What changed in this filing

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Item 2. Management’s Discussion and Analysis

2023-05-10 compared with 2023-02-09 · 180 added, 82 removed, 293 unchanged (47% of the section changed)

5 unchanged sentences

All services and management operations are conducted by subsidiaries of RCIHH, including RCI Management Services, Inc.

Through our subsidiaries, as of December 31, 2022, we operated a total of 64 establishments that offer live adult entertainment and/or restaurant and bar operations, including one food hall.

Through our subsidiaries, as of March 31, 2023, we operated a total of 71 establishments that offer live adult entertainment, including two that are under renovation/remodeling, and/or restaurant and bar operations, including one food hall.

We also operated a leading business communications company serving the multi-billion-dollar adult nightclubs industry.

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economy in general, with global inflation and supply chain disruptions impacting our businesses.

Geopolitical and macroeconomic events are still developing.

Toward the end of fiscal 2022 and continuing to the current fiscal year, geopolitical and macroeconomic events have impacted our operating results and cash flows by causing inflation on wages and other operating expenses.

In the event global inflation leads to a major economic downturn, our business operations and cash flow could be significantly affected.

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For a description of the accounting policies that, in management’s opinion, involve the most significant application of judgment or involve complex estimation and which could, if different judgment or estimates were made, materially affect our reported financial position, results of operations, or cash flows, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates” in our Annual Report on Form 10-K for the fiscal year ended September 30, 2022 filed with the SEC on December 14, 2022.

During the three months ended December 31, 2022, there were no significant changes in our accounting policies and estimates.

During the three and six months ended March 31, 2023, there were no significant changes in our accounting policies and estimates.

Results of Operations

Highlights of the Company's first quarter 2023 operating results are as follows:

• Total revenues were approximately $70.0 million compared to $61.8 million during the comparable prior-year period, a 13.2% increase (Nightclubs revenue of $56.3 million compared to $46.8 million, a 20.4% increase;

Highlights of the Company's operating results are as follows:

Second Quarter 2023

• Total revenues were $71.5 million compared to $63.7 million during the comparable prior-year quarter, a 12.3% increase (Nightclubs revenue of $57.0 million compared to $48.2 million, a 18.4% increase;

and Bombshells revenue of $14.3 million compared to $15.3 million, a 6.6% decrease)

• Consolidated same-store sales increased by 0.2% (Nightclubs increased by 3.7% while Bombshells decreased by 12.1%) (refer to the definition of same-store sales in the discussion of revenues below)

• Basic and diluted earnings per share (“EPS”) of $0.83 compared to $1.15 (non-GAAP diluted EPS* of $1.30 compared to $1.19) during the comparable prior-year quarter

• Net cash provided by operating activities of $16.8 million compared to $11.6 million during the comparable prior-year quarter, a 44.8% increase (free cash flow* of $14.8 million compared to $11.1 million, a 33.3% increase)

Year-to-Date 2023

• Total revenues were approximately $141.5 million compared to $125.5 million during the comparable prior-year year-to-date period, a 12.7% increase (Nightclubs revenue of $113.4 million compared to $95.0 million, a 19.4% increase;

and Bombshells revenue of $27.7 million compared to $30.1 million, an 7.8% decrease)

• Consolidated same-store sales decreased by 1.2% (Nightclubs increased by 2.6% while Bombshells decreased by 13.0%) (refer to the definition of same-store sales in the discussion of revenues below)

• Basic and diluted earnings per share (“EPS”) of $1.11 compared to $1.12 (non-GAAP diluted EPS* of $1.19 compared to $1.10) during the comparable prior-year period

• Net cash provided by operating activities of $14.9 million compared to $16.3 million during the comparable prior-year period, a 8.4% decrease (free cash flow* of $13.0 million compared to $15.3 million, a 14.6% decrease)

• Basic and diluted EPS of $1.94 compared to $2.28 (non-GAAP diluted EPS of $2.50 compared to $2.29) during the comparable prior-year year-to-date period

• Net cash provided by operating activities of $31.7 million compared to $27.9 million during the comparable prior-year year-to-date period, a 13.7% increase (free cash flow* of $27.8 million compared to $26.3 million, a 5.5% increase)

* Reconciliation and discussion of non-GAAP financial measures are included in the “Non-GAAP Financial Measures” section below.

