Participants

Rick Coleman; CEO; Star Equity Holdings, Inc.

Dave Noble; CFO; Star Equity Holdings, Inc.

Jeff Eberwein; Executive Chairman; Star Equity Holdings, Inc.

Tate Sullivan; Analyst; Maxim Group LLC

Theodore O'Neill; Analyst; Litchfield Hills Research LLC

John Oberhauser

Al Hill

Presentation

Operator

Greetings, ladies and gentlemen, and welcome to Star Equity Holdings Inc.'s Fourth Quarter 2023 Results Conference Call.
Please be advised that the discussion on today's call may include forward-looking statements. Such forward-looking statements involve certain risks and uncertainties that may cause actual results to differ materially from those contained in the forward-looking statements. Please refer to Star Equity's most recent 10-K and 10-Q filings for a more complete description of risk factors that could affect these projections and assumptions. The company assumes no obligation to update forward-looking statements as a result of new information, future events, or otherwise.
Please also note that on this call, management will reference non-GAAP financial measures, including EBITDA, adjusted EBITDA, adjusted net income, and adjusted earnings per share, which are all financial measures not recognized under US GAAP. As required by SEC rules and regulations, these non-GAAP financial measures are reconciled to their most comparable GAAP financial measures in our earnings release issued this morning. (Operator Instructions)
It is now my pleasure to introduce Rick Coleman, Chief Executive Officer of Star Equity.

Rick Coleman

Thank you, operator. Good morning, and thank you all for joining us today for our fourth quarter 2023 results conference call. On the call with me today are Executive Chairman Jeff Eberwein and Chief Financial Officer Dave Noble.
In the fourth quarter of 2023, our construction revenue and gross profit declined compared to the fourth quarter of 2022. However, for the full year 2023, strong pricing discipline and an improved business mix resulted in year-over-year construction gross margin improvement from 21.6% to 26%. Credit tightening in the second half of 2023 was a contributing factor and caused delays and shown commercial projects, pushing revenue into 2024 and in some cases, indefinitely.
However, single-family residential activity and our overall backlog and sales pipeline indicate continued pent-up demand, although the timing continues to be tempered by ongoing interest rate sensitivity. We believe this is a temporary situation and are continuing our focus on the niche markets where we've built significant expertise and a strong reputation, including affordable and workforce housing, educational buildings and dormitories, and environmentally sustainable housing. In these markets, we feel our experience and reputation gave us a sustainable competitive advantage. Based on our sales pipeline, we believe demand in all of these sectors will remain strong.
We also have continued conviction in the ongoing growth of factory build construction in the United States, which according to Modular Building Institute's most recent report, now accounts for 6% of all new construction starts in North America, having tripled from 2% in 2015.
Despite lower revenue in 2023 versus 2022, we achieved and continue to maintain our mid 20s gross margin target for our construction division. Sustained execution quality has contributed to the division's ability to maintain pricing levels and has contributed to the division's gross margin improvement. We remain confident in the division's ability to maintain strong gross margins as revenues recover amid a stronger macroeconomic backdrop.
Lastly, we closed the accretive Big Lake Lumber bolt-on acquisition in the fourth quarter and have successfully integrated it into our Glenbrook operation. As Dave will discuss, our balance sheet is strong, and we have ample cash to expand our business. During the coming quarters, we will continue to evaluate construction division acquisition opportunities to augment our focus on sustainable organic growth. We will also examine potential acquisitions in new industries and explore opportunities in our investments division.
Now I'll turn the call over to Dave Noble, our CFO, who will provide additional fourth quarter consolidated financial highlights. Dave, please go ahead.

Dave Noble

Thank you, Rick, and good morning. Let's move on to Star Equity's consolidated results. In Q4 2023, SG&A decreased by $1 million or 23.8% versus Q2 in '22. As a percentage of revenue, SG&A decreased in Q4 to 22.8% versus 23.9% in Q4 of 2022.
In Q4, we generated net income from continuing operations of $1.8 million versus net income from continuing operations of $0.9 million in Q4 of '22. Non-GAAP adjusted net income from continuing operations in Q4 was a negative $0.4 million. This compares to adjusted net income of $0.5 million in Q4 of 2022. Non-GAAP adjusted EBITDA from continuing operations decreased to a negative $0.1 million in Q4 from a positive $0.9 million from Q4 of '22.
Segment non-GAAP adjusted EBITDA at our construction division decreased to $0.7 million in Q4 this year, down from $2.9 million in Q4 of '22. Despite some economic headwinds which impacted our construction revenue all year, we continue to make progress across this operating segment in 2023. For the full year, our construction gross margins were 26.5% versus 22.2% in 2022. We also closed a bolt-on acquisition in this segment in Q4, as Rick mentioned, which will bolster revenues in 2024. Construction non-GAAP adjusted EBITDA for 2023 was $4.4 million versus $6.3 million in 2022.
As of December 31, 2023, our consolidated balance sheet and liquidity were strong. The outstanding balance on our interest-bearing debt was $2 million, while our cash balance stood at $18.3 million.
Now I'd like to turn the call over to the operator for questions.

