 to $2,208 million from $1,632 million for the nine months ended September 30, 2022. Total Written Premiums drive our current and future Core Revenue and give us potential opportunities to earn Ancillary Revenue in the form of Contingent Commissions.

Our various revenue streams do not equally contribute to the long-term value of Goosehead. For instance, Renewal Revenue and Renewal Royalty Fees are more predictable and have higher margin profiles, thus are higher quality revenue streams for the Company. Alternatively, Contingent Commissions, while high margin, are unpredictable and dependent on insurance company underwriting and forces of nature and thus are lower quality revenue for the Company. Our revenue streams can be viewed in three distinct categories: Core Revenue, Cost Recovery Revenue, and Ancillary Revenue, which are non-GAAP measures. A reconciliation of Core Revenue, Cost Recovery Revenue, and Ancillary Revenue to total revenue, the most directly comparable financial measure presented in accordance with GAAP, are set forth under "Key performance indicators".

Core Revenue:

• Renewal Commissions - highly predictable, higher-margin revenue stream, which is managed by our service team.
• Renewal Royalty Fees - highly predictable, higher-margin revenue stream, which is managed by our service team. For policies in their first renewal term, we see an increase in our share of royalties from 20% to 50% on the commission paid by the Carriers.
• New Business Commissions - predictable based on agent headcount and consistent ramp-up of agents, but lower margin than Renewal Commissions because of higher commissions paid to agents and higher back-office costs associated with policies in their first term. This revenue stream has predictably converted into higher-margin Renewal Commissions historically, and we expect this to continue moving forward.
• New Business Royalty Fees - predictable based on franchise count and consistent ramp-up of franchises, but lower margin than Renewal Royalty Fees because the Company only receives a royalty fee of 20% on the commissions paid by the Carrier in the first term of every policy and higher back-office costs associated with policies in their first term. This revenue stream has predictably converted into higher-margin Renewal Royalty Fees historically, and we expect this to continue moving forward.
• Agency Fees - although predictable based on agent count, Agency Fees do not renew like New Business Commissions and Renewal Commissions.

Cost Recovery Revenue:

• Initial Franchise Fees - one-time Cost Recovery Revenue stream per franchise unit that covers the Company's costs to recruit, train, onboard, and support the franchise for the first year. These fees are fully earned and non-refundable when a franchise attends our initial training.
• Interest Income - like Initial Franchise Fees, interest income is a Cost Recovery Revenue stream that reimburses the Company for those franchises on a payment plan.

Ancillary Revenue:

• Contingent Commissions - although high margin, Contingent Commissions are unpredictable and susceptible to weather events and Carrier underwriting results. Management does not rely on Contingent Commissions for operating cash flow or budget planning.
• Other Franchise Revenues - book transfer fees, marketing investments from Carriers and other items that are unpredictable and supplemental to other revenue streams.

We discuss below the breakdown of our revenue by stream:

(in thousands)

(1) Renewal Commissions, New Business Commissions, Agency Fees, and Contingent Commissions are included in "Commissions and agency fees" as shown on the Condensed consolidated statements of operations.

(2) Renewal Royalty Fees, New Business Royalty Fees, Initial Franchise Fees, and Other Franchise Revenues are included in "Franchise revenues" as shown on the Condensed consolidated statements of operations.

Consolidated results of operations

The following is a discussion of our consolidated results of operations for each of the three and nine months ended September 30, 2023 and 2022. This information is derived from our accompanying condensed consolidated financial statements prepared in accordance with GAAP.

The following table summarizes our results of operations for the three and nine months ended September 30, 2023 and 2022 (in thousands):

Revenues

For the three months ended September 30, 2023 revenue increased 23% to $71.0 million from $57.7 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023 revenue increased 30% to $198.3 million from $152.0 million for the nine months ended September 30, 2022.

Commissions and agency fees

Commissions and agency fees consist of new business commissions, renewal commissions, agency fees, and contingent commissions.

