Earnings Call Transcript - PLNT Q3 2022

Operator, Operator

Hello, everyone, and welcome to the Planet Fitness Third Quarter Earnings Conference call. My name is Emily, and I will be coordinating your call today. I will now turn the call over to Stacey Caravella, VP Investor Relations. Please go ahead, Stacey.

Stacey Caravella, VP Investor Relations

Thank you, Operator, and good morning, everyone. Speaking on today's call will be Planet Fitness Chief Executive Officer, Chris Rondeau; and Chief Financial Officer, Tom Fitzgerald, both of whom will be available for questions during the Q&A session following the prepared remarks. Today's call is being webcast live and recorded for replay. Before I turn the call over to Chris, I'd like to remind everyone that the language on forward-looking statements included in our earnings release also applies to our comments made during the call. Our release can be found on our website, investor.planetfitness.com, along with any reconciliation of non-GAAP financial measures mentioned on the call with their corresponding GAAP measures. I'd also like to invite everyone to listen in to our Investor Day on Tuesday, November 15. You can find details on timing and the link to the webcast on our Investor Relations website. Now, I'll turn the call over to Chris.

Chris Rondeau, CEO

Thank you, Stacey, and thank you, everyone, for joining us for today's call. We ended the quarter with more than 16.6 million members, an all-time high, and added 29 new locations during the quarter, growing our total store base to 2,353. We continue our steady recovery out of the pandemic. Member trends have remained strong with Q3 joins back to historical pre-COVID seasonality. Members were visiting the gym more frequently, and cancellations are lower compared to 2019, which we believe are signs that members are more committed to fitness. We recently hosted our Franchise Conference, and the energy was amazing as we were back to meeting in person for the first time in three years. The theme of the conference was 'Unstoppable,' highlighting our ability to succeed over the past 30 years through all types of economic and political climates. While the industry reported that 25% of health and fitness facilities have closed due to COVID, given the strength of our model and franchise systems, we survived the dynamic without a single permanent store closure, emerging even stronger with tremendous opportunity for future growth. While all age generations are nearly back to or above their pre-pandemic penetration levels, a major topic of prior presentations during the conference was our efforts to continue to increase our penetration of all generations with a strong focus on Gen Z. We're excited about the potential long-term opportunity we have with Gen Z, as evidenced by the 3.5 million teens who signed up for the High School Summer Pass program. When the program ended in August, more than 14% of all high school-age teens in the U.S. used the High School Summer Pass. Not only did they enroll in the program, teens logged 17 million workouts. We made the sign-up process even more seamless this year, allowing teens to register online, which enabled us to connect with them and their parents or guardians. In fact, our app topped the most downloaded list of apps in the Apple Store during the initial days following the launch. Through a targeted acquisition strategy, we began reaching out to teens and their parents and guardians throughout the summer via email and text messaging with an offer of one month free if they joined as paying members once the summer was over. To date, nearly 300,000 teens and their parents or guardians have joined for a total conversion rate of 5%, helping to drive member growth in the third quarter. We're already outpacing the conversion rate we had in 2019, the last time we ran a similar program. And we have a much bigger base, more than 3.5 times the participants we experienced in 2019. We continue to market to them and believe that once they have joined a gym, Planet Fitness will be top of mind. Along with our franchisees, we are focused on gearing up for our Q1 marketing plans. Pre-pandemic, we would typically get 60% of our full-year net membership gains in Q1. We look forward to the first quarter of 2023, which we're planning to be our first uninterrupted Q1 in four years without any impact from COVID. For the eighth year in a row, we will once again be the presenting sponsor for the Times Square New Year's Eve celebration. We are the longest-running sponsor as well as the only gym company ever, given our marketing size and scale advantage. This will also kick off our January national brand campaign focused on reinforcing the benefits of working out, such as mental wellness, managing stress, and improved sleep, as well as a post-workout positive energy feeling. As you heard on our second quarter call, the percentage of mature stores that have recovered and surpassed previous notions remains stable at around mid-30%, but we added to overall membership counts. Given our cycle of join seasonality, we don't anticipate this to move significantly until the first quarter when we typically see high net member growth. The system-wide rollout of the Black Card price increase in May from $22.99 to $24.99 continues to outperform the test results. While the pricing increase is only for new joins, it is driving up our overall average rate. 30% of our 8.2% Q3 comp growth was driven by rate, with the balance coming from net member growth. This helps our franchisees and corporate stores segment partially offset increased operational costs experienced in the last couple of years. Yesterday, we announced the promotion that if you join as a Black Card member between November 7 and November 15, you'll receive a free Halo View, Amazon's fitness and health wearable tracker. We're excited about this collaboration and we continue to explore possibilities for working with other well-known large brands in adjacent categories in the fitness industry. We believe that we are an attractive brand partner given our size and scale and the diversity of our more than 16.6 million members across gender, age, income, and other attributes. Lastly, I'm excited about our recent announcement that we promoted Jen Simmons, previously Senior Vice President of Business Strategy and Analytics, to Division President of Corporate Clubs; and that Paul Barber has joined as our Chief Information Officer. Jen has been with Planet for nine years and has built the business strategy and analytics functions from the ground up, using data and analytics to develop and drive our overall corporate strategies. We look forward to her leadership of the corporate store fleet, driving performance through insights that will help benefit the entire franchise system. Paul will lead our technology evolution and strategy to deliver technology solutions that will continue to enhance the member experience, while optimizing infrastructure, data, and operations for flexibility and scale. Our search for a President is still underway, but I feel good about our organizational structure. I believe that we have the leaders in place who will drive our next phase of growth as we emerge even stronger post-pandemic. We also look forward to discussing this in more detail at our Investor Day next week. I'll now turn the call over to Tom.

