STLY Stanley Furniture Company Inc (QB)

These unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete annual financial statements. However, the Company (as defined below) believes that the disclosures made are adequate for a fair presentation of results of operations and financial position. In addition, the year-end consolidated balance sheet was derived from audited financial statements but does not include all disclosures required by U.S. GAAP. In the opinion of the Company, these statements include all adjustments necessary for a fair presentation of the results of all interim periods reported herein. All such adjustments are of a normal recurring nature. Operating results for the interim periods reported herein may not be indicative of the results expected for the year. These consolidated financial statements should be read in conjunction with the financial statements and accompanying notes included in the Company’s latest Annual Report on Form 10-K filed with the SEC on March 28, 2024 (the “2023 Form 10-K”).

HG Holdings, Inc. (together with its consolidated subsidiaries, the “Company,” “we,” ‘us” or “our”), operates through its subsidiaries, National Consumer Title Insurance Company (“NCTIC”), National Consumer Title Group, LLC (“NCTG”), Title Agency Ventures, LLC (“TAV”), HG Managing Agency, LLC (“HGMA”), Omega National Title Agency, LLC (“ONTA” or “Omega”), Omega National Title of Florida, LLC (“ONF”) and Omega National Title of Pensacola, LLC (“ONP”), and through an affiliated investment in HC Government Realty Trust, Inc., a Maryland corporation (“HC Realty”).

Description of the Business

Title Insurance

The Company engages in issuing title insurance through its subsidiary, NCTIC, and providing title agency services through its subsidiaries, NCTG, TAV, ONTA, ONF and ONP. Through NCTIC, the Company underwrites title insurance for owners and mortgagees as the primary insurer. The Company mainly provides title insurance services in the state of Florida.

Title insurance protects against loss or damage resulting from title defects that affect real property. When real property is conveyed from one party to another, occasionally there is an undisclosed defect in the title or a mistake or omission in a prior deed, will or mortgage that may give a third party a legal claim against such property. If a covered claim is made against real property, title insurance provides indemnification against insured defects. There are two basic types of title insurance policies – one for the mortgage lender and one for the real property owner. A lender often requires the property owner to purchase a lender’s title insurance policy to protect its position as a holder of a mortgage loan, but the lender’s title insurance policy does not protect the property owner. The property owner has to purchase a separate owner’s title insurance policy to protect its investment.

NCTIC issues title insurance policies through its home office and through a network of affiliated and independent title agents. In the state of Florida, issuing agents are independent agents or subsidiaries of community and regional mortgage lending institutions, depending on local customs and regulations. The ability to attract and retain issuing agents is a key determinant of the Company’s growth in title insurance premiums written.

Revenues for the title insurance segment primarily result from purchases of new and existing residential and commercial real estate, refinance activity and certain other types of mortgage lending such as home equity lines of credit. Title insurance premiums vary from state to state and are subject to extensive regulation. Statutes generally provide that rates must not be excessive, inadequate or unfairly discriminatory. The process of implementing a rate change in most states involves pre-approval by the applicable state insurance regulator.

The substantial majority of the Company's title insurance business is dependent upon the overall level of residential and commercial real estate activity and mortgage markets, which are cyclical and seasonal. Residential purchase activity is typically slower in the winter months with increased volumes in the spring and summer months and is sensitive to interest rates. Refinance activity is not seasonal, but is generally correlated with changes in interest rates and general economic cycles. Commercial real estate volumes are less sensitive to changes in interest rates than residential real estate volumes, but fluctuate based on local supply and demand conditions and financing availability. Commercial real estate historically has elevated activity towards the end of the year. However, changes in general economic conditions in the United States and abroad can cause fluctuations in these traditional patterns of real estate activity, and changes in the general economic conditions in a geography can cause fluctuations in these traditional patterns of real estate activity in that geography. The Company’s revenues from title insurance premiums in future periods are likely to fluctuate due to these and other factors which are beyond management’s control.

In conducting its title insurance operations, the Company often holds customers’ assets in escrow, pending completion of real estate transactions. This cash is presented as restricted cash on the Company’s Consolidated Balance Sheets. The Company records an offsetting escrow liability given that we are liable for the disposition of these escrowed funds.

