Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with our consolidated financial statements and the notes thereto, included in “Item 15. Exhibits and Financial Statement Schedules” of this Report. Our accounting policies have the potential to significantly impact our financial statements, either because of the significance of the financial statement item to which they relate, or because they require judgment and estimation due to the uncertainty involved in measuring, at a specific point in time, events that are continuous in nature.
Business Overview, Recent Developments and Outlook
Please see “Item 1. Business” of this Report for an overview of our business and recent developments. Please see “Item 1A. Risk Factors” of this Report for a discussion of the risk factors that may impact our current and future operations, and financial condition.
Liquidity and Capital Resources
Liquidity
At December 31, 2025, we had working capital of $18.1 million, as compared to working capital of $18.5 million at December 31, 2024, a decrease of $0.4 million.
Our current assets increased to $33.6 million at December 31, 2025 compared to $33.1 million at December 31, 2024. The change in our current assets of $0.5 million is primarily due to an increase in the current portion of notes receivable of $1.1 million, inventory of $0.6 million and accounts receivable of $0.3 million, offset by decreases in cash and cash equivalents of $1.2 million and other current assets of $0.3 million.
Our current liabilities increased to $15.5 million at December 31, 2025 as compared to $14.6 million at December 31, 2024. The increase of $0.9 million is primarily due to an increase in accounts payable and accrued liabilities of $1.1 million and other current liabilities of $0.4 million, offset by decreases in the current portion of third party debt of $0.4 million and payables to sellers of $0.1 million.
We believe we can fund our operations and our debt service obligations during 2025 and beyond through a combination of cash flows from our on-going operations and accessing financing from our existing line of credit.
Our indebtedness consists of a promissory note, a business loan agreement and commercial security agreement (collectively, the “Mortgage Loan Agreement”) with C3bank, National Association (the “Lender”), that provides for a $4.1 million term loan (the “Mortgage”) and any amounts borrowed under the promissory note, business loan agreement, commercial security agreement and pledge agreement (the “2021 Credit Facility”) with the Lender, for a $10.0 million revolving line of credit.
On February 6, 2025 we entered into the Mortgage Loan Agreement with the Lender. The Mortgage Loan Agreement provides for the Mortgage that we used to purchase real property and the building located at 6130 Nancy Ridge Drive in San Diego, California on February 11, 2025 for $7.4 million. This property is used as the Company’s corporate headquarters and as warehouse and office space for the operations of Heritage Global Partners, Inc., our subsidiary that operates our Auction and Liquidation segment. As of December 31, 2025, we had an outstanding balance of $4.1 million on the Mortgage.
On December 27, 2024, the Company entered into a Loan Modification Agreement and Reaffirmation of Loan (the “Fifth Modification Agreement”), by and between the Company and the Lender. The Fifth Modification Agreement modified and reaffirmed the 2021 Credit Facility to, among other things, extend the maturity date to June 27, 2026, modify the applicable interest rate, and further modify the loan covenants. We are permitted to use the proceeds of the 2021 Credit Facility solely for our business operations. As of December 31, 2025, we had no outstanding balance on the 2021 Credit Facility.
The Company also had indebtedness that consisted of a promissory note dated August 23, 2021 (the “ALT Note”) issued in the amount of $2.0 million as part of the aggregate purchase price paid to acquire certain assets and liabilities of American Laboratory Trading. The Company repaid the ALT Note in full in August, 2025. As of December 31, 2025, we had no outstanding balance on the ALT Note.
During 2025, our primary source of cash was cash on hand, cash provided by operating activities, principal repayments on notes receivable of $6.5 million, and proceeds from the Mortgage of $4.1 million. Cash disbursements during the year ended December 31, 2025 consisted primarily of investment in our new San Diego facility for $8.5 million, investments in notes receivable of $5.9 million, and repurchases of our common stock of $2.6 million.
We expect that future net cash flows from our operating activities will continue to be the primary source of cash required to fund our ongoing operations for the foreseeable future.
16
Ownership Structure and Capital Resources
At December 31, 2025 and 2024, we had stockholders’ equity of $67.0 million and $65.2 million, respectively.
