Xponential Fitness (NYSE:XPOF) is a franchisor of boutique fitness concepts including Club Pilates, Pure Barre, Stretch Lab and others. The stock was previously a stock market darling, having nearly tripled from the 2021 IPO through 2023 highs, but then became the subject of a well-regarded short seller at this time last year, causing shares to plummet.
The short report focused on
- questioning the integrity of XPOF’s CEO, and
- cherry picking commentary from unhappy franchisees in select verticals to imply that the entire business was at risk.
In May, XPOF’s CEO was removed, causing shares to plummet, and I purchased our position on this weakness.
Generally speaking, being a franchisor is a very good business, which explains why franchisors often trade at 20x EBITDA or more. At the time of the decline, if one assumed that every single franchisee had financed 75% of their franchise with debt, and then sued XPOF to recover this liability and won, I estimated that XPOF would have been trading at 12.5x their guidance for 2024 adjusted EBITDA.
The idea that every single franchise would sue was extremely farfetched because first, many franchisees own more than one franchise, and it is unlikely this would be true if they were unhappy with their first franchise. Second, information on franchisee/franchisor litigation is widely available, and through 2023 XPOF averaged less than 2 conflicts per 1,000 units. Importantly, Club Pilates – XPOF’s crown jewel – had zero lawsuits. Further, I believed that Club Pilates by itself could be worth more in a private sale than the price that public markets ascribed to the entire portfolio of concepts.
Since the time of our purchase, the company has named an impressive new CEO, made it clear that they are open to divesting underperforming concepts, and indicated that share repurchases are likely in the not-too-distant future.
Additionally, future growth is all but guaranteed as the number of global licenses sold far exceeds the number of global studios that are currently open. Importantly, this dynamic should cushion the business during any economic downturns as license holders who have not yet opened studios would be incentivized to take advantage of favorable lease terms during economic downturns. I would note that XPOF grew and gained market share through COVID, while the industry suffered.
Shares have rallied considerably since our purchase, but there is still a fair amount of uncertainty surrounding the business related to an SEC investigation instigated by the short report. I expect this investigation will be resolved with time, and shares will re-rate higher. If XPOF continues to execute and gets a franchise peer multiple, the stock could rally more than 200% from here. This leaves plenty of room for success if the market is suspicious about the durability of fitness concepts and XPOF trades at a discounted multiple.