Notes to Condensed Consolidated Financial Statements (Unaudited)
1.
Organization and Basis of Presentation
General
YogaWorks, Inc., a Delaware corporation, and its wholly-owned subsidiary Yoga Works, Inc., a California corporation (together referred to as “we”, “us”, “our”, and the “Company”), are primarily engaged in operating yoga studios. YogaWorks, Inc. was formerly known as YWX Holdings, Inc. and we changed our name to YogaWorks, Inc. on April 10, 2017. We operate under the brand names YogaWorks, Yoga Tree and certain other local brands for a period of time following the acquisition of studios. We primarily offer yoga classes, workshops, teacher training programs and yoga-related retail merchandise across our studios. In addition to our studio locations, we offer online yoga instruction and programming through our MyYogaWorks.com web platform, which provides subscribers with a highly curated library of over 1,100 yoga classes.
Initial Public Offering
On August 16, 2017, we completed our initial public offering (“IPO”) whereby we sold 7,300,000 shares of our common stock (“Common Stock”) registered at a price of $5.50 per share. Our shares of Common Stock are traded on the NASDAQ Global Market. We received proceeds from our IPO of $37.6 million after deducting underwriters' discounts and commissions of $2.5 million, but before deducting offering costs of $2.6 million. Certain IPO-related costs of $5.1 million were recorded as a reduction to additional paid-in capital in 2017.
Markets
We operate in regional markets across the United States (“U.S.”). As a result of the clustering of our studios in key geographic markets, and the flexibility offered to students to use different studios in a regional market, we do not report net revenues on an individual studio basis or report same studio sales. We prefer to analyze financial results on a regional market basis. Given the focus on acquisitions, we may acquire studios in an existing regional market to capture more regional market share, which may take some market share from our existing studios.
As of March 31, 2018, we owned and operated 66 yoga studios in nine regional markets. The following table illustrates the studio locations by regional market:
|
|
At or For Three Months Ended March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Regional Market
|
|
Number of
Studios(1)
|
|
Percentage of
Net Revenues(2)
|
|
|
Number of
Studios(1)
|
|
|
Percentage of
Net Revenues(2)
|
|
Los Angeles
|
|
17
|
|
|
34
|
%
|
|
17
|
|
|
|
42
|
%
|
Orange County (California)
|
|
4
|
|
|
6
|
%
|
|
4
|
|
|
|
7
|
%
|
Northern California
|
|
13
|
|
|
23
|
%
|
|
13
|
|
|
|
25
|
%
|
Houston(3)
|
|
7
|
|
|
8
|
%
|
|
|
—
|
|
|
|
—
|
|
Atlanta(3)
|
|
4
|
|
|
4
|
%
|
|
|
—
|
|
|
|
—
|
|
Washington, D.C.(4)
|
|
6
|
|
|
5
|
%
|
|
1
|
|
|
|
1
|
%
|
Baltimore(4)
|
|
7
|
|
|
6
|
%
|
|
7
|
|
|
|
7
|
%
|
New York City
|
|
5
|
|
|
11
|
%
|
|
5
|
|
|
|
14
|
%
|
Boston
|
|
3
|
|
|
3
|
%
|
|
3
|
|
|
|
4
|
%
|
Total studios
|
|
66
|
|
|
|
|
|
50
|
|
|
|
|
|
|
(1)
|
Number of studios as of March 31, 2018 and 2017.
|
|
(2)
|
For the three months ended March 31, 2018 and 2017. Assumes that any net revenues for teacher training, workshops and MyYogaWorks.com for such period are allocated to the regional markets on a proportional basis based on the market’s share of total studio net revenues for such period.
|
|
(3)
|
Reflects seven Houston area studios acquired in October 2017 and four Atlanta area studios acquired in November 2017.
|
|
(4)
|
Reflects five Washington, D.C./Baltimore-area studios acquired in the second half of 2017. The regions were then split into two separate areas as a result of the acquisitions.
|
6
We operate in a number of regional operating segments; however, we meet the aggregation criteria of Accounting Standards Codification (“ASC”) 280, “Segment Reporting” and theref
ore report as
one reportable segment
. Our chief executive officer, who is our chief operating decision maker, determines our strategy and makes operating decisions for our regional operating segments, and assesses performance and allocates resources based
on performance of our regional operating segments. We derive revenue from the sale of yoga classes, workshops, teacher training programs and yoga-related retail merchandise.