The following table sets forth these revenue streams by amount and as a percentage of total commissions and agency fees for the periods indicated (in thousands):

Renewal Commissions increased by $2.6 million or 15%, to $19.0 million for the three months ended September 30, 2023 from $16.5 million for the three months ended September 30, 2022. Renewal Commissions increased by $12.2 million or 29%, to $53.4 million for the nine months ended September 30, 2023 from $41.2 million for the nine months ended September 30, 2022. The increases during the three and nine months ended September 30, 2023 were primarily attributable to an increase in the number of policies in the renewal term from September 30, 2022 to September 30, 2023 and premium rate increases, offset by a slight decline in client retention to 87% as of September 30, 2023 from 88% as of September 30, 2022.

New Business Commissions decreased by $0.1 million, or 1%, to $6.1 million for the three months ended September 30, 2023 from $6.2 million for the three months ended September 30, 2022. New Business Commissions decreased by $0.4 million or 2%, to $17.9 million for the nine months ended September 30, 2023 from $18.3 million for the nine months ended September 30, 2022. The decrease during the three and nine months ended September 30, 2023 was primarily driven by a decrease in the number of Corporate Sales agents. Revenue from Agency Fees decreased by $0.7 million or 27% to $2.0 million for the three months ended September 30, 2023 from $2.7 million for the three months ended September 30, 2022. Revenue from Agency Fees decreased by $1.8 million or 22%, to $6.6 million for the nine months ended September 30, 2023 from $8.5 million for the nine months ended September 30, 2022. The decrease in Agency Fees during the three and nine months ended September 30, 2023 was primarily attributable to a decrease in the percentage of policies written where an Agency Fee was charged.

Revenue from Contingent Commissions increased by $2.8 million, to $4.8 million for the three months ended September 30, 2023 from $2.0 million for the three months ended September 30, 2022. Revenue from Contingent Commissions increased by $5.1 million, to $10.7 million for the nine months ended September 30, 2023 from $5.6 million for the nine months ended September 30, 2022. The increase during the three and nine months ended September 30, 2023 was primarily attributable to an increase in Total Written Premium as well as receiving and qualifying for additional contingent commissions.

Franchise revenues

Franchise Revenues consist of Royalty Fees, Initial Franchise Fees, and Other Franchise Revenues.

The following table sets forth these revenue streams by amount and as a percentage of franchise revenues for the periods indicated (in thousands):

Revenue from Renewal Royalty Fees increased by $8.5 million, or 39%, to $30.0 million for the three months ended September 30, 2023 from $21.6 million for the three months ended September 30, 2022. Revenue from Renewal Royalty Fees increased by $25.9 million, or 48%, to $80.3 million for the nine months ended September 30, 2023 from $54.4 million for the nine months ended September 30, 2022. The increase in revenue from Renewal Royalty Fees during the three and nine months ended September 30, 2023 was primarily attributable to an increase in the number of policies in the renewal term and rising premium rates, offset by a slight decline in client retention to 87% as of September 30, 2023 from 88% as of September 30, 2022.

Revenue from New Business Royalty Fees increased by $1.0 million, or 21%, to $5.9 million for the three months ended September 30, 2023 from $4.9 million for the three months ended September 30, 2022. Revenue from New Business Royalty Fees increased by $3.8 million, or 27%, to $17.8 million for the nine months ended September 30, 2023 from $14.0 million for the nine months ended September 30, 2022. The increase in revenue from New Business Royalty Fees during the three and nine months ended September 30, 2023 was primarily attributable to an increase in agent productivity and rising premium rates.

Revenue from Initial Franchise Fees decreased by $0.6 million, or 20%, to $2.4 million for the three months ended September 30, 2023 from $3.1 million for the three months ended September 30, 2022. The 20% decrease was primarily attributable to a decrease in total franchises. Revenue from Initial Franchise Fees increased by $0.8 million, or 11%, to $8.8 million for the nine months ended September 30, 2023 from $7.9 million for the nine months ended September 30, 2022. The primary reason for this increase was higher turnover of franchises during the period, which accelerates recognition of Initial Franchise Fees for terminated franchises.

