NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1.
Basis of Presentation
The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP” or “U.S. GAAP”) for interim financial information
and with the instructions to Form 10-Q of Regulation S-X. They do not include all information and footnotes required by GAAP for
complete financial statements. The September 30, 2018 consolidated balance sheet data were derived from audited financial statements
but do not include all disclosures required by GAAP. However, except as disclosed herein, there has been no material change in
the information disclosed in the notes to the consolidated financial statements for the year ended September 30, 2018 included
in the Company’s Annual Report on Form 10-K, as filed with the Securities and Exchange Commission on December 31, 2018.
The interim unaudited condensed consolidated financial statements should be read in conjunction with those consolidated financial
statements included in the Form 10-K. In the opinion of management, all adjustments considered necessary for a fair presentation
of the financial statements, consisting solely of normal recurring adjustments, have been made. Operating results for the three
months ended December 31, 2018 are not necessarily indicative of the results that may be expected for the year ending September
30, 2019.
2.
Recent Accounting Standards and Pronouncements
In
May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09,
Revenue from Contracts with Customers
(“ASU 2014-09”), which supersedes nearly all existing revenue recognition guidance under GAAP. The core principle
of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects
the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five-step process
to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process
than are required under existing GAAP. The standard’s effective date has been deferred by the issuance of ASU No. 2015-14,
and is effective for annual periods beginning after December 15, 2017, and interim periods therein. The guidance permits using
either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each
prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative
effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures).
Early application is permitted but not before December 15, 2016, the ASU’s original effective date. The Company adopted
the new revenue recognition standard as of October 1, 2018 using the cumulative effect method, which did not have a material impact
on its consolidated financial statements. See Note 4.
In
January 2016, the FASB issued ASU No. 2016-01,
Financial Instruments—Overall (Subtopic 825-10): Recognition and Measurement
of Financial Assets and Financial Liabilities
, which amends the guidance on the classification and measurement of financial
instruments. Although the ASU retains many current requirements, it significantly revises an entity’s accounting related
to (1) the classification and measurement of investments in equity securities and (2) the presentation of certain fair value changes
for financial liabilities measured at fair value. The ASU also amends certain disclosure requirements associated with the fair
value of financial instruments. The amendments of the ASU are effective for us for fiscal years beginning after December 15, 2017,
including interim periods within those fiscal years. The Company adopted ASU 2016-01 as of October 1, 2018. Our adoption required
the Company to reclassify $220,000 from accumulated other comprehensive income to retained earnings as of the beginning of the
quarter ended December 31, 2018. All succeeding unrealized gains or losses related the changes in the market value of our equity
securities will be included in non-operating gains/losses in our consolidated statement of income.
In
February 2016, the FASB issued ASU No. 2016-02,
Leases (Topic 842)
, on accounting for leases which requires lessees to
recognize most leases on their balance sheets for the rights and obligations created by those leases. The guidance requires enhanced
disclosures regarding the amount, timing, and uncertainty of cash flows arising from leases, and will be effective for interim
and annual periods beginning after December 15, 2018. Early adoption is permitted. The guidance requires the use of a modified
retrospective approach. We expect our consolidated balance sheets to be materially impacted upon adoption due to the recognition
of right-of-use assets and lease liabilities related to currently classified operating leases. As a preparation for the evaluation
and implementation of the new lease standard, we have started to collect real property and equipment leases on prior years affected
by the standard. While we anticipate changes in the classification of expenses in our income statement and the timing of recognition
of these expenses, we are still evaluating the materiality of the implementation of this standard.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
In
February 2018, the FASB issued ASU 2018-02,
Income Statement—Reporting Comprehensive Income (Topic 220): Reclassification
of Certain Tax Effects from Accumulated Other Comprehensive Income.
This ASU provides financial statement preparers with an
option to reclassify stranded tax effects within AOCI to retained earnings in each period in which the effect of the change in
the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act (“Tax Act”) is recorded. The ASU requires
financial statement preparers to disclose (1) a description of the accounting policy for releasing income tax effects from AOCI;
(2) whether they elect to reclassify the stranded income tax effects from the Tax Act; and (3) information about the other income
tax effects that are reclassified. The amendments affect any organization that is required to apply the provisions of Topic 220,
Income Statement—Reporting Comprehensive Income
, and has items of other comprehensive income for which the related
tax effects are presented in other comprehensive income as required by GAAP. The ASU is effective for all organizations for fiscal
years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. Organizations
should apply the proposed amendments either in the period of adoption or retrospectively to each period (or periods) in which
the effect of the change in the U.S. federal corporate income tax rate in the Tax Act is recognized. We believe that the adoption
of this ASU will not have a material impact on our consolidated financial statements.
In
June 2018, the FASB issued ASU 2018-07,
Compensation—Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based
Payment Accounting.
