Heritage Global Inc

Previous wording

The following discussion and analysis should be read in conjunction with the information contained in the unaudited condensed consolidated interim financial statements of Heritage Global Inc. (together with its consolidated subsidiaries, “we”, “us”, “our” or the “Company”) and the related notes thereto for the three and six month periods ended June 30, 2024 and 2023, appearing elsewhere herein, and in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations set forth in the Company’s Annual Report on Form 10-K for the year ended December 31, 2023, filed with the Securities and Exchange Commission (“SEC”) on March 14, 2024 (the “Form 10-K”).

Current wording

The following discussion and analysis should be read in conjunction with the information contained in the unaudited condensed consolidated interim financial statements of Heritage Global Inc. (together with its consolidated subsidiaries, “we”, “us”, “our” or the “Company”) and the related notes thereto for the three and nine month periods ended September 30, 2024 and 2023, appearing elsewhere herein, and in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations set forth in the Company’s Annual Report on Form 10-K for the year ended December 31, 2023, filed with the Securities and Exchange Commission (“SEC”) on March 14, 2024 (the “Form 10-K”).

Previous wording

Our largest borrower continues to collect on the underlying charged off and nonperforming consumer loan portfolios and remit net collections to us and senior lenders, however this borrower's June remittance did not meet the minimum required payment amount. We determined that (1) it is not probable that the projected cash flows expected from the borrower’s collection efforts on the underlying charged off or nonperforming receivable portfolio will be sufficient to satisfy all of the outstanding principal balance and contractual interest payments, and (2) it is not probable that the borrower will be able to meet the minimum required principal and interest payments through other operational cash flows. As we continue to work closely with the borrower and its senior lenders in an effort to mitigate the default in an efficient and effective manner, the impacted loans have been placed in nonaccrual status beginning in June 2024. In addition, there was a balance of $1.5 million from our share of other loans within its affiliated joint ventures that are impacted by the default with our largest borrower and have been placed in nonaccrual status in June 2024. Our share of payments received from this borrower, including interest, will be applied against the outstanding loan balance. As of June 30, 2024, the amortized cost basis of loans in nonaccrual status was $24.6 million, of which $5.7 million is recorded within notes receivable and $18.9 million is recorded within equity method investments.. There were no loans in nonaccrual status as of December 31, 2023.

Current wording

Our largest borrower continues to collect on the underlying charged off and nonperforming consumer loan portfolios and remit net collections to us and senior lenders, however this borrower's June remittance did not meet the minimum required payment amount. We determined that (1) it is not probable that the projected cash flows expected from the borrower’s collection efforts on the underlying charged off or nonperforming receivable portfolio will be sufficient to satisfy all of the outstanding principal balance and contractual interest payments, and (2) it is not probable that the borrower will be able to meet the minimum required principal and interest payments through other operational cash flows. As we continue to work closely with the borrower and its senior lenders in an effort to mitigate the default in an efficient and effective manner, the impacted loans have been placed in nonaccrual status beginning in June 2024. In addition, there was a balance of $1.5 million from our share of other loans within its affiliated joint ventures that are impacted by the default with our largest borrower and have been placed in nonaccrual status in June 2024. Our share of payments received from this borrower, including interest, will be applied against the outstanding loan balance. As of September 30, 2024, the amortized cost basis of loans in nonaccrual status was $24.0 million, of which $5.4 million is recorded within notes receivable and $18.6 million is recorded within equity method investments. There were no loans in nonaccrual status as of December 31, 2023.

Previous wording

As of June 30, 2024, we held a gross balance of investments in notes receivable of $35.2 million, recorded in both notes receivable and equity method investments, and consisting of one borrower’s note balance of approximately $23.1 million, or 66% as of June 30, 2024, as compared to 62% as of December 31, 2023. We do not intend to hold highly concentrated balances due from one borrower as part of its long-term strategy but may, in the short term, have concentration risk on our path to an established and diversified portfolio.

