Good day, everyone, and welcome to the Heritage Global Inc. Second Quarter 2024 Earnings Call. At this time all participants are in a listen-only mode. Later, you'll have the opportunity to ask questions during the question-and-answer session. [Operator Instructions] Please note, today's call will be recorded and we will be standing by if you should need any assistance. It is now my pleasure to turn today's conference over to John Nesbett, President, IMS Investor Relations. Please go ahead.

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 our 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, please go ahead.

Well, thank you, John. Good afternoon, everyone, and welcome to our call. Before I give the call over to Brian to go into all of the details of the call, I thought I'd just give you a couple of quick observations. Q2 was a really solid performance for us, primarily because it was across both Financial and Industrial, $3.5 million in consolidated operating income and $4 million in EBITDA was a big improvement over Q1 and bodes well for looking into where we're seeing ourselves going in Q3 and Q4, where we've had some accelerated client retention and the market is really strong. What I kind of leave you with before Brian is really just one thought. Sometimes you have a really solid quarter. And at the end of that quarter, you're left without a lot of prospects for the second quarter. That did not happen at all this time. We ended the quarter very strong with a robust pipeline. We've actually added new forward flow clients on both sides of the business, and we're rolling into Q3 with really a very, very solid, very bullish view on Q3 and Q4. So with that, I'll give it over to Brian to go through this quarter, to walk you through all of the businesses, to walk you through what we're doing to create some improvements in Heritage Global Capital, which has been the one part of our business that we need to get on a better track. Everything else is on the exact right track, and Brian will walk through what we're doing there along with everything else. So, Brian, go ahead and take it away.

Thank you, Ross. I'll begin by going over our divisional highlights before moving into our Financial results. Our Industrial Assets division continued to execute in the second quarter of 2024, reporting total divisional operating income of $2.1 million, an increase from $1.5 million in the prior year period. Our Auction business, in particular, had a strong quarter. Increased economic pressures continued to cause downsizing and office closures in a variety of businesses across the country, resulting in the sale of surplus industrial machinery and equipment. As previously disclosed, in conjunction with our partners, the division completed a transaction that involved the sale of equipment and a 10-year building lease on the recently acquired pharmaceutical plant in Fenton, Missouri. The lease was determined to be a sales type lease. And together with the sale of equipment, the company recorded a total of $1.3 million in earnings for its respective share in the second quarter. As we look to the back half of 2024, we have a strong auction pipeline in place and expect to see continued activity in the second half of the year. Our Financial Assets division performed consistently in the second quarter of 2024 compared to the prior year quarter with operating income of $2.7 million. Our brokerage business continues to perform well. We continue to see steady volumes of charge-off credit cards and nonperforming loans and are optimistic about the growth of this business moving forward. As of June 30, 2024, our total amortized cost basis of loans to buyers of charged off and nonperforming receivable portfolios was $35.2 million, classified on our balance sheet as both notes receivable and equity method investments. As previously noted, we are in an economic environment where consumers have less capacity to pay their debts, which results in lower collection rates industry-wide.…

Thank you, Brian. So let me take a few minutes to tell you why we're actually very excited about both our organic growth and increased opportunities we're seeing in M&A across both sides of our business, the Financial Assets and the Industrial Assets. So let me kind of start with the Financial Assets. It's pretty clear right now that everyone can see that our pipeline is solid because of the macro economy and also all the efforts we're doing to garner new clients and win business and execute. But on the macro side, we're looking at consumer debt has been rising since 2021. Our revenue is rising along with it. We've now got household debt at $17.5 trillion, if you can imagine that, and up $200 billion in just one quarter. We're looking at credit card balances now of over $1 trillion, adding $50 billion this quarter. All of that just shows you that the volume is continuing to grow and grow. With that volume, the amount of charge-offs has to grow with it. And we think our business has solid growth for years organically. We're now looking on the credit cards at 49% of all credit cards basically going month-to-month on payments rather than paying them off at the end of the month, which is the first tell-tale sign into more growth in charge-offs. And we're now looking at 6% of credit card accounts being past due. Just two, three years ago, it was 4%. So is our business growing? Yes. Will our business continue to grow. If you say our business grows because supply grows, then there is clearly no argument our business won't grow. What that does is it gives us more and more cash flow and more and more strength in a position where we're stronger…

[Operator Instructions] We'll take our first question from Mark Argento with Lake Street. Please go ahead. Your line is open.

Hey, Brian. Hey, Ross. Just a few quick ones here. The impairment or the change in status in terms of the part of the loan book, what happens going forward? What should we be looking for in terms of seeing any improvement in the situation? It sounds like you've got something you're working with? Do you guys look to sell the book off? Maybe just walk us through at a high level what next steps are there?

So I'll take it first, Brian. So we've hired an adviser to work with. There is, at this time, no announcement of selling a book, no announcement of any kind of change right now other than working very, very hard to enhance the collection efforts and to recover -- trying to recover 100% of the money. We don't anticipate at this time taking any further efforts than what we've announced. So we hope to get back as much, if not all of the money as we can. We took $1.5 million charge a while ago. We're not changing that at this point in time. We're getting collections on a monthly basis. We continue to get collections, albeit they've been a little bit short of the minimum payment, but they're coming in very steady, and we're going to continue monitoring them and working with them to try to do the best we can. There will be announcements in the future if we make any change. But at this time, we don't have one. I'll let Brian add to that. Brian, if you like.

Yeah. So the main thing that we've been working on in the finance group is really trying to figure out with our senior lenders how the structure of these specific loans can be changed in a way that can improve the collections. And really one way is to help the servicer of those collections or the manager or borrower collect in legal methods. And so we think that there might be some improvement there. But on the accounting side, the way I look at this is that we're taking a conservative position right now to allocate all of the collections or net collections to the principal balance. Until we see a lot of positive data or changes that could allow us to collect all principal and interest, I think that the nonaccrual status will remain in the short term.

Got it. Then have you guys -- have you stopped any additional lending, putting any additional capital out with other customers at this point? Or what's the general...

We're obviously not funding that customer at this point in time. And we have no plans to fund that customer until this is 100% accretive and straightened out and paying, and then we would make a decision there. There are some customers that we have funded that are highly performing customers. We're being very prudent, and we're being very careful only to fund the best of the best, but we are still looking at deals, albeit less aggressively, Mark -- or I should say, more aggressively. We're very, very particular about what we would fund. But we have a lot of free cash flow right now, and a lot of that free cash flow, maybe we're holding back as we're looking at M&A, et cetera, but we're in a very strong financial position. So if somebody came to us with a great loan, we're well capitalized to do it.

Great. Just pivoting over to -- you had mentioned forward flows on both the Financial Asset and Industrial Asset businesses are robust. I know historically, we've talked a little bit about the Financial Asset forward flows. But on the Industrial Asset side, it's a little bit of newer concept. Maybe just walk us through what is the forward flow...

Our largest forward flow is an existing client, which is Pfizer. So they do auctions with us every month. We're having our best year with them now, because they've been doing a lot of worldwide planning, recalibrating and restructuring, which has freed up more assets than last year. So the auctions are very good right now, the assets are very good, and we're getting very large crowds. We've added some other more regional clients on that end. And some of the clients that we've done past auctions for are now becoming repeat clients. So we're getting more repeat business. So it's not all brand-new one-offs, which is the most expensive business, as you know, to get, where you're making the presentations versus receiving the call in. So we're getting more repeat business on the Industrial side, and we're looking at a very strong Q3, Q4 with ongoing business there. On the Financial Assets side, there have been some new companies, both fintech companies and banks. And also, we've added more companies that have nonperforming real estate right now, which is a growing nonperforming sector, as you know. So we've added some forward flow clients on that side, too. And we're looking at a really solid -- Q3 and Q4 we think will beat the first half of the year on the Financial side at the Brokerage segment.

