UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2013
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File number 1-8923
HEALTH CARE REIT, INC.
(Exact name of registrant as specified in its charter)
Delaware
34-1096634
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
4500 Dorr Street, Toledo, Ohio
43615
(Address of principal executive office)
(Zip Code)
(419) 247-2800
(Registrant’s telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to the filing requirements for at least the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
Accelerated filer o
Non-accelerated filer o
(Do not check if a smaller reporting company)
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
As of October 31, 2013, the registrant had 288,670,688 shares of common stock outstanding.
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets — September 30, 2013 and December 31, 2012
3
Consolidated Statements of Comprehensive Income — Three and nine months ended September 30, 2013 and 2012
4
Consolidated Statements of Equity — Nine months ended September 30, 2013 and 2012
6
Consolidated Statements of Cash Flows — Nine months ended September 30, 2013 and 2012
7
Notes to Unaudited Consolidated Financial Statements
8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
28
Item 3. Quantitative and Qualitative Disclosures About Market Risk
59
Item 4. Controls and Procedures
60
PART II. OTHER INFORMATION
Item 1.Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 5. Other Information
Item 6. Exhibits
61
Signatures
62
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS
HEALTH CARE REIT, INC. AND SUBSIDIARIES
(In thousands)
September 30, 2013
December 31, 2012
(Unaudited)
(Note)
Assets:
Real estate investments:
Real property owned:
Land and land improvements
$
1,869,234
1,365,391
Buildings and improvements
20,387,577
15,635,127
Acquired lease intangibles
1,050,542
673,684
Real property held for sale, net of accumulated depreciation
2,141
245,213
Construction in progress
158,006
162,984
Gross real property owned
23,467,500
18,082,399
Less accumulated depreciation and amortization
(2,168,334)
(1,555,055)
Net real property owned
21,299,166
16,527,344
Real estate loans receivable
307,377
895,665
Net real estate investments
21,606,543
17,423,009
Other assets:
Equity investments
475,574
438,936
Goodwill
68,321
Deferred loan expenses
68,569
66,327
Cash and cash equivalents
164,838
1,033,764
Restricted cash
80,890
107,657
Receivables and other assets
585,070
411,095
Total other assets
1,443,262
2,126,100
Total assets
23,049,805
19,549,109
Liabilities and equity
Liabilities:
Borrowings under unsecured line of credit arrangement
847,670
0
Senior unsecured notes
6,395,638
6,114,151
Secured debt
3,115,862
2,336,196
Capital lease obligations
84,069
81,552
Accrued expenses and other liabilities
660,441
462,099
Total liabilities
11,103,680
8,993,998
Redeemable noncontrolling interests
31,706
34,592
Equity:
Preferred stock
1,022,917
Common stock
288,249
260,396
Capital in excess of par value
12,349,678
10,543,690
Treasury stock
(21,263)
(17,875)
Cumulative net income
2,301,869
2,184,819
Cumulative dividends
(4,363,376)
(3,694,579)
Accumulated other comprehensive income (loss)
(23,475)
(11,028)
Other equity
5,864
6,461
Total Health Care REIT, Inc. stockholders’ equity
11,560,463
10,294,801
Noncontrolling interests
353,956
225,718
Total equity
11,914,419
10,520,519
Total liabilities and equity
NOTE: The consolidated balance sheet at December 31, 2012 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements.
See notes to unaudited consolidated financial statements
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(In thousands, except per share data)
Three Months Ended
Nine Months Ended
September 30,
2013
2012
Revenues:
Rental income
311,731
277,919
909,659
789,748
Resident fees and services
466,127
174,464
1,164,446
498,295
Interest income
7,629
8,111
24,325
24,131
Other income
1,443
1,339
3,168
4,505
Total revenues
786,930
461,833
2,101,598
1,316,679
Expenses:
Interest expense
116,530
91,915
336,585
271,223
Property operating expenses
342,730
144,417
874,960
409,236
Depreciation and amortization
242,668
127,844
628,700
373,344
General and administrative
28,718
23,679
79,799
77,302
Transaction costs
23,591
8,264
117,707
42,535
Loss (gain) on derivatives, net
4,872
409
4,465
(1,712)
Loss (gain) on extinguishment of debt, net
(4,068)
215
(4,376)
791
Provision for loan losses
27,008
Total expenses
755,041
423,751
2,037,840
1,199,727
Income (loss) from continuing operations before income taxes
and income from unconsolidated entities
31,889
38,082
63,758
116,952
Income tax (expense) benefit
(3,077)
(836)
(7,055)
(3,754)
Income (loss) from unconsolidated entities
(331)
(739)
(3,529)
2,250
Income (loss) from continuing operations
28,481
36,507
53,174
115,448
Discontinued operations:
Gain (loss) on sales of properties, net
4,707
12,827
57,202
46,046
Impairment of assets
(6,952)
Income (loss) from discontinued operations, net
417
11,124
2,212
33,294
Discontinued operations, net
5,124
16,999
59,414
72,388
Net income
33,605
53,506
112,588
187,836
Less:
Preferred stock dividends
16,602
49,805
52,527
Preferred stock redemption charge
6,242
Net income (loss) attributable to noncontrolling interests(1)
(3,688)
(365)
(4,462)
(2,241)
Net income (loss) attributable to common stockholders
20,691
37,269
67,245
131,308
Average number of common shares outstanding:
Basic
286,020
224,391
273,148
212,592
Diluted
288,029
226,258
275,247
214,075
Earnings per share:
Basic:
attributable to common stockholders
0.05
0.09
0.03
0.28
0.02
0.08
0.22
0.34
Net income (loss) attributable to common stockholders*
0.07
0.17
0.25
0.62
Diluted:
0.16
0.24
0.61
Dividends declared and paid per common share
0.765
0.74
2.295
2.22
* Amounts may not sum due to rounding
(1) Includes amounts attributable to redeemable noncontrolling interests.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (CONTINUED)
Three Months Ended September 30,
Nine Months Ended September 30,
Other comprehensive income (loss):
Unrecognized gain (loss) on equity investments
(260)
230
(346)
192
Change in net unrealized gains (losses) on cash flow hedges:
Unrealized gain (loss)
473
414
1,416
1,138
Foreign currency translation gain (loss)
25,693
2,514
(18,164)
166
Total other comprehensive income (loss)
25,906
3,158
(17,094)
1,496
Total comprehensive income (loss)
59,511
56,664
95,494
189,332
Less: Total comprehensive income (loss) attributable to noncontrolling interests(1)
(3,881)
(9,109)
Total comprehensive income (loss) attributable to common stockholders
63,392
57,029
104,603
191,573
5
CONSOLIDATED STATEMENTS OF EQUITY (UNAUDITED)
Nine Months Ended September 30, 2013
Accumulated
Capital in
Other
Preferred
Common
Excess of
Treasury
Cumulative
Comprehensive
Noncontrolling
Stock
Par Value
Net Income
Dividends
Income (Loss)
Equity
Interests
Total
Balances at beginning of period
Comprehensive income:
Net income (loss)
117,050
(2,345)
114,705
Other comprehensive income
(12,447)
(4,647)
Total comprehensive income
97,611
Net change in noncontrolling interests
1,109
23,410
135,230
159,749
Amounts related to issuance of common stock
from dividend reinvestment and stock
incentive plans, net of forfeitures
2,756
176,840
(3,388)
(1,448)
174,760
Proceeds from issuance of common stock
23,000
1,607,281
1,630,281
Equity component of convertible debt
988
(1,543)
(555)
Option compensation expense
851
Cash dividends paid:
Common stock cash dividends
(618,992)
Preferred stock cash dividends
(49,805)
Balances at end of period
Nine Months Ended September 30, 2012
1,010,417
192,299
7,019,714
(13,535)
1,893,806
(2,972,129)
(11,928)
6,120
153,883
7,278,647
190,077
(1,272)
188,805
190,301
(1,529)
13,767
12,238
1,784
102,238
(3,996)
(1,046)
98,980
64,400
3,383,008
3,447,408
Proceeds from issuance of preferred stock
287,500
(9,813)
277,687
Redemption of preferred stock
(275,000)
6,202
(6,242)
(275,040)
1,039
2,237
3,276
2,371
(460,936)
(52,527)
259,522
10,502,057
(17,531)
2,077,641
(3,485,592)
(10,432)
7,445
166,378
10,522,405
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Operating activities:
Adjustments to reconcile net income to
net cash provided from (used in) operating activities:
630,579
393,243
Other amortization expenses
6,662
11,702
6,952
Stock-based compensation expense
16,650
16,229
Loss (income) from unconsolidated entities
3,529
(2,250)
Rental income in excess of cash received
(31,226)
(32,069)
Amortization related to above (below) market leases, net
313
767
Loss (gain) on sales of properties, net
(57,202)
(46,046)
Distributions by unconsolidated entities
3,920
Increase (decrease) in accrued expenses and other liabilities
9,646
16,417
Decrease (increase) in receivables and other assets
(65,721)
(19,318)
Net cash provided from (used in) operating activities
625,907
563,470
Investing activities:
Investment in real property, net of cash acquired
(3,354,716)
(2,119,796)
Capitalized interest
(4,698)
(7,113)
Investment in real estate loans receivable
(77,336)
(35,894)
Other investments, net of payments
(16,589)
26,752
Principal collected on real estate loans receivable
85,555
16,577
Contributions to unconsolidated entities
(381,667)
(227,735)
31,699
12,592
Proceeds from (payments on) derivatives
60,909
4,435
Decrease (increase) in restricted cash
68,796
(69,809)
Proceeds from sales of real property
385,493
302,377
Net cash provided from (used in) investing activities
(3,202,554)
(2,097,614)
Financing activities:
Net increase (decrease) under unsecured lines of credit arrangements
834,050
(610,000)
Proceeds from issuance of senior unsecured notes
497,862
842,323
Payments to extinguish senior unsecured notes
(217,615)
(370,524)
Net proceeds from the issuance of secured debt
85,140
145,713
Payments on secured debt
(575,373)
(272,399)
Net proceeds from the issuance of common stock
1,792,552
3,536,232
Net proceeds from the issuance of preferred stock
Decrease (increase) in deferred loan expenses
(12,398)
(5,119)
Contributions by noncontrolling interests(1)
5,350
12,106
Distributions to noncontrolling interests(1)
(22,502)
(15,283)
Acquisitions of noncontrolling interests
(23,247)
Cash distributions to stockholders
(668,797)
(513,463)
Other financing activities
(1,710)
641
Net cash provided from (used in) financing activities
1,693,312
2,752,914
Effect of foreign currency translation on cash and cash equivalents
14,409
Increase (decrease) in cash and cash equivalents
(868,926)
1,218,770
Cash and cash equivalents at beginning of period
163,482
Cash and cash equivalents at end of period
1,382,252
Supplemental cash flow information:
Interest paid
342,739
275,246
Income taxes paid
5,146
3,012
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Business
Health Care REIT, Inc., an S&P 500 company with headquarters in Toledo, Ohio, is an equity real estate investment trust (“REIT”) that invests in seniors housing and health care real estate. Our full service platform offers property management and development services to our customers. As of September 30, 2013, our diversified portfolio consisted of 1,197 properties in 46 states, the United Kingdom, and Canada. Founded in 1970, we were the first real estate investment trust to invest exclusively in health care facilities.
2. Accounting Policies and Related Matters
Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and with instructions to Quarterly Report on Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine months ended September 30, 2013 are not necessarily an indication of the results that may be expected for the year ending December 31, 2013. For further information, refer to the financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013.
New Accounting Standards
In February 2013, the Financial Accounting Standards Board issued Accounting Standards Update No. 2013-02, “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income,” which requires companies to provide information about the amounts that are reclassified out of accumulated other comprehensive income by component and by the respective line items of net income. The amendment to authoritative guidance associated with comprehensive income was effective for us on January 1, 2013. The adoption of this guidance did not have a material impact on our unaudited consolidated financial statements.
3. Real Property Acquisitions and Development
The total purchase price for all properties acquired has been allocated to the tangible and identifiable intangible assets, liabilities and noncontrolling interests based upon their respective fair values in accordance with our accounting policies. The results of operations for these acquisitions have been included in our consolidated results of operations since the date of acquisition and are a component of the appropriate segments. Transaction costs primarily represent costs incurred with property acquisitions, including due diligence costs, fees for legal and valuation services and termination of pre-existing relationships computed based on the fair value of the assets acquired, lease termination fees and other acquisition-related costs.
Seniors Housing Triple-net Activity
September 30, 2013(1)
September 30, 2012
56,665
79,325
211,903
935,036
Total assets acquired
268,568
1,014,361
-
(86,186)
(3,340)
Total liabilities assumed
(89,526)
Capital in excess of par
1,024
(16,826)
Non-cash acquisition related activity
(310)
Cash disbursed for acquisitions
908,723
Construction in progress additions
103,951
131,579
(3,337)
(4,228)
Cash disbursed for construction in progress
100,614
127,351
Capital improvements to existing properties
27,819
48,450
Total cash invested in real property, net of cash acquired
397,001
1,084,524
(1) Includes acquisitions with an aggregate purchase price of $268,568,000 for which the allocation of the purchase price consideration is preliminary and subject to change.
Seniors Housing Operating Activity
Acquisitions of seniors housing operating properties are structured under RIDEA, which is described in Note 18. This structure results in the inclusion of all resident revenues and related property operating expenses from the operation of these qualified health care properties in our consolidated statements of comprehensive income. Certain of our subsidiaries’ functional currencies are the local currencies of their respective countries. See Note 2 to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, for information regarding our foreign currency policies.
9
437,046
46,391
Building and improvements
4,214,254
450,255
377,929
39,875
41,524
81,546
2,247
Total assets acquired(2)
5,152,299
538,768
(1,261,093)
(8,684)
(86,412)
(5,480)
(1,347,505)
(14,164)
(230,441)
(2,054)
Non-cash acquisition related activity(3)
(856,103)
2,718,250
522,550
1,521
(18)
1,503
36,813
13,325
2,756,566
535,875
(1) Includes acquisitions with an aggregate purchase price of $5,152,299,000 for which the allocation of the purchase price consideration is preliminary and subject to change.
(2) Excludes $87,406,000 and $4,369,000 of cash acquired during the nine months ended September 30, 2013 and 2012, respectively.
(3) Represents Sunrise loan and noncontrolling interests acquisitions.
Sunrise Merger
In August 2012, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Sunrise Senior Living, Inc. (“Sunrise”), pursuant to which we agreed to acquire Sunrise in an all-cash merger (the “Merger”) in which Sunrise stockholders would receive $14.50 in cash for each share of Sunrise common stock. On January 9, 2013, we completed ouracquisition of the Sunrise property portfolio. The Sunrise Merger advances our strategic vision to own higher-end, private pay properties located in major metropolitan markets. On July 1, 2013, we acquired the remaining interests in 49 previously unconsolidated properties. As of September 30, 2013, 120 properties are wholly owned and 5 properties are held in unconsolidated entities (see Note 7 for additional information). The total estimated purchase price of approximately $4,155,052,000, including approximately $2,456,011,000 of cash consideration, has been allocated on a preliminary basis to the tangible and identifiable intangible assets and liabilities in the table above based on respective fair values in accordance with our accounting policies. We funded the cash consideration and other associated costs of the acquisition from cash on-hand as well as draws on our primary unsecured line of credit and unsecured term loan (see Notes 9 and 10 for additional information).
We recognized $201,941,000 and $443,221,000 of revenues and $65,942,000 and $145,264,000 of net operating income from continuing operations related to the consolidated Sunrise portfolio during the three and nine month periods ended September 30, 2013, respectively. In addition, we incurred $72,337,000 of transaction costs, which include advisory fees, due diligence costs, severances, and fees for legal and valuation services during the nine month period ended September 30, 2013. These amounts are included in the seniors housing operating results reflected in Note 17.