The following table summarizes our results of operations for the three months ended December 31, 2022 and 2021 (dollars in thousands):

For the Three Months Ended

December 31, 2022 For the Three Months Ended

December 31, 2021 Better (Worse)

Amount % of Revenues Amount % of Revenues Amount %

The following table summarizes our results of operations as a percentage of revenue:

Three Months Ended

March 31, Six Months Ended

2023 2022 2023 2022

Sales of alcoholic beverages 42.1 % 42.9 % 42.3 % 42.8 %

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Depreciation and amortization 5.3 % 4.5 % 5.0 % 4.0 %

Other gains, net (654) (0.9) % (151) (0.2) % 503 333.1 %

Other charges (gains), net 5.3 % 0.0 % 2.2 % (0.1) %

Total operating expenses 81.2 % 73.2 % 78.6 % 73.7 %

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Percentage of revenue for individual cost of goods sold items pertains to their respective revenue line.

Consolidated revenues for the first quarter increased by approximately $8.1 million, or 13.2%, versus the comparable prior-year quarter due primarily to a 15.4% increase in sales from newly acquired clubs and a new Bombshells opening partially offset by a 2.3% decrease, which is the impact of consolidated same-store sales on total consolidated revenue change.

Consolidated same-store sales decreased by 2.7%.

Consolidated revenues for the second quarter increased by $7.8 million, or 12.3%, versus the comparable prior-year quarter due primarily to an 11.6% increase in sales from newly acquired clubs and new Bombshells openings.

Consolidated revenues for the year-to-date period increased by $16.0 million, or 12.7%, compared to the prior-year year-to-date period mainly due to an increase in sales from newly acquired clubs and new Bombshells openings partially offset by the impact of consolidated same-store sales decline.

Consolidated same-store sales increased by 0.2% for the quarter and decreased by 1.2% for the year-to-date period.

We calculate same-store sales by comparing year-over-year revenues from nightclubs and restaurants/sports bars starting in the first full quarter of operations after at least 12 full months for Nightclubs and at least 18 full months for Bombshells.

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Revenues outside of our Nightclubs and Bombshells reportable segments are excluded from same-store sales calculation.

Segment contribution to total revenues was as follows (in thousands):

For the Three Months Ended

Nightclubs $ 56,325 $ 46,781

Bombshells 13,431 14,771

Other 212 284

Segment contribution to total revenues was as follows (in thousands, except percentages):

Three Months Ended March 31, 2023 Mix Three Months Ended March 31, 2022 Mix Inc (Dec) $ Inc (Dec) %

Sales of alcoholic beverages $ 22,191 38.9 % $ 18,673 38.8 % $ 3,518 18.8 %

Sales of food and merchandise 4,823 8.5 % 4,498 9.3 % 325 7.2 %

Service revenues 25,686 45.0 % 21,501 44.6 % 4,185 19.5 %

Other revenues 4,331 7.6 % 3,502 7.3 % 829 23.7 %

57,031 100.0 % 48,174 100.0 % 8,857 18.4 %

Nightclubs revenues increased by 20.4% for the quarter ended December 31, 2022 compared to the prior-year quarter primarily due to the contribution of newly acquired clubs and the impact of the increase in same-store sales.

Sales of alcoholic beverages 7,945 55.5 % 8,662 56.5 % (717) (8.3) %

Sales of food and merchandise 6,182 43.2 % 6,662 43.4 % (480) (7.2) %

Service revenues 4 0.0 % — — % 4 100.0 %

Other revenues 184 1.3 % 9 0.1 % 175 1944.4 %

14,315 100.0 % 15,333 100.0 % (1,018) (6.6) %

Other revenues 171 100.0 % 185 100.0 % (14) (7.6) %

$ 71,517 $ 63,692 $ 7,825 12.3 %

Six Months Ended March 31, 2023 Mix Six Months Ended March 31, 2022 Mix Inc (Dec) $ Inc (Dec) %

Sales of alcoholic beverages $ 44,289 39.1 % $ 36,840 38.8 % $ 7,449 20.2 %

Sales of food and merchandise 9,417 8.3 % 9,087 9.6 % 330 3.6 %

Service revenues 51,219 45.2 % 42,185 44.4 % 9,034 21.4 %

Other revenues 8,431 7.4 % 6,843 7.2 % 1,588 23.2 %

113,356 100.0 % 94,955 100.0 % 18,401 19.4 %

Sales of alcoholic beverages 15,497 55.9 % 16,926 56.2 % (1,429) (8.4) %

Sales of food and merchandise 11,935 43.0 % 12,967 43.1 % (1,032) (8.0) %

Service revenues 34 0.1 % 192 0.6 % (158) (82.3) %

Other revenues 280 1.0 % 19 0.1 % 261 1373.7 %

27,746 100.0 % 30,104 100.0 % (2,358) (7.8) %

Other revenues 383 100.0 % 469 100.0 % (86) (18.3) %

$ 141,485 $ 125,528 $ 15,957 12.7 %

Nightclubs revenues increased by 18.4% for the quarter ended March 31, 2023 compared to the prior-year quarter primarily due to the contribution of newly acquired clubs and the impact of the increase in same-store sales.

