DAILY JOURNAL CORP 10-Q

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Results of Operations The Company continues to operate as two different businesses: (1) The Traditional Business, being the business of newspaper publishing and related services that the Company had before 1999 when it purchased a software development company, and (2) Journal Technologies, Inc., which supplies case management software systems and related products to courts, prosecutor and public defender offices, probation departments and other justice agencies, including administrative law organizations, city and county governments and bar associations. These organizations use the Journal Technologies family of products to help manage cases and information electronically, to interface with other critical justice partners and to extend electronic services to the public, including e-filing and a website to pay traffic citations and fees online. These products are licensed in approximately 30 states and internationally. Reportable Segments The Company’s Traditional Business is one reportable segment and the other is Journal Technologies which includes Journal Technologies, Inc. and Journal Technologies (Canada) Inc. All inter-segment transactions were eliminated. Additional detail about each reportable segment and its income and expenses is set forth below: Overall Financial Results (000) For the six months ended March 31 Reportable Segments Traditional Business Journal Technologies Corporate Total 2024 2023 2024 2023 2024 2023 2024 2023 Revenues Advertising $ 4,403 $ 4,194 $ - $ - $ - $ - $ 4,403 $ 4,194 Circulation 2,194 2,206 - - - - 2,194 2,206 Advertising service fees and other 1,402 1,477 - - - - 1,402 1,477 Licensing and maintenance fees - - 13,411 10,074 - - 13,411 10,074 Consulting fees - - 6,501 6,755 - - 6,501 6,755 Other public service fees - - 4,653 3,749 - - 4,653 3,749 Total operating revenues 7,999 7,877 24,565 20,578 - - 32,564 28,455 Operating expenses Salaries and employee benefits 5,173 4,499 18,185 15,279 - - 23,358 19,778 Decrease to the long-term supplemental compensation accrual (800 ) (700 ) (30 ) (20 ) - - (830 ) (720 ) Others 2,765 2,435 6,015 6,053 - - 8,780 8,488 Total operating expenses 7,138 6,234 24,170 21,312 - - 31,308 27,546 Income (loss) from operations 861 1,643 395 (734 ) - - 1,256 909 Dividends and interest income - - - - 2,858 5,132 2,858 5,132 Interest expenses on note payable collateralized by real estate - - - - (21 ) (24 ) (21 ) (24 ) Interest expense on margin loans and others - - - - (2,187 ) (1,913 ) (2,187 ) (1,913 ) Gains on sales of marketable securities, net - - - - 14,261 422 14,261 422 Net unrealized gains on marketable securities - - - - 20,193 32,669 20,193 32,669 Pretax income (loss) 861 1,643 395 (734 ) 35,104 36,286 36,360 37,195 Income tax (expense) benefit (200 ) (435 ) (90 ) 135 (8,040 ) (9,635 ) (8,330 ) (9,935 ) Net income (loss) $ 661 $ 1,208 $ 305 $ (599 ) $ 27,064 $ 26,651 $ 28,030 $ 27,260 Total assets $ 14,807 $ 14,053 $ 23,937 $ 25,444 $ 297,003 $ 319,523 $ 335,747 $ 359,020 Capital expenditures $ 23 $ 70 $ - $ 4 $ - $ - $ 23 $ 74 15 Comparable six-month periods ended March 31, 2024 and 2023 Consolidated Financial Comparison Consolidated revenues were $32,564,000 and $28,455,000 for the six months ended March 31, 2024 and 2023, respectively. This increase of $4,109,000 (14%) was primarily from increases in (i) Journal Technologies’ license and maintenance fees of $3,337,000, and other public service fees of $904,000, partially offset by decreased consulting fees of $254,000, and (ii) the Traditional Business’ advertising revenues of $209,000. Approximately 75% of the Company’s revenues during the six months ended March 31, 2024 were derived from Journal Technologies, as compared with 72% in the prior fiscal year period. In addition, the Company’s revenues during the quarter were primarily from the United States, with approximately $4,543,000 (14%) from foreign countries. Almost all of Journal Technologies’ revenues are from governmental agencies. Consolidated operating expenses increased by $3,762,000 (14%) to $31,308,000 from $27,546,000. Total salaries and employee benefits increased by $3,580,000 (18%) to $23,358,000 from $19,778,000 primarily due to annual salary adjustments and the hiring of additional staff members to strengthen operational efficiencies, conduct product development and address technical debt, and bolster teams working on the company’s installation projects. Outside services increased by $271,000 (9%) to $3,250,000 from $2,979,000 mainly because of additional contractor services and