The following unaudited pro forma consolidated results of operation have been prepared as if the Sunrise Merger had occurred as of January 1, 2012 based on the preliminary purchase price allocations discussed above. Amounts are in thousands, except per share data:
10
Revenues
2,268,062
1,828,395
Income (loss) from continuing operations attributable to common stockholders
(2,079)
(59,769)
Income (loss) from continuing operations attributable to common stockholders per share:
(0.01)
(0.28)
11
Medical Facilities Activity
53,493
144,708
487,255
93,392
505
975
151
4,311
145,364
639,426
(26,300)
(238,589)
(479)
(18,075)
(26,779)
(256,664)
Non-cash acquisition activity
(12,056)(2)
(880)
106,529
381,882
87,882
94,462
(1,343)
(2,885)
Accruals(3)
(9,806)
(4,567)
76,733
87,010
17,887
30,505
Total cash invested in real property
201,149
499,397
(1) Includes acquisitions with an aggregate purchase price of $145,364,000 for which the allocation of purchase price consideration is preliminary and subject to change.
(2) Represents non-cash consideration exchanged in an asset swap transaction. Please see Note 5 for additional information.
(3) Represents non-cash accruals for amounts to be paid in future periods relating to properties that converted in the periods noted above.
Construction Activity
The following is a summary of the construction projects that were placed into service and began generating revenues during the periods presented (in thousands):
Development projects:
Seniors housing triple-net
105,265
84,271
Medical facilities
78,839
111,327
Total development projects
184,104
195,598
Expansion projects
14,229
240
Total construction in progress conversions
198,333
195,838
12
4. Real Estate Intangibles
The following is a summary of our real estate intangibles, excluding those classified as held for sale, as of the dates indicated (dollars in thousands):
In place lease intangibles
918,507
541,729
Above market tenant leases
54,091
56,086
Below market ground leases
61,461
61,450
Lease commissions
16,483
14,419
Gross historical cost
Accumulated amortization
(472,389)
(257,242)
Net book value
578,153
416,442
Weighted-average amortization period in years
17.1
16.4
Below market tenant leases
76,239
77,036
Above market ground leases
9,490
85,729
86,526
(32,894)
(27,753)
52,835
58,773
14.3
The following is a summary of real estate intangible amortization for the periods presented (in thousands):
Rental income related to above/below market tenant leases, net
235
(972)
596
452
Property operating expenses related to above/below market ground leases, net
(303)
(909)
(1,219)
Depreciation and amortization related to in place lease intangibles and lease commissions
(78,782)
(22,271)
(168,441)
(78,114)
The future estimated aggregate amortization of intangible assets and liabilities is as follows for the periods presented (in thousands):
Assets
Liabilities
93,415
1,730
2014
207,606
6,583
2015
58,816
5,623
2016
25,985
5,185
2017
26,825
4,894
Thereafter
165,506
28,820
Totals
13
5. Dispositions, Assets Held for Sale and Discontinued Operations
The following is a summary of our real property disposition activity for the periods presented (in thousands):
Real property dispositions:
138,650
149,984
201,845
106,347
Total dispositions
340,495
256,331
Gain (loss) on sales of real property, net
Non-cash disposition activity(1)
(12,204)
Proceeds from real property sales
(1) Represents non-cash consideration surrendered in an asset swap transaction. Please see Note 3 for additional information.
We have reclassified the income and expenses attributable to all properties sold prior to or held for sale at September 30, 2013 to discontinued operations. Expenses include an allocation of interest expense based on property carrying values and our weighted-average cost of debt. The following illustrates the reclassification impact as a result of classifying properties as discontinued operations for the periods presented (in thousands):
810
20,747
5,972
70,166
4,328
1,535
15,504
68
281
346
1,469
Provision for depreciation
5,014
1,879
19,899
393
9,623
3,760
36,872
6. Real Estate Loans Receivable
The following is a summary of our real estate loan activity for the periods presented (in thousands):
Seniors
Housing
Medical
Triple-net
Facilities
Advances on real estate loans receivable:
Investments in new loans
27,392
4,095
31,487
1,154
Draws on existing loans
42,772
3,077
45,849
33,710
1,030
34,740
Net cash advances on real estate loans
70,164
7,172
77,336
34,864
35,894
Receipts on real estate loans receivable:
Loan payoffs
65,768
646
66,414
450
Principal payments on loans
16,972
2,169
19,141
14,204
1,923
16,127
Total receipts on real estate loans
82,740
2,815
14,654
Net cash advances (receipts) on real estate loans
(12,576)
4,357
(8,219)
20,210
(893)
19,317
Change in balance due to foreign currency translation
765
Net change in real estate loans receivable
(11,811)
(7,454)
We recorded no provision for loan losses during the nine months ended September 30, 2013. At September 30, 2013, we had real estate loans with outstanding balances of $2,650,000 on non-accrual status with an allowance for loan losses of $0.
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7. Investments in Unconsolidated Entities
During the year ended December 31, 2010, we entered into a joint venture investment with Forest City Enterprises Inc. (NYSE:FCE.A and FCE.B). We acquired a 49% interest in a seven-building life science campus located at University Park in Cambridge, Massachusetts, which is immediately adjacent to the campus of the Massachusetts Institute of Technology. This investment is recorded as an investment in unconsolidated entities on the balance sheet.
On December 31, 2010, we formed a strategic partnership with a national medical office building company whereby the partnership invested in 17 medical office properties. We own a controlling interest in 11 properties and consolidate them. Consolidation is based on a combination of ownership interest and control of operational decision-making authority. We do not own a controlling interest in six properties and account for them under the equity method. Our investment in the strategic partnership provides us access to health systems and includes development and property management resources.
During the three months ended June 30, 2012, we entered into a joint venture (structured under RIDEA) with Chartwell Retirement Residences (TSX:CSH.UN). The portfolio contains 42 properties in Canada, 39 of which are owned 50% by us and Chartwell, and three of which we wholly own. All properties are managed by Chartwell. Our investment in the 39 properties is recorded as an investment in unconsolidated entities on the balance sheet. The aggregate remaining unamortized basis difference of our investment in this joint venture of $9,488,000 at September 30, 2013 is primarily attributable to transaction costs that will be amortized over the weighted-average useful life of the related properties and included in the reported amount of income from unconsolidated entities.
In conjunction with the Sunrise Merger, we acquired joint venture interests in 54 properties and a 20% interest in a newly formed Sunrise management company, which manages the entire property portfolio. On July 1, 2013, we acquired the remaining interests in 49 of the properties. Our original investment of $49,759,000 relating to the five remaining unconsolidated properties and the management company is recorded as an investment in unconsolidated entities on the balance sheet. See Note 3 for additional information.
The results of operations for those investments accounted for under the equity method have been included in our consolidated results of operations from the date of acquisition by the joint ventures and are reflected in our statements of comprehensive income as income or loss from unconsolidated entities. The following is a summary of our income from and investments in unconsolidated entities (dollars in thousands):
Assets as of
Percentage Ownership
Properties
2013 Income (loss)
2012 Income (loss)
Seniors housing triple-net(1)
10% to 49%
3,680
26
29,107
34,618
Seniors housing operating
33% to 50%
44
(13,946)
(4,090)
257,232
217,701
36% to 49%
6,737
6,314
189,235
186,617
(1) Asset amounts include an available-for-sale equity investment. See Note 16 for additional information.
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8. Credit Concentration
The following table summarizes certain information about our credit concentration as of September 30, 2013 (dollars in thousands):
Number of
Percent of
Concentration by investment:(1)
Properties(2)
Investment(2)
Investment(3)
Sunrise Senior Living
120
4,060,818
19%
Genesis HealthCare
177
2,662,196
12%
Revera
47
1,221,148
6%
Belmont Village
19
859,797
4%
Benchmark
37
852,960
Remaining portfolio
740
11,949,624
55%
1,140
100%
(1) Genesis is in our seniors housing triple-net segment. Sunrise, Revera, and Belmont Village are in our seniors housing operating segment. Benchmark is in both our seniors housing triple-net and seniors housing operating segments.
(2) Excludes our share of investments in unconsolidated entities. Please see Note 7 for additional information.
(3) Investments with our top five relationships comprised 37% of total investments at December 31, 2012.
9. Borrowings Under Line of Credit Arrangements and Related Items
At September 30, 2013, we had a $2,250,000,000 unsecured line of credit arrangement with a consortium of 29 banks. We have an option to upsize the facility by up to an additional $1,000,000,000 through an accordion feature, allowing for the aggregate commitment of up to $3,250,000,000. The arrangement also allows us to borrow up to $500,000,000 in alternate currencies. At September 30, 2013, we had $595,000,000 outstanding at 1.36%, and the U.S. dollar equivalent of $242,670,000 outstanding in Pound Sterling at 1.67%. The revolving credit facility is scheduled to expire March 31, 2017, but can be extended for an additional year at our option. Borrowings under the revolver are subject to interest payable in periods no longer than three months at either the agent bank’s prime rate of interest or the applicable margin over LIBOR interest rate, at our option (1.35% at September 30, 2013). The applicable margin is based on certain of our debt ratings and was 1.175% at September 30, 2013. In addition, we pay a facility fee annually to each bank based on the bank’s commitment amount. The facility fee depends on certain of our debt ratings and was 0.225% at September 30, 2013. Principal is due upon expiration of the agreement. In addition, at September 30, 2013, we had $10,000,000 outstanding in unsecured revolving demand notes bearing interest at a blended rate of 1.11%.
The following information relates to aggregate borrowings under the unsecured line of credit arrangements for the periods presented (dollars in thousands):
Balance outstanding at quarter end
Maximum amount outstanding at any month end
1,019,050
145,000
897,000
Average amount outstanding (total of daily
principal balances divided by days in period)
562,978
165,000
527,890
255,639
Weighted average interest rate (actual interest
expense divided by average borrowings outstanding)
1.51%
2.30%
1.43%
1.79%
10. Senior Unsecured Notes and Secured Debt
We may repurchase, redeem or refinance convertible and non-convertible senior unsecured notes from time to time, taking advantage of favorable market conditions when available. We may purchase senior notes for cash through open market purchases, privately negotiated transactions, a tender offer or, in some cases, through the early redemption of such securities pursuant to their terms. The non-convertible senior unsecured notes are redeemable at our option, at any time in whole or from time to time in part, at a redemption price equal to the sum of (1) the principal amount of the notes (or portion of such notes) being redeemed plus accrued and unpaid interest thereon up to the redemption date and (2) any “make-whole” amount due under the terms of the notes in connection with early redemptions. Redemptions and repurchases of debt, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. At September 30, 2013, the annual principal payments due on these debt obligations were as follows (in thousands):
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Senior
Secured
Unsecured Notes(1,2)
Debt(1,3)
300,000
75,866
375,866
326,307
2015(4)
493,072
403,268
896,340
1,200,000
384,127
1,584,127
450,000
341,845
791,845
3,975,118
1,534,510
5,509,628
6,418,190
3,065,923
9,484,113
(1) Amounts represent principal amounts due and do not include unamortized premiums/discounts or other fair value adjustments as reflected on the balance sheet.
(2) Annual interest rates range from 2.25% to 6.5%, excluding the Canadian denominated unsecured term loan discussed in footnote 4 and the $500,000,000 unsecured term loan discussed below.
(3) Annual interest rates range from 1.0% to 9.1%. Carrying value of the properties securing the debt totaled $6,336,955,000 at September 30, 2013.
(4) On July 30, 2012, we completed funding on a $250,000,000 Canadian denominated unsecured term loan (approximately $243,072,000 USD at exchange rates on September 30, 2013). The loan matures July 27, 2015 (with an option to extend for an additional year at our discretion) and bears interest at the Canadian Dealer Offered Rate plus 145 basis points (2.67% at September 30, 2013).
During the nine months ended September 30, 2013, we borrowed on a $500,000,000 unsecured term loan entered into as part of our unsecured line of credit arrangement. The loan matures on March 31, 2016, but can be extended up to two years at our option and bears interest at LIBOR plus 1.35% (1.53% at September 30, 2013).
The following is a summary of our senior unsecured note activity, excluding the Canadian denominated unsecured term loan, during the periods presented (dollars in thousands):
Weighted Avg.
Amount
Interest Rate
Beginning balance
5,894,403
4.675%
4,464,927
5.133%
Debt issued
500,000
1.552%
600,000
4.125%
Debt extinguished
0.000%
(76,853)
8.000%
Debt redeemed
(219,285)
3.000%
(293,671)
4.750%
Ending balance
6,175,118
4.480%
4,694,403
5.030%
The following is a summary of our secured debt principal activity for the periods presented (dollars in thousands):
2,311,586
5.14%
2,108,373
5.34%
5.05%
4.13%
Debt assumed
1,241,898
4.11%
311,653
5.71%
(535,367)
3.52%
(237,259)
4.29%
Principal payments
(40,006)
5.27%
(28,247)
5.35%
Foreign currency
2,672
4.04%
288
5.62%
5.08%
2,300,521
5.42%
Our debt agreements contain various covenants, restrictions and events of default. Certain agreements require us to maintain certain financial ratios and minimum net worth and impose certain limits on our ability to incur indebtedness, create liens and make investments or acquisitions. As of September 30, 2013, we were in compliance with all of the covenants under our debt agreements.
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11. Derivative Instruments
We are exposed to various market risks, including the potential loss arising from adverse changes in interest rates. We may elect to use financial derivative instruments to hedge interest rate exposure. These decisions are principally based on our policy to manage the general trend in interest rates at the applicable dates and our perception of the future volatility of interest rates. In addition, non-U.S. investments expose us to the potential losses associated with adverse changes in foreign currency to U.S. Dollar exchange rates. We may elect to manage this risk through the use of forward exchange contracts and issuing debt in foreign currencies.
I nterest Rate Swap Contracts Designated as Cash Flow Hedges
For instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income (“OCI”), and reclassified into earnings in the same period, or periods, during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in earnings. As of September 30, 2013, we had one interest rate swap for a total aggregate notional amount of $11,692,000. The swap hedges interest payments associated with long-term LIBOR based borrowings and matures on December 31, 2013. Approximately $1,910,000 of losses, which are included in accumulated other comprehensive income (“AOCI”), are expected to be reclassified into earnings in the next 12 months.
Foreign Currency Hedges
For instruments that are designated and qualify as net investment hedges, the variability in the foreign currency to U.S. dollar of the instrument is recorded as a cumulative translation adjustment component of OCI. The balance of the cumulative translation adjustment will be reclassified to earnings when the hedged investment is sold or substantially liquidated. On February 15, 2012, we entered into a forward exchange contract to purchase $250,000,000 Canadian Dollars at a fixed rate in the future. The forward contract was used to limit exposure to fluctuations in the Canadian Dollar to U.S. Dollar exchange rate associated with our initial cash investment funded for the Chartwell transaction. On May 3, 2012, this forward exchange contract was settled for a gain of $2,772,000, which was reflected on the consolidated statement of comprehensive income, and the proceeds were used to fund our investment. On May 3, 2012, we also entered into a forward contract to sell $250,000,000 Canadian Dollars at a fixed rate on July 31, 2012 to hedge our net investment. We settled the forward contract on July 31, 2012 with the net loss reflected in OCI. Upon settlement of the forward contract we entered into a $250,000,000 Canadian Dollar term loan, which has been designated as a net investment hedge of our Chartwell investment, and changes in fair value are reported in OCI as no ineffectiveness is anticipated.
On August 30, 2012, we entered into two cross currency swaps to purchase £125,000,000. The swaps were used to limit exposure to fluctuations in the Pound Sterling to U.S. Dollar exchange rate associated with our initial cash investment funded for the Sunrise transaction. The cross currency swaps have been designated as a net investment hedge, and changes in fair value are reported in OCI as no ineffectiveness is anticipated.
On September 17, 2012, we entered into two forward exchange contracts to purchase $14,000,000 Canadian Dollars and £23,000,000 at a fixed rate in the future. The forward contracts were used to limit exposure to fluctuations in foreign currency associated with future international transactions. These forward contacts were settled on March 22, 2013 for a realized loss of $2,309,000.
On January 14, 2013 and January 15, 2013, we entered into three forward exchange contracts to sell £675,000,000 at a fixed rate in the future. The forward exchange contracts were used to hedge a portion of our investment in the United Kingdom at a fixed Pound Sterling rate in U.S. dollars and were settled on July 12, 2013. We received proceeds of $63,514,000. The forward exchange contracts were designated as net investment hedges and the change in fair value is reported in OCI.