Tom Fitzgerald, CFO

Thanks, Chris, and good morning, everyone. Through the third quarter of this year, we have repurchased 1.5 million shares, inclusive of a $50 million share repurchase that we executed in Q3 at an average price of $61.68, which we believe underscores the strength of our balance sheet only two years after having all of our stores temporarily closed due to the pandemic. We also announced this morning that our Board of Directors approved a new $500 million share repurchase authorization that replaces the existing one from 2019. We believe this is another signal of our confidence in the reliability and consistency of our asset-light model to generate significant free cash flow. Now I will cover our Q3 results. All of my comments regarding our quarter performance will be comparing Q3 2022 to Q3 of last year, unless otherwise noted. We opened 29 new stores compared to 24 last year. We had positive same-store sales growth of 8.2% in the quarter. Franchisee same-store sales grew 8.1%, and our corporate same-store sales increased 9.7%. As a reminder, same-store sales for the Sunshine Fitness franchise stores that we acquired in Q1 of this year will not be reflected in our corporate-owned same-store sales until February 2023, but they will continue to be reflected in our system-wide same-store sales, consistent with how we've treated prior acquisitions. Approximately 70% of our Q3 comp increase was driven by net member growth, with the balance being driven by rate growth. The rate growth was primarily driven by a 5 basis point increase in our Black Card penetration to 62.9%, as well as our recent price increase in May from $22.99 to $24.99. As a reminder, the Black Card price increase that we took in May was for new joins only, so that should slowly begin to drive up average monthly dues over time. For the third quarter, total revenue was $244.4 million compared to $154.3 million. The increase was driven by revenue growth across all three segments. The 7.1% increase in Franchise segment revenue was primarily due to an increase in royalties from same-store sales growth and the new stores. Partially offsetting the increase was a decrease of approximately $2.6 million as a result of the stores acquired in the Sunshine Fitness transaction moving from the Franchise segment to the Corporate-owned segment, higher NAF expenses, and the higher equipment placement expense. For the third quarter, the average royalty rate was 6.4%, which was flat to the prior year period. The 131% increase in revenue in the Corporate-owned store segment was primarily driven by the Sunshine Fitness acquisition, as well as same-store sales growth and the new store openings. The Equipment segment revenue increased 78%, driven by higher equipment sales to existing franchisee-owned stores. For the quarter, replacement equipment accounted for approximately 75% of total equipment revenue, which was higher than we typically experience, largely due to re-equips that shifted from Q2 to Q3 of this year, due to COVID-related supply chain disruptions in China earlier this year. We completed 28 new store placements in Q3, flat to last year. Our cost of revenue, which primarily relates to the cost of equipment sales to franchisee-owned stores, amounted to $48.5 million compared to $27.1 million. Store operations expense, which relates to our Corporate-owned store segment, increased to $57.9 million from $27.8 million, primarily due to the additional stores from the Sunshine acquisition. SG&A for the quarter was $27.1 million compared to $23 million. Payroll costs primarily drove this increase with the addition of the Sunshine Fitness team, as well as increased travel expense and expenses related to our Franchisee Conference. National Advertising Fund expense was $17 million compared to $15.6 million. Net income was $30.7 million; adjusted