This ASU expands the scope of Topic 718, which currently only includes share-based payments issued to
employees, to include share-based payments issued to nonemployees for goods and services. This ASU is effective for the Company
for fiscal years beginning after December 15, 2018, including interim periods within that fiscal year. Early adoption is permitted,
but no earlier than the Company’s adoption of ASU 2014-09. We are still evaluating the impact of this ASU on the Company’s
consolidated financial statements.
In
August 2018, the FASB issued ASU No. 2018-13,
Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the
Disclosure Requirements for Fair Value Measurement
. ASU 2018-13 modifies the disclosure requirements of Accounting Standards
Codification (“ASC”) Topic 820 with certain removals, modifications, and additions. Eliminated disclosures that may
affect the Company include (1) transfers between level 1 and level 2 of the fair value hierarchy, and (2) policies related to
valuation processes and the timing of transfers between levels of the fair value hierarchy. Modified disclosures that may affect
the Company include (1) a requirement to disclose the timing of liquidation of an investee’s assets and the date when restrictions
from redemption might lapse if the entity has communicated the timing publicly for investments in certain entities that calculate
net asset value, and (2) clarification that the measurement uncertainty disclosure is to communicate information about the uncertainty
in measurement as of the reporting date. Additional disclosures that may affect the Company include (1) disclosure of changes
in unrealized gains and losses for the period included in other comprehensive income for recurring level 3 fair value measurements
held at the end of the reporting period, and (2) disclosure of the range and weighted average of significant unobservable inputs
used to develop level 3 fair value measurements. The update is effective for fiscal years, and interim periods within those fiscal
years, beginning after December 15, 2019. Early adoption is permitted for any removed or modified disclosures upon issuance of
the ASU and delay adoption of the additional disclosures until the effective date. We are still evaluating the impact of this
ASU on the Company’s consolidated financial statements.
Note
3. Revision of Prior Year Immaterial Misstatement
During
the quarter ended December 31, 2018, the Company identified certain mechanical errors in our goodwill impairment analysis
that was performed for our annual impairment testing for fiscal year ended September 30, 2018. These errors related to the use
of an incorrect income tax rate assumption and the exclusion of certain debt service payments as part of our goodwill impairment
testing for two of our reporting units, which resulted in a goodwill impairment charge of $834,000.
The
Company assessed the materiality of these errors considering both qualitative and quantitative factors and determined that for
both the quarter and fiscal year ended September 30, 2018, the errors were immaterial. The Company has decided to correct these
immaterial errors as revisions to our previously issued financial statements and will adjust the Form 10-K when filed in succeeding
periods of this fiscal year.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The
tables below present the impact of the revision in the Company’s consolidated financial statements (in thousands):
|
|
Fiscal
Year Ended September 30, 2018
|
|
|
|
As
Previously Reported
|
|
|
Adjustments
|
|
|
As
Revised
|
|
Statement
of Income/Comprehensive Income:
|
|
|
|
|
|
|
|
|
|
Other
charges, net
|
|
$
|
8,350
|
|
|
$
|
834
|
|
|
$
|
9,184
|
|
Total
operating expenses
|
|
|
137,352
|
|
|
|
834
|
|
|
|
138,186
|
|
Income
from operations
|
|
|
28,396
|
|
|
|
(834
|
)
|
|
|
27,562
|
|
Income
before income taxes
|
|
|
18,676
|
|
|
|
(834
|
)
|
|
|
17,842
|
|
Net
income
|
|
|
21,794
|
|
|
|
(834
|
)
|
|
|
20,960
|
|
Net
income attributable to RCIHH common shareholders
|
|
|
21,713
|
|
|
|
(834
|
)
|
|
|
20,879
|
|
Earnings
per share - basic
|
|
$
|
2.23
|
|
|
$
|
(0.08
|
)
|
|
$
|
2.15
|
|
Earnings
per share - diluted
|
|
$
|
2.23
|
|
|
$
|
(0.08
|
)
|
|
$
|
2.15
|
|
Comprehensive
income
|
|
$
|
22,014
|
|
|
$
|
(834
|
)
|
|
$
|
21,180
|
|
Comprehensive
income attributable to RCI Hospitality Holdings, Inc.