Interest income

Interest income decreased by $0.1 million, or 12%, to $0.3 million for the three months ended September 30, 2023 from $0.4 million for the three months ended September 30, 2022. The decrease was primarily attributable to the decrease in the average Franchise Agreements currently under a payment plan option. Interest income increased by $0.1 million, or 12%, to $1.1 million for the nine months ended September 30, 2023 from $1.0 million for the nine months ended September 30, 2022. The increase was primarily attributable to higher average Franchise Agreements signed under the payment plan option.

Expenses

Employee compensation and benefits

Employee compensation and benefits expenses increased by $3.1 million, or 9%, to $39.4 million for the three months ended September 30, 2023 from $36.3 million for the three months ended September 30, 2022. The 9% increase was primarily related to the hiring of more experienced team members, particularly at the leadership level, and a 20% increase in equity based compensation related to stock option awards during the year. Employee compensation and benefits expenses increased by $14.3 million, or 14%, to $113.8 million for the nine months ended September 30, 2023 from $99.5 million for the nine months ended September 30, 2022. The 14% increase was primarily related to the hiring of more experienced team members, particularly at the leadership level, and an increase in equity-based compensation of 16% related to stock option awards during the year.

General and administrative expenses

General and administrative expenses increased by $1.4 million, or 10%, to $14.8 million for the three months ended September 30, 2023 from $13.5 million for the three months ended September 30, 2022. The 10% increase was primarily related to increased spend on software and professional services. General and administrative expenses increased by $8.7 million, or 22%, to $48.0 million for the nine months ended September 30, 2023 from $39.4 million for the nine months ended September 30, 2022. This increase was primarily attributable to $3.6 million asset impairment charges related to internally developed software and impairment of two office locations the Company determined to sublease, increased spend on rent-related costs due to expansion of our corporate office space, and increased spending on software and professional services.

Bad debts

Bad debts decreased by $1.5 million, or 65%, to $0.8 million for the three months ended September 30, 2023 from $2.3 million for the three months ended September 30, 2022. Bad debts decreased by $1.4 million, or 30%, to $3.4 million for the nine months ended September 30, 2023 from $4.8 million for the nine months ended September 30, 2022. The decrease during the three and nine months ended September 30, 2023 was primarily attributable to a decrease in the average tenure of a terminated franchise.

Depreciation and amortization

Depreciation and amortization increased by $0.5 million, or 30%, to $2.4 million for the three months ended September 30, 2023 from $1.8 million for the three months ended September 30, 2022. Depreciation and amortization increased by $1.8 million, or 35%, to $6.8 million for the nine months ended September 30, 2023 from $5.0 million for the nine months ended September 30, 2022. This increase during the three and nine months ended September 30, 2023 was primarily attributable to the increase in fixed assets due to office expansion since September 30, 2022 as well as book of business purchases during the nine months ended September 30, 2023.

Interest expense

Interest expenses increased by $0.2 million for the three months ended September 30, 2023, to $1.6 million from $1.4 million for the three months ended September 30, 2022. Interest expenses increased by $1.6 million for the nine months ended September 30, 2023, to $5.1 million from $3.4 million for the nine months ended September 30, 2022. The primary driver of this increase during the three and nine months ended September 30, 2023 was the rising interest rate environment, partially offset by a decrease in total borrowings outstanding.

Key performance indicators

Our key operating metrics are discussed below:

Total Written Premium

Total Written Premium represents for any reported period, the total amount of current (non-cancelled) gross premium that is placed with Goosehead’s portfolio of Carriers. Total Written Premium placed is an appropriate measure of operating performance because it reflects growth of our business relative to other insurance agencies.

The following tables show Total Written Premium placed by corporate agents and franchisees for the three and nine months ended 2023 and 2022 (in thousands).

