Town Sports International Holdings, Inc. (NASDAQ:CLUB)
21st Annual Deutsche Bank Leveraged Finance Conference
October 1, 2013 11:10 AM ET
Bob Giardina - CEO and President
Dan Gallagher - Chief Financial Officer
Okay. Good morning, everyone. I think we’re going to go ahead and get started. It’s my pleasure to introduce this morning the management team from Town Sports International. For those of you who follow the company will know that they have been presenting at this conference for probably more than a decade now. And we’re always glad to have them here, Bob Giardina, company’s CEO and President and Dan Gallagher, Chief Financial Officer.
Thanks [Greg] and good morning, everyone. Hopefully, everyone gets home well over the next couple of days with strike going on, so we’ll see how that impacts all of us, but it’s pleasure to be here again. [Technical Difficulty] the industry and the changes that we’re now seeing and where we see some of the opportunities that we’re faced with.
In terms of the management team, every company has to have their side on their team. We think we have a great team in terms of having a lot of experience both within the industry and multi unit experience. I have been with the company fortunately since 1981, so 31 years. I left for a short period of time in 2008 and 2009 and returned in 2010. So I left during a down market but a good time to come back. Dan’s been with me for 14 years, and he is through a number of changes in the industry, the change that we are seeing. So I think we are well positioned in terms of the management and we understand what’s happening and what’s going on with the business.
In terms of the business overview and we just wanted to put this up here. So our mission is pretty simple improving lives through exercise. We’ve been around since 1974. And if you think about where fitness was back in the 70s, it really didn’t exist. I can say that where it is today and the change that we are seeing today are really exciting. Back in 1974 there was a small handful of people that believed in and understood the benefits, today everyone understands the benefits. So since 1974 we have been helping members of all fitness levels and all ages improve their lives through exercise, and that’s really our brand. We are very broad wheel for the biggest route possible.
In terms of our clubs we have one brand, four trade names, New York Sports Club, Boston Sports Club, Washington and Philadelphia. As you can see we have 108 clubs in the New York Sports Club brand, our largest position. We have 37 clubs alone in the Manhattan market. Boston is our second largest market. We just acquired five clubs from Fitcorp and that puts up to 30 locations, 17 in Washington and 6 in Philadelphia, 164 clubs in total, about 512,000 members.
This slide has a lot of information, it’s about the industry, and I just want to spend a couple of minutes on it because it’s really changing quickly right now. So I have been in the industry, I have been fortunate enough to be in the industry for 39 years myself. And there it wasn’t an industry, it’s really made of a mom and pops. And what we are seeing today, the [hard lines] of this are 50 million people are using clubs today which represents about 17% of the market. In our product markets that we operate, it’s about 20%. So I think the 20% is a little bit higher because it’s more affluent, more urban, little bit younger, but we are seeing the opportunity now, I am sorry about the slide. There is a number of drivers that are driving that. If you could just change that slide a little bit, just get that off there.
We are talking about the industry in general. This slide represents health clubs. As you can see, it was at 51 million in 2011, it came down to about 50 million this past year. What it doesn’t show are the member of studios that we are now seeing operate within our markets. So when you think about the studios that are coming in and we are hearing a lot about it, you heard about [fry wheel and slow cycle] and CrossFit and some of the Pilates studios. A few years ago they really weren’t on the radar and that phenomenon really happens during the ‘07, ‘08, ‘09 period when clubs were really starting to cut back, consumers were really using their gyms for pulling back on the fee services, the personal training, the fee services and a lot of those trainers instructors want to often start their own business.
In the Manhattan alone there are now 300 studios, it wasn’t the market that we used to follow. Now if you think on the surface, the 300 studios is not good for the industry, probably the best thing that’s ever happened because consumers are now getting used to and comfortable with the idea of spending for their fitness.
People that appreciate and understand the value of it will take a class with CrossFit and pay $20 or $30 a class, they will go [fry wheel] and pay 30 a class. So consumers are now willing to pay for individual sessions because they value their experience, and we are going to try to use some of those learnings and build on our business with the membership. We still think there is a core group of people and we are well positioned to have the basic fitness gym facilities with everyone, but there is a whole number of people now that won't pay for the extra services which we’ll talk about.