net income was $38.2 million; and adjusted net income per diluted share was $0.42. A reconciliation of adjusted net income to GAAP net income can be found in the earnings release. Adjusted EBITDA was $93.9 million, and adjusted EBITDA margin was 38.4% compared to $61.7 million and adjusted EBITDA margin of 40.0%. A reconciliation of adjusted EBITDA to GAAP net income can be found in the earnings release. We are no longer excluding pre-opening costs from our adjusted EBITDA, adjusted net income, and adjusted earnings per share. In the reconciliation, you'll find the prior year period restated reflecting this change. By segment, franchise adjusted EBITDA was $53.5 million, and adjusted EBITDA margin was 66.3%. Corporate store adjusted EBITDA was $39.6 million, and adjusted EBITDA margin was 38.4%. Equipment adjusted EBITDA was $15.8 million, and adjusted EBITDA margin was 25.4%. Now turning to the balance sheet. As of September 30, 2022, we had total cash and cash equivalents of $467.2 million compared to $603.9 million on December 31, 2021, which included $62.7 million and $58 million of restricted cash in each period. As I mentioned earlier, during the quarter, we used $50 million to repurchase approximately 830,000 shares. Total long-term debt excluding deferred financing costs was $2.0 billion as of September 30, 2022, consisting of our four tranches of fixed-rate securitized debt that carries a blended interest rate of approximately 4%. Finally, to our 2022 outlook. As a reminder, our view assumes there is no material resurgence of COVID that causes member or supplier disruptions, whether it be a shutdown or more stringent mandates that result in a significant change in membership behaviors. In our earnings press release this morning, we reiterated and updated our growth targets for the year. We continue to expect system-wide same-store sales growth in the low double-digit percentage range. We decreased our outlook for equipment placements in franchisee-owned locations from approximately 170 to a range of 150 to 160. This update primarily reflects a worsening of the HVAC supply chain issue. We're continuing to monitor the situation carefully, but we do expect that some placements that we thought would happen in 2022 will now take place in early 2023. We now expect revenue to increase in the high-50% range. Previously, we expected it to increase in the mid-50% range. This revision reflects our better insight into inventory availability to meet franchisee demand for re-equips. We now expect adjusted EBITDA to increase approximately 60%, adjusted net income to increase in the low-100% range, and adjusted earnings per share to increase in the mid-90% range. Previously, we expected adjusted EBITDA growth in the high-50% range, adjusted net income growth in the low-90% range, and adjusted earnings per share in the mid-80% range. Our adjusted EPS guidance is based on diluted shares outstanding of approximately 90.5 million, inclusive of the issuance of equity as part of the Sunshine acquisition and share repurchases through the third quarter. We also continue to expect 2022 net interest expense to be approximately $86 million, which reflects our first quarter debt refinancing and upside. As Chris said, we are looking forward to a solid Q4, and assuming there is no virus resurgence, we are optimistic that we will have a strong January and Q1. I'll now turn the call back to the operator to open it up for Q&A.

Randy Konik, Analyst

I guess, Chris, a question for you. You mentioned in your commentary the change in utilization patterns that you saw. It moved up, and your cancellation rate moved down. It sounds like it was significant in trend, so I just wanted to understand how that is changing sequentially? Sounds, again, significant, and what you think is driving that change in those two items?

