YOGA YogaWorks Inc

Notes to Condensed Consolidated Financial Statements (Unaudited)

1.Organization and Basis of Presentation

General

YogaWorks, Inc., a Delaware corporation, and its wholly-owned subsidiaries (collectively referred to as “we”, “us”, “our”, and the “Company”) are primarily engaged in operating yoga studios. Our Company 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 1,200 yoga classes.

NASDAQ Listing

The Company’s 7,300,000 shares of common stock (“Common Stock”) sold on our initial public offering (“IPO”) were traded on the Nasdaq Global Market. On May 3, 2019, our Company’s securities were transferred from the Nasdaq Global Market to the Nasdaq Capital Market (“NASDAQ”).

On July 25, 2019, we filed a Form 25, Notification of Removal From Listing and/or Registration Under Section 12(b) of the Securities Exchange Act of 1934, with the Securities and Exchange Commission to delist the Company’s common stock from NASDAQ.  On August 1, 2019, NASDAQ permanently suspended the trading of our common stock.

On August 5, 2019, we filed a Form 15, Certification and Notice of Termination of Registration Under Section 12(g) of the Securities Exchange Act of 1934 or Suspension of Duty to File Reports Under Sections 13 and 15(d) of the Securities Exchange Act of 1934.

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 September 30, 2019, we owned and operated 63 yoga studios in nine regional markets. The following table illustrates the studio locations by regional market:

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We operate in a number of regional operating segments; however, we meet the aggregation criteria of Accounting Standards Codification (“ASC”) 280, Segment Reporting, and therefore 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.

Liquidity and Going Concern

We have a history of operating losses and an accumulated deficit of $106.3 million as of September 30, 2019. In addition, we had negative working capital of $10.7 million and $0.6 million at September 30, 2019 and December 31, 2018, respectively. As disclosed in our most recent Annual Report on Form 10-K, the Company needs additional financing to fund its operations. These conditions raise substantial doubt about our ability to continue as a going concern. Historically, we have satisfied our liquidity needs primarily through cash generated from financing activities, which includes proceeds from debt. Our principal liquidity needs include cash used for operations (such as rent and labor costs), acquisitions, capital expenditures necessary to improve existing studios, primarily leasehold improvements and additional furniture and fixtures. We have suspended acquiring or developing new studios to reduce our liquidity needs.

The accompanying interim unaudited financial statements have been prepared assuming the Company will continue as a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business, and do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or amounts and classification of liabilities that may result from the outcome of this uncertainty. As of November 14, 2019, the Company is in the process of seeking additional financing. The Company may sell additional equity, issue debt securities or obtain a credit facility. However, the Company may not be able to secure such financing in a timely manner or on favorable terms.  The Company is delaying and reducing its operating and investing expenditures, and negotiated rent reductions or lease buyouts with its landlords and will continue to do so, which may have a material adverse effect on operations.

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, 2018 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 March 27, 2019 (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, 2018 and the related notes thereto included in the 10-K.

Effective January 1, 2019, the Company adopted the requirements of Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers, as discussed further in Note 2. All amounts and disclosures set forth in this Quarterly Report on Form 10-Q have been updated to comply with this new standard with results for reporting periods beginning after January 1, 2019 presented under ASU No. 2014-09, while prior period amounts are not adjusted and continue to be reported under the accounting standards in effect for the prior period.

The Company has corrected an immaterial misstatement in the September 30, 2018 Statement of Cash Flows. The Company has reclassified $643,694 of cash paid related to acquisition holdback and earnouts from investing activities to financing activities. There was no impact on the cash flow from operating activities or net change in total cash flows.

2.Summary of Significant Accounting Policies

Except for changes to the Company’s revenue recognition policy, there have been no changes to the Company’s significant accounting policies described in the Annual Report on Form 10-K for the year ended December 31, 2018, filed with the SEC on March 27, 2019. See below for additional accounting policy and transition disclosures.