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements included herein have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and the rules and regulations of the Securities and Exchange Commission (“SEC”). In the opinion of management, normal recurring adjustments considered necessary for a fair presentation have been reflected in these condensed consolidated financial statements.
The consolidated balance sheet as of December 31, 2017 has been derived from the audited financial statements for the fiscal year then ended included in our Annual Report on Form 10-K filed with the SEC pursuant to Rule 424(b) under the Securities Act of 1933, as amended, on April 3, 2018 (the “10-K”), but does not include all of the information and notes required by GAAP for complete financial statements. The financial information included in this quarterly report on Form 10-Q should be read in conjunction with the consolidated financial statements as of and for the fiscal year ended December 31, 2017 and the related notes thereto included in the 10-K.
There have been no significant changes in our accounting policies from those disclosed in the 10-K.
2.
Recent Accounting Pronouncements
Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have availed ourselves of this exemption from new or revised accounting standards. The effective dates of the recent accounting pronouncements noted below reflect the private company transition date.
In May 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2017-09, Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting. The amendments in this ASU will provide guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. This ASU was effective for fiscal years beginning after December 15, 2017. We adopted this ASU as of January 1, 2018 noting no material impact to the consolidated financial statements.
In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business. The amendments in this ASU provide a robust framework to use in determining when a set of assets and activities is a business. This ASU is effective for fiscal years beginning after December 15, 2018. Early adoption is permitted and the standard should be applied prospectively. We are currently evaluating the impact of this ASU on the financial statements and related disclosures.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The update provides guidance on classification for cash receipts and payments related to eight specific issues. The update is effective for fiscal years beginning after December 15, 2018, with early adoption permitted. We are evaluating the impact of implementing this update on our consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The new standard establishes a right-of-use (“ROU”) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Although early adoption is permitted, we will adopt these provisions in the first quarter of 2020. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. We had $51.2 million of operating lease obligations as of December 31, 2017, and upon adoption of this standard we will record a ROU asset and lease liability equal to the present value of these leases, which will have a material impact on the consolidated balance sheet. However, the recognition of lease expense in the consolidated statement of operations is not expected to change from the current methodology.
7
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This ASU supersedes the revenue recognition requirements in ASU T
opic 605, Revenue Recognition, and requires the recognition of revenue when promised goods or services are transferred to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or se
rvices. Topic 606 is effective for our Company in fiscal years beginning after December 15, 2018, with early adoption permitted. The standard permits the use of either the retrospective or modified retrospective (cumulative effect) transition method. Our C
ompany primarily generates revenues by selling yoga classes in the form of memberships or class packages. Our implementation efforts included the identification of revenue streams within the scope of the guidance, evaluation of the revenue contracts and ex
isting revenue recognition policies. We will adopt the new standard on January 1, 2019 and our evaluation remains preliminary because we are still in the process of evaluating the impact.
3.
Property and Equipment
The major classes of property and equipment are as follows:
|
|
As of
March 31, 2018
|
|
|
As of
December 31, 2017
|
|
Computer equipment and purchased software
|
|
$
|
1,228,560
|
|
|
$
|
1,130,653
|
|
Furniture and fixtures
|
|
|
3,693,682
|
|
|
|
3,633,677
|
|
Leasehold improvements
|
|
|
25,569,319
|
|
|
|
25,367,841
|
|
Other equipment
|
|
|
190,570
|
|
|
|
174,885
|
|
Total property and equipment
|
|
|
30,682,131
|
|
|
|
30,307,056
|
|
Less accumulated depreciation and amortization
|
|
|
(20,712,295
|
)
|
|
|
(19,888,853
|
)
|
|
|
$
|
9,969,836
|
|
|
$
|
10,418,203
|
|
Depreciation and amortization expense includes property and equipment, leasehold improvements and purchased software. We incurred depreciation expense of $831,843 and $660,802 for the three months ended March 31, 2018 and 2017, respectively.
4.