For Nightclubs that were open enough days to qualify for same-store sales (refer to the definition of same-store sales in the preceding paragraph), sales increased by 3.7%.

Newly acquired clubs contributed a sales increase of $9.0 million to the total Nightclubs revenue increase of $9.5 million.

Newly acquired and remodeled clubs contributed a sales increase of $6.9 million to the total Nightclubs revenue increase of $8.9 million.

By type of revenue, service revenue increased by 19.5%, alcoholic beverage sales increased by 18.8%, and food, merchandise and other revenue increased by 14.4%.

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Operating Expenses

Total operating expenses, as a percent of revenues, increased to 75.8% from 74.3% from last year’s first quarter, with a $7.1 million increase, or 15.6%, which was mainly caused by costs and expenses directly related to higher sales in the current-year quarter and stock-based compensation in the current quarter.

Total operating expenses, as a percent of revenues, increased to 81.2% from 73.2% from last year’s second quarter, with a $11.5 million increase, or 24.6%, which was mainly caused by costs and expenses directly related to higher sales in the current-year quarter, and stock-based compensation, amortization of SOB licenses, settlement of lawsuits and impairment of goodwill in the current quarter.

Compared to last year's six-month period, the current six-month period total operating expenses as a percent of revenues increased to 78.6% from 73.7%, with a $18.6 million increase, or 20.1%, due to the same reasons cited above.

Significant contributors to the changes in operating expenses are explained below.

Cost of goods sold .

Cost of goods sold increased by $118,000, or 1.3%, mainly due to higher sales.

As a percent of total revenues, cost of goods sold decreased to 12.9% from 14.4% mainly due to the sales mix increases in service and alcohol sales and a decrease in food and merchandise sales.

Cost of goods sold for the second quarter increased by $358,000, or 4.1%, mainly due to higher sales.

As a percent of total revenues, cost of goods sold decreased to 12.7% from 13.8% mainly due to the sales mix increase in service revenue.

Service revenue has the highest margin while food and merchandise have the lowest.

Nightclubs cost of goods sold increased to 10.4% from 10.8%, while Bombshells cost of goods sold decreased to 22.2% from 23.0%.

Cost of goods sold for the six months increased by $476,000, or 2.7%, mainly due to higher sales.

As a percent of total revenues, cost of goods sold decreased to 12.8% from 14.1% mainly due to the sales mix increase in service revenue.

Service revenue has the highest margin while food and merchandise have the lowest.

Nightclubs cost of goods sold decreased to 10.4% from 11.0%, while Bombshells cost of goods sold decreased to 22.6% from 23.7%.

Salaries and wages .

Salaries and wages increased by $2.2 million, or 13.2%, due to increase in personnel from newly acquired clubs and new Bombshells opened in the prior year and shifts to accommodate the increase in sales.

As a percent of total revenues, salaries and wages were almost flat at 26.7% from 26.7%.

Nightclubs increased to 20.8% from 20.5% and Bombshells increased to 26.5% from 24.8%, while corporate decreased to 4.7% from 5.0%.

Salaries and wages increased by $2.9 million, or 17.5%, for the second quarter due to increase in personnel from newly acquired clubs and new Bombshells openings, work shifts to accommodate the increase in sales, and the impact of minimum wage increases in certain states and cities.

As a percent of total revenues, salaries and wages increased to 27.2% from 26.0% due to wage inflation.

Nightclubs increased to 21.4% from 20.4% and Bombshells increased to 26.0% from 23.3%, while corporate was flat at 4.7%.

For the six-month period, salaries and wages increased by $5.1 million, or 15.3%.

As a percent of total revenues, consolidated salaries and wages increased to 26.9% from 26.3%.

Nightclubs increased to 21.1% from 20.4%, Bombshells increased to 26.3% from 24.0%, and corporate decreased to 4.7% from 4.9%.

Selling, general and administrative expenses .

Selling, general and administrative expenses increased by $3.6 million, or 19.5%, primarily due to increased variable expenses related to higher sales during the current-year quarter and stock-based compensation.

On a year-to-date period, selling, general and administrative expenses increased by $7.8 million, or 21.2%, due to the same reasons cited above.

Dollar amounts in the tables below are in thousands, except percentages.

