Rci Hospitality Holdings, Inc. Q4 FY2022 Earnings Call

Good afternoon and welcome to the earnings call that you've all been anticipating. We'll start shortly, so please stay tuned while we get everything set up. I want to acknowledge Dean from RCI, along with Josh Brooks and Gary, who is known for his insightful questions. We'll begin in approximately 30 seconds once we have a few more participants. While we're waiting, it would be great if everyone could retweet this Space to attract as many attendees as possible, especially following the recent significant economic data. We have many Spaces running, but this one is particularly important. Adam Wyden just joined, along with David. Let's commence. Welcome to RCI Hospitality Holdings' Fourth Quarter and Fiscal 2022 Earnings Call. You can access RCI's presentation on the company's website by clicking on Company and Investor Information under the RCI logo, which will take you to the information page where you can find all the necessary links. This will also be available in the tweet pinned to the top of this Space. Please turn to slide two of our presentation. I'm Mark Moran, CEO of Equity Animal, and I will be your host today. Joining me are Eric Langan, President and CEO of RCI Hospitality, and Bradley Chhay, CFO of the company. Please look at slide three. If you're not already doing so, it's easy to participate in the call on Twitter Spaces. Go to the @RicksCEO handle and select the space titled $RICK FY22 Earnings Call. If you wish to ask a question, please join the Twitter Space using a mobile device. For listen-only access, you can join through a personal computer. RCI is also providing listen-only access via traditional landline and webcasting. Currently, all participants are in listen-only mode. A question-and-answer session will follow. This conference is being recorded. Now, please refer to slide four. I want to remind everyone about our Safe Harbor statement, which advises that you may encounter forward-looking statements involving risks and uncertainties. Actual results could differ significantly from what is anticipated. We do not undertake any obligation to update the information shared during this call as new developments arise. Now, please turn to slide five. I direct you to our explanation of non-GAAP measurements. I also invite everyone in the Greater New York City area to join Eric, Bradley, and me tonight at 7 o'clock to meet management at Rick's Cabaret, New York, one of RCI's highest revenue-generating clubs. Rick's is located at 50 West 33rd Street, between Fifth Avenue and Broadway, just a little inside from Herald Square. If you RSVP'd, please ask for Eric, myself, or our bullish intern at the door. Now I’m happy to introduce Eric Langan, President and CEO of RCI Hospitality. Eric, the floor is yours.

Thank you, Mark. Thanks for joining us today. Please turn to page six for today's news. We had a great fiscal 2022 and look forward to a strong fiscal 2023. A big thanks goes out to our team members for making this possible. We couldn't have done it without you. Year-over-year for the fourth quarter and fiscal 2022, our key metrics continue to increase on a double-digit percentage basis. This resulted in strong growth of free cash flow and adjusted EBITDA, driving future growth. We are now a much larger company and have been working on a larger agenda of growth initiatives. In fiscal 2023, our Nightclub business should benefit fully from the 15 clubs acquired and the two reopenings from fiscal 2022. We will also add this year's Heartbreaker acquisition, the pending acquisition of the Baby Dolls and Chicas Locas chains, and other potential acquisitions. Additionally, we are developing the new Rick's Cabaret Steakhouse and Casino in Colorado. For Bombshells, we have six company-owned or franchise locations in development set to start coming online over the course of fiscal 2024. I'll return to provide more details and answer questions later. For now, here's Bradley to review the financials.