Chris Rondeau, CEO

Yes, this trend has been somewhat consistent, almost coming out of COVID, where the people that are working out are working out more than they were previously. You probably remember since the IPO, the average person is working out about five times a month, now it's up to six times a month. And so I think that's kind of staying there. But the cancellation rate is right; I think people are just more committed, so it has fallen slightly from the past. So both trends are very good, mostly for the longer term because attrition gets better, and joins continue to flow like they're flowing, which is just going to add more base.

Randy Konik, Analyst

Got it. That's really helpful. I have a question for Tom. While we haven't shared how many Teen Summer Challenge members might transition to paying members over time, I want to understand the conversions based on the experience from 2019 when this program last ran. Back then, 25% of the participants became members. Can you provide some insight into the timeframe for these conversions? Specifically, when should we start seeing them take place in 2022 and 2023?

Chris Rondeau, CEO

Right. Randy, this is Chris. When we mentioned the 25%, that figure refers to the period from the end of the program in 2019 through the COVID years, which was about three years ago. We reported that approximately 11% of the participants are still members today, along with about 5% of the parents remaining as members. So, it's been three years since then. Currently, we are performing better in terms of conversion rates compared to the end of 2019. If you compare the time from the end of the program in 2019 to now, our conversion rates are higher than they were back then. This suggests that the trend for Gen Z joining is moving in a positive direction, especially since we’ve integrated more technology in our messaging and emails, facilitating digital sign-ups. Therefore, I believe this trend will continue to improve over the next couple of years.

Tom Fitzgerald, CFO

Yes. And maybe one thing, Randy, as Chris said in his prepared remarks, that conversion rate is not only ahead of where we were in 2019, but it's off a base that's 3.5 times larger. So the impact on membership is much greater.

Brian Harbour, Analyst

Maybe just a question on the replacement equipment revenue which seems like it's really picking up quite quickly. Is that something that you expect to continue in the fourth quarter and into next year? Or any kind of puts and takes there that we should think about?

Tom Fitzgerald, CFO

Yes. Brian, it's Tom. I'll start that. So I think part of the mix shift and it being 75% of the equipment revenue is because of the shifting of reequips from Q2 to Q3 because of the Shanghai shutdown. So it pushed reequips into Q3, along with some of the supply chain issues moving the new stores around a little bit. So for the year, maybe this is the direct answer to your question. For the year, with the change in our placement outlook, we believe reequips will be closer to 60% of total equipment revenue compared to where we were saying before, it would be closer to 50-50.

Brian Harbour, Analyst

That's helpful, yes. Regarding new unit openings, could you share your thoughts on whether the HVAC issues will start to resolve next year? Is there a possibility of a backlog at the end of the year, or are there other factors affecting openings this year?

Tom Fitzgerald, CFO

No. The issue this year primarily is the HVAC issues. And from what we hear, no one yet knows when it will abate or go away. I think it's a combination of changing standards catching the manufacturers off guard a little bit, but also the Shanghai shutdowns and continuing sort of rolling lockdowns here and there in China. So we were in discussions with some larger franchisees here recently, and the frustrations continue because you sort of don't know until it's too late in the cycle. So we'd love to say it's going to end in Q1, but we're not in any position to say we know when it will end. Hopefully, it's sometime in '23, but all manufacturers, all big manufacturers are telling us they don't yet have a firm commitment on when it will return to normal, so to speak.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that stands out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There is growing enthusiasm regarding the trends we're observing, especially with Gen Z and their increasing likelihood to join. This is all positive news. Additionally, some discussions have focused on the rising costs associated with build-out and construction, which have seen inflationary pressures. Fortunately, our model is capable of managing these challenges. While we do not wish for expenses to rise, it is currently a reality. Whether those costs will decrease over time remains uncertain, and we cannot predict that with certainty. Overall, people are eager to converse about the future. Although the pandemic is not completely behind us, many are contemplating ways to get back on track with real estate, marketing, sales, and memberships to previous levels. We are making good progress in that direction, which is encouraging. There is optimism and excitement about returning to business, especially when inflationary costs related to build-out and construction begin to decline. I believe this will only enhance our momentum.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the frequency of visitations? Have you guys revisited that? Or were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the clubs?