increased third-party hosting fees which were billed to clients. Equipment maintenance and software increased by $55,000 (8%) to $712,000 from $657,000 mainly resulting from increased maintenance costs. Accounting and legal fees decreased by $84,000 (17%) to $411,000 from $495,000 primarily resulting from decreased legal fees. Other general and administrative expenses decreased by $262,000 (13%) to $1,757,000 from $2,019,000 mainly because there were decreased business travel expenses and reduced miscellaneous office supply expenses as compared to the prior fiscal year period. The Company’s non-operating income, net of expenses, decreased by $1,182,000 (3%) to $35,104,000 from $36,286,000 in the prior fiscal year period primarily because of (i) the recording of net unrealized gains on marketable securities of $20,193,000 as compared with $32,669,000 in the prior fiscal year period, and (ii) decreases in dividends and interest income of $2,274,000 (44%) to $2,858,000 from $5,132,000. These decreases were partially offset by the recording of realized net gains on sales of marketable securities of $14,261,000 as compared with $422,000 in the prior fiscal year period. During the six months ended March 31, 2024, the Company’s consolidated pretax income was $36,360,000, as compared to $37,195,000 in the prior fiscal year period. There was consolidated net income of $28,030,000 ($20.36 per share) for the six months ended March 31, 2024, as compared with $27,260,000 ($19.80 per share) in the prior fiscal year period. At March 31, 2024, the aggregate fair market value of the Company’s marketable securities was $297,003,000. These securities had approximately $157,909,000 of net unrealized gains before taxes of $40,490,000. The portfolio generated approximately $2,858,000 in dividends and interest income during the six months ended March 31, 2024, as compared with $5,132,000 in the prior fiscal year period. Most of the unrealized gains were in the common stocks of three U.S. financial institutions and one foreign manufacturer. 16 Taxes For the six months ended March 31, 2024, the Company recorded an income tax provision of $8,330,000 on the pretax income of $36,360,000. The income tax provision consisted of tax provisions of $3,660,000 on the realized gains on marketable securities, $5,180,000 on the unrealized gains on marketable securities, $40,000 on income from foreign operations, and $480,000 on income from US operations and dividend income, partially offset by a tax benefit of $210,000 for the dividends received deduction and other permanent book and tax differences, and a tax benefit of $820,000 for the effect of a change in state apportionment on the beginning of the year’s deferred tax liability. Consequently, the overall effective tax rate for the six months ended March 31, 2024 was 22.9%, after including the taxes on the realized and unrealized gains on marketable securities. For the six months ended March 31, 2023, the Company recorded an income tax provision of $9,935,000 on the pretax income of $37,195,000. The income tax provision consisted of a tax provision of $110,000 on the realized gains on marketable securities and $8,770,000 on the unrealized gains on marketable securities, a tax provision of $1,005,000 on income from operations, including dividend income, and a tax provision of $210,000 for the effect of a change in state apportionment on the beginning of the year’s deferred tax liability, partially offset by a tax benefit of $160,000 for the dividends received deduction and other permanent book and tax differences. Consequently, the overall effective tax rate for the six months ended March 31, 2023 was 26.7%, after including the taxes on the realized and unrealized gains on marketable securities. The Company files consolidated federal income tax returns in the United States and with various state jurisdictions and is no longer subject to examinations for fiscal years before fiscal 2021 with regard to federal income taxes and fiscal 2020 for state income taxes. The Traditional Business The Traditional Business’ pretax income decreased by $782,000 (48%) to $861,000 from $1,643,000 in the prior fiscal year period, primarily due to increased personnel costs of $674,000 (15%) to $5,173,000 from $4,499,000, partially offset by an increased reduction of $100,000 (14%) to the long-term supplemental compensation accrual to arrive at a reduction of $800,000 as compared with a reduction of $700,000 in the prior fiscal year period. During the six months ended March 31, 2024, the Traditional Business had total operating revenues of $7,999,000, as