Thanks Eric and good afternoon everyone. I'll highlight a few key figures from this slide. Total revenues for the quarter were $71.4 million, which is an increase of 29.9%. For the year, revenues reached $267.6 million, up 37.1%. Free cash flow for the quarter was $14.5 million, reflecting a growth of 71.6%, while for the year it amounted to $58.9 million, up 63.3%. Adjusted EBITDA for the quarter was $24.2 million, an increase of 37.8%, and for the year it was $86.7 million, a rise of 44%. Non-GAAP EPS for the quarter standing at $1.45 represents a decline of 8.2% year-over-year, mainly because our effective tax rate increased to 23.4% this year from 11.7% last year, and we also had 2.8% more weighted average shares outstanding as a result of the Lowrie acquisition. For the year, the non-GAAP EPS was $5.38, representing a nearly 32% increase. Moving to page seven, our fiscal 2022 performance reinforces our strong track record since we adopted our capital allocation strategy, benefiting our long-term shareholders. We initiated this strategy at the end of fiscal 2015. Our free cash flow has grown at a compound annual growth rate of 22%, while we have reduced our weighted average shares outstanding by 1.5% annually. Our free cash flow conversion rate has gone up from 11% to 22% of revenues since 2015. We also managed to overcome our greatest challenge, which was COVID, during fiscal years 2020 and 2021.

Thank you, Bradley. Yesterday, we announced the signing of definitive agreements to acquire two Baby Dolls and three Chicas Locas, adult night clubs and their real estate in the Dallas Fort Worth and Houston markets. Closing is expected in January. This will be our second-largest acquisition after the 11 clubs we bought in October of 2021. The price of $66.5 million, consisting of $25 million in cash, $25.5 million in 10-year 7% seller financing, and 200,000 restricted shares of common stock valued upon closing at $80 per share. We expect to generate $11 million of EBITDA in the first year before locations are open with the fifth being remodeled, and RCI anticipates expanding operations of two of the locations. Once remodeling expansions are complete, EBITDA is expected to grow to $14 million to $16 million annually. This is a group of well-established, well-run classic Texas Gentleman's clubs that are proven cash generators. We look forward to bringing them as part of our family and our portfolio and welcome their management teams to the RCI family. They are some of the best in the industry and will enable us to continue to grow at an increased rate from 2023 and beyond.

Hi, good afternoon guys. Thank you for taking my question. Eric, first, can you remind us where your comfort level is around leverage? I'm trying to judge what the capacity is for additional transactions in calendar 2023 beyond yesterday's announcement.

Yes. Typically, my comfort zone is around three. Some analysis shows that because so much of our real estate is owned, we could actually push closer to four times, but historically, we've kept us around three. I think the highest we've ever been is about 3.14 times EBITDA. So, we're right now, I would guess, in the two and 2.25 range. So, we still be in pretty good shape at this point. Yes, the total investment will likely be between $1.5 million and $2 million for remodeling and upgrading systems like security. Additionally, there will be around $5 million for the slot machines. We plan to own most of our machines instead of pursuing profit sharing or leases, as well as the table games. I estimate another $1 million for other expenses, bringing the total investment to about $10 million. The licensing process in Colorado typically takes between nine and 18 months, and we anticipate it will be around 12 months. We hope to open by this time next year and will start the build-out and remodeling as soon as we complete the background check, which should take about 90 days. We submitted our license application on November 28th, but with the holidays, there may be a slight delay. We are optimistic that construction will commence in April, May, or June, and we aim to have everything completed and set up by the end of September, pending our temporary license approval for purchasing games and setting everything up for inspections. After that, we will just be waiting for the final license to be approved to officially open.

Thank you very much, Eric and Bradley. I want to encourage everyone to retweet this Space before we begin our highly anticipated Q&A session. To start off, we will take questions from Rick's analysts, followed by some of our larger shareholders, and we hope to address all questions from everyone in the audience. We have Scott from H.C. Wainwright, Lynne from Water Tower Research, Rob from Granite Research, and Anthony from Sidoti. First, let's have Scott come up to the mic.

Hi, good afternoon guys. Thank you for taking my question. Eric, first, can you remind us where your comfort level is around leverage? I'm trying to judge what the capacity is for additional transactions in calendar 2023 beyond yesterday's announcement.

Yes. Typically, my comfort zone is around three. Some analysis shows that because so much of our real estate is owned, we could actually push closer to four times, but historically we've kept us around three. I think the highest we've ever been is about 3.14 times EBITDA. So, we're right now, I would guess, in the two and 2.25 range. So, we still be in pretty good shape at this point.

