YogaWorks: Dead Cat Bounce

About: YogaWorks, Inc. (YOGA)
by: Gary Alexander

Shares of YogaWorks rallied more than 30% after reporting Q1 results.

The company showed its first quarter of positive revenue growth (albeit, it was only +1% y/y growth) in several quarters.

Nevertheless, losses remained steep, and liquidity is incredibly thin. YogaWorks has just $6 million of cash left on its balance sheet.

Regardless of how quickly YogaWorks can turn positive revenue growth to its advantage, its most pressing problem is a cash shortage that will eventually drive its stock back down.

For the first time in many quarters, YogaWorks (YOGA) had good news to share. It's strange how sharply a stock can bounce when observers have been trained to set their expectations low: after reporting Q1 results that featured 1% y/y revenue growth (revenues had been in decline for each of the past several quarters), shares of YogaWorks jumped more than 30%:

Chart Data by YCharts

Shockingly, shares of YogaWorks are now up nearly 60% in the year-to-date, though the stock still remains hovering around the critical $1 mark. In my view, however, YogaWorks' post-earnings rally is just a dead-cat bounce. Though the company's revenue turnaround is certainly encouraging, it's unclear if the reversal is here to stay. For the next quarter, YogaWorks has guided to $14.3-$15.1 million of revenues, versus $14.9 million in the year-ago quarter. While the company has left open the possibility of another +1% y/y growth quarter, the midpoint of YogaWorks' ranges suggests that the company will fall back into decline.

Figure 1. YogaWorks Q2 guidance

Source: YogaWorks 1Q19 earnings release

In any case, YogaWorks' problems extend past its recent revenue declines. What continues to be concerning is the fact that the company has been unable to raise its profitability - despite the assumption that being a centralized holding company for many studios would increase efficiencies. YogaWorks' losses have kept piling on and burning through its available cash balances - and soon, the company may be in dire need to raise capital. Its situation isn't altogether too different from Tesla's (TSLA).

Investors should be incredibly careful of investing in this stock. Not only does the company have a poor track record for execution, but its very capacity to continue operations may soon be limited by its lack of cash. Continue to stay on the sidelines here.

Q1 download: membership gains drive positive revenue comp, but losses remain flat

Let's dig deeper into YogaWorks' Q1 results. The earnings summary is shown below:

Figure 2. YogaWorks 1Q19 results

Source: YogaWorks 1Q19 earnings release

The highlight of the quarter, of course, was the fact that the company managed to turn around revenue growth and hit $15.7 million in revenues (+1% y/y), slightly ahead of Wall Street's expectations of $15.5 million (0% y/y).

The big driver behind the revenue beat was a jump in memberships, which increased 14% sequentially relative to Q4, and +11% y/y. Management noted that this is due to the fact that YogaWorks began to discontinue its offering of deeply discounted class packages, and instead focused on selling memberships - which typically have higher customer lifetime values.

YogaWorks also reported that total visitors rose 5% y/y, a sharp acceleration over the 1% y/y growth the company reported in Q4. Note also that the studio count at quarter-end was 68, which indicates two more studios relative to 66 in the year-ago quarter.

Rosanna McCollough, YogaWorks' CEO, also noted on the Q1 earnings call that YogaWorks' pipeline of new leads and referrals remains robust (key points highlighted):

"Maintaining diverse programming is very important to us, as we attract one of the broadest demographics of ages and abilities to our studios over any other boutique fitness concept, which is a major strategic advantage of our brand. Next, we continue to create demand and drive traffic to our studios through marketing initiatives. We are pleased with the results of our efforts to gain new customers and have allocated additional resources in this area. Our continued optimization of our digital ad strategy is showing strong results. We increased total leads by 20% and grew our leads from Digital Media by 65% compared to Q1 of last year, and we successfully reduced our cost per lead by over 10% percent. This investment in marketing once again is designed to drive a larger membership base that will fuel our margin expansion."

In spite of stronger revenues, however, YogaWorks' loss profile remained fairly constant. Operating losses of -$3.3 million appear improved relative to -$3.9 million in 1Q18, but we note that most of this improvement is due to a reduction in depreciation and amortization charges. Cost of revenues and center operations costs, meanwhile, ticked up.

Implications of piling losses on YogaWorks' liquidity

Unlike for many other recent IPOs for whom growing losses are only a theoretical discomfort due to their rich cash balances, YogaWorks' losses actually present a near-term problem.

In Q1 alone, YogaWorks burned through -$4.7 million in operating cash flow and another -$0.7 million in capex, implying -$5.4 million in free cash flow:

Figure 3. YogaWorks FCF

Source: YogaWorks 1Q19 earnings release

This FCF profile implies a staggering -34% FCF margin. And if repeated next quarter, YogaWorks would burn through nearly the entirety of its remaining $6.1 million of cash:

Figure 4. YogaWorks balance sheet

Source: YogaWorks 1Q19 earnings release

Note that this is a company that has historically chased growth via studio acquisitions. The company's modus operandi is to enter new markets by buying out new studios at generous prices. On a same-store basis (which is what YogaWorks' Q2 guidance assumes), YogaWorks is incapable of delivering growth. Yet, if the company is running out of cash, neither can it acquire new studios to purchase growth. And without operating at a larger scale, it's unclear if YogaWorks can improve its operating efficiencies enough to turn around its massive net income and FCF shortfalls.

Key takeaways

Despite the appearance that YogaWorks has embarked on a turnaround due to its positive revenue growth and solid membership metrics, the company still hasn't solved its core operating issues. Studio operations costs remain elevated, causing the company to burn through millions in free cash flow per quarter.

Unfortunately, YogaWorks has only $6.1 million in cash left to burn. It's unlikely that any lender would be willing to extend credit to a company with such glaring losses, and with stock prices still hovering around $1, it's unlikely that YogaWorks can raise equity capital either. In my view, YogaWorks' post-earnings rally is just a dead cat bounce - it won't be long before YogaWorks' cash balances dry up and the company heads back to zero.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.