Chris Rondeau, CEO

I think the only thing that we're looking at now preliminarily but looking at a lot of data to analyze is the change in our membership base. If you go back pre-COVID, Gen Zs were our smallest segment of our member base. The next was the Boomer, Boomer Plus generation, which is Boomer and Silent. Today, they're our second largest part of our member base, believe it or not. So it's grown substantially over the last three years. So we're paying attention now just to look at some of their utilization of what they're using in the facility and is there some retooling slightly of just our equipment makeup. Is it ellipticals, or is it treadmills, or is it kettlebells and different functional training stuff, which functional training is definitely something with the younger generation? So just paying attention to some of that as the makeup of our base changes. But as far as the size of the box, no, I think that would be about the same but maybe just retooling inside the four walls.

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year, given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. So we're in contact with the large suppliers, Carrier, Trane, and so on. I think we're doing all that we can to get our fair share, more than our fair share of that. The problem is, unlike with equipment, we don't have a real preferred supplier relationship there. It's something we're looking into. But we're opening stores. It's not like there are none. There's just not as many as we need. We've done all that we can to try to secure equipment in advance. Many of our franchisees, as we've talked to them, are actually looking to refurbish or keep the equipment there if they can via code and just wait until more supply is available and then replace it. They tend to like to replace it all at once so they don't have to worry about going back in and doing it a year or two later. So I'd say we're doing everything possible as the franchisor and working with our franchisees and with the suppliers to secure what we can. It's just the demand exceeds the supply. And I know we're not alone. We're hearing it from other multiunit folks trying to open new units. So I wish I had a better answer on when it will end. It's not a forever thing for sure. It's just we're not sure exactly when it will return back to normal, as I said previously.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There is growing excitement about the trends we're observing across all generations, particularly with Gen Z, as their willingness to join increases. Additionally, some discussions touched upon the rising costs associated with build-outs and construction, which our model can manage despite the inflationary pressures. While we do not wish for expenses to rise, they are currently increasing. We hope they will decrease over time, but we cannot predict when that will happen. Overall, people are eager to discuss the future. The pandemic isn't completely behind us, yet many are focused on returning to normal in terms of real estate, marketing, sales, and membership. We are making good progress, which is encouraging. People are optimistic about getting back to business, and a reduction in construction costs would certainly be beneficial, adding momentum to our efforts.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

I think the only thing that we're looking at now preliminarily but looking at a lot of data to look at is the change in our membership base. If you go back pre-COVID, Gen Zs were our smallest segment of our member base, the next being the Boomer, Boomer Plus generation, which is Boomer and Silent. And today, they're our second largest part of our member base, believe it or not. So it's grown substantially over the last three years. So we're paying attention now just to look at some of their utilization of what they're using in the facility and is there some retooling slightly of just our equipment makeup. Is it ellipticals or is it treadmills or is it kettlebells and different functional training stuff, which functional training is definitely something with the younger generation? So just paying attention to some of that as the makeup of our base changes. But as far as size of box, no, I think that would be about the same but maybe just retooling of inside the four walls.

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We are in touch with major suppliers like Carrier and Trane, and we are doing everything possible to secure our share, and even more. The challenge is that, unlike with equipment, we don't have a strong preferred supplier relationship in this area, which we are currently exploring. We are opening new stores, but not as many as we ideally need. We have made efforts to secure equipment in advance. Many of our franchisees are considering refurbishing existing equipment to meet code requirements and waiting for more supply before making full replacements. They prefer to replace everything at once to avoid multiple disruptions later on. We’re doing all we can as the franchisor to collaborate with both our franchisees and suppliers. However, demand is currently outpacing supply, and we are hearing the same concerns from other multiunit operators trying to open new locations. I wish I could provide a definitive timeline for when this will improve. It’s not a permanent situation, but we are uncertain about when we will return to normal, as I mentioned earlier.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There’s a lot of excitement regarding the trends we're observing, particularly with Generation Z and their increasing willingness to participate. That's a positive sign. Additionally, we've discussed the rising build-out and construction costs, which are influenced by inflation. Fortunately, our model is capable of handling these challenges. While we don’t prefer to see expenses rise, it seems to be the reality for now. Whether these costs will decrease in the future is uncertain. Overall, there's a sense of enthusiasm about the future. Although the pandemic is not completely behind us, everyone is focused on getting back to normal with real estate, marketing, sales, and memberships. We are making good progress, which is encouraging. There is definitely a positive outlook for returning to business as usual once build-out and construction costs lower. This situation could ultimately provide us with additional momentum.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We are in touch with major suppliers like Carrier and Trane, and we are doing everything we can to secure our fair share. However, we lack a strong preferred supplier relationship in this area, which we are exploring. We are opening stores; there are some, but not as many as needed. We have tried to secure equipment in advance, and many franchisees are considering refurbishing existing equipment in compliance with code, waiting for more supply to replace it all at once rather than doing it piecemeal over time. As the franchisor, we are doing everything possible to work with our franchisees and suppliers to obtain what we can, but the demand greatly exceeds the supply. We recognize that other multi-unit operators face similar challenges when trying to open new locations. Unfortunately, I cannot provide a precise timeline for when the situation will normalize; it is not permanent, but we do not know when things will return to normal.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There is certainly excitement surrounding the trends we are observing, particularly with Gen Z and their increasing willingness to engage. This is encouraging news. Additionally, we've discussed the rising costs associated with build-outs and construction, which have been affected by inflation. Fortunately, our model is resilient enough to handle these challenges. While we don't prefer rising expenses, they are a reality for now. Whether they will decrease over time remains uncertain, but we hope they will. Overall, people are eager to discuss the future. Although the pandemic is not fully behind us, many are focused on reconnecting with real estate and revitalizing marketing, sales, and membership to previous levels. We are on a positive track, which is great to see. There is optimism and eagerness to return to business, and once build-out and construction costs decrease, it will certainly take things to the next level.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

Joe Altobello, Analyst

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We're in touch with major suppliers like Carrier and Trane, and we're doing everything we can to secure our fair share of supply. The challenge is that we don't have a strong supplier relationship in this area, which we're exploring. We are opening stores, though there aren't as many as we need. We've done our best to secure equipment ahead of time. Many of our franchisees are considering refurbishing existing equipment to comply with codes and waiting for more supply to become available before making replacements. They prefer to do it all at once to avoid repeated efforts in the near future. As a franchisor, we're committed to collaborating with our franchisees and suppliers to obtain what we can, but demand currently outstrips supply. We're hearing similar concerns from other multi-unit operators trying to open new locations. I wish I could provide a clearer timeline for when this situation will improve. While it’s not permanent, we don't have a definite answer on when things will return to normal.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There's certainly a lot of excitement about the trends we're observing across various generations, particularly among Gen Z, who are showing an increasing willingness to engage. Overall, that's very encouraging. Additionally, some discussions have touched on the rising costs associated with build-out and construction, which are influenced by inflation. Fortunately, our business model is equipped to handle these challenges. While we prefer not to see expenses rise, it is a reality for now. Whether these costs will decrease in the future remains to be seen. Nevertheless, there is a strong sense of optimism about what lies ahead. Although the pandemic is still a factor, many are focused on revitalizing real estate, marketing, sales, and membership levels to pre-pandemic status. We're making good progress in that direction. Enthusiasm is high, and there's hope that as construction costs decline, it will significantly enhance our operations.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

I think the only thing that we're looking at now preliminarily but looking at a lot of data to look at is the change in our membership base. If you go back pre-COVID, Gen Zs were our smallest segment of our member base, the next being the Boomer, Boomer Plus generation, which is Boomer and Silent. Today, they're our second largest part of our member base, believe it or not. So it's grown substantially over the last three years. So we're paying attention now just to look at some of their utilization of what they're using in the facility and is there some retooling slightly of just our equipment makeup. Is it ellipticals or is it treadmills or is it kettlebells and different functional training stuff, which functional training is definitely something with the younger generation? So just paying attention to some of that as the makeup of our base changes. But as far as size of box, no, I think that would be about the same but maybe just retooling of inside the four walls.