Thank you, Mark. Eric, could you provide insights on Central City regarding your revenue and EBITDA goals and the timeframe for ramping up from the day the facility opens?

I believe our opening will resemble a typical Bombshell launch, where we perform exceptionally well in the first three to six months. After that, we will likely stabilize as we lose the novelty of being the new establishment, before gradually ramping back up. To provide some context, the average slot machine in Central City generates around $150 in revenue. With their 1,700 machines collectively earning just over $1 billion, if we capture 10% of that, we could aim for around $100 million in wagers with roughly 175 machines. That translates to approximately $8 million in slot revenue. When we factor in table games, our nightclub, and steakhouse, we could start with total revenue between $10 million to $14 million. Ideally, our margins will be between 30% to 40%. Also, if we can take market share in Black Hawk, which is adjacent and has casinos reporting up to $400 per machine daily, our projections could range from $12 million to $14 million and potentially as high as $35 million to $45 million in total revenue. However, it's too early to tell, and we need to observe customer behavior during late hours, especially with the current lack of entertainment options in that area. We are situated in an exceptional location, right at the end of the casino parkway, making our venue highly visible. Considering all of this, our potential revenue estimates are ranges, and we won't know for sure until we begin operations. The total investment is relatively low at about $10 million. Even if our revenue is at the lower end, yielding a 30% margin, we would still see around $3 million in EBITDA per year, which aligns well with our financial targets, and there is significant potential to exceed our expectations.

Thank you very much, Eric. And once again, I'd like to encourage everyone to retweet this Space and share your thoughts. It's crucial that we keep our engagement high. Let's take the next question.

Yes, good afternoon and thank you for taking the question. So, Eric, I would love to get your take as to what you're seeing thus far in this current quarter, given that you're only a couple of weeks away from closing the first quarter. Can you just give us an update as to what you're seeing in terms of traffic or same-store sales, both for the clubs and Bombshells?

Yes, I mean it's definitely a tough market right now. What we're seeing is a kind of a small drop off of what I would call the blue collar customer, basically our lower-margin customers but most of that is being made up by our high-margin customers and VIP spend at this time. So, the numbers have been very steady as far as revenue-wise with the previous quarter. I was kind of hoping we'd get an increase. We'll kind of see how the next couple of weeks so we've got a lot of Christmas parties that happen between now and the 24th or 23rd really. So, we'll see how those Christmas parties go, how much business they bring in and what that looks like. But so far, I think we're going to be pretty close on revenue-wise with analyst expectations. And I think that because of the higher in spend, hopefully, our margins will stay steady as well.

Okay, yes. Thanks for that. And then in terms of Bombshells' operating margins, even excluding some of those non-recurring items. I mean, they were in the mid-teens, I would say. I think in the past; you've talked about the operating margins for Bombshells. You wanted them to be in the 20% range. So, how should we think about segment profitability going forward for Bombshells?

Yes, I've always stated that our target is between 18% and 22%. I believe that once they mature, we will be within that range. Currently, we are at the lower end of that spectrum, but this is typically our weakest quarter. Historically, the fourth quarter has performed the least well. We will monitor how things progress in October, November, and December. We are actively making some changes, such as introducing more drink specials and higher-margin appetizer specials, which will allow us to offer discounts without significantly affecting our margins or profitability. We are starting to implement these strategies in some of our blue-collar clubs nationwide to drive more customer traffic. Notably, Bombshells relies very little on traditional marketing; we mainly use social media. However, we are exploring potential marketing partnerships and other initiatives for Bombshells to help enhance traffic as well. Even in a worst-case scenario, we expect to maintain the 18% to 22% range. It’s great when we have particularly strong months or events that can elevate our performance to 20%, 24%, 25%, or even 26%. Overall, I believe our average will remain within the 18% to 22% range.