|
|
|
21,933
|
|
|
|
(834
|
)
|
|
|
21,099
|
|
|
|
September
30, 2018
|
|
|
|
As
Previously Reported
|
|
|
Adjustment
|
|
|
As
Revised
|
|
Balance
Sheet/Statement of Changes in Stockholders’ Equity
|
|
|
|
|
|
|
|
|
|
Goodwill
|
|
$
|
44,425
|
|
|
$
|
(834
|
)
|
|
$
|
43,591
|
|
Total
assets
|
|
|
330,566
|
|
|
|
(834
|
)
|
|
|
329,732
|
|
Retained
earnings
|
|
|
89,740
|
|
|
|
(834
|
)
|
|
|
88,906
|
|
Total
RCIHH stockholders’ equity
|
|
|
154,269
|
|
|
|
(834
|
)
|
|
|
153,435
|
|
Total
stockholders’ equity
|
|
|
154,166
|
|
|
|
(834
|
)
|
|
|
153,332
|
|
Total
liabilities and stockholders’ equity
|
|
|
330,566
|
|
|
|
(834
|
)
|
|
|
329,732
|
|
The
table below presents the impact of the revision in the Company’s notes to its consolidated financial statements related
to unaudited quarterly results of operations (in thousands):
|
|
Quarter
Ended September 30, 2018
|
|
|
|
As
Previously Reported
|
|
|
Adjustment
|
|
|
As
Revised
|
|
Income
from operations
|
|
$
|
1,533
|
|
|
$
|
(834
|
)
|
|
$
|
699
|
|
Net
loss attributable to RCIHH common shareholders
|
|
|
(2,672
|
)
|
|
|
(834
|
)
|
|
|
(3,506
|
)
|
Loss per
share - basic
|
|
$
|
(0.27
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.36
|
)
|
Loss per
share - diluted
|
|
$
|
(0.27
|
)
|
|
$
|
(0.09
|
)
|
|
$
|
(0.36
|
)
|
The
consolidated statements of cash flows are not presented because there is no impact on total cash flows from operating
activities, investing activities and financing activities. Certain components of net cash provided by operating activities
changed, as caused by the revision, but the net change amounted to zero for both quarter and fiscal year ended September 30,
2018.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
4
.
Revenues
On
October 1, 2018, the Company adopted ASC Topic 606,
Revenue from Contracts with Customers
(formerly ASU 2014-09).
The Company recognizes revenue from the sale of alcoholic beverages, food and merchandise, service and other revenues at the point-of-sale
upon receipt of cash, check, or credit card charge, net of discounts and promotional allowances based on consideration specified
in implied contracts with customers. Sales and liquor taxes collected from customers and remitted to governmental authorities
are presented on a net basis in the accompanying consolidated statements of income. The Company recognizes revenue when it satisfies
a performance obligation (point in time of sale) by transferring control over a product or service to a customer.
Commission
revenues, such as ATM commission, are recognized when the basis for such commission has transpired. Revenues from the sale of
magazines and advertising content are recognized when the issue is published and shipped. Revenues and external expenses related
to the Company’s annual Expo convention are recognized upon the completion of the convention, which normally occurs during
our fiscal fourth quarter. Other rental revenues are recognized when earned (recognized over time) and are more appropriately
covered by guidance under ASC Topic 840,
Leases
.
Revenues,
as disaggregated by revenue type, timing of recognition, and reportable segment (see Note 11), are shown below.
|
|
Nightclubs
|
|
|
Bombshells
|
|
|
Other
|
|
Quarter ended
December 31, 2018:
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
of alcoholic beverages
|
|
$
|
14,802
|
|
|
$
|
3,508
|
|
|
$
|
-
|
|
Sales
of food and merchandise
|
|
|
3,207
|
|
|
|
2,483
|
|
|
|
-
|
|
Service
revenues
|
|
|
17,313
|
|
|
|
18
|
|
|
|
-
|
|
Other
revenues
|
|
|
2,406
|
|
|
|
4
|
|
|
|
282
|
|
|
|
$
|
37,728
|
|
|
$
|
6,013
|
|
|
$
|
282
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recognized
at a point in time
|
|
$
|
37,392
|
|
|
$
|
6,013
|
|
|
$
|
267
|
|
Recognized
over time
|
|
$
|
336
|
*
|
|
$
|
-
|
|
|
$
|
15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter ended
December 31, 2017:
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
of alcoholic beverages
|
|
$
|
14,125
|
|
|
$
|
3,680
|
|
|
$
|
-
|
|
Sales
of food and merchandise
|
|
|
3,162
|
|
|
|
2,145
|
|
|
|
-
|
|
Service
revenues
|
|
|
15,889
|
|
|
|
-
|
|
|
|
-
|
|
Other
revenues
|
|
|
2,042
|
|
|
|
3
|
|
|
|
166
|
|
|
|
$
|
35,218
|
|
|
$
|
5,828
|
|
|
$
|
166
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recognized
at a point in time
|
|
$
|
34,927
|
|
|
$
|
5,828
|
|
|
$
|
145
|
|
Recognized
over time
|
|
$
|
291
|
*
|
|
$
|
-
|
|
|
$
|
21
|
|
*
Rental revenue (included in Other Revenues) as covered by ASC Topic 840. All other revenues are covered by ASC Topic 606.