compared with $7,877,000 in the prior fiscal year period. Advertising revenues increased by $209,000 (5%) to $4,403,000 from $4,194,000, primarily resulting from increased commercial advertising revenues of $252,000, legal notice advertising revenues of $32,000, and trustee sale notice advertising revenues of $29,000, partially offset by decreased government notice advertising revenues of $104,000. Trustee sale notices are very much dependent on the number of California and Arizona foreclosures for which public notice advertising is required by law. The number of foreclosure notices published by the Company decreased slightly by 1% during the six months ended March 31, 2024 as compared to the prior fiscal year period. The Company’s smaller newspapers, those other than the Los Angeles and San Francisco Daily Journals (“The Daily Journals”), accounted for about 86% of the total public notice advertising revenues during the six months ended March 31, 2024. Public notice advertising revenues and related advertising and other service fees, including trustee sales legal advertising revenues, constituted about 14% of the Company's total operating revenues for the six months ended March 31, 2024 and 16% for the six months ended March 31, 2023. 17 The Daily Journals accounted for about 93% of the Traditional Business’ total circulation revenues, which decreased by $12,000 (1%) to $2,194,000 from $2,206,000. The court rule and judicial profile services generated about 4% of the total circulation revenues, with the other newspapers and services accounting for the balance. Advertising service fees and other are Traditional Business segment revenues, which include primarily (i) agency commissions received from outside newspapers in which the advertising is placed, and (ii) fees generated when filing notices with government agencies. The Traditional Business segment operating expenses, excluding the adjustments to the long-term supplemental compensation accrual, increased by $1,004,000 (14%) to $7,938,000 from $6,934,000, primarily resulting from the annual salary adjustments. Journal Technologies During the six months ended March 31, 2024, Journal Technologies’ business segment pretax income increased by $1,129,000 (154%) to pretax income of $395,000 from a pretax loss of $734,000 in the prior fiscal year period primarily resulting from increased revenues of $3,987,000, partially offset by increased operating expenses of $2,858,000. Revenues increased by $3,987,000 (19%) to $24,565,000 from $20,578,000 in the prior fiscal year period. Licensing and maintenance fees increased by $3,337,000 (33%) to $13,411,000 from $10,074,000. Consulting fees decreased by $254,000 (4%) to $6,501,000 from $6,755,000 mainly due to fewer project go-lives (i.e. signoffs by the clients). Other public service fees increased by $904,000 (24%) to $4,653,000 from $3,749,000 primarily because of increased e-filing fee revenues. Deferred consulting fees primarily represent advances from customers of Journal Technologies for installation services and are recognized upon final project go-lives. Deferred revenues on license and maintenance contracts represent prepayments of annual license and maintenance fees and are recognized ratably over the maintenance periods. Operating expenses increased by $2,858,000 (13%) to $24,170,000 from $21,312,000 primarily because of (i) increased personnel costs because of salary adjustments (ii) additional contractor services and the hiring of additional staff members to strengthen operational efficiencies, conduct product development and address technical debt, and bolster teams working on the Company’s installation projects, and (iii) increased third-party hosting fees which were billed to clients. Journal Technologies continues to update and upgrade its software products, which includes improving aspects like user experience, documentation, and ease of ongoing customer upgrades. These costs are expensed as incurred and will impact earnings at least through the foreseeable future. Impact of the COVID-19 Pandemic Although the World Health Organization has declared an end to the COVID-19 emergency, enduring changes in society resulting from efforts to contain the COVID-19 pandemic may have continuing effects on the Company’s business. For example, for Journal Technologies, although we were able to complete many existing projects remotely, we were delayed in finishing certain implementations and trainings because of our inability to work with clients in-person. Given that we are typically paid for implementation services upon “go-live” of a system, recognition of those revenues has been delayed and in some cases costs have increased. This can also create a risk of contract cancellations for in-progress projects, which has not been a common issue to date, and Journal Technologies is working to minimize additional cancellations. 