Great Elm Group, Inc. 7.25% Notes due 2027 (GEGGL) Q4 2022 Earnings Report, Transcript and Summary

Good morning. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to the Great Elm Group Fiscal 2022 Fourth Quarter Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. Adam Yates, Managing Director, you may begin your conference.

Thank you, and good morning, everyone. Thank you for joining us for Great Elm Group's fiscal fourth quarter and year-end 2022 earnings conference call. As a reminder, this conference call is being recorded on Tuesday, September 13, 2022. If you would like to be added to our distribution list, you can e-mail investorrelations@greatelmcap.com or you can sign up for alerts directly on our website, www.greatelmgroup.com. The slide presentation accompanying today's conference call and webcast can be found on our website under Events and Presentations. A link to the webcast is also available on our website as well as in the press release that was disseminated to announce the quarterly results. I would like to call your attention to the customary safe harbor statement regarding forward-looking information. Also, please note that nothing in today's call constitutes an offer to sell or a solicitation of offers to purchase our securities. Today's conference call includes forward-looking statements and projections, and we ask that you refer to Great Elm Group's filings with the SEC for important factors that could cause actual results to differ materially from these projections. Great Elm Group does not undertake to update its forward-looking statements unless required by law. To obtain copies of SEC filings, please visit Great Elm Group's website under Financial Information and select SEC filings. Great Elm Group is a holding company comprised of two verticals, investment management and operating companies. In investment management, we seek to drive sustainable growth in assets under management across Great Elm Capital Corp, a publicly traded BDC, Monomoy REIT as well as other investment vehicles. In operating companies, we manage Great Elm Durable Medical Equipment, or DME, a distributor of respiratory care equipment and sleep study services. Hosting the call today is Peter Reed, Great Elm Group's Chief Executive Officer. I will now turn the call over to Peter.

Welcome, everyone, and thank you for joining us today. I am joined this morning by our President, Adam Kleinman; and our CFO, Brent Pearson. This fiscal fourth quarter and year ended June 30, 2022, were highlighted by two key milestones. First, as discussed on our prior earnings call, we recently closed on the acquisition of the Investment Management agreement for Monomoy Properties REIT of Private Real Estate Investment Trust, with a portfolio of diversified net leased industrial assets representing $358 million of real estate. This was a transformative deal for Great Elm that more than doubled our AUM and jump-started our strategic initiative of managing a scalable and diversified portfolio of long duration and permanent capital vehicles that generate recurring fees. Looking forward, the acquisition of Monomoy REIT adds scale and accelerates growth in our Investment Management segment, thereby driving long-term shareholder value for GEG. More specifically, the transaction is off to a good start with the fund's NAV up from $180 million at the time of the deal to $201 million as of June 30, 2022, inclusive of the $15 million investment from GEG. In addition, Monomoy's backlog of transactions remain strong, boding well for further growth in NAV and related fees. Second, following the Monomoy transaction, we issued $27 million of five-year baby bonds carrying an interest rate of 7.25%, with the proceeds allocated for strategic growth investments into Monomoy as well as other investment vehicles to further enhance the growth and diversity of our Investment Management business. In addition, GECC raised $37.5 million of new equity capital upon completion of its rights offering. Stepping back, the success of these offerings reinforces GEG's ability to raise fixed rate debt in a timely and cost-effective manner. Going forward, we believe we can drive meaningful growth in shareholder equity by deploying proceeds from further capital raises into existing funds or new investment vehicles that offer durable income streams and compelling total return potential. Turning to our results for the quarter and year ended June 30, 2022, we delivered strong financial performance, highlighted by consolidated revenue growth of 11% for the fiscal fourth quarter on a year-over-year basis and 12% growth in fiscal 2022. Top line growth was broad-based across our Investment Management and DME segments. Starting with Investment Management, revenue grew by 72% versus the prior year quarter and 44% in fiscal 2022 driven by higher AUM for GECC and our other investment vehicles, combined with the acquisition of Monomoy. Beyond the step-up in management fees related to Monomoy, key growth drivers going forward include additional capital markets financings and private fundraising initiatives for GECC, opportunistic M&A and new fund launches. Shifting to our Durable Medical Equipment business, our multiyear investment in building a scalable platform drove a significant improvement in profitability highlighted by a 37% growth in adjusted EBITDA year-over-year, assuming the amount of government stimulus received in 2021 was the same as in 2022. We were able to accomplish this despite persistent supply chain issues and limited medical device inventories, reinforcing the segment's durable competitive advantages. Before I turn it over to Brent, I want to reinforce two key differentiating factors of Great Elm that we have discussed in the past. First, as of June 30, 2022, we have approximately $820 million of net operating loss carryforwards, which not only shield our future earnings from federal income taxes, but also enhance the financial attractiveness of potential acquisitions of other long-duration capital vehicles. Second, I want to reiterate the strong alignment between the Great Elm team and GEG shareholders. Great Elm employees and directors, including funds under their management, collectively own or manage approximately 40% of GEG's outstanding shares which reinforces the strong alignment of interest between management and shareholders. With that, I'll turn it over to Brent to discuss our financial results for the quarter in more detail.

Thanks, Pete. I'll provide a brief overview, and of course, welcome all of you to review our filings in greater detail for reach out team with questions you may have. During the quarter ended June 30, 2022, we reported consolidated revenue of $18.1 million, a net loss of $4.8 million and adjusted EBITDA of $2.7 million. For the same period last year, we reported consolidated revenue of $16.3 million, a net loss from continuing operations of $1.1 million and adjusted EBITDA of $3.5 million. For fiscal 2022, we generated $68.0 million of revenue, a net loss of $15.0 million and adjusted EBITDA of $9.3 million on a consolidated basis. That compared to revenue of $60.9 million, a net loss of $8.5 million and adjusted EBITDA of $8.6 million for fiscal 2021. Great Elm reports the results of each of our two operating segments including Investment Management and Durable Medical Equipment as well as unallocated general corporate activity. We'll begin the review with Investment Management. For the fiscal fourth quarter, Investment Management reported total revenue of $1.5 million compared to $0.9 million during the same period in the prior year. For fiscal 2022, our Investment Management business generated $4.5 million in revenue compared to $3.2 million in the prior fiscal year. The increase primarily reflected higher assets under management at GECC related to market recoveries and the successful completion of rights offerings, as well as incremental management fees earned from Monomoy REIT, which was acquired in May 2022. As a reminder, Investment Management earns an asset management fee equal to 1% of the REIT's NAV, in addition to property management fees equivalent to 4% of gross rents collected. For the quarter, Investment Management reported a net loss of $1.8 million in comparison to net income of $1.3 million in the prior period. Notably, non-operating activity related to our investment in Monomoy REIT, including dividend income and unrealized gains and losses are now presented as investment management activity given our recent acquisition of the management agreement, whereas previously, they are presented within general corporate. We believe this presentation provides a better view into the performance of the segment. For the year, Investment Management recognized a net loss of $8.6 million as compared to net income of $2.7 million in fiscal 2021. The variance primarily related to non-operating net realized and unrealized losses on the Company's managed investments, primarily GECC, of $7.8 million during the year ended June 30, 2022, as compared to net gains of $0.7 million during the year ended June 30, 2021. Adjusted EBITDA was negative $72,000 in fiscal 2022 fourth quarter compared to a positive $95,000 during the same period in the prior year. For fiscal 2022, adjusted EBITDA was negative $0.4 million as compared to positive $0.4 million in fiscal 2021, as higher payroll costs and consulting fees related to the Monomoy REIT's acquisition and other investments to fuel investment management growth outpaced the increase in revenue. Next, turning to Durable Medical Equipment. For the fiscal fourth quarter, DME generated $16.5 million in revenue compared to $15.4 million for the same period last year, primarily reflecting more efficient intake and collections processes driving lower revenue reserve rates. For the year ended June 30, 2022, DME revenues were up 10.1% to $63.5 million compared to $57.7 million in the prior fiscal year. The increase in total revenue was due primarily to these operating efficiencies as well as contributions from the acquisitions of AMPM in March 2021 and MedOne in August 2021. Looking ahead, we expect global supply chain issues, which restrict our ability to procure certain respiratory equipment to persist in the near term. But we continue to work with key suppliers and explore alternative sourcing to minimize the impact to our business. Great Elm's DME operations reported a net loss of $0.2 million in comparison to net income of $5.9 million in the prior year period. Despite the 7.6% quarter-over-quarter increase in revenue, the decline in net income mostly reflected recurring valuation adjustments of an embedded derivative on an intercompany instrument, which are eliminated in consolidation and added back for EBITDA purposes as well as higher interest expense. DME reported a net loss of $3.8 million for the year ended June 30, 2022, compared to a net loss of $2.5 million in the prior year. The decrease in net income comes despite improvements in operating income at DME, which increased from $2.6 million to $4.3 million in the current year. This improvement is noteworthy given that the prior year period included $4.6 million in CARES Act stimulus, whereas only $2.3 million of CARES Act stimulus was recognized in the current year. The improvements in operating income, however, were offset by non-operating activity, primarily intercompany charges related to DME's preferred stock that is issued to a consolidated subsidiary. Such impacts, including mark-to-market adjustments on the embedded derivative and losses on voluntary redemptions, are eliminated in consolidation with offsetting impacts in general corporate. Adjusted EBITDA was $3.6 million for the fiscal fourth quarter compared to $4.3 million in the prior year period. The prior period included a $2.3 million benefit related to employee retention payroll tax credits claimed under the CARES Act, whereas no benefit was recorded during the quarter ended June 30, 2022. Excluding such benefits in the prior year period, segment profitability significantly improved versus the prior year quarter. For fiscal 2022, adjusted EBITDA was $13.8 million compared to $12.4 million in fiscal 2021, with the increase primarily driven by more favorable revenue and gross margins, partially offset by higher employee-related costs associated with acquired AMPM and MedOne employees. The prior year results included $4.6 million in CARES Act stimulus, whereas the current fiscal year includes $2.3 million, which further serves to highlight the operating improvements in the DME segment. Moving on to our General Corporate segment. For the fiscal fourth quarter, Great Elm's General Corporate segment recorded $230,000 in revenue compared to $280,000 during the same period in the prior year. For the year ended June 30, 2022, the General Corporate segment recognized $0.9 million in revenue compared to $0.6 million in the prior year. Revenue increased as a result of increased management fees earned from our management agreement with Forest, which was executed in December 2020. Such revenues are eliminated in consolidation. For the fiscal fourth quarter 2022, General Corporate reported a net loss of $2.8 million compared to a net loss of $8.3 million in the prior year quarter. The quarter-over-quarter variance was mostly a function of more favorable income tax and non-operating trends in the current quarter. For the year, the General Corporate segment recorded a net loss of $2.6 million in fiscal 2022 versus a net loss of $8.8 million in fiscal 2021. Activity impacting this comparison included higher interest income, intercompany benefits related to investments in DME preferred stock, as well as dividends and gains on our passive investment in Monomoy REIT prior to the acquisition of the investment management agreement in May 2022. In addition, fiscal 2022 incurred a tax provision of $21,000 as compared to $1.8 million of tax expense in the prior fiscal year. General Corporate adjusted EBITDA for the current quarter was negative $0.8 million compared to negative $0.9 million in the prior year period. For fiscal 2022, General Corporate adjusted EBITDA was negative $4.1 million compared to negative $4.2 million in fiscal 2021. Finally, in terms of our balance sheet, we ended the year with a healthy liquidity position of $23.6 million in cash exclusive of liquid investments. As Pete alluded to earlier, during the quarter, we issued $27 million in aggregate principal amount of 7.25% notes due 2027 with the proceeds earmarked for strategic growth investments into Monomoy REIT as part of the transaction, and other opportunistic investments to further build and diversify the investment management business. In May, we also issued $6.3 million promissory note as part of a non-cash upfront consideration for the acquisition of Monomoy REIT. The 6.5% note is due in 2023 and is payable with either cash, GECC shares owned by GEG or newly issued GEG shares subject to shareholder approval. This concludes my financial review of the quarter. And with that, we'll turn the call over to the operator to open for questions.

[Operator Instructions] And your first question comes from the line of Brian Alexitch from Greenwich Investment Management. Your line is open.

A question on the investment management vertical, in particular, right? A lot of the AUM growth has been from either acquisitions, right, or the rights offering, which was primarily or maybe not primarily, but there was a lot of money that came from GEG. And I think as you just described, a lot of the AUM growth in the REIT also came from GEG. So my question is, what's the strategy for organic growth, right? It's great that GEG can pump money into these entities, but as I look at investment management revenues, it's not exactly good revenue to be seeing yourself on your own AUM.

So, I'm not sure that we agree with that. We looked at the financial returns from using our own capital and think that, that is attractive. Obviously, we want to be raising outside capital in addition to using our own capital and that remains the plan. At something like GECC, which is a BDC, there are a lot of rules, as you probably know regarding when and how it can raise capital. So -- but it's an important point of focus for us to grow AUM there and at the Monomoy properties REIT. Also keep in mind, we closed in mid-May. So it's true that a fair chunk of the AUM growth came from GEG, but there is other growth in the AUM there, and that's just in 1.5 months. So, we're very happy with the start that Monomoy is off to and expect to continue to raise outside capital there and work to do so at GECC as well. But we will use our own balance sheet when we think it's a good return, and it's helpful to generate a good return for GEG shareholders.

All right. So following up on that, right? As the manager of both these entities, why not just co-invest then instead of, again, pumping money into the entities and charging yourself the management fee plus the incentive fees?

I'm not sure I understand what you mean by co-invest as opposed to what we just did.

Well, okay. So you guys are the manager, right? You guys manage the pipeline. You guys decide what to invest in, right? You can do so from GEG. You can do so from the -- or sorry, from GECC, you can do so from the REIT or you can take money from GEG, put it into those entities and then do it that way. Or I would think you should just be able to take the money from GEG and invest alongside either of those vehicles and again, not charge yourself the fee. Is that not correct?

I think depending upon the particular, it's -- we could do it. I don't think that there's an advantage to it and necessarily. And we think that the returns from what we did are actually quite good.

[Operator Instructions] And there are no further questions at this time. I will turn the call back over to Peter Reed for some closing remarks.

Thank you again for joining us today, and we look forward to speaking with you in the future.

This concludes today's conference call. Thank you for your participation. You may now disconnect.