For the Three Months Ended

December 31, 2022 For the Three Months Ended

December 31, 2021 Better (Worse)

March 31, 2023 For the Three Months Ended

March 31, 2022 Better (Worse)

Amount % of Revenues Amount % of Revenues Amount %

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Total selling, general and administrative expenses $ 22,026 30.8 % $ 18,437 28.9 % $ (3,589) (19.5) %

For the Six Months Ended

March 31, 2023 For the Six Months Ended

March 31, 2022 Better (Worse)

Amount % of Revenues Amount % of Revenues Amount %

Taxes and permits $ 5,423 3.8 % $ 4,597 3.7 % $ (826) (18.0) %

Advertising and marketing 5,401 3.8 % 4,631 3.7 % (770) (16.6) %

Supplies and services 5,081 3.6 % 4,155 3.3 % (926) (22.3) %

Insurance 4,820 3.4 % 4,876 3.9 % 56 1.1 %

Legal 2,281 1.6 % 1,958 1.6 % (323) (16.5) %

Lease 3,527 2.5 % 3,212 2.6 % (315) (9.8) %

Charge card fees 3,580 2.5 % 2,797 2.2 % (783) (28.0) %

Utilities 2,624 1.9 % 2,043 1.6 % (581) (28.4) %

Security 2,472 1.7 % 2,137 1.7 % (335) (15.7) %

Stock-based compensation 1,647 1.2 % — — % (1,647) (100.0) %

Accounting and professional fees 2,175 1.5 % 1,968 1.6 % (207) (10.5) %

Repairs and maintenance 2,371 1.7 % 1,628 1.3 % (743) (45.6) %

Other 3,356 2.4 % 2,921 2.3 % (435) (14.9) %

Total selling, general and administrative expenses $ 44,758 31.6 % $ 36,923 29.4 % $ (7,835) (21.2) %

Depreciation and amortization .

Depreciation and amortization increased by $1.1 million, or 50.7%, due to new depreciable assets from newly acquired and constructed units and amortization of SOB licenses from leased clubs.

Other gains, net .

Other gains, net increased due to a higher gain from disposal of assets and businesses and the settlement of lawsuits in the prior-year quarter.

Depreciation and amortization increased by $883,000, or 30.7%, during the second quarter and increased by $2.0 million, or 39.4%, during the year-to-date period due to the amortization of SOB licenses from leased clubs.

Other charges (gains), net .

Other gains, net for both the second quarter and the year-to-date period increased due to settlement of lawsuits and impairment of goodwill recognized in the current second quarter.

Income (Loss) from Operations

For the three months ended December 31, 2022 and 2021, our consolidated operating margin was 24.2% and 25.7%, respectively.

The main drivers for the decrease in operating margin are the stock-based compensation and amortization of SOB licenses which are both only present in the current-year quarter partially offset by fixed expenses leveraged from higher sales.

For the three months ended March 31, 2023 and 2022, our consolidated operating margin was 18.8% and 26.8%, respectively, while for the six months ended March 31, 2023 and 2022, our consolidated operating margin was 21.4% and 26.3%, respectively.

The main drivers for the decreases in operating margin are stock-based compensation, amortization of SOB licenses, settlement of lawsuits, and impairment of goodwill, which are only present in the current year partially offset by fixed expenses leveraged from higher sales.

Segment contribution to income (loss) from operations is presented in the table below (in thousands):

For the Three Months Ended

March 31, For the Six Months Ended

2023 2022 2023 2022

Nightclubs $ 17,995 $ 19,126 $ 40,735 $ 37,862

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$ 13,427 $ 17,081 $ 30,325 $ 32,992

Nightclubs operating margin was 40.4% and 40.1% for the three months ended December 31, 2022 and 2021, respectively, while operating margin for Bombshells was 13.8% and 19.0%, respectively.

Nightclubs operating margin increased due to fixed expenses leveraged from higher sales, partially offset by amortization of SOB licenses.

Nightclubs operating margin was 31.6% and 39.7% for the three months ended March 31, 2023 and 2022, respectively, while operating margin for Bombshells was 12.4% and 22.6%, respectively.

Nightclubs operating margin was 35.9% and 39.9% for the six months ended March 31, 2023 and 2022, respectively, while operating margin for Bombshells was 13.1% and 20.8%, respectively.

Nightclubs operating margin decreased due to settlement of lawsuits, amortization of SOB licenses, and impairment of goodwill partially offset by fixed expenses leveraged from higher sales.

The decrease in Bombshells operating margin was mainly due to fixed expenses deleveraged from lower sales.