In June 2018, the Financial Accounting Standards Board (“FASB”) issued ASU 2018-07, Compensation – Stock Compensation (“Topic 718”): Improvements to Nonemployee Share-Based Payment Accounting. The amendments in this ASU provide guidance on accounting for share-based payment transactions for acquiring goods and services from nonemployees. This ASU was effective for fiscal years beginning after December 15, 2018. We adopted this ASU as of January 1, 2019 noting no material impact to the consolidated financial statements.

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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. This ASU was effective for fiscal years beginning after December 15, 2018. We adopted this ASU as of January 1, 2019 noting no material impact to the consolidated financial statements.

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 Topic 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 services. Subsequently, the FASB issued several standards related to ASU 2014-09 (collectively, the “New Revenue Standard”), including the most recent ASU, ASU 2017-14, Income Statement - Reporting Comprehensive Income (“Topic 220”), Revenue Recognition (“Topic 605”), and Topic 606, which was issued in November 2017.

We adopted the requirements of Topic 606 utilizing the modified retrospective method of transition to contracts as of January 1, 2019. The accumulated deficit balance was increased; thus, stockholders’ equity was decreased by $1.7 million as of January 1, 2019 due to the cumulative impact of adopting Topic 606. The impact was primarily related to:

Impact of New Standard on Financial Statement Line Items

The following tables summarize the effect of the adoption of Topic 606 on the Company’s select line items, included in the unaudited condensed consolidated financial statements as of and for the quarter ended September 30, 2019, as if the previous accounting was in effect.

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Summary of Significant Accounting Policies

Revenue Recognition after the adoption of Topic 606 beginning January 1, 2019

Our Company generates revenues primarily from the sale of yoga classes, workshops, teacher training programs and yoga-related retail merchandise, net of discounts, refunds and returns at the time they are granted. Membership, class package, workshop and teacher training revenues are generally paid in advance.

Classes and workshops

Classes are principally sold in two formats—class packages and memberships. Workshops are sold as a single class or as a class pack. Class packages are based on a fixed number of classes, while memberships provide unlimited classes over a certain time period. Class package revenue is recognized when the performance obligation is satisfied upon transfer of a promised service to a student or upon the redemption of a class pack for a class or upon breakage. The expected breakage amount is recognized as revenue in proportion to the pattern of rights exercised by the student. Memberships are offered to students in varying lengths. Membership revenue is recognized on a daily basis during the membership period.

Teacher Training and Workshops

Customers are offered teacher training and workshops in varying program formats and lengths. Revenue is recognized on a straight-line basis over the event period.

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MyYogaworks.com Subscription

Subscription Revenue is recognized on a straight-line basis during the subscription period.

Loyalty Program

Revenue on its loyalty program is recognized when the performance obligation is satisfied upon the redemption of the loyalty points for retail products or classes, or upon breakage. Loyalty Points earned are valued at their relative standalone selling price that is calculated using the redemption value method adjusted to reflect the likelihood that some points will not be redeemed or breakage. The Company discontinued the loyalty program after September 30, 2019.

Retail

Revenue for retail merchandise is recognized at the time of sale when the customer receives and pays for the merchandise at the stores. Taxes collected from the customer are recorded on a net basis. Sales returns by customers for yoga-related retail merchandise sales have historically not been material. Our Company sells gift cards to our customers. The gift cards sold to customers have no stated expiration dates and are subject to actual and/or potential escheatment rights in several of the jurisdictions in which we operate. We recognize income from gift cards when redeemed by the customer or upon breakage.

Practical Expedients

For each revenue stream, excluding revenue from retail merchandise, the Company has elected the practical expedient to apply Topic 606 to a portfolio of similar contracts on each revenue stream, as it is not reasonably expected to result in materially different outcomes compared to individually accounting for the contracts.  The services promised by the Company in exchange for consideration are identical with the only variability being the number of the memberships, number of class packs, and length or format of the training, respectively.

In addition, the Company has elected the practical expedient that allows an entity to recognize revenue in the amount for which it has the right to invoice. The Company’s stand-ready obligation to provide access to its facilities for members to attend any class during the duration of their membership is a performance obligation satisfied over time, which can be measured using a time-based measurement. The Company bills the monthly membership fees and recognizes the revenue on a daily basis, which corresponds to the identified contractual period.

Revenue Recognition prior to the adoption of Topic 606 on January 1, 2019

Our Company generates revenues primarily from the sale of yoga classes, workshops, teacher training programs and yoga-related retail merchandise, net of discounts, refunds and returns at the time they are granted. Yoga classes are principally sold in two formats—class packages and memberships. Class packages are based on a fixed number of classes, while memberships provide unlimited classes over a certain time period. Membership, class package, workshop and teacher training revenues are generally paid in advance. There are primarily two types of memberships, monthly memberships and paid-in-full memberships (for six or twelve months), and revenue is recognized over the membership period. Class package revenue is recognized based on aggregate usage patterns. Workshop and teacher training revenue is deferred until the date of the event or is recognized over the period the event takes place. The deferred revenue balance is reduced by refunds in the reporting period which results in less revenue recognized over the service term than originally anticipated.

Revenue for retail merchandise is recognized at the time of sale when the customer receives and pays for the merchandise at the stores. Taxes collected from the customer are recorded on a net basis. Sales returns by customers for yoga-related retail merchandise sales have historically not been material. Our Company sells gift cards to our customers. The gift cards sold to customers have no stated expiration dates and are subject to actual and/or potential escheatment rights in several of the jurisdictions in which we operate. We recognize income from gift cards when redeemed by the customer or upon breakage. Gift cards that do not have activity for 2 years have a remote probability of being redeemed and are considered breakage.

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.

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In August 2018, the FASB issued ASU 2018-15 Intangibles – Goodwill and Other – Internal – Use Software (Subtopic 350-40). The amendments in this ASU provide guidance on the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. This ASU is effective for fiscal years beginning after December 15, 2020. Early adoption is permitted. We are evaluating the impact of implementing this update on our consolidated financial statements.

In July 2018, the FASB issued ASU 2018-10, Leases (Topic 842), Codification Improvements and ASU 2018-11 Leases (Topic 842), Targeted Improvements, to provide additional guidance for the adoption of Topic 842. ASU 2018-10 clarifies certain provisions and correct unintended applications of the guidance such as the application of implicit rate, lessee reassessment of lease classification, and certain transition adjustments that should be recognized to earnings rather than to stockholders’ equity. ASU 2018-11 provides an alternative transition method and practical expedient for separating contract components for the adoption of Topic 842. 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. ASU 2018-11, ASU 2018-10, and ASU 2016-02 (collectively, “the new lease standards”) is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. On October 16, 2019, the FASB amended the effective date of the new lease standards for private companies. The new lease standard is effective for private companies for annual reporting periods beginning after December 15, 2020. This is a one-year deferral of the original effective date. Although early adoption is permitted, we anticipate adopting these provisions in the first quarter of 2021. 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 $40.4 million of operating lease obligations as of September 30, 2019, 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.

3.Acquisitions

Our Company uses acquisitions as one of our strategies to grow our market share, quickly gain students and build on the operating momentum of the acquired businesses. No acquisitions were made during the three and nine months ended September 30, 2019. We completed two acquisitions in 2018, paying total consideration of $721,930, excluding earnouts of $159,000. On April 30, 2018, we acquired Prana Power Yoga (three studios), and on May 24, 2018, we acquired Inner Strength Yoga Studios (two studios) all in the Boston area. The acquisitions were accounted for as a business acquisition in accordance with ASC 805, Business Combinations (“ASC 805”). Under the acquisition method of accounting, the total purchase price was allocated to the net tangible and intangible assets acquired and liabilities assumed, based on their estimated fair values. Any excess amount paid over identifiable assets is recorded as goodwill. The associated goodwill is deductible for tax purposes. The process for estimating the fair values of the acquired studios involves the use of significant estimates and assumptions, including estimating average industry purchase price multiple and estimating future cash flows.

In addition, ASC 805 requires adjustments to the provisional amounts recognized at the acquisition dates to reflect new information obtained about facts and circumstances that existed as of the acquisition dates that, if known, would have affected the measurement of the amounts recognized as of that date. In 2018, we completed the valuations and allocations on the 2017 acquisitions that resulted in a $197,000 reduction in intangible assets and a corresponding increase to Goodwill.

The condensed consolidated statement of operations through September 30, 2019 and the condensed consolidated balance sheet as of September 30, 2019 include the results of operations and the acquired assets and assumed liabilities related to our acquisitions and measurement period adjustments recorded during the period. For the nine months ended September 30, 2019, these acquisitions contributed $1,244,259 to our Company’s revenues. Net income contributed by these acquisitions was not separately identifiable due to our integration activities and the impact of corporate-level expenses and is impracticable to provide. Acquisition-related costs, including legal fees and all related professional fees, were expensed.

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The total purchase price consideration was allocated to the acquired assets and liabilities as follows:

4.Property and Equipment

The major classes of property and equipment are as follows:

Depreciation and amortization expenses include property and equipment, leasehold improvements and purchased software. We incurred depreciation expense of $499,097 and $835,432 for the three months ended September 30, 2019 and 2018 and $2,144,453 and 2,421,159 for the nine months ended September 30, 2019 and 2018, respectively.

During the three and nine months ended September 30, 2019, we recorded an impairment charge of $1,359,414 and $1,534,139, respectively, to the property and equipment for our studios that were either closed or the assets were no longer recoverable.

5. Goodwill

The changes in the carrying amount of goodwill are as follows:

We performed a goodwill impairment test during 2018 that was triggered by the continued decrease in the Company’s market capitalization. We recorded an impairment to goodwill of $12.7 million in 2018, including $8.0 million for the nine months ended September 30, 2018.  We performed an interim goodwill impairment test as of September 30, 2019 and recorded an additional $ 0.7 million of impairment.

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6.Deferred Revenue

The following is a reconciliation of the changes in deferred revenue for the three and nine months ended September 30, 2019 and 2018:

7.Related Party Convertible Note

On September 26, 2019, the Company entered into a Note Purchase Agreement with Great Hill Equity Partners V, L.P. and Great Hill Investors, LLC (the “Noteholders”) pursuant to which the Noteholders purchased an aggregate of $5,000,000 of convertible notes (the “Convertible Notes”) from the Company.  Great Hill Equity Partners V, L.P. and Great Hill Investors, LLC collectively hold approximately 68% of the Company’s outstanding common stock, par value $0.001 per share (“Common Stock”).  The Convertible Notes were acquired by the Noteholders in transactions meeting the requirements of Section 4(2) and/or Regulation D under the Securities Act of 1933, as amended.  The Convertible Notes bear interest at the rate of 12% per annum and have a maturity date of September 30, 2020 (the “Maturity Date”).  The principal amount of the Convertible Notes, plus any accrued and unpaid interest, will be due on the Maturity Date.  The Noteholders will have the option, at any time and from time to time, to convert the principal of and interest accrued on the Convertible Notes into shares of Common Stock at a conversion price equal to $0.60 per share (subject to appropriate adjustment to reflect any stock split, stock dividend, reverse stock split or similar corporate event affecting the Common Stock). The Note Purchase Agreement and the Convertible Notes contain customary affirmative and negative covenants and events of default relating to the Company.  If an event of default occurs, the amounts due under the Convertible Notes may become immediately due and payable.  The Convertible Notes are subject to prepayment at the option of the Company, in whole or in part. The proceeds of the Convertible Notes will be used for lease restructuring costs (including lease exits), general corporate restructuring costs and other general corporate purposes.

The Company accounts for the Convertible Notes pursuant to the accounting standards for debt with conversion and other options.  The Company has identified that the embedded conversion, redemption, and additional interest features of the Convertible Notes do not meet the definition of a derivative and do not require separate accounting.

The Company incurred transaction costs of approximately $13,185 related to the issuance of the Convertible Notes. The issuance costs are recognized as a direct reduction to the debt and presented as a reduction to the carrying value of the Convertible Notes.  Interest expense recognized and accrued related to the Convertible Notes for the three and nine months ended September 30, 2019 is $6,667.

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8.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):

For the period ended September 30, 2019, and 2018, there were outstanding options to purchase 2,882,208 and 1,404,704 shares of Common Stock outstanding, respectively, which were excluded from the computation of diluted loss per share because it would be anti-dilutive.

9.Accounting for Stock-Based Compensation

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 September 30, 2019, 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) 3,904,580, 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, which increases for 2018 and 2019 are reflected in the amount above, 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.

The 2017 Plan permits the grant of incentive 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 that 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 Plan. As of September 30, 2019, 1,088,307 shares remained available for issuance under the 2017 Plan.

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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.

Unamortized stock-based compensation expense relating to stock options was $0.5 million at September 30, 2019, which is expected to be recognized over a weighted-average period of 1.9 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:

Restricted Stock Units

Our Company granted 292,500 Restricted Stock Units (“RSU”) to our officers and board of directors during nine months ended September 30, 2019.  There were no grants during the three months ended September 30, 2019.  During the three and nine months ended September 30, 2018, the Company also granted  605,235 RSU to our officers and board of directors. All RSU grants vest on the satisfaction of only a service-based condition. As of September 30, 2019, there were 381,409 shares of our Common Stock issuable upon the vesting of outstanding RSU. Unrecognized compensation expenses related to shares of our Common Stock subject to unvested RSU was $0.6 million at September 30, 2019, which is expected to be recognized as expense over the weighted-average period of 1.3 years. The service conditions for the RSU granted to our officers and Board are generally satisfied over four years starting from such person’s hiring or grant date and the earlier to occur of the first anniversary of the grant date or the annual meeting of stockholders, respectively.

For the three and nine months ended September 30, 2019, our Company withheld 7,069 and 68,731 shares of Common Stock (“Net Settlement”), and remitted $1,569 and $40,061, respectively, in cash to meet the related tax withholding requirements on behalf of our officers. For the three and nine months ended September 30, 2018, our Company also withheld 8,395 and 40,937 shares of Common Stock, and remitted $13,488 and $97,151, respectively, in cash to meet the related tax withholding requirements on behalf of our officers.

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Stock-Based Compensation Expense

Our Company recognized stock-based compensation expense related to stock options and RSU, included in general and administrative expenses as follows:

10.Income Taxes

Our effective income tax rate for the three months ended September 30, 2019 and 2018 was 0.03% and (0.02)%, respectively. In addition, our effective income tax rate for the nine months ended September 30, 2019 and 2018 was (0.08) % and (0.08) %, 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 and nine months ended September 30, 2019 and 2018 was primarily related to the impact of the valuation allowance and state income taxes.

At September 30, 2019, we have 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 September 30, 2019, and 2018, 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 and nine months ended September 30, 2019 and for the same period in 2018.

Pursuant to Internal Revenue Code (“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 currently not under examination by federal, state and local tax authorities.

11.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 entire amount was reserved under accrued expenses as of December 31, 2018. The class wide settlement amount of $865,000 was approved by the court and paid by the Company on January 2, 2019.

On July 2, 2018, a former California employee (“Plaintiff”) filed a complaint against us in the Superior Court of the State of California for the County of Los Angeles (the “Complaint”). Plaintiff’s Complaint was filed pursuant to the California Labor Code purportedly on behalf of all Pilates instructors, yoga instructors and other employees who worked for us in California on a piece-rate basis within the four years preceding the date of the Complaint. The Complaint alleged that certain of our payroll-related practices with respect to California-based employees paid on a piece-rate did not comply with the California Labor Code. On March 21, 2019, we agreed to a class wide settlement for a maximum amount of $1.0 million, which would include settlement of all penalties under the Private Attorneys General Act of 2004 and California Labor Code, attorneys’ fees and costs, class representative enhancements and claims administration fees. As of December 31, 2018, we have reserved for the entire amount under accrued expenses.

Four substantially similar putative class action complaints were filed in the Superior Court of the State of California, County of Los Angeles, captioned Salazar v. YogaWorks, Inc., et al. (filed November 26, 2018); Johnson v. YogaWorks, Inc., et al. (filed December 19, 2018); Lowinger v. YogaWorks, Inc. et al. (filed December 21, 2018); and Mirza v. YogaWorks, Inc., et al. (filed January 17, 2019). These four state court actions were consolidated into the Salazar case by the Court on April 17, 2019 and assigned to Judge Maren Nelson for all purposes. (“State Court of Action”). Additionally, two putative class action complaints, substantially similar to the state court securities actions, captioned Cohen v. YogaWorks, Inc., et al. (filed December 27, 2018) and Dellinger v. YogaWorks, Inc., et al. (filed February 8, 2019) were filed in the United States District Court for the District of Central California.  On March 21, 2019, the federal court actions were consolidated, and Inter-Local Pension Fund GCC/IBT’s were appointed as Lead Plaintiff (“Federal Court Action”). The State Court Action and Federal Court Action were brought by purported stockholders of YogaWorks alleging violations of the

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Securities Act of 1933 for alleged misstatements and omissions in offering documents related to YogaWorks’ IPO that took place on August 11, 2017. The lawsuits name as defendants YogaWorks, certain of its current and former officers and directors, YogaWorks’ majority shareholder, and certain underwriters of YogaWorks’ IPO. On July 31, 2019, the Court conducted a case management conference in the State Court Action in which it denied each of the plaintiffs’ dueling motions to appoint lead counsel, and ordered that plaintiffs’ counsels work together.  A consolidated complaint was filed by those plaintiffs on August 21, 2019. The defendants are currently not obligated to respond to the operative complaint in the State Securities Class Action pursuant to a stipulated order issued on August 27, 2019 by Judge Maren Nelson. Under the ordered stipulation, the State Securities Class Action is stayed until the earlier of the following: (i) the Federal Securities Class Action is dismissed with prejudice as to each defendant, or (ii) the federal court, upon resolving the pending motions to dismiss, finds that the complaint in the Federal Securities Class Action states a claim. In the Federal Court Action, Lead Plaintiff filed an Amended Consolidated Complaint on May 21, 2019 and Defendants filed motions to dismiss on July 23, 2019; Plaintiffs’ opposition to the motions to dismiss was filed on September 24, 2019; Defendants filed replies in support of their motion(s) to dismiss on November 12, 2019; and the hearing on Defendants’ motion(s) to dismiss is set for December 9, 2019 at 1:30 p.m. The outcomes of the legal proceedings are inherently unpredictable, subject to significant uncertainties, and could be material to YogaWorks’ financial condition, results of operations, and cash flows for a particular period. YogaWorks intends to vigorously defend the claims asserted against it.

In addition to the aforementioned legal matters, from time to time, we are 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 legal matters described above or other claims that could be material to our results of operations.

Other than the aforementioned legal matters, 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.

12.Subsequent Events

On October 31, 2019, Ms. Rosanna McCollough (“McCollough”), who was previously chief executive officer and president of the Company, departed from the Company.   McCullough and the Company entered into a Separation Agreement and Release, (the “Separation Agreement”).  Under the Separation Agreement, the Company agrees to provide McCollough with the severance payments and benefits described in her Employment Agreement.  The Company also agreed to fully vest any equity awards previously granted to Ms. McCullough that remain outstanding.  The Company further agreed that McCollough will receive the full amount of her target bonus for 2019 of $100,000, to be paid no later than March 1, 2020.  The Separation Agreement also includes a general release of claims by McCollough in favor of the Company. The actual terms of the Separation Agreement had been filed as Exhibit 10.1 on Form 8-K dated November 4, 2019.

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