Planet Fitness, Inc. — Q3 2018 Form 10-Q Summary
Business context and reporting period
Planet Fitness is a franchisor and operator of fitness centers and a supplier of equipment to franchisees. The filing covers the three and nine months ended September 30, 2018, compared with the corresponding 2017 periods. The company reported more than 12.2 million members and 1,646 locations across the United States and selected international markets, including 1,573 franchised and 73 corporate-owned stores. Existing area development agreements covered more than 1,000 additional stores.
Planet Fitness adopted ASC 606 revenue recognition on January 1, 2018 using the modified retrospective method, recording a $9.2 million cumulative reduction to stockholders’ deficit.
Key financial metrics
| ($ in millions, except per-share data) | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Total revenue | $136.7 | $97.5 | $398.5 | $295.9 |
| Income from operations | $43.6 | $34.0 | $131.3 | $105.3 |
| Net income | $20.5 | $18.9 | $74.4 | $54.8 |
| Net income attributable to Planet Fitness | $17.5 | $15.3 | $63.2 | $36.6 |
| Diluted EPS | $0.20 | $0.18 | $0.72 | $0.48 |
| EBITDA | $52.4 | $42.5 | $156.9 | $129.4 |
| Adjusted EBITDA | $53.8 | $43.4 | $160.9 | $133.5 |
| Adjusted diluted EPS | $0.28 | $0.19 | $0.88 | $0.60 |
Q3 operating margin was 31.9%, versus 34.8% in the prior-year quarter, while net margin was 15.0%, versus 19.4%. The lower GAAP margins primarily reflect the new national advertising fund gross presentation and substantially higher interest expense. Attributable net margin improved to 12.8% from 15.8% on a reported basis, while nine-month attributable net margin increased to 15.9% from 12.4%.
- Q3 revenue increased 40.2%; nine-month revenue increased 34.7%.
- Q3 Segment EBITDA increased 23.3% to $52.4 million; nine-month Segment EBITDA increased 21.3% to $156.9 million.
- System-wide sales were $659 million in Q3 and $2.061 billion for the first nine months, compared with $534 million and $1.726 billion, respectively, in 2017.
- Same-store sales increased 9.7% system-wide in Q3 and 10.3% for the first nine months. Franchisee-owned store same-store sales rose 9.9% and 10.5%, respectively; corporate-owned store same-store sales rose 6.1% and 5.6%.
Revenue and operating performance
| Revenue by segment ($ millions) | Q3 2018 | Year-over-year change | 9M 2018 | Year-over-year change |
|---|---|---|---|---|
| Franchise segment | $54.8 | +54.2% | $167.6 | +52.1% |
| Corporate-owned stores | $35.4 | +24.0% | $102.4 | +22.0% |
| Equipment | $46.4 | +39.1% | $128.6 | +26.2% |
Franchise growth was driven by higher royalty rates, new stores, and strong same-store sales. The company’s “Rebate to Royalty Amendment” shifted economics from franchise and other fees and commission income toward royalty revenue. National advertising fund revenue and the corresponding expense were reported gross beginning in 2018, adding $11.4 million in Q3 and $33.0 million year-to-date to both revenue and expenses without affecting operating income.
Store growth remained strong: 132 total stores were opened during the first nine months, including 131 franchisee-owned stores and one new corporate-owned store. Ten franchisee-owned stores were acquired during the period, increasing corporate-owned stores to 73.
Cash flow, debt and liquidity
- Cash provided by operating activities was $143.9 million for the first nine months, up from $93.0 million in 2017.
- Capital expenditures were $18.6 million, and acquisitions of franchisee-owned stores used $45.8 million. Net cash used in investing activities was $64.2 million.
- Cash, cash equivalents and restricted cash totaled $608.6 million at September 30, 2018, including $572.7 million of unrestricted cash and $35.9 million of restricted cash.
- On August 1, 2018, the company issued $1.2 billion of fixed-rate senior secured notes: $575 million at 4.262% and $625 million at 4.666%. Proceeds repaid the prior Term Loan B and funded general corporate purposes.
- Total debt was $1.2 billion before deferred financing costs, or $1.174 billion net of those costs, versus $709.5 million before deferred financing costs at December 31, 2017. Interest expense increased to $17.9 million in Q3 from $8.9 million, including a $4.6 million loss on extinguishment of the prior debt.
- The company had an undrawn $75 million variable funding facility. Management stated that cash, operating cash flow and available borrowing capacity should cover expected debt service, tax benefit arrangement payments, capital expenditures and working capital needs for at least the next 12 months.
Material changes, outlook and risks
- The refinancing increased leverage but converted the principal debt to fixed-rate securitized notes, reducing exposure to interest-rate increases on the primary debt. Most domestic revenue-generating assets were assigned or pledged to the securitization entities.
- The notes have anticipated repayment dates in 2022 and 2025, despite legal final maturity in 2048, and contain covenants, reserve requirements, debt-service coverage requirements and rapid-amortization events.
- A rapid-amortization event or default could materially reduce funds available to operate or grow the business. The company may need to refinance, restructure debt, sell assets, defer investment or raise capital if cash flow is insufficient.
- The board increased the share repurchase authorization to $500 million. The company repurchased 824,312 Class A shares for $42.1 million during the first nine months, leaving approximately $457.9 million available at September 30.
- Tax benefit arrangement liabilities totaled $431.2 million, with projected future payments extending beyond 2022. The company’s substantial deferred tax assets primarily relate to its investment in Pla-Fit Holdings.
- Management expects selling, general and administrative expenses to continue increasing as the franchise system expands. Other risks include franchisee performance, member retention, competition, brand and reputation, third-party systems and vendors, wage inflation, litigation, and the ability to refinance or service debt.
- The company reported no material legal proceedings and no material changes in internal control over financial reporting. Management stated that ordinary-course claims are not expected to have a material adverse effect, while noting that a significant increase in claims could be material.
Most important facts for investors to verify
- Reconcile reported revenue growth with the ASC 606 adoption and the gross presentation of national advertising fund activity.
- Assess leverage, debt-service coverage and the 2022 and 2025 anticipated repayment/refinancing requirements under the securitization documents.
- Evaluate whether operating cash flow can support debt service, tax benefit arrangement payments, acquisitions, capital expenditures and the expanded share repurchase program.
- Confirm the sustainability of approximately 10% same-store sales growth and the pace and economics of franchise store openings.
- Review the effect of the Rebate to Royalty Amendment on recurring royalty revenue versus lower franchise fees and commission income.
- Monitor deferred tax assets, tax receivable arrangement obligations, non-controlling interests and the company’s continuing stockholders’ deficit.