On April 4, 2013, we entered into three forward exchange contracts to purchase $600,000,000 Canadian Dollars at a fixed rate in the future and three forward exchange contracts to sell $600,000,000 Canadian Dollars at a fixed rate in the future. The forward contracts were used to limit exposure to fluctuations in the Canadian Dollar to U.S. Dollar exchange rate associated with our initial cash investment funded for an acquisition in Canada. On May 22, 2013, the three forward exchange purchase contracts were settled for a realized loss of $10,355,000, which was reflected on the consolidated statement of comprehensive income, and the proceeds were used to fund our investment. On May 22, 2013, we designated the three forward exchange sell contracts as net investment hedges, and changes in fair value are reported in OCI as no ineffectiveness is anticipated. Prior to designating the three forward exchange sell contracts as net investments, they were marked to fair value and an unrealized gain of $13,071,000 was reflected on the consolidated statement of comprehensive income.
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On July 1, 2013, we entered into two forward exchange contracts to purchase £144,411,000 at a fixed rate in the future. The forward contracts were used to limit exposure to fluctuations in the Pound Sterling to U.S. Dollar exchange rate associated with our initial cash investment for an acquisition in the United Kingdom. In July 2013, these forward contracts were settled for a realized loss of $4,872,000, which was reflected on the consolidated statement of comprehensive income, and the proceeds were used to fund our investment.
On July 12, 2013, we entered into three forward exchange contracts to sell £675,000,000 at a fixed rate in the future. The forward exchange contracts were used to hedge a portion of our investment in the United Kingdom at a fixed Pound Sterling rate in U.S. dollars and mature on December 31, 2013. The forward exchange contracts are designated as net investment hedges and changes in fair value are reported in OCI as no ineffectiveness is expected.
The following presents the impact of derivative instruments on the statement of comprehensive income and OCI for the periods presented (in thousands):
Location
Gain (loss) on interest rate swap recognized in OCI (effective portion)
OCI
(4)
797
(12)
2,342
Gain (loss) on interest rate swaps reclassified from AOCI into income (effective portion)
(477)
383
(1,428)
1,204
Gain (loss) on interest rate swaps recognized in income
Gain (loss) on derivatives, net
(96)
Gain (loss) on foreign exchange contracts recognized in income
(4,872)
(409)
(4,465)
1,808
Gain (loss) on foreign exchange contracts and term loans designated as net investment hedge recognized in OCI
(110,404)
(12,663)
(19,867)
(5,747)
12. Commitments and Contingencies
At September 30, 2013, we had six outstanding letter of credit obligations totaling $5,658,000 and expiring between 2013 and 2015. At September 30, 2013, we had outstanding construction in process of $158,006,000 for leased properties and were committed to providing additional funds of approximately $261,625,000 to complete construction. At September 30, 2013, we had contingent purchase obligations totaling $59,561,000. These contingent purchase obligations relate to unfunded capital improvement obligations and contingent obligations on acquisitions. Rents due from the tenant are increased to reflect the additional investment in the property.
We evaluate our leases for operating versus capital lease treatment in accordance with Accounting Standards Codification (“ASC”) Topic 840 “Leases.” A lease is classified as a capital lease if it provides for transfer of ownership of the leased asset at the end of the lease term, contains a bargain purchase option, has a lease term greater than 75% of the economic life of the leased asset, or if the net present value of the future minimum lease payments are in excess of 90% of the fair value of the leased asset. Certain leases contain bargain purchase options and have been classified as capital leases. At September 30, 2013, we had operating lease obligations of $882,088,000 relating to certain ground leases and company office space and capital lease obligations of $118,463,000 relating to certain investment properties. We incurred rental expense relating to company office space of $410,000 and $1,217,000 for the three months and nine months ended September 30, 2013, respectively, as compared to $330,000 and $931,000 for the same periods in 2012. Regarding ground leases, we have sublease agreements with certain of our operators that require the operators to reimburse us for our monthly operating lease obligations. At September 30, 2013, aggregate future minimum rentals to be received under these noncancelable subleases totaled $44,987,000.
13. Stockholders’ Equity
The following is a summary of our stockholders’ equity capital accounts as of the dates indicated:
Preferred Stock:
Authorized shares
50,000,000
Issued shares
26,224,854
Outstanding shares
Common Stock, $1.00 par value:
400,000,000
288,821,107
260,780,109
288,360,031
260,373,754
Preferred Stock. The following is a summary of our preferred stock activity during the periods indicated:
Shares
Dividend Rate
6.493%
25,724,854
7.013%
Shares issued
11,500,000
6.500%
Shares redeemed
(11,000,000)
7.716%
Common Stock. The following is a summary of our common stock issuances during the nine months ended September 30, 2013 and 2012 (dollars in thousands, except per share amounts):
Shares Issued
Average Price
Gross Proceeds
Net Proceeds
February 2012 public issuance
20,700,000
53.50
1,107,450
1,062,256
August 2012 public issuance
13,800,000
58.75
810,750
778,011
September 2012 public issuance
29,900,000
56.00
1,674,400
1,607,140
2012 Dividend reinvestment plan issuances
1,485,598
55.65
82,678
2012 Option exercises
155,195
39.61
6,147
2012 Senior note conversions
1,039,721
2012 Totals
67,080,514
3,681,425
May 2013 public issuance
23,000,000
73.50
1,690,500
2013 Dividend reinvestment plan issuances
2,379,609
64.62
153,762
2013 Option exercises
200,467
42.45
8,509
2013 Senior note conversions
987,967
2013 Equity issued in acquisition of noncontrolling interest
1,108,917
2013 Totals
27,676,960
1,852,771
During the three months ended September 30, 2013, we acquired the remaining 20% noncontrolling interest in an existing partnership for $91,000,000 which consisted of $23,247,000 of cash and 1,108,917 shares of common stock. In connection with the acquisition, we incurred $2,732,000 of transaction costs which we have included as a reduction to additional paid in capital.
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Dividends. The increase in dividends is primarily attributable to increases in our common shares outstanding as described above. Please refer to Note 18 for information related to federal income tax of dividends. The following is a summary of our dividend payments (in thousands, except per share amounts):
Per Share
Common Stock
2.2950
618,992
2.2200
460,936
Series D Preferred Stock
0.5030
2,012
Series F Preferred Stock
0.4872
3,410
Series H Preferred Stock
2.1438
750
Series I Preferred Stock
2.4375
35,039
Series J Preferred Stock
1.2189
14,016
0.9841
11,316
668,797
513,463
Accumulated Other Comprehensive Income. The following is a summary of accumulated other comprehensive income (loss) for the periods presented (in thousands):
Unrecognized gains (losses) related to:
Foreign Currency Translation
Equity Investments
Actuarial losses
Cash Flow Hedges
Balance at December 31, 2012
(881)
(216)
(2,974)
(6,957)
Other comprehensive income before reclassification adjustments
(13,517)
(13,875)
Reclassification amount to net income
1,428(1)
1,428
Net current-period other comprehensive income
Balance at September 30, 2013
(14,398)
(562)
(5,541)
Balance at December 31, 2011
(619)
(2,748)
(8,561)
2,700
(1,204)(1)
(1,204)
Balance at September 30, 2012
(427)
(7,423)
(1) Please see Note 11 for additional information.
14. Stock Incentive Plans
Our Amended and Restated 2005 Long-Term Incentive Plan (“2005 Plan”) authorizes up to 6,200,000 shares of common stock to be issued at the discretion of the Compensation Committee of the Board of Directors. The 2005 Plan replaced the 1995 Stock Incentive Plan (“1995 Plan”) and the Stock Plan for Non-Employee Directors. The options granted to officers and key employees under the 1995 Plan vested through 2010 and expire ten years from the date of grant. Our non-employee directors, officers and key employees are eligible to participate in the 2005 Plan. The 2005 Plan allows for the issuance of, among other things, stock options, restricted stock, deferred stock units and dividend equivalent rights. Vesting periods for options, deferred stock units and restricted shares generally range from three years for non-employee directors to five years for officers and key employees. Options expire ten years from the date of grant. Stock-based compensation expense totaled $3,956,000 and $16,650,000 for the three and nine months ended September 30, 2013, respectively, and $2,592,000 and $16,229,000 for the same periods in 2012.
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15. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):
Numerator for basic and diluted earnings
per share - net income (loss) attributable
to common stockholders
Denominator for basic earnings per
share - weighted average shares
Effect of dilutive securities:
Employee stock options
196
238
Non-vested restricted shares
567
301
293
Convertible senior unsecured notes
1,246
1,328
1,447
950
Dilutive potential common shares
2,009
1,867
2,099
1,483
Denominator for diluted earnings per
share - adjusted weighted average shares
Basic earnings per share
Diluted earnings per share
The diluted earnings per share calculations exclude the dilutive effect of 0 and 237,000 common stock equivalents for the three months ended September 30, 2013 and 2012, respectively, and 0 common stock equivalents for the nine months ended September 30, 2013 and 2012, because the exercise prices were higher than the average market price. The Series H Cumulative Convertible and Redeemable Preferred Stock and Series I Cumulative Convertible Perpetual Preferred Stock were not included in the calculations as the effect of conversions into common stock was anti-dilutive.
16. Disclosure about Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value.
Mortgage Loans and Other Real Estate Loans Receivable— The fair value of mortgage loans and other real estate loans receivable is generally estimated by using Level 2 and Level 3 inputs such as discounting the estimated future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
Cash and Cash Equivalents — The carrying amount approximates fair value.
Available-for-sale Equity Investments — Available-for-sale equity investments are recorded at their fair value based on Level 1 publicly available trading prices.
Borrowings Under Unsecured Line of Credit Arrangements— The carrying amount of the unsecured line of credit arrangements approximates fair value because the borrowings are interest rate adjustable.
Senior Unsecured Notes — The fair value of the senior unsecured notes payable was estimated based on Level 1 publicly available trading prices.
Secured Debt — The fair value of fixed rate secured debt is estimated using Level 2 inputs by discounting the estimated future cash flows using the current rates at which similar loans would be made with similar credit ratings and for the same remaining maturities. The carrying amount of variable rate secured debt approximates fair value because the borrowings are interest rate adjustable.
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Interest Rate Swap Agreements — Interest rate swap agreements are recorded in other assets or other liabilities on the balance sheet at fair market value. Fair market value is estimated using Level 2 inputs by utilizing pricing models that consider forward yield curves and discount rates.
Foreign Currency Forward Contracts — Foreign currency forward contracts are recorded in other assets or other liabilities on the balance sheet at fair market value. Fair market value is determined using Level 2 inputs by estimating the future value of the currency pair based on existing exchange rates, comprised of current spot and traded forward points, and calculating a present value of the net amount using a discount factor based on observable traded interest rates.
The carrying amounts and estimated fair values of our financial instruments are as follows (in thousands):
Carrying Amount
Fair Value
Financial assets:
Mortgage loans receivable
131,138
133,554
87,955
88,975
Other real estate loans receivable
176,239
182,153
807,710
820,195
Available-for-sale equity investments
1,037
1,384
Foreign currency forward contracts
7,669
Financial liabilities:
Borrowings under unsecured line of credit arrangements
6,806,353
6,793,424
3,262,955
2,515,145
Interest rate swap agreements
264
79,544
7,247
U.S. GAAP provides authoritative guidance for measuring and disclosing fair value measurements of assets and liabilities. The guidance defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The guidance also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The guidance describes three levels of inputs that may be used to measure fair value:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Please see Note 2 to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, for additional information.
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
Items Measured at Fair Value on a Recurring Basis
The market approach is utilized to measure fair value for our financial assets and liabilities reported at fair value on a recurring basis. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. The following summarizes items measured at fair value on a recurring basis (in thousands):
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Fair Value Measurements as of September 30, 2013
Level 1
Level 2
Level 3
Available-for-sale equity investments(1)
Interest rate swap agreements(2)
(68)
Foreign currency forward contracts(2)
(71,875)
(70,906)
(71,943)
(1) Unrealized gains or losses on equity investments are recorded in accumulated other comprehensive income (loss) at each measurement date.
(2) Please see Note 11 for additional information.
Items Measured at Fair Value on a Nonrecurring Basis
In addition to items that are measured at fair value on a recurring basis, we also have assets and liabilities in our balance sheet that are measured at fair value on a nonrecurring basis. As these assets and liabilities are not measured at fair value on a recurring basis, they are not included in the tables above. Assets, liabilities and noncontrolling interests that are measured at fair value on a nonrecurring basis include those acquired/assumed in business combinations (see Note 3) and asset impairments (if applicable, see Note 5 for impairments of real property and Note 6 for impairments of loans receivable). We have determined that the fair value measurements included in each of these assets and liabilities rely primarily on company-specific inputs and our assumptions about the use of the assets and settlement of liabilities, as observable inputs are not available. As such, we have determined that each of these fair value measurements generally reside within Level 3 of the fair value hierarchy. We estimate the fair value of real estate and related intangibles using the income approach and unobservable data such as net operating income and estimated capitalization and discount rates. We also consider local and national industry market data including comparable sales, and commonly engage an external real estate appraiser to assist us in our estimation of fair value. We estimate the fair value of assets held for sale based on current sales price expectations or, in the absence of such price expectations, Level 3 inputs described above. We estimate the fair value of secured debt assumed in business combinations using current interest rates at which similar borrowings could be obtained on the transaction date.
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17. Segment Reporting
We invest in seniors housing and health care real estate. We evaluate our business and make resource allocations on our five operating segments: seniors housing triple-net, seniors housing operating, medical office buildings, hospitals and life science. Our seniors housing triple-net properties include skilled nursing/post-acute facilities, assisted living facilities, independent living/continuing care retirement communities and combinations thereof. Under the seniors housing triple-net segment, we invest in seniors housing and health care real estate through acquisition and financing of primarily single tenant properties. Properties acquired are primarily leased under triple-net leases and we are not involved in the management of the property. Our seniors housing operating properties include seniors housing communities that are owned and/or operated through RIDEA structures (see Notes 3 and 18).
Our medical facility properties include medical office buildings, hospitals and life science buildings which are aggregated into our medical facilities reportable segment. Our medical office buildings are typically leased to multiple tenants and generally require a certain level of property management. Our hospital investments are leased and we are not involved in the management of the property. Our life science investment represents an investment in an unconsolidated entity (see Note 7).
The accounting policies of the segments are the same as those described in the summary of significant accounting policies (see Note 2 to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013). The results of operations for all acquisitions described in Note 3 are included in our consolidated results of operations from the acquisition dates and are components of the appropriate segments. There are no intersegment sales or transfers.
We evaluate performance based upon net operating income from continuing operations (“NOI”) of each segment. We define NOI as total revenues, including tenant reimbursements, less property level operating expenses. We believe NOI provides investors relevant and useful information because it measures the operating performance of our properties at the property level on an unleveraged basis. We use NOI to make decisions about resource allocations and to assess the property level performance of our properties.
Non-segment revenue consists mainly of interest income on non-real estate investments and other income. Non-segment assets consist of corporate assets including cash, deferred loan expenses and corporate offices and equipment among others. Non-property specific revenues and expenses are not allocated to individual segments in determining NOI.
