Heritage Global Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; unaudited. Heritage Global provides asset liquidation services, including auctions, appraisals, asset sales, receivables brokerage and specialty financing. Its sole operating segment is asset liquidation.
Financial results and liquidity
| Metric | Q1 2020 | Q1 2019 |
|---|---|---|
| Services revenue | $4.088 million | $4.408 million |
| Asset sales revenue | $0.156 million | $2.143 million |
| Total revenue | $4.244 million | $6.551 million |
| Operating income | $0.094 million | $0.659 million |
| Net income | $0.038 million | $0.612 million |
| Adjusted EBITDA (non-GAAP) | $0.259 million | $0.806 million |
| Cash from operating activities | $(0.118) million | $(2.335) million |
Gross profit on services and asset sales was approximately $3.7 million, down 21% from $4.7 million. Gross margin was approximately 86% of revenue versus 71%; operating margin was approximately 2% versus 10%, and net margin approximately 1% versus 9%. Basic and diluted earnings per share were reported as $0.00, compared with $0.02 in Q1 2019.
Cash and cash equivalents were $3.093 million at quarter-end, versus $2.728 million at December 31, 2019. Current assets were $6.884 million and current liabilities $8.903 million, leaving a $2.0 million working-capital deficit. Total assets were $21.666 million; stockholders’ equity was $11.958 million. Debt was $0.340 million, all current, and lease liabilities totaled $1.385 million. The company reported $0.581 million of investing cash inflow and $0.098 million of financing cash outflow; cash increased by $0.365 million overall.
Changes versus prior year and balance-sheet developments
- Revenue fell 35%, primarily as asset sales declined 93%; services revenue decreased 7%. Management attributed lower gross profit mainly to the timing and size of individual liquidation transactions.
- Operating expenses declined 30% to $4.151 million. SG&A fell 12%, largely because Equity Partners compensation costs ended after that team separated from the company at year-end 2019.
- Operating cash use improved by approximately $2.2 million year over year, mainly due to more favorable changes in operating assets and liabilities.
- The company formed HGC Funding I LLC with a partner and transferred approximately $3.0 million of notes receivable to the joint venture; approximately $1.0 million of certain notes was transferred to a separate partner. It also closed a partner-provided $6.0 million revolving facility to help fund client loans. Outstanding notes receivable were approximately $1.8 million, and no credit-loss allowance was recorded.
- In February 2020, the company replaced its prior bank facility with a $5.0 million secured revolving credit facility maturing February 5, 2021. It drew and repaid approximately $4.4 million during the quarter; the quarter-end balance was zero. Separately, $0.340 million remained on the settlement-related promissory note.
Outlook, risks and other notable items
Management said COVID-19 had a minor negative Q1 impact through travel and work restrictions and delays in asset sales. It expected increased distressed and surplus assets and greater demand for U.S.-based surplus assets to provide opportunity, but cautioned that prolonged restrictions could reduce revenue in business units dependent on travel and field work. These statements are management’s expectations, not quantified guidance; the filing provides no revenue or earnings forecast.
Management believed operating cash flows and access to the credit line would fund operations, the working-capital deficit and debt service during 2020 and beyond, and said current capital resources were sufficient. The company faces transaction-timing variability, competition from larger and better-resourced firms, and potential effects from travel restrictions. Its credit facility is secured and includes financial and other covenants. The company disclosed no material subsequent events requiring financial-statement recognition or disclosure; separately, director Emmet DeMoss resigned effective May 7, 2020 and entered a consulting agreement.
The company reported no material change in legal proceedings, no defaults upon senior securities, and effective disclosure controls as of March 31, 2020. It had approximately $86.0 million of tax net operating loss carryforwards, some subject to ownership-change restrictions; management did not expect the CARES Act to have a material financial-statement impact.
Important facts for investors to verify
- Confirm the $0.340 million settlement-note balance and the separate zero balance on the $5.0 million bank revolver; the MD&A wording about a zero “Note” balance is unclear when compared with the debt note and balance sheet.
- Assess whether the working-capital deficit and reliance on operating cash flows and credit availability remain manageable, including compliance with credit-facility covenants and its February 2021 maturity.
- Track COVID-19’s actual impact on asset-sale timing, field operations and demand for distressed and surplus assets against management’s outlook.
- Review the performance and funding arrangements of HGC Funding I and related lending activity, including the absence of a recorded allowance for credit losses on notes receivable.
- Evaluate the sustainability of earnings given the steep year-over-year revenue and profit declines and the variability of individual asset liquidation transactions.