Policies in Force

Policies in Force means, as of any reported date, the total count of current (non-cancelled) policies placed with Goosehead’s portfolio of Carriers. We believe that Policies in Force is an appropriate measure of operating performance because it reflects growth of our business relative to other insurance agencies.

As of September 30, 2023, we had 1.5 million Policies in Force compared to 1.3 million as of December 31, 2022 and 1.2 million as of September 30, 2022, representing a 13% and 18% increase, respectively.

NPS

Net Promoter Score (NPS) is calculated based on a single question: “How likely are you to refer Goosehead Insurance to a friend, family member or colleague?” Clients that respond with a 6 or below are Detractors, a

score of 7 or 8 are called Passives, and a 9 or 10 are Promoters. NPS is calculated by subtracting the percentage of Detractors from the percentage of Promoters. For example, if 50% of respondents were Promoters and 10% were Detractors, NPS is a 40. NPS is a useful gauge of the loyalty of client relationships and can be compared across companies and industries.

NPS has increased to 92 as of September 30, 2023, from 90 as of September 30, 2022.

Client retention

Client Retention is calculated by comparing the number of all clients that had at least one policy in force twelve months prior to the date of measurement and still have at least one policy in force at the date of measurement. We believe Client Retention is useful as a measure of how well Goosehead retains clients year-over-year and minimizes defections.

Client Retention decreased modestly to 87% at September 30, 2023 when compared to 88% at December 31, 2022. For the trailing twelve months ended September 30, 2023, we retained 102% of the premiums we distributed in the trailing twelve months ended September 30, 2022, which increased from the 100% premium retention at December 31, 2022. Our premium retention rate is higher than our Client Retention rate as a result of both premiums increasing year over year and additional coverages sold by our sales and service teams.

New Business Revenue

New Business Revenue is commissions received from the Carrier, Agency Fees received from clients, and New Business Royalty Fees relating to policies in their first term.

For the three months ended September 30, 2023, New Business Revenue grew 2% to $14.0 million, from $13.8 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023, New Business Revenue grew 4% to $42.4 million, from $40.8 million for the nine months ended September 30, 2022. Growth in New Business Revenue during the three and nine months ended September 30, 2023 was primarily driven by growth in agent productivity and rising premium rates.

Renewal Revenue

Renewal Revenue is commissions received from the Carrier and Renewal Royalty Fees received after the first term of a policy.

For the three months ended September 30, 2023, Renewal Revenue grew 29% to $49.1 million, from $38.1 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023, Renewal Revenue grew 40% to $133.7 million, from $95.7 million for the nine months ended September 30, 2022. Growth in Renewal Revenue during the three and nine months ended September 30, 2023 was primarily driven by Client Retention of 87% at September 30, 2023, and rising premium rates.

Non-GAAP Measures

Core Revenue, Cost Recovery Revenue, Ancillary Revenue, Adjusted EBITDA, Adjusted EBITDA Margin, and Adjusted EPS are not measures of financial performance under GAAP and should not be considered substitutes for total revenue, net income, net income margin or earnings per share, which we consider to be the most directly comparable GAAP measures. We refer to these measures as "non-GAAP financial measures." We consider these non-GAAP financial measures to be useful metrics for management and investors to facilitate operating performance comparisons from period to period by excluding potential differences caused by variations in capital structures, tax position, depreciation, amortization and certain other items that we believe are not representative of our core business. Core Revenue, Cost Recovery Revenue, Ancillary Revenue, Adjusted EBITDA, Adjusted EBITDA Margin, and Adjusted EPS have limitations as analytical tools, and when assessing our operating performance, you should not consider Core Revenue, Cost Recovery Revenue, Ancillary Revenue, Adjusted EBITDA, Adjusted EBITDA Margin, or Adjusted EPS in isolation or as substitutes for total revenue, net income, earnings per share, as applicable, or other consolidated income statement data prepared in accordance with GAAP. Other companies may calculate Core Revenue, Cost Recovery Revenue, Ancillary Revenue, Adjusted EBITDA, Adjusted EBITDA Margin, and Adjusted EPS differently than we do, limiting their usefulness as comparative measures.