We determine our future capital and operating requirements based upon our current and projected operating performance and contractual commitments. We expect to be able to finance our future operations through a combination of working capital, future net cash flows from operating activities, and our 2021 Credit Facility. Our contractual requirements are limited to the outstanding debt and lease commitments with related and unrelated parties. Capital requirements are generally limited to our purchases of surplus and distressed assets and our investment activity under our Specialty Lending segment. We believe that our current capital resources, including available borrowing capacity from our 2021 Credit Facility, are sufficient for these requirements. In the event additional capital is needed, we believe we can obtain additional debt financing through capital partners.
Cash Position and Cash Flows
Cash and cash equivalents at December 31, 2025 were $20.5 million compared to $21.7 million at December 31, 2024.
Cash flows from operating activities. Cash provided by operating activities was $6.1 million during 2025 as compared to $7.7 million during 2024. The approximate $1.6 million decrease was primarily attributable to a decrease of $0.6 million in net income adjusted for noncash items during 2025 as compared to 2024 and a decrease in operating assets and liabilities of $1.0 million during 2025 as compared to 2024.
The significant changes in operating assets and liabilities during 2025 as compared to 2024 are primarily due to the nature of our operations. We earn revenue from discrete auction and liquidation deals that vary considerably with respect to their magnitude and timing, and that can consist of fees, commissions, asset sale proceeds, or a combination of all. The operating assets and liabilities associated with such transactions are therefore subject to the same variability and can be different at the end of any given period.
Cash flows from investing activities. Cash used in investing activities during 2025 was $9.4 million, as compared to cash provided by investing activities of $10.9 million during 2024.
Cash used in investing activities consisting primarily of purchase of property and equipment of $8.5 million, investments in notes receivable of $5.9 million, investments in equity method investments of $1.6 million and investments in participating interest of $1.6 million. Cash used in investing activities during 2025 was offset by cash provided by payments received on notes receivable of $6.5 million as well as return of investment and cash distributions received from equity method investments of $1.5 million.
Cash provided by investing activities during 2024 consisted primarily of payments received on notes receivable of $11.0 million as well as return of investment and cash distributions received from equity method investments of $6.0 million. Cash provided by investing activities during 2024 was offset by cash used in investing activities consisting primarily of investments in notes receivable of $5.7 million and equity method investments of $0.3 million.
Cash flows from financing activities. Cash provided by financing activities was $2.0 million during 2025, as compared to cash used in financing activities of $9.1 million during 2024.
Cash provided by financing activities in 2025 was primarily attributable to $4.1 million in proceeds from our Mortgage (as discussed further under Note 11 – Debt) and $1.1 million in proceeds from secured borrowing related to the machinery and equipment lessor arrangement (as discussed further under Note 5 - Lessor Arrangements), offset by cash used in financing activities of $0.4 million in repayments to our ALT Note and approximately $2.6 million in repurchases of our common stock under our Repurchase Program.
Cash used in financing activities in 2024 was primarily attributable to $6.3 million in repayments to our Term Loan (as discussed further under Note 11 – Debt), $0.5 million in repayments to our ALT Note, as well as repurchase of our common stock under our Repurchase Program of approximately $2.2 million.
17
Management’s Discussion of Results of Operations
The following table summarizes our consolidated results of operations (in thousands):
Year Ended December 31,
2025
2024
Revenues:
Services revenue
$
33,281
$
32,607
Asset sales
17,697
12,754
Total revenues
50,978
45,361
Operating costs and expenses:
Cost of services revenue
7,953
5,805
Cost of asset sales
11,993
8,321
Selling, general and administrative
24,972
24,266
Depreciation and amortization
472
591
Total operating costs and expenses
45,390
38,983
Earnings of equity method investments
123
2,688
Operating income
5,711
9,066
Interest income (expense), net
134
(93
)
Income before income tax expense
5,845
8,973
Income tax expense
2,258
3,791
Net income
$
3,587
$
5,182
Our revenue has several components: (1) traditional fee based asset disposition services, such as commissions from on-line and webcast auctions, liquidations and negotiated sales, and commissions from the NLEX charged-off receivables business, (2) the acquisition and subsequent disposition of distressed and surplus assets, including industrial machinery and equipment and real estate, and (3) fees and interest earned for appraisal, management advisory services and specialty lending services.
We report segment information based on the “management” approach. The management approach designates the internal reporting used by the Chief Operating Decision Maker (CODM), which we determined to be Ross Dove, CEO, for making decisions and assessing performance as the source of our reportable segments. We manage our business primarily on differentiated revenue streams for services offered. Our reportable segments consist of the Auction and Liquidation segment, Refurbishment & Resale segment, Brokerage segment, and Specialty Lending segment. Our Auction and Liquidation segment, through HGP, operates as a global full-service auction, appraisal and asset advisory firm, including the acquisition of turnkey manufacturing facilities and used industrial machinery and equipment. Our Refurbishment & Resale segment, through ALT, acquires, refurbishes and supplies specialized laboratory equipment. Our Brokerage segment, through NLEX, brokers charged-off receivables in the U.S. and Canada on behalf of financial institutions. Our Specialty Lending segment, through HGC, provides specialty financing solutions to investors in charged-off and nonperforming asset portfolios.
Our CODM evaluates the performance of our reportable segments based primarily on gross profit and operating income. The CODM routinely receives internal reports that analyze these metrics for the reporting segments. The CODM is not routinely provided detailed information regarding significant operating expenses by segment, and such information is not considered critical for allocating resources or assessing the performance of each segment. Our operating expenses are comprised mainly of fixed and variable compensation, marketing, outside services such as audit, legal and information technology, occupancy, and other regulatory costs incurred as a public entity. Additionally, earnings from equity method investments related to significant transactions involving real estate, machinery and equipment in the Company's Auction and Liquidation segment and Joint Venture lending activity related to the Company's Specialty Lending segment are significant in the computation of segment operating income and reported separately as shown in the table below.
Notwithstanding the foregoing, the reported segment operating income for ALT and HGC represents incremental costs for managing these segments as part of their sister segments (HGP for ALT and NLEX for HGC). As such, the reported operating income for ALT and HGC does not represent their true standalone contribution, as we do not attempt to allocate existing fixed divisional overhead costs of the sister divisions to the newer segments. Similarly, corporate overhead cost is not allocated to the operating divisions for management reporting purposes. Further, we do not utilize segmented asset information to evaluate the performance of our reportable segments and do not include intercompany transfers between segments for management reporting purposes.
18
The following table sets forth certain financial information for the Company's reportable segments (in thousands):
Year Ended December 31, 2025
Auction and Liquidation
Refurbishment & Resale
Brokerage
Specialty Lending
Corporate and other
Consolidated
Gross profit [1]
$
10,941
$
5,827
$
12,844
$
1,355
$
65
$
31,032
Operating expenses [2]
(8,336
)
(4,168
)
(6,728
)
(1,182
)
(5,030
)
$
(25,444
)
Earnings from equity method investments
66
—
—
57
—
123
Operating income (loss)
$
2,671
$
1,659
$
6,116
$
230
$
(4,965
)
$
5,711
Year Ended December 31, 2024
Auction and Liquidation
Refurbishment & Resale
Brokerage
Specialty Lending
Corporate and other
Consolidated
Gross profit [1]
$
10,560
$
4,103
$
14,069
$
2,503
$
—
$
31,235
Operating expenses [2]
(7,911
)
(3,655
)
(6,717
)
(1,800
)
(4,774
)
(24,857
)
Earnings from equity method investments
1,391
—
—
1,297
—
2,688
Operating income (loss)
$
4,040
$
448
$
7,352
$
2,000
$
(4,774
)
$
9,066
[1] Within the Company’s Industrial Asset division, management allocates gross profit from certain auctions from the Auction and Liquidation segment (HGP) to the Refurbishment & Resale segment (ALT). From time to time, ALT may source and refer an auction project to HGP or directly sell equipment inventory through the auction channel. In these instances, the gross profit related to these transactions are allocated to ALT rather than accounted for under the segment profit or loss of HGP. In 2025, the total amount of gross profit allocated to ALT from HGP was approximately $1.8 million, as compared to the total amount of gross profit allocated to ALT from HGP in 2024 of approximately $1.3 million.
[2] All financing arrangements are originated with Corporate and other. Management may determine from time to time that interest incurred from financing arrangements are directly attributable to a specific segment. As a result, interest incurred may be charged to the segment and included in that segment’s profit or loss as a charge to operating expense. In 2025, no interest was allocated to the Specialty Lending segment (HGC) from Corporate and other, as compared to the total amount of interest allocated to HGC from Corporate and other in 2024 of approximately $0.3 million.
2025 Compared to 2024
Revenues and cost of revenues – Revenues were $51.0 million in 2025 as compared to $45.4 million in 2024 and costs of services revenue and asset sales were $19.9 million in 2025 compared to $14.1 million in 2024. This resulted in gross profit of $31.0 million in 2025 compared to $31.2 million in 2024, a decrease of approximately $0.2 million or approximately 1%. Although gross profit was relatively consistent year over year, we experienced a product mix shift in 2025 from financial assets to industrial assets. In 2025, we saw an increase in gross profit related to our Auction and Liquidation segment of approximately $0.4 million and an increase in gross profit related to our Refurbishment and Resale segment of approximately $1.7 million, offset by a decrease in gross profit in both our Brokerage and Specialty Lending segments of approximately $1.2 million. The product mix results in a lower gross margin overall due to the nature of our business and higher cost of revenues associated with the Industrial Asset Division.
Selling, general and administrative expense – Selling, general and administrative expense was $25.0 million in 2025 as compared to $24.3 million in 2024, an increase of $0.7 million or approximately 3%, which included legal and professional fees associated with due diligence efforts of approximately $0.4 million.
19
Significant components of selling, general and administrative expense were as shown below (dollars in thousands):
Year Ended December 31,
2025
2024
% change
Compensation:
Auction and Liquidation
$
5,999
$
5,714
5
%
Refurbishment & Resale
2,869
2,413
19
%
Brokerage
5,074
5,185
(2
)%
Specialty Lending
1,045
1,483
(30
)%
Corporate & other
2,241
2,228
1
%
Stock-based compensation
900
1,253
(28
)%
Board of Directors fees
490
401
22
%
Accounting, tax and legal professional fees
1,498
1,463
2
%
Insurance
603
590
2
%
Occupancy
1,382
1,263
9
%
Travel and entertainment
583
603
(3
)%
Advertising and promotion
695
611
14
%
Information technology support
745
607
23
%
(Recovery) provision for credit losses
(20
)
(267
)
(93
)%
Other
868
719
21
%
Total selling, general and administrative expense
$
24,972
24,266
3
%
Reclassifications – Certain prior year balances within schedule of selling, general and administrative expense above have been reclassified to conform to current year presentation.
Depreciation and amortization expense – Depreciation and amortization expense in 2025 was $0.5 million, as compared to $0.6 million in 2024. Depreciation and amortization expense in both years consisted primarily of amortization expense related to intangible assets, while the depreciation of property, plant and equipment was not material.
Earnings in Equity Method Investments – Earnings in equity method investments were $0.1 million in 2025 compared to $2.7 million in 2024. The $2.6 million decrease is primarily due to our $1.3 million share of earnings from the KNFH II LLC joint venture recorded in the second quarter of 2024 and a $1.3 million decrease in earnings due to the implementation of the modified cost recovery method in our Specialty Lending segment for loans placed in nonaccrual status in June of 2024.
Off-Balance Sheet Arrangements – We had no off-balance sheet arrangements during the years ended December 31, 2025 and 2024.
Key Performance Indicators
We monitor a number of financial and non-financial measures on a regular basis in order to track our underlying operational performance and trends. Other than operating income (a GAAP financial measure as shown in our consolidated income statements), which we believe is the most important measure of our operational performance and trends, we believe that EBITDA and Adjusted EBITDA (non-GAAP financial measures) are key performance indicators (“KPIs”) for our business. These KPIs may not be defined or calculated in the same way as similar KPIs used by other companies.
We prepared our audited consolidated financial statements in accordance with GAAP. We define EBITDA as net income plus depreciation and amortization, interest expense, and provision for income taxes. Adjusted EBITDA reflects EBITDA adjusted further to eliminate the effects of stock-based compensation. Management uses EBITDA and Adjusted EBITDA in assessing the Company’s results, evaluating the Company’s performance and in reaching operating and strategic decisions. Management believes that the presentation of EBITDA and Adjusted EBITDA, when considered together with our GAAP financial statements and the reconciliation to the most directly comparable GAAP financial measure, is useful in providing investors a more complete understanding of the factors and trends affecting the underlying performance of the Company on a historical and ongoing basis. Our use of EBITDA and Adjusted EBITDA is not meant to be, and should not be, considered in isolation or as a substitute for, or superior to, any GAAP financial measure. You should carefully evaluate the financial information below, which reconciles our GAAP reported net income to EBITDA and Adjusted EBITDA for the periods presented (in thousands).
20
Year Ended December 31,
2025
2024
Net income
$
3,587
$
5,182
Add back:
Depreciation and amortization
472
591
Interest (income) expense, net
(134
)
93
Income tax expense
2,258
3,791
EBITDA
6,183
9,657
Management add back:
Stock based compensation
900
1,253
Adjusted EBITDA
$
7,083
$
10,910
Recently adopted accounting pronouncements
On December 14, 2023, the FASB issued ASU 2023-09, "Income Taxes (Topic 740): Improvements to Income Tax Disclosures" ("ASU 2023-09"), which requires enhanced annual disclosures with respect to the rate reconciliation and income taxes paid information. ASU 2023-09 is effective for fiscal years beginning after December 15, 2024, with adoption permitted on a prospective basis. We adopted this standard for the year ended December 31, 2025 and applied the new disclosure requirements prospectively. See Note 13 Income Taxes in the accompanying notes to the consolidated financial statements for further detail.
Critical Accounting Policies
The preparation of our consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions. Our critical accounting policies requiring estimates, assumptions and judgments that we believe have the most significant impact on our consolidated financial statements are described below.
Revenue recognition
We recognize revenue in accordance with ASC Topic 606, Revenue from Contracts with Customers (“ASC 606”) and ASC Topic 310, Receivables (“ASC 310”).
Services revenue generally consists of commissions and fees from providing auction services, appraisals, brokering of sales transactions, and secured lending. Asset sales revenue generally consists of proceeds obtained through sales of purchased assets. With the exception of revenue generated within our Specialty Lending segment, revenue is recognized for both services revenue and asset sales revenue based on the ASC 606 standard recognition model, which consists of the following: (1) an agreement exists between two or more parties that creates enforceable rights and obligations, (2) the performance obligations are clearly identified, (3) the transaction price has been determined, (4) the transaction price has been properly allocated to each performance obligation, and (5) the entity satisfies a performance obligation by transferring a promised good or service to a customer for each of the entities.
All services and asset sales revenue from contracts with customers consists of three of our reportable segments: Auction and Liquidation, Refurbishment & Resale, and Brokerage segments. Generally, revenue is recognized at the point in time in which the performance obligation has been satisfied and full consideration is received. The exception to recognition at this point in time occurs when certain contracts provide for advance payments recognized over a period of time. Services revenue recognized over a period of time is not material in comparison to total revenues (approximately 1% of total revenues for the year ended December 31, 2025), and therefore not reported on a disaggregated basis. Further, as certain contracts stipulate that the customer make advance payments, amounts not recognized within the reporting period are considered deferred revenue and our “contract liability”. As of December 31, 2025, 2024 and 2023, the deferred revenue balance was approximately $0.9 million, $0.6 million and $0.5 million, respectively, and is recorded within other current liabilities on the consolidated balance sheet. The deferred revenue balance is primarily related to customer deposits on asset sales within our Refurbishment & Resale segment. We record receivables in certain situations based on timing of payments for Auction and Liquidation transactions held at the end of the reporting period; however, revenue is generally recognized in the period that we satisfy the performance obligation and cash is collected. We do not record a “contract asset” for partially satisfied performance obligations.
For auction services and brokerage sale transactions, funds are typically collected from buyers and are held by us on the seller's behalf. The funds are included in cash and cash equivalents in the Consolidated Balance Sheets. We release the funds to the seller, less our commission and other fees due, after the buyer has accepted the goods. The amount of cash held on behalf of the sellers is recorded as payables to sellers in the accompanying Consolidated Balance Sheets.
We evaluate revenue from Auction and Liquidation and Brokerage segment transactions in accordance with the accounting guidance to determine whether to report such revenue on a gross or net basis. We have determined that we act as an agent for our fee based transactions and therefore we report the revenue from transactions in which we act as an agent on a net basis.
21
We also earn income through transactions that involve us acting jointly with one or more additional purchasers or lenders, pursuant to a partnership, joint venture or limited liability company agreement (collectively, “Joint Ventures”). For these transactions, in which our ownership share meets the criteria for the equity method investments under ASC Topic 323, Equity Method and Joint Ventures (“ASC 323”), we do not record revenue or expense. Instead, our proportionate share of the net income (loss) is reported as earnings of equity method investments. In general, the Joint Ventures apply the same revenue recognition and other accounting policies as the Company.
Through our Specialty Lending segment, we provide specialty financing solutions to investors in charged-off and nonperforming asset portfolios. We recognize revenue generated by lending activity in accordance with ASC 310. Fees collected in relation to the issuance of loans includes loan origination fees, interest income, portfolio monitoring fees, and a backend profit share percentage related to the underlying asset portfolio.
The monitoring fees and the backend profit share are considered a separate earnings process as compared to the origination fees and interest income. Monitoring fees are recorded at the agreed upon rate, and at the moment in which payments are made by the borrower. The backend profit share is recognized in accordance with the agreed upon rate at the time in which the amount is realizable and earned. The recognition policy was established due to the uncertainty of timing of the amount of backend profit share that will be realized.
Through our Refurbishment and Resale segment, we offer financing on our standard laboratory equipment sales. We recognize revenue upon shipment of our financed products in accordance with ASC 606. We record a loan receivable for the unpaid balance of the order. A loan amortization table is created upon shipment outlining the principal and interest income portion of each future payment. These loans are classified as held-for-investment and accounted for under the guidelines of ASC 310.
For both the Specialty Lending and Refurbishment and Resale segments, loan origination fees are offset with any direct origination costs and are deferred upon issuance of the loan and amortized over the lives of the related loans, as an adjustment to interest income. The interest method is used to arrive at a periodic interest cost (including amortization) that will represent a level effective rate on the sum of the face amount of the debt and (plus or minus) the unamortized premium or discount and expense at the beginning of each period.
Nonaccrual Loans
We determine a loan to be in a default status when the minimum payment amount has not been received within the grace period of the payment due date. The status of default does not solely trigger nonaccrual loan status. We consider quantitative and qualitative factors when evaluating a loan in default status to determine the likelihood of recovering the outstanding principal balance and contractual interest payments. We also monitor our borrowers’ financial standing and performance on an ongoing basis and regularly update the collection forecasts for the underlying charged off or nonperforming receivable portfolios related to each outstanding loan. If management determines (1) it is not probable that the projected cash flows expected from the borrower’s collection efforts on the underlying charged off or nonperforming receivable portfolio will be sufficient to satisfy all of the outstanding principal balance and contractual interest payments, and (2) it is not probable that the borrower will be able to meet the minimum required principal and interest payments through other operational cash flows, the Company will place the loans on nonaccrual status. If, based on our analysis, we elect to maintain accrual status after initial payment default, the loan will generally be placed on nonaccrual status if principal or interest payments become 90 days past due.
The accrual of interest is generally discontinued when a loan is placed in nonaccrual status. Interest received on such loans is accounted for using the cost-recovery or the cash-basis method, until qualifying for return to accrual. Under the cost-recovery method, interest income is not recognized until the loan balance is reduced to zero. Under the cash-basis method, interest payments received by the creditor are recorded as interest income provided the amount does not exceed the amount that would have been earned at the loan’s original effective interest rate. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current, there is a sustained period of repayment performance, and all remaining principal and interest payments are deemed probable.
22
Pursuant to the terms of existing credit agreements, our largest borrower was required to collect on underlying charged off and nonperforming consumer loan portfolios and remit a required minimum monthly payment to the Company. However, this borrower became unable to make the required minimum monthly payments beginning in June 2024 and therefore is in default. This borrower continues to collect on the underlying charged off and nonperforming consumer loan portfolios and remit net collections to the Company and senior lenders. We have determined (1) it is not probable that the projected cash flows expected from the borrower’s collection efforts on the underlying charged off or nonperforming receivable portfolio will be sufficient to satisfy all of the outstanding principal balance and contractual interest payments, and (2) it is not probable that the borrower will be able to meet the minimum required principal and interest payments through other operational cash flows. While we continue to work closely with the borrower and its senior lenders in an effort to mitigate the default in an efficient and effective manner, the impacted loans were placed in nonaccrual status in June 2024. In addition, there was a balance of $1.5 million from our share of other loans within our affiliated joint ventures that are impacted by the default with this borrower and were placed in nonaccrual status in June 2024. Our share of payments received from the nonaccrual loans, including interest, will be applied against the outstanding loan balance. As of December 31, 2025, the amortized cost basis of loans in nonaccrual status was $23.9 million, of which $4.9 million is recorded within notes receivable and $19.0 million is recorded within equity method investments.
In coordination with our senior lenders, we are actively engaged in a workout process with respect to loans currently in nonaccrual status, with the objective of maximizing recoveries over the remaining economic life of the underlying collateral. Our recovery strategy is centered on the monetization of the charged-off and nonperforming consumer receivable portfolios securing these loans and is expected to occur over multiple years. The primary component of the workout strategy involves transitioning a greater portion of the underlying consumer accounts into legal collection channels. During the fourth quarter of 2025, we reached a restructuring agreement with the senior lender for HGC MPG Funding LLC. As a result of this restructuring agreement and our regular quarterly portfolio analysis, we have determined it appropriate to place all loans associated with our joint ventures with senior lenders in nonaccrual status given the senior lender’s priority position in cash flows generated from the underlying portfolios. As of December 31, 2025, additional loan balances placed in nonaccrual status was approximately $1.7 million.
Notes receivable, net
Our notes receivable balance consists of loans to buyers of charged-off receivable portfolios, which is considered the only loan category or segment to be reported under the applicable accounting guidance. These loans are measured at historical costs and reported at their outstanding principal balances net of any unamortized deferred fees and costs on originated loans and allowance for credit losses. Loan origination fees and certain direct origination costs are deferred and recognized as adjustments to interest income over the lives of the related loans.
The Company evaluates notes receivable as a single pool, for individual notes receivable and borrowers with similar risk characteristics. Notes receivable and borrowers that do not share risk characteristics are evaluated on an individual basis. Management evaluates the Company's notes receivables related to financing laboratory equipment sales within the notes receivable pool. Management estimates the reserve balance using relevant available information from internal and external sources relating to past events, current conditions and reasonable and supportable forecasts. Historical credit loss experience typically provides the basis for an estimation of expected credit losses; however, the Company lacks sufficient data upon which to base a historical estimation. Additionally, since the Company began recording notes receivable on the condensed consolidated balance sheets, the Company has recorded no actual credit losses to notes receivable.
Lacking historical internal data upon which to base a reserve for credit losses to notes receivable, the Company estimates its reserve using external credit loss experience data. Management observes that the Company's notes receivable are similar in character to transactions undertaken by smaller banking institutions. The Company estimates its expected credit losses based on the Scaled Current Expected Credit Loss (CECL) Allowance Loss Estimator ("SCALE rate") available from the Federal Reserve. The SCALE rate methodology is endorsed by the FASB and the Conference of State Bank Supervisors. Management determined that the SCALE rate, a generally applicable rate, may be appropriately adjusted by its assessment of observable facts and relevant circumstances indicating that the factors analyzed in the determination of the SCALE rate may not conform to the Company's operations and borrower assessments.
As of December 31, 2025, the SCALE rate increased to 1.3767% from 1.3644% as of December 31, 2024, and the Company's credit loss allowance rate specific to notes receivable was 3.5%. The increase over the SCALE rate was due to both the above mentioned risks presented by a concentrated balance with a single borrower that is in default and declining collections industry-wide. In order to evaluate the need for an adjustment to the receivable balance related to credit losses, or impairment, the Company performs a review of all outstanding loan receivables on a quarterly basis to determine if any indicators exist that suggest the loan will not be fully recoverable and assess the credit quality of the loan receivables. This review includes monthly and cumulative key performance indicators for each loan and borrower, as well as evaluation of borrower's financial condition. As of December 31, 2025 and December 31, 2024, the allowance for credit losses recorded against our notes receivable balance was $0.3 million and $0.4 million, respectively.
See Note 2 and Note 3 to our consolidated financial statements for further detail.
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Equity Method Investments
As noted above, we conduct a portion of our business through Joint Ventures. Transactions in which our ownership share meets the criteria for the equity method investments under ASC 323 are accounted for using the equity method of accounting whereby our proportionate share of the Joint Venture’s net income (loss) is reported in the consolidated income statement as earnings of equity method investments. At the balance sheet date, our investments in these Joint Ventures are reported in the consolidated balance sheet as equity method investments. We monitor the value of each Joint Ventures’ underlying assets and liabilities, and record a write down of our investments should we conclude that there has been a decline in the value of the net assets. These investments have historically been classified as non-current in our consolidated financial statements due to the uncertainties relating to the timing of resale of the underlying assets as a result of the Joint Venture relationship.
Similar to notes receivable, the loans held by the Joint Ventures are evaluated on a quarterly basis to determine if an adjustment to the allowance for credit losses is needed.
As of December 31, 2025, the SCALE rate increased to 1.3767% from 1.3644% as of December 31, 2024, and the credit loss rate specific to equity method investments was 4.5%. The increase over the SCALE rate was due to both the above mentioned risks presented by a concentrated balance with a single borrower and declining collections industry-wide. As of both December 31, 2025 and December 31, 2024, the allowance for credit losses recorded against our equity method investments balance was $1.0 million.
See Note 2 and Note 4 to our consolidated financial statements for further detail.
Deferred income taxes
We recognize deferred tax assets and liabilities for temporary differences between the tax basis of assets and liabilities and the amounts at which they are carried in the financial statements, based upon the enacted tax rates in effect for the year in which the differences are expected to reverse. We periodically assess the recoverability of our deferred tax assets, which have been generated by a history of net operating and net capital losses, and determine the necessity for a valuation allowance that will reduce deferred tax assets to the amount expected to be realized. We evaluate which portion of the deferred tax assets, if any, will more likely than not be realized by offsetting future taxable income, taking into consideration any limitations that may exist on our use of our net operating and net capital loss carry forwards. In 2024, we increased the valuation allowance by $1.3 million, resulting in a net deferred tax asset balance of approximately $6.0 million. The change to the valuation allowance was primarily due to the application of our nonaccrual loan policy, which resulted in a decrease to our estimates related to the utilization of net operating loss carry forwards in 2025.
As of December 31, 2025, approximately $18.9 million of federal net operating loss carry forwards were unused and expired and we recorded discrete expense (tax effected at 21%) of $0.5 million during 2025, reflecting the difference between our valuation allowance estimate at December 31, 2024 and actual results in 2025. We expect to utilize our remaining net operating loss carry forwards, and as such have removed the valuation allowance against our deferred tax assets. For further discussion of our income taxes, see Note 13 to our consolidated financial statements.
Stock-based compensation
Our stock-based compensation is primarily in the form of options to purchase common shares. The fair value of stock options is calculated using the Black-Scholes option pricing model. The determination of the fair value of our stock options is based on a variety of factors including, but not limited to, the price of our common stock, the expected volatility of the stock price over the expected life of the award and expected exercise behavior. The fair value of the awards is subsequently expensed over the vesting period, net of estimated forfeitures. The provisions of our stock-based compensation plans do not require that we settle any options by transferring cash or other assets, and therefore we classify the option awards as equity. See Note 16 to our consolidated financial statements for further discussion of our stock-based compensation.
Item 7A. Quantitative and Qualitat ive Disclosures about Market Risk.
As a Smaller Reporting Company, we are electing scaled reporting obligations and therefore are not required to provide the information requested by this Item.
Item 8. Financial Statemen ts and Supplementary Data.
Our consolidated financial statements required by this Item are included herein, commencing on page F-1.
Item 9. Changes In and Disagreements with Accou ntants on Accounting and Financial Disclosure.
During the years ended December 31, 2025 and 2024, respectively, we had no disagreements with our auditors and no reportable events.
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