Current wording

As of September 30, 2024, we held a gross balance of investments in notes receivable of $32.0 million, recorded in both notes receivable and equity method investments, and consisting of one borrower’s note balance of approximately $22.5 million, or 70% as of September 30, 2024, as compared to 62% as of December 31, 2023. We do not intend to hold highly concentrated balances due from one borrower as part of its long-term strategy but may, in the short term, have concentration risk on our path to an established and diversified portfolio.

Previous wording

We do not evaluate concentration risk solely based on balance due from specific borrowers, but also consider the number of portfolio purchases, type of charged off accounts within the portfolio, and the seller of the portfolio when determining the overall risk. Of the balance due from one borrower of $23.1 million, there are 11 distinct loan agreements, the underlying portfolio of accounts are diversified throughout FinTech, installment loans and credit card accounts, and further diversified amongst six separate sellers of these charged off portfolios.

Current wording

We do not evaluate concentration risk solely based on balance due from specific borrowers, but also consider the number of portfolio purchases, type of charged off accounts within the portfolio, and the seller of the portfolio when determining the overall risk. Of the balance due from one borrower of $22.5 million, there are 11 distinct loan agreements, the underlying portfolio of accounts are diversified throughout FinTech, installment loans and credit card accounts, and further diversified amongst six separate sellers of these charged off portfolios.

Previous wording

Through HGC, we provide specialty financing solutions to investors in charged-off and nonperforming asset portfolios. Since the inception of HGC in 2019, we have issued $153.7 million in total loans to investors by both self- funded loans and in partnership with senior lenders. Our portion of the total loans funded since inception is $67.3 million. Our income from secured lending consists of upfront fees, interest income, monthly monitoring fees and backend profit share. In general, we expect to earn an annual rate of return on our share of notes receivable outstanding in accrual status of approximately 20% or more based on established terms of the loans funded and performance of collections. Because of the default by our largest borrower discussed above, approximately 70% of the total balance of our loans outstanding were in nonaccrual status as of June 30, 2024. We do not expect to realize any return with respect to these loans in 2024, and whether we will realize any return with respect to these loans is uncertain. As of June 30, 2024, our net balance related to investments in loans to buyers of charged-off and nonperforming receivable portfolios was $33.9 million, of which $13.4 million is classified as notes receivable and $20.5 million is classified as equity method investments.

Current wording

Through HGC, we provide specialty financing solutions to investors in charged-off and nonperforming asset portfolios. Since the inception of HGC in 2019, we have issued $153.9 million in total loans to investors by both self- funded loans and in partnership with senior lenders. Our portion of the total loans funded since inception is $67.5 million. Our income from secured lending consists of upfront fees, interest income, monthly monitoring fees and backend profit share. In general, we expect to earn an annual rate of return on our share of notes receivable outstanding in accrual status of approximately 20% or more based on established terms of the loans funded and performance of collections. Because of the default by our largest borrower discussed above, approximately 75% of the total balance of our loans outstanding were in nonaccrual status as of September 30, 2024. We do not expect to realize any return with respect to these loans in 2024, and whether we will realize any return with respect to these loans is uncertain. As of September 30, 2024, our net balance related to investments in loans to buyers of charged-off and nonperforming receivable portfolios was $30.8 million, of which $10.9 million is classified as notes receivable and $19.9 million is classified as equity method investments.

Previous wording

The critical accounting policies used in the preparation of our audited consolidated financial statements are discussed in our Form 10-K. There were no material changes to these policies during the six months ended June 30, 2024.

Current wording

The critical accounting policies used in the preparation of our audited consolidated financial statements are discussed in our Form 10-K. There were no material changes to these policies during the nine months ended September 30, 2024.

Previous wording

We had working capital of $17.9 million and $11.6 million as of June 30, 2024 and December 31, 2023, respectively.

Current wording

We had working capital of $16.2 million and $11.6 million as of September 30, 2024 and December 31, 2023, respectively.

Previous wording

Our current assets as of June 30, 2024 increased to $35.9 million compared to $26.3 million as of December 31, 2023. This change was primarily due to an increase in cash of $12.3 million, partially offset by a decrease in the current portion of notes receivable by $1.5 million, a decrease in inventory of $0.8 million and a decrease in accounts receivable of $0.9 million. Our current liabilities as of June 30, 2024 increased to $18.0 million compared to $14.7 million as of December 31, 2023. The most significant change was an increase in our payables to sellers due to the timing of certain asset liquidation settlements of $5.4 million, partially offset by an decrease of $2.1 million in accounts payable and accrued liabilities.

Current wording

Our current assets as of September 30, 2024 increased to $37.0 million compared to $26.3 million as of December 31, 2023. This change was primarily due to an increase in cash of $14.3 million, partially offset by a decrease in the current portion of notes receivable by $2.6 million, a decrease in inventory of $0.4 million and a decrease in accounts receivable of $1.0 million. Our current liabilities as of September 30, 2024 increased to $20.7 million compared to $14.7 million as of December 31, 2023. The most significant change was an increase in our payables to sellers due to the timing of certain asset liquidation settlements of $8.1 million, partially offset by a decrease of $1.2 million in current portion of third party debt and $0.9 million in accounts payable and accrued liabilities.

Previous wording

During the six months ended June 30, 2024, our primary source of cash was cash on hand and cash provided by operating activities. Cash disbursements during the six months ended June 30, 2024 consisted primarily of investments in notes receivable of $4.5 million and payment of operating expenses of $2.1 million.

Current wording

During the nine months ended September 30, 2024, our primary source of cash was cash on hand and cash provided by operating activities. Cash disbursements during the nine months ended September 30, 2024 consisted primarily of repayment of third party debt of $6.7 million and investments in notes receivable of $5.0 million.

Previous wording

Our indebtedness consists of a promissory note dated August 23, 2021 (the “ALT Note”) issued in the amount of $2.0 million as part of the aggregate purchase price paid to acquire certain assets and liabilities of American Laboratory Trading, any amounts borrowed under our 2021 Credit Facility, and the Term Loan. The terms of the ALT Note require us to pay off the Note in 48 equal installments of approximately $44,000 with an interest rate of 3% per annum and a maturity date of August 23, 2025. As of June 30, 2024, we had an outstanding balance of $0.7 million on the ALT Note.

Current wording

Our indebtedness consists of a promissory note dated August 23, 2021 (the “ALT Note”) issued in the amount of $2.0 million as part of the aggregate purchase price paid to acquire certain assets and liabilities of American Laboratory Trading and any amounts borrowed under our 2021 Credit Facility. The terms of the ALT Note require us to pay off the Note in 48 equal installments of approximately $44,000 with an interest rate of 3% per annum and a maturity date of August 23, 2025. As of September 30, 2024, we had an outstanding balance of $0.5 million on the ALT Note.

Previous wording

As of June 30, 2024 and December 31, 2023, we had stockholders’ equity of $65.8 million and $61.1 million, respectively.

Current wording

As of September 30, 2024 and December 31, 2023, we had stockholders’ equity of $66.1 million and $61.1 million, respectively.

Previous wording

We determine our future capital and operating requirements based upon our current and projected operating performance and contractual commitments. We expect to be able to finance our future operations through a combination of working capital, future net cash flows from operating activities, our 2021 Credit Facility and Term Loan. Our contractual requirements are limited to the outstanding debt and lease commitments with related and unrelated parties. Capital requirements are generally limited to our purchases of surplus and distressed assets and our investment activity under our Specialty Lending segment. We believe that our current capital resources, including available borrowing capacity from our 2021 Credit Facility and Term Loan, are sufficient for these requirements. In the event additional capital is needed, we believe we can obtain additional debt financing through capital partners.

Current wording

We determine our future capital and operating requirements based upon our current and projected operating performance and contractual commitments. We expect to be able to finance our future operations through a combination of working capital, future net cash flows from operating activities and our 2021 Credit Facility. Our contractual requirements are limited to the outstanding debt and lease commitments with related and unrelated parties. Capital requirements are generally limited to our purchases of surplus and distressed assets and our investment activity under our Specialty Lending segment. We believe that our current capital resources, including available borrowing capacity from our 2021 Credit Facility and Term Loan, are sufficient for these requirements. In the event additional capital is needed, we believe we can obtain additional debt financing through capital partners.

Previous wording

Cash and cash equivalents as of June 30, 2024 were $24.6 million as compared to $12.3 million as of December 31, 2023, an increase of approximately $12.3 million.

Current wording

Cash and cash equivalents as of September 30, 2024 were $26.6 million as compared to $12.3 million as of December 31, 2023, an increase of approximately $14.3 million.

Previous wording

Cash provided by operations was $7.7 million during the six months ended June 30, 2024 as compared to $6.7 million during the same period in 2023. The approximate $1.0 million change was primarily attributable to a decrease in operating assets and liabilities of $3.9 million and a decrease of $2.8 million in net income adjusted for noncash items during the six months ended June 30, 2024 as compared to the same period in 2023.

Current wording

Cash provided by operations was $13.3 million during the nine months ended September 30, 2024 as compared to $12.6 million during the same period in 2023. The approximate $0.7 million change was primarily attributable to an increase in operating assets and liabilities of $5.3 million and a decrease of $4.7 million in net income adjusted for noncash items during the nine months ended September 30, 2024 as compared to the same period in 2023.

Previous wording

The changes in operating assets and liabilities during the six months ended June 30, 2024 as compared to the same period in 2023 are primarily due to the nature of our operations. We earn revenue from discrete asset liquidation deals that vary considerably with respect to their magnitude and timing, and that can consist of fees, commissions, asset sale proceeds, or a combination thereof. The operating assets and liabilities associated with these deals are, therefore, subject to the same variability and can be quite different at the end of any given period.

Current wording

The changes in operating assets and liabilities during the nine months ended September 30, 2024 as compared to the same period in 2023 are primarily due to the nature of our operations. We earn revenue from discrete asset liquidation deals that vary considerably with respect to their magnitude and timing, and that can consist of fees, commissions, asset sale proceeds, or a combination thereof. The operating assets and liabilities associated with these deals are, therefore, subject to the same variability and can be quite different at the end of any given period.

Previous wording

Cash provided by investing activities during the six months ended June 30, 2024 was $5.5 million compared to cash used in investing activities of $8.0 million during the same period in 2023.

Current wording

Cash provided by investing activities during the nine months ended September 30, 2024 was $8.9 million compared to cash used in investing activities of $14.5 million during the same period in 2023.

Previous wording

Cash provided by investing activities during the six months ended June 30, 2024 consisted primarily of payments received on notes receivable of $6.1 million and return of investment and cash distributions received from equity method investments of $4.3 million. Cash provided by investing activities during the three months ended June 30, 2024 was offset by cash used in investing activities primarily of investments in notes receivable of $4.5 million and equity method investments of $0.3 million.

Current wording

Cash provided by investing activities during the nine months ended September 30, 2024 consisted primarily of payments received on notes receivable of $9.0 million and return of investment and cash distributions received from equity method investments of $5.3 million. Cash provided by investing activities during the nine months ended September 30, 2024 was offset by cash used in investing activities primarily of investments in notes receivable of $5.0 million and equity method investments of $0.3 million.

Previous wording

Cash used in investing activities during the six months ended June 30, 2023 consisted primarily in investment in notes receivable of $18.7 million and equity method investments of $4.2 million, related entirely to specialty lending activity within our Financial Assets Division. Cash used in investing activities during the six months ended June 30, 2023 was offset by cash provided by investing activities primarily of cash received on transfer of notes receivable to partners of $8.9 million, payments received on notes receivable of $3.4 million as well as return of investment and cash distributions received from equity method investments of $2.3 million.

Current wording

Cash used in investing activities during the nine months ended September 30, 2023 consisted primarily in investment in notes receivable of $27.6 million and equity method investments of $6.5 million, related entirely to specialty lending activity within our Financial Assets Division. Cash used in investing activities during the nine months ended September 30, 2023 was offset by cash provided by investing activities primarily of cash received on transfer of notes receivable to partners of $8.9 million, payments received on notes receivable of $6.1 million as well as return of investment and cash distributions received from equity method investments of $4.8 million.

Previous wording

Cash used in financing activities was approximately $0.9 million during the six months ended June 30, 2024 compared to cash provided by financing activities of $3.7 million during the six months ended June 30, 2023. Financing activities during the six months ended June 30, 2024 consisted primarily of $0.6 million in repayments of our Term Loan and $0.3 million in repayments to our ALT Note. Financing activities during the six months ended June 30, 2023 consisted primarily of $11.4 million in proceeds from draws on our 2021 Credit Facility and our Term Loan, offset by $7.3 million in repayments to our 2021 Credit Facility, $0.1 million in repayments to our Term Loan and $0.2 million in repayments to our ALT Note.

Current wording

Cash used in financing activities was approximately $7.8 million during the nine months ended September 30, 2024 compared to cash provided by financing activities of $4.9 million during the nine months ended September 30, 2023. Financing activities during the nine months ended September 30, 2024 consisted primarily of $6.3 million in repayments of our Term Loan and $0.4 million in repayments to our ALT Note. Financing activities during the nine months ended September 30, 2023 consisted primarily of $13.0 million in proceeds from draws on our 2021 Credit Facility and our Term Loan, offset by $7.3 million in repayments to our 2021 Credit Facility, $0.4 million in repayments to our Term Loan and $0.4 million in repayments to our ALT Note.

Previous wording

The following table sets out the Company’s condensed consolidated results of operations for the three and six months ended June 30, 2024 and 2023 (in thousands).

Current wording

The following table sets out the Company’s condensed consolidated results of operations for the three and nine months ended September 30, 2024 and 2023 (in thousands).

Previous wording

Revenues and cost of revenues –Revenues were $12.0 million during the three months ended June 30, 2024 compared to $13.1 million during the same period in 2023. Costs of services revenue and asset sales were $3.7 million during both the three month periods ended June 30, 2024 and 2023. The gross profit of these items was $8.3 million during the three months ended June 30, 2024 compared to $9.4 million during the same period in 2023, a decrease of approximately $1.1 million, or approximately 12%. The decrease in gross profit in the second quarter of 2024 compared to the second quarter of 2023 is primarily due to normal changes in the timing and magnitude of asset liquidation transactions.

Current wording

Revenues and cost of revenues –Revenues were $10.4 million during the three months ended September 30, 2024 compared to $15.6 million during the same period in 2023. Costs of services revenue and asset sales were $3.2 million during the three months ended September 30, 2024 compared to $5.8 million during the three months ended September 30, 2023. The gross profit of these items was $7.2 million during the three months ended September 30, 2024 compared to $9.7 million during the same period in 2023, a decrease of approximately $2.5 million, or approximately 26%. The decrease in gross profit in the third quarter of 2024 compared to the third quarter of 2023 is primarily due to normal changes in the timing and magnitude of asset liquidation transactions.

Previous wording

Selling, general and administrative expense –Selling, general and administrative expense was $6.3 million during the three months ended June 30, 2024 compared to $6.4 million during the same period in 2023.

Current wording

Selling, general and administrative expense –Selling, general and administrative expense was $5.7 million during the three months ended September 30, 2024 compared to $6.8 million during the same period in 2023.

Previous wording

Depreciation and amortization expense –Depreciation and amortization expense was $0.3 million during the six months ended June 30, 2024 compared to $0.2 million in the same period in 2023, which consisted primarily of amortization expense related to intangible assets.

Current wording

Depreciation and amortization expense –Depreciation and amortization expense was $0.2 million during the three months ended September 30, 2024 compared to $0.1 million during the three months ended September 30, 2023, which consisted primarily of amortization expense related to intangible assets in both periods.

Previous wording

Earnings of Equity Method Investments -Earnings of equity method investments was $1.7 million during the three months ended June 30, 2024 compared to $0.3 million during the same period in 2023. The $1.4 million increase is mainly due to our $1.3 million share of earnings from the KNFH II LLC joint venture.

Current wording

Earnings of Equity Method Investments -Earnings of equity method investments was $0.1 million during the three months ended September 30, 2024 compared to an immaterial loss during the same period in 2023.

Previous wording

Six-Month Period Ended June 30, 2024 Compared to Six-Month Period Ended June 30, 2023

Current wording

Nine-Month Period Ended September 30, 2024 Compared to Nine-Month Period Ended September 30, 2023

Previous wording

Revenues and cost of revenues –Revenues were $24.2 million during the six months ended June 30, 2024 compared to $29.7 million during the same period in 2023. Costs of services revenue and asset sales were $7.6 million during the six months ended June 30, 2024 compared to $10.4 million during the same period in 2023. The gross profit of these items was $16.6 million during the six months ended June 30, 2024 compared to $19.3 million during the same period in 2023, a decrease of approximately $2.7 million, or approximately 14%. The decrease in gross profit in the second quarter of 2024 compared to the second quarter of 2023 is primarily due to a significant one-time principal auction transaction in our Industrial Asset Division in the first quarter of 2023, as well as the normal changes in the timing and magnitude of asset liquidation transactions.

Current wording

Revenues and cost of revenues –Revenues were $34.6 million during the nine months ended September 30, 2024 compared to $45.3 million during the same period in 2023. Costs of services revenue and asset sales were $10.8 million during the nine months ended September 30, 2024 compared to $16.3 million during the same period in 2023. The gross profit of these items was $23.8 million during the nine months ended September 30, 2024 compared to $29.0 million during the same period in 2023, a decrease of approximately $5.2 million, or approximately 18%. The decrease in gross profit in the third quarter of 2024 compared to the third quarter of 2023 is primarily due to a significant one-time principal auction transaction in our Industrial Asset Division in the first quarter of 2023, as well as the normal changes in the timing and magnitude of asset liquidation transactions.

Previous wording

Selling, general and administrative expense –Selling, general and administrative expense was $12.7 million during both the six months ended June 30, 2024 and 2023.

Current wording

Selling, general and administrative expense –Selling, general and administrative expense was $18.4 million during the nine months ended September 30, 2024 compared to $19.5 million during the nine months ended September 30, 2023.

Previous wording

Significant components of selling, general and administrative expense for the six months ended June 30, 2024 and 2023 are shown below (in thousands):

Current wording

Significant components of selling, general and administrative expense for the nine months ended September 30, 2024 and 2023 are shown below (in thousands):

Previous wording

Depreciation and amortization expense –Depreciation and amortization expense was $0.1 million during the three months ended June 30, 2024 and the same period in 2023, which consisted primarily of amortization expense related to intangible assets.

Current wording

Depreciation and amortization expense –Depreciation and amortization expense was $0.4 million during both the nine months ended September 30, 2024 and 2023, which consisted primarily of amortization expense related to intangible assets.

Previous wording

Earnings in Equity Method Investments were $2.5 million during the six months ended June 30, 2024 compared to $0.7 million during the same period in 2023. The $1.8 million increase is mainly due to our $1.3 million share of earnings from the KNFH II LLC joint venture.

Current wording

Earnings in Equity Method Investments were $2.6 million during the nine months ended September 30, 2024 compared to $0.7 million during the same period in 2023. The $1.9 million increase is mainly due to our $1.3 million share of earnings from the KNFH II LLC joint venture in 2024.