The
Company does not have contract assets with customers. The Company’s unconditional right to consideration for goods and services
transferred to the customer is included in accounts receivable, net in our consolidated balance sheet. A reconciliation of contract
liabilities with customers is presented below:
|
|
Balance
at September 30,
2018
|
|
|
Consideration
Received
|
|
|
Recognized
in Revenue
|
|
|
Balance
at December 31, 2018
|
|
Ad
revenue
|
|
$
|
126
|
|
|
$
|
274
|
|
|
$
|
(181
|
)
|
|
$
|
219
|
|
Expo
revenue
|
|
|
-
|
|
|
|
201
|
|
|
|
-
|
|
|
|
201
|
|
Other
|
|
|
8
|
|
|
|
1
|
|
|
|
-
|
|
|
|
9
|
|
|
|
$
|
134
|
|
|
$
|
476
|
|
|
$
|
(181
|
)
|
|
$
|
429
|
|
Contract
liabilities with customers are included in accrued liabilities as unearned revenues in our consolidated balance sheets (see also
Note 5), while the revenues associated with these contract liabilities are included in other revenues in our consolidated
statements of income.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
5
.
Selected Account Information
The
components of accrued liabilities are as follows (in thousands):
|
|
December
31, 2018
|
|
|
September
30, 2018
|
|
Insurance
|
|
$
|
2,627
|
|
|
$
|
3,807
|
|
Payroll
and related costs
|
|
|
2,584
|
|
|
|
2,293
|
|
Property
taxes
|
|
|
2,058
|
|
|
|
1,796
|
|
Sales
and liquor taxes
|
|
|
1,959
|
|
|
|
1,883
|
|
Patron
tax
|
|
|
640
|
|
|
|
532
|
|
Unearned
revenues
|
|
|
429
|
|
|
|
134
|
|
Other
|
|
|
1,643
|
|
|
|
1,528
|
|
|
|
$
|
11,940
|
|
|
$
|
11,973
|
|
The
components of selling, general and administrative expenses are as follows (in thousands):
|
|
For
the Three Months
|
|
|
|
Ended
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Taxes
and permits
|
|
$
|
2,181
|
|
|
$
|
2,166
|
|
Advertising
and marketing
|
|
|
2,148
|
|
|
|
1,965
|
|
Supplies
and services
|
|
|
1,456
|
|
|
|
1,368
|
|
Insurance
|
|
|
1,353
|
|
|
|
1,259
|
|
Legal
|
|
|
1,058
|
|
|
|
377
|
|
Rent
|
|
|
1,019
|
|
|
|
940
|
|
Charge
card fees
|
|
|
933
|
|
|
|
887
|
|
Utilities
|
|
|
744
|
|
|
|
695
|
|
Security
|
|
|
709
|
|
|
|
638
|
|
Accounting
and professional fees
|
|
|
650
|
|
|
|
886
|
|
Repairs
and maintenance
|
|
|
587
|
|
|
|
570
|
|
Other
|
|
|
1,189
|
|
|
|
1,061
|
|
|
|
$
|
14,027
|
|
|
$
|
12,812
|
|
6
.
Long-Term Debt
On
November 1, 2018, the Company raised $2.35 million through the issuance of 12% unsecured promissory notes to certain investors,
which notes mature on November 1, 2021. The notes pay interest-only in equal monthly installments, with a lump sum principal payment
at maturity. Among the promissory notes are two notes with a principal of $450,000 and $200,000. The $450,000 note was in exchange
for a $300,000 12% note and the $200,000 note was in exchange for a $100,000 note, both of which were included in the May 1, 2017
financing to acquire Scarlett’s Cabaret in Miami. Also included in the $2.35 million borrowing is a $500,000 note borrowed
from a related party (see Note 13).
On
December 6, 2018, the Company amended the $5.0 million short-term note payable related to the Scarlett’s acquisition, which
had a remaining balance of $3.0 million as of December 6, 2018, extending the maturity date from May 8, 2019, as previously amended,
to May 8, 2020.
On
December 11, 2018, the Company purchased an aircraft for $2.8 million with a $554,000 down payment and financed the remaining
$2.2 million with a 5.49% promissory note payable in 20 years with monthly payments of $15,118, including interest.
As
of December 31, 2018, the Company is in compliance with all its debt covenants.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
7
.
Stockholders’ Equity
During
the quarter ended December 31, 2018, the Company purchased and retired 14,111 common shares at a cost of approximately $355,000.
The Company paid a $0.03 per share cash dividend totaling approximately $291,000.
During
the quarter ended December 31, 2017, the Company did not purchase shares of its common stock. The Company also paid a $0.03 per
share cash dividend totaling approximately $292,000.