Question and Answer Session

Operator

(Operator Instructions) Tate Sullivan, Maxim Group.

Tate Sullivan

Can you talk about the lumber yard acquisition a bit more? Are you selling the products mostly to outside customers and both your legacy Glenbrook operations? And if so, what is the relative mix, if you can address?

Dave Noble

Sure, yeah, I'll take that. So that acquisition was, as you mentioned, in the lumber yard arena. So it's a building products distribution business to mainly professional builders. And it's very similar to the existing Glenbrook piece of our edge builder business, right? So our edge builder business already had a distribution business and also manufactures wall panels, so we're just expanding the geography of coverage for our building product's distribution business. It's just tuck-in to that. And that's called Glenbrook. That's the brand name. So we no longer have the Big Lake brand name, we've merged that into Glenbrook and just expanded that distribution business.

Tate Sullivan

Thank you. And then on other income lines of about approximately $1.4 million, is that all of our markets, mostly mark to market for your investments?

Rick Coleman

I think it's also the gain.

Dave Noble

Yeah, a gain. We sold a factory that we were not using midyear last year. And we also got some one-time rebates on some prior-year insurance policies.

Tate Sullivan

Okay. So that's a lot of actual cash. Your niche markets, I think you mentioned the affordable housing, student housing environment. And is it pockets of New England or spread across New England? This strength that you mentioned?

Dave Noble

Yeah. I mean throughout New England, I mean, a lot of the activity, as you can imagine, is in and around the Boston area, that's the most density of population. But we operate all across New England, primarily Massachusetts, New Hampshire, Maine, but we will produce projects in any of the New England states.

Tate Sullivan

Okay. Thank you, David.

Operator

Theodore O'Neill, Litchfield Hills Research.

Theodore O'Neill

Thanks very much and congratulations on a good quarter. Rick, this question, I've been meaning to ask this for months. The workforce housing project on Nantucket, are you building housing and shipping it to the island? How does that work?

Dave Noble

Go ahead, Rick.

Rick Coleman

Dave, you want to take that one?

Dave Noble

Yeah, I mean, yes, it's modular housing, so we build it in our factory in Maine and we truck it down to a port, put it on a barge, and then move it over to the island, and that is trucked to the site, and the local developer or local general contractor will button it up and finish the project.

Jeff Eberwein

This is Jeff. I would add that we're seeing a trend where there is a really strong focus on solving workforce housing problems, Nantucket, Cape Cod, Martha's Vineyard, parts of Boston. It's gotten very expensive for their workforce. There's no place for them to live, so they have to travel a really long way to work. And so workforce housing solutions has really gotten the attention of developers and policymakers.
And in some cases, groups will get together, form a nonprofit, people will donate to the nonprofit, buy land, and they'll want to use that land for workforce housing. But those organizations, for all their wonderful intentions, don't really have experience doing construction projects.
And that's where we come in. We've partnered with several of them. We have designed solutions and several other projects that we can show them where they can do a tour of the finished project. And we've gotten some really good traction with that segment of development.

Theodore O'Neill

That's really interesting. Is it a nonprofit on Nantucket that you're talking about here, that's doing the same thing?

Jeff Eberwein

I think so. I sometimes get the projects confused. Most of them have been a nonprofit. In other cases, there will be some local program, or a developer will get some credits, expedited zoning, things like that if it's specifically for workforce housing.

Theodore O'Neill

Okay --

Dave Noble

Yes. And we did a similar project on Martha's Vineyard. I believe it was '22. And that was definitely a not-for-profit organization that had some money coming in from the state of Massachusetts.

Rick Coleman

I would just add, Theo, that that's a nationwide trend. And a lot of municipalities are actually forming committees and subcommittees to communicate with the other parts of the country on how they go about building those solutions. So we think that trend is entirely sustainable. And it's just a problem that we're able to solve.

Theodore O'Neill

Oh, yeah. I am seeing that at other places as well, which is part of the reason I asked the question. The other was just the logistics of getting a built house over to the island.