In terms of our strategy it's very simple, where you work and where you live. We want to make sure that we're convenient. So when people tick down, how they buy a gym, they look at their neighborhood and they look at where they are working. So it's always convenient for us, they know we will get price, they know we will get the facility, they look at all other offerings. So we try to look at our club in terms of having a well platform in our markets, making sure that we are convenient on the commuter lines and we are convenient in those urban markets.
And we also see the benefits now, members understand that they use as clubs anywhere they go. Corporations are now looking at buying memberships for their employees which is now becoming more important [firm] with Obamacare and some of the insurance issues that we're seeing and there is one platform they can buy. So we're seeing a lot of benefits by having these clutters.
In terms of our format, we have a very flexible format, there is no federal approach to where we're building clubs. We have clubs as small as 7,000 square feet and as large as 150,000 square feet. But as you can see out of the 164 clubs, the 109 are fitness only which basically means they have all the equipment classes and programming that they need, they run about 21,000 square feet, the multi-recreational facilities will have what we call bolt-on, they will have a bachelor course, swimming pools, sports clubs for kids, some of the additional services. We do have some of them in the urban markets, but they are primarily in the suburban markets where they deal with a lot more family type memberships.
And moving forward our focus in our growth will be primarily in the New York and Boston urban markets. We have identified 50 locations that we believe that we can expand our product into. The model typically is at about $2.5 million to build the club, 15,000 to 20,000 square feet, about a full-year payback and we get up to about 3,200 to 3,400 members. So that’s where we're looking at building moving forward.
We acquired six clubs this year in Boston, five in Boston and one in New York and then next year we're looking at building or acquiring five to six clubs. The real estate in those markets has tightened up. It's gotten more expensive. So we're being very selective in terms of properties. So we're just sitting on a number of LOIs and leases that we've right now. Just we want to make sure we go out to the right projects.
As I was talking earlier, one of the things that we want to really talk about is our programming. Clubs develop program really to stay fresh and as most of you know that in the news release, CrossFit is probably the biggest one, but we're seeing the [slow cycles] and we are seeing a lot of Pilates. We’ve introduced our own brand, our UXF brand within our clubs about a year and half ago and we’ve now introduced a number of these programs, everything from Vbarre and Pilates to [Evolution] which is the spring program to our Ripped program which is very similar to our P90X, some of the home programs that you are just seeing.
All of these programs are to create a buzz to get people excited about the programming within the clubs but to really drive personal training membership. We see a real opportunity to develop these programs, get people to be working in small groups and then get them on a one-on-one basis. And as we move forward on a one-on-one basis, you can see on this next slide, our UXF programming, we've actually taken about 600 to 800 square foot area within our clubs and we branded it as UXF with Astroturf based on CrossFit studio that some of you have seen them.
Open space for functional fitness, (inaudible) they’ll do ropes, they will do Kettlebells, very little equipment. So from a CFO’s point of view, very little capital cost, about $25,000 per club. As of this week, we're up to our 100th club that we rolled out over the last year and half and we expect it to have in all 164 by the end of the next year. So we're running now pretty quickly. The whole purpose of this is to really put the focus back on the trainers, so trainers now have the ability to talk to members. Trainers don’t like to be sales people and that's not what they are there for, they are really there to help members achieve their goals. But obviously, they have to get in front of those members. This functional area now allows those members to walk up to trainers and have a conversation on what they want to do with their goals and get sure on this. So this really does work well in terms of driving our programs and our personal training.
As you can see we’re about 13.7% in 2012, we’re turning it around, Dan will have the slide in terms of how we’re doing this year and that’s grown nicely. We believe that personal training based on some of our competitors should be north of 20%. So we think we still have some opportunity in that area.
And in terms of our branding, we look at our branding as a way to get people to think about our personality and that's what really a brand is all about. We try to create a personality that people like. So it’s all about top of our mind for us. There is not an ad or radio or commercial or anything that's going to get you to join the gym, something in your life is going to trigger that moment. It could be health issue, it could be reunion, it could be something that you are dealing with.