Excluding certain items, non-GAAP operating income (loss) and non-GAAP operating margin are computed in the tables below (dollars in thousands).

Excluding certain items, second quarter non-GAAP operating income (loss) and non-GAAP operating margin are computed in the tables below (dollars in thousands).

Refer to the discussion of Non-GAAP Financial Measures on page 3 4 .

For the Three Months Ended December 31, 2022

For the Three Months Ended March 31, 2023

Nightclubs Bombshells Other Corporate Total

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Amortization of intangibles 628 417 60 4 1,109

Gain on sale of businesses and assets (569) — — (21) (590)

Settlement of lawsuits 3,117 3 — — 3,120

Impairment of assets 662 — — — 662

Loss (gain) on sale of businesses and assets (12) 16 — (1) 3

Gain on insurance — — — (27) (27)

3 unchanged sentences

Non-GAAP operating margin 39.3 % 15.4 % (63.2) % (7.7) % 26.6 %

For the Three Months Ended December 31, 2021

For the Three Months Ended March 31, 2022

Nightclubs Bombshells Other Corporate Total

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Non-GAAP operating margin 39.5 % 22.7 % (18.4) % (8.3) % 26.9 %

Excluding certain items, year-to-date period non-GAAP operating income (loss) and non-GAAP operating margin are computed in the tables below (dollars in thousands).

For the Six Months Ended March 31, 2023

Nightclubs Bombshells Other Corporate Total

Income (loss) from operations $ 40,735 $ 3,622 $ (353) $ (13,679) $ 30,325

Amortization of intangibles 1,256 419 121 8 1,804

Settlement of lawsuits 3,117 3 — — 3,120

Impairment of assets 662 — — — 662

Loss (gain) on sale of businesses and assets (581) 16 — (22) (587)

Gain on insurance (48) — — (43) (91)

Stock-based compensation — — — 1,647 1,647

Non-GAAP operating income (loss) $ 45,141 $ 4,060 $ (232) $ (12,089) $ 36,880

GAAP operating margin 35.9 % 13.1 % (92.2) % (9.7) % 21.4 %

Non-GAAP operating margin 39.8 % 14.6 % (60.6) % (8.5) % 26.1 %

For the Six Months Ended March 31, 2022

Nightclubs Bombshells Other Corporate Total

Income (loss) from operations $ 37,862 $ 6,270 $ (77) $ (11,063) $ 32,992

Amortization of intangibles 94 4 — 1 99

Settlement of lawsuits 454 10 — 113 577

Loss (gain) on sale of businesses and assets (80) 17 — (337) (400)

Gain on insurance (321) — — — (321)

Non-GAAP operating income (loss) $ 38,009 $ 6,301 $ (77) $ (11,286) $ 32,947

GAAP operating margin 39.9 % 20.8 % (16.4) % (8.8) % 26.3 %

Non-GAAP operating margin 40.0 % 20.9 % (16.4) % (9.0) % 26.2 %

Other Income/Expenses

Interest expense increased by $1.1 million, or 41.6%, primarily caused by a higher average debt balance mostly from seller-financed promissory notes from last year's acquisitions.

Our total occupancy costs, defined as the sum of operating lease expense and interest expense, were $5.4 million and $4.2 million for the quarters ended December 31, 2022 and 2021, respectively.

As a percentage of revenue, total occupancy costs were 7.8% and 6.9% during the quarters ended December 31, 2022 and 2021, respectively, primarily due to the interest from higher average debt balance.

Income tax expense was $3.0 million and $2.9 million during the three months ended December 31, 2022 and 2021, respectively.

The effective income tax expense rate was 22.8% and 21.7% for the three months ended December 31, 2022

and 2021, respectively.

Our effective income tax rate is affected by state taxes, permanent differences, and tax credits, including the FICA tip credit, for both years, as presented below.

Interest expense for the second quarter increased by $813,000, or 28.4%, primarily caused by a higher average debt balance mostly from seller-financed promissory notes from this and last years' acquisitions.

For the six-month period, interest expense increased by $1.9 million, or 34.7%.

Our total occupancy costs for the second quarter, defined as the sum of operating lease expense and interest expense, were $5.4 million and $4.4 million for the quarters ended March 31, 2023 and 2022, respectively.

As a percentage of revenue, total occupancy costs were 7.6% and 7.0% during the quarters ended March 31, 2023 and 2022, respectively, primarily due to the interest from higher average debt balance.

For the year-to-date period, total occupancy costs amounted to $10.9 million and $8.7 million, respectively, with a percent of revenue of 7.7% and 6.9%, respectively.

Income tax expense was $2.1 million and $3.4 million during the three months ended March 31, 2023 and 2022, respectively, and $5.2 million and $6.3 million during the six months ended March 31, 2023 and 2022, respectively.

The effective income tax expense rate was 21.8% and 23.4% for the three months ended March 31, 2023 and 2022, respectively, while for the six months ended March 2023 and 2023, 22.4% and 22.6%, respectively.

Our effective income

tax rate is affected by state taxes, permanent differences, and tax credits, including the FICA tip credit, for both years, as presented below.

For the Three Months Ended

March 31, For the Six Months Ended

2023 2022 2023 2022

Federal statutory income tax expense 21.0 % 21.0 % 21.0 % 21.0 %

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We calculate non-GAAP operating income and non-GAAP operating margin by excluding the following items from income from operations and operating margin:

(a) amortization of intangibles, (b) gains or losses on sale of businesses and assets, (c) gains or losses on insurance, (d) settlement of lawsuits, and (e) stock-based compensation.

(a) amortization of intangibles, (b) impairment of assets, (c) gains or losses on sale of businesses and assets, (d) gains or losses on insurance, (e) settlement of lawsuits, and (f) stock-based compensation.

We believe that excluding these items assists investors in evaluating period-over-period changes in our operating income and operating margin without the impact of items that are not a result of our day-to-day business and operations.

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Adjustment items are:

(a) amortization of intangibles, (b) gains or losses on sale of businesses and assets, (c) gains or losses on insurance, (d) unrealized gains or losses on equity securities, (e) settlement of lawsuits, (f) gain on debt extinguishment, (g) stock-based compensation, and (h) the income tax effect of the above-described adjustments.

Included in the income tax effect of the above adjustments is the net effect of the non-GAAP provision for income taxes, calculated at 22.7% and 22.3% effective tax rate of the pre-tax non-GAAP income before taxes for the three months ended December 31, 2022 and 2021, respectively, and the GAAP income tax expense (benefit).

(a) amortization of intangibles, (b) impairment of assets, (c) gains or losses on sale of businesses and assets, (d) gains or losses on insurance, (e) unrealized gains or losses on equity securities, (f) settlement of lawsuits, (g) gain on debt extinguishment, (h) stock-based compensation, and (i) the income tax effect of the above-described adjustments.

Included in the income tax effect of the above adjustments is the net effect of the non-GAAP provision for income taxes, calculated at 22.3% and 21.8% effective tax rate of the pre-tax non-GAAP income before taxes for the six months ended March 31, 2023 and 2022, respectively, and the GAAP income tax expense (benefit).

We believe that excluding and including such items help management and investors better understand our operating activities.

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We calculate adjusted EBITDA by excluding the following items from net income attributable to RCIHH common stockholders:

(a) depreciation and amortization, (b) income tax expense (benefit), (c) net interest expense, (d) gains or losses on sale of businesses and assets, (e) gains or losses on insurance, (f) unrealized gains or losses on equity securities, (g) settlement of lawsuits, (h) gain on debt extinguishment, and (i) stock-based compensation.

(a) depreciation and amortization, (b) income tax expense (benefit), (c) net interest expense, (d) gains or losses on sale of businesses and assets, (e) gains or losses on insurance, (f) unrealized gains or losses on equity securities, (g) impairment of assets, (h) settlement of lawsuits, (i) gain on debt extinguishment, and (j) stock-based compensation.

We believe that adjusting for such items helps management and investors better understand our operating activities.

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See “Liquidity and Capital Resources” section for further discussion.

The following tables present our non-GAAP performance measures for the three months ended December 31, 2022 and 2021 (in thousands, except per share, number of shares and percentages):

Three Months Ended December 31,

The following tables present our non-GAAP performance measures for the three and six months ended March 31, 2023 and 2022 (in thousands, except per share, number of shares and percentages):

Three Months Ended March 31, Six Months Ended March 31,

2023 2022 2023 2022

Reconciliation of GAAP net income to Adjusted EBITDA

3 unchanged sentences

Settlement of lawsuits 3,120 385 3,120 577

Gain on sale of businesses and assets (590) (342)

Impairment of assets 662 — 662 —

Loss (gain) on sale of businesses and assets 3 (58) (587) (400)

Gain on debt extinguishment — — — (85)

8 unchanged sentences

Settlement of lawsuits 3,120 385 3,120 577

Gain on sale of businesses and assets (590) (342)

Impairment of assets 662 — 662 —

Loss (gain) on sale of businesses and assets 3 (58) (587) (400)