18 Reportable Segments (for the three-month periods ended March 31, 2024 and 2023) Overall Financial Results (000) For the three months ended March 31 Reportable Segments Traditional Business Journal Technologies Corporate Total 2024 2023 2024 2023 2024 2023 2024 2023 Revenues Advertising $ 2,316 $ 2,204 $ - $ - $ - $ - $ 2,316 $ 2,204 Circulation 1,099 1,108 - - - - 1,099 1,108 Advertising service fees and other 697 778 - - - - 697 778 Licensing and maintenance fees - - 6,854 5,679 - - 6,854 5,679 Consulting fees - - 3,199 4,433 - - 3,199 4,433 Other public service fees - - 2,406 1,952 - - 2,406 1,952 Total operating revenues 4,112 4,090 12,459 12,064 - - 16,571 16,154 Operating expenses Salaries and employee benefits 2,624 2,281 9,387 7,866 - - 12,011 10,147 Decrease to the long-term supplemental compensation accrual (380 ) (200 ) (30 ) - - - (410 ) (200 ) Others 1,294 1,301 3,043 3,281 - - 4,337 4,582 Total operating expenses 3,538 3,382 12,400 11,147 - - 15,938 14,529 Income from operations 574 708 59 917 - - 633 1,625 Dividends and interest income - - - - 1,289 4,063 1,289 4,063 Interest expenses on note payable collateralized by real estate - - - - (10 ) (12 ) (10 ) (12 ) Interest expense on margin loans and other - - - - (1,056 ) (1,052 ) (1,056 ) (1,052 ) Gains on sales of marketable securities - - - - 14,261 - 14,261 - Net unrealized gains on marketable securities - - - - 5,503 8,644 5,503 8,644 Pretax income 574 708 59 917 19,987 11,643 20,620 13,268 Income tax (expense) benefit (145 ) (200 ) 160 (215 ) (5,220 ) (3,420 ) (5,205 ) (3,835 ) Net income $ 429 $ 508 $ 219 $ 702 $ 14,767 $ 8,223 $ 15,415 $ 9,433 Total assets $ 14,807 $ 14,053 $ 23,937 $ 25,444 $ 297,003 $ 319,523 $ 335,747 $ 359,020 Capital expenditures $ 18 $ 38 $ - $ - $ - $ - $ 18 $ 38 Consolidated Financial Comparison Consolidated revenues were $16,571,000 and $16,154,000 for the three months ended March 31, 2024 and 2023, respectively. This increase of $417,000 (3%) was primarily from increases in (i) Journal Technologies’ license and maintenance fees of $1,175,000, and other public service fees of $454,000, partially offset by decreased consulting fees of $1,234,000, and (ii) the Traditional Business’ advertising revenues of $112,000, partially offset by decreased advertising service fees and other of $81,000. Approximately 75% of the Company’s revenues were derived from Journal Technologies during both the three-month periods ended March 31, 2024 and 2023. In addition, the Company’s revenues during the quarter were primarily from the United States, with approximately $2,051,000 (12%) from foreign countries. Almost all of Journal Technologies’ revenues are from governmental agencies. 19 Consolidated operating expenses increased by $1,409,000 (10%) to $15,938,000 from $14,529,000. Total salaries and employee benefits increased by $1,864,000 (18%) to $12,011,000 from $10,147,000 primarily due to annual salary adjustments and the hiring of additional staff members to strengthen operational efficiencies, conduct product development and address technical debt, and bolster teams working on the company’s installation projects. Outside services decreased by $166,000 (9%) to $1,583,000 from $1,749,000 mainly because of reduced contractor services. Accounting and legal fees decreased by $67,000 (30%) to $155,000 from $222,000 primarily resulting from decreased legal fees. Other general and administrative expenses decreased by $140,000 (13%) to $925,000 from $1,065,000 mainly because there were decreased business travel expenses and reduced miscellaneous office supply expenses as compared to the prior fiscal year period. The Company’s non-operating income, net of expenses, increased by $8,344,000 (72%) to $19,987,000 from $11,643,000 in the prior fiscal year period primarily because there were realized gains on sales of marketable securities of $14,261,000 during this quarter. These gains were partially offset by (i) the recording of net unrealized gains on marketable securities of $5,503,000 as compared with $8,644,000 in the prior fiscal year period, and (ii) decreases in dividends and interest income of $2,774,000 (68%) to $1,289,000 from $4,063,000. During the three months ended March 31, 2024, the Company’s consolidated pretax income was $20,620,000, as compared to $13,268,000 in the prior fiscal year period. There was consolidated net income of $15,415,000 ($11.19 per share) for the three months ended March 31, 2024, as compared with $9,433,000 ($6.85 per share) in the prior fiscal year period. The Traditional Business The Traditional Business’ pretax income decreased by $134,000 (19%) to $574,000 from $708,000 in the prior fiscal year period, primarily due to increased personnel costs of $343,000 (15%) to $2,624,000 from $2,281,000, partially offset by an increased reduction of $180,000 (90%) to the long-term supplemental compensation accrual to arrive at a reduction of $380,000 as compared with a reduction of $200,000 in the prior fiscal year period. During the three months ended March 31, 2024, the Traditional Business had total operating revenues of $4,112,000, as compared with $4,090,000 in the prior fiscal year period. Advertising revenues increased by $112,000 (5%) to $2,316,000 from $2,204,000, primarily resulting from increased commercial advertising revenues of $137,000, legal notice advertising revenues of $30,000, and trustee sale notice advertising revenues of $19,000, partially offset by decreased government notice advertising revenues of $74,000. The Traditional Business segment operating expenses, excluding the adjustments to the long-term supplemental compensation accrual, increased by $336,000 (9%) to $3,918,000 from $3,582,000, primarily resulting from the annual salary adjustments. 20 Journal Technologies During the three months ended March 31, 2024, Journal Technologies’ business segment pretax income decreased by $858,000 (94%) to $59,000 from $917,000 in the prior fiscal year period primarily resulting from increased operating expenses of $1,253,000, partially offset by increased revenues of $395,000. Revenues increased by $395,000 (3%) to $12,459,000 from $12,064,000 in the prior fiscal year period. Licensing and maintenance fees increased by $1,175,000 (21%) to $6,854,000 from $5,679,000. Consulting fees decreased by $1,234,000 (28%) to $3,199,000 from $4,433,000 mainly due to fewer project go-lives (i.e. signoffs by the clients). Other public service fees increased by $454,000 (23%) to $2,406,000 from $1,952,000 primarily because of increased e-filing fee revenues. Operating expenses, excluding the adjustment to long-term supplemental compensation accrual, increased by $1,283,000 (12%) to $12,430,000 from $11,147,000 primarily because of (i) increased personnel costs because of salary adjustments (ii) the hiring of additional staff members to strengthen operational efficiencies, conduct product development and address technical debt, and bolster teams working on the Company’s installation projects, and (iii) increased third-party hosting fees which were billed to clients. Liquidity and Capital Resources During the six months ended March 31, 2024, the Company’s cash and cash equivalents, restricted cash, and marketable security positions decreased by $16,368,000 after the recording of net pretax unrealized gains on marketable securities of $20,193,000. In March 2024, the Company sold part of its marketable securities for approximately $40,579,000. Cash and cash equivalents as well as proceeds from sales of marketable securities were primarily used to pay down the margin loan balance by $45,579,000. The investments in marketable securities, which had an adjusted cost basis of approximately $139,094,000 and a market value of about $297,003,000 at March 31, 2024, generated approximately $2,858,000 in dividends and interest income during the six months ended March 31, 2024. These securities had approximately $157,909,000 of net unrealized gains before estimated taxes of $40,490,000 which will become due only when we sell securities in which there is unrealized appreciation. The balance on the Company’s margin loan secured by the securities portfolio was $29,421,000 and $75,000,000 at March 31, 2024, and September 30, 2023, respectively. Cash flows from operating activities decreased by $6,543,000 during the six months ended March 31, 2024, as compared to the prior fiscal year period, primarily due to (i) increases in the Company’s income tax receivable of $269,000 and accounts receivable of $353,000, and (ii) decreases in deferred tax liability of $4,567,000, accounts payable and accrued liabilities of $211,000, and deferred revenues of $4,914,000. This was partially offset by increases in (i) income tax payable of $1,481,000, and (ii) the Company’s net income of $2,385,000, excluding the decreases in unrealized gains on marketable securities of $12,476,000, stock dividends of $2,978,000, and increased realized net gains on sales of marketable securities of $13,839,000. As of March 31, 2024, the Company had working capital of $290,031,000, including the liabilities for deferred subscriptions, deferred consulting fees and deferred maintenance agreements and others of $21,562,000. 21 The Company believes that it will be able to fund its operations for the foreseeable future through its cash flows from operations and its current working capital and expects that any such cash flows will be invested in its businesses. The Company may or may not have the ability to borrow additional amounts against its marketable securities and, among other possibilities, it may be required to consider selling some of those securities to generate cash if needed to fund ongoing operations. The amount available for borrowing is based on the market value of the Company’s investment portfolio and fluctuates depending on the value of the underlying securities. In addition, the Company could be subject to margin calls should the balance of the investment decrease significantly. The Company is not a smaller version of Berkshire Hathaway Inc. The Company’s goal is simply to continue to develop a successful and profitable software business, while continuing to enjoy the benefit of its Traditional Business for as long as possible. Critical Accounting Policies and Estimates The Company’s financial statements and accompanying notes are prepared in accordance with U.S. generally accepted accounting principles. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are affected by management’s application of accounting policies. Management believes that revenue recognition, accounting for software costs, fair value measurement and disclosures (including the long-term Incentive Plan liabilities) and income taxes are critical accounting policies and estimates. The Company’s critical accounting policies are detailed in its Annual Report on Form 10-K for the year ended September 30, 2023. The above discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and notes thereto included in this report. Disclosure Regarding Forward-Looking Statements This Quarterly Report on Form 10-Q includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Certain statements contained in this document, including but not limited to those in “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” are “forward-looking” statements that involve risks and uncertainties that may cause actual future events or results to differ materially from those described in the forward-looking statements. Words such as “expects,” “intends,” “anticipates,” “should,” “believes,” “will,” “plans,” “estimates,” “may,” variations of such words and similar expressions are intended to identify such forward-looking statements. We disclaim any intention or obligation to revise any forward-looking statements whether as a result of new information, future developments, or otherwise. There are many factors that could cause actual results to differ materially from those contained in the forward-looking statements. These factors include, among others: risks associated with software development and implementation efforts, and disruptive new technologies like artificial intelligence; Journal Technologies’ reliance on professional services engagements with justice agencies; material changes in the costs of postage and paper; additional possible changes in the law, particularly changes limiting or eliminating the requirements for public notice advertising; possible loss of the adjudicated status of the Company’s newspapers and their legal authority to publish public notice advertising; the continuous effects of COVID-19 and the efforts to contain it on the Company’s customers, advertisers and subscribers; a further decline in subscriber revenues; possible security breaches of the Company’s software or websites; changes in accounting guidance; material weaknesses in the Company’s internal control over financial reporting; and declines in the market prices of the securities owned by the Company. In addition, such statements could be affected by general industry and market conditions, general economic conditions (particularly in California) and other factors. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from those in the forward-looking statements are discussed in this Form 10-Q, including in conjunction with the forward-looking statements themselves. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained from time to time in documents filed by the Company with the Securities and Exchange Commission, including in the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2023.