All right. That's very helpful color. And then I guess my last question before I jump back in the queue. So, you will be spending certain money on the Central City and some other initiatives. Can you give us a sense as to how much you look at the spend for CapEx and if you have a maintenance CapEx number for fiscal 2023, that would be very helpful?

I don't have an exact CapEx figure. However, we plan to invest around $200 million annually for the next three years, aiming to be close to that amount. Last year, we invested about $141 million. The maintenance CapEx is typically around $5 million to $6 million per year, and I don't anticipate that will change significantly this year compared to last year; it should remain the same.

Thank you very much. I encourage everyone to retweet this Space before we move on to the Q&A section. I want to take a moment to do two things. First, please retweet this Space to help us attract as many people as we can, following the lead of others who have had successful retweets recently. Now, I will open the floor to anyone who would like to ask a question, and we invite you to do so. To start, we'll hear from Adam Wyden, the largest shareholder of RCI from ADW Capital. Adam, the floor is yours.

Can you hear me now?

We can hear you now.

It's been a challenging three years. I remember back in March 2020, driving and seeing the lines out the door while my analysts warned me that the company was headed for bankruptcy and advised me to sell my shares. Fortunately, that analyst no longer works with me, and I remain a shareholder. It's been an incredible journey, and the team has consistently raised the bar. I thought Lowrie was exceptional, and now you have Baby Doll, Cheetah, and Playmates. For anyone who knows me, it’s clear I'm striving to elevate standards as well. So, I want to turn the question back to you. You've had this relationship with Lowrie and wanted the business for a long time. After going private, you managed to integrate it, and Lowrie is now generating profits. What’s next? I understand you’ve got the casino, but are there groups achieving significant EBITDA? We are aware of a certain large player in the industry. What comes next? You've invested considerable time and resources in building this platform and achieving scale, and now the marketplace is acknowledging your efforts as sellers engage. You have the cash flow to support acquisitions, which previously required years of saving for M&A financing. Now, with $120 million in EBITDA and $9 to $10 per share in free cash flow, you can use internally generated cash to fund M&A. So, where do we stand in reaching that next level of size and corporate growth?

I mean there's a lot of acquisitions out there. We're talking with a lot of owners. Some are small, some are large. It's really about the seller being ready to sell. I've been doing this for a long time. I meet with a lot of owners. Some say they want to sell, but after meeting with or a while, I can tell that they're just not ready to let go. Some of these guys have been running these clubs for 30 years and their babies. So, it's difficult for them to make that final decision to go ahead and sell, but they're coming around. Part of it is it's more convincing that you're joining the RCI family versus selling your club and retiring. Those some of them are, but of course, they're concerned with the people that have worked with them and been with them for 20 and 30 years. They want to make sure they have opportunities. And I think it's convincing as they see the deal we do with Lowrie and now this studio and some of the other deals that we've done in the past where they see the employees and the staff have done very well with RCI and moved up and moved up in our ranks and become better for themselves, even better for those people. The opportunities are there for them. I think that's starting to have some effect. It definitely did in the Baby Dolls. I know they're very worried about their management team because they have a great management team there. And we want to bring that management team and we don't want to lose that management team. We want that management team to stay with us because we need those types of people to continue to grow, especially as we've accelerated our growth rate. Typically, our goal is 10% to 15%, but we're actually pushing to grow at 30% plus for at least a three-year period here, and then we'll revamp and see where we're at. I think 2023's growth is pretty much in the bag. We've been working very hard on 2024 with new stuff, with the new Bombshells, with the new Rick's Cabaret Steakhouse Casino. But we're also still lining up acquisitions. We're talking with the operators of all sizes from $1 million EBITDA deals to $30 million EBITDA deals that we're talking with guys on right now and there's a lot of guys in between. A lot of smaller $3 million, $5 million, $6 million, $8 million, $10 million, $12 million guys that are out there. And so we're trying to reach out to some of them. Some of them are reaching out to us, and we'll find the right deals as we need them and continue to grow so.