When that moment happens this is a type of advertising we do, we typically try to use something that's current in the news. These spreads have revenues past year all four of them was as simple as running a local paper that were picked up by major media networks. So one was on CNN, one was on entertainment sites, like our advertising which deals with current events, obviously this week we’re going to be dealing with the 800,000 employees that were rate off by the government. So our ad will take up what was happening in the economy and will move it back into our clubs. So we have a good time with it we try not to offend anyone who we think a lot of people talking about it. With that I’ll turn it over to Dan and then we’ll answer some questions right on.
Thanks Bob. First I want to focus some high level highlights from our second quarter, revenue was down 1.7% that was sequential improvement over the first quarter which we are down 3% and like that our comparable club revenue was down 1.7% which was also a sequential improvement over Q1 which is down 2.4%. Ancillary club revenue was down 9% in Q1 and we improved upon that and ancillary revenue was down 4.3% in Q2 and a lot of that was made up of the improvement in personal training, we were down 6.8% in the first quarter and in the second quarter that was flat and as Bob discussed the personal training membership and what’s going on with that we expect this to see personal training beyond the positive side going forward.
Adjusted EBITDA was $25.7 million for the quarter, second quarter it’s a 4.3% decrease from the prior year. On the membership front our membership attrition was 3.3% that’s slightly above the same quarter last year or 3.2% and about half of that slight increase was due to some club closures whether it be the two clubs that we still have closed from Hurricane Sandy or two clubs that we closed by our own choice. So I would say attrition is fairly stable in general.
On the cash flow front we ended 2012 with $315.7 million of debt and about $37 million of cash. And we ended Q2 with the same amount of debt with a lot more cash, we are up to $69.5 million over $30 million increase in cash over the six months period ended June 30th. And we have a $50 million revolver which has been undrawn with the exception of some LCs we have outstanding and that’s been the case for a few years now, undrawn revolver.
This next slide highlights some of our critical trends goes back to various show, back in 2009 where we were and where we are today, I think one of the critical things to know here, this is dispensable with the same group of clubs approximately 160 clubs throughout the period here. So if you see in 2009 on the membership count front, we have 24,000 members in 2009. In the slide right low back, you can see our attrition was elevated in 2009 in each of the quarters of 2009 in my view attrition was elevated also our consumers. We’re being very, from key revenue we’re watching this spending what was going on in the consumer environment in 2009 which we’re all aware of.
In 2010, Bob came back to join us, on the shows of 2009 and he came back in Q1 of 2010, so you can see the membership started to improve with Bob’s return. He rejuvenated the sales process, a great deal. And we made 7,000 members in 2010 and 30,000 members in 2011 and again much with the same group of clubs.
Moving into 2012 from a year we loss 13,000 members and 12,000 of those members were in Q4 and we attribute half of that to Hurricane Sandy coming likely in the middle of our markets in Q4 of 2012. So coming to 2013, we do have a membership of January 01, 2013. We are 13,000 less members in the year before which is affecting the revenue that I just talked in the previous slide. Our membership, our revenue decline has been driven by our membership decline.
And last but not least, if we look at the joining fees, with Bob’s return we’ve done a terrific job of maintaining the joining fees and the elevated level compared to where we were in 2009 averaging much higher amounts and what this means for us is basically somewhere around $8 million of incremental cash flow per year where we are now compared to where we were in 2009.
This slide is kind of depicting how we're migrating from the traditional personal training product and that's in the green and moving towards to our personal training membership product. So we've been spending over the last year and half, two years talking about how we're moving from a membership, from a traditional package to a membership package. And you can see here how we moved around Q1 2012 less than 10% of our personal training revenue is membership based. And as we move along forward in Q4 2012 roughly about a third of our revenue being generated from membership based. And here in Q2, 2012 over half of our revenue is generated from the personal training membership.
And now that we have passed the transition point, we have effectively increased our personal training price point in September 1st because we're passed the halfway mark. So what the personal training membership does for us it gives us a lot more predictable stream of revenue and it gives our trainers a predictable stream of clients every month.
This slide shows our historical EBITDA trends. Like I said in my last slide views, basically with the same group of a 160 club over the timeline that we've seen in 2010 that was our low radar mark, for the year we were around $73 million or little over of EBITDA and as we closed out 2012, we were right below a $100 million of adjusted EBITDA at 99.8 of adjusted EBITDA in 2012.
2013 (inaudible) are slightly below the 2012 revenue and that's predominantly due to the membership shortfall that I talked about when we entered 2013 with less members than the year before.
This slide I think does a nice job showing our net debt trend over the past four years, how we've been generating meaningful cash flow and reducing our net debt with that. So if you look at Q4 2008, the first bar, we had $338 million of debt, $10 million of cash for net debt of $327 million. In the two years following we reduced net debt by almost $50 million, $49.9 million and then the years after that, we're up to $30 million per year reduction in net debt.
When we move out to Q3 of last year, we had $213 million of net debt. And at that time, you can see on the slide, we issued a $3 per share one-time special dividend, which totaled $78 million of approximately $70 million in aggregate. And with that interest, we were able to return value to our shareholders while still maintaining a net leverage ratio below three times at the year-end December 2012, we were at 278 million of net debt and as I said before, we’re right around the $100 million of net EBITDA.
So as we move forward to 2013, you can see again, we're generating significant cash flow first six months of 2013. Net debt is already down $31.8 million of first six months of this year. So the trend is very steady with the exception of the dividend that we paid out in Q4 of last year.
This next slide is a fair amount of details about our existing credit facility. Our existing credit facility was initially launched in May of 2011. We had a few amendments. One of the amendments included our ability to get the $70 million dividend which was in excess of our restricted basket and that was in November of last year. So our facility was about 2.5 years, just about 2.5 years into our facility. And given that we’re approaching the anniversary of the amendment of November of last year, our prepayment penalty of 1% will go away, I believe on November 14 or thereabout.
So as we speak, we are actively working with the Deutsche Bank team to see what opportunities we might have out there now as we get closer to this exploration of the penalty box to see what we can grow at some critical areas to reduce our borrowing cost to perhaps extend the terms, so we can refresh the term, reset the run rate so we start off with the five year revolver perhaps with seven year term loan, but we'd also try to reduce some of the covenants and perhaps the restricted basket to try to expand the restricted basket so we are not in a position we were last year where we are going to return value to the shareholders. We want to be a little more flexible to deal that with the cash flow that we’re generating.
So with that, I’ll turn it back over to any questions, anyone may have.
The evolution of your personal training revenues, we flattened that, the members of revenue more sticky than they are sort of add-on, people buying personal training packages?
Well, [it’s stubbornly interest] and we don’t have a lot history to show that is more sticky, but it’s certainly more predictable and I think we are expecting it to be more sticky knowing that we went over to have full market that described earlier. And on September 1, we did across the board price increase. So those who have the membership before September 1 are at a benefit where they are paying less per session than they would if they were to quit and join up again. So we think that’s going to help us make even more sticky going forward.
You mentioned personal training price points [in Q3], can you give it a number?
Dan, maybe you want to?
Okay. So, on the revenue side personal training session is around $70 per session. You can buy a single session for now they are priced at $99, you can buy one of these packages that allows you 4, 8 or 12 per months and it discounts based on that the number that you purchase, but it’s about $70 and we increased it by $10 per session across the board as of September 1.
The first part is what the trainers get, they get the consistent percentage of the price points. So we pay them a percentage of the price point. So if the price point goes up, their percentage stays the same but they make a little more which allows us to increase the pricing because the trainers are actually behind the increase.
Well, surprisingly, we have a number of customers that our members that use both. So we feel the same way that you do, we think that people won’t be able to do it on an ongoing basis, but there are number of members that say I am going to do this to get ready for special events. So they will do a CrossFit for six weeks, so they will do slow cycle for four weeks. So they are buying both programs. What we are now doing with our fee programs, (inaudible), Tower or Pilates, any of those programs, non-members can come in, buy it at a higher price, hopefully then going to the membership which allows them to buy the discount.
We are also looking at having reservations for our screening programs, where members can pay a small fee to reserve certain bike. Couple of years ago that was unheard of, now people are paying $35 for the bike in the class. So what is doing it is allowing members to say I value my time and my time is worth that much if I can get that space in that class at (inaudible). So the industry is changing and they are getting about 6000 users per day at their clubs, right. So there is a lot of people going to slow cycle. Is it a fad, is it a trend? They are doing well and it’s probably not across coming in their life too, but we think we can do within our clubs.