Gain on debt extinguishment — — — (85)

9 unchanged sentences

Settlement of lawsuits 0.34 0.04 0.34 0.06

Gain on sale of businesses and assets (0.06) (0.04)

Impairment of assets 0.07 — 0.07 —

Loss (gain) on sale of businesses and assets 0.00 (0.01) (0.06) (0.04)

Gain on debt extinguishment — — — (0.01)

8 unchanged sentences

Settlement of lawsuits 3,120 385 3,120 577

Gain on sale of businesses and assets (590) (342)

Impairment of assets 662 — 662 —

Loss (gain) on sale of businesses and assets 3 (58) (587) (400)

Gain on insurance (27) (320) (91) (321)

5 unchanged sentences

Settlement of lawsuits 4.4 % 0.6 % 2.2 % 0.5 %

Gain on sale of businesses and assets (0.8) % (0.6) %

Impairment of assets 0.9 % — % 0.5 % — %

Loss (gain) on sale of businesses and assets 0.0 % (0.1) % (0.4) % (0.3) %

Gain on insurance 0.0 % (0.5) % (0.1) % (0.3) %

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Liquidity and Capital Resources

At December 31, 2022, our cash and cash equivalents were approximately $34.1 million compared to $36.0 million at September 30, 2022.

At March 31, 2023, our cash and cash equivalents were approximately $22.8 million compared to $36.0 million at September 30, 2022.

Because of the large volume of cash we handle, we have very stringent cash controls.

As of December 31, 2022, we had working capital of $12.8 million compared to working capital of $18.6 million as of September 30, 2022, excluding net assets held for sale amounting to $0 and $1.0 million as of December 31, 2022 and September 30, 2022, respectively.

As of March 31, 2023, we had negative working capital of $11.4 million compared to working capital of $18.6 million as of September 30, 2022, excluding net assets held for sale amounting to $0 and $1.0 million as of March 31, 2023 and September 30, 2022, respectively.

The negative working capital at March 31, 2023 was caused by borrowings, of which a large portion have current maturities, and which were used to fund business acquisitions.

Since the pandemic hard hit fiscal 2020, we have since recovered and have seen a more normal stream of operations in 2021 and 2022.

Geopolitical and macroeconomic events are still developing.

In the event global inflation leads to a major economic downturn, our business operations and cash flow could be significantly affected.

We believe that we can borrow capital if needed but currently we do not have unused credit facilities so there can be no guarantee that additional liquidity will be readily available or available on favorable terms.

We have not recently raised capital through the issuance of equity securities although we have used equity recently in one of our acquisitions.

Instead, we use debt financing to lower our overall cost of capital and increase our return on stockholders’ equity.

We have not recently raised capital through the issuance of equity securities although we have used equity recently in our acquisitions.

Instead, we use debt financing to lower our overall cost of capital and increase our return on stockholders’ equity, but we are monitoring our total debt service cost as interest rates continue to increase.

We have a history of borrowing funds in private transactions and from sellers in acquisition transactions and have secured traditional bank financing on our new development projects and refinancing of our existing notes payable, but there can be no assurance that any of these financing options would be presently available on favorable terms, if at all.

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The following table presents a summary of our cash flows from operating, investing, and financing activities (in thousands):

For the Three Months Ended December 31,

For the Six Months Ended March 31,

Operating activities $ 31,684 $ 27,861

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Financing activities 3,196 24,335

Net decrease in cash and cash equivalents $ (1,872) $ (17,732)

Net increase (decrease) in cash and cash equivalents $ (13,196) $ 2,381

Cash Flows from Operating Activities

Following are our summarized cash flows from operating activities (in thousands):

For the Three Months Ended December 31,

For the Six Months Ended March 31,

Net income $ 17,964 $ 21,537

Depreciation and amortization 7,067 5,071

Impairment of assets 662 —

Stock-based compensation 1,647 —

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Net cash provided by operating activities $ 31,684 $ 27,861

Net cash provided by operating activities decreased from year to year primarily due to higher interest expense.

Net cash provided by operating activities increased from year to year primarily due to higher sales and higher income tax refund, partially offset by higher interest expense and income taxes paid.