Real Estate

The Company engages in rental real estate through its equity investment in HC Realty. HC Realty is an internally-managed real estate investment trust (“REIT”) focused on acquiring, developing, financing, owning and managing build-to-suit or renovate-to-suit, single-tenant properties leased primarily to the U.S. government and administered by the U.S. General Services Administration or directly by the federal government agencies or sub-agencies occupying such properties (referred to as “Government Properties”). HC Realty invests primarily in Government Properties ranging from 10,000 to 100,000 rentable square feet that are in their initial lease term after original construction or renovation-to-suit. HC Realty further emphasizes Government Properties that perform law enforcement, public service or other functions that support the mission of the agencies or sub-agencies occupying such properties. Leases associated with the Government Properties in which HC Realty invests are full faith and credit obligations of the United States of America. HC Realty intends to grow its portfolio primarily through direct acquisitions and development of Government Properties; although, HC Realty may elect to invest in Government Properties through indirect investments, such as joint ventures.

The Company currently owns 250 shares of HC Realty’s Common Stock (the “HC Common Stock”) and 1,025,000 shares of HC Realty’s 10.00% Series B Cumulative Convertible Preferred Stock (the “HC Series B Stock”). As of June 30, 2024, the Company owns approximately 28.0% of the voting interest of HC Realty. In June 2024, HC Realty effected a one (1) for one thousand two hundred (1,200) reverse stock split of its common stock, which resulted in a reduction in the number of our shares of HC Common Stock from 300,000 to 250. 

As of June 30, 2024, HC Realty owned 35 Government Properties, comprised of 33 Government Properties that it owns and two Government Properties that it owns subject to a ground lease, each of which is leased to the United States government and occupied by tenant agencies and sub-agencies such as the Federal Bureau of Investigation, the Department of Veterans Affairs, the Drug Enforcement Administration, the Immigration & Customs Enforcement, the Social Security Administration and the Department of Transportation. HC Realty’s portfolio properties contain approximately 663,000 leased rentable square feet located in 22 states. As of June 30, 2024, its portfolio properties are 98% leased to the United States government and occupied by 12 different federal government agencies. Based on leased rentable square feet, the portfolio has a weighted average remaining lease term of 9.1 years if none of the tenants’ early termination rights are exercised and 5.4 years if all of the tenants’ early termination rights are exercised.

Reinsurance

The Company, through the formation of White Rock USA Cell 47, previously engaged in providing another insurance company excess-of-loss reinsurance coverage related to catastrophic weather risk in Texas. The Company did not have any reinsurance contracts in-force during the six-month periods ended June 30, 2024 and June 30, 2023; however, the Company may actively look to provide reinsurance coverage to other carriers as future opportunities arise.

Management Advisory Services

The Company, through its wholly-owned subsidiary, HGMA, engages in providing various management advisory services such as legal entity formation, licensure, regulatory approval, assumption of policies, and other general operational services.

Effective January 1, 2024, the Company, through HGMA, is engaged to provide management advisory services to a related captive managing general agency, HP Managing Agency, LLC ("HPMA"), and its affiliates, including but not limited to general management, legal compliance, strategy services and review of potential acquisitions and transactions. The engagement is for twelve months from January 1, 2024 through December 31, 2024, for a monthly fee of $200,000. HPMA is a related party of the Company as it is controlled by Steven A. Hale II, who serves as our Chairman, Chief Executive Officer and Director. 

Effective April 1, 2023, the Company, through HGMA, was engaged to provide management advisory services to a related captive managing general agency, HPMA, regarding its affiliated entity's anticipated assumption of policies from Citizens Property Insurance Company. The services included underwriting, modeling, and advising on the subset of potential policies selected for the proposed assumption. The engagement was for six months from April 1, 2023 at a monthly fee of $200,000, and was renewed effective October 1, 2023 for an additional three months. The engagement expired in accordance with its terms on December 31, 2023. 

Effective April 1, 2023, the Company, through HGMA, was also engaged to provide management advisory services to a related reinsurance intermediary affiliated with HPMA. The services include legal entity formation, licensure, regulatory approval, and other general operational services to allow the intermediary to adequately perform its business functions. The engagement was initially for twelve months from April 1, 2023 at a monthly fee of $50,000, and has been renewed effective April 1, 2024 for an additional nine months.