Core Revenue

Core Revenue is a supplemental measure of our performance and includes Renewal Commissions, Renewal Royalty Fees, New Business Commissions, New Business Royalty Fees, and Agency Fees. We believe that Core Revenue is an appropriate measure of operating performance because it summarizes all of our revenues from sales of individual insurance policies.

Core Revenue increased by $11.2 million, or 22%, to $63.1 million for the three months ended September 30, 2023 from $51.9 million for the three months ended September 30, 2022. Core Revenue increased by $39.6 million, or 29%, to $176.1 million for the nine months ended September 30, 2023 from $136.5 million for the nine months ended September 30, 2022. The primary drivers of the increase during the three and nine months ended September 30, 2023 were the higher number of policies in the renewal term from September 30, 2022 to September 30, 2023 as well as premium retention of 102% as of September 30, 2023.

Cost Recovery Revenue

Cost Recovery Revenue is a supplemental measure of our performance and includes Initial Franchise Fees and Interest Income. We believe that Cost Recovery Revenue is an appropriate measure of operating performance because it summarizes revenues that are viewed by management as cost recovery mechanisms.

Cost Recovery Revenue decreased by $0.7 million, or 20%, to $2.8 million for the three months ended September 30, 2023 from $3.4 million for the three months ended September 30, 2022. The primary driver of the decrease was a decrease in total franchises. Cost Recovery Revenue increased by $1.0 million, or 11%, to $9.9 million for the nine months ended September 30, 2023 from $9.0 million for the nine months ended September 30, 2022. The primary driver of the increase was an increase in terminations of franchises, which accelerates recognition of initial franchise fee revenue.

Ancillary Revenue

Ancillary Revenue is a supplemental measure of our performance and includes Contingent Commissions and Other Franchise Revenues. We believe that Ancillary Revenue is an appropriate measure of operating performance because it summarizes revenues that are ancillary to our core business.

Ancillary Revenue increased by $2.8 million to $5.2 million for the three months ended September 30, 2023 from $2.4 million for the three months ended September 30, 2022. Ancillary Revenue increased by $5.7 million to $12.2 million for the nine months ended September 30, 2023 from $6.6 million for the nine months ended September 30, 2022.

Adjusted EBITDA

Adjusted EBITDA is a supplemental measure of our performance. We believe that Adjusted EBITDA is an appropriate measure of operating performance because it eliminates the impact of items that do not relate to business performance. Adjusted EBITDA is defined as net income (the most directly comparable GAAP measure) before interest, income taxes, depreciation and amortization, adjusted to exclude equity-based compensation, impairment expense, and other non-operating items, including, among other things, certain non-cash charges and certain non-recurring or non-operating gains or losses.

Adjusted EBITDA increased by $11.4 million, or 104%, to $22.4 million for the three months ended September 30, 2023 from $11.0 million for the three months ended September 30, 2022. Adjusted EBITDA increased by $30.9 million, or 125%, to $55.7 million for the nine months ended September 30, 2023 from $24.8 million for the nine months ended September 30, 2022. The primary drivers of the increase in Adjusted EBITDA during the three and nine months ended September 30, 2023 were growing higher margin Renewal Revenue, decreases in Corporate agent headcount, and slower growth in General and Administrative expenses.

Adjusted EBITDA Margin

Adjusted EBITDA Margin is Adjusted EBITDA as defined above, divided by total revenue excluding other non-operating items. Adjusted EBITDA Margin is helpful in measuring profitability of operations on a consolidated level.

For the three months ended September 30, 2023, Adjusted EBITDA Margin was 32% compared to 19% for the three months ended September 30, 2022. For the nine months ended September 30, 2023, Adjusted EBITDA Margin was 28% compared to 16% for the nine months ended September 30, 2022. The primary drivers of the increase in Adjusted EBITDA Margin during the three and nine months ended September 30, 2023 were growing higher margin Renewal Revenue, decreases in Corporate agent headcount, and slower growth in General and Administrative expenses.

