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Item 7. Management’s Discussion and Analysis

2024-08-29 compared with 2023-09-20 · 38 added, 49 removed, 130 unchanged (40% of the section changed)

4 unchanged sentences

GEG is a publicly-traded alternative asset management company focused on growing a scalable and diversified portfolio of long-duration and permanent capital vehicles across credit, real estate, specialty finance, and other alternative strategies.

GEG and its subsidiaries currently manage GECC, a publicly-traded BDC, and Monomoy UpREIT, an industrial-focused real estate investment trust, in addition to other investments.

GEG and its subsidiaries currently manage GECC, a publicly-traded BDC, and Monomoy UpREIT, an industrial-focused real estate investment trust, in addition to other investment vehicles.

The combined assets under management of these entities at June 30, 2024 was approximately $727.4 million.

GEG continues to explore other investment management opportunities, as well as opportunities in other areas that it believes provide attractive risk-adjusted returns on invested capital.

As of the date of this report, GEG had $2.3 million of unfunded binding commitments to make additional investments.

On December 30, 2022, GEG and its wholly-owned subsidiary, FM Acquisition, entered into the Stock Purchase Agreement with JPM to sell 61 shares of the common stock, $0.001 par value per share, of Forest owned by FM Acquisition and GEG, which constituted 61% of the issued and outstanding shares of Forest’s common stock, to JPM for approximately $18.4 million in cash.

As of the date of this report, GEG had no unfunded binding commitments to make additional investments.

In connection with the Stock Purchase Agreement, GEG, JPM and Forest entered into the Stockholders Agreement.

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On January 17, 2023, GEG exercised the Put Option and sold the Investment in Forest for approximately $26.5 million in cash.

On January 3, 2023, GEG’s wholly-owned subsidiary, Great Elm DME Holdings, Inc., along with the minority owners of Great Elm Healthcare, LLC ( HC LLC ), entered into a purchase agreement with QHM Holdings, Inc., a subsidiary of Quipt Home Medical Corp ( Quipt ), to sell 100% of the outstanding membership interests in HC LLC to Quipt (the Sale of HC LLC ) for $80.0 million, consisting of approximately $72.8 million in cash, $5.2 million of indebtedness assumed by Quipt and $2.0 million in shares of Quipt common stock based on the 20-day volume-weighted average price of Quipt’s common stock for the period ending on and including the second business day prior to the closing of the transaction.

After transaction costs of $2.5 million, distributions to non-controlling interests of $5.9 million, and indemnity escrow payment of $0.4 million, cash proceeds to GEG and its subsidiaries were $64.1 million, pending finalization of working capital adjustments.

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Contemporaneously with the land purchases, MBTS entered into commercial lease agreements, as a lessor, in respect to the land parcels and build-to-suit improvements to be constructed thereon.

The leases will commence upon substantial completion of the build-to-suit development, which is expected not later than the first calendar quarter of 2024.

The leases will commence upon substantial completion of the build-to-suit development.

GEG intends to sell the land and improvements with the attached leases at or close to the respective lease commencement date.

During the year ended June 30, 2023, GEG capitalized costs of $1.7 million attributed to the cost of land and development and construction costs directly identifiable with the two real estate projects.

During the year ended June 30, 2024, GEG capitalized development costs of $8.5 million attributed to the cost of land and development and construction costs directly identifiable with the two real estate projects.

Critical Accounting Policies and Estimates

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Actual results could be different from these estimates.

Previously reported assets and liabilities related to our DME business, primarily consisting of HC LLC and its subsidiaries, have been reclassified as assets and liabilities held for sale on the Company's consolidated balance sheet as of June 30, 2022.

In addition, the historical results of the DME business and related activity have been presented in the accompanying consolidated statements of operations for the years ended June 30, 2023 and 2022 as discontinued operations.

See Note 4 - Assets and Liabilities Held for Sale and Discontinued Operations in the accompanying Notes to the Consolidated Financial Statements.