Rick Coleman

I think that might be the only time we've barged units over, but I'm not the 100% sure about that.

Jeff Eberwein

Yeah, well, if you think about it, Theo, it's much easier -- I know it sounds complicated, it's much easier to barge a finished product over and install it than it is to get all the materials there, all the workers there to build it on site. That's much more expensive and much more difficult. So it's what makes our solution a really great solution for those expensive, hard-to-reach places.

Theodore O'Neill

Oh, yeah, absolutely. I understand. I was wondering if you could just give us some qualitative discussion about the backlog. And of the business that you mentioned here in the prepared remarks moving from Q4 into 2024, is that still being pushed out? Just give us some color on that.

Jeff Eberwein

Yeah, this is Jeff. What I would say is credit conditions have gotten tighter. That's pretty well known in the marketplace. And the developers that we work with, a lot of times, they'll want to get to financing in place or need to get financing in place. And by financing, I'm talking about a construction loan that's typically refinanced when the construction project is over, and they have a finished product and it's making rent income.
And what we're seeing is that it's just taking longer and it's more difficult for them to get the financing in place. So what used to take, say, three months a couple of years ago is taking six months or nine months. And so there's been several instances that we saw in 2023 where everything's on track, project's approved, they give us the order, but we don't start on it until we get those first payments. And it's just taking them longer to get the financing in place. And so it just shifts in the future.
So I think the shortest way to say it is that it's a one-time shift to the right. And some of the things we thought would be produced in Q4 have moved into Q1. Things that we thought would be produced in Q1 have gotten shifted to Q2 and Q3. And so it's something that we've adjusted to and we think will get better over time.
But in general, the tone in the marketplace is better than it was six months ago. Projects are going forward. And it's just a very different situation than if projects were getting cancelled because of weak economy or because demand wasn't there. We're not seeing that. It's an odd thing to say, but our sales pipeline, our backlog hasn't declined at all. It's remained really strong. And if anything, it's stronger than it was six months ago. It's just that the timing of when somebody we thought would be starting some of these projects has gotten shifted out a quarter or two.

Theodore O'Neill

And Is that because there's an expectation that rates will come down, so the things are getting pushed out a bit?

Jeff Eberwein

No. It's not that so much as credit's tighter. So it's just taking longer to get the financing in place.

Theodore O'Neill

Okay. And my last question here. In the non-GAAP reconciliation, there is a reference to approximately a $1.2 million bargain purchase gain related to the acquisition of Big Lake Lumber. Maybe I'm the only one who doesn't know what that is. Would you mind to enlighten me?

Dave Noble

Yeah, I mean, it took us a bit to get our head around it. We purchased Big Lake Lumber for a really good price, from our standpoint. And from an accounting standpoint, we needed to do a third-party valuation. And that valuation confirmed what we thought was a great deal. So essentially, that's like a negative goodwill. So we had to run that through the P&L as a gain, because we essentially paid less than that company was worth. As you well know, you often pay more than the assets of a company, and that gets reflected in goodwill. I would look at this as a negative goodwill that runs through our balance -- sorry, runs through our P&L and causes a non-cash gain.
So the accounting, it is what it is, but we -- under the accounting rules, we're forced to put it on our balance sheet at market value, which is determined by this third-party valuation firm. And given that the market value they came up with was greater than what we paid, there's a gain there. And under the accounting rules, we had to run that gain through our P&L in the fourth quarter.

Theodore O'Neill

Okay. Well, just one of those a quarter would be great.

Dave Noble

(laughter) Well, I would emphasize it was non-cash. No one wrote a check.

Jeff Eberwein

But the important thing is we feel like we got a good value for that acquisition. We paid a good price for that acquisition. So that's the good news.

Theodore O'Neill

Yeah. Understood. Okay. That's it for me. Thanks very much.

Operator

The next question comes from [John Oberhauser], a private investor.

John Oberhauser

My questions are about Firsthand Tech and Gyrodyne, how you pronounce it. What is the value in buying those equities?

Jeff Eberwein

Yeah, this is Jeff. I will handle that. So we are a multi-industry holding company. So we have our construction business, which is wholly owned, and it is one division. We used to have a healthcare division.
And there are a lot of public microcaps out there that we think are cheap. They're below NAV. And in many cases, we think they just shouldn't be public companies. So over time, we would like more size and scale as a company, not just to be bigger, but it costs quite a bit to be public. And so if we can spread those public company costs and those corporate overhead costs over a bigger base, we think that will create a tremendous amount of shareholder value.
So our strategy with those companies is to make an investment, encourage them to sell themselves, in most cases. In some cases, we could be the ultimate buyer and it could be a new division of Star. In other cases, maybe it's more valuable to somebody else than it is to us. And in those cases, maybe somebody else comes along and buys it.
We had one recently where we had a position in the company, a very small company, really good product, but it's way too small to be a public company. And we encouraged them to sell themselves to somebody bigger. And they did make a public announcement that they were hiring a banker. And they just announced recently that they were selling themselves to somebody bigger.
So that's the strategy with that. I mean, I think about it as a seed corn for future divisions of Star.

John Oberhauser

Okay. That's very good. Any thought given to a buyback of Star shares?

Jeff Eberwein

Yeah, we think our stock is very, very cheap. We're value investors. We like buying things when they're cheap. An issue we have is just lack of scale as a public company. So in general, we're big fans of buybacks, especially when things are below NAV, like we are today.
I would say our number one priority right now is to get more scale. We think that will create a tremendous amount of shareholder value. And we are working on additional acquisitions, predominantly in our construction division, that we think will create a tremendous amount of value.
So I would say be patient on that front, but we are constantly focused on what is the highest and best use of our cash. And if we can do more acquisitions at what we think are really attractive prices that are immediately accretive for right now, we think that will create a tremendous amount of shareholder value.

John Oberhauser

Right. That's great. By the way, I love your construction division. I think it's amazing. Thank you. That's all I had.

Jeff Eberwein

Thank you.

Operator

(Operator Instructions) The next question comes from [Al Hill], a private investor.

Al Hill

Hey, I've got a question. I'm looking at the book value, your stock price is $0.91 a share. Someone's book value is almost three times that. Have you looked at possibly just selling the company or putting it on the open market and being acquired, as opposed to trying to expand, as you say, with scale? Your company's fundamentally worth about $14 million to $17 million, but you're still small. Why wouldn't you look at possibly someone buying you guys, as opposed to you guys buying someone else?

Jeff Eberwein

Yeah, so that's a great question. This is Jeff. I own a lot of stock myself. I promise you, we think about shareholder value each and every day, and it drives everything we do. And that is an option on the table. So the number one thing for us is we want to create shareholder value. So we're open to merging with another company, selling ourselves to another company.
Last year, our healthcare division, we found somebody to merge that with. And we think that transaction created a lot of shareholder value. It wasn't fully reflected in the stock price, but we are open -- the short version is we are open to anything and everything to create shareholder value. Going private, selling ourselves, merging with somebody else. All those things are items we think about and consider.

Al Hill

Okay. And then I saw for NASDAQ, it's got you in the penalty box, possibly de-listing. Is that still going to happen going forward?

Jeff Eberwein

Yeah, it's not something to worry about. We're dedicated to keeping our NASDAQ listing. We did get shareholder approval at last year's annual meeting to do a reverse stock split. And if we need to do that to maintain our listing, we will do that. So it's --

Al Hill

The comment the gentleman made before me, why wouldn't you just buy back shares to raise that value, that stock price, in lieu of doing a reverse stock split?

Jeff Eberwein

Yeah, that's -- we will consider that. That is another way to go.

Al Hill

Yeah, because that has -- reverse stock splits always have a negative connotation in my mind. That's just my opinion. And then last question, you continue to declare preferred dividends even though you're losing money?

Jeff Eberwein

Well, we have a lot of cash. We have the cash to pay the dividend. And I think the -- on the losing money, I think that's just a moment in time because we sold our healthcare business. So in general, if we're going to stay public, we need a lot more size and scale to justify being a public company. So if we execute on some acquisitions, that problem goes away.
And another thing I would say is that the preferred stock could be an interesting tool to use as acquisition currency. Some of the acquisition targets we've talked to have been interested in taking preferred stock. All to say it's an obvious point, there are a lot more interested in taking the preferred stock if it's paying dividends than if it's not paying dividends.

Al Hill

Sure. That's the only questions I got, guys. Thank you.

Jeff Eberwein

Thank you.

Operator

(Operator Instructions) That concludes today's question and answer session. I will now turn the call back over to Rick Coleman for closing remarks.

Rick Coleman

Thank you, operator. Thanks, everyone, for the good questions today. Before concluding this call, I'd like to note that we're always available to take your call and discuss any additional questions you might have, so don't hesitate to contact us. We're looking forward to sharing our story with our current investors and potential investors in the coming weeks and months. And as always, we appreciate all of our shareholders and your continued feedback and support. Thank you.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.