Heritage Global Inc. 10-Q

Item 1 – Financial Statements. HERITAGE GLOBAL INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands of US dollars, except share and per share amounts) September 30, 2020 December 31, 2019 (unaudited) ASSETS Current assets: Cash and cash equivalents $ 5,795 $ 2,728 Accounts receivable 1,956 1,859 Current portion of notes receivable, net 682 1,295 Inventory – equipment 808 104 Other current assets 1,709 784 Total current assets 10,950 6,770 Property and equipment, net 156 221 Non-current portion of notes receivable, net 410 1,366 Equity method investments 3,692 2,516 Right-of-use assets 1,095 1,483 Identifiable intangible assets, net 3,190 3,392 Goodwill 5,585 5,585 Deferred tax assets 1,464 372 Other assets 224 212 Total assets $ 26,766 $ 21,917 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabilities: Accounts payable and accrued liabilities $ 9,462 $ 8,113 Current portion of debt 138 403 Current portion of lease liabilities 462 577 Total current liabilities 10,062 9,093 Non-current portion of debt — 35 Non-current portion of lease liabilities 679 942 Other long-term liabilities 68 — Total liabilities 10,809 10,070 Stockholders’ equity: Preferred stock, $10.00 par value, authorized 10,000,000 shares; issued and outstanding 568 shares of Series N at September 30, 2020 and December 31, 2019 6 6 Common stock, $0.01 par value, authorized 300,000,000 shares; issued and outstanding 29,724,037 shares at September 30, 2020 and 29,339,101 at December 31, 2019 298 293 Additional paid-in capital 285,863 285,099 Accumulated deficit (270,133 ) (273,474 ) Accumulated other comprehensive loss (77 ) (77 ) Total stockholders’ equity 15,957 11,847 Total liabilities and stockholders’ equity $ 26,766 $ 21,917 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 HERITAGE GLOBAL INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (In thousands of US dollars, except share and per share amounts) (unaudited) Three Months Ended September 30, Nine Months Ended September 30, 2020 2019 2020 2019 Revenues: Services revenue $ 6,060 $ 5,207 $ 15,713 $ 14,950 Asset sales 1,506 1,415 2,214 5,647 Total revenues 7,566 6,622 17,927 20,597 Operating costs and expenses: Cost of services revenue 1,605 435 3,344 2,649 Cost of asset sales 990 926 1,358 3,952 Selling, general and administrative 3,378 3,928 10,516 11,551 Depreciation and amortization 92 74 272 226 Total operating costs and expenses 6,065 5,363 15,490 18,378 Earnings of equity method investments 111 8 293 1,277 Operating income 1,612 1,267 2,730 3,496 Interest and other expense, net (3 ) (12 ) (38 ) (57 ) Income before income tax expense (benefit) 1,609 1,255 2,692 3,439 Income tax expense (benefit) 345 39 (649 ) 117 Net income $ 1,264 $ 1,216 $ 3,341 $ 3,322 Weighted average common shares outstanding – basic 28,751,689 28,653,278 28,817,344 28,653,278 Weighted average common shares outstanding – diluted 31,890,115 29,352,812 31,288,151 28,911,488 Net income per share – basic $ 0.04 $ 0.04 $ 0.12 $ 0.12 Net income per share – diluted $ 0.04 $ 0.04 $ 0.11 $ 0.11 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 HERITAGE GLOBAL INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (In thousands of US dollars, except share amounts) (unaudited) Additional Accumulated other Preferred stock Common stock paid-in Accumulated comprehensive Shares Amount Shares Amount capital deficit loss Total Balance at December 31, 2019 568 $ 6 29,339,101 $ 293 $ 285,099 $ (273,474 ) $ (77 ) $ 11,847 Issuance of common stock from stock option awards — — 19,805 1 (3 ) — — (2 ) Stock-based compensation expense — — — — 75 — — 75 Net income — — — — — 38 — 38 Balance at March 31, 2020 568 6 29,358,906 294 285,171 (273,436 ) (77 ) 11,958 Issuance of common stock from stock option awards — — 62,550 1 29 — — 30 Stock-based compensation expense — — — — 86 — — 86 Net income — — — — — 2,039 — 2,039 Balance at June 30, 2020 568 6 29,421,456 295 285,286 (271,397 ) (77 ) 14,113 Issuance of common stock from stock option awards — — 97,581 1 (88 ) — — (87 ) Issuance of common stock — — 205,000 2 568 — — 570 Stock-based compensation expense — — — — 97 — — 97 Net income — — — — — 1,264 — 1,264 Balance at September 30, 2020 568 $ 6 29,724,037 $ 298 $ 285,863 $ (270,133 ) $ (77 ) $ 15,957 Additional Accumulated other Preferred stock Common stock paid-in Accumulated comprehensive Shares Amount Shares Amount capital deficit loss Total Balance at December 31, 2018 569 $ 6 29,253,278 $ 293 $ 284,751 $ (277,373 ) $ (77 ) $ 7,600 Stock-based compensation expense — — — — 71 — — 71 Net income — — — — — 612 — 612 Balance at March 31, 2019 569 6 29,253,278 293 284,822 (276,761 ) (77 ) 8,283 Stock-based compensation expense — — — — 76 — — 76 Net income — — — — — 1,494 — 1,494 Balance at June 30, 2019 569 6 29,253,278 293 284,898 (275,267 ) (77 ) 9,853 Stock-based compensation expense — — — — 63 — — 63 Net income — — — — — 1,216 — 1,216 Balance at September 30, 2019 569 $ 6 29,253,278 $ 293 $ 284,961 $ (274,051 ) $ (77 ) $ 11,132 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 HERITAGE GLOBAL INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands of US dollars) (unaudited) Nine Months Ended September 30, 2020 2019 Cash flows provided by operating activities: Net income $ 3,341 $ 3,322 Adjustments to reconcile net income to net cash provided by operating activities: Amortization of deferred issuance costs and fees 60 — Earnings of equity method investments (293 ) (1,277 ) Noncash lease expense 388 356 Depreciation and amortization 272 226 Deferred taxes (1,092 ) — Stock-based compensation expense 258 210 Changes in operating assets and liabilities: Accounts receivable (97 ) (1,322 ) Inventory (704 ) 2,175 Other assets (367 ) (856 ) Lease liabilities (378 ) (374 ) Accounts payable and accrued liabilities 1,353 (1,413 ) Other liabilities 65 — Net cash provided by operating activities 2,806 1,047 Cash flows provided by (used in) investing activities: Purchase of property and equipment (6 ) (73 ) Investment in equity method investments (1,197 ) (566 ) Cash distributions from equity method investments 314 271 Investment in notes receivable (4,490 ) — Payments received on notes receivable 1,002 — Cash received on transfer of notes receivable to partners 4,997 — Net cash provided by (used in) investing activities 620 (368 ) Cash flows used in financing activities: Proceeds from issuance of common stock from stock option awards 46 — Payments of tax withholdings related to cashless exercises of stock option awards (105 ) — Proceeds from debt payable to third party 5,625 500 Repayment of debt payable to third party (5,925 ) (1,546 ) Net cash used in financing activities (359 ) (1,046 ) Net increase (decrease) in cash and cash equivalents 3,067 (367 ) Cash and cash equivalents at beginning of period 2,728 4,268 Cash and cash equivalents at end of period $ 5,795 $ 3,901 Supplemental cash flow information: Cash paid for taxes $ 139 $ 248 Cash paid for interest 41 47 Issuance of common stock for services rendered 570 — The accompanying notes are an integral part of these condensed consolidated financial statements. 7 HERITAGE GLOBAL INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1 –Basis of Presentation These unaudited condensed consolidated interim financial statements include the accounts of Heritage Global Inc. (“HGI”) together with its subsidiaries, including Heritage Global Partners, Inc. (“HGP”), Heritage Global LLC (“HG LLC”), Equity Partners HG LLC (“Equity Partners”), National Loan Exchange, Inc. (“NLEX”) and Heritage Global Capital LLC (“HGC”). These entities, collectively, are referred to as the “Company” in these financial statements. The Company’s unaudited condensed consolidated interim financial statements were prepared in conformity with generally accepted accounting principles in the United States of America (“GAAP”), as outlined in the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), and include the assets, liabilities, revenues, and expenses of all subsidiaries over which HGI exercises control. All significant intercompany accounts and transactions have been eliminated upon consolidation. The Company’s sole operating segment is its asset liquidation business. The Company provides an array of value-added financial and capital asset solutions: auction and appraisal services, traditional asset disposition sales, and specialty financing solutions. The Company has prepared the condensed consolidated interim financial statements included herein pursuant to the rules and regulations of the United States Securities and Exchange Commission (the “SEC”). In the opinion of management, these financial statements reflect all adjustments that are necessary to present fairly the results for the interim periods included herein. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations; however, the Company believes that the disclosures are appropriate. These unaudited condensed consolidated interim financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, filed with the SEC on March 9, 2020 (the “Form 10-K”). The results of operations for the nine month period ended September 30, 2020 are not necessarily indicative of those operating results to be expected for any subsequent interim period or for the entire year ending December 31, 2020. The accompanying condensed consolidated balance sheet at December 31, 2019 has been derived from the audited consolidated balance sheet at December 31, 2019, contained in the Company’s Form 10-K. COVID-19 The spread of the novel coronavirus (“COVID-19”) had a minor negative impact on the Company’s performance through September 30, 2020 resulting from evolving travel and work restrictions as well as a delay in the sale of certain assets. Going forward, the Company does not believe COVID-19 and the recent developments surrounding the global pandemic will have material negative impacts on the Company’s financial performance as its asset liquidation business is highly concentrated in distressed and surplus assets and the Company expects that there will be an increased supply of distressed and surplus assets as a result of the COVID-19 pandemic and any downward trends in the overall economy, resulting in more potential for principal deals. The Company believes that the continuing disruptions to the global supply chain, particularly those involving industrial assets, will further increase demand for U.S.-based surplus assets. Further, the Company expects that the COVID-19 pandemic will have the following positive impacts: • ongoing social distancing requirements in connection with the COVID-19 pandemic will result in increased demand for HGP’s online auct ions; • rising charged-off consumer loan sales will result in expanding volumes for the Company’s Financial Assets division; • tightening underwriting standards at conventional lenders will result in more funding opportunities for HGC; and • greater focus on collateral on bank balance sheets will result in incremental valuation opportunities for the Company’s valuation business. However, positive expected impacts of the COVID-19 pandemic on the Company’s business could be offset, at least in part, by negative impacts on certain business units relying on travel and field work. Any continuation of travel and work restrictions may result in decreased revenues depending on the scope and duration of such restrictions. 8 Note 2 – Summary of Significant Accounting Policies Use of Estimates The preparation of the Company’s consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Management bases its estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results could differ from those estimates. Significant estimates include the assessment of collectability of revenue recognized, and the valuation of accounts receivable, inventory, other assets, right-of-use assets, goodwill and intangible assets, liabilities, deferred income tax assets and liabilities including future years’ taxable income, and stock-based compensation. These estimates have the potential to significantly impact the Company’s consolidated 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. Reclassifications Certain prior year balances within the condensed consolidated financial statements have been reclassified to conform to the current year presentation. Revenue Recognition Services revenue generally consists of commissions and fees from providing auction services, appraisals, brokering of sales transactions and providing merger and acquisition advisory services. Asset sales revenue generally consists of proceeds obtained through sales of purchased assets. 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 are considered to be one reporting segment — the asset liquidation business. Although the Company provides various services within the asset liquidation business, it does not disaggregate revenue streams further than that in its statement of income, services revenue and asset sales. Generally, revenue is recognized in the asset liquidation business at the point in time in which the performance obligation has been satisfied and full consideration is received. The exception to recognition at a 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 (0% of total revenues for the nine month period ended September 30, 2020) 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 the Company’s “contract liability.” As of September 30, 2020, the deferred revenue balance was zero. The Company records receivables related to asset liquidation in certain situations based on timing of payments for asset liquidation transactions held at the end of the reporting period; however, revenue is generally recognized in the period that the Company satisfies the performance obligation and cash is collected. The Company does not record a “contract asset” for partially satisfied performance obligations. The Company evaluates revenue from asset liquidation transactions in accordance with the accounting guidance to determine whether to report such revenue on a gross or net basis. The Company has determined that it acts as an agent for the Company’s fee based asset liquidation transactions, and, therefore, the Company reports the revenue from transactions in which it acts as an agent on a net basis. The Company also earns asset liquidation income through asset liquidation transactions that involve the Company acting jointly with one or more additional purchasers, pursuant to a partnership, joint venture or limited liability company (“LLC”) agreement (collectively, “Joint Ventures”). For these transactions, in which the Company’s ownership share meets the criteria for the equity method investments under ASC 323, the Company does not record asset liquidation revenue or expense. Instead, the Company’s 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. 9 In 2019, the Company began providing specialty financing solutions to investors in charged-off and nonperforming asset portfolios. Fees collected i n relation to the issuance of loans , which are included within services revenue, includes loan origination fees, interest income, portfolio monitoring fees, and a backend profit share percentage related to the underlying asset portfolio. The 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. 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 which will be realized, and the lack of historical precedence as this is a new business for the Company. During the nine months ended September 30, 2020 and 2019, the Company generated revenues specific to one customer representing 12% of total revenues for each period. During the three months ended September 30, 2020 and 2019, the Company generated revenues specific to the same customer representing 8% and 11% of total revenues for the respective periods. Leases The Company is obligated to make future payments under existing lease agreements which (1) specifically identify the asset, and (2) convey the right to control the use of the identified asset in exchange for consideration for a period of time. The Company determines whether a contract is a lease at the inception of the arrangement. We evaluate leasing arrangements in accordance with the accounting guidance to determine whether the contract is operating or financing in nature. Leases with an initial term of 12 months or less, or under predefined thresholds, are not recorded on the condensed consolidated balance sheet. Lease expense for these leases is recognized on a straight-line basis over the lease term. The critical accounting policies used in the preparation of the Company’s audited consolidated financial statements are discussed in the Company’s Form 10-K. There have been no changes to these policies in the nine months ended September 30, 2020. Recent Accounting Pronouncements In 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes (“ASU 2019-12”), which simplifies the accounting for income taxes. The amendments in this update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. We anticipate that the impact will not be material to our consolidated financial statements. In 2017, the FASB issued ASU 2017-04, Intangibles — Goodwill and Other (“ASU 2017-04”), which simplifies the test for goodwill impairment. The main provisions of ASU 2017-04 eliminate the second step of the goodwill impairment test which previously was performed to determine the goodwill impairment loss for an entity by calculating the difference between the implied fair value of the entity’s goodwill and its carrying value. Under ASU 2017-04, if a reporting unit’s carrying value exceeds its fair value, an entity will record an impairment charge based on that difference. The impairment charge will be limited to the amount of goodwill which is allocated to that reporting unit. ASU 2017-04 applies to fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. ASU 2017-04 became effective January 1, 2020 and did not have a material impact on our consolidated financial statements. In 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (“ASU 2016-13”), which applies a current expected credit loss model which is a new impairment model based on expected losses rather than incurred losses. The expected credit losses, and subsequent adjustments to such losses, will be recorded through an allowance account that is deducted from, or added to, the amortized cost basis of the financial asset, with the net carrying value of the financial asset presented on the consolidated balance sheet at the amount expected to be collected. ASU 2016-13 eliminates the current accounting model for loans and debt securities acquired with deteriorated credit quality under ASC 310-30, which provides authoritative guidance for the accounting of the Company’s notes receivable. With respect to smaller reporting companies, the amendments in this update are effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. We are currently evaluating the impact of the new guidance on our consolidated financial statements. 10 Note 3 – Notes Receivable, net The Company’s notes receivable balance consists of loans to buyers of charged-off receivable portfolios which resulted in a total outstanding principal balance at September 30, 2020 of approximately $1.1 million, net of unamortized deferred fees and costs on originated loans. At December 31, 2019 the Company’s notes receivable balance was $2.7 million, net of unamortized deferred fees and costs on originated loans. The activity during the nine months ended September 30, 2020 includes the issuance of additional notes of approximately $4.5 million, principal payments made by borrowers of approximately $1.0 million, adjustments to our deferred fees and costs balance of approximately $0.1 million, and the transfer of notes to partners as detailed below. In March 2020, the Company closed a $6.0 million receivables purchasing agreement with a partner, an alternative asset manager focused on asset-based lending transactions, for the purpose of funding a portion of loans to debt purchasing clients. In March 2020, approximately $1.0 million of the notes receivable balance for certain loans was transferred to the partner. Also in March 2020, HGC Funding I LLC was formed as a joint venture with a partner for purposes of conducting business relating to the sourcing, origination and funding of loans to debt purchasing clients. In March 2020, approximately $3.0 million of the notes receivable balance for certain loans was transferred into the joint venture. In May 2020, an additional $1.0 million of the notes receivable balance for certain loans was transferred into the joint venture. Refer to Note 6 for further information. As of September 30, 2020, the Company has not recorded an allowance for credit losses related to notes receivable outstanding. Note 4 – Stock-based Compensation Options At September 30, 2020 the Company had four stock-based compensation plans, which are described more fully in Note 18 to the audited consolidated financial statements for the year ended December 31, 2019, contained in the Company’s Form 10-K. During the nine months ended September 30, 2020, the Company issued options to purchase 344,750 shares of common stock to certain of the Company’s employees, options to purchase 15,000 shares of common stock to an outside consultant, and options to purchase 85,000 shares of common stock to the Company’s non-employee directors as part of their annual compensation. During the same period, the Company cancelled options to purchase 187,025 shares of common stock as a result of employee resignations and natural expiration. The following summarizes the changes in common stock options for the nine months ended September 30, 2020: Options Weighted Average Exercise Price Outstanding at December 31, 2019 3,611,850 $ 0.46 Granted 444,750 $ 1.61 Exercised (249,300 ) $ 0.47 Forfeited (187,025 ) $ 1.13 Outstanding at September 30, 2020 3,620,275 $ 0.57 Options exercisable at September 30, 2020 2,240,286 $ 0.53 The Company recognized stock-based compensation expense related to stock options of $0.3 million for the nine months ended September 30, 2020. As of September 30, 2020, there is approximately $0.5 million of unrecognized stock-based compensation expense related to unvested option awards outstanding, which is expected to be recognized over a weighted average period of 3.1 years. Restricted Stock Restricted stock awards represent a right to receive shares of common stock at a future date determined in accordance with the participant’s award agreement. There is no exercise price and no monetary payment required for receipt of restricted stock awards or the shares issued in settlement of the award. Instead, consideration is furnished in the form of the participant’s services to the 11 Company. Compensation cost for these awards is based on the fair value on the date of grant and recognized as compensatio n expense on a straight-line basis over the requisite service period. On June 1, 2018, the Company granted 600,000 shares of Company restricted common stock in connection with the Addenda to the Employment Agreements of David Ludwig and Tom Ludwig. The shares are subject to certain restrictions on transfer and a right of repurchase over five years, ending May 31, 2023, and require a continued term of service to the Company. Stock-based compensation expense related to the restricted stock awards, calculated by using the grant date fair value of $0.43 per share, was $38,700 for the nine months ended September 30, 2020. The unrecognized stock-based compensation expense as of September 30, 2020 was approximately $0.1 million. Warrants On March 19, 2019, the Company entered into a Warrant Agreement (the “Warrant Agreement”) with Napier Park Industrial Asset Acquisition LP, a Delaware limited partnership (“Napier Park”). Pursuant to the Warrant Agreement, Napier Park is entitled to receive warrants to acquire shares of Company common stock with a fair market value of $71,368 for each $500,000 increment in excess of $2.5 million of Cumulative Gross Profit (as defined in the Warrant Agreement) to which the Company may become entitled in connection with its equity joint venture with Napier Park, achieved prior to December 19, 2022. During 2019 and the nine months ended September 30, 2020, Napier Park did not receive any warrants. Note 5 – Lessor Arrangement On June 27, 2019, the Company, with certain partners, entered into agreements to lease, with a purchase option, a fully functional manufacturing building, including all machinery and equipment held within. The assets under lease relate to the Company’s purchase, with certain partners, of a pharmaceutical campus in Huntsville, Alabama, which was finalized in 2018, as disclosed in the Company’s Form 10-K. The lessee is obligated to make monthly lease payments over a ten year period, totaling approximately $13.2 million for the real estate portion, and monthly lease payments over a six year period totaling approximately $9.7 million for the machinery and equipment. The purchase option for both the real estate and machinery and equipment can be exercised at any time on or after December 1, 2019 and before May 31, 2021 for a total purchase price of $20.0 million; of which $12.0 million and $8.0 million are allocated to the real estate and machinery and equipment, respectively. The lessor arrangement is classified as a sales-type lease, and, therefore, the present value of future lease payments has been recognized as revenue and a lease receivable as of the effective date. The real estate portion of the arrangement is held by CPFH LLC, the joint venture, and is accounted for under the equity method where the Company’s share in earnings from equity method investments is shown in one line item on the income statement. Refer to Note 6 for further information. The machinery and equipment portion of the arrangement is jointly owned by all the partners of CPFH LLC, apart from the joint venture entity. Therefore, the Company has derecognized the leased asset of approximately $0.9 million and recognized as revenue approximately $1.2 million, which represents the present value of future lease payments and a lease receivable included in the accounts receivable line item on the balance sheet, consistent and reflective of its business model for asset sales. The Company expects to recognize approximately $0.5 million in interest income prior to the exercise of the purchase option, which is the difference between the present value (at a 5.50% discount rate) and the undiscounted lease payments. In November 2019, the partnership entered into agreements to lease a second building of the pharmaceutical campus in Huntsville, Alabama. The lessee is obligated to make monthly lease payments over a ten year period commencing on March 1, 2020. The Company has determined the lease to be classified as an operating lease held by CPFH LLC, the joint venture, and is accounted for under the equity method where the Company’s share in earnings from equity method investments is shown in one line item on the income statement. Refer to Note 6 for further information. Note 6 – Equity Method Investments In November 2018, CPFH LLC was formed to purchase certain real estate assets among partners in a joint venture. The Company’s share of the Joint Venture is 25%. During 2019, the Company held a 50% share in the Oak Grove Asset Acquisitions LP, an entity formed for the execution of auction deals with Napier Park. In March 2020, the HGC Funding I LLC joint venture was formed with a partner for purposes of conducting business relating to the sourcing, origination and funding of loans to debt purchasing clients. The table below details the Company’s joint venture revenues and net income during the nine months ended September 30, 2020 and 2019 (in thousands): 12 Nine Months Ended September 30, 2020 2019 Revenues: Oak Grove Asset Acquisitions LP $ 1,129 $ — CPFH LLC 1,254 11,106 HGC Funding I LLC 324 — Total Revenues $ 2,707 $ 11,106 Net income: Oak Grove Asset Acquisitions LP $ 249 $ — CPFH LLC 243 5,068 HGC Funding I LLC 308 — Total net income $ 800 $ 5,068 The table below details the summarized components of assets and liabilities, as of September 30, 2020 and December 31, 2019, of the Company’s joint ventures at those dates (in thousands): September 30, December 31, 2020 2019 Assets: Oak Grove Asset Acquisitions LP $ 624 $ 1,602 CPFH LLC 24,748 20,016 HGC Funding I LLC 6,300 — Total assets $ 31,672 $ 21,618 Liabilities: Oak Grove Asset Acquisitions LP $ 5 $ 797 CPFH LLC 12,700 10,245 HGC Funding I LLC 10 — Total liabilities $ 12,715 $ 11,042 Note 7 – Earnings Per Share The Company is required in periods in which it has net income to calculate basic earnings per share (“basic EPS”) using the two-class method. The two-class method is required because the Company’s shares of Series N preferred shares, each of which is convertible to 40 common shares, have the right to receive dividends or dividend equivalents should the Company declare dividends on its common stock. Under the two-class method, earnings for the period are allocated on a pro-rata basis to the common and preferred stockholders. The weighted-average number of common and preferred shares outstanding during the period is then used to calculate basic EPS for each class of shares. In periods in which the Company has a net loss, basic loss per share is calculated by dividing the loss attributable to common stockholders by the weighted-average number of common shares outstanding during the period. The two-class method is not used in periods in which the Company has a net loss because the preferred stock does not participate in losses. Stock options and other potential common shares are included in the calculation of diluted earnings per share (“diluted EPS”), since they are assumed to be exercised or converted, except when their effect would be anti-dilutive. The table below shows the calculation of the shares used in computing diluted EPS. 13 Three Months Ended September 30, Nine Months Ended September 30, Weighted Average Shares Calculation: 2020 2019 2020 2019 Basic weighted average shares outstanding 28,751,689 28,653,278 28,817,344 28,653,278 Treasury stock effect of common stock options and restricted stock awards 3,138,426 699,534 2,470,807 258,210 Diluted weighted average common shares outstanding 31,890,115 29,352,812 31,288,151 28,911,488 For the nine months ended September 30, 2020 and 2019 there were potential common shares totaling approximately 0.1 million and 0.4 million, respectively, that were excluded from the computation of diluted EPS as the inclusion of such shares would have been anti-dilutive. For the three months ended September 30, 2020 and 2019 there were potential common shares totaling approximately 0.1 million and 20,000, respectively, that were excluded. Note 8 – Leases The Company leases office and warehouse space primarily in three locations: Del Mar, CA; Burlingame, CA; and Edwardsville, IL. As each contract does not meet any of the four criteria of ASC 842 for financing lease classification, the Company has determined that each lease arrangement should be classified as an operating lease. The right-of-use assets and lease liabilities for each location are as follows (in thousands): September 30, December 31, Right-of-use assets: 2020 2019 Del Mar, CA $ 646 $ 745 Burlingame, CA 174 392 Edwardsville, IL 275 346 $ 1,095 $ 1,483 September 30, December 31, Lease liabilities: 2020 2019 Del Mar, CA $ 673 $ 745 Burlingame, CA 191 429 Edwardsville, IL 277 345 $ 1,141 $ 1,519 The Company’s leases generally do not provide an implicit rate, and, therefore, the Company uses its incremental borrowing rate as the discount rate when measuring operating lease liabilities. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease within a particular currency environment. The Company uses its incremental borrowing rate as of January 1, 2019 for operating leases that commenced prior to that date. As of January 1, 2019, the Company’s incremental borrowing rate was 5.25%. Lease expense for these leases is recognized on a straight-line basis over the lease term. For both nine month periods ended September 30, 2020 and 2019, lease expense was approximately $0.4 million. Undiscounted future minimum lease payments as of September 30, 2020 that have initial or remaining lease terms in excess of one year are as follows (in thousands): 14 2020 (remainder of year from October 1, 2020 to December 31, 2020) $ 151 2021 385 2022 278 2023 218 2024 176 2025 30 Total undiscounted future minimum lease payments 1,238 Less imputed interest (97 ) Present value of lease liabilities $ 1,141 Note 9 – Intangible Assets and Goodwill Identifiable intangible assets The Company’s identifiable intangible assets are associated with its acquisitions of HGP in 2012 and NLEX in 2014, as shown in the table below (in thousands), and are amortized using the straight-line method over their remaining estimated useful lives of three to five years. The Company’s tradename acquired as part of the acquisition of NLEX in 2014 has an indefinite life and therefore is not amortized. Carrying Value Carrying Value December 31, September 30, Amortized Intangible Assets 2019 Amortization 2020 Customer Network (HGP) $ 92 $ (24 ) $ 68 Trade Name (HGP) 642 (96 ) 546 Customer Relationships (NLEX) 221 (82 ) 139 Total 955 (202 ) 753 Unamortized Intangible Assets Trade Name (NLEX) 2,437 — 2,437 Total $ 3,392 $ (202 ) $ 3,190 Amortization expense during each of the nine months ended September 30, 2020 and 2019 was $0.2 million. The estimated amortization expense as of September 30, 2020 during the remainder of the current fiscal year and the next four fiscal years is shown below (in thousands): Year Amount 2020 (remainder of year from October 1, 2020 to December 31, 2020) $ 67 2021 270 2022 159 2023 129 2024 128 Total $ 753 15 Goodwill The Company’s goodwill is related to its asset liquidation business and is comprised of goodwill from two acquisitions, as shown in the table below (in thousands). There were no additions to goodwill and no impairment losses to the carrying amount of goodwill during the nine months ended September 30, 2020. Acquisition September 30, 2020 December 31, 2019 HGP $ 2,040 $ 2,040 NLEX 3,545 3,545 Total goodwill $ 5,585 $ 5,585 Note 10 – Debt Outstanding debt at September 30, 2020 and December 31, 2019 is summarized as follows (in thousands): September 30, 2020 December 31, 2019 Current: Third party debt $ 138 $ 403 Non-current: Third party debt — 35 Total debt $ 138 $ 438 In September 2018, Heritage Global Inc. entered into a secured promissory note and business loan agreement (the “2018 Credit Facility”) with First Choice Bank, for a $1.5 million revolving line of credit. The 2018 Credit Facility had an initial maturity date of October 5, 2019 and replaced the Company’s prior related party secured promissory note, totaling $1.5 million. Under the 2018 Credit Facility, the Company was permitted to use the proceeds of the loan solely for its business operations. The 2018 Credit Facility accrued at a variable interest rate, which was equal to the rate of interest last quoted by The Wall Street Journal as the “prime rate,” not to be less than 5.25% per annum, with a minimum interest charge of $100.00 per month. The Company began paying interest on the 2018 Credit Facility in regular monthly payments in November 2018. On March 29, 2019, Heritage Global Inc. entered into the Change in Terms Agreement and the First Amendment to Business Loan Agreement (collectively, the “Amendments”), which amended the Company’s 2018 Credit Facility. The Amendments, among other things, (i) increased the principal amount of the revolving line of credit to $3.0 million, (ii) extended the maturity date of the 2018 Credit Facility to April 5, 2020, and (iii) raised the floor interest rate under the 2018 Credit Facility from 5.25% to 5.50%. On February 10, 2020, the Company entered into a secured promissory note, business loan agreement, commercial security agreement and agreement to provide insurance (the “Credit Facility”) with C3bank, National Association for a $5.0 million revolving line of credit. The Credit Facility matures on February 5, 2021 and replaced the 2018 Credit facility, as amended. The Company is permitted to use the proceeds of the loan solely for its business operations. The Credit Facility accrues at a variable interest rate, which is equal to the rate of interest last quoted by The Wall Street Journal as the “prime rate,” not to be less than 5.50% per annum. The Company will pay interest on the Credit Facility in regular monthly payments, beginning on March 5, 2020. The Company may prepay the Credit Facility without penalty. The Company is the borrower under the Credit Facility. The Credit Facility is secured by a first priority security interest in certain of the Company’s and its certain subsidiaries’ current and future tangible and intangible assets, inventory, chattel paper, accounts, equipment and general intangibles. The availability of additional draws under the Credit Facility is conditioned, among other things, on the compliance with certain customary representations and warranties, including default, insolvency or bankruptcy, material adverse change in financial condition and any guarantor’s attempt to revise its guarantee. The agreement governing the Credit Facility also contains customary affirmative covenants regarding, among other things, the maintenance of records, maintenance of certain insurance coverage, compliance with governmental requirements and maintenance of a debt to equity ratio. The Credit Facility contains certain customary financial covenants and negative covenants that, among other things, include restrictions on the Company’s ability to create, incur or assume indebtedness for borrowed money, including capital leases or to sell, transfer, mortgage, assign, pledge, lease, grant a security interest in, or encumber any of the Company’s assets. During the nine months ended September 30, 2020, the Company drew on the line of credit for a total of $5.6 million and made repayments of principal totaling $5.6 million resulting in a zero balance as of September 30, 2020. 16 In January 2018, HG LLC , a wholly- owned subsidiary of HGI, settled a long-standing litigation m atter that was commenced against the predecessor in interest of HG LLC. The settlement, which also involved several other co-defendant parties, included a complete release of HG LLC’s predecessor in interest and its successors and affiliates by the plainti ffs from all claims arising from or relating to the facts and circumstan ces underlying the litigation. The portion of the settlement attributable to HG LLC’s predecessor in interest was paid on behalf of HG LLC by 54 Finance, LLC (“54 Finance”) (an affiliate of a co-defendant in the litigation) in consideration of a promissory n ote dated January 30, 2018 (the “Note”) from HG LLC in the amount of $1,260,000 . Pursuant to a g uaranty dated January 30, 2018, HGI h as guaranteed the obli gations of HG LLC under the Note, which are required to be paid in 36 equal installments of $35,000, with any remaining outstanding balance due and payable in full on January 30, 2021. As of December 31, 2017, the Company accrued the present value of the Note based on the payment terms noted above and at an interest rate of 6.5%. Upon the occurrence of any Event of Default , as defined below , in the sole discretion of 54 Finance, the outstanding principal balance of the Note will bear i nterest at a rate per annum (computed on the basis of a 360-day year, actual days elapsed) equal to 12%. An “Event of Default” means: (a) any failure of HG LLC to pay when due any amount thereunder, when and as due, (b) any failure on the part of HG LLC to pay upon 54 Finance’s demand any fees, costs, expenses or other charges hereunder or otherwise due to HG LLC under the Note or the Guaranty, (c) any breach, failure or default under the Guaranty, (d) HG LLC or the Company repudiates or revokes, or purport s to repudiate or revoke, any obligation under the Note or the Guaranty, or the obligation of the Company under the Guaranty is limited or terminated by operation of law or by the Company, or (e) HG LLC or the Company shall be or become insolvent, however defined, or admit in writing its inability to pay debts as they mature, or make a general assignment for the benefit of its creditors, or shall institute any bankruptcy, insolvency or similar proceeding under the laws of any jurisdiction, or shall take any action to authorize such proceeding. D uring the nine months ended September 30 , 2020 , th e Company made the scheduled payments on the Note totaling $ 315 ,000. The outstanding balance on the Note as of September 30 , 2020 was $ 138 ,000 . Note 11 – Income Taxes At September 30, 2020 the Company has aggregate tax net operating loss carry forwards of approximately $82.4 million ($61.6 million of unrestricted net operating tax losses and approximately $20.8 million of restricted net operating tax losses). Substantially all of the net operating loss carry forwards expire between 2024 and 2037. The Company’s utilization of restricted net operating tax loss carry forwards against future income for tax purposes is restricted pursuant to the “change in ownership” rules in Section 382 of the Internal Revenue Code. The reported tax expense varies from the amount that would be provided by applying the statutory U.S. Federal income tax rate to the income from operations before taxes primarily as a result of the change in the deferred tax asset valuation allowance, excess tax benefits from stock option exercises, offset by an increase in state tax expense of approximately $0.1 million due to California’s three-year net operating loss carryforward suspension effective June 29, 2020. The Company records net deferred tax assets to the extent that it believes such assets will more likely than not be realized. As a result of cumulative losses and uncertainty with respect to future taxable income, the Company has provided a partial valuation allowance against its net deferred tax assets as of September 30, 2020 and December 31, 2019. On March 27, 2020, the Coronavirus Aid, Relief and Economic Security Act (the "CARES Act") was enacted in response to the COVID-19 pandemic. The CARES Act contains numerous income tax provisions, including changes which may enable a greater potential for utilizing net operating loss carry forwards. While the Company continues to evaluate the impact of the CARES Act, it does not currently believe it will have a material impact on the Company's consolidated financial statements or related disclosures. Note 12 – Related Party Transactions As part of the operations of NLEX, the Company leases office space in Edwardsville, IL that is owned by the President of NLEX, David Ludwig. The total amount paid to the related party was approximately $82,000 for both nine month periods ended September 30, 2020 and 2019, respectively, and is included in selling, general and administrative expenses in the condensed consolidated income statements. All of the payments in both 2020 and 2019 were made to David Ludwig. On June 1, 2018, the Company amended its lease agreement with David Ludwig, whereby the term of the agreement extends to May 31, 2023 and the rent amounts were agreed upon for the new term. Pursuant to an agreement reached between Mr. Ross Dove and former board member Mr. Emmett DeMoss, and further approved by the remaining board members, one-half of Mr. Dove’s 2019 bonus was paid to Mr. Dove and the other half was paid directly to Mr. DeMoss from the Company in consideration of Mr. DeMoss’ ongoing strategic consulting services. 17 Not e 13 – Subsequent Events The Company has evaluated events subsequent to September 30, 2020 for potential recognition or disclosure in its condensed consolidated financial statements. There have been no material subsequent events requiring recognition or disclosure in this Quarterly Report on Form 10-Q, other than noted below. On October 6, 2020, the Company completed an underwritten public offering (the “Offering”) of an aggregate of 5,462,500 shares of the Company’s common stock, $0.01 par value per share, which included 712,500 shares of common stock sold pursuant to the full exercise of the underwriter’s option to purchase additional shares resulting in net proceeds to the Company from the Offering, after deducting the underwriting discounts and commissions, of approximately $9.1 million. At September 30, 2020 the Company had incurred approximately $1.2 million in prepaid costs directly associated with the public offering, of which approximately $0.6 million was associated with a non-cash common stock issuance for consulting services provided. These costs temporarily increased our other current assets balance by $1.2 million at September 30, 2020 and will subsequently offset proceeds from the public offering within additional paid-in capital on the closing date of October 6, 2020. On October 27, 2020, Heritage Global Partners, Inc. (“ HGP ”), a wholly-owned subsidiary of the Company, entered into an agreement (the “ Lease ”) with Hayward FGHK Industrial, LLC (“ Landlord ”) pursuant to which HGP will lease 30,321 square feet of industrial space in Hayward, California from Landlord. The Lease has an initial term of ninety (90) months, unless terminated earlier by either party pursuant to the terms of the Lease. The Lease provides for an initial monthly base rent of $27,289, which increases on an annual basis to $33,562 per month in the final year. In addition, HGP is obligated to pay its share of maintenance costs of common areas. The Company is a guarantor of HGP’s obligations under the Lease including the payment of rent. There is no material relationship between the Company, or any of its affiliates, and the landlord, or any of its affiliates, other than the contractual relationship under the Lease. 18