On
January 2, 2019, the Company’s Board of Directors authorized an additional $10.0 million to repurchase the Company’s
common stock.
8
.
Earnings Per Share
Basic
earnings per share (“EPS”) includes no dilution and is computed by dividing income available to common stockholders
by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution
of securities that could share in the earnings of the Company. Potential common stock shares consist of shares that may arise
from outstanding dilutive common restricted stock, stock options and warrants (the number of which is computed using the “treasury
stock method”) and from outstanding convertible debentures (the number of which is computed using the “if converted
method”). Diluted EPS considers the potential dilution that could occur if the Company’s outstanding common restricted
stock, stock options, warrants and convertible debentures were converted into common stock that then shared in the Company’s
earnings (as adjusted for interest expense that would no longer occur if the debentures were converted).
During
the quarter ended December 31, 2018 and 2017, the Company did not have adjustment items to reconcile the numerator and the denominator
in the calculation of basic and diluted EPS.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
9
.
Income Taxes
Income
taxes were an expense of $1.8 million in the first quarter of 2019 compared to a benefit of $8.2 million in the first quarter
of 2018. The effective income tax rate for the first quarter of 2019 was an expense of 22.0% compared to a benefit of 134.3%
for the first quarter of 2018. Our effective tax rate is affected by state taxes, permanent differences, and tax credits, including
the FICA tip credit, for both years while the first quarter of 2018 was significantly impacted by a $9.7 million reduction of
our deferred tax liability caused by newly enacted tax laws.
The
Tax Cuts and Jobs Act (“Tax Act”) was enacted on December 22, 2017, and includes, among other items, a reduction in
the federal corporate income tax rate from 35% to 21% effective January 1, 2018. Our federal corporate income tax rate for fiscal
2018 was 24.5% percent and represents a blended income tax rate for our fiscal year ended September 30, 2018. For
fiscal 2019, our federal corporate income tax rate will be 21%.
Additionally,
for the fiscal year ended September 30, 2018, in accordance with FASB ASC Topic 740, we remeasured our deferred tax balances to
reflect the reduced rate that will apply when these deferred taxes are settled or realized in future periods. The remeasurement
resulted in a $8.7 million full year adjustment of our net deferred tax liabilities reflected in our consolidated balance sheet
as of September 30, 2018 and a corresponding income tax benefit reflected in our consolidated statements of earnings for the fiscal
year ended September 30, 2018. The SEC staff issued Staff Accounting Bulletin No. 118 which allows companies to record provisional
amounts during a measurement period that is similar to the measurement period used when accounting for business combinations.
While we are able to make a reasonable estimate of the impacts of the Tax Act, adjustments may occur and may be affected by other
factors, including, but not limited to, further refinement of our calculations, changes in interpretations and assumptions and
regulatory changes from the Internal Revenue Service, the SEC, the FASB, and various tax jurisdictions.
Under
generally accepted accounting principles, the Company uses the asset and liability method of accounting for income taxes. Under
this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. At September 30, 2017, the Company’s deferred tax assets and liabilities
were determined based on the then-current enacted federal tax rate of 35%. As a result of the reduction in the corporate income
tax rate under the Tax Act, the Company revalued its deferred tax assets and liabilities at December 31, 2017. Deferred tax assets
and liabilities expected to be realized in fiscal year 2018 were re-measured using the aforementioned blended rate. All remaining
deferred tax assets and liabilities were re-measured using the new statutory federal rate of 21%. There were no additional
measurement adjustments since September 30, 2018 until the end of the measurement period on December 22. 2018.
The
Company or one of its subsidiaries files income tax returns for U.S. federal jurisdiction and various states. Fiscal year ended
September 30, 2016 remains open to tax examination. The Company’s federal income tax returns for the years ended September
30, 2015, 2014 and 2013 have been examined by the Internal Revenue Service with no changes. These years are now under examination
for payroll taxes. The Company is also being examined for state income taxes, the settlement of which may occur within the next
twelve months.
The
Company accounts for uncertain tax positions pursuant to ASC Topic 740,
Income Taxes
. As of December 31, 2018 and September
30, 2018, the liability for uncertain tax positions totaled approximately $165,000 as of each date, which is included in current
liabilities on our condensed consolidated balance sheets. The Company recognizes interest accrued related to uncertain tax positions
in interest expense and penalties in selling, general and administrative expenses in our consolidated statements of income.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
10
.
Commitments and Contingencies
Legal
Matters
Texas
Patron Tax
In
2015, the Company reached a settlement with the State of Texas over the payment of the state’s Patron Tax on adult club
customers. To resolve the issue of taxes owed, the Company agreed to pay $10.0 million in equal monthly installments of $119,000,
without interest, over 84 months, beginning in June 2015, for all but two non-settled locations. The Company agreed to remit the
Patron Tax on a monthly basis, based on the current rate of $5 per customer. For accounting purposes, the Company has discounted
the $10.0 million at an imputed interest rate of 9.6%, establishing a net present value for the settlement of $7.2 million. As
a consequence, the Company has recorded an $8.2 million pre-tax gain for the third quarter ending June 30, 2015, representing
the difference between the $7.2 million and the amount previously accrued for the tax.
In
March 2017, the Company settled with the State of Texas for one of the two remaining unsettled Patron Tax locations. To resolve
the issue of taxes owed, the Company agreed to pay a total of $687,815 with $195,815 paid at the time the settlement agreement
was executed followed by 60 equal monthly installments of $8,200 without interest.
The
aggregate balance of Patron Tax settlement liability, which is included in long-term debt in the consolidated balance sheets,
amounted to $4.2 million and $4.5 million as of December 31, 2018 and September 30, 2018, respectively.
A
Declaratory judgment action was brought by five operating subsidiaries of the Company to challenge a Texas Comptroller administrative
rule related to the $5 per customer Patron Tax Fee assessed against Sexually Oriented Businesses. An administrative rule attempted
to expand the fee to cover venues featuring dancers using latex cover as well as traditional nude entertainment. The administrative
rule was challenged on both constitutional and statutory grounds. On November 19, 2018, the Court issued an order that a key aspect
of the administrative rule is invalid based on it exceeding the scope of the Comptroller’s authority. Constitutional challenges
remain and will be resolved at trial.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Indemnity
Insurance Corporation
As
previously reported, the Company and its subsidiaries were insured under a liability policy issued by Indemnity Insurance Corporation,
RRG (“IIC”) through October 25, 2013. The Company and its subsidiaries changed insurance companies on that date.
On
November 7, 2013, the Court of Chancery of the State of Delaware entered a Rehabilitation and Injunction Order (“Rehabilitation
Order”), which declared IIC impaired, insolvent and in an unsafe condition and placed IIC under the supervision of the Insurance
Commissioner of the State of Delaware (“Commissioner”) in her capacity as receiver (“Receiver”). The Rehabilitation
Order empowered the Commissioner to rehabilitate IIC through a variety of means, including gathering assets and marshaling those
assets as necessary. Further, the order stayed or abated pending lawsuits involving IIC as the insurer until May 6, 2014.
On
April 10, 2014, the Court of Chancery of the State of Delaware entered a Liquidation and Injunction Order With Bar Date (“Liquidation
Order”), which ordered the liquidation of IIC and terminated all insurance policies or contracts of insurance issued by
IIC. The Liquidation Order further ordered that all claims against IIC must be filed with the Receiver before the close of business
on January 16, 2015 and that all pending lawsuits involving IIC as the insurer are further stayed or abated until October 7, 2014.
As a result, the Company and its subsidiaries no longer have insurance coverage under the liability policy with IIC. Currently,
there are several civil lawsuits pending against the Company and its subsidiaries. The Company has retained counsel to defend
against and evaluate these claims and lawsuits. We are funding 100% of the costs of litigation and will seek reimbursement from
the bankruptcy receiver. The Company filed the appropriate claims against IIC with the Receiver before the January 16, 2015 deadline
and has provided updates as requested; however, there are no assurances of any recovery from these claims. It is unknown at this
time what effect this uncertainty will have on the Company. As previously stated, since October 25, 2013, the Company has obtained
general liability coverage from other insurers, which have covered and/or will cover any claims arising from actions after that
date. As of December 31, 2018, we have 2 unresolved claims out of the original 71 claims.
General
The
Company has been sued by a landlord in the 333rd Judicial District Court of Harris County, Texas for a Houston Bombshells which
was under renovation in 2015. The plaintiff alleges RCI Hospitality Holdings, Inc.’s subsidiary, BMB Dining Services (Willowbrook),
Inc., breached a lease agreement by constructing an outdoor patio, which allegedly interfered with the common areas of the shopping
center, and by failing to provide Plaintiff with proposed plans before beginning construction. Plaintiff also asserts RCI Hospitality
Holdings, Inc. is liable as guarantor of the lease. The lease was for a Bombshells restaurant to be opened in the Willowbrook
Shopping Center in Houston, Texas. Both RCI Hospitality Holdings, Inc. and BMB Dining Services (Willowbrook), Inc. have denied
liability and assert that Plaintiff has failed to mitigate its claimed damages. Further, BMB Dining Services (Willowbrook), Inc.
asserts that Plaintiff affirmatively represented that the patio could be constructed under the lease and has filed counter claims
and third-party claims against Plaintiff and Plaintiff’s manager asserting that they committed fraud and that the landlord
breached the applicable agreements. While the case was tried to a jury in late September 2018 and an adverse judgment was entered
in January 2019, such judgment remains modifiable, substantial disputes remain related to the legal impact of the jury’s
verdict, and the parties are currently engaged in motion practice to resolve their disputes. It is unknown at this time whether
the resolution of this uncertainty will have a material effect on the Company’s financial condition.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
On
June 23, 2014, Mark H. Dupray and Ashlee Dupray filed a lawsuit against Pedro Antonio Panameno and our subsidiary JAI Dining Services
(Phoenix) Inc. (“JAI Phoenix”) in the Superior Court of Arizona for Maricopa County. The suit alleged that Mr. Panameno
injured Mr. Dupray in a traffic accident after being served alcohol at an establishment operated by JAI Phoenix. The suit alleged
that JAI Phoenix was liable under theories of common law dram shop negligence and dram shop negligence per se. After a jury trial
proceeded to a verdict in favor of the plaintiffs against both defendants, in April 2017 the Court entered a judgment under which
JAI Phoenix’s share of compensatory damages is approximately $1.4 million and its share of punitive damages is $4 million.
In May 2017, JAI Phoenix filed a motion for judgment as a matter of law or, in the alternative, motion for new trial. The Court
denied this motion in August 2017. In September 2017, JAI Phoenix filed a notice of appeal. In June 2018, the matter was heard
by the Arizona Court of Appeals. On November 15, 2018 the Court of Appeals vacated the jury’s verdict and remanded the case
to the trial court. It is anticipated that a new trial will occur at some point in the future. JAI Phoenix will continue to vigorously
defend itself.
Settlements
of lawsuits for the quarters ended December 31, 2018 and 2017 total $60,000 and $27,000, respectively. As of December 31, 2018
or September 30, 2018, the Company has nothing accrued related to settlement of lawsuits.
11.
Segment Information
The
Company owns and operates adult nightclubs and Bombshells Restaurants and Bars. The Company has identified such reportable segments
based on management responsibility and the nature of the Company’s products, services, and costs. There are no major distinctions
in geographical areas served as all operations are in the United States. The Company measures segment profit (loss) as income
(loss) from operations. Segment assets are those assets controlled by each reportable segment. The Other category below includes
our media and energy drink divisions that are not significant to the consolidated financial statements.
Below
is the financial information related to the Company’s segments (in thousands):
|
|
For
the Three Months
|
|
|
|
Ended
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Revenues
|
|
|
|
|
|
|
|
|
Nightclubs
|
|
$
|
37,728
|
|
|
$
|
35,218
|
|
Bombshells
|
|
|
6,013
|
|
|
|
5,828
|
|
Other
|
|
|
282
|
|
|
|
166
|
|
|
|
$
|
44,023
|
|
|
$
|
41,212
|
|
|
|
|
|
|
|
|
|
|
Income
(loss) from operations
|
|
|
|
|
|
|
|
|
Nightclubs
|
|
$
|
15,387
|
|
|
$
|
13,371
|
|
Bombshells
|
|
|
119
|
|
|
|
891
|
|
Other
|
|
|
(119
|
)
|
|
|
(137
|
)
|
General
corporate
|
|
|
(4,255
|
)
|
|
|
(4,985
|
)
|
|
|
$
|
11,132
|
|
|
$
|
9,140
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
|
|
|
|
|
|
Nightclubs
|
|
$
|
1,507
|
|
|
$
|
1,335
|
|
Bombshells
|
|
|
292
|
|
|
|
336
|
|
Other
|
|
|
104
|
|
|
|
2
|
|
General
corporate
|
|
|
150
|
|
|
|
236
|
|
|
|
$
|
2,053
|
|
|
$
|
1,909
|
|
|
|
|
|
|
|
|
|
|
Capital
expenditures
|
|
|
|
|
|
|
|
|
Nightclubs
|
|
$
|
447
|
|
|
$
|
450
|
|
Bombshells
|
|
|
4,009
|
|
|
|
2,228
|
|
Other
|
|
|
9
|
|
|
|
-
|
|
General
corporate
|
|
|
2,830
|
|
|
|
91
|
|
|
|
$
|
7,295
|
|
|
$
|
2,769
|
|
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
|
|
December
31, 2018
|
|
|
September
30, 2018
|
|
|
|
|
|
|
(As
Revised)
|
|
Total
assets
|
|
|
|
|
|
|
|
|
Nightclubs
|
|
$
|
269,313
|
|
|
$
|
252,335
|
|
Bombshells
|
|
|
43,540
|
|
|
|
39,560
|
|
Other
|
|
|
2,144
|
|
|
|
1,978
|
|
General
corporate
|
|
|
34,525
|
|
|
|
35,859
|
|
|
|
$
|
349,522
|
|
|
$
|
329,732
|
|
General
corporate expenses include corporate salaries, health insurance and social security taxes for officers, legal, accounting and
information technology employees, corporate taxes and insurance, legal and accounting fees, depreciation and other corporate costs
such as automobile and travel costs. Management considers these to be non-allocable costs for segment purposes.
12.
Noncontrolling Interests
Noncontrolling
interests represent the portion of equity in a consolidated entity held by owners other than the consolidating parent. Noncontrolling
interests are reported in the consolidated balance sheets within equity, separately from stockholders’ equity. Revenue,
expenses and net income attributable to both the Company and the noncontrolling interests are reported in the consolidated statements
of income.
Our
consolidated financial statements include noncontrolling interests related principally to the Company’s ownership of 51%
of an entity which owns one of the Company’s nightclubs in New York City.
13.
Related Party Transactions
Presently,
our Chairman and President, Eric Langan, personally guarantees all of the commercial bank indebtedness of the Company. Mr. Langan
receives no compensation or other direct financial benefit for any of the guarantees.
Included
in the $2.35 million borrowing on November 1, 2018 (see Note 6) was a $500,000 note borrowed from a related party. The
terms of this related party note are similar to the rest of the lender group in the November 1, 2018 transaction.
14.
Acquisitions and Disposition
In
October 2018, the Company sold its nightclub in Philadelphia for a total sales price of $1.0 million, payable $375,000 in cash
at closing and a $625,000 9% note payable over a 10-year period. The note is payable interest-only for twelve months at the conclusion
of which time a balloon payment of $250,000 is due, and then the remainder of the principal and interest is payable in 108 equal
installments of $5,078 per month until October 2028. The buyer will lease the property from the Company’s real estate subsidiary
under the following terms: $36,000 per month lease payments for ten years; renewal option for a succeeding ten years at a minimum
of $48,000 per month; lessee has option to purchase the property for $6.0 million during a term beginning November 2023 and expiring
in October 2028. The Company recorded a gain on the sale transaction of approximately $879,000, which is included in other charges
(gains), net in our consolidated statement of income during the quarter ended December 31, 2018.
RCI
HOSPITALITY HOLDINGS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
On
November 1, 2018, a club in Chicago was acquired for a total consideration of $10.5 million with $6.0 million cash paid at closing,
including acquisition-related costs, and the $4.5 million in a 6-year seller financed note with interest at 7%. The Company paid
approximately $37,000 in acquisition-related costs for this transaction, which is included in selling, general and administrative
expenses in our consolidated statement of income. The club generated revenue of approximately $742,000 since acquisition date.
The
following information summarizes the preliminary allocation of fair values assigned to the assets at acquisition date (in thousands):
Land
and building
|
|
$
|
4,325
|
|
Inventory
|
|
|
57
|
|
Furniture
and equipment
|
|
|
50
|
|
Noncompete
|
|
|
100
|
|
SOB
license
|
|
|
5,968
|
|
Goodwill
|
|
|
1,463
|
|
Deferred tax liability
|
|
|
(1,463
|
)
|
Net
assets
|
|
$
|
10,500
|
|
On
November 5, 2018, a Pittsburgh club was acquired for a total consideration of $15.1 million, with $7.6 million cash paid at closing,
including acquisition-related costs, and two seller notes payable. The first note is 2-year 7% note for $2.0 million, and the
second is a 10-year 8% note for $5.5 million. The Company paid approximately $134,000 in acquisition-related costs for this transaction,
which is included in selling, general and administrative expenses in our consolidated statement of income. The club generated
revenue of approximately $892,000 since acquisition date.
The
following information summarizes the preliminary allocation of fair values assigned to the assets at acquisition date (in thousands):
Land
and building
|
|
$
|
5,000
|
|
Inventory
|
|
|
23
|
|
Furniture
and equipment
|
|
|
200
|
|
Noncompete
|
|
|
100
|
|
Goodwill
|
|
|
9,677
|
|
Net
assets
|
|
$
|
15,000
|
|
It
is management’s expectation that the purchase price of these acquisitions will be allocated to assets, including land, buildings,
inventory, noncompetes, SOB license, and goodwill; however, the final purchase price allocation of the two clubs remains subject
to post-closing adjustments until the Company has completed final valuation and accounting for the transactions.
Subsequent
to the quarter ended December 31, 2018, the Company sold a held-for-sale property in Dallas, Texas for a total sales price of
$1.4 million, payable $163,000 in cash at closing, net of closing costs and property taxes of $87,000, and a $1.15 million 8%
note payable over a three-year period. The note is payable $9,619 per month, principal and interest, for the first 35 months with
the remaining balance payable at maturity. The buyer has the option to extend the maturity date by one year at least 60 days prior
to maturity, as long as the buyer is not in default. The Company recorded a preliminary gain on the sale transaction of approximately
$383,000.