Summary information for the reportable segments for the three and nine months ended September 30, 2013 and 2012 is as follows (in thousands):
Three Months Ended September 30, 2013:
Seniors Housing Triple-net
Seniors Housing Operating
Medical Facilities
Non-segment / Corporate
199,408
112,323
5,035
2,594
778
167
466
32
205,221
466,294
115,383
(311,575)
(31,155)
(342,730)
Net operating income from continuing operations
154,719
84,228
444,200
Reconciling items:
(5,968)
(24,693)
(9,143)
(76,726)
(116,530)
(Loss) gain on derivatives, net
(58,148)
(144,578)
(39,942)
(242,668)
(28,718)
(4,026)
(18,882)
(683)
(23,591)
(Loss) gain on extinguishment of debt, net
5,252
(1,184)
4,068
Income (loss) from continuing operations before income taxes and income from unconsolidated entities
132,207
(28,182)
34,460
(106,596)
9,222,731
9,031,224
4,645,540
150,310
Three Months Ended September 30, 2012:
178,193
99,726
6,116
1,995
662
400
277
184,971
102,121
(118,369)
(26,048)
(144,417)
56,095
76,073
317,416
(347)
(17,474)
(7,940)
(66,154)
(91,915)
(52,294)
(39,591)
(35,959)
(127,844)
(23,679)
(5,590)
(1,966)
(708)
(8,264)
(126)
(89)
(215)
(27,008)
99,606
(3,434)
31,466
(89,556)
Nine Months Ended September 30, 2013:
573,112
336,547
16,311
757
7,257
1,183
169
1,539
590,606
1,165,372
345,343
(785,050)
(89,910)
(874,960)
380,322
255,433
1,226,638
(15,841)
(63,175)
(28,441)
(229,128)
(336,585)
407
(169,603)
(338,099)
(120,998)
(628,700)
(79,799)
(15,730)
(101,006)
(971)
(117,707)
5,560
4,376
384,560
(115,991)
105,023
(309,834)
Nine Months Ended September 30, 2012:
508,004
281,744
17,977
6,154
2,268
1,482
755
528,249
289,380
(336,952)
(72,284)
(409,236)
161,343
217,096
907,443
(602)
(49,537)
(22,338)
(198,746)
(271,223)
1,712
(147,074)
(123,820)
(102,450)
(373,344)
(77,302)
(30,796)
(6,365)
(5,374)
(42,535)
(2,363)
1,089
483
(791)
320,310
(15,482)
87,417
(275,293)
25
Our portfolio of properties and other investments are located in the United States, the United Kingdom and Canada. Revenues and assets are attributed to the country in which the property is physically located. The following is a summary of geographic information for our operations for the periods presented (dollars in thousands):
%
United States
669,968
85.1%
454,742
98.5%
1,837,068
87.4%
1,307,533
99.3%
International
116,962
14.9%
7,091
1.5%
264,530
12.6%
9,146
0.7%
100.0%
As of
19,622,576
18,692,214
95.6%
3,427,229
856,895
4.4%
27
18. Income Taxes and Distributions
We elected to be taxed as a REIT commencing with our first taxable year. To qualify as a REIT for federal income tax purposes, at least 90% of taxable income (excluding 100% of net capital gains) must be distributed to stockholders. REITs that do not distribute a certain amount of current year taxable income in the current year are also subject to a 4% federal excise tax. The main differences between undistributed net income for federal income tax purposes and financial statement purposes are the recognition of straight-line rent for reporting purposes, basis differences in acquisitions, recording of impairments, differing useful lives and depreciation and amortization methods for real property and the provision for loan losses for reporting purposes versus bad debt expense for tax purposes.
Under the provisions of the REIT Investment Diversification and Empowerment Act of 2007 ( “RIDEA”), for taxable years beginning after July 30, 2008, the REIT may lease “qualified health care properties” on an arm’s-length basis to a taxable REIT subsidiary (“TRS”) if the property is operated on behalf of such subsidiary by a person who qualifies as an “eligible independent contractor.” Generally, the rent received from the TRS will meet the related party rent exception and will be treated as “rents from real property.” A “qualified health care property” includes real property and any personal property that is, or is necessary or incidental to the use of, a hospital, nursing facility, assisted living facility, congregate care facility, qualified continuing care facility, or other licensed facility which extends medical or nursing or ancillary services to patients. We have entered into various joint ventures that were structured under RIDEA. Resident level rents and related operating expenses for these facilities are reported in the consolidated financial statements and are subject to federal and state income taxes as the operations of such facilities are included in a TRS. Certain net operating loss carryforwards could be utilized to offset taxable income in future years.
Our consolidated provision for income taxes for the nine months ended September 30, 2013 and 2012 was $7,055,000 and $3,754,000, respectively. Income tax expense reflected in the financial statements primarily represents U.S. federal and state and local income taxes as well as non-U.S. income taxes on certain investments located in jurisdictions outside the U.S. Net deferred tax liabilities with respect to our TRS entities totaled $10,388,000 and $1,419,000 as of September 30, 2013 and December 31, 2012, respectively, and related primarily to differences between the financial reporting and tax bases of fixed and intangible assets and to net operating losses.
Generally, given current statutes of limitations, we are subject to audit by the Internal Revenue Service (“IRS”) for the year ended December 31, 2010 and subsequent years and by state taxing authorities for the year ended December 31, 2009 and subsequent years. We are also subject to audit by the Canada Revenue Agency (“CRA”) and provincial authorities generally for periods subsequent to our Chartwell investment in May 2012 related to entities acquired or formed in connection with the investments, and by HM Revenue & Customs for periods subsequent to our Sunrise-related acquisitions in August 2012 related to entities acquired or formed in connection with the acquisitions.
We apply the rules under ASC 740-10 “Accounting for Uncertainty in Income Taxes” for uncertain tax positions using a “more likely than not” recognition threshold for tax positions. Pursuant to these rules, we will initially recognize the financial statement effects of a tax position when it is more likely than not, based on the technical merits of the tax position, that such a position will be sustained upon examination by the relevant tax authorities. If the tax benefit meets the “more likely than not” threshold, the measurement of the tax benefit will be based on our estimate of the ultimate tax benefit to be sustained if audited by the taxing authority.
The balance of our unrecognized tax benefits as of September 30, 2013 and December 31, 2012 was $6,327,000 and $6,098,000, respectively. As of September 30, 2013, $5,916,000 (exclusive of accrued interest and penalties) relates to the April 1, 2011 Genesis HealthCare Corporation transaction (“Genesis Acquisition”) and is included in accrued expenses and other liabilities on the consolidated balance sheet. As a part of the Genesis Acquisition, we received a full indemnification from FC-GEN Operations Investment, LLC covering income taxes or other taxes as well as interest and penalties relating to tax positions taken by FC-GEN Operations Investment, LLC prior to the acquisition. Accordingly, an offsetting indemnification asset is recorded in receivables and other assets on the consolidated balance sheet. Such indemnification asset is reviewed for collectability periodically. Unrecognized tax benefits, as currently accrued for, have an immaterial impact on the effective tax rate to the extent that they would be recognized. There were insignificant uncertain tax positions as of September 30, 2013 for which it is reasonably possible that the amount of unrecognized tax benefits would decrease during 2013. Interest and penalties totaled $154,000 and $366,000 for the three and nine months ended September 30, 2013, respectively, and are included in income tax expense.
19. Subsequent Events
Debt Activity. On October 7, 2013, we completed the issuance of $400 million of 4.5% senior unsecured notes due 2024, generating approximately $393 million in proceeds.
Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations
EXECUTIVE SUMMARY
Company Overview
Business Strategy
Capital Market Outlook
Key Transactions in 2013
Key Performance Indicators, Trends and Uncertainties
Corporate Governance
30
31
33
35
LIQUIDITY AND CAPITAL RESOURCES
Sources and Uses of Cash
Off-Balance Sheet Arrangements
Contractual Obligations
Capital Structure
36
RESULTS OF OPERATIONS
Summary
Non-Segment/Corporate
38
39
42
45
NON-GAAP FINANCIAL MEASURES & OTHER
FFO Reconciliations
EBITDA & Adjusted EBITDA Reconciliations
NOI and SSCNOI Reconciliations
49
50
52
Health Care Reimbursements and Other Related Laws
55
Critical Accounting Policies
Forward-Looking Statements and Risk Factors
57
29
The following discussion and analysis is based primarily on the consolidated financial statements of Health Care REIT, Inc. for the periods presented and should be read together with the notes thereto contained in this Quarterly Report on Form 10-Q. Other important factors are identified in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, including factors identified under the headings “Business,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” References herein to “we,” “us,” “our,” or the “company” refer to Health Care REIT, Inc. and its subsidiaries unless specifically noted otherwise.
Executive Summary
Health Care REIT, Inc. is a real estate investment trust (“REIT”) that has been at the forefront of seniors housing and health care real estate since the company was founded in 1970. We are an S&P 500 company headquartered in Toledo, Ohio. Our portfolio spans the full spectrum of seniors housing and health care real estate, including seniors housing communities, skilled nursing/post-acute facilities, medical office buildings, inpatient and outpatient medical centers and life science facilities. Our capital programs, when combined with comprehensive planning, development and property management services, make us a single-source solution for acquiring, planning, developing, managing, repositioning and monetizing real estate assets. The following table summarizes our consolidated portfolio as of September 30, 2013:
Investments
Percentage of
Type of Property
(in thousands)
8,905,928
41.2%
618
Seniors housing operating(1)
8,443,984
39.1%
276
Medical facilities(2)
4,256,631
19.7%
246
(1) Excludes 44 properties with an investment amount of $405,770,000 that relates to our share of investments in unconsolidated entities with Chartwell and Sunrise. Please see Note 7 to our consolidated financial statements for additional information.
(2) Excludes 13 properties with an investment amount of $367,134,000 that relates to our share of investments in unconsolidated entities with Forest City and a strategic medical partnership. Please see Note 7 to our consolidated financial statements for additional information.
Our primary objectives are to protect stockholder capital and enhance stockholder value. We seek to pay consistent cash dividends to stockholders and create opportunities to increase dividend payments to stockholders as a result of annual increases in net operating income and portfolio growth. To meet these objectives, we invest across the full spectrum of seniors housing and health care real estate and diversify our investment portfolio by property type, customer and geographic location.
Substantially all of our revenues are derived from operating lease rentals, resident fees and services, and interest earned on outstanding loans receivable. These items represent our primary sources of liquidity to fund distributions and depend upon the continued ability of our obligors to make contractual rent and interest payments to us and the profitability of our operating properties. To the extent that our customers/partners experience operating difficulties and become unable to generate sufficient cash to make payments to us, there could be a material adverse impact on our consolidated results of operations, liquidity and/or financial condition. To mitigate this risk, we monitor our investments through a variety of methods determined by the type of property. Our proactive and comprehensive asset management process for seniors housing properties generally includes review of monthly financial statements and other operating data for each property, review of obligor/partner creditworthiness, property inspections, and review of covenant compliance relating to licensure, real estate taxes, letters of credit and other collateral. Our internal property management division actively manages and monitors the medical office building portfolio with a comprehensive process including tenant relations, lease expirations, the mix of health service providers, hospital/health system relationships, property performance, capital improvement needs, and market conditions among other things. In monitoring our portfolio, our personnel use a proprietary database to collect and analyze property-specific data. Additionally, we conduct extensive research to ascertain industry trends. We evaluate the operating environment in each property’s market to determine the likely trend in operating performance of the facility. When we identify unacceptable trends, we seek to mitigate, eliminate or transfer the risk. Through these efforts, we are generally able to intervene at an early stage to address any negative trends, and in so doing, support both the collectability of revenue and the value of our investment.
In addition to our asset management and research efforts, we also structure our investments to help mitigate payment risk. Operating leases and loans are normally credit enhanced by guaranties and/or letters of credit. In addition, operating leases are typically structured as master leases and loans are generally cross-defaulted and cross-collateralized with other real estate loans, operating leases or agreements between us and the obligor and its affiliates.
For the nine months ended September 30, 2013, rental income and resident fees and services represented 43% and 55%, respectively, of total revenues (including discontinued operations). Substantially all of our operating leases are designed with escalating rent structures. Leases with fixed annual rental escalators are generally recognized on a straight-line basis over the initial lease period, subject to a collectability assessment. Rental income related to leases with contingent rental escalators is generally recorded based on the contractual cash rental payments due for the period. Our yield on loans receivable depends upon a number of factors, including the stated interest rate, the average principal amount outstanding during the term of the loan and any interest rate adjustments.
Our primary sources of cash include rent and interest receipts, resident fees and services, borrowings under our primary unsecured line of credit arrangement, public issuances of debt and equity securities, proceeds from investment dispositions and principal payments on loans receivable. Our primary uses of cash include dividend distributions, debt service payments (including principal and interest), real property investments (including acquisitions, capital expenditures, construction advances and transaction costs), loan advances, property operating expenses and general and administrative expenses. Depending upon the availability and cost of external capital, we believe our liquidity is sufficient to fund these uses of cash.
We also continuously evaluate opportunities to finance future investments. New investments are generally funded from temporary borrowings under our primary unsecured line of credit arrangement, internally generated cash and the proceeds from investment dispositions. Our investments generate cash from net operating income and principal payments on loans receivable. Permanent financing for future investments, which replaces funds drawn under our primary unsecured line of credit arrangement, has historically been provided through a combination of the issuance of public debt and equity securities and the incurrence or assumption of secured debt.
Depending upon market conditions, we believe that new investments will be available in the future with spreads over our cost of capital that will generate appropriate returns to our stockholders. It is also possible that investment dispositions may occur in the future. To the extent that investment dispositions exceed new investments, our revenues and cash flows from operations could be adversely affected. We expect to reinvest the proceeds from any investment dispositions in new investments. To the extent that new investment requirements exceed our available cash on-hand, we expect to borrow under our primary unsecured line of credit arrangement. At September 30, 2013, we had $164,838,000 of cash and cash equivalents, $80,890,000 of restricted cash and $1,402,330,000 of available borrowing capacity under our primary unsecured line of credit arrangement.
We believe the capital markets remain supportive of our investment strategy. For the year ended December 31, 2012, we raised over $6.0 billion in aggregate gross proceeds through the issuance of common and preferred stock, unsecured debt and a Canadian denominated term loan. Through October 7, 2013, we funded a $500 million unsecured term loan, issued $400 million unsecured notes, expanded our primary unsecured line of credit arrangement to $2.25 billion and raised $1.8 billion of common equity. The capital raised, in combination with available cash and borrowing capacity under our line of credit, supported $4.9 billion in gross new investments during 2012 and $5.3 billion year-to-date in 2013. We expect attractive investment opportunities to remain available in the future as we continue to leverage the benefits of our relationship investment strategy.
Capital. In January 2013, we closed a $2.75 billion unsecured line of credit arrangement consisting of a $2.25 billion revolver and a $500 million term loan. The facility replaced our existing $2.0 billion unsecured line of credit arrangement. The revolver matures on March 31, 2017, but can be extended for an additional year at our option. The term loan matures on March 31, 2016, but can be extended up to two years at our option. The revolver bears interest at LIBOR plus 117.5 basis points and has an annual facility fee of 22.5 basis points. The term loan bears interest at LIBOR plus 135 basis points. We have an option to upsize the facility by up to an additional $1.0 billion through an accordion feature, allowing for aggregate commitments of up to $3.75 billion. The facility also allows us to borrow up to $500 million in alternate currencies. In May 2013, we completed the public issuance of 23 million shares of common stock for $1.7 billion of gross proceeds. In October 2013, we issued $400 million of 4.5% 10-year senior unsecured notes, generating $393 million of net proceeds. In addition, for the nine months ended September 30, 2013, we raised $154 million through our dividend reinvestment program.
Investments. We completed $5.3 billion of gross investments during the nine months ended September 30, 2013, including 71% from existing relationships. The following summarizes investments made during the nine months ended September 30, 2013 (dollars in thousands):
Investment Amount(1)
Capitalization Rates(2)
Book Amount(3)
Acquisitions/JVs:
268,697
7.0%
Seniors housing operating(4)
164
4,585,817
6.6%
5,202,058
144,705
8.6%
Total acquisitions/JVs
187
4,999,219
6.7%
5,615,990
193,354
Loan advances
5,269,909
5,886,680
(1) Represents stated purchase price including cash and any assumed debt but excludes fair value adjustments pursuant to U.S. GAAP.
(2) Represents annualized contractual or projected income to be received in cash divided by investment amounts.
(3) Represents amounts recorded on our books including fair value adjustments pursuant to U.S. GAAP. See Notes 3, 6 and 7 to our consolidated financial statements for additional information.
(4) Excludes $580,834,000 for the Sunrise loan which was acquired upon merger consummation on January 9, 2013. See Note 21 to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, for additional information.
Dispositions. We completed $407 million of dispositions, generating $466 million in proceeds and $57 million in net gains as of September 30, 2013. The following summarizes dispositions made for the nine months ended September 30, 2013 (dollars in thousands):
Proceeds(1)
Property sales:
195,140
10.5%
216,188(4)
6.0%
Total property sales
411,328
8.1%
Loan payoffs(5)
477,742
406,909
(1) Represents proceeds received upon disposition including any seller financing. See Notes 5 and 6 to our consolidated financial statements for additional information.
(2) Represents annualized contractual income that was being received in cash at date of disposition divided by disposition proceeds.
(3) Represents carrying value of assets at time of disposition.
(4) Includes non-cash proceeeds attributable to an asset swap that are excluded from the statement of cash flows. See Note 5 to our consolidated financial statements for additional information.
(5) Excludes $580,834,000 for the Sunrise loan which was acquired upon merger consummation on January 9, 2013.
The following additional event occurred during the nine months ended September 30, 2013:
· Our Board of Directors increased the annual cash dividend to $3.06 per common share ($0.765 per share quarterly), as compared to $2.96 per common share for 2012, beginning in February 2013. The dividend declared for the quarter ended September 30, 2013 represents the 170th consecutive quarterly dividend payment.
We utilize several key performance indicators to evaluate the various aspects of our business. These indicators are discussed below and relate to operating performance, concentration risk and credit strength. Management uses these key performance indicators to facilitate internal and external comparisons to our historical operating results, in making operating decisions and for budget planning purposes.
Operating Performance. We believe that net income attributable to common stockholders (“NICS”) is the most appropriate earnings measure. Other useful supplemental measures of our operating performance include funds from operations (“FFO”), net operating income from continuing operations (“NOI”) and same store cash NOI (“SSCNOI”); however, these supplemental measures are not defined by U.S. generally accepted accounting principles (“U.S. GAAP”). Please refer to the section entitled “Non-GAAP Financial Measures” for further discussion and reconciliations of FFO, NOI and SSCNOI. These earnings measures and their relative per share amounts are widely used by investors and analysts in the valuation, comparison and investment recommendations of companies. The following table reflects the recent historical trends of our operating performance measures for the periods presented (in thousands):
March 31,
June 30,
December 31,
39,307
54,735
90,576
55,058
(8,508)
Funds from operations
163,857
157,932
170,725
205,047
170,878
230,666
258,263
287,644
302,379
338,094
379,408
403,028
Same store cash net operating income
226,624
230,660
231,582
233,759
233,166
238,900
241,124
Per share data (fully diluted):
0.19
0.35
0.21
(0.03)
0.81
0.73
0.75
0.78
0.65
0.83
0.90
Concentration Risk. We evaluate our concentration risk in terms of asset mix, investment mix, relationship mix and geographic mix. Concentration risk is a valuable measure in understanding what portion of our investments could be at risk if certain sectors were to experience downturns. Asset mix measures the portion of our investments that are real property. In order to qualify as an equity REIT, at least 75% of our real estate investments must be real property whereby each property, which includes the land, buildings, improvements, intangibles and related rights, is owned by us. Investment mix measures the portion of our investments that relate to our various property types. Relationship mix measures the portion of our investments that relate to our top five relationships. Geographic mix measures the portion of our investments that relate to our top five states (or international equivalents). The following table reflects our recent historical trends of concentration risk by investment balance for the periods presented:
Asset mix:
Real property
95%
93%
91%
92%
2%
5%
1%
Investments in unconsolidated entities
3%
8%
7%
Investment mix:(1)
53%
47%
43%
40%
41%
20%
28%
35%
39%
27%
25%
22%
21%
Relationship mix:(1)
14%
13%
18%
17%
15%
Benchmark Senior Living
Merrill Gardens
Brandywine Senior Living
Senior Living Communities
Remaining relationships
59%
60%
62%
63%
57%
Geographic mix:(1)
California
10%
9%
New Jersey
England
Texas
Florida
Pennsylvania
Remaining geographic areas
58%
61%
64%
(1) Excludes our share of investments in unconsolidated entities.
34
Credit Strength. We measure our credit strength both in terms of leverage ratios and coverage ratios. The leverage ratios indicate how much of our balance sheet capitalization is related to long-term debt. The coverage ratios indicate our ability to service interest and fixed charges (interest, secured debt principal amortization and preferred dividends). We expect to maintain capitalization ratios and coverage ratios sufficient to maintain compliance with our debt covenants. The coverage ratios are based on earnings before interest, taxes, depreciation and amortization (“EBITDA”) which is discussed in further detail, and reconciled to net income, below in “Non-GAAP Financial Measures.” Leverage ratios and coverage ratios are widely used by investors, analysts and rating agencies in the valuation, comparison, investment recommendations and rating of companies. The following table reflects the recent historical trends for our credit strength measures for the periods presented:
Debt to book capitalization ratio
45%
48%
49%
44%
Debt to undepreciated book
capitalization ratio
38%
Debt to market capitalization ratio
34%
36%
31%
33%
32%
Interest coverage ratio
3.03x
3.21x
2.94x
3.60x
3.42x
2.88x
3.32x
Fixed charge coverage ratio
2.33x
2.52x
2.30x
2.82x
2.72x
2.27x
2.62x
Lease Expirations. The following table sets forth information regarding lease expirations for certain portions of our portfolio as of September 30, 2013 (dollars in thousands):
Expiration Year
2018
2019
2020
2021
2022
Seniors housing triple-net:
1
51
412
Base rent(1)
769
25,947
1,435
16,561
37,398
14,982
36,372
40,270
676,064
% of base rent
0.1%
3.1%
0.2%
0.0%
1.9%
1.8%
4.3%
4.7%
79.5%
Hospitals:
89,484
Medical office buildings:
Square feet
106,148
640,387
707,332
801,814
1,125,709
813,647
682,805
741,685
867,934
1,956,503
3,503,708
2,365
13,838
15,492
17,438
27,163
18,891
16,505
18,006
21,648
39,706
93,101
0.8%
4.9%
5.5%
6.1%
9.6%
5.8%
6.3%
7.6%
14.0%
32.8%
(1) The most recent monthly base rent including straight line for leases with fixed escalators or annual cash rents for leases with contingent escalators. Base rent does not include tenant recoveries or amortization of above and below market lease intangibles.
We evaluate our key performance indicators in conjunction with current expectations to determine if historical trends are indicative of future results. Our expected results may not be achieved and actual results may differ materially from our expectations. Factors that may cause actual results to differ from expected results are described in more detail in “Forward-Looking Statements and Risk Factors” and other sections of this Quarterly Report on Form 10-Q. Management regularly monitors economic and other factors to develop strategic and tactical plans designed to improve performance and maximize our competitive position. Our ability to achieve our financial objectives is dependent upon our ability to effectively execute these plans and to appropriately respond to emerging economic and company-specific trends. Please refer to our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, under the headings “Business,” “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for further discussion of these risk factors.
Maintaining investor confidence and trust is important in today’s business environment. Our Board of Directors and management are strongly committed to policies and procedures that reflect the highest level of ethical business practices. Our corporate governance guidelines provide the framework for our business operations and emphasize our commitment to increase stockholder value while meeting all applicable legal requirements. These guidelines meet the listing standards adopted by the New York Stock Exchange and
are available on the Internet at www.hcreit.com.
Liquidity and Capital Resources
Our primary sources of cash include rent and interest receipts, resident fees and services, borrowings under our primary unsecured line of credit arrangement, public issuances of debt and equity securities, proceeds from investment dispositions and principal payments on loans receivable. Our primary uses of cash include dividend distributions, debt service payments (including principal and interest), real property investments (including acquisitions, capital expenditures, construction advances and transaction costs), loan advances, property operating expenses, and general and administrative expenses. These sources and uses of cash are reflected in our Consolidated Statements of Cash Flows and are discussed in further detail below. The following is a summary of our sources and uses of cash flows (dollars in thousands):
Change
870,282
532%
Cash provided from (used in):
Operating activities
62,437
11%
Investing activities
(1,104,940)
Financing activities
(1,059,602)
-38%
n/a
(1,217,414)
-88%
Operating Activities. The change in net cash provided from operating activities is primarily attributable to increases in NOI, which is primarily due to acquisitions. Please see “Results of Operations” for further discussion. For the nine months ended September 30, 2013, cash distributions to stockholders exceeded cash flow provided from operations. The source of funds for these excess distributions was available cash on-hand, which was $1.0 billion at December 31, 2012 and $165 million at September 30, 2013.
Investing Activities. The changes in net cash used in investing activities are primarily attributable to net changes in real property investments, real estate loans receivable and investments in unconsolidated entities, which are summarized above in “Key Transactions in 2013.” Please refer to Notes 3, 6 and 7 of our consolidated financial statements for additional information.
Financing Activities. The changes in net cash provided from financing activities are primarily attributable to changes related to our long-term debt arrangements, the issuance/redemptions of common and preferred stock and dividend payments, which are summarized above in “Key Transactions in 2013.” Please refer to Notes 9, 10 and 13 of our consolidated financial statements for additional information.
At September 30, 2013, we had investments in unconsolidated entities with our ownership ranging from 10% to 50%. Please see Note 7 to our consolidated financial statements for additional information. We use financial derivative instruments to hedge interest rate and foreign currency exchange rate exposure. Please see Note 11 to our consolidated financial statements for additional information. At September 30, 2013, we had six outstanding letter of credit obligations. Please see Note 12 to our consolidated financial statements for additional information.
The following table summarizes our payment requirements under contractual obligations as of September 30, 2013 (in thousands):
Payments Due by Period
2014-2015
2016-2017
Unsecured line of credit arrangements
10,000
837,670
Senior unsecured notes(1)
1,650,000
Secured debt(1)
3,476,041
86,018
902,135
847,762
1,640,126
Contractual interest obligations
3,535,574
110,773
872,432
670,904
1,881,465
118,463
1,345
18,549
9,464
89,105
Operating lease obligations
882,088
3,497
28,213
30,091
820,287
Purchase obligations
321,186
60,805
260,381
Other long-term liabilities
6,522
1,580
2,463
2,479
Total contractual obligations
15,605,734
572,438
2,576,362
4,048,354
8,408,580
(1) Amounts represent principal amounts due and do not reflect unamortized premiums/discounts or other fair value adjustments as reflected on the balance sheet.
At September 30, 2013, we had an unsecured line of credit arrangement with an aggregate commitment amount of $2,250,000,000. See Note 9 to our unaudited consolidated financial statements for additional information. Total contractual interest obligations on these arrangements totaled $32,051,000 at September 30, 2013, using interest rates in place at that date.
We have $5,675,118,000 of senior unsecured notes principal outstanding with annual fixed interest rates ranging from 2.25% to 6.5%, payable semi-annually. A total of $275,118,000 of our senior unsecured notes are convertible notes that also contain put features. In addition, we have a $250,000,000 Canadian denominated unsecured term loan (approximately $243,072,000 USD at exchange rates on September 30, 2013). The loan matures on July 27, 2015 with an option to extend for an additional year at our discretion. We also have a $500,000,000 unsecured term loan that matures on March 16, 2016 and can be extended for two additional years at our option. See Note 10 to our unaudited consolidated financial statements for more information. Total contractual interest obligations on senior unsecured notes, the Canadian term loan and the $500,000,000 term loan totaled $2,481,111,000 at September 30, 2013.
We have consolidated secured debt with total outstanding principal of $3,065,923,000, collateralized by owned properties, with fixed annual interest rates ranging from 1.0% to 9.1%, payable monthly. The carrying values of the properties securing the debt totaled $6,336,955,000 at September 30, 2013. Total contractual interest obligations on consolidated secured debt totaled $959,989,000 at September 30, 2013. Additionally, our share of non-recourse debt associated with unconsolidated entities (as reflected in the contractual obligations table above) is $410,118,000 at September 30, 2013. Our share of contractual interest obligations on our unconsolidated entities’ secured debt is $62,423,000 at September 30, 2013.
At September 30, 2013, we had operating lease obligations of $882,088,000 relating primarily to ground leases at certain of our properties and office space leases and capital lease obligations of $118,463,000 relating to certain leased investment properties that contain bargain purchase options.
Purchase obligations include unfunded construction commitments and contingent purchase obligations. At September 30, 2013, we had outstanding construction financings of $158,006,000 for leased properties and were committed to providing additional financing of approximately $261,625,000 to complete construction. At September 30, 2013, we had contingent purchase obligations totaling $59,561,000. These contingent purchase obligations relate to unfunded capital improvement obligations and contingent obligations on acquisitions. Upon funding, amounts due from the tenant are increased to reflect the additional investment in the property.
Other long-term liabilities relate to our Supplemental Executive Retirement Plan, which is discussed in Note 19 to the financial statement included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013.
Please refer to “Credit Strength” above for a discussion of our leverage and coverage ratio trends. Our debt agreements contain various covenants, restrictions and events of default. Certain agreements require us to maintain certain financial ratios and minimum net worth and impose certain limits on our ability to incur indebtedness, create liens and make investments or acquisitions. As of September 30, 2013, we were in compliance with all of the covenants under our debt agreements. Please refer to the section entitled “Non-GAAP Financial Measures” for further discussion. None of our debt agreements contain provisions for acceleration which could
be triggered by our debt ratings. However, under our primary unsecured line of credit arrangement, the ratings on our senior unsecured notes are used to determine the fees and interest charged. A summary of certain covenants and our results as of September 30, 2013 is as follows:
Per Agreement
Unsecured Line of Credit(1)
Senior Unsecured Notes
Actual at
Covenant
Total Indebtedness to Book Capitalization Ratio maximum
Secured Indebtedness to Total Assets Ratio maximum
30%
Total Indebtedness to Total Assets maximum
Unsecured Debt to Unencumbered Assets maximum
Adjusted Interest Coverage Ratio minimum
1.50x
3.33x
Adjusted Fixed Charge Coverage minimum
(1) Canadian denominated term loan covenants are the same as those contained in our primary unsecured line of credit agreement.
We plan to manage the company to maintain compliance with our debt covenants and with a capital structure consistent with our current profile. Any downgrades in terms of ratings or outlook by any or all of the rating agencies could have a material adverse impact on our cost and availability of capital, which could in turn have a material adverse impact on our consolidated results of operations, liquidity and/or financial condition.
On May 4, 2012, we filed an open-ended automatic or “universal” shelf registration statement with the Securities and Exchange Commission covering an indeterminate amount of future offerings of debt securities, common stock, preferred stock, depositary shares, warrants and units. As of October 31, 2013, we had an effective registration statement on file in connection with our enhanced dividend reinvestment plan under which we may issue up to 10,000,000 shares of common stock. As of October 31, 2013, 8,162,812 shares of common stock remained available for issuance under this registration statement. We have entered into separate Equity Distribution Agreements with each of UBS Securities LLC, RBS Securities Inc., KeyBanc Capital Markets Inc. and Credit Agricole Securities (USA) Inc. relating to the offer and sale from time to time of up to $630,015,000 aggregate amount of our common stock (“Equity Shelf Program”). As of October 31, 2013, we had $457,112,000 of remaining capacity under the Equity Shelf Program. Depending upon market conditions, we anticipate issuing securities under our registration statements to invest in additional properties and to repay borrowings under our unsecured line of credit arrangements.
Results of Operations
Our primary sources of revenue include rent and resident fees and services. Our primary expenses include interest expense, depreciation and amortization, property operating expenses, transaction costs and general and administrative expenses. We evaluate our business and make resource allocations on our three business segments: seniors housing triple-net, seniors housing operating and medical facilities. The primary performance measures for our properties are NOI and SSCNOI, which are discussed below. Please see Note 17 to our consolidated financial statements for additional information. The following is a summary of our results of operations (dollars in thousands, except per share amounts):
(16,578)
-44%
(64,063)
-49%
87,538
51%
659,810
492,511
167,299
EBITDA
396,205
283,443
112,762
1,088,342
871,560
216,782
Net operating income from continuing operations (NOI)
126,784
319,195
Same store cash NOI
9,542
713,188
688,866
24,322
(0.09)
-56%
(0.37)
-61%
0.15
2.40
2.30
0.10
0.38x
3.06x
0.15x
0.32x
2.54x
2.38x
0.16x
The following is a summary of our NOI for the seniors housing triple-net segment (dollars in thousands):
SSCNOI(1)
142,269
136,889
5,380
421,744
406,894
14,850
Non-cash NOI attributable to same store properties(1)
8,561
(450)
-5%
24,744
25,007
(263)
-1%
NOI attributable to non same store properties(2)
54,841
39,521
15,320
144,118
96,348
47,770
50%
NOI
20,250
62,357
(1) Due to increases in cash and non-cash revenues (described below) related to 445 same store properties.
(2) Primarily due to acquisitions of 122 properties and conversions of 16 construction projects into revenue-generating properties subsequent to January 1, 2012.
The following is a summary of our results of operations for the seniors housing triple-net segment (dollars in thousands):
21,215
65,108
(1,081)
-18%
(1,666)
-9%
116
(1,085)
-48%
5,968
347
5,621
1620%
15,841
602
15,239
2531%
96
4,776
4975%
58,148
52,294
5,854
169,603
147,074
22,529
4,026
5,590
(1,564)
-28%
15,730
30,796
(15,066)
126
-100%
2,363
73,014
85,365
(12,351)
-14%
206,046
207,939
(1,893)
Income from continuing operations before income taxes and income (loss) from unconsolidated entities
32,601
64,250
Income tax benefit (expense)
(1,582)
(735)
(847)
115%
(2,113)
(1,505)
(608)
1,200
1,172
4186%
3,654
14054%
Income from continuing operations
131,825
98,899
32,926
386,127
318,831
67,296
(1,247)
25,348
(26,595)
49,457
57,710
(8,253)
9,683
(9,683)
1,062
30,583
(29,521)
-97%
28,079
(29,326)
50,519
81,341
(30,822)
130,578
126,978
3,600
436,646
400,172
36,474
Less: Net income (loss) attributable to noncontrolling interests
374
101
273
270%
1,113
108
1,005
931%
Net income attributable to common stockholders
130,204
126,877
3,327
435,533
400,064
35,469
The increase in rental income is primarily attributable to the acquisitions of new properties, the conversion of newly constructed seniors housing triple-net properties from which we receive rent and the transition of 38 properties from the seniors housing operating segment on September 1, 2013. Certain of our leases contain annual rental escalators that are contingent upon changes in the Consumer Price Index and/or changes in the gross operating revenues of the tenant’s properties. These escalators are not fixed, so no straight-line rent is recorded; however, rental income is recorded based on the contractual cash rental payments due for the period. If gross operating revenues at our facilities and/or the Consumer Price Index do not increase, a portion of our revenues may not continue to increase. Sales of real property would offset revenue increases and, to the extent that they exceed new acquisitions, could result in decreased revenues. Our leases could renew above or below current rent rates, resulting in an increase or decrease in rental income. For the three months ended September 30, 2013, we had no lease renewals but we had 20 leases with rental rate increasers ranging from 0.15% to 0.50% in our seniors housing triple-net portfolio. The decrease in interest income is attributable to loan payoffs (see Note 6 to our consolidated financial statements for additional information).
Interest expense for the nine months ended September 30, 2013 and 2012 represents $16,503,000 and $9,645,000, respectively, of secured debt interest expense, which is offset by interest allocated to discontinued operations. The change in secured debt interest expense is due to the net effect and timing of assumptions, extinguishments and principal amortizations. The following is a summary of our seniors housing triple-net property secured debt principal activity (dollars in thousands):
40
Wtd. Avg.
216,421
5.390%
201,901
5.278%
218,741
5.393%
259,000
5.105%
Debt transferred
367,997
5.298%
13,800
5.480%
26,665
6.064%
83,002
5.304%
(13,526)
2.587%
(8,052)
6.055%
(119,647)
4.889%
(1,600)
5.637%
(887)
5.422%
(3,920)
5.598%
(2,728)
5.573%
583,092
5.399%
219,627
5.344%
Monthly averages
338,300
5.395%
202,097
5.281%
257,711
215,500
5.217%
Depreciation and amortization increased primarily as a result of new property acquisitions, the conversions of newly constructed investment properties and the transition of 38 properties from the seniors housing operating segment on September 1, 2013. To the extent that we acquire or dispose of additional properties in the future, our provision for depreciation and amortization will change accordingly. The change in year to date transaction costs is primarily due to lower transaction volume offset by a lease termination fee recorded in the current year.
Changes in gains on sales of properties are related to property sales, which totaled 19 and 29 for the nine months ended September 30, 2013 and 2012, respectively. The following illustrates the reclassification impact as a result of classifying the properties sold prior to or held for sale at September 30, 2013 as discontinued operations for the periods presented. Please refer to Note 5 to our consolidated financial statements for further discussion.
14,218
2,486
49,614
2,373
9,043
2,162
762
9,988
Income from discontinued operations, net
41
The following is a summary of our NOI for the seniors housing operating segment (dollars in thousands):
38,505
35,967
2,538
111,923
106,730
5,193
116,214
20,128
96,086
477%
268,399
54,613
213,786
391%
98,624
176%
218,979
136%
(1) Due to increases in revenues (described below) related to 74 same store properties.
(2) Primarily due to the acquisition of 202 properties subsequent to January 1, 2012 and the transfer of 38 properties to Seniors Housing Triple-net on September 1, 2013.
As discussed in Note 3 to our consolidated financial statements, we completed additional acquisitions within our seniors housing operating segment during the nine months ended September 30, 2013. The results of operations for these properties have been included in our consolidated results of operations from the dates of acquisition. The seniors housing operating acquisitions were structured under RIDEA, which is discussed in Note 18 to our consolidated financial statements. When considering new acquisitions utilizing the RIDEA structure, we look for opportunities with best-in-class operators with a strong seasoned leadership team, high-quality real estate in attractive markets, growth potential above the standard rent escalators in our triple-net lease seniors housing portfolio, and alignment of economic interests with our operating partner. Our seniors housing operating properties offer us the opportunity for external growth because we have the right to fund future seniors housing investment opportunities sourced by our operating partners. The increases in NOI are almost entirely attributable to 202 property acquisitions that have occurred subsequent to January 1, 2012. The following is a summary of our seniors housing operating results of operations (dollars in thousands):
291,663
167%
666,151
134%
291,830
667,077
311,575
118,369
193,206
163%
785,050
336,952
448,098
133%
Other expenses:
24,693
17,474
7,219
63,175
49,537
13,638
(407)
(1,808)
1,401
-77%
144,578
39,591
104,987
265%
338,099
123,820
214,279
173%
18,882
1,966
16,916
860%
101,006
6,365
94,641
1487%
(5,252)
89
(5,341)
-6001%
(5,560)
(1,089)
(4,471)
411%
182,901
59,529
123,372
207%
496,313
176,825
319,488
181%
Income (loss) from continuing operations before income taxes and income (loss) from unconsolidated entities
(24,748)
721%
(100,509)
649%
Income tax expense
(372)
265
(637)
-240%
(4,517)
(486)
(4,031)
829%
(4,391)
(3,162)
(1,229)
(9,856)
241%
(32,945)
(6,331)
(26,614)
420%
(134,454)
(20,058)
(114,396)
570%
(4,167)
(478)
(3,689)
772%
(5,830)
(2,489)
(3,341)
(28,778)
(5,853)
(22,925)
392%
(128,624)
(17,569)
(111,055)
632%
Fluctuations in revenues and property operating expenses are primarily a result of acquisitions subsequent to September 30, 2012, offset by the transition of 38 properties to seniors housing triple-net on September 1, 2013. The fluctuations in depreciation and amortization are due to acquisitions and variations in amortization of short-lived intangible assets. To the extent that we acquire or dispose of additional properties in the future, these amounts will change accordingly. Loss from unconsolidated entities during the three and nine month periods ended September 30, 2013 is primarily attributable to depreciation and amortization of short-lived intangible assets related to our joint ventures described in Note 7 to our consolidated financial statements. Interest income relates to the Sunrise loan that was acquired upon merger consummation on January 9, 2013.
Interest expense represents secured debt interest expense as well as interest expense related to our unsecured Canadian term loan discussed in Note 10 to our consolidated financial statements. The following is a summary of our seniors housing operating property secured debt principal activity, which excludes the Canadian term loan (dollars in thousands):
43
1,908,250
4.738%
1,377,933
5.203%
1,369,526
4.874%
1,318,647
5.125%
6,318
2.506%
71,340
4.961%
4.131%
678,742
3.925%
1,215,598
4.055%
8,316
5.624%
(472,685)
3.482%
(521,841)
3.548%
(79,990)
2.644%
(367,997)
(9,492)
4.575%
(5,445)
4.667%
(22,916)
(13,880)
4.701%
9,564
4.045%
1,746,382
4.619%
1,379,094
4.832%
2,190,049
4.824%
1,378,980
4.835%
1,719,287
4.870%
1,394,989
4.760%
The increase in gains on debt extinguishment is primarily due to an increased volume of secured debt extinguishments during the three months ended September 30, 2013. The change in net derivative gains is due to foreign currency hedges relating to our international investments which are described in Note 11 to our unaudited consolidated financial statements.
The change in transaction costs is due to both the volume and nature of transactions completed in the current year. The majority of our seniors housing operating properties are formed through partnership interests. Net income attributable to noncontrolling interests for the three and nine month periods ended September 30, 2013 and 2012 represents our partners’ share of net income (loss) related to those properties.
The following is a summary of our NOI for the medical facilities segment (dollars in thousands):
60,350
58,726
1,624
179,521
175,241
4,280
1,505
1,650
(145)
4,789
(591)
-11%
22,373
15,697
6,676
71,123
36,475
34,648
8,155
38,337
(1) Due to increases in cash and non-cash revenues (described below) related to 169 same store properties.
(2) Primarily due to acquisitions of 41 properties and conversions of construction projects into eight revenue-generating properties subsequent to January 1, 2012.
The following is a summary of our results of operations for the medical facilities segment (dollars in thousands):
12,597
54,803
599
1,103
66
13,262
55,963
31,155
26,048
5,107
89,910
72,284
17,626
24%
9,143
7,940
1,203
28,441
22,338
6,103
39,942
35,959
3,983
120,998
102,450
18,548
683
708
(25)
-4%
971
5,374
(4,403)
-82%
(483)
49,768
44,607
5,161
150,410
129,679
20,731
16%
Income from continuing operations before income taxes and income from unconsolidated entities
2,994
17,606
(1,123)
(143)
(980)
685%
(408)
(316)
(92)
29%
Income from unconsolidated entities
2,860
2,395
465
423
36,197
33,718
111,352
17,937
5,954
(12,521)
18,475
7,745
(11,664)
19,409
1,441
(1,024)
-71%
1,150
2,711
(1,561)
-58%
6,371
(11,080)
17,451
8,895
(8,953)
17,848
42,568
22,638
19,930
88%
120,247
84,462
35,785
42%
105
93
775%
255
140
115
82%
42,463
22,626
19,837
119,992
84,322
35,670
The increase in rental income is primarily attributable to the acquisitions of new properties and the construction conversions of medical facilities from which we receive rent. Certain of our leases contain annual rental escalators that are contingent upon changes in the Consumer Price Index. These escalators are not fixed, so no straight-line rent is recorded; however, rental income is recorded based on the contractual cash rental payments due for the period. If the Consumer Price Index does not increase, a portion of our revenues may not continue to increase. Sales of real property would offset revenue increases and, to the extent that they exceed new acquisitions, could result in decreased revenues. Our leases could renew above or below current rent rates, resulting in an increase or decrease in rental income. For the three months ended September 30, 2013, our consolidated medical office building portfolio signed 56,578 square feet of new leases and 187,177 square feet of renewals. The weighted-average term of these leases was five years, with a rate of $22.39 per square foot and tenant improvement and lease commission costs of $14.98 per square foot. Substantially all of these leases during the referenced quarter contain an annual fixed or contingent escalation rent structure ranging from the change in CPI to 3%. For the three months ended September 30, 2013, we had no lease renewals and one lease with a rental rate increaser of 0.27% in our hospital portfolio.
Interest expense for the nine months ended September 30, 2013 and 2012 represents $29,314,000 and $28,799,000, respectively, of secured debt interest expense, which is offset by interest allocated to discontinued operations. The change in secured debt interest expense is primarily due to the net effect and timing of assumptions, extinguishments and principal amortizations. The following is a summary of our medical facilities secured debt principal activity (dollars in thousands):
705,322
5.947%
695,454
713,720
5.950%
520,026
5.981%
26,300
6.439%
220,335
5.861%
(37,622)
5.858%
(3,905)
6.032%
(3,513)
6.021%
(12,303)
6.132%
(10,798)
6.130%
727,717
5.964%
691,941
709,921
5.952%
693,684
710,146
661,406
5.953%
The increase in property operating expenses and depreciation and amortization is primarily attributable to acquisitions and construction conversions of new medical facilities for which we incur certain property operating expenses offset by property operating expenses associated with discontinued operations. The change in transaction costs is due primarily to lower transaction volume in the current year. Income from unconsolidated entities includes our share of net income related to our joint venture investment with Forest City Enterprises and certain unconsolidated property investments related to our strategic joint venture relationship with a national medical office building company. See Note 7 to our consolidated financial statements for additional information.
Changes in gains/losses on sales of properties is related to property sales, which totaled twelve and thirteen for the nine months ended September 30, 2013, and 2012, respectively. The following illustrates the reclassification impact as a result of classifying the properties sold prior to or held for sale at September 30, 2013 as discontinued operations for the periods presented. Please refer to Note 5 to our consolidated financial statements for further discussion.
6,529
3,486
20,553
1,955
873
2,852
1,117
9,912
46
The following is a summary of our results of operations for the non-segment/corporate activities (dollars in thousands):
(245)
-63%
76,726
66,154
10,572
229,128
198,746
30,382
5,039
2,497
Loss on extinguishment of debt, net
1,184
106,628
89,833
16,795
310,111
276,048
34,063
Loss from continuing operations before income taxes
(17,040)
(34,541)
(223)
223
(17)
(1,447)
1,430
-99%
Loss from continuing operations
(89,779)
(16,817)
(309,851)
(276,740)
(33,111)
Less: Preferred stock dividends
0%
(2,722)
Less: Preferred stock redemption charge
Net loss attributable to common stockholders
(123,198)
(106,381)
(359,656)
(335,509)
(24,147)
Other income primarily represents income from non-real estate activities such as interest earned on temporary investments of cash reserves. The following is a summary of our non-segment/corporate interest expense (dollars in thousands):
71,533
62,172
9,361
216,688
186,277
30,411
122
138
(16)
-12%
358
402
(44)
Unsecured lines of credit
4,445
3,078
1,367
11,967
9,717
23%
(1,706)
(2,555)
849
-33%
2,415
-34%
Swap savings
-67%
(11)
81
Loan expense
2,336
3,333
(997)
-30%
4,824
9,555
(4,731)
-50%
The change in interest expense on senior unsecured notes is due to the net effect of issuances and extinguishments. Please refer to Note 10 of our consolidated financial statements for additional information. We capitalize certain interest costs associated with funds used for the construction of properties owned directly by us. The amount capitalized is based upon the balances outstanding during the construction period using the rate of interest that approximates our cost of financing. Our interest expense is reduced by the amount capitalized. Please see Note 11 to our consolidated financial statements for a discussion of our interest rate swap agreements and their impact on interest expense. Loan expense represents the amortization of deferred loan costs incurred in connection with the issuance and amendments of debt. Loan expense changes are primarily due to amortization of costs incurred for senior unsecured note issuances. The change in interest expense on the unsecured line of credit arrangements is due primarily to the net effect and timing of draws, paydowns and variable interest rate changes. Please refer to Note 9 of our consolidated financial statements for additional information regarding our unsecured line of credit arrangements.
General and administrative expenses as a percentage of consolidated revenues (including revenues from discontinued operations) for the three months ended September 30, 2013 and 2012 were 3.65% and 4.99%, respectively. The decline in percent of revenue is primarily related to the increasing revenue base as a result of our acquisitions. The loss on extinguishment of debt is due to the redemption of convertible senior notes. The changes in preferred stock dividends are primarily attributable to the net effect of issuances, redemptions and conversions. Please see Note 13 to our consolidated financial statements for additional information. In
connection with the preferred stock redemptions, we recognized charges of $6,242,000 for the nine months ended September 30, 2012.
Non-GAAP Financial Measures
We believe that net income, as defined by U.S. GAAP, is the most appropriate earnings measurement. However, we consider FFO to be a useful supplemental measure of our operating performance. Historical cost accounting for real estate assets in accordance with U.S. GAAP implicitly assumes that the value of real estate assets diminishes predictably over time as evidenced by the provision for depreciation. However, since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered presentations of operating results for real estate companies that use historical cost accounting to be insufficient. In response, the National Association of Real Estate Investment Trusts (“NAREIT”) created FFO as a supplemental measure of operating performance for REITs that excludes historical cost depreciation from net income. FFO, as defined by NAREIT, means net income, computed in accordance with U.S. GAAP, excluding gains (or losses) from sales of real estate and impairment of depreciable assets, plus depreciation and amortization, and after adjustments for unconsolidated entities.
Net operating income from continuing operations (“NOI”) is used to evaluate the operating performance of our properties. We define NOI as total revenues, including tenant reimbursements, less property level operating expenses. Property operating expenses represent costs associated with managing, maintaining and servicing tenants for our seniors housing operating and medical facility properties. These expenses include, but are not limited to, property-related payroll and benefits, property management fees, marketing, housekeeping, food service, maintenance, utilities, property taxes and insurance. General and administrative expenses represent costs unrelated to property operations or transaction costs. These expenses include, but are not limited to, payroll and benefits, professional services, office expenses and depreciation of corporate fixed assets. Same store cash NOI (“SSCNOI”) is used to evaluate the cash-based operating performance of our properties under a consistent population which eliminates changes in the composition of our portfolio. As used herein, same store is generally defined as those revenue-generating properties in the portfolio for the reporting period subsequent to January 1, 2012. Any properties acquired, developed, transitioned or classified in discontinued operations during that period are excluded from the same store amounts. We believe NOI and SSCNOI provide investors relevant and useful information because they measure the operating performance of our properties at the property level on an unleveraged basis. We use NOI and SSCNOI to make decisions about resource allocations and to assess the property level performance of our properties.
EBITDA stands for earnings before interest, taxes, depreciation and amortization. We believe that EBITDA, along with net income and cash flow provided from operating activities, is an important supplemental measure because it provides additional information to assess and evaluate the performance of our operations. We primarily utilize EBITDA to measure our interest coverage ratio, which represents EBITDA divided by total interest, and our fixed charge coverage ratio, which represents EBITDA divided by fixed charges. Fixed charges include total interest, secured debt principal amortization and preferred dividends.
A covenant in our primary unsecured line of credit arrangement and Canadian denominated term loan contains a financial ratio based on a definition of EBITDA that is specific to that agreement. Failure to satisfy these covenants could result in an event of default that could have a material adverse impact on our cost and availability of capital, which could in turn have a material adverse impact on our consolidated results of operations, liquidity and/or financial condition. Due to the materiality of these debt agreements and the financial covenants, we have disclosed Adjusted EBITDA, which represents EBITDA as defined above and adjusted for stock-based compensation expense, provision for loan losses and gain/loss on extinguishment of debt. We use Adjusted EBITDA to measure our adjusted fixed charge coverage ratio, which represents Adjusted EBITDA divided by fixed charges on a trailing twelve months basis. Fixed charges include total interest (excluding capitalized interest and non-cash interest expenses), secured debt principal amortization and preferred dividends. Our covenant requires an adjusted fixed charge ratio of at least 1.50 times.
Other than Adjusted EBITDA, our supplemental reporting measures and similarly entitled financial measures are widely used by investors, equity and debt analysts and rating agencies in the valuation, comparison, rating and investment recommendations of companies. Management uses these financial measures to facilitate internal and external comparisons to our historical operating results and in making operating decisions. Additionally, these measures are utilized by the Board of Directors to evaluate management. Adjusted EBITDA is used solely to determine our compliance with a financial covenant in our primary line of credit arrangement and Canadian denominated term loan and is not being presented for use by investors for any other purpose. None of our supplemental measures represent net income or cash flow provided from operating activities as determined in accordance with U.S. GAAP and should not be considered as alternative measures of profitability or liquidity. Finally, the supplemental measures, as defined by us, may not be comparable to similarly entitled items reported by other real estate investment trusts or other companies.
48
The table below reflects the reconciliation of FFO to net income attributable to common stockholders, the most directly comparable U.S. GAAP measure, for the periods presented. The provisions for depreciation and amortization include provisions for depreciation and amortization from discontinued operations. Noncontrolling interest amounts represent the noncontrolling interests’ share of transaction costs and depreciation and amortization. Unconsolidated entity amounts represent our share of unconsolidated entities’ depreciation and amortization. Amounts are in thousands except for per share data.
FFO Reconciliations:
127,422
132,963
132,858
140,342
187,122
200,477
242,981
22,335
(769)
(32,450)
(12,827)
(54,502)
(82,492)
29,997
(4,707)
(4,990)
(5,189)
(5,440)
(5,439)
(5,793)
(7,821)
(12,328)
Unconsolidated entities
2,887
7,873
11,913
11,735
16,983
16,521
11,626
Average common shares outstanding:
199,661
213,498
259,290
260,036
273,091
201,658
215,138
261,210
262,525
276,481
Per share data:
Net income attributable to
common stockholders
0.20
0.26
0.82
0.76
0.79
0.66
0.84
(15,619)
(25,942)
22,673
45,130
2.32
2.42
The table below reflects the reconciliation of EBITDA to net income, the most directly comparable U.S. GAAP measure, for the periods presented. Interest expense and the provisions for depreciation and amortization include discontinued operations. Dollars are in thousands.
EBITDA Reconciliations:
57,458
76,875
107,005
71,799
7,181
93,722
96,762
96,243
96,573
110,734
110,844
116,542
Income tax expense (benefit)
1,470
836
3,858
2,763
1,215
280,072
308,047
347,778
372,418
319,717
Interest Coverage Ratio:
Non-cash interest expense
(3,693)
(2,849)
(2,612)
(3,494)
(1,237)
951
2,420
2,140
2,556
2,664
1,606
1,386
1,706
Total interest
92,449
96,053
96,558
96,625
108,846
110,993
119,199
Fixed Charge Coverage Ratio:
Secured debt principal payments
8,529
9,567
10,141
10,317
11,319
13,277
15,297
Preferred dividends
19,207
16,719
Total fixed charges
120,185
122,339
123,301
123,544
136,767
140,872
151,098
286,727
338,120
3,754
7,055
(8,783)
(3,779)
7,113
4,698
285,057
339,039
28,237
39,893
365,821
428,737
The table below reflects the reconciliation of Adjusted EBITDA to net income, the most directly comparable U.S. GAAP measure, for the periods presented. Interest expense and the provisions for depreciation and amortization include discontinued operations. Dollars are in thousands.
Twelve Months Ended
Adjusted EBITDA
Reconciliations:
238,363
229,029
230,181
294,841
309,183
239,491
219,590
356,390
368,379
376,811
383,300
400,312
414,394
434,693
2,729
3,965
4,578
7,611
8,904
8,672
10,913
476,259
498,169
515,387
533,585
593,285
660,799
770,922
16,552
16,177
17,003
18,521
17,728
17,607
18,971
1,762
1,595
28,471
(979)
(403)
(188)
(775)
(1,083)
(1,659)
(5,942)
1,091,076
1,116,911
1,172,243
1,264,091
1,355,337
1,366,312
1,449,147
Adjusted Fixed Charge Coverage Ratio:
10,919
10,745
10,190
9,777
8,964
8,211
7,362
(13,882)
(14,033)
(12,560)
(11,395)
(11,196)
(9,584)
(6,392)
353,427
365,091
374,441
381,682
398,080
413,021
435,663
Adjusted interest coverage ratio
3.09x
3.13x
3.31x
3.40x
30,427
32,983
35,920
38,554
41,344
45,054
50,210
71,028
70,394
69,762
69,129
66,525
66,408
454,882
468,468
480,123
489,365
505,949
524,483
552,281
Adjusted fixed charge coverage ratio
2.40x
2.44x
2.58x
2.68x
2.61x
The following tables reflect the reconciliation of NOI and SSCNOI to net income attributable to common stockholders, the most directly comparable U.S. GAAP measure, for the periods presented. Amounts are in thousands.
NOI Reconciliations:
Total revenues:
167,621
175,656
187,269
190,813
194,573
158,174
165,654
205,470
328,081
370,995
90,509
96,751
106,821
113,980
115,980
Non-segment/corporate
243
158
416,539
438,304
499,718
632,955
681,712
Property operating expenses:
107,243
111,340
134,726
224,503
248,972
21,652
24,585
26,898
29,044
29,712
Total property operating expenses
128,895
135,925
161,624
253,547
278,684
Net operating income:
50,931
54,314
70,744
103,578
122,023
68,857
72,166
79,923
84,936
86,268
(88,247)
(91,061)
(93,514)
(109,571)
(110,483)
2,676
113
(2,309)
2,716
(119,219)
(126,281)
(137,041)
(186,332)
(199,701)
(27,751)
(25,870)
(20,039)
(27,179)
(23,902)
(5,579)
(28,691)
(19,074)
(65,980)
(28,136)
(576)
1,566
308
(1,470)
(3,858)
(2,763)
(1,215)
1,532
1,456
232
2,262
(5,461)
11,103
44,290
40,525
83,955
(29,665)
(19,207)
(16,719)
(16,602)
Loss (income) attributable to noncontrolling interests
1,056
821
365
174
(139)
913
3,688
(248,337)
(247,644)
(280,147)
(247,518)
(324,350)
(411,536)
(423,509)
2,241
4,462
(776,135)
(1,159,393)
Same Store Cash NOI Reconciliations:
Net operating income from continuing operations:
287,409
302,136
317,139
337,936
379,327
402,864
444,168
Adjustments:
Non-cash NOI on same store properties
(8,384)
(8,062)
(8,737)
(8,779)
(7,855)
(8,111)
NOI attributable to non same store properties
(25,968)
(30,858)
(39,521)
(41,485)
(43,484)
(45,792)
(54,841)
Subtotal
(34,352)
(38,920)
(48,082)
(50,222)
(52,263)
(53,647)
(62,952)
Seniors housing operating:
(15,928)
(18,553)
(20,128)
(33,216)
(68,401)
(83,781)
(116,214)
Medical facilities:
(2,061)
(1,669)
(1,650)
(1,649)
(1,601)
(1,684)
(8,444)
(12,334)
(15,697)
(19,090)
(23,896)
(24,852)
(22,373)
(10,505)
(14,003)
(17,347)
(20,739)
(25,497)
(26,536)
(23,878)
Same store cash net operating income:
445
133,269
136,736
137,047
138,550
140,926
74
35,003
35,761
37,528
35,177
38,242
58,352
58,163
59,184
59,439
59,732
688
906,688
1,226,361
(25,007)
(24,744)
(96,348)
(144,118)
(121,355)
(168,862)
(54,613)
(268,399)
(5,380)
(4,789)
(36,475)
(71,123)
(41,855)
(75,912)
688,865
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Other Disclosures
Health Care Reimbursements
Policy and legislative changes that increase or decrease government reimbursement may impact our operators and tenants that participate in Medicare, Medicaid or other government programs. To the extent that policy or legislative changes decrease government reimbursement to our operators and tenants, our revenue and operations may be indirectly adversely affected.
On July 31, 2013 the Centers for Medicare and Medicaid Services (“CMS”) issued a final rule for the skilled nursing prospective payment system that sets forth payment rate changes for the 2014 fiscal year, which began on October 1, 2013. Under the final rule, skilled nursing facilities (“SNFs”) will receive a net payment increase of 1.3%, which is based on a 2.3% increase in the SNF market basket, less a 0.5% forecast error adjustment, and less a 0.5% multi-factor productivity adjustment. CMS is implementing a forecast error adjustment because the forecasted fiscal year 2012 market basket percentage change exceeded the actual SNF market basket percentage change by 0.51%, a figure that is in excess of the 0.5% threshold adopted by the agency for determining when a forecast error adjustment will be applied.
On November 21, 2011, the Joint Select Committee on Deficit Reduction, which was created by the Budget Control Act of 2011, concluded its work and issued a statement that it was not able to make a bipartisan agreement, thus triggering the sequestration process. On January 2, 2013, President Obama signed into law the American Taxpayer Relief Act of 2012 (“Taxpayer Relief Act”), which delayed the sequestration process until March 1, 2013. While the sequester went into effect March 1, 2013, effective April 1, 2013, provider payments under Medicare Parts A and B, Medicare Advantage, and Medicare Part D, will be reduced up to 2% annually. However, Medicaid spending and most of the spending on subsidies is exempt from reduction.
The Balanced Budget Act of 1997 mandated caps on Medicare reimbursement for certain therapy services. However, Congress imposed various waivers on the implementation of those caps. The Middle Class Tax Relief and Job Creation Act of 2012 (“Job Creation Act”) made a number of changes effective on October 1, 2012, including applying the therapy caps to outpatient hospitals, creating two new threshold amounts of $3,700 (one for each therapy cap amount), and requiring a manual medical review process of claims over these new thresholds. CMS announced on March 1, 2013 that, until the agency provides further guidance, all therapy claims that are suspended for Manual Medical Review of Therapy Services above the $3,700 threshold will be subject to prepayment medical review. On July 9, 2013, CMS released an advanced copy of its proposed calendar year 2014 Medicare Physician Fee Schedule, which proposes to extend the therapy cap limitation to services provided at critical access hospitals. The Taxpayer Relief Act extended the Job Creation Act provisions related to payment for Medicare outpatient therapy services and extended the historical therapy cap waiver and exceptions process through December 31, 2013. The Taxpayer Relief Act also increased the multiple procedure discount for Medicare Part B therapy services from 25% to 50% effective April 1, 2013, which will lower revenues for certain operators or tenants.
CMS annually adjusts the Medicare Physician Fee Schedule payment rates based on an update formula that includes application of the Sustainable Growth Rate (“SGR”), which is an annual growth rate established by CMS and is intended to control growth in aggregate Medicare expenditures for physicians’ services and the allowed and actual expenditures for physicians’ services. On November 1, 2012, CMS published the calendar year 2013 Physician Fee Schedule final rule that called for a negative 26.5% update under the statutory SGR formula. The Taxpayer Relief Act provided for a zero percent update, blocking this cut through December 31, 2013. In March 2013, CMS estimated a negative 24.4% update under the statutory SGR formula for calendar year 2014. Additionally, in late July 2013, the House Energy and Commerce and Ways and Means Committee approved H.R. 2810, a proposal to replace the SGR updates with a quality measure system by a bipartisan vote of 51-0, but House lawmakers have yet to formally adopt the proposal. According to a recent estimate by the Congressional Budget Office, the House bill would cost $175 billion over 10 years, through 2023. The Senate Finance Committee is also moving forward on its own version of a bill to replace the SGR.
Medicaid is a major payor source for residents in our SNFs and hospitals. The federal and state government share responsibility for financing Medicaid. President Obama’s proposed fiscal year budget for 2013 included several proposals that were not implemented that would have lowered federal spending for Medicaid, potentially impacting provider Medicaid reimbursement rates. The proposals included new limits on state provider taxes, phasing down the existing Medicaid provider tax, and blending the Federal matching rate for state Medicaid and the Children’s Health Insurance Program. Although the President’s proposed fiscal year budget for 2014 did not include these proposals, provider tax reductions continue to be discussed as a potential cost savings measure. The President’s 2014 budget called for an overall reduction in federal health care spending by $401 billion over ten years, with savings stemming from several cost-saving proposals including reduced Medicare payments for long-term care hospitals, SNFs, and other post-acute care providers. In June 2013, leaders of the House Ways and Means and Senate Finance committees solicited input from stakeholders on proposals to reform Medicare payment for post-acute services, requesting comments by August 19 on proposals by
the Medicare Payment Advisory Commission, the Obama administration, the Bipartisan Policy Center, and the Simpson-Bowles Commission for market-basket cuts, site-neutral payment, SNF readmission penalties, and bundled payments.
On August 2, 2013, CMS issued a final rule for the Medicare Inpatient Prospective Payment System, which sets forth acute care and long-term care hospital payment rate changes for the 2014 fiscal year, which began on October 1, 2013. Under the final rule, the Medicare rates for inpatient services at acute care hospitals will increase by 0.7% and rates for long-term care hospitals will increase by 0.4%, accounting for adjustments, such as the multifactor productivity adjustment and the second year adjustment for a three-year phase-in of a one-time 3.75% budget neutrality adjustment to the long-term care hospital rate. CMS finalized its proposal to let expire the one-year extension of the existing moratorium on the 25% threshold policy, a policy that imposes lower Medicare payments, in certain circumstances, on those long-term care hospitals that admit more than 25% of their patients from a single acute care hospital. The expiration of the moratorium on the 25% threshold policy impacts cost reporting periods that began on or after October 1, 2013. Under the final rule, CMS also finalized a number of changes to comply with the Health Reform Laws. Beginning in fiscal year 2014, hospitals that rank among the lowest-performing 25% with regard to hospital-acquired conditions will see a 1% reduction in Medicare payment rates. CMS will also increase the maximum payment reduction under the Hospital Readmissions Reduction program, which began on October 1, 2012, to 2% of payment amounts in fiscal year 2014. For fiscal year 2014, CMS is increasing the applicable percentage reduction, the portion of Medicare payments available to fund the Value-Based Purchasing Program’s value-based incentive payments, to 1.25%, as required by statute.
On July 31, 2013, CMS issued a final rule for the Medicare Inpatient Rehabilitation Facilities Prospective Payment System that sets forth payment rate changes for the 2014 fiscal year, which began on October 1, 2013. Under the final rule for fiscal year 2014, the Medicare rates for inpatient rehabilitation facilities will increase by 1.8%, which includes a 2.6% market basket increase factor, reduced by a 0.5% multi-factor productivity adjustment and an additional 0.3% point reduction as required by the Health Reform Laws.
A number of additional rules recently proposed by CMS could have further implications on the reimbursement for our operators and tenants if finalized. For example, on March 18, 2013, CMS published a proposed rule that would allow Medicare to pay for additional hospital inpatient services under Medicare Part B. Specifically, the proposed rule would allow additional Part B payment when a Medicare Part A claim is denied because the beneficiary should have been treated as an outpatient, rather than being admitted to the hospital as an inpatient.
On September 18, 2013, CMS published a final rule that sets forth the annual reductions for Medicaid disproportionate share hospital (“DSH”) payments for fiscal years 2014 and 2015, which were mandated by the Health Reform Laws, based on the assumption that the number of uninsured people will fall sharply beginning in 2014. Although the Health Reform Laws mandated reductions in Medicaid DSH spending from 2014 through 2020, the final rule addresses only DHS reductions for 2014 and 2015. In the final rule, CMS explained that, while the President’s FY 2014 budget proposed to delay these reductions until 2015, the Department of Health and Human Services has no flexibility to institute a delay without congressional action.
On September 18, 2013, the Commission on Long-Term Care, a 15-member federal, bipartisan advisory commission created by the 2012 American Taxpayer Relief Act, issued a pre-publication version of its report to Congress outlining its recommendations for long-term care service delivery, workforce, and financing. With regard to financing, such commission was unable to agree on an approach and, instead, offered two contrasting approaches – one focused on using private options for long-term care, the other focused on strengthening long-term care options, primarily though changes to Medicare. If adopted by Congress, certain of such commission’s recommendations may decrease revenues for our operators and tenants, while other recommendations may increase revenues.
The House Ways and Means Committee is currently reviewing public comments on draft legislation to significantly reform Medicare post-acute care policy, which incorporates input from stakeholders, including, the Medicare Payment Advisory Commission, the Obama administration, the Bipartisan Policy Center, and the Simpson-Bowles Commission. The draft legislation calls for market-basket cuts, site-neutral payment, modification criteria for IRF status, the establishment of a SNF readmissions program, and bundled payments.
Other Related Laws
All health care providers are subject to a number of federal and state health care fraud and abuse laws, including, but not limited to, the Federal Anti-Kickback Statute (“AKS”), which generally prohibits persons from offering, providing, soliciting, or receiving remuneration to induce either the referral of an individual or the furnishing of a good or service for which payment may be made under a federal health care program, such as Medicare or Medicaid. On April 17, 2013, the Department of Health and Human
56
Services’ (“HHS”) Office of Inspector General (“OIG”), which is the agency charged with enforcement of the AKS, released a revised provider self-disclosure protocol (“SDP”). The SDP establishes a process for providers to voluntarily identify and disclose potential cases of fraud involving federal health care programs. The SDP notes that damages calculations will begin at 1.5 times the amount actually paid by federal health care programs and that disclosing entities should expect minimum settlement amounts of $50,000 for kickback-related submissions and $10,000 for all other matters eligible for disclosure under the SDP. Such settlements could have an adverse effect on a property operator’s liquidity and financial condition, which could negatively impact the operator’s ability to make payments.
Certain provisions in the Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) require health care providers to utilize federally mandated standards for certain electronic transactions and maintain the privacy and security of medical records and other protected health information about individuals. Operators may face significant financial and criminal liability if they fail to maintain the privacy and security of medical records and other protected health information or otherwise abide by applicable requirements. The Health Information Technology for Economic and Clinical Health (“HITECH”) Act, passed in February 2009, strengthened the HHS Secretary’s authority to impose civil money penalties for HIPAA violations occurring after February 18, 2009. In October 2009, the Office for Civil Rights (“OCR”) issued an interim Final Rule which conformed HIPAA enforcement regulations to the HITECH Act, increasing the maximum penalty for multiple violations of a single requirement or prohibition in a calendar year to $1.5 million. Additionally, on January 25, 2013, OCR promulgated a final rule, which expands the applicability of HIPAA and HITECH and strengthens the government’s ability to enforce these laws. The changes also strengthen the HITECH breach notification requirements by clarifying when breaches of unsecured health information must be reported to HHS. Generally, covered entities and business associates must come into compliance with the final rule by September 23, 2013, though some exceptions exist (e.g., a later deadline for modification of certain business associate agreements).
Our consolidated financial statements are prepared in accordance with U.S. GAAP, which requires us to make estimates and assumptions. Management considers an accounting estimate or assumption critical if:
· the nature of the estimates or assumptions is material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to change; and
· the impact of the estimates and assumptions on financial condition or operating performance is material.
Management has discussed the development and selection of its critical accounting policies with the Audit Committee of the Board of Directors. Management believes the current assumptions and other considerations used to estimate amounts reflected in our consolidated financial statements are appropriate and are not reasonably likely to change in the future. However, since these estimates require assumptions to be made that were uncertain at the time the estimate was made, they bear the risk of change. If actual experience differs from the assumptions and other considerations used in estimating amounts reflected in our consolidated financial statements, the resulting changes could have a material adverse effect on our consolidated results of operations, liquidity and/or financial condition. Please refer to Note 2 to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, for further information regarding significant accounting policies that impact us. There have been no material changes to these policies in 2013.
This Quarterly Report on Form 10-Q may contain “forward-looking” statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements concern and are based upon, among other things, the possible expansion of the company’s portfolio; the sale of facilities; the performance of its operators/tenants and facilities; its ability to enter into agreements with viable new tenants for vacant space or for facilities that the company takes back from financially troubled tenants, if any; its occupancy rates; its ability to acquire, develop and/or manage facilities; its ability to make distributions to stockholders; its policies and plans regarding investments, financings and other matters; its ability to manage the risks associated with international expansion and operations; its tax status as a real estate investment trust; its critical accounting policies; its ability to appropriately balance the use of debt and equity; its ability to access capital markets or other sources of funds; and its ability to meet its earnings guidance. When the company uses words such as “may,” “will,” “intend,” “should,” “believe,” “expect,” “anticipate,” “project,” “estimate” or similar expressions, it is making forward-looking statements. Forward-looking statements are not guarantees of future performance and involve risks and uncertainties. The company’s expected results may not be achieved, and actual results may differ materially from expectations. This may be a result of various factors, including, but not limited to: the status of the economy; the status of capital markets, including availability and cost of capital; issues facing the health care industry, including compliance with, and changes to, regulations and payment policies, responding to government investigations and punitive settlements and operators’/tenants’ difficulty in cost-effectively obtaining and maintaining adequate liability and other insurance; changes in financing terms; competition within the health care, seniors housing and life science industries; negative developments in the operating results or financial condition of
operators/tenants, including, but not limited to, their ability to pay rent and repay loans; the company’s ability to transition or sell facilities with profitable results; the failure to make new investments as and when anticipated; acts of God affecting the company’s facilities; the company’s ability to re-lease space at similar rates as vacancies occur; the company’s ability to timely reinvest sale proceeds at similar rates to assets sold; operator/tenant or joint venture partner bankruptcies or insolvencies; the cooperation of joint venture partners; government regulations affecting Medicare and Medicaid reimbursement rates and operational requirements; regulatory approval and market acceptance of the products and technologies of life science tenants; liability or contract claims by or against operators/tenants; unanticipated difficulties and/or expenditures relating to future acquisitions; environmental laws affecting the company’s facilities; changes in rules or practices governing the company’s financial reporting; the movement of foreign currency exchange rates; and legal and operational matters, including real estate investment trust qualification and key management personnel recruitment and retention. Other important factors are identified in the company’s Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013, including factors identified under the headings “Business,” “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Finally, the company assumes no obligation to update or revise any forward-looking statements or to update the reasons why actual results could differ from those projected in any forward-looking statements.
58
Item 3. Quantitative and Qualitative Disclosures about Market Risk
We are exposed to various market risks, including the potential loss arising from adverse changes in interest rates and foreign currency exchange rates. We seek to mitigate the effects of fluctuations in interest rates by matching the terms of new investments with new long-term fixed rate borrowings to the extent possible. We may or may not elect to use financial derivative instruments to hedge interest rate exposure. These decisions are principally based on our policy to match our variable rate investments with comparable borrowings, but are also based on the general trend in interest rates at the applicable dates and our perception of the future volatility of interest rates. This section is presented to provide a discussion of the risks associated with potential fluctuations in interest rates.
We historically borrow on our primary unsecured line of credit arrangement to acquire, construct or make loans relating to health care and seniors housing properties. Then, as market conditions dictate, we will issue equity or long-term fixed rate debt to repay the borrowings under the unsecured line of credit arrangements.
A change in interest rates will not affect the interest expense associated with our fixed rate debt. Interest rate changes, however, will affect the fair value of our fixed rate debt. Changes in the interest rate environment upon maturity of this fixed rate debt could have an effect on our future cash flows and earnings, depending on whether the debt is replaced with other fixed rate debt, variable rate debt or equity or repaid by the sale of assets. To illustrate the impact of changes in the interest rate markets, we performed a sensitivity analysis on our fixed rate debt instruments whereby we modeled the change in net present values arising from a hypothetical 1% increase in interest rates to determine the instruments’ change in fair value. The following table summarizes the analysis performed as of the dates indicated (in thousands):
Principal
Change in
balance
fair value
(368,667)
6,145,457
(451,478)
2,809,721
(108,124)
2,024,454
(96,290)
9,227,911
(476,791)
8,169,911
(547,768)
Our variable rate debt, including our unsecured line of credit arrangements, is reflected at fair value. At September 30, 2013, we had $847,670,000 outstanding related to our variable rate lines of credit and $256,202,000 outstanding related to our variable rate secured debt. Assuming no changes in outstanding balances, a 1% increase in interest rates would result in increased annual interest expense of $11,039,000. At December 31, 2012, we had no amounts outstanding under our variable rate lines of credit and $223,270,000 outstanding related to our variable rate secured debt. Assuming no changes in outstanding balances, a 1% increase in interest rates would have resulted in increased annual interest expense of $2,233,000.
We are subject to risks associated with debt financing, including the risk that existing indebtedness may not be refinanced or that the terms of refinancing may not be as favorable as the terms of current indebtedness. The majority of our borrowings were completed under indentures or contractual agreements that limit the amount of indebtedness we may incur. Accordingly, in the event that we are unable to raise additional equity or borrow money because of these limitations, our ability to acquire additional properties may be limited.
We are subject to currency fluctuations that may, from time to time, affect our financial condition and results of operations. Increases or decreases in the value of the Canadian Dollar or Pounds Sterling relative to the U.S. Dollar impacts the amount of net income we earn from our investments in Canada and the United Kingdom. We seek to mitigate these underlying foreign currency exposures with gains and losses on derivative contracts hedging these exposures. If we increase our international presence through investments in, or acquisitions or development of, seniors housing properties outside the United States, we may also decide to transact additional business or borrow funds in currencies other than U.S. Dollar, Canadian Dollars or Pounds Sterling.
For additional information regarding fair values of financial instruments, see “Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies” and Notes 11 and 16 to our unaudited consolidated financial statements.
Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective in providing reasonable assurance that information required to be disclosed by us in the reports we file with or submit to the Securities and Exchange Commission (“SEC”) under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. No changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) occurred during the fiscal quarter covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 1. Legal Proceedings
From time to time, there are various legal proceedings pending to which we are a party or to which some of our properties are subject arising in the normal course of business. We do not believe that the ultimate resolution of these proceedings will have a material adverse effect on our consolidated financial position or results of operations.
Except as provided in “Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations — Forward Looking Statements and Risk Factors,” there have been no material changes from the risk factors identified under the heading “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2012, as updated by our Current Report on Form 8-K filed on August 6, 2013.
Item 2.Unregistered Sales of Equity Securities and Use of Proceeds
On September 3, 2013, we issued 1,108,917 shares of our common stock to a joint venture partner in connection with our acquisition of such joint venture partner’s noncontrolling interest in the joint venture. These shares were issued without registration in reliance upon the federal statutory exemption of Section 4(2) of the Securities Act of 1933, as amended.
On September 27, 2013, we issued 9,867 shares of our common stock to a national medical office partner pursuant to the terms of our strategic partnership. These shares were issued without registration in reliance upon the federal statutory exemption of Section 4(2) of the Securities Act of 1933, as amended, upon such partnership earning success fees in connection with the development of new projects.
Issuer Purchases of Equity Securities
Period
Total Number of Shares Purchased(1)
Average Price Paid Per Share
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(2)
Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
July 1, 2013 through July 31, 2013
August 1, 2013 through August 31, 2013
247
61.28
September 1, 2013 through September 30, 2013
(1) During the three months ended September 30, 2013, the company acquired shares of common stock held by employees who tendered owned shares to satisfy tax withholding obligations.
(2) No shares were purchased as part of publicly announced plans or programs.
None.
2.1 Agreement and Plan of Merger, dated as of August 21, 2012, by and among Sunrise Senior Living, Inc., Brewer Holdco, Inc., Brewer Holdco Sub, Inc., the company and Red Fox, Inc. (the exhibits and schedules to the Agreement and Plan of Merger have been omitted pursuant to Item 601(b)(2) of Regulation S-K) (filed with the SEC as Exhibit 2.1 to the company’s Form 8-K filed August 22, 2012 (File No. 001-08923), and incorporated herein by reference thereto).
3.1 Certificate of Elimination of 7 7/8% Series D Cumulative Redeemable Preferred Stock of the company (filed with the SEC as Exhibit 3.1 to the company’s Form 10-Q filed August 6, 2013 (File No. 001-08923), and incorporated herein by reference thereto).
3.2 Certificate of Elimination of 7 5/8% Series F Cumulative Redeemable Preferred Stock of the company (filed with the SEC as Exhibit 3.2 to the company’s Form 10-Q filed August 6, 2013 (File No. 001-08923), and incorporated herein by reference thereto).
10.1 Sixth Amended and Restated Employment Agreement, dated July 16, 2013, by and between the company and George L. Chapman (filed with the SEC as Exhibit 10.1 to the company’s Form 8-K filed July 17, 2013 (File No. 001-08923), and incorporated herein by reference thereto).
12 Statement Regarding Computation of Ratio of Earnings to Fixed Charges and Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends (Unaudited)
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer.
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer.
32.1 Certification pursuant to 18 U.S.C. Section 1350 by Chief Executive Officer.
32.2 Certification pursuant to 18 U.S.C. Section 1350 by Chief Financial Officer.
101.INS XBRL Instance Document*
101.SCH XBRL Taxonomy Extension Schema Document*
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document*
101.LAB XBRL Taxonomy Extension Label Linkbase Document*
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document*
101.DEF XBRL Taxonomy Extension Definition Linkbase Document*
*
Attached as Exhibit 101 to this Quarterly Report on Form 10-Q are the following materials, formatted in XBRL (eXtensible Business Reporting Language): (i) the Consolidated Balance Sheets at September 30, 2013 and December 31, 2012, (ii) the Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2013 and 2012, (iii) the Consolidated Statements of Equity for the nine months ended September 30, 2013 and 2012, (iv) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2013 and 2012 and (v) the Notes to Unaudited Consolidated Financial Statements.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
Date: November 5, 2013
By:
/s/ GEORGE L. CHAPMAN
George L. Chapman,
Chairman, Chief Executive Officer and President
(Principal Executive Officer)
/s/ SCOTT A. ESTES
Scott A. Estes,
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)
/s/ PAUL D. NUNGESTER, JR.
Paul D. Nungester, Jr.,
Senior Vice President and Controller
(Principal Accounting Officer)