Adjusted EPS

Adjusted EPS is a supplemental measure of our performance, defined as earnings per share (the most directly comparable GAAP measure) before non-recurring or non-operating income and expenses. Adjusted EPS is a useful measure to management because it eliminates the impact of items that do not relate to business performance.

GAAP to Non-GAAP Reconciliations

The following tables show a reconciliation from Total Revenues to Core Revenue, Cost Recovery Revenue, and Ancillary Revenue for the three and nine months ended September 30, 2023 and 2022 (in thousands):

(1) Renewal Commissions, New Business Commissions, Agency Fees, and Contingent Commissions are included in "Commissions and agency fees" as shown on the condensed consolidated statements of operations.

(2) Renewal Royalty Fees, New Business Royalty Fees, Initial Franchise Fees, and Other Franchise Revenues are included in "Franchise revenues" as shown on the condensed consolidated statements of operations.

The following tables show a reconciliation from net income to Adjusted EBITDA and Adjusted EBITDA margin for the three and nine months ended September 30, 2023 and 2022 (in thousands):

(1) Adjusted EBITDA Margin is calculated as Adjusted EBITDA divided by Total Revenue ($22,425/$71,030), and ($10,992/$57,687) for the three months ended September 30, 2023 and 2022, respectively and ($55,669/$198,262), and ($24,752/$151,987) for the nine months ended September 30, 2023 and 2022, respectively.

The following tables show a reconciliation from basic earnings per share to Adjusted EPS (non-GAAP basis) for the three and nine months ended September 30, 2023 and 2022. Note that totals may not sum due to rounding:

(1) Calculated as equity-based compensation divided by sum of weighted average Class A and Class B shares [$6.5 million/(24.1 million + 13.6 million)] for the three months ended September 30, 2023 and [$5.4 million/ (20.9 million + 16.4 million)] for the three months ended September 30, 2022. Calculated as equity-based compensation divided by sum of weighted average Class A and Class B shares [$19.0 million/(23.7 million + 14.0 million)] for the nine months ended September 30, 2023 and [$16.4 million/ (20.5 million + 16.7 million)] for the nine months ended September 30, 2022.

(2) Calculated as impairment expense divided by sum of weighted average Class A and Class B shares [$0.0 million/(24.1 million + 13.6 million)] for the three months ended September 30, 2023. Calculated as impairment expense divided by sum of weighted average Class A and Class B shares [$3.6 million/(23.7 million + 14.0 million)] for the nine months ended September 30, 2023.

Liquidity and capital resources

Liquidity and capital resources

We have managed our historical liquidity and capital requirements primarily through the receipt of revenues. Our primary cash flow activities involve: (1) generating cash flow from Commissions and Fees, which largely includes New Business Revenue, Renewal Revenue, and Agency Fees; (2) generating cash flow from Franchise Revenues operations, which largely includes Initial Franchise Fees and Royalty Fees; (3) borrowings, interest payments and repayments under our credit agreement; and (4) issuing shares of Class A common stock. As of September 30, 2023, our cash and cash equivalents balance was $35.2 million. We have used cash flow from operations primarily to pay compensation and related expenses, general, administrative and other expenses, debt service, special dividends and distributions to our owners.

Credit agreement

See "Note 7. Debt" in the condensed consolidated financial statements included herein for a discussion of the Company's credit facilities.

Comparative cash flows

The following table summarizes our cash flows from operating, investing and financing activities for the periods indicated (in thousands):

Operating activities

Net cash provided by operating activities was $37.2 million for the nine months ended September 30, 2023 as compared to net cash provided by operating activities of $33.0 million for the nine months ended September 30, 2022. This increase in net cash provided by operating activities was primarily attributable to an increase in net income of $18.2 million, a decrease in receivables from franchisees of $7.5 million, partially offset by a decrease of $16.7 million in contract liabilities and a $4.3 million increase to prepaid expenses.