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We're in touch with major suppliers like Carrier and Trane, and we're doing everything possible to secure our fair share, if not more. The challenge is that, unlike with equipment, we don't have a strong preferred supplier relationship in this area, which we are currently addressing. We're opening stores, but not at the pace we need. We've made all efforts to obtain equipment in advance. Many of our franchisees are considering refurbishing or keeping existing equipment while waiting for more supply, as they prefer to replace everything at once to avoid future disruptions. We are doing our utmost as franchisors, collaborating with our franchisees and suppliers to acquire what we can. Unfortunately, demand continues to outstrip supply. We are aware that other multi-unit operators are facing similar challenges as they attempt to open new locations. I wish I could provide a clearer timeline for when this situation will resolve. It's not a permanent issue, but we're uncertain about when things will normalize, as I mentioned earlier.

Unidentified Analyst, Analyst

Chris Rondeau, CEO

There's definitely excitement surrounding the trends among all generations, particularly Gen Z and their increased willingness to engage. This is positive news. Additionally, some discussions touched on the rising build-out and construction costs that are influenced by inflation; fortunately, our model can adapt to these challenges. While we don’t desire for expenses to rise, it is currently the case. We hope that these costs will decrease over time, but we can't predict when that will happen. Overall, there is a strong sense of enthusiasm about the future. Although the pandemic is still ongoing, everyone seems focused on getting back to normal by investing in real estate and revamping marketing, sales, and membership efforts to return to previous levels. We are making good progress, which is encouraging. Everyone is optimistic about resuming business, especially hoping to see inflationary costs related to build-out and construction decrease. I believe this will only ignite further growth.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We are in contact with major suppliers like Carrier and Trane. We're doing everything possible to secure our share, or even more, of the supply. The challenge we're facing is that, unlike equipment, we don't have strong preferred relationships with these suppliers, which we are exploring. We are opening stores, though the number is not as high as we need. We've made efforts to secure equipment in advance. Many franchisees have informed us that they prefer to refurbish or maintain existing equipment according to code and wait for more supply to become available before replacing it entirely. They typically prefer to replace everything at once to avoid the hassle of doing it again in a year or two. I would say we are doing everything we can as the franchisor by collaborating with our franchisees and suppliers to secure what we can. Unfortunately, demand currently exceeds supply. We are aware that we are not alone in this situation; we are hearing similar concerns from other multi-unit operators looking to open new units. I wish I could provide a more definitive timeline for when this will resolve, but while it’s not a permanent issue, we are uncertain about when things will return to normal.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There's a lot of excitement about the trends we're observing, especially with Gen Z and their increasing willingness to join. This is all positive news. Additionally, we've had discussions about the rising costs associated with build-out and construction due to inflation, but our model is equipped to handle these challenges. While we don't want expenses to increase, it’s a reality we’re facing for now. Whether these costs will decrease in the future is uncertain, but overall, there's enthusiasm about what lies ahead. The pandemic isn’t completely behind us, yet everyone is focused on getting back to normal with real estate, marketing, sales, and memberships. We're making great progress and there's a lot of optimism about returning to business, and when costs do come down, it will certainly energize our efforts.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

I think the only thing that we're looking at now preliminarily but looking at a lot of data to look at is the change in our membership base. If you go back pre-COVID, Gen Zs were our smallest segment of our member base, the next being the Boomer, Boomer Plus generation, which is Boomer and Silent. And today, they're our second largest part of our member base, believe it or not. So it's grown substantially over the last three years. So we're paying attention now just to look at some of their utilization of what they're using in the facility, and is there some retooling slightly of just our equipment makeup. Is it ellipticals or is it treadmills or is it kettlebells and different functional training stuff, which functional training is definitely something with the younger generation? So just paying attention to some of that as the makeup of our base changes. But as far as size of box, no, I think that would be about the same but maybe just retooling of inside the four walls.

