Great Elm Group, Inc. — Form 10-Q Summary
Reporting period: Three months ended September 30, 2022 (the first quarter of fiscal 2023); comparative period is the three months ended September 30, 2021. Amounts below are in millions unless stated otherwise. The filing was signed November 14, 2022.
Business context
Great Elm Group is a holding company with durable medical equipment (DME) and investment management segments, plus unallocated corporate costs. Its DME business distributes respiratory equipment and provides sleep-study services. Its investment managers manage GECC, Monomoy UpREIT and other vehicles; combined assets under management were approximately $623.9 million at September 30, 2022. The company said it had no binding commitments for additional acquisitions or investments.
Financial performance
| Metric | Q1 FY2023 | Q1 FY2022 |
|---|---|---|
| Revenue | $18.6 | $16.5 |
| Operating income (loss) | $(1.0) | $1.0 |
| Net income (loss) | $(8.5) | $0.1 |
| Net loss attributable to Great Elm | $(8.3) | $(0.2) |
| Basic and diluted loss per share | $(0.29) | $(0.01) |
| Cash from (used in) operations | $2.0 | $(1.0) |
| Cash used in investing activities | $(2.3) | $(3.2) |
| Cash from (used in) financing activities | $(0.1) | $1.6 |
Revenue increased 12%. DME revenue was $16.7 million, up 7%, and investment management revenue was $1.9 million, up 89%, mainly reflecting the Monomoy UpREIT management agreement acquired in May 2022. Operating expenses rose to $19.6 million from $15.5 million; operating margin was approximately negative 5.3%, versus positive 6.1%. Higher costs included expenses supporting Monomoy and DME operations. The prior-year quarter included $2.4 million of Employee Retention Credits, which also affects comparability.
The company recorded $6.8 million of net realized and unrealized investment losses, partly offset by $1.5 million of dividends and interest income. Interest expense increased to $2.0 million from $1.4 million, primarily due to the 7.25% notes issued in June 2022 and the Seller Note. Net loss also reflects a $0.2 million state tax expense. The cash-flow reconciliation included substantial noncash investment losses and depreciation and amortization; positive operating cash flow should therefore be considered alongside the underlying net loss.
Balance sheet, debt and liquidity
At September 30, 2022, cash and cash equivalents were $23.3 million, down slightly from $23.6 million at June 30, 2022. Total assets were $158.3 million, compared with $168.1 million at fiscal year-end; total liabilities were $124.4 million, versus $125.8 million. Great Elm stockholders’ equity was $26.0 million, down from $33.5 million. The company also held 1,744,048 GECC shares, reported at an estimated fair value of $16.2 million in MD&A.
Key borrowings included $26.9 million principal of unsecured 7.25% notes due June 2027; $36.1 million of 5% convertible notes due February 2030, including interest paid in kind; $3.9 million of equipment financing; and a $5.7 million related-party Seller Note due August 2023, bearing 6.5% interest. The Seller Note may be repaid in cash or, subject to shareholder approval, newly issued shares. Equipment financing generally bears implicit rates of 7%–8%. The $10 million DME revolving facility had no borrowings outstanding and matured November 29, 2022; the company reported covenant compliance at quarter-end. The GEGGL notes impose debt and dividend restrictions tied to a net consolidated debt-to-equity ratio; the reported ratio was 1.59:1.
Subsidiary preferred stock is also a significant obligation: the filing reports $35.0 million face value of Forest Preferred Stock and $37.7 million face value of HC LLC Series A-1 and A-2 Preferred Stock at quarter-end. These securities generally carry 9% dividends and are mandatorily redeemable, principally in 2027. The company stated it expects to use liquid resources for its strategy and may need additional debt or equity capital; without additional capital, it may be unable to execute its growth plan. No off-balance-sheet arrangements were reported.
Changes, outlook and risks
- DME growth reflected organic resupply sales, a full quarter of MedOne contributions, and improved revenue reserves. However, shortages of positive airway pressure (PAP) devices constrained sales and rentals, created a patient backlog and caused missed revenue opportunities. Management expected supply challenges to persist in the near term.
- Management cited vendor surcharges and slightly lower DME rental margins. DME segment operating income fell to $0.9 million from $2.8 million, while reported segment pretax income rose to $6.8 million from $2.1 million, substantially affected by a $7.0 million favorable fair-value adjustment to an embedded derivative. That adjustment had an offsetting corporate-segment effect and was eliminated in consolidation.
- Investment management revenue benefited from Monomoy fees, but the segment reported a $6.0 million pretax loss, principally reflecting investment losses. No incentive fees had been earned under the relevant agreements at quarter-end.
- The company cited market and economic uncertainty, including interest-rate volatility, inflation, supply-chain disruptions, COVID-19 effects, competition, dependence on managed investment vehicles and payors, and the need to raise capital. It said it could not estimate COVID-19’s long-term impact. It reported no material changes to previously disclosed risk factors and no pending or threatened litigation expected to have a material adverse impact.
- Great Elm reported approximately $821 million of federal and $211 million of state net operating loss carryforwards as of June 30, 2022, with a full valuation allowance against deferred tax assets. It did not expect federal taxes for the quarter, but reported state tax expense.
- Disclosure controls and procedures were assessed as effective at September 30, 2022; no material change in internal control over financial reporting was reported.
Investor verification priorities
- Confirm the status, renewal or replacement of the DME revolving facility, which matured November 29, 2022, and assess DME covenant headroom and liquidity.
- Track PAP equipment availability, patient backlog and resulting impact on DME sales, rentals and margins.
- Review the valuation and performance of the company’s investments, especially the $6.8 million quarterly investment loss and the GECC holding.
- Assess repayment or refinancing plans for the Seller Note and the company’s ability to meet debt and preferred-stock interest, dividend and redemption obligations.
- Separate recurring operating performance from prior-year ERC benefits and the current-quarter embedded-derivative fair-value effects when comparing results.
- Monitor the need for additional capital and any potential dilution, including the convertible notes’ conversion feature and possible share repayment of the Seller Note.