For information about our reportable segments, refer to Note 9, Segment Information.   

During the six months ended June 30, 2024, there have been no material changes to the Company’s significant accounting policies as described in its 2023 Form 10-K.

The following table summarizes the Company’s investment in HC Realty as of June 30, 2024 and  December 31, 2023 and for the three and six months ended June 30, 2024 and 2023 (dollar amounts in thousands):

The Company’s investment in HC Common Stock is accounted for under the equity method of accounting as the Company has concluded it has a significant influence over the investee. The HC Series B Stock is not deemed to be in-substance common stock and is accounted for under the cost adjusted for market observable events less impairment method. Both investments in HC Common Stock and HC Series B Stock are evaluated quarterly for impairment. During the three and six months ended June 30, 2024 and 2023, the Company did not recognize any impairments of HC Series B Stock. During the three- and six-month periods ended June 30, 2024, the Company recognized an impairment of HC Common Stock in the amount of $241,000. There were no impairments of HC Common Stock recognized during the three- and six-month periods ended June 30, 2023.

As a result of the Company’s holding in HC Realty, the Company includes the following summarized income statement information of HC Realty for the three and six months ended June 30, 2024 and 2023 (in thousands):

The Company’s other investments in related parties totaled $282,000 as of both  June 30, 2024 and December 31, 2023, and include investments in limited liability companies and corporations. These investments do not meet the criteria for accounting under the equity method and are accounted for under the cost adjusted for market observable events less impairment method. As of June 30, 2024, the Company had total receivables from these related parties of $26,000 and payables of $60,000. As of December 31, 2023, the Company had total receivables and payables from these related parties of $27,000 and $73,000, respectively. During the three- and six-month periods ended June 30, 2024, the Company received $200,000 of distributions from other investments in related parties, which are included in “(Loss) income from investments in related parties, net” in the Unaudited Consolidated Statements of Operations. No distributions were received from other investments in related parties during the three- and six-month periods ended June 30, 2023.   

The following table details investments by major investment category, other than investments in related parties, at June 30, 2024 and December 31, 2023 (in thousands):

Held-to-Maturity

The following tables provide the amortized cost, gross unrealized investment gains (losses), and fair value of the Company’s held-to-maturity securities as of June 30, 2024 and December 31, 2023 (in thousands):

The table below summarizes our fixed-income securities at  June 30, 2024 (dollars in thousands) by contractual maturity periods. Actual results may differ as issuers may have the right to call or prepay obligations, with or without penalties, prior to the contractual maturities of those obligations.

Fair value measurement

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The hierarchy for inputs used in determining fair value maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Assets and liabilities recorded on our Unaudited Consolidated Balance Sheets at fair value are categorized in the fair value hierarchy based on the observability of inputs to the valuation techniques as follows:

Level 1: Assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market that we can access.

Level 2: Assets and liabilities whose values are based on the following:

a.    Quoted prices for similar assets or liabilities in active markets;

b.    Quoted prices for identical or similar assets or liabilities in markets that are not active; or

c.    Valuation models whose inputs are observable, directly, or indirectly, for substantially the full term of the asset or liability.

Level 3: Assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. Unobservable inputs reflect our estimates of the assumptions that market participants would use in valuing the assets and liabilities.

Where available, we estimate the fair value of our investments using the closing prices on the last business day of the reporting period, obtained from active markets such as the New York Stock Exchange, Nasdaq and NYSE American. For securities for which quoted prices in active markets are unavailable, we use a third-party pricing service that utilizes quoted prices in active markets for similar instruments, benchmark interest rates, broker quotes and other relevant inputs to estimate the fair value of those securities for which quoted prices are unavailable.

Our fixed-income securities are classified as held-to-maturity and are reported at amortized cost as of June 30, 2024 and December 31, 2023. The Company performs ongoing impairment evaluations, and we did not record any current expected credit losses (CECL) during the three or six months ended June 30, 2024 and 2023, as U.S. government and agency securities are assumed to have no risk of non-payment.