Investing activities

Net cash used for investing activities was $14.6 million for the nine months ended September 30, 2023, compared to net cash used for investing activities of $16.8 million for the nine months ended September 30, 2022. This decrease was primarily driven by a $10.8 million decrease in the purchase of property and equipment partially offset by $6.0 million in cash paid for purchases of books of business.

Financing activities

Net cash used for financing activities was $15.9 million for the nine months ended September 30, 2023 as compared to net cash provided by financing activities of $1.7 million for the nine months ended September 30, 2022. This increase in net cash provided by (used for) financing activities was primarily driven by an additional $10.0 million payment of notes payable and $8.5 million in member distributions.

Future sources and uses of liquidity

Our sources of liquidity are (1) cash on hand, (2) net working capital, (3) cash flows from operations and (4) our revolving credit facility. Based on our current expectations, we believe that these sources of liquidity will be sufficient to fund our working capital requirements and to meet our commitments in the foreseeable future.

We expect that our primary liquidity needs will comprise cash to (1) provide capital to facilitate the organic growth of our business, (2) pay operating expenses, including cash compensation to our employees, (3) make payments under the tax receivable agreement, (4) pay interest and principal due on borrowings under our Credit Agreement (5) pay income taxes, and (6) when deemed advisable by our board of directors, pay dividends.

Dividend policy

There have been no material changes to our dividend policy as described in the Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Tax receivable agreement

We entered into a tax receivable agreement with the Pre-IPO LLC Members on May 1, 2018 that provides for the payment by us to the Pre-IPO LLC Members of 85% of the amount of cash savings, if any, in U.S. federal, state and local income tax or franchise tax that we actually realize as a result of (i) any increase in tax basis in Goosehead Insurance, Inc.’s assets and (ii) tax benefits related to imputed interest deemed arising as a result of payments made under the tax receivable agreement. See "Item 13. Certain relationships and related transactions, and director independence" of the Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Holders of Goosehead Financial, LLC Units (other than Goosehead Insurance, Inc.) may, subject to certain conditions and transfer restrictions described above, redeem or exchange their LLC Units for shares of Class A common stock of Goosehead Insurance, Inc. on a one-for-one basis. Goosehead Financial, LLC intends to make an election under Section 754 of the Internal Revenue Code of 1986, as amended, and the regulations thereunder (the “Code”) effective for each taxable year in which a redemption or exchange of LLC Units for shares of Class A common stock occurs, which is expected to result in increases to the tax basis of the assets of Goosehead Financial, LLC at the time of a redemption or exchange of LLC Units. The redemptions or exchanges are expected to result in increases in the tax basis of the tangible and intangible assets of Goosehead Financial, LLC. These increases in tax basis may reduce the amount of tax that Goosehead Insurance, Inc. would otherwise be required to pay in the future. We have entered into a tax receivable agreement with the Pre-IPO LLC Members that provides for the payment by us to the Pre-IPO LLC Members of 85% of the amount of cash savings, if any, in U.S. federal, state and local income tax or franchise tax that we actually realize as a result of (i) any increase in tax basis in Goosehead Insurance, Inc.’s assets resulting from (a) the purchase of LLC Units from any of the Pre-IPO LLC Members using the net proceeds from any future offering, (b) redemptions or exchanges by the Pre-IPO LLC Members of LLC Units for shares of our Class A common stock or (c) payments under the tax receivable agreement and (ii) tax benefits related to imputed interest deemed arising as a result of payments made under the tax receivable agreement. This payment obligation is an obligation of Goosehead Insurance, Inc. and not of Goosehead Financial, LLC. For purposes of the tax receivable agreement, the cash tax savings in income tax will be computed by comparing the actual income tax liability of Goosehead Insurance, Inc. (calculated with certain assumptions) to the amount of such taxes that Goosehead Insurance, Inc. would have been required to pay had there been no increase to the tax basis of the assets of Goosehead Financial, LLC as a result of the redemptions or exchanges and had Goosehead Insurance, Inc. not entered into the tax receivable agreement. Estimating the amount of payments that may be made under the tax receivable agreement is by its nature imprecise, insofar as the calculation of amounts payable depends on a variety of factors. While the actual increase in tax basis, as well as the amount and timing of any payments under the tax receivable agreement, will vary depending upon a number of factors, including the timing of redemptions or exchanges, the price of shares of our Class A common stock at the time of the redemption or exchange, the extent to which such redemptions or exchanges are taxable and the amount and timing of our income. See "Item 13. Certain relationships and related transactions, and director independence" of the Annual Report on Form 10-K. We anticipate that we will account for the effects of these increases in tax basis and associated payments under the tax receivable agreement arising from future redemptions or exchanges as follows:

• we will record an increase in deferred tax assets for the estimated income tax effects of the increases in tax basis based on enacted federal and state tax rates at the date of the redemption or exchange;
• to the extent we estimate that we will not realize the full benefit represented by the deferred tax asset, based on an analysis that will consider, among other things, our expectation of future earnings, we will reduce the deferred tax asset with a valuation allowance; and
• we will record 85% of the estimated realizable tax benefit (which is the recorded deferred tax asset less any recorded valuation allowance) as an increase to the liability due under the tax receivable agreement and the remaining 15% of the estimated realizable tax benefit as an increase to additional paid-in capital.

All of the effects of changes in any of our estimates after the date of the redemption or exchange will be included in net income. Similarly, the effect of subsequent changes in the enacted tax rates will be included in net income.

Contractual obligations, commitments and contingencies

The following table represents our contractual obligations as of September 30, 2023, aggregated by type (in thousands):

(1) The Company leases its facilities under non-cancelable operating leases. In addition to monthly lease payments, the lease agreements require the Company to reimburse the lessors for its portion of operating costs each year. Rent expense was $1.9 million and $1.7 million for the three months ended September 30, 2023 and 2022.

(2) The Company refinanced its credit facilities on July 21, 2021 in the form of a $100 million term loan, and $50 million revolving credit facility, of which nothing was drawn as of September 30, 2023.

(3) Interest expense includes interest payments on our outstanding debt obligations under our credit agreement. Our debt obligations have variable interest rates. We have calculated future interest obligations based on the interest rate for our debt obligations as of September 30, 2023.

(4) See "Item 2. Management's discussion and analysis of financial condition and results of operation - Tax receivable agreement."

Off-balance sheet arrangements

We do not invest in any off-balance sheet vehicles that provide liquidity, capital resources, market or credit risk support, or engage in any activities that expose us to any liability that is not reflected in our condensed consolidated financial statements except for those described under “Contractual obligations, commitments and contingencies” above.

Critical accounting policies

Our discussion and analysis of our consolidated financial condition and results of operations is based upon the accompanying condensed consolidated financial statements and notes thereto, which have been prepared in accordance with GAAP. The preparation of the condensed consolidated financial statements requires us to make estimates, judgments and assumptions, which we believe to be reasonable, based on the information available. These estimates and assumptions affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. Variances in the estimates or assumptions used to actual experience could yield materially different accounting results. On an ongoing basis, we evaluate the continued appropriateness of our accounting policies and resulting estimates to make adjustments we consider appropriate under the facts and circumstances. During the period ended September 30, 2023, we adjusted the techniques we use for estimating revenues, which had an insignificant effect on reported financial results. There have been no significant changes to our critical accounting policies as disclosed in the Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Recent accounting pronouncements

See "Note 2. Summary of Significant Accounting Policies—Recently Issued Accounting Pronouncements” under Part I, Item 1 of this Form 10-Q.

There have been no material changes to our exposure to market risks as described in "Item 7A. Quantitative and qualitative disclosure of market risks" in the Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of September 30, 2023. Our disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.

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

There have been no material changes to the risk factors disclosed in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2022.