Cash Flows from Investing Activities

Following are our cash flows from investing activities (in thousands):

For the Three Months Ended December 31,

For the Six Months Ended March 31,

Payments for property and equipment and intangible assets $ (20,890) $ (13,990)

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Net cash used in investing activities $ (48,076) $ (49,815)

Following is a breakdown of our payments for property and equipment and intangible assets for the three months ended December 31, 2022 and 2021 (in thousands):

For the Three Months Ended December 31,

Following is a breakdown of our payments for property and equipment and intangible assets for the six months ended March 31, 2023 and 2022 (in thousands):

For the Six Months Ended March 31,

New facilities, equipment, and intangible assets $ 17,005 $ 12,474

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Total capital expenditures $ 20,890 $ 13,990

The capital expenditures during the three months ended December 31, 2022 and 2021 were composed primarily of real estate and new equipment and furniture purchases for the newly acquired clubs.

The capital expenditures during the six months ended March 31, 2023 and 2022 were composed primarily of real estate and new equipment and furniture purchases for the newly acquired clubs.

Maintenance capital expenditures refer mainly to capitalized replacement of productive assets in already existing locations.

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Following are our cash flows from financing activities (in thousands):

For the Three Months Ended December 31,

For the Six Months Ended March 31,

Proceeds from debt obligations $ 11,595 $ 35,742

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Share in return of investment by noncontrolling partner (600) —

Net cash provided by (used in) financing activities $ (3,117) $ 14,134

We purchased 1,500 shares of our common stock at an average price of $65.02 during the three months ended December 31, 2022, while we purchased 74,659 shares of our common stock at an average price of $24.03 during the three months ended December 31, 2021.

As of December 31, 2022, we have approximately $18.8 million authorization remaining to purchase additional shares.

We paid quarterly dividends of $0.05 per share in the current, while we paid $0.04 per share in the prior-year quarter.

Net cash provided by financing activities $ 3,196 $ 24,335

We purchased 1,500 shares of our common stock at an average price of $65.02 during the six months ended March 31, 2023, while we purchased 45,643 shares of our common stock at an average price of $62.33 during the six months ended March 31, 2022.

As of March 31, 2023, we have approximately $18.8 million authorization remaining to purchase additional shares.

Prior to the second quarter of fiscal 2022, we have been paying $0.04 per share in quarterly dividends.

From the second quarter of fiscal 2022 until the current quarter, we have paid $0.05 per share, and in the second quarter of fiscal 2023 we paid $0.06 per share in quarterly dividends.

See Note 7 to our unaudited condensed consolidated financial statements for future maturities of our debt obligations.

We have paid all our debts on time and have not defaulted nor requested forbearance on any of our debts during the six months ended March 31, 2023 and 2022.

Management also uses certain non-GAAP cash flow measures such as free cash flow.

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Below is a table reconciling free cash flow to its most directly comparable GAAP measure (in thousands):

For the Three Months Ended December 31,

For the Six Months Ended March 31,

Net cash provided by operating activities $ 31,684 $ 27,861

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Free cash flow $ 27,799 $ 26,345

Our free cash flow for the current quarter decreased by 14.6% compared to the comparable prior-year period primarily due to higher interest expense payments and higher maintenance capital expenditures from renovations of several of our clubs.

Our free cash flow for the six-month period increased by 5.5% compared to the comparable prior-year period primarily due to higher sales and higher income tax refund, partially offset by higher interest expense, income taxes paid and higher maintenance capital expenditures from renovations and remodeling of several of our clubs.

We do not include capital expenditures related to new facilities construction, equipment and intangibles assets as a reduction from net cash flow from operating activities to arrive at free cash flow.

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We consider the primary indicators of financial status to be the long-term trend of revenue growth, the mix of sales revenues, overall cash flow, profitability from operations and the level of long-term debt.

The following table presents a summary of such indicators for the three months ended December 31 (in thousands, except percentages):

The following table presents a summary of such indicators for the six months ended March 31 (in thousands, except percentages):

2023 Increase

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Our growth strategy includes acquiring existing units, opening new units after market analysis, developing new club concepts that are consistent with our management and marketing skills, franchising our Bombshells brand, and developing and opening our Bombshells concept as our capital and manpower allow.

All eleven of the existing Bombshells as of December 31, 2022 were located in Texas.

All twelve of the existing Bombshells as of March 31, 2023 were located in Texas, including the former franchisee location that we acquired in February 2023 (see Note 4 to our unaudited condensed consolidated financial statements).

Our growth strategy is to diversify our operations with these units which do not require SOB licenses, which are sometimes difficult to obtain.

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Quantitative and Qualitative Disclosures About Market Risk.

As of December 31, 2022, there were no material changes to the information provided in Item 7A of the Company’s Annual Report on Form 10-K for fiscal year ended September 30, 2022.

As of March 31, 2023, there were no material changes to the information provided in Item 7A of the Company’s Annual Report on Form 10-K for fiscal year ended September 30, 2022.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis