NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation and Significant Policies
Basis of Presentation
The unaudited condensed consolidated financial statements included in this Form 10-Q have been prepared in accordance with the U.S. Securities and Exchange Commission (the “SEC”) instructions for Quarterly Reports on Form 10-Q. Accordingly, the condensed consolidated financial statements are unaudited and do not contain all the information required by U.S. generally Accepted Accounting Principles (“GAAP”) to be included in a full set of financial statements. The unaudited condensed Consolidated Balance Sheet at December 31, 2022 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by GAAP for a complete set of financial statements. The audited consolidated financial statements for our fiscal year ended December 31, 2022, filed with the SEC on Form 10-K on March 15, 2023, include a summary of our significant accounting policies and should be read in conjunction with this Form 10-Q. In the opinion of management, all material adjustments necessary to present fairly the results of operations, cash flows, and balance sheets for such periods have been included in this Form 10-Q. All such adjustments are of a normal recurring nature. The results of operations for interim periods are not necessarily indicative of the results of operations for the entire year.
The Company
Star Equity Holdings, Inc. (“Star Equity,” the “Company,” “we,” or “our”) is a multi-industry diversified holding company with two divisions: Construction and Investments. The Company previously had a Healthcare division which was sold on May 4, 2023, as further described in Note 16. “Subsequent Events.” Our common stock and preferred stock are listed on the NASDAQ Global Market exchange as “STRR” and “STRRP”, respectively.
Liquidity and Management’s Plan
At December 31, 2022, we identified certain conditions and events which in the aggregate required management to perform an assessment of the Company’s ability to continue as a going concern for one year from the financial statements issuance date. Management’s analysis indicated that there is no substantial doubt regarding the entity’s ability to continue as a going concern for one year from the financial statements issuance date. For the quarter ended March 31, 2023 we achieved net income of $0.4 million and positive cash flow from operations of $5.1 million. As of March 31, 2023, cash and cash equivalents amounted to $5.7 million and our investments in publicly traded companies amounted to $3.6 million. Additionally, as further discussed in Note 16. “Subsequent Events”, we received approximately $27 million in cash from the sale of our Healthcare business on May 4, 2023 and paid the full outstanding balance owed under the Webster Loan Agreement (as defined herein). In addition, we have given notice to eCapital (as defined in Note 7. “Debt”) that we will not be renewing our credit facilities with eCapital upon their June 30, 2023 expiration. We have projected positive cash flow generation for the next 12 months from the issuance date of these financial statements. Our forecasts are dependent on our ability to maintain margins at our operating companies which includes achieving levels of booked orders, minimizing expenses and achieving certain free cash flow benchmarks. We have begun to explore certain financing arrangements, including sale and leaseback opportunities, subsequent to the date of these financial statements.There can be no assurance that the Company will enter into such a financing arrangement or as to the terms of any such financing arrangement.
Use of Estimates
The preparation of condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and disclosures made in the accompanying notes to the condensed consolidated financial statements. Significant estimates and judgments include those related to inventory, revenue recognition, lease accounting, fair value measurements (including contingent considerations), litigation and contingent liabilities, variable interest entities, intangible assets and goodwill valuations, equity classification and transactions, and income taxes. Actual results could materially differ from those estimates.
Concentration of Credit Risk
Financial instruments, which potentially subject us to concentrations of credit risk, consist primarily of cash and cash equivalents and accounts receivable. We limit our exposure to credit loss by generally placing cash in high credit quality financial institutions. Cash balances are maintained primarily at major financial institutions in the United States, a portion of which exceed the regulatory limit of $250,000 insured by the Federal Deposit Insurance Corporation (FDIC). We have not experienced any credit losses associated with our cash balances. Additionally, we have established guidelines regarding diversification of our investments and their maturities, which are designed to maintain principal and maximize liquidity. As of March 31, 2023 we have $4.4 million of cash in excess of FDIC insured limits
Mezzanine Equity
Pursuant to the Certificate of Designations, Rights and Preferences of 10% Series A Cumulative Perpetual Preferred Stock (the “Series A Preferred Stock”) of Star Equity (formerly Digirad Corporation) (the “Certificate of Designations”), upon a Change of Control Triggering Event, as defined in the Certificate of Designations, holders of the Series A Preferred Stock had the ability to require the Company to redeem the Series A Preferred Stock at a price of $10.00 per share, plus any accumulated and unpaid dividends (a “Change of Control Redemption”). As this redemption feature of the shares was not solely within the control of the Company, the Series A Preferred Stock did not qualify as permanent equity and was classified as mezzanine or temporary equity. The Series A Preferred Stock was not redeemable and it was not probable that our Series A Preferred Stock would become redeemable as of June 2, 2022. Therefore, we were not previously required to accrete the Series A Preferred Stock to its redemption value.
On June 2, 2022, the Certificate of Designations was amended to include a “Special Optional Redemption Right” at the Company’s discretion and to extinguish the option of preferred stockholders to redeem preferred shares upon a Change of Control Triggering Event, as defined in the Certificate of Designations, as amended. As the redemption features of the Series A Preferred Stock are now solely within the control of the Company, the Series A Preferred Stock qualifies as permanent equity and has been reclassified to permanent equity effective June 2, 2022.
In addition to the foregoing redemption features, the Certificate of Designations also provides that we may redeem (at our option, in whole or in part) the Series A Preferred Stock following the fifth anniversary of issuance of the Series A Preferred Stock, at a cash redemption price of $10.00 per share, plus any accumulated and unpaid dividends.
Refer to preferred stock dividends discussed in Note 12. Perpetual Preferred Stock.
New Accounting Standards To Be Adopted
No new accounting standards were issued in the quarter ended March 31, 2023 that are expected to have a material impact on our financial statements.
Note 2. Revenue
Disaggregation of Revenue
During the first quarter of 2023 and until May 4, 2023, the Company had three reporting segments (see Note 10. “Segments”) and has five major goods and service lines which are either transferred over time or at a point in time. The following tables present our revenues for the three months ended March 31, 2023 and 2022, disaggregated by major source (in thousands):
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| | Three Months Ended March 31, 2023 |
| | Healthcare | | | | Construction | | | | | | Total |
Major Goods/Service Lines | | | | | | | | | | | | |
Mobile Imaging(1) | | $ | 10,323 | | | | | $ | — | | | | | | | $ | 10,323 | |
Camera Sales | | 952 | | | | | — | | | | | | | 952 | |
Camera Support | | 1,899 | | | | | — | | | | | | | 1,899 | |
Healthcare Revenue from Contracts with Customers | | 13,174 | | | | | — | | | | | | | 13,174 | |
Lease Income | | 185 | | | | | — | | | | | | | 185 | |
Construction Revenue from Contracts with Customers | | — | | | | | 12,346 | | | | | | | 12,346 | |
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Total Revenues | | $ | 13,359 | | | | | $ | 12,346 | | | | | | | $ | 25,705 | |
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Timing of Revenue Recognition | | | | | | | | | | | | |
Services and goods transferred over time | | $ | 10,545 | | | | | $ | — | | | | | | | $ | 10,545 | |
Services and goods transferred at a point in time | | 2,814 | | | | | 12,346 | | | | | | | 15,160 | |
Total Revenues | | $ | 13,359 | | | | | $ | 12,346 | | | | | | | $ | 25,705 | |
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| | Three Months Ended March 31, 2022 |
| | Healthcare | | | | Construction | | | | | | Total |
Major Goods/Service Lines | | | | | | | | | | | | |
Mobile Imaging(1) | | $ | 10,518 | | | | | $ | — | | | | | | | $ | 10,518 | |
Camera Sales | | 1,132 | | | | | — | | | | | | | 1,132 | |
Camera Support | | 1,679 | | | | | — | | | | | | | 1,679 | |
Healthcare Revenue from Contracts with Customers | | 13,329 | | | | | — | | | | | | | 13,329 | |
Lease Income | | 89 | | | | | — | | | | | | | 89 | |
Construction Revenue from Contracts with Customers | | — | | | | | 11,631 | | | | | | | 11,631 | |
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Total Revenues | | $ | 13,418 | | | | | $ | 11,631 | | | | | | | $ | 25,049 | |
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Timing of Revenue Recognition | | | | | | | | | | | | |
Services and goods transferred over time | | $ | 10,854 | | | | | $ | 1,897 | | | | | | | $ | 12,751 | |
Services and goods transferred at a point in time | | 2,564 | | | | | 9,734 | | | | | | | 12,298 | |
Total Revenues | | $ | 13,418 | | | | | $ | 11,631 | | | | | | | $ | 25,049 | |
Deferred Revenue
Changes in deferred revenue for the three months ended March 31, 2023, is as follows (in thousands):
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Balance at December 31, 2022 | | $ | 3,675 | |
Revenue recognized that was included in balance at beginning of the year | | (1,790) | |
Deferred revenue, net, related to contracts entered into during the year | | 1,298 | |
Balance at March 31, 2023 | | $ | 3,183 | |
As of March 31, 2023 and December 31, 2022, non-current deferred revenue was $257 thousand and $299 thousand, respectively, net of the current portion within our condensed Consolidated Balance Sheets, which is expected to be recognized over a period of 2-4 years.
Note 3. Basic and Diluted Net Income (Loss) Per Share
We present net income (loss) per share attributable to common stockholders in conformity with the two-class method required for participating securities, as the warrants are considered participating securities. We have not allocated net income (loss) attributable to common stockholders to warrants because the holders of our warrants are not contractually obligated to share in our income (loss). Basic net income (loss) per share attributable to common stockholders is computed by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted net income (loss) per share attributable to common stockholders is calculated to give effect to all potential shares of common stock, including common stock issuable upon exercise of warrants, stock options, and restricted stock units (“RSUs”). In periods for which there is a net loss, diluted loss per common share is equal to basic loss per common share, since the effect of including any common stock equivalents would be antidilutive.
The following table sets forth the reconciliation of shares used to compute basic and diluted net income (loss) per share for the periods indicated (in thousands):
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| | Three Months Ended March 31,
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| | 2023 | | 2022 | | | | | | | | |
Numerator: | | | | | | | | | | | | |
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Net income (loss) | | 435 | | | (3,701) | | | | | | | | | |
Deemed dividend on Series A perpetual preferred stock | | (479) | | | (479) | | | | | | | | | |
Net income (loss) attributable to common shareholders | | $ | (44) | | | $ | (4,180) | | | | | | | | | |
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Denominator: | | | | | | | | | | | | |
Weighted average common shares outstanding | | 15,191 | | | 12,434 | | | | | | | | | |
Weighted average prefunded warrants outstanding | | 325 | | | 235 | | | | | | | | | |
Weighted average shares outstanding - basic | | 15,516 | | | 12,669 | | | | | | | | | |
Dilutive potential common shares: | | | | | | | | | | | | |
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Restricted stock units | | 140 | | | — | | | | | | | | | |
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Weighted average shares outstanding - diluted | | 15,656 | | | 12,669 | | | | | | | | | |
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Net income (loss) per share | | | | | | | | | | | | |
Basic | | $ | 0.03 | | | $ | (0.29) | | | | | | | | | |
Diluted | | $ | 0.03 | | | $ | (0.29) | | | | | | | | | |
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Net income (loss) per share, attributable to common shareholders | | | | | | | | | | | | |
Basic | | $ | — | | | $ | (0.33) | | | | | | | | | |
Diluted | | $ | — | | | $ | (0.33) | | | | | | | | | |
*Earnings per share may not add due to rounding
Antidilutive common stock equivalents are excluded from the computation of diluted income (loss) per share. The computation of diluted earnings per share excludes stock options, RSUs, and stock warrants that are anti-dilutive. The following common stock equivalents were anti-dilutive (in thousands):
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| | Three Months Ended March 31,
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| | 2023 | | 2022 | | | | | | | | | | | | |
Stock options | | 2 | | | 6 | | | | | | | | | | | | | |
Restricted stock units | | 80 | | | 271 | | | | | | | | | | | | | |
Stock warrants | | 11,865 | | | 9,361 | | | | | | | | | | | | | |
Total | | 11,947 | | | 9,638 | | | | | | | | | | | | | |
Note 4. Supplementary Balance Sheet Information
Inventories
The components of inventories are as follows (in thousands):
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| | March 31, 2023 | | December 31, 2022 |
Raw materials | | $ | 5,609 | | | $ | 6,330 | |
Work-in-process | | 2,772 | | | 2,567 | |
Finished goods | | 1,886 | | | 1,946 | |
Total inventories | | 10,267 | | | 10,843 | |
Less reserve for excess and obsolete inventories | | (224) | | | (216) | |
Total inventories, net | | $ | 10,043 | | | $ | 10,627 | |
Property and Equipment
Property and equipment consist of the following (in thousands):
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| | March 31, 2023 | | December 31, 2022 |
Land | | $ | 805 | | | $ | 805 | |
Buildings and leasehold improvements | | 4,843 | | | 4,843 | |
Machinery and equipment | | 24,398 | | | 24,648 | |
Computer hardware and software | | 2,486 | | | 2,465 | |
Gross property and equipment | | 32,532 | | | 32,761 | |
Accumulated depreciation | | (24,430) | | | (24,413) | |
Total property and equipment, net | | $ | 8,102 | | | $ | 8,348 | |
As of March 31, 2023, the non-operating land and buildings, held for investments, had a carry value of $1.9 million and was included within property and equipment on the condensed Consolidated Balance Sheet.
Warranty Reserves
In our Healthcare division, we generally provide a 12-month assurance warranty on our gamma cameras. We accrue the estimated cost of this warranty at the time revenue is recorded and charge warranty expense to product and product-related cost of revenues. Warranty reserves are established based on historical experience with failure rates and repair costs and the number of systems covered by warranty. Warranty reserves are depleted as gamma cameras are repaired. The costs consist principally of materials, personnel, overhead, and transportation. We review warranty reserves quarterly and make adjustments, as necessary.
Within our Construction division, KBS Builders, Inc. (“KBS”) provides a limited assurance warranty on its residential homes that covers substantial defects in materials or workmanship for a period of 12 months after delivery to the owner. EdgeBuilder, Inc. (“EdgeBuilder”) provides a limited warranty on the sale of its wood foundation products that covers leaks resulting from defects in workmanship for a period of twenty-five years. Estimated warranty costs are accrued in the period that the related revenue is recognized.
The activities related to our warranty reserve for the period ended March 31, 2023 and year ended December 31, 2022 are as follows (in thousands):
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| | March 31, 2023 | | December 31, 2022 |
Balance at the beginning of year | | $ | 291 | | | $ | 569 | |
Charges to cost of revenues | | 85 | | | 177 | |
Applied to liability | | (86) | | | (455) | |
Balance at the end of period | | $ | 290 | | | $ | 291 | |
Note 5. Leases
Lessee
We have operating and finance leases for corporate offices, vehicles, and certain equipment. Our leases have remaining lease terms of 1 year to 10 years, some of which include options to extend the leases and some of which include options to terminate the leases within 1 year. Operating leases and finance leases are included separately in the condensed Consolidated Balance Sheets.
The components of lease expense are as follows (in thousands):
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| | Three Months Ended March 31, | | | | | | | | | |
| | 2023 | | 2022 | | | | | | | | | | | | | | | |
Operating lease cost | | $ | 390 | | | $ | 396 | | | | | | | | | | | | | | | | |
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Finance lease cost: | | | | | | | | | | | | | | | | | | | |
Amortization of finance lease assets | | $ | 116 | | | $ | 123 | | | | | | | | | | | | | | | | |
Interest on finance lease liabilities | | 11 | | | 17 | | | | | | | | | | | | | | | | |
Total finance lease cost | | $ | 127 | | | $ | 140 | | | | | | | | | | | | | | | | |
Supplemental cash flow information related to leases from continuing operations was as follows (in thousands):
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| | Three Months Ended March 31, |
| | 2023 | | 2022 |
Cash paid for amounts included in the measurement of lease liabilities | | | | |
Operating cash flows from operating leases | | $ | 349 | | | $ | 199 | |
Operating cash flows from finance leases | | $ | 11 | | | $ | 17 | |
Financing cash flows from finance leases | | $ | 139 | | | $ | 157 | |
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Right-of-use assets obtained in exchange for lease obligations | | | | |
Operating leases | | $ | — | | | $ | 1,229 | |
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Supplemental balance sheet information related to leases was as follows (in thousands):
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| | March 31, 2023 | | December 31, 2022 | |
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Weighted average remaining lease term (in years) | | | | | |
Operating leases | | 3.5 | | 3.7 | |
Finance leases | | 2.1 | | 2.3 | |
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Weighted average discount rate | | | | | |
Operating leases | | 4.68 | % | | 4.66 | % | |
Finance leases | | 5.98 | % | | 5.98 | % | |
We are committed to making future cash payments on non-cancelable operating leases and finance leases (including interest). The future minimum lease payments due under both non-cancelable operating leases and finance leases having initial or remaining lease terms in excess of one year as of March 31, 2023 were as follows (in thousands):
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| | Operating Leases
| | Finance Leases
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2023 (excludes the three months ended March 31, 2023) | | $ | 1,146 | | | $ | 292 | |
2024 | | 1,392 | | | 266 | |
2025 | | 918 | | | 103 | |
2026 | | 591 | | | 16 | |
2027 | | 155 | | | 1 | |
2028 and thereafter | | 206 | | | — | |
Total future minimum lease payments | | 4,408 | | | 678 | |
Less amounts representing interest | | 288 | | | 30 | |
Present value of lease obligations | | $ | 4,120 | | | $ | 648 | |
Lessor
Prior to the sale of our Healthcare business on May 4, 2023, we generated lease income in the Healthcare segment from equipment rentals to customers. Rental contracts were structured as either a weekly or monthly payment arrangement and were accounted for as operating leases. Revenues were recognized on a straight-line basis over the term of the rental. During the three months ended March 31, 2023 and 2022, our lease contracts were mainly month-to-month contracts.
Note 6. Fair Value Measurements
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The Financial Accounting Standards Board’s authoritative guidance for fair value measurements establishes a three-level hierarchy based upon the inputs to the valuation model of an asset or liability. Level 1 inputs are quoted prices in active markets for identical assets; Level 2 inputs are inputs other than quoted prices that are significant and observable; and Level 3 inputs are significant unobservable inputs to be used in situations where markets do not exist or illiquid. The following table presents information about our financial assets that are measured at fair value on a recurring basis, and indicates the fair value hierarchy of the valuation techniques we utilize to determine such fair value at March 31, 2023 and December 31, 2022 (in thousands):
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| | Fair Value as of March 31, 2023 |
| | Level 1 | | Level 2 | | Level 3 | | Total |
Assets (Liabilities): | | | | | | | | |
Equity securities | | $ | 3,577 | | | $ | — | | | $ | — | | | $ | 3,577 | |
Lumber derivative contracts | | (62) | | | — | | | — | | | (62) | |
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Total | | $ | 3,515 | | | $ | — | | | $ | — | | | $ | 3,515 | |
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| | Fair Value as of December 31, 2022 |
| | Level 1 | | Level 2 | | Level 3 | | Total |
Assets (Liabilities): | | | | | | | | |
Equity securities | | $ | 3,490 | | | $ | — | | | $ | — | | | $ | 3,490 | |
Lumber derivative contracts | | (104) | | | — | | | — | | | (104) | |
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Total | | $ | 3,386 | | | $ | — | | | $ | — | | | $ | 3,386 | |
The investment in equity securities consists of common stock of publicly traded companies. The fair value of these securities is based on the closing prices observed on March 31, 2023 and December 31, 2022, respectively, and recorded in Investments in the condensed Consolidated Balance Sheets. During the three months ended March 31, 2023 and 2022, we recorded an unrealized gain of $2 thousand and $92 thousand, respectively, recorded in other (expense) income, net in the condensed Consolidated Statements of Operations.
We may enter into lumber derivative contracts in order to protect our gross profit margins from fluctuations caused by volatility in lumber price, recorded within current assets or liabilities in the condensed Consolidated Balance Sheets. For the three months ended March 31, 2023 and 2022, we recorded a net loss of $46 thousand and $0.2 million, respectively, in the cost of goods sold in the condensed Consolidated Statements of Operations. As of March 31, 2023, we had a net long (buying) position of 5,500,000 board feet under 50 lumber derivatives contracts. As of December 31, 2022, we had a net long (buying) position of 550,000 board feet under 5 lumber derivatives contracts.
Gains and losses from lumber derivative contracts are recorded in cost of goods sold of the condensed Consolidated Statements of Operations and included the following for the three months ended March 31, 2023 and 2022, respectively:
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| | March 31, 2023 | | March 31, 2022 | | |
Unrealized gain (loss) on lumber derivatives | | $ | (43) | | | $ | 676 | | | |
Realized gain (loss) on lumber derivatives | | 89 | | | (448) | | | |
Total gain (loss) on lumber derivatives | | $ | 46 | | | $ | 228 | | | |
Note 7. Debt
A summary of debt as of March 31, 2023 and December 31, 2022 is as follows (dollars in thousands):
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| | March 31, 2023 | | December 31, 2022 |
| | Amount | | Weighted-Average Interest Rate | | Amount | | Weighted-Average Interest Rate |
Revolving Credit Facility - eCapital KBS | | $ | — | | | 10.75% | | $ | — | | | 10.25% |
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Revolving Credit Facility - eCapital EBGL | | — | | | 10.75% | | 2,592 | | | 10.25% |
Revolving Credit Facility - Webster | | 7,685 | | | 7.36% | | 8,299 | | | 6.89% |
Total Short-term Revolving Credit Facilities | | $ | 7,685 | | | 7.36% | | $ | 10,891 | | | 7.69% |
eCapital - Star Loan Principal, net | | $ | 709 | | | 11.00% | | $ | 791 | | | 10.50% |
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Short Term Loan | | $ | 709 | | | 11.00% | | $ | 791 | | | 10.50% |
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Total Short-term debt | | $ | 8,394 | | | 7.67% | | $ | 11,682 | | | 7.88% |
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Webster Credit Facility
On March 29, 2019, the Company entered into a Loan and Security Agreement (the “Webster Loan Agreement”) by and among certain subsidiaries of the Company, as borrowers (collectively, the “Webster Borrowers”); the Company, as guarantor; and Sterling National Bank (“Sterling”). On February 1, 2022, Sterling became part of Webster Bank, N.A. (“Webster”), and Webster became the successor in interest to the Webster Loan Agreement. The Webster Loan Agreement was also subject to a limited guarantee by Mr. Eberwein, the Executive Chairman of our board of directors.
The Webster Loan Agreement was a five-year credit facility maturing in March 2024, with a maximum credit amount of $20.0 million for revolving loans (the “Webster Credit Facility”). In connection with the sale of our Healthcare business on May 4, 2023, we paid off the Webster Credit Facility in full, using the proceeds from the sale. Under the Webster Credit Facility, the Webster Borrowers were able to request the issuance of letters of credit in an aggregate amount not to exceed $0.5 million at any one time outstanding. The borrowings under the Webster Loan Agreement were classified as short-term obligations under GAAP as the agreement contains a subjective acceleration clause and required a lockbox arrangement whereby all receipts within the lockbox are swept daily to reduce borrowings outstanding. As of March 31, 2023, the Company had $0.1 million of letters of credit outstanding and had additional borrowing capacity of $0.5 million under the Webster Credit Facility.
At the Webster Borrowers’ option, the Webster Credit Facility bore interest at either (i) a Floating LIBOR Rate, as defined in the Webster Loan Agreement, plus a margin of 2.50% per annum; or (ii) a Fixed LIBOR Rate, as defined in the Webster Loan Agreement, plus a margin of 2.25% per annum. Our floating rate on this facility at March 31, 2023 was 7.36%. The Webster Loan Agreement also provided for unused line fees and restricts the usage of borrowings under the line solely to support the Healthcare businesses, subject to certain limitations.
The Webster Credit Facility was secured by the assets of the Digirad Health businesses.
Financial covenants required that the Webster Borrowers maintain (a) a Fixed Charge Coverage Ratio as of the last day of a fiscal quarter of not less than 1.25 to 1.0 and (b) a Leverage Ratio as of the last day of such fiscal quarter of no greater than 3.50 to 1.0. As of March 31, 2023, we believe that we were in compliance with the covenants under the Webster Loan Agreement.
eCapital Credit Facilities
EBGL
EdgeBuilder and Glenbrook Building Supply, Inc. (“Glenbrook” and, together with EdgeBuilder, collectively the “EBGL Borrowers”) are parties to a Loan and Security Agreement (the “EBGL Loan Agreement”) providing the EBGL Borrowers with a credit facility with eCapital Asset Based Lending Corp. formerly known as Gerber Finance, Inc. (“eCapital” for borrowings up to $4.0 million, subject to certain borrowing base limitations (the “EBGL Loan”). As of March 31, 2023, EBGL had additional borrowing capacity of $2.8 million under the facility. Amounts outstanding bear interest, payable monthly, at the prime rate plus 2.75% and payments of outstanding principal are due in full upon maturity. The facility is subject to annual renewal and is currently set to mature on June 30, 2023 or earlier (as amended in the eleventh amendment to the EBGL Loan Agreement).
Financial covenants require that EBGL maintain (a) net income (as defined in the EBGL Loan Agreement) at least equal to no less than $0 for the trailing 6-month period ending June 30, 2022 and no less than $1,000,000 for the trailing fiscal year ending December 31, 2022 and (b) a reduced minimum EBITDA (as defined in the EBGL Loan Agreement) to be no less than $0 as of June 30, 2022 and no less than $1,000,000 as of the fiscal year ending December 31, 2022.
EBGL was in compliance with the bi-annual financial covenants under the EBGL Loan Agreement measured as of December 31, 2022.
KBS
KBS is a party to a revolving credit facility with eCapital (“KBS Loan Agreement”). The facility, as amended, provides for borrowings up to $4.0 million, subject to certain borrowing base limitations. As of March 31, 2023, KBS had additional borrowing capacity of $1.0 million under the facility. Amounts outstanding bear interest, payable monthly, at the prime rate plus 2.75% and payments of outstanding principal are due in full upon maturity. The facility is subject to annual renewal and is currently set to mature on June 30, 2023 or earlier (as amended in the Twenty First Amendment of the KBS Loan Agreement). The facility is secured by the assets of KBS and borrowings under the line are restricted for use to finance the operations of KBS.
Financial covenants require that KBS maintain (a) net income (as defined in the KBS Loan Agreement) of at least equal to no less than $0 for the trailing 6-month period ending June 30, 2022 and be no less than $500,000 for the trailing fiscal year end and (b) a minimum EBITDA (as defined in the KBS Loan Agreement) no less than $0 as of June 30 and no less than $850,000 as of the fiscal year end.
As of December 31, 2022, KBS was in compliance with the bi-annual financial covenants under the KBS Loan Agreement.
The eCapital credit facilities contain cross-default provisions and subjective acceleration clauses which may, in the event of a material adverse event, as determined by eCapital, allow eCapital to declare the loans immediately due and payable or increase the interest rate. The facilities are also subject to a guaranty by the Company and the Company is responsible for certain facility and other fees.
Borrowings under the eCapital credit facilities are classified as short-term obligations as the agreements contain a subjective acceleration clauses and require a lockbox arrangement whereby all receipts within the lockbox are swept daily to reduce borrowings outstanding.
Term Loan
We and certain of our Investments subsidiaries (collectively, the “Star Borrowers”) are party to a Loan and Security Agreement with eCapital, as successor in interest to Gerber Finance, Inc. (as amended, the “Star Loan Agreement”), which provides for a credit facility with borrowing availability of up to $2.5 million, bearing interest at the prime rate plus 3.5% per annum, and matures on January 31, 2025, unless terminated in accordance with the terms therein (the “Star Loan”).
The following table presents the Star Loan balance, net of unamortized debt issuance costs as of March 31, 2023 (in thousands): | | | | | | | | | | | | |
| | March 31, 2023 | | | | |
| | Amount | | | | |
eCapital - Star Loan Principal | | $ | 770 | | | | | |
| | | | | | |
| | | | | | |
Unamortized debt issuance costs | | (61) | | | | | |
eCapital - Star Loan Principal, net | | $ | 709 | | | | | |
The Star Loan, as amended, requires monthly payments of principal of $33 thousand plus interest at the prime rate plus 3% per annum through the earlier of maturity in January 2025 or the termination, maturity or repayment of any Obligations held with eCapital (as amended in the fourth amendment to the Star Loan Agreement).
The Star Loan is secured by the assets of SRE, 947 Waterford Road, LLC, 300 Park Street, LLC and 56 Mechanic Falls Road, LLC and guaranteed by the Company. The Star loan is subject to certain annual financial covenants. The financial covenants under the Star Loan Agreement include maintenance of a Debt Service Coverage Ratio of not less than 1:00 to 1:00, as defined in the Star Loan Agreement. The occurrence of any event of default under the Star Loan Agreement may result in the obligations of the Star Borrowers becoming immediately due and payable. As of December 31, 2022, no event of default was deemed to have occurred and the Star Borrowers were in compliance with the annual financial covenants under the Star Loan Agreement measured as of December 31, 2022.
The outstanding balance is classified as a short-term obligation as a result of the acceleration clauses within the EBGL and KBS credit facility and the cross-default provisions.
Note 8. Commitments and Contingencies
In the normal course of business, we have been and will likely continue to be subject to other litigation or administrative proceedings incidental to our business, such as claims related to compliance with regulatory standards, customer disputes, employment practices, wage and hour disputes, product liability, professional liability, malpractice liability, commercial disputes, licensure restrictions or denials, and warranty or patent infringement. Responding to litigation or administrative proceedings, regardless of whether they have merit, can be expensive and disruptive to normal business operations. We are not able to predict the timing or outcome of these matters and currently do not expect that the resolution of these matters will have a material adverse effect on our financial position or results of operations.
The outcome of litigation and the amount or range of potential loss at particular points in time may be difficult to ascertain. Among other things, uncertainties can include how trial and appellate courts will apply the law and interpret facts, as well as the contractual and statutory obligations of other indemnifying and insuring parties. The estimated range of reasonably possible losses, and their effect on our financial position is based upon currently available information and is subject to significant judgment and a variety of assumptions, as well as known and unknown uncertainties.
Note 9. Income Taxes
We provide for income taxes under the asset and liability method. This approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of differences between the tax basis of assets or liabilities and their carrying amounts in the financial statements. We provide a valuation allowance for deferred tax assets if it is more likely than not that these items will expire before we are able to realize their benefit. We calculate the valuation allowance in accordance with the authoritative guidance relating to income taxes, which requires an assessment of both positive and negative evidence regarding the realizability of these deferred tax assets, when measuring the need for a valuation allowance. Significant judgment is required in determining any valuation allowance against deferred tax assets. We continue to record a full valuation allowance against our deferred tax assets and intend to maintain a valuation allowance until sufficient positive evidence exists to support its reversal.
Intraperiod tax allocation rules require us to allocate our provision for income taxes between continuing operations and other categories of comprehensive income, such as discontinued operations.
For the three months ended March 31, 2023, we recorded no income tax expense. For the three months ended March 31, 2022, we recorded $950 thousand income tax expense. The tax expense for the three months ended March 31, 2022 primarily relates to a January 2022 ownership change under Section 382 of the Internal Revenue Code of 1986, as amended (the “Code”) which required us to establish an additional valuation allowance on net operating losses that the Company cannot utilize in the future.
As of March 31, 2023, we had unrecognized tax benefits of approximately $2.4 million related to uncertain tax positions. Included in the unrecognized tax benefits were $2.0 million of tax benefits that, if recognized, would reduce our annual effective tax rate, subject to the valuation allowance.
We file income tax returns in the U.S. and in various state jurisdictions with varying statutes of limitations. We are no longer subject to income tax examination by tax authorities for years prior to 2018; however, our net operating loss carryforwards and research credit carryforwards arising prior to that year are subject to adjustment. Our policy is to recognize interest expense and penalties related to income tax matters as a component of income tax expense.
Note 10. Segments
Our reportable segments are based upon our internal organizational structure; the manner in which our operations are managed; the criteria used by our Chief Executive Officer, who is our Chief Operating Decision Maker (“CODM”), to evaluate segment performance; the availability of separate financial information; and overall materiality considerations. Prior to the sale of our Healthcare business on May 4, 2023, our three business divisions were organized into the following three reportable segments to reflect the manner in which our CODM assesses performance and allocates resources:
1.Healthcare
2.Construction
3.Investments
Segment information for three months ended March 31, 2023 and 2022 is as follows (in thousands):
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended March 31, | | |
| | 2023 | | 2022 | | | | |
Revenue by segment: | | | | | | | | |
Healthcare | | $ | 13,359 | | | $ | 13,418 | | | | | |
Construction | | 12,346 | | | 11,631 | | | | | |
Investments | | 158 | | | 158 | | | | | |
Intersegment elimination | | (158) | | | (158) | | | | | |
Consolidated revenue | | $ | 25,705 | | | $ | 25,049 | | | | | |
| | | | | | | | |
Gross profit (loss) by segment: | | | | | | | | |
Healthcare | | $ | 3,327 | | | $ | 3,176 | | | | | |
Construction | | 4,329 | | | 1,586 | | | | | |
Investments | | 95 | | | 59 | | | | | |
Intersegment elimination | | (158) | | | (158) | | | | | |
Consolidated gross profit | | $ | 7,593 | | | $ | 4,663 | | | | | |
| | | | | | | | |
Income (loss) from operations by segment: | | | | | | | | |
Healthcare | | $ | 579 | | | $ | 78 | | | | | |
Construction | | 1,782 | | | (759) | | | | | |
Investments | | (19) | | | 59 | | | | | |
Corporate, eliminations and other | | (1,612) | | | (1,933) | | | | | |
Segment income (loss) from operations | | $ | 730 | | | $ | (2,555) | | | | | |
| | | | | | | | |
Depreciation and amortization by segment: | | | | | | | | |
Healthcare | | $ | 272 | | | $ | 315 | | | | | |
Construction | | 505 | | | 487 | | | | | |
Investments | | 63 | | | 99 | | | | | |
Star Equity corporate | | 4 | | | — | | | | | |
Total depreciation and amortization | | $ | 844 | | | $ | 901 | | | | | |
Note 11. Related Party Transactions
Star Equity Holdings, Inc.
On December 10, 2021, the Company entered into a securities purchase agreement with its Executive Chairman, Jeffrey E. Eberwein, relating to the issuance and sale of 650,000 shares of the Company’s common stock, par value $0.0001 per share (the “Common Stock”) at a purchase price of $3.25 per share pursuant to a private placement. As of March 31, 2023, Mr. Eberwein owned 2,983,685 shares of Common Stock, representing approximately 19.64% of our outstanding Common Stock. In addition, as of March 31, 2023, Mr. Eberwein owned 1,222,458 shares of Series A Preferred Stock.
Note 12. Perpetual Preferred Stock
Holders of shares of our Series A Preferred Stock are entitled to receive, when, as and if, authorized by the Company’s board of directors (or a duly authorized committee of the Company’s board of directors) and declared by the Company out of funds legally available for the payment of dividends, preferential cumulative cash dividends at the rate of 10.0% per annum of the liquidation preference of $10.00 per share. Dividends are payable quarterly, in arrears, by the last calendar day of March, June, September and December to holders of record at the close of business on the first day of each payment month. The Series A Preferred Stock is not convertible and does not have any voting rights, except when dividends are in arrears for six or more consecutive quarters, then the holders of those shares together with holders of all other series of preferred stock equal in rank will be entitled to vote separately as a class for the election of two additional directors to board of directors, until all dividends accumulated on such shares of Series A Preferred Stock for the past dividend periods and the dividend for the current dividend period shall have been fully paid or declared and a sum sufficient for the payment thereof set apart for payment. Under change of control or other conditions, the Series A Preferred Stock may be subject to redemption. The Company may redeem the Series A Preferred Stock upon the occurrence of a change of control, subject to certain conditions. The Company may also voluntarily redeem some or all of the Series A Preferred Stock on or after September 10, 2024.
On February 17, 2023, our board of directors declared a cash dividend to holders of our Series A Preferred Stock of $0.25 per share, for an aggregate amount of approximately $0.5 million. The record date for this dividend was March 1, 2023, and the payment date was March 10, 2023. As of March 31, 2023, we have no preferred dividends in arrears.
Note 13. Equity Transactions
On January 24, 2022, we closed an underwritten public offering (the “2022 Public Offering”) pursuant to an underwriting agreement with Maxim Group LLC (“Maxim”), as representative of the underwriters. Through the 2022 Public Offering, we issued and sold (A)(i) 9,175,000 shares of the Company’s Common Stock, (ii) an aggregate of 325,000 pre-funded warrants to purchase up to an aggregate of 325,000 shares of Common Stock, and (iii) an aggregate of 9,500,000 common stock purchase warrants (the “Firm Purchase Warrants”) to purchase up to 9,500,000 shares of Common Stock and (B) at the election of Maxim, (i) up to an additional 1,425,000 shares of Common Stock and/or (ii) up to an additional 1,425,000 shares of common stock purchase warrants (the “Option Purchase Warrants”, and together with the Firm Purchase Warrants, the “Warrants”). Maxim partially exercised its over-allotment option for the purchase of 1,425,000 Warrants for a price of $0.01 per Warrant. Each share of common stock (or pre-funded warrant in lieu thereof) was sold together with one common warrant to purchase one share of common stock at a price of $1.50 per share and common warrant. Gross proceeds, before deducting underwriting discounts and offering expenses and excluding any proceeds we may receive upon exercise of the Warrants, were $14.3 million and net proceeds were $12.7 million.
In addition, as part of the 2022 Public Offering, the Company issued to Maxim 237,500 common stock purchase warrants (the “Underwriter’s Warrants”) to purchase up to 237,500 shares of Common Stock at an exercise price of $1.65 per common warrant. The Underwriter’s Warrants have an initial exercise date beginning July 19, 2022.
As of March 31, 2023, of the warrants issued through the public offering we closed on May 28, 2020 (the “2020 Public Offering”), 1.0 million warrants were exercised and 1.4 million warrants remained outstanding, which represents 0.7 million shares of common stock equivalents, at an exercise price of $2.25. As of March 31, 2023, of the Warrants issued through the 2022 Public Offering, there were 10.9 million Warrants and 0.3 million prefunded warrants outstanding at an exercise price of $1.50 and $0.01, respectively. The Underwriter’s Warrants have not been exercised.
Note 14. Preferred Stock Rights
On June 2, 2021, the board of directors adopted a tax benefit preservation plan in the form of a Section 382 Rights Agreement (the “382 Agreement”). The 382 Agreement is intended to diminish the risk that our ability to use our net operating loss carryforwards to reduce future federal income tax obligations may become substantially limited due to an “ownership change,” as defined in Section 382 of the Code. The board of directors authorized and declared a dividend distribution of one right for each outstanding share of common stock, par value $0.0001 per share, to stockholders of record as of the close of business on June 14, 2021. Each right entitles the registered holder to purchase from the one one-thousandth of a share of Series C Participating Preferred Stock, par value $0.0001 per share (the “Series C Preferred Stock”), at an exercise price of $12.00 per one one-thousandth of a share of Series C Preferred Stock, subject to adjustment.
The rights will become exercisable following (i) 10 days after a public announcement that a person or group has become an Acquiring Person (as defined in the 382 Agreement); and (ii) 10 business days (or a later date determined by the board of directors) after a person or group begins a tender or an exchange offer that, if completed, would result in that person or group becoming an Acquiring Person.
In addition, upon the occurrence of certain events, the exercise price of the rights would be adjusted and holders of the rights (other than rights owned by an acquiring person or group) would be entitled to purchase common stock at approximately half of market value. Given the potential adjustment of the exercise price of the rights, the rights could cause substantial dilution to a person or group that acquires 4.99% or more of common stock on terms not approved by the board of directors.
No rights were exercisable at March 31, 2023. There is no impact to financial results as a result of the adoption of the 382 Agreement for the three months ended March 31, 2023.
Note 15. Variable Interest Entity
VIE in which we are not the Primary Beneficiary
We have an investment in a variable interest entity (“VIE”) of $0.3 million, recorded in Other Assets, in which we are not the primary beneficiary. This VIE is a small private company that is primarily involved in research related to new heart imaging technologies.
We have determined that the governance structures of this entity do not allow us to direct the activities that would significantly affect its economic performance. Therefore, we are not the primary beneficiary, and the results of operations and financial position of the VIE are not included in our condensed consolidated financial statements. We account for this investment as non-marketable equity securities which is valued at cost less impairment.
The potential maximum exposure of this unconsolidated VIE is generally based on the current carrying value of the investments and any future funding commitments based on the milestone agreement and board approval. We have determined that the single source of our exposure to the VIE is our capital investment in them. The carrying value and maximum exposure of the unconsolidated VIE were $0.3 million as of March 31, 2023. As of March 31, 2023, we performed a qualitative assessment on the carrying value via inquiries with the board of directors and a review of the entity’s financial statements and determined that there have not been any impairment indicators to the carrying value.
Note 16. Subsequent Events
On May 4, 2023, the Company entered into a Stock Purchase and Contribution Agreement (the “Purchase Agreement”), dated as of May 4, 2023 (the “Closing Date”), by and among the Company, Digirad Health Inc., a Delaware corporation and wholly owned subsidiary of the Company (“Digirad Health”), TTG Imaging Solutions, LLC., a Pennsylvania limited liability company (the “Buyer”), and the Buyer’s Parent, Insignia TTG Parent LLC, a Delaware limited liability company (the “Parent”). Pursuant to the Purchase Agreement, (i) the Buyer purchased 85% of the issued and outstanding shares of Digirad Health, on the terms and subject to the conditions set forth therein and (ii) the Company contributed to Parent 15% of the issued and outstanding shares of stock of Digirad Health (the “Contributed Shares”) in exchange for New Units (as defined in the Purchase Agreement) of Parent (the “Transaction”). The total aggregate consideration payable to the Company for the Transaction is $40 million, comprised of $27 million in cash, a $7 million promissory note, and $6 million of New Units in the Parent. The Company completed the sale of Digirad Health simultaneously with entering into the Purchase Agreement. The Purchase Agreement contains representations, warranties and covenants of the Company and Digirad Health that are customary for a transaction of this nature. The Purchase Agreement also contains indemnification obligations of the parties thereto. Pursuant to the Purchase Agreement, the Company has made a 336(e) election under the Code. In accordance with GAAP (ASC 205-20-45-1E), the Company evaluated the requirements needed to record the Digirad Health assets and liabilities as held-for-sale noting that for Q1 2023 “held and used” accounting was appropriate.
Concurrent with the Transaction, the Company terminated its debt with Webster by paying in full all amounts due at the Closing Date of the Transaction, which approximated $8.7 million. As a result of the Transaction, the Company no longer has a Healthcare division as of May 4, 2023.
On April 28, 2023, the Company gave notice to eCapital that it would not be renewing its credit facilities upon the expiry of the current extension to June 30, 2023. The Company paid in full all amounts outstanding on May 9, 2023 totaling approximately $0.8 million. The Company cancelled all eCapital credit facilities on May 9, 2023.