Ladies and gentlemen, greetings and welcome to the Heritage Global Inc. First Quarter 2024 Earnings Conference Call. As a reminder, this conference is being recorded.

Thank you, and good afternoon, everyone. Before we begin, I'd like to remind everyone that this conference call contains forward-looking statements based on current expectations and projections about future events and are subject to change based on various important factors. In light of these risks, uncertainties and assumptions, you should not place undue reliance on these forward-looking statements, which speak only as of the date of this call. For more details on factors that could affect these expectations, please see our filings with the Securities and Exchange Commission. Now I'd like to turn the call over to Heritage Global's Chief Executive Officer, Mr. Ross Dove. Ross?

Thank you, John. Good afternoon, and thank you, everyone, for joining. Ending Q1 with a solid quarter and $2.6 million in NOI feels very good after our very large Q4. It bodes well for just this year and also next year and beyond. We're now in Q2 with lots of momentum and a strong sale in the books already and on track and pace to close our first quarter, well positioned to continue our organic growth trajectory. We are now healthy enough, confident enough, and positive enough to pivot to a strong drive towards M&A. With that, I turn the call over to Brian for the nuts and bolts of Q1 results, and I'll add some color afterwards on where I see the market, where I see the opportunities and where I see us driving forward. So Brian will walk you through the quarter, and then I'll join back in. Once again, thank you for joining.

Thank you, Ross. Before we dive into the overall financial results, I want to first touch on our divisional highlights. Our Financial Assets division continued to build on its momentum in 2023, capitalizing on opportunities in the marketplace as increased macroeconomic pressure drove continued volumes of charged-off credit cards and nonperforming loans. The division reported operating income of $2.9 million in the first quarter of 2024 compared to $2.5 million in the 2023 period, a 16% increase year-over-year. The growth in our Financial Assets division was primarily driven by our specialty lending segment, which recorded operating income in the first quarter of approximately $900,000, an 81% increase compared to the prior year period. As of March 31, 2024, our total gross balance related to investments in loans to buyers of charged-off and nonperforming receivable portfolios was $37.3 million, classified on our balance sheet as both notes receivable and equity method investments. Our brokerage segment continues to be the main driver of income for our Financial Assets division and recorded $2.1 million in operating income compared to $2 million in the prior year quarter. We continue to strengthen our existing relationships in the segment with high quality, top and mid-tier buyers and are seeing a strong pipeline of opportunities in the upcoming year. In the Industrial Assets division, total operating income was $800,000 during the quarter compared to $2.6 million during the first quarter of 2023. While the division didn't see certain large auctions as executed in the first quarter of 2023 or the volume of auctions seen in the fourth quarter of 2023, we have significantly added to the current pipeline during the first quarter, and we expect to see strong auction activity as we move through the second quarter. One big development related to our auction segment. In conjunction with our joint venture partners, we acquired a pharmaceutical plant in Missouri late in December 2023. Only four months later, we closed the sale of machinery and equipment within the building, along with a 10-year building lease. This is another quick turn from acquisition to close for real estate and a big win for our auction segment, which exemplifies the strength of our sales team and relationships with our joint venture partners. Lastly, before turning to the financials, I want to touch on a brief accounting item. In accordance with new segment reporting guidance, we are working on expanding our segment-specific disclosures by reporting additional income statement details by the end of 2024. We look forward to sharing more information on our segment operations and providing further transparency for shareholders. Now turning to the financial results. Consolidated operating income was $2.6 million in the first quarter of 2024 compared to $3.9 million in the first quarter of 2023. For the quarter, we reported adjusted EBITDA of $2.9 million compared to $4.2 million in the prior year period. Net income was $1.8 million or $0.05 per diluted share compared to net income of $2.8 million or $0.08 per diluted share in the first quarter of 2023. Our balance sheet continues to strengthen with stockholders' equity of $63 million as of March 31, 2024, up from $61.1 million at December 31, 2023, and net working capital of $15 million. Looking forward, while we continue to drive our organic growth and profitability, we are increasing our focus on strategic M&A to drive the long-term growth of the business. It's incredibly exciting to see how this company has evolved over just a few years, and I'm enthusiastic about the increased number of opportunities we see in the M&A space. With continued performance in our core segments and a strong balance sheet, I'm confident that we'll be able to achieve our goals to broaden our business through acquisition.

Thank you, Brian. That was good to hear. So let me try to open up the drapes and give you a window into where we see our growth. Because we have a lot of competitors in the marketplace, I'm not going to completely and entirely unveil what we think is our secret sauce. But let me just give you some obvious drivers we're already in the process of initiating. So let me talk about first lending. Ninety-five percent of our lending business is financial assets. But as you know, half of our revenue comes from industrial assets. There's going to be a significant push into balancing out our lending and leveraging our databases that literally have almost $1 billion of assets captured on the industrial side and becoming a far more aggressive lender. So that's kind of one of the multiple things we're doing. Let me talk to you about the second one. We have all of this data we've recorded in both financial and industrial, and we're not really gaining what we should from revenue on finding a way to monetize the data-driven revenue. That is an initiative that's begun this year. We see lots of opportunities to take that data and monetize it. The third one is we want to look hard at the sectors we're in. Yes, we're winning in pharma. We're winning in biopharma. We're doing great in food and beverage, but there are 20 manufacturing sectors, and also there's a global geography where we're primarily focused in North America. So we're looking at expanding all of that and trying to speed up our growth and make our shareholders proud. Some of this will require an increase in M&A, and some of this will require just simply adding expertise to our existing company. We're always going to look hard at the build or buy component, and we're not necessarily saying it takes all M&A to grow because we think we're solid growing organically too, but we're going to put all of our engines together on both and we're going to push forward with confidence. I thank you all for hearing us. We're now open for questions, and we appreciate you always joining. Thank you.

I wanted to ask about your approach to M&A, especially since you've provided more insights historically. What specific financial criteria do you have? Does it need to be immediately accretive? What key factors do you consider when evaluating opportunities?

So I'll take it first, Brian. So obviously, NLEX originally was an acquisition that worked out phenomenally well. ALT is working out well. What we really look at is having one plus one equal three, so to speak. If we can buy somebody, we don't mind it not being just a pure straight look at all the numbers today. What we're looking at more importantly is looking at the fit, looking at the culture and looking at something that expands our offering but has a lot of synergy. So there are opportunities on both sides of the table. There are financial asset companies that basically are not all consumer loans, that are also real estate loans and other types of loans that we think will really fit into our platform. On the industrial side, there are niche players in very specific industries that we think can also fit into our platform. And there's also us growing our international business as well, Mark. So we're kind of looking at a lot of different fronts at once, and we're seeing a bunch of potential opportunities.

In terms of the business, particularly the Financial Assets segment, it appears that the lending operations are doing well. However, the brokered loan business seems to be relatively flat. Are you observing any activity or an increase there? Is there any seasonality influencing this, or are there broader impacts at play?

It is actually growing. We didn't have any episodic transactions in Q1. So Q1 was almost entirely the existing forward flow. The good news there is we added new forward-flow clients. So you're going to see it pick up as the year goes by. We think it's actually going to have some sequential quarter-over-quarter growth going forward. And we're going to have, like we do every year, some episodic transactions that will get a spike in one or two of the quarters. So it's going to grow organically on its own, and it's also going to grow because we've added some more clients. And you don't see the revenue from those clients in the quarter that we onboard them. You see the revenue coming in Q2 and Q3 as they start giving us products to sell.

So first, I wondered if you could walk through the pharma plant economics, just so we're kind of clear on what that opportunity looks like and what you achieved there.

I'm going to give that to Brian because it's a little complicated on how the revenue recognition is going to take place when you sell the equipment and then you do a 10-year lease versus just selling it all at once. So Brian probably is more qualified in working with the auditors. So Brian, you get this question.

We haven't provided any details on the earnings release regarding the extent of the transaction. However, we are currently working through the accounting related to a partnership or joint venture with three other partners, including all associated expenses. As Ross mentioned, a 10-year lease can be accounted for in different ways. I expect it to be categorized as a sales-type lease, but we need to reach an agreement on this as a management team and with our auditors before finalizing our position. Until then, we'll hold off on further commentary and share more information at the end of Q2. Additionally, I want to note that back in 2022, we acquired two buildings along with machinery and equipment as part of the same joint venture, which could be a valuable transaction to consider.

To lift some language from the press release, I'll lift the two words, highly accretive.

Understand. Okay. So Ross, you talked about perhaps starting an industrial lending offering. And I just want to be clear, would you be providing capital to the buyers of assets at your auctions? Or would you be looking to provide capital to buyers of assets coming from your auctions?

So not to provide financing. At ALT Capital, we actually do already provide financing to the buyers via our retail offerings. So that exists. We did a deal last year, an asset-based deal, where we lent money basically as a hard money asset-based lender to an aircraft company, an aircraft transportation company. We're actually seeing lots of offers now. The marketplace has kind of moved where it's getting very, very difficult in a lot of industries to get venture lease money. It's getting more difficult to get your Series C, D and E and F money from the venture community. So there's more people that have capital assets out there now that are looking to borrow directly against their assets. And as the banks are getting a little bit more cautious on lending, we see a lot of growth in industrial asset-based lending. It's a marketplace we understand. We're very skilled at the underwriting. So we're just going to move more aggressively into looking at those deals. We didn't earlier when we didn't have as much free capital. But now when you're looking at our credit line of $10 million at 0, you're looking at us having substantial multimillion-dollar profits every quarter, we think it's a good, strong, safe, smart way to broaden our lending business and to basically take our lending book and be both an industrial and a financial lender, which was always kind of the long-term goal, George.

I understand. Okay. That's helpful. Lastly for me, you may have seen we put out a note recently that kind of summarized most of the charge-off numbers and expectations from all of the key players in the industry. And it was very impressive in terms of the charge-off volume and the potential that they see. Most of them argue though that the latter part of this year would see some normalization. And frankly, I kind of remember them saying the same thing last year. But can you just give your perspective on how much opportunity you see in terms of the volumes there?

Right. So not looking at the future, but looking at the past and then looking at our future from the past, there's already out there a tremendous amount of product that has not yet become available. When you see a default, it takes time for that to mature into a charge-off. And then once it becomes a charge-off, it comes to us. So there's already a lot of product that's going to be coming available all of this year and obviously, a lot of it rolling into next year. So if it does level off on the amount of charge-offs, there's a lot of sell-through still in front of us, George.

And seeing no further questions, I'll turn the call back over to our host.

This is Ross. I want to thank you all for joining. We're very easy to get a hold of and always available, and we really enjoy talking to our investors and talking to anybody who's curious or thoughtful or interested in being a future investor. So we're always available, and we thank you all for participating. Everyone, have a great day.

This concludes today's conference call. Thank you for attending.