Great. I'll hop back in the queue. Thanks, guys.

Thank you, Mark.

We'll take our next question from George Sutton with Craig-Hallum. Please go ahead. Your line is open.

Hey, good afternoon, guys. This is actually Logan on for George today.

Hi, Logan.

I’m wondering if I could just ask one on the borrower. Can you just walk us through kind of the underlying assumptions now you guys got to the determination that you didn't need to increase the credit loss reserve? And then maybe, do you guys have any insight into kind of the underlying portfolios, like where the weakness is coming through? I think there's like...

Yeah. So we went out -- basically, it was a multiple tiered approach to decide if we needed to do anything further, and we're pretty convinced we don't need anything further after a real thorough amount of work that included advice from an independent adviser, who looked at it. It included talking with both senior lenders and getting their take in it, talking with the borrower, looking at the past collection rates and what's actually being collected, and looking at the accounts going forward, and looking at third-party advice. And all of that together led us to believe that we were comfortable that we were in the right position right now. We also have the collections going forward. And the collections going forward, although yes, they are short of the minimum payment, they're still substantial, and they're still coming in very regular, and there's still tens of thousands of accounts to collect on. So we feel comfortable with the position we've taken. I'll let Brian add to that if I missed anything.

The only thing I'll add real quick is from a numbers perspective, I look at it as, yes, the inherent risk is perceived to go up if a borrower has defaulted on the loan, so you would initially think that the reserve should go up along with that. But we're placing heavy reliance on the underlying collections on those portfolio assets. And also, all of the cash flows now are being applied to principal in that analysis. And that's all been taken into consideration. So the method of accounting is really more than offsetting the inherent risk.

Okay. Got it. And maybe just one other on the brokerage side. I mean, certainly, it seems like commentary from the big purchasers would indicate charge-offs kind of going up through the back half of this year and into next year. I think you guys have said that, too. If I can just double-click on that maybe. I think, Ross, in the past, you've talked about buy-now, pay-later. Anything you guys are seeing kind of from a competitive standpoint there kind of to be positioned? I think we've seen a few reports recently and volume seems to be up there.

The volume is up there, and we were an early entry into selling the buy-now pay-later assets. Dave Ludwig and Tom Ludwig and the guys that run NLEX really kind of saw that kind of cutting edge in the very beginning, even before some of the companies were ready to sell assets. They were there early, explaining our process, explaining how we work, who we are, and what we've been able to do with very similar assets, whether it be credit cards or auto loans, et cetera, or other kinds of consumer loans. So we got in early, and we basically have built not just a cadre of sellers, but we built a list of people that buy the buy-now pay-later product. So as that grows, we should stay at the forefront as an industry leader. What's happening right now is overall, all of nonperforming loans seem to be a growth business right now. I mean, credit cards are part of it. The fintech stuff, the buy-now pay-later is part of it. Real estate loans are part of it. Across the board, there's a growing amount of product right now on the consumer end. So, we feel kind of bullish on the business over the next multiple years across all sectors.

Thanks for taking my questions.

Thank you.

This does conclude the Q&A session. I will turn the program to Ross Dove for any closing or additional remarks.

Thank you all very much for sticking with us. Thank you for listening. Thank you for paying attention. We're available for follow-ons at any time. Anybody is looking for any further information. The company is in a very strong position across the board. We have some work to do to get Heritage Global capital to exactly where we want. But keep in mind, what we're looking at there is equity. We didn't default on anybody, somebody defaulted on us. We're prepared for it. We're going to make the best of it. We're going to collect as much of the money as we can. As we move forward, we think we're looking at record years over the next two, three, four years, and we think this is a very, very strong dynamic growth company that we're proud to be a part of. And we're open to any question at any time and any kind of further discussion with any of you. And thank you all for your interest. Everybody, have a great day. Bye-bye.

This does conclude today's program. Thank you for your participation, and you may now disconnect.