The disclosed fair value of our fixed-income securities is initially calculated by a third-party pricing service. Valuation service providers typically obtain data about market transactions and other key valuation model inputs from multiple sources and, through the use of proprietary models, produce valuation information in the form of a single fair value for individual fixed-income and other securities for which a fair value has been requested. The inputs used by the valuation service providers include, but are not limited to, market prices from recently completed transactions and transactions of comparable securities, interest rate yield curves, credit spreads, liquidity spreads, currency rates and other information, as applicable. Credit and liquidity spreads are typically implied from completed transactions and transactions of comparable securities. Valuation service providers also use proprietary discounted cash flow models that are widely accepted in the financial services industry and similar to those used by other market participants to value the same financial information. The valuation models take into account, among other things, market observable information as of the measurement date, as described above, as well as the specific attributes of the security being valued, including its term, interest rate, credit rating, industry sector and, where applicable, collateral quality and other issue or issuer specific information. Executing valuation models effectively requires seasoned professional judgment and experience.

The following tables present fair value, by valuation hierarchy, and carrying value of the financial instruments not measured at fair value for which fair value is disclosed as of June 30, 2024 and December 31, 2023 (in thousands):

The Company has elected the practical expedient for fair value for its investment in limited partnership which is estimated based on our share of the net asset value (“NAV”) of the limited partnership, as provided by the independent fund administrator. The Company’s share of the NAV represents the Company’s proportionate interest in the members’ equity of the limited partnership.

The Company’s investments in related parties are accounted for either under the equity method of accounting or, where they do not meet the criteria of accounting under the equity method, under the cost adjusted for market observable events less impairment method. For information about the Company’s investments in related parties, refer to Note 3, Investments in Related Parties.

Net investment income

Net investment income for the three or six months ended June 30, 2024 and 2023 is detailed below (in thousands):

On September 6, 2018, the Company entered into a Subordinated Secured Promissory Note in the principal amount of $4.4 million (the “S&L Note”) with Stone & Leigh, LLC (“S&L”). The S&L Note matured on March 2, 2023, at which time the total principal amount became due. Interest on the S&L Note accrues at a fixed rate of 10% per annum. No cash interest payments were accrued or received during the three or six months ended June 30, 2024 and 2023.

As a result of the Company’s recording of impairment losses in prior quarters, based on current information and events, including the impact of COVID-19 on S&L’s business and its customers, the Company fully impaired the S&L Note as of December 31, 2022. Upon maturity on March 2, 2023, S&L informed the Company that it will not be able to pay the Company any amounts outstanding including principal or interest due. Any future recoveries from S&L, if any, will be recognized as Other Income on the Company’s Unaudited Consolidated Statements of Operations when the recoveries are recognized.

NCTIC’s reserves for unpaid losses and loss adjustment expenses are established using estimated amounts required to settle claims for which notice has been received (reported) and the amount estimated to be required to satisfy claims that have been incurred but not yet reported (“IBNR”). Despite the variability of such estimates, management believes that the total reserve for claims is adequate to cover claim losses which might result from pending and future claims under title insurance policies issued through June 30, 2024. We continually update loss reserve estimates as new information becomes known, new loss patterns emerge or as other contributing factors are considered and incorporated into the analysis of reserve for claim losses. Due to the uncertainty inherent in the process and to the judgment used by management, the ultimate liability may be greater or less than our current reserves. If actual claims loss development varies from what is currently expected and is not offset by other factors, it is possible that additional reserve adjustments may be required in future periods in order to maintain our recorded reserve within a reasonable range of our actuary's central estimate.

A reconciliation of the activity in the reserves account for the six-month periods ended June 30, 2024 and 2023 is as follows (in thousands): 

At June 30, 2024, there were no reinsurance recoverables on paid claims or unpaid reserves.

For the six months ended June 30, 2024, there was no development of the net provision for claims attributable to insured events of the prior year as a result of estimation of the reserve for claims. Original estimates of ultimate loss exposures are decreased or increased as additional information becomes known during the adjustment process regarding individual claims.

A summary of the Company’s loss reserves at June 30, 2024 and December 31, 2023 is as follows (in thousands):