Deferred Revenue
The following is a reconciliation of the changes in deferred revenue for the three months ended March 31, 2018 and 2017, are as follows:
|
|
For the three months ended March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Deferred revenue at beginning of quarter
|
|
$
|
7,187,948
|
|
|
$
|
4,593,076
|
|
Cash receipts before deferred revenue
|
|
|
15,788,844
|
|
|
|
13,915,393
|
|
Net revenue for the period
|
|
|
(15,529,813
|
)
|
|
|
(13,990,094
|
)
|
Change in gift card liabilities
|
|
|
(64,091
|
)
|
|
|
(40,057
|
)
|
Deferred revenue at quarter end
|
|
$
|
7,382,888
|
|
|
$
|
4,478,318
|
|
5.
Related Party
We paid expense reimbursement fees
to an affiliate of Great Hill Equity
Partners, V, L.P. and Great Hill Investors, LLC (collectively, “Great Hill Partners” or “GHP”), the owners of a majority of our Common
Stock, in the amount of $25,000 for the three months ended March 31, 2017
. In connection with our IPO, the Expense Reimbursement Agreement that we entered into with
Great Hill Partners
was terminated.
On March 27, 2017, we issued new convertible notes (the “New Convertible Notes”) to Great Hill Partners, in the aggregate principal amount of $3.2 million, which were convertible, at the option of the holder, into shares of our Common Stock at a conversion price of $8.40 per share (see Note 6). In connection with the IPO, the New Convertible Notes were repaid in full.
8
6.
Debt
Long-term Debt
In July 2015, we obtained a 5-year $20 million senior secured term loan facility with Deerpath Funding LP (the “Deerpath Facility”). We borrowed $5 million in July 2015 (the “Initial Term Loan”), and had the ability, upon meeting certain conditions, to borrow up to an additional $15 million. Borrowings under the Deerpath Facility carried an annual interest rate of LIBOR + 7%. The proceeds from the Initial Term Loan were used to pay all of the outstanding indebtedness under our credit facility with a previous lender.
In December 2015, we borrowed an additional $2 million under the Deerpath Facility for general corporate purposes, thereby increasing the principal amount of the loans and reducing the incremental borrowing availability under the Deerpath Facility, in each case, by an equivalent amount. As of March 30, 2017, there remained $13.1 million of incremental borrowing capacity under the Deerpath Facility. Interest expe
nse for the three months ended March 31, 2017 related to the aggregate amount of outstanding indebtedness under the Deerpath Facility was $191,812. On August 16, 2017, in connection with the consummation of our IPO, the Deerpath Facility was repaid in full and immediately cancelled thereafter.
Convertible Note Due to Related Party
On March 27, 2017, we issued the New Convertible Notes to Great Hill Partners, in the aggregate principal amount of $3.2 million, which were convertible, at the option of the holder, into shares of our Common Stock at a conversion rate of $8.40 per share. The New Convertible Notes consisted of a Subordinated Convertible Promissory Note, dated March 27, 2017, made by us in favor of Great Hill Equity Partners V, L.P., in the principal amount of $3,189,350, and a Subordinated Convertible Promissory Note, dated March 27, 2017, made by us in favor of Great Hill Investors, LLC, in the principal amount of $10,650. Each New Convertible Note had a maturity date of March 27, 2018 and bore in
terest at an annual rate of 8%. Interest expense was $342,013 and for the three months ended March 31, 2017. On August 16, 2017, in connection with the consummation of our
IPO, the New Convertible Notes
were repaid in full.
7.
Common Stock
Initial Public Offering
On August 16, 2017, we completed our IPO whereby we sold 7,300,000 shares of our Common Stock registered at a price of $5.50 per share. We received proceeds from our IPO of $37.6 million after deducting underwriters' discounts and commissions of $2.5 million, but before deducting offering costs of $2.6 million.
Conversion of Amended and Restated 2015 GHP convertible promissory notes and redeemable preferred stock
On March 24, 2017, we engaged in a series of transactions to convert certain of our outstanding indebtedness and all of the Company’s outstanding redeemable preferred stock into shares of Common Stock.
The aggregate amount of principal and accrued interest under that certain Second Amended and Restated Subordinated Convertible Promissory Note made by us in favor of Great Hill Equity Partners V, L.P., dated March 24, 2017, and that certain Second Amended and Restated Subordinated Convertible Promissory Note made by us in favor of Great Hill Investors, LLC, dated March 24, 2017 (coll
ectively, the “Amended and Restated 2015 GHP Convertible Promissory Notes”), was converted into 1,407,632 shares of Common Stock based on the conversion price per share of Common Stock as set forth in such notes of $8.40. Concurrently, all of the outstanding shares of redeemable preferred stock were converted into shares of Common Stock, with the number of shares of Common Stock issuable upon such conversion computed by dividing the Preferred Share Liquidation Preference (as defined in the Amended and Restated 2015 GHP Convertible Promissory Notes) per share by a conversion price per share of Common Stock of $8.40, resulting in 7,426,169 newly issued shares of Common Stock. Immediately after the conversion of the Amended and Restated 2015 GHP Convertible Promissory Notes and the redeemable preferred stock into shares of Common Stock, we effected a 1-for-10 reverse stock split of the Common Stock. Accordingly, except as otherwise indicated, all share and per share amounts have been adjusted to reflect the 1-for-10 reverse stock split as though it had occurred at the beginning of the initial period presented. In connection with the foregoing transactions, we also increased our total number of shares of authorized Common Stock to 14,131,017 shares.
Following the 1-for-10 reverse stock split, our Board of Directors (“Board”) amended our 2014 Stock Option and Grant Plan to increase the shares of Common Stock reserved for issuance thereunder to 1,695,484. In addition, our Board approved the grant of options to purchase 1,425,641 shares of Common Stock to certain employees and consultants.
9
On July 14, 2017, we effectuated a 1-for-1.333520 reverse stock split (the “1-for-1.333520 Reverse Split”). Under the terms of the 1-for-1.333520 Reverse Split, each share of Common
Stock, issued and outstanding as of such effective date, was automatically reclassified and split into 0.749895 shares of Common Stock, without any further action by the stockholders. Fractional shares were rounded down to the nearest whole share.
Accordi
ngly, except as otherwise indicated, all
share and per share amounts have been
adjusted
to reflect the 1-for-1.333520 Reverse Split for all periods presented in this quarterly report.
8.
Preferred Stock
Redeemable Preferred Stock
On March 24, 2017, we engaged in a series of transactions to convert certain of our outstanding indebtedness and all of the outstanding redeemable preferred stock into shares of Common Stock. Because Great Hill Equity Partners, V, L.P. and Great Hill Investors, LLC held all of the redeemable preferred stock and owned a substantial majority of the Common Stock both before and after the conversion of the redeemable preferred stock on March 24, 2017, there is no impact on earnings per share as a result of this conversion.
9.
Loss per Share Attributable to Common Stockholders
The components of basic and diluted loss per share attributable to common stockholders are as follows (in thousands, except share and per share data):
|
|
Three Months Ended March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Numerator for basic and diluted loss per share
attributable to common stockholders:
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(3,960,896
|
)
|
|
$
|
(2,616,798
|
)
|
Dividend attributable to participating securities
|
|
|
—
|
|
|
|
(995,743
|
)
|
Net loss attributable to YogaWorks, Inc. common stockholders
|
|
$
|
(3,960,896
|
)
|
|
$
|
(3,612,541
|
)
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted-average outstanding shares of common stock
|
|
|
16,350,026
|
|
|
|
243,848
|
|
Net loss per share attributable to common stockholders:
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(0.24
|
)
|
|
$
|
(14.81
|
)
|
As of March 31, 2018, and 2017, there were outstanding options to purchase 1,621,877 and 1,289,013 shares of Common Stock outstanding, respectively, which were excluded from the computation of diluted loss per share because it would be anti-dilutive.
10.
Accounting for Stock-Based Compensation
Common Stock Options and Grants
2014 Plan
In July 2014, our Company adopted the 2014 Stock Option and Grant Plan (the “2014 Plan”). Upon adoption of the 2014 Plan, the maximum aggregate number of shares issuable thereunder was 7,499 shares post-reverse split. In March 12, 2017, our Board amended the 2014 Plan to increase the shares of Common Stock reserved for issuance thereunder to 1,695,484. As of March 31, 2018, no shares were issuable under the 2014 Plan.
2017 Plan
In connection with our IPO, we adopted the 2017 Incentive Award Plan (the “2017 Plan”), effective as of August 9, 2017. The aggregate number of shares of Common Stock reserved for issuance pursuant to awards granted under the 2017 Plan equals: (i) 2,263,213, plus (ii) any shares which, as of the effective date of the 2017 Plan, subject to awards under the 2014 Plan which forfeited or lapsed unexercised following the effective date of the 2017 Plan, plus (iii) an annual increase on the first day of each calendar year beginning on January 1, 2018 and ending on and including January 1, 2027 equal to the lesser of (a) 5% of the shares outstanding (on an as-converted basis) on the final day of the immediately preceding calendar year, or (b) such smaller number of shares as determined by our Board.
10
The 2017 Plan permits the grant of incentiv
e stock options, restricted stock, restricted stock units, stock appreciation rights, performance-based awards to our employees, directors and consultants. Shares issued pursuant to awards under the 2017 Plan that are settled for cash by our Company or tha
t expire or are forfeited will become available for future grant or sale. Shares used to pay the exercise price of an award or to satisfy the minimum tax withholding obligations related to an award will not be available for future grants under the 2017 Pla
n. As of March 31, 2018, 1,764,379 shares remained available for issuance under the 2017 Plan.
With the exception of accelerated options, our typical options vest over four years from the grant date, with 25% of the award vesting on the first anniversary of the grant date and the remainder vesting over the next 36 months. Stock compensation expense related to these equity awards was recorded based upon the estimated fair value of the shares amortized over the vesting period.
|
|
Shares
|
|
|
Weighted-
Average
Exercise Price
|
|
|
Weighted-
Average
Remaining
Contractual
Life
(in Years)
|
|
|
Aggregate
Intrinsic
Value (1)
|
|
Outstanding at December 31,
2017
|
|
|
1,527,768
|
|
|
$
|
7.74
|
|
|
|
9.29
|
|
|
$
|
—
|
|
Granted
|
|
|
125,500
|
|
|
|
2.78
|
|
|
|
9.92
|
|
|
|
—
|
|
Exercised
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Cancelled
|
|
|
(31,391
|
)
|
|
|
6.55
|
|
|
|
—
|
|
|
|
|
|
Outstanding at March 31, 2018
|
|
|
1,621,877
|
|
|
|
7.38
|
|
|
|
9.12
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at March 31, 2018
|
|
|
794,659
|
|
|
|
7.90
|
|
|
|
9.03
|
|
|
|
—
|
|
|
(1)
|
Based on our Company’s closing stock price of $2.88 on March 29, 2018.
|
Unamortized stock-based compensation expense relating to stock options was $1.4 million at March 31, 2018, which is expected to be recognized over a weighted-average period of 2.0 years.
Valuation
We use the Black-Scholes option pricing model to calculate the fair value of each option grant. The expected volatility is based on historical volatility of the stock price of comparable public companies. We estimate the expected term based upon the historical exercise behavior of employees. The risk-free interest rate is based on U.S. Treasury zero-coupon issues with a term equal to the expected term of the option assumed at the date of grant. We estimated a zero-forfeiture rate for these stock option grants as the awards have short vesting terms and have a low probability of forfeiture based on the recipients of the stock options.
The fair values of stock options granted have been estimated utilizing the following assumptions:
|
|
Three Months Ended March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Fair value of common stock
|
|
$
|
2.78
|
|
|
$
|
5.88
|
|
Exercise price of common stock option
|
|
$
|
2.78
|
|
|
$
|
8.40
|
|
Risk-free interest rate
|
|
|
2.38
|
%
|
|
|
2.10
|
%
|
Expected term (in years)
|
|
|
10.00
|
|
|
|
5.95
|
|
Dividend yield
|
|
|
0.00
|
%
|
|
|
0.00
|
%
|
Expected volatility
|
|
|
49
|
%
|
|
|
40
|
%
|
11
Restricted Stock Units
Our Company granted 375,000 Restricted Stock Units (“RSUs”) to our Company’s officers during the three months ended March 31, 2018. All RSUs grants vest on the satisfaction of only a service-based condition. As of March 31, 2018, there were 685,944 shares of our Common Stock issuable upon the vesting of outstanding RSUs. Unrecognized compensation expenses related to shares of our Common Stock subject to unvested RSUs was $2.2 million at March 31, 2018, which is expected to be recognized as expense over the weighted-average period of 3.1 years. The service conditions are generally satisfied for the RSUs granted to our officers and Board over four years starting from such person’s hiring date and the earlier to occur of the first anniversary of the grant date or the annual meeting of stockholders, respectively.
For the three months ended March 31, 2018, our Company withheld 25,906 shares of Common Stock (“Net Settlement”) and remitted $73,636 in cash to meet the related tax withholding requirements on behalf of our officers. We will continue to evaluate the Net Settlement of RSUs that vest in the future.
Stock-Based Compensation Expense
Our Company recognized stock-based compensation expense related to stock options and RSUs, included in general and administrative expenses as follows:
|
|
Three Months Ended March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Stock-based compensation
|
|
$
|
452,176
|
|
|
$
|
538,872
|
|
11.
Income Taxes
Our effective income tax rate for the three months ended March 31, 2018 and 2017 was (0.44)% and (0.96)%, respectively. Our effective income tax rate is evaluated and adjusted at each interim period as facts and circumstances warrant. The difference between federal income taxes computed at the federal statutory rate and reported income taxes for the three months ended March 31, 2018 and 2017 was primarily related to the impact of the valuation allowance and state income taxes.
The FASB issued ASU 2018-05, Income Taxes (Topic 740): "Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118" to address the application of GAAP in situations when a registrant does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of the Tax Cuts and Jobs Act (“the Act”).
The Act was enacted on December 22, 2017. Among other changes for tax years beginning January 1, 2018, the Act reduces the U.S. federal corporate tax rate from 34% to 21%, the deductibility of entertainment expenses and fringe benefits, and the limitation on excessive employee remuneration under Internal Revenue Code (“IRC”) Section 162(m). At March 31, 2018, we have not completed our accounting for all of the tax effects of the Act and have not made an adjustment to the provisional tax benefit recorded under Staff Accounting Bulletin 118 at December 31, 2017. We have estimated our provision for income taxes in accordance with the Act and guidance available as of the date of this filing. Our estimated annual effective tax rate may be adjusted in subsequent interim periods, due to, among other things, additional analysis, changes in interpretations and assumptions we have made, and additional regulatory guidance that may be issued.
At March 31, 2018, we had no unrecognized tax benefits. We believe that there are no uncertain tax positions for which it is reasonably possible that will produce a material effect to the financial statements over the next 12 months. We recognize interest and penalties on taxes, if any, related to unrecognized tax benefits as income tax expense. As of March 31, 2018 and 2017, we had no material uncertain tax positions to be accounted for in the financial statements; accordingly, no interest or penalties on taxes were recognized for the three months ended March 31, 2018 and for the same period in 2017.
Pursuant to IRC Sections 382 and 383, annual use of our net operating loss carryforwards may be limited in the event a cumulative change in ownership of more than 50% occurred within a three-year period. We have not completed an IRC Section 382 and 383 analysis regarding the limitation of net operating loss carryforwards. As there is a full valuation allowance applied to the deferred taxes, a Section 382 limitation will not have an effect on the deferred taxes or the income tax rate.
We are undergoing an examination of our federal income tax return filed for the 2015 tax year by the Internal Revenue Service. We are currently not under examination by state and local tax authorities.
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12.
Commitments and
Contingencies
Legal Matters
On June 5, 2017, a letter was sent to the California Labor & Workforce Development Agency alleging our itemized wage statements did not comply with the California Labor Code, which we refer to herein as the Wage Statement Claim. On August 7, 2017, we agreed to a class wide settlement for a maximum amount of $865,000 with respect to the Wage Statement Claim, which would include settlement of all penalties under the Private Attorneys General Act of 2004 and California Labor Code section 226, attorneys’ fees and costs, class representative enhancements and claims administration fees. The class wide settlement, including the maximum settlement amount of $865,000, remains subject to court approval. As of March 31, 2018, we have reserved for the entire amount under accrued expenses. In addition to the Wage Statement Claim, from time to time, we may become involved in legal proceedings arising in the ordinary course of business. There can be no assurance with respect to the outcome of any legal proceeding, and we could suffer monetary liability from the outcome of the Wage Statement Claim described above or other claims that may be made in the future that could be material to our results of operations. Other than the Wage Statement Claim, we believe there are no pending lawsuits or claims that may have a material adverse effect on our business, capital resources or results of operations.
13.
Subsequent Events
On April 30, 2018, we acquired three studio locations in the Boston area. With this acquisition, we now have a total of 69 studios.
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