We are now looking at doing standalone spin classes. What we are looking at doing is converting some of our studios and making them larger and putting reservation systems and putting some of the sort of the decorative, the sound systems, some of the new things that members really want. So we can compete on that level, yes.
Can you talk about any of the (inaudible)?
We only owe one. Our clubs are based on 10 to 15 year leases, but we try to get to those 2-5 year options, but we own the piece of property on 86 Street since 1979, built the 14 squash club back in 70s, probably for $3.5 million to $4 million at that time, but it's on the corner of 86 in Lexington Avenue. So it's prime real estate.
I think on our last call, our conference call for Q2 we did mention that the value of that club, we have information that it's approximately $60 million or higher. We do not need to monetize those and we have no intentions right now to monetize the building. But if the opportunity comes up and it's compelling enough, it is available to us to monetize it at some point in the future. It is one of our best clubs and we've had clubs for many, many years. So there is no reason to do anything with it right now, but it doesn't mean we wouldn't hear more about it.
You mentioned that (inaudible) and put the emphasis on Washington, Philadelphia (inaudible)?
We just feel that there is more opportunity in the New York and Boston market. And as the clusters strengthen, we get so many more of the benefits with being able to increase pricing, being able to get more penetration into corporations with the capital that we have, because we've been doing it out of cash flow. We feel that we're going to get the best opportunity in the two more clustered markets.
And if I can answer that, I think the part of that is because we basically took a growth leader for many years, 3 or 4 years and now that we're getting back to it in neighborhoods and the markets and then had in Boston have changed quite a bit. So that we see a lot of neighborhoods are either in New York Sports Club and we have a high degree of confidence that when we do enter that market with little incremental cost, but a great success with the club at a low entry point of that $2.5 million per unit.
(Inaudible) what are you starting to see in terms of situation on planned business if not out there that’s something more price point especially with their (inaudible)?
I think we're seeing them more in the suburbs. I mean they have come into the city they have like three locations around the city. They are paying prime real estate rents. So their rents are anywhere from $30 to $50 a foot. Their model is about 15,000 square feet. They tend to get a younger, different demographic than we do. They are going to have down the block from a couple of our clubs and we haven't seen any impact. In the suburbs, there is probably more of an impact for a short period of time, but we've been doing now with plan for about five years. So we understand their impact. What we're seeing now is they are probably six or seven good knock-offs now. And what happens is it's really a real estate play. So they get into that market. They need about 7,500 members, but that needs 5,000 members, Retro needs 6,000 members and they are all sort of going after that same demographic.
So they are all sort of struggling with each other. The big exciting thing for us is really the studios. So we aren’t really even paying attention to them obviously on this 300 of them we had. That 300 breaks down to 150 of (inaudible) studios. A 100 of them are yoga studios and then the other 50 are cross fits and sole cycles and spinning and everything else. And I think we're staying more within the suburbs because the availability of real estate in the suburbs and to the contrary, the availability of real estate in New York has been a little tricky.
You have one more question, yes.
What do you consider would be your optimal capital structure you’ve discussed in the past on the regulatory discussions assuming you reconcile (inaudible)?
Well, I guess I can make a few comments on optimal capital structure. I think we said it a few times in the past at this interest environment, so we’re fairly low historical interest rates here, we are very comfortable at being three times in that leverage. So that's not a target about it, that's a very comfortable spot, we’re not under detention, Marcus, but we’re very comfortable.
So for the last few years, we've been below that predominantly. The credit facility that we have in place now has a $25 million restricted payment basket. And I think we added about $5 million of builder basket as we call it which gets us to $30 million.
We have more than doubled on our balance sheet right now and cash and it’s growing. So I mentioned it before, now that we’re getting close to the anniversary we are going to actively work with the front row here at Deutsche Bank to see what opportunities there are for markets hold for us to go after that restricted basket, as well as some of the other factors of our agreement namely to save on interest rate. And I think if we are able to expand the basket adequately and create some flexibility in our restricted basket, we could be more likely to go within ongoing dividend than what we did last year, which was a one-time special dividend.
Although we have to play that out with our board certainly and I think we have to have the financing first before we go after what is available to us and that's certainly hasn’t happened yet. Okay. And with that we appreciate it thanks for having us David. Thank you everybody.
Look forward to next year. Thank you.
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