RCI HOSPITALITY HOLDINGS, INC. quarterly report, Q1 FY2019

Full document

Business context and reporting period

RCI Hospitality Holdings, Inc. operates adult nightclubs, Bombshells restaurants and bars, and smaller media and energy-drink businesses. It reported for the three and nine months ended June 30, 2019, compared with the same periods in 2018. Although the request metadata says “2019 Q1,” this filing covers the company’s fiscal third quarter and first nine months.

At June 30, 2019, the company operated 46 establishments. The unaudited interim financial statements state that results are not necessarily indicative of full-year results.

Financial performance and position

  • Third quarter: Revenue was $47.0 million, up 10.3%; operating income was $10.0 million, up 5.1%; net income was $5.7 million, up 5.0%; and diluted EPS was $0.59 versus $0.55. Operating margin fell to 21.2% from 22.3%, while net margin was 12.1% versus 12.7%.
  • Nine months: Revenue was $135.9 million, up 8.6%; operating income was $32.3 million, up 20.1%; net income attributable to RCIHH common stockholders was $18.7 million versus $24.4 million; diluted EPS was $1.94 versus $2.51. Operating margin rose to 23.8% from 21.5%.
  • Segments: Third-quarter Nightclubs revenue rose 7.5% to $37.9 million; Bombshells revenue rose 23.0% to $8.8 million. Same-store sales declined 1.4% overall (Nightclubs +0.1%; Bombshells −10.6%). For nine months, same-store sales declined 0.9% overall (Nightclubs +1.0%; Bombshells −13.3%).
  • Cash flow and investment: Nine-month operating cash flow was $28.4 million, up 26.8%; free cash flow, a company-defined non-GAAP measure, was $26.3 million versus $20.6 million. Investing cash use was $25.6 million, including $16.9 million of capital expenditures and $13.5 million cash paid for acquisitions. Cash declined $6.8 million to $11.0 million.
  • Debt and liquidity: Total debt was approximately $146.6 million, compared with $140.6 million at September 30, 2018. Current assets were $22.6 million and current liabilities $28.0 million, producing negative working capital of about $5.4 million. Management says working capital is not a primary indicator for its cash-intensive business and expects operating cash flows to meet commitments.
  • Margins and unusual items: Third-quarter operating expenses rose 11.8%, faster than revenue, with wages, cost of goods sold, and SG&A among the increases. Nine-month GAAP net income was lower largely because the 2018 comparison included a $9.7 million deferred-tax benefit following the Tax Act; 2019 recorded $5.5 million tax expense versus a $4.9 million benefit in 2018. Nine-month 2019 results also included approximately $2.1 million net gains from property sales in other charges (gains).

Material changes versus prior comparable periods

  • Revenue growth was supported substantially by new and acquired locations. The company acquired clubs in Chicago for $10.5 million and Pittsburgh for $15.0 million in November 2018; purchase prices included seller financing.
  • Bombshells same-store sales remained weak, though management reported sequential improvement: June 2019 was its first positive same-store-sales month since May 2018, and July was described as positive double-digit. Newly opened Bombshells contributed to sales but also increased opening, training, and food-cost pressures.
  • Interest expense increased to $2.5 million from $2.3 million in the quarter and to $7.7 million from $7.5 million year to date, reflecting higher average debt, including acquisition-related borrowing.
  • During the nine months, the company repurchased 102,113 shares for approximately $2.4 million and paid $0.09 per share in dividends. It reported $10.8 million remaining under its repurchase authorization at June 30.
  • The company revised its previously issued 2018 figures for an $834,000 goodwill impairment resulting from errors in impairment-test assumptions. Management deemed the errors immaterial; revised 2018 full-year EPS was $2.15 rather than $2.23.

Outlook, risks, and contingencies

  • Management described the near-term outlook as strong and expected substantial operating cash flow over the next 12 months, but provided no numerical revenue or earnings guidance.
  • Two Bombshells projects were under construction and expected to open in early fiscal Q1 2020. Further acquisitions and development may require additional debt or equity financing; the company cautioned that future financing on reasonable terms is not assured.
  • Disclosure controls and procedures were assessed as ineffective at June 30, 2019. The company reported previously identified material weaknesses involving the control environment, revenue controls, complex accounting and estimates, financial close and reporting, IT access, and segregation of duties. Remediation was ongoing and not yet deemed effective.
  • The SEC’s informal inquiry had become a formal, ongoing investigation. The company said it could not predict the investigation’s duration, scope, result, or costs; potential outcomes could include fines, penalties, disgorgement, or equitable relief.
  • Three securities class actions were filed in May and June 2019, and a shareholder derivative action was filed in August 2019. Potential losses were not estimable. Other matters include a landlord judgment of approximately $1.0 million under appeal, a disputed Texas patron-tax rule, and two unresolved claims from the insolvent former insurer.
  • Key business risks include regulation of adult entertainment, entertainer worker classification, competition, local business conditions, real-estate transactions, cybersecurity, key-person dependence, legal proceedings, and the ability to regain and maintain SEC and Nasdaq filing compliance. The filing’s cover page marks “No” to having filed all required reports during the preceding 12 months.

Investor verification priorities

  1. Confirm the status, costs, and potential consequences of the SEC investigation, shareholder litigation, and any SEC/Nasdaq filing-compliance issues.
  2. Track remediation and independent testing of the reported material weaknesses and ineffective disclosure controls.
  3. Assess Bombshells’ same-store sales recovery, store-level margins, and opening costs against management’s reported sequential improvement.
  4. Review debt maturities, balloon payments, interest rates, and funding needs for acquisitions and construction, alongside cash and working-capital trends.
  5. Distinguish recurring operating performance from property-sale gains and compare GAAP results with management’s non-GAAP measures and reconciliations.