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll take that. We're in touch with major suppliers like Carrier and Trane, and we're doing everything we can to secure our fair share of supplies. The issue is that we don't have a strong preferred supplier relationship in this area, which we're exploring. We are opening stores, but not as many as we ideally need. We've worked hard to secure equipment in advance. Many of our franchisees are looking to refurbish or maintain their current equipment temporarily until more supply becomes available, preferring to replace everything at once to avoid multiple interventions later. As the franchisor, we're doing all we can to collaborate with our franchisees and suppliers to secure what we can. Demand currently exceeds supply, and we're not alone in this struggle; we're hearing similar concerns from other multi-unit operators opening new locations. I wish I could provide a clearer timeline for when this situation will improve. It's not permanent, but we’re uncertain about when things will return to normal as I mentioned earlier.

Unidentified Analyst, Analyst

Chris, you guys talked about the franchise conference. Can you just give us some more insight on what kind of conversations did you have in terms of how the franchises are feeling in terms of store openings or in terms of their financial health or anything else that kind of stood out that makes sense to discuss? That would be appreciated.

Chris Rondeau, CEO

There is a lot of enthusiasm regarding the trends we are witnessing among all generations, particularly Gen Z, and their increasing likelihood to participate. This is positive news. Additionally, some discussions highlighted the rising costs associated with construction and build-out, which are definitely impacted by inflation. Fortunately, our model is equipped to handle these challenges. While we do not wish for expenses to rise, it is the reality for now. Whether these costs will decrease in the future is uncertain, but we remain hopeful. Overall, people are eager to discuss the future. Although the pandemic is still ongoing, there is a collective focus on returning to normal with regards to real estate, marketing, sales, and membership levels. We are making significant progress, which is encouraging. There is optimism about returning to business operations, and hopefully, as build-out and construction costs decline, it will add even more momentum.

Unidentified Analyst, Analyst

Got it. Just to follow up on that, talking about real estate, like, is there anything new in terms of store formats or anything that makes sense to consider given the changing trends and the kind of frequency of visitations? Have you guys revisited that? Or like, were there any conversations with the franchisees in terms of the white space going ahead when it comes to the format of the books?

Chris Rondeau, CEO

Joe Altobello, Analyst

Just want to go back to the HVAC shortage situation. I guess, first, is there an opportunity to find alternate suppliers outside of China? And secondly, could it actually benefit your store openings next year given the shift in timing from this year and the assumption obviously that it gradually gets better?

Tom Fitzgerald, CFO

Joe, it's Tom. I'll address that. We are in contact with major suppliers like Carrier and Trane. We're doing everything we can to secure more than our fair share of supplies. However, unlike with equipment, we lack a strong preferred supplier relationship in this area, which is something we're exploring. We are opening stores, though not as many as we would like. We've made efforts to secure equipment ahead of time. Many of our franchisees are considering refurbishing existing equipment if feasible, waiting for more supply to replace everything at once, rather than doing it piece by piece later. As a franchisor, we're doing everything possible to work with our franchisees and suppliers to secure supplies, but the demand significantly exceeds the supply. We're aware that other multi-unit operators face similar challenges in opening new units. Unfortunately, I can't provide a precise timeline for when this situation will improve, but I can assure you it's not a permanent issue; we just don't know when things will return to normal, as I mentioned earlier.

Chris Rondeau, CEO

Thanks, everybody, for joining us today. Hopefully, you get to join us at the Investor Day next week. I'm really excited to wrap up the fourth quarter here as the Amazon Halo promotion goes, and the Times Square kickoff for New Year's Eve is an uninterrupted great first quarter. So I hope to see you all next week. Thank you.

Operator, Operator

Thank you, everyone, for joining us today. This concludes our call, and you may now disconnect.