The historical results of the DME business and related activity have been presented in the accompanying consolidated statements of operations for the years ended June 30, 2024 and June 30, 2023 as discontinued operations.

See Note 16 - Discontinued Operations in the accompanying Notes to the Consolidated Financial Statements.

Following presentation of our DME business as discontinued operations, the Company views its operations and manages its business as one operating segment focused on growing a scalable and diversified portfolio of long-duration and permanent capital vehicles across credit, real estate, specialty finance, and other alternative strategies.

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Determining whether the acquired set represents an asset acquisition or a business combination requires quantitative and qualitative assessments subject to judgment.

The fair values assigned to tangible and intangible assets acquired and liabilities assumed are based on management’s estimates and assumptions, as well as other information compiled by management, including projected financial information, effective income tax rates, present value discount factors, and long-term growth expectations.

The Company utilizes third-party specialists to assist management with the identification and valuation of intangible assets using customary valuation procedures and techniques.

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The Company recognizes revenue at amounts that reflect the consideration to which it expects to be entitled in exchange for providing services to its customers under agreements with each investment product, which may be terminated at any time by either party subject to the specific terms of each respective agreement.

Our revenues primarily consist of fees based on a percentage of assets under management, fees based on rents collected, fees based on the performance of managed assets, and administration and service fees.

Our revenues primarily consist of proceeds from the sale of build-to-suit properties and fees from managed investment products.

Fees from managed investment products include fees based on a percentage of assets under management, fees based on rents collected, fees based on the performance of managed assets, and administration and service fees.

Income taxes are accounted for under the asset and liability method.

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The Company has established a valuation allowance for its deferred tax assets that are not recoverable from taxable temporary differences because the Company is unable to conclude that future utilization of a portion of its net operating loss carryforwards and other deferred tax assets is more likely than not.

The calculation of the Company’s tax positions involves dealing with uncertainties in the application of complex tax regulations for federal and several different state tax jurisdictions.

The Company is periodically reviewed by tax authorities regarding the amount of taxes due.

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Percent Change

Cost of Revenues

Operating costs and expenses:

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Non-cash compensation

Transaction costs

Other selling, general and administrative

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Revenues for the year ended June 30, 2024 increased $9.2 million, as compared to the prior year.

The increase of $2.7 million is attributed to the Monomoy UpREIT investment management agreement acquired in May 2022, and the increase of $1.0 million is attributed to the incentive fees due from GECC.

Of the $9.2 million increase, $6.6 million is related to MBTS's June 2024 asset sale, which is offset by $5.5 million of cost of revenues related to the sale.

The remaining $2.6 million expansion is primarily driven by increases in management and incentive fees from GECC as a result of increases in assets under management.

Operating Costs and Expenses

Operating costs and expenses for the year ended June 30, 2024 increased $0.3 million, as compared to the prior year.

Investment management expenses increased $4.2 million, which was mainly attributable to costs associated with servicing the recently acquired Monomoy UpREIT investment management agreement.

Other selling, general and administrative expenses increased $1.5 million, which was mainly attributed to legal, consulting and other professional fees.

Depreciation and amortization increased $0.6 million, primarily due to amortization expense recorded in respect to the intangible assets identified upon acquisition of the Monomoy UpREIT investment management agreement.

Investment management expenses increased $0.8 million, which was mainly attributable to costs associated with business operations due to our company now functioning primarily as an investment management company.

Other selling, general and administrative expenses decreased $0.6 million, which was mainly attributed to a decrease in our strategic initiative costs and other professional and operating fees due to our transition from a primarily durable medical equipment business to an asset management firm.

Other Expenses and Income

Interest expense for the year ended June 30, 2023 increased by $0.5 million, compared to the prior year, primarily due to interest on the 7.25% notes due in 2027 issued in June 2022 (the GEGGL Notes ) and on the $6.3 million promissory note issued to Imperial Capital Asset Management, LLC ( ICAM) in May 2022 (the Seller Note ) (fully repaid in February 2023), which was partially offset by decrease in interest expense attributed to the 35,010 shares of preferred stock issued by Forest to JPM on December 29, 2020 (the Forest Preferred Stock ) following the Sale of Controlling Interest in Forest on December 30, 2022.

Interest expense for the year ended June 30, 2024 decreased by $1.7 million, compared to the prior year, primarily due to the decrease in interest expense attributed to the 35,010 shares of preferred stock issued by Forest to JPM on December 29, 2020 (the Forest Preferred Stock ) following the Sale of Controlling Interest in Forest on December 30, 2022.

During the year ended June 30, 2024, the Company recognized $11.3 million of other income (net), comprised of dividends and interest income of $8.1 million and net realized and unrealized gain on investments of $2.2 million, partially.

During the year ended June 30, 2023, the Company recognized $32.0 million of other income (net), comprised of gain on Sale of Controlling Interest in Forest of $10.5 million, gain on the Investment in Forest of $24.4 million, and dividends and interest income of $6.2 million, partially offset by net realized and unrealized loss on investments (excluding the Investment in Forest) of $9.2 million.

During the year ended June 30, 2022, the Company recognized $4.9 million of other expense (net), mainly attributed to net realized and unrealized loss on investments of $7.6 million and net realized and unrealized loss on investments of our consolidated fund, Great Elm SPAC Opportunity Fund, LLC ( GESOF ), of $0.5 million, partially offset by dividends and interest income of $3.2 million.

The Company recognized an income tax expense from continuing operations of $0.1 million and $0.2 million for the years ended June 30, 2024 and 2023, respectively.

This expense consisted solely of state and local taxes.

No federal income taxes were incurred for the years ended June 30, 2023 and 2022.

As of June 30, 2022, the Company had NOL carryforwards for federal income tax purposes of approximately $821 million.

Following the Sale of Controlling Interest in Forest, Forest ceased being part of our consolidated tax group and NOL carryforwards attributed to the entity became unavailable for the Company's use going forward.

This expense consisted of federal and state and local taxes for the year ended June 30, 2024.

No federal income taxes were incurred for the year ended June 30, 2023.

As of June 30, 2024, we had $8.9 million of net operating loss carryforwards for federal income tax purposes, of which approximately $3.4 million will expire in fiscal years 2025 through 2037 and $5.5 million can be carried forward indefinitely.

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In the fourth quarter of fiscal 2023, we recorded a loss of $0.3 million following finalization of working capital adjustments to the initial sales price for HC LLC, with the respective payment made to Quipt in September 2023.

There was minimal operating activity related to discontinued operations during the year ended June 30, 2024.

Liquidity and Capital Resources

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Long-term liabilities

As of June 30, 2022, our current assets, current liabilities and long-term liabilities contained $8.5 million, $15.0 million and $2.6 million of current assets held for sale, current liabilities held for sale and non-current liabilities held for sale, respectively, attributed to the DME business.

For the twelve months ended June 30,

(in thousands)

Net cash (used in) provided by operating activities - continuing operations

Net cash provided by operating activities - discontinued operations

Net cash (used in) provided by operating activities

Net cash provided by (used in) operating activities - continuing operations

Net cash provided by (used in) operating activities - discontinued operations

Net cash provided by (used in) operating activities

Net cash provided by (used in) investing activities - continuing operations

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Net cash provided by (used in) investing activities

Net cash (used in) provided by financing activities - continuing operations

Net cash used in financing activities - discontinued operations

Net cash (used in) provided by financing activities

Net cash provided by (used in) financing activities - continuing operations

Net cash provided by (used in) financing activities - discontinued operations

Net cash provided by (used in) financing activities

Net increase (decrease) in cash and cash equivalents, including cash and cash equivalents classified within current assets held for sale

1 unchanged sentence

cash received from discontinued operations

Net increase in cash and cash equivalents

Net change in cash and cash equivalents

As of June 30, 2024, we had an unrestricted cash balance of $48.1 million, short-term investments in marketable securities of $9.9 million and investments with a fair value of $44.6 million, including 1,518,162 shares of GECC common stock with an estimated fair value of $16.2 million.

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If we are unsuccessful at raising additional capital resources, through either debt or equity, it is unlikely we will be able execute our strategic growth plan.

See “Item 1A.

Risk Factors.”

See “Item 1A.

Risk Factors.”

Cash flows used in operating activities of our continuing operations for the year ended June 30, 2024 were $15.6 million.

The adjustments to reconcile our net loss from continuing operations of $0.9 million to net cash used in operating activities included add-backs for net proceeds from sale of real estate of $6.2 million and for various non-cash charges, such as $2.4 million of stock-based compensation expense, $2.4 million of non-cash interest and amortization of capitalized issuance costs, and $1.1 million of depreciation and amortization, which was partially offset by a $0.5 million of change in fair value of contingent consideration payable to ICAM, $2.3 million of realized gain on redemption of Convertible Notes, $12.0 million of purchases of investments and the net negative change in our operating assets and liabilities of $11.2 million.

Cash flows used in operating activities of our continuing operations for the year ended June 30, 2023 were $3.1 million.

The adjustments to reconcile our net income from continuing operations of $14.5 million to net cash used in operating activities included add-backs for various non-cash charges, such as $2.6 million of stock-based compensation expense, $2.3 million of non-cash interest and amortization of capitalized issuance costs, $1.2 million of depreciation and amortization, and $0.8 million of change in fair value of contingent consideration payable to ICAM, which was partially offset by deduction of $10.9 million of unrealized gain on our investments, $4.3 million of realized gain on our investments, $10.5 million of gain on Sale of Controlling Interest in Forest in December 2022, and the net negative change in our operating assets and liabilities of $0.7 million.

1 unchanged sentence

Cash flows provided by operating activities of our discontinued operations for the year ended June 30, 2023 were $0.8 million.

Cash flows provided by operating activities of our continuing operations for the year ended June 30, 2022 were $17.1 million.

The net cash inflow was primarily the result of net sales of investments by GESOF of approximately $23.2 million, and non-cash adjustments of $8.2 million in realized loss on investments, $2.8 million in stock-based compensation, $2.0 million in non-cash interest and amortization of capitalized issuance costs, $0.5 million in depreciation and amortization, and $0.5 million in net realized and unrealized loss on investments of GESOF, partially offset by our net loss from continuing operations of $19.3 million and $0.4 million of stock dividends.

The cash flows provided by operating activities of our discontinued operations for the same period were $12.2 million.

Cash flows provided by investing activities of our continuing operations for the year ended June 30, 2024 were $3.2 million which is attributed to the proceeds from settlement of held-to-maturity securities of $65.1 million and sales of investments of $6.8 million, partially offset by purchases of investments of $19.6 million and purchases of investments in held-to-maturity securities of $49.0 million.

Cash flows used in investing activities of our discontinued operations for the year ended June 30, 2024 of $0.9 million were attributed to investing activities of our DME business.

Cash flows provided by investing activities of our continuing operations for the year ended June 30, 2023 were $16.7 million which is attributed to the combined proceeds from sale of Forest, net of cash sold, of $44.3 million, partially offset by purchases of investments of $3.1 million and purchases of investments in marketable securities of $24.4 million.

Cash flows provided by investing activities of our discontinued operations for the year ended June 30, 2023 of $67.2 million were primarily attributed to the cash proceeds from the Sale of HC LLC, net of cash sold and before transaction costs and distributions to non-controlling interests, of $71.3 million, partially offset by other investing activities of our DME business.

Cash flows used in investing activities of our continuing operations for the year ended June 30, 2022 were $33.3 million, primarily consisting of $15.0 million in net purchases of interests in Monomoy UpREIT and $17.5 million for participation in the GECC rights offering.

Cash flows used in investing activities of our discontinued operations for the year ended June 30, 2022 were $6.8 million, mainly attributed to capital expenditures related to purchases of equipment held for rental.

Cash flows provided by financing activities of our continuing operations for the year ended June 30, 2024 were $2.8 million, which is attributed to contributions of non-controlling interests in our Consolidated Funds, offset by a redemption of the Convertible Notes and share repurchase.

Cash flows used in financing activities of our continuing operations for the year ended June 30, 2023 were $42.4 million, which consisted of principal payments of $38.1 million on the promissory note issued to Forest on December 29, 2022 and fully repaid by January 3, 2023, and principal payments of $3.7 million on the Seller Note, as well as distributions to non-controlling interests in GESOF of $0.6 million.

Cash flows used in financing activities of our discontinued operations for the year ended June 30, 2023 of $5.2 million were primarily attributed to distributions to non-controlling interests upon Sale of HC LLC of $5.9 million.

Cash flows provided by financing activities of our continuing operations for the year ended June 30, 2022 were $10.2 million, primarily attributed to $26.9 million in proceeds from the issuance of the GEGGL Notes, partially offset by payments to the broker of GESOF of $11.4 million and distributions to non-controlling interests in GESOF of $3.9 million, while cash flows used in financing activities of our discontinued operations for the same period were $0.2 million.

We believe we have sufficient liquidity available to meet our short-term and long-term obligations for at least the next 12 months.

We believe we have sufficient liquidity available to meet our short-term and long-term obligations for at least the next 12 months and the foreseeable future thereafter.

As of June 30, 2024, the Company had $26.9 million in outstanding aggregate principal of the GEGGL Notes.

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In addition, if our net consolidated debt to equity ratio is greater than 2 to 1 at the end of any calendar quarter, we must retain no less than 10% of our excess cash flow as cash and cash equivalents until such time as our net consolidated debt to equity ratio is less than 2 to 1 at the end of a calendar quarter.

As of June 30, 2023, the Company had $37.9 million principal balance in outstanding convertible notes (including cumulative interest paid in-kind) held by a consortium of investors, including related parties, that accrue interest at 5.0% per annum, payable semiannually in arrears on June 30 and December 31, in cash or in-kind at the option of the Company (the Convertible Notes ).

As of June 30, 2024, the Company had $35.5 million principal balance in outstanding Convertible Notes (including cumulative interest paid in-kind) held by a consortium of investors, including related parties, that accrue interest at 5.0% per annum, payable semiannually in arrears on June 30 and December 31, in cash or in-kind at the option of the Company.

The Convertible Notes are due on February 26, 2030, but are convertible at the option of the holders, subject to the terms therein, prior to maturity into shares of our common stock.

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The information required by this Item appears beginning on page F-1 of this Annual Report on Form 10-K and is incorporated in this Item 8 by reference.

Under Rule 3-09 of Regulation S-X, the audited financial statements of GECC for the years ended December 31, 2022 and 2021, included in GECC’s annual report on Form 10-K (File No.

814-01211), filed with the SEC on March 2, 2023 are incorporated herein by reference.

We include the financial statements of GECC because our investment in GECC met the test of significance under Rule 3-09 in Regulation S-X.

The management of GECC is responsible for the form and content of GECC’s financial statements.

Certain officers and directors of GECC are also officers and directors of GEG.

Drapkin is a director of our Board and also the Chairman of GECC's Board of Directors, Adam M.

Kleinman is our President as well as the Chief Compliance Officer of GECC, and Keri A.

Davis is our Chief Financial Officer as well as the Chief Financial Officer of GECC.

Changes in and Disagreements With Accou ntants on Accounting and Financial Disclosure.

1 unchanged sentence

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis