UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
☑
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2015
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
WELLTOWER 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 offices)
(Zip Code)
(419) 247-2800
(Registrant’s telephone number, including area code)
Health Care REIT, Inc.
(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 such filing requirements for the past 90 days. Yes ☑ 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 ☑ 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 ☑
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 ☑
As of October 23, 2015, the registrant had 353,879,510 shares of common stock outstanding.
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets — September 30, 2015 and December 31, 2014
3
Consolidated Statements of Comprehensive Income — Three and nine months ended September 30, 2015 and 2014
4
Consolidated Statements of Equity — Nine months ended September 30, 2015 and 2014
6
Consolidated Statements of Cash Flows — Nine months ended September 30, 2015 and 2014
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
57
Item 4. Controls and Procedures
58
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
59
Item 5. Other Information
Item 6. Exhibits
Signatures
60
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS
WELLTOWER INC. AND SUBSIDIARIES
(In thousands)
September 30, 2015
December 31, 2014
(Unaudited)
(Note)
Assets:
Real estate investments:
Real property owned:
Land and land improvements
$
2,241,210
2,046,541
Buildings and improvements
24,273,654
21,799,313
Acquired lease intangibles
1,208,510
1,135,936
Real property held for sale, net of accumulated depreciation
229,038
323,818
Construction in progress
197,639
186,327
Gross real property owned
28,150,051
25,491,935
Less accumulated depreciation and amortization
(3,553,171)
(3,020,908)
Net real property owned
24,596,880
22,471,027
Real estate loans receivable
752,912
380,169
Net real estate investments
25,349,792
22,851,196
Other assets:
Investments in unconsolidated entities
558,354
744,151
Goodwill
68,321
Deferred loan expenses
64,190
69,282
Cash and cash equivalents
292,042
473,726
Restricted cash
74,758
79,697
Straight-line rent receivable
366,545
279,806
Receivables and other assets
682,364
448,117
Total other assets
2,106,574
2,163,100
Total assets
27,456,366
25,014,296
Liabilities and equity
Liabilities:
Borrowings under primary unsecured credit facility
490,000
-
Senior unsecured notes
7,926,757
7,766,251
Secured debt
2,975,639
2,977,713
Capital lease obligations
75,379
84,049
Accrued expenses and other liabilities
686,651
626,825
Total liabilities
12,154,426
11,454,838
Redeemable noncontrolling interests
164,765
86,409
Equity:
Preferred stock
1,006,250
Common stock
353,023
328,835
Capital in excess of par value
16,381,569
14,740,712
Treasury stock
(44,336)
(35,241)
Cumulative net income
3,576,490
2,842,022
Cumulative dividends
(6,537,541)
(5,635,923)
Accumulated other comprehensive income (loss)
(94,359)
(77,009)
Other equity
3,997
5,507
Total Welltower Inc. stockholders’ equity
14,645,093
13,175,153
Noncontrolling interests
492,082
297,896
Total equity
15,137,175
13,473,049
Total liabilities and equity
NOTE: The consolidated balance sheet at December 31, 2014 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,
2015
2014
Revenues:
Rental income
409,290
354,148
1,185,502
1,038,451
Resident fees and services
545,255
482,412
1,573,318
1,406,316
Interest income
22,380
9,344
59,950
26,871
Other income
2,072
1,619
11,572
4,139
Total revenues
978,997
847,523
2,830,342
2,475,777
Expenses:
Interest expense
121,130
118,435
361,071
360,334
Property operating expenses
408,703
355,157
1,183,519
1,040,342
Depreciation and amortization
205,799
200,970
603,431
648,737
General and administrative
36,950
30,803
110,562
115,327
Transaction costs
9,333
13,554
70,379
21,546
Loss (gain) on derivatives, net
49
(58,427)
400
Loss (gain) on extinguishment of debt, net
584
2,692
34,872
3,075
Impairment of assets
2,220
Other expenses
10,262
10,583
Total expenses
782,499
731,922
2,318,210
2,200,023
Income (loss) from continuing operations before income taxes
and income from unconsolidated entities
196,498
115,601
512,132
275,754
Income tax (expense) benefit
3,344
10,198
(3,769)
6,369
Income (loss) from unconsolidated entities
(2,631)
(2,632)
(18,231)
(19,705)
Income (loss) from continuing operations
197,211
123,167
490,132
262,418
Discontinued operations:
Gain (loss) on sales of discontinued properties, net
6,411
Income (loss) from discontinued operations, net
724
Discontinued operations, net
7,135
Gain (loss) on real estate dispositions, net
2,046
29,604
249,002
36,272
Net income
199,257
152,771
739,134
305,825
Less:
Preferred stock dividends
16,352
49,055
49,057
Net income (loss) attributable to noncontrolling interests(1)
862
164
4,666
(1,339)
Net income (loss) attributable to common stockholders
182,043
136,255
685,413
258,107
Average number of common shares outstanding:
Basic
351,765
311,117
346,425
299,137
Diluted
353,107
312,812
347,547
300,645
Earnings per share:
Basic:
Income (loss) from continuing operations attributable to common stockholders, including real estate dispositions
0.52
0.44
1.98
0.84
0.02
Net income (loss) attributable to common stockholders*
0.86
Diluted:
1.97
0.83
Dividends declared and paid per common share
0.825
0.795
2.475
2.385
* Amounts may not sum due to rounding
(1) Includes amounts attributable to redeemable noncontrolling interests.
Three Months Ended September 30,
Nine Months Ended September 30,
Other comprehensive income (loss):
Unrecognized gain (loss) on equity investments
(3,086)
(18,186)
389
Change in net unrealized gains (losses) on cash flow hedges:
Unrealized gains (losses) on cash flow hedges
462
455
(1,235)
1,327
Foreign currency translation gain (loss)
(25,198)
(42,664)
(22,011)
(39,444)
Total other comprehensive income (loss)
(27,822)
(42,209)
(41,432)
(37,728)
Total comprehensive income (loss)
171,435
697,702
268,097
Less: Total comprehensive income (loss) attributable to noncontrolling interests(1)
(14,271)
(7,984)
(19,416)
(10,894)
Total comprehensive income (loss) attributable to common stockholders
185,706
118,546
717,118
278,991
5
CONSOLIDATED STATEMENTS OF EQUITY (UNAUDITED)
Nine Months Ended September 30, 2015
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)
734,468
4,476
738,944
Other comprehensive income
(17,350)
(24,082)
Total comprehensive income
697,512
Net change in noncontrolling interests
(4,778)
213,792
209,014
Amounts related to issuance of common stock from dividend reinvestment and stock incentive plans, net of forfeitures
3,308
236,718
(9,095)
(2,097)
228,834
Proceeds from issuance of common stock
19,550
1,403,486
1,423,036
Equity component of convertible debt
1,330
5,431
6,761
Option compensation expense
587
Cash dividends paid:
Common stock cash dividends
(852,563)
Preferred stock cash dividends
(49,055)
Balances at end of period
Nine Months Ended September 30, 2014
1,017,361
289,461
12,418,520
(21,263)
2,329,869
(4,600,854)
(24,531)
6,020
341,748
11,756,331
307,164
(1,318)
305,846
(28,173)
(9,555)
268,118
(7,818)
(21,062)
(28,880)
3,614
212,718
(13,978)
(486)
201,868
33,925
2,030,476
2,064,401
200
675
875
Conversion of preferred stock
(11,111)
233
10,878
689
(708,923)
(49,057)
327,433
14,665,449
2,637,033
(5,358,834)
(52,704)
6,223
309,813
13,505,422
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Operating activities:
Adjustments to reconcile net income to
net cash provided from (used in) operating activities:
Other amortization expenses
3,867
5,626
Stock-based compensation expense
25,655
26,108
Loss (income) from unconsolidated entities
18,231
19,705
Rental income in excess of cash received
(86,739)
(51,017)
Amortization related to above (below) market leases, net
2,863
503
Loss (gain) on sales of properties, net
(249,002)
(42,683)
Distributions by unconsolidated entities
435
8,883
Increase (decrease) in accrued expenses and other liabilities
42,759
(19,259)
Decrease (increase) in receivables and other assets
(42,975)
(51,734)
Net cash provided from (used in) operating activities
1,036,324
854,169
Investing activities:
Cash disbursed for acquisitions
(2,489,345)
(991,315)
Cash disbursed for capital improvements to existing properties
(122,640)
(86,324)
Cash disbursed for construction in progress
(165,311)
(140,829)
Capitalized interest
(6,311)
(5,084)
Investment in real estate loans receivable
(445,985)
(79,264)
Other investments, net of payments
(129,311)
(39,202)
Principal collected on real estate loans receivable
71,111
46,268
Contributions to unconsolidated entities
(139,295)
(246,794)
139,557
38,261
Proceeds from (payments on) derivatives
103,615
Decrease (increase) in restricted cash
10,512
(45,346)
Proceeds from sales of real property
667,761
442,733
Net cash provided from (used in) investing activities
(2,505,642)
(1,106,896)
Financing activities:
Net increase (decrease) under unsecured credit facilities
(130,000)
Proceeds from issuance of senior unsecured notes
743,407
Payments to extinguish senior unsecured notes
(534,546)
(47,591)
Net proceeds from the issuance of secured debt
222,612
98,100
Payments on secured debt
(469,455)
(286,162)
Net proceeds from the issuance of common stock
1,641,981
2,260,908
Decrease (increase) in deferred loan expenses
(7,834)
(17,429)
Contributions by noncontrolling interests(1)
163,105
5,572
Distributions to noncontrolling interests(1)
(27,439)
(30,909)
Acquisitions of noncontrolling interests
(3,154)
(1,175)
Cash distributions to stockholders
(901,618)
(757,980)
Other financing activities
(27,114)
(844)
Net cash provided from (used in) financing activities
1,289,945
1,092,490
Effect of foreign currency translation on cash and cash equivalents
(2,311)
135
Increase (decrease) in cash and cash equivalents
(181,684)
839,898
Cash and cash equivalents at beginning of period
158,780
Cash and cash equivalents at end of period
998,678
Supplemental cash flow information:
Interest paid
334,511
365,738
Income taxes paid
11,489
16,672
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Business
Welltower Inc. (formerly Health Care REIT, Inc.), an S&P 500 company headquartered in Toledo, Ohio, is driving the transformation of health care infrastructure. The company invests with leading seniors housing operators, post-acute providers and health systems to fund the real estate and infrastructure needed to scale innovative care delivery models and improve people’s wellness and overall health care experience. Welltower™, a real estate investment trust (REIT), owns 1,414 properties in major, high-growth markets in the United States, Canada and the United Kingdom, consisting of seniors housing and post-acute communities and outpatient medical properties. 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, 2015 are not necessarily an indication of the results that may be expected for the year ending December 31, 2015. 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, 2014.
New Accounting Standards
In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”). The standard is a comprehensive new revenue recognition model that requires revenue to be recognized in a manner to depict the transfer of goods or services to a customer at an amount that reflects the consideration expected to be received in exchange for those goods or services. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, and early adoption is permitted beginning after December 15, 2016. We are currently evaluating the impact that the standard will have on our consolidated financial statements and have not yet determined the method by which we will adopt the standard.
In February 2015, the FASB issued ASU No. 2015-02, “Consolidation (Topic 810): Amendments to the Consolidation Analysis” (“ASU 2015-02”), which makes certain changes to both the variable interest model and the voting model, including changes to (1) the identification of variable interests (fees paid to a decision maker or service provider), (2) the variable interest entity characteristics for a limited partnership or similar entity and (3) the primary beneficiary determination. ASU 2015-02 is effective beginning January 1, 2016. We are continuing to evaluate this guidance; however, we do not expect its adoption to have a significant impact on our consolidated financial statements.
In April 2015, the FASB issued ASU No. 2015-03, “Simplifying the Presentation of Debt Issuance Costs” (“ASU 2015-03”), which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. The recognition and measurement guidance for debt issuance costs are not affected. Upon adoption, we will apply the new guidance on a retrospective basis and adjust the balance sheet of each individual period presented to reflect the period-specific effects of applying the new guidance. The guidance is effective beginning January 1, 2016. We are continuing to evaluate this guidance; however, we do not expect its adoption to have a significant impact on our 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. 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, 2014 for information regarding our foreign currency policies.
Triple-net Activity
September 30, 2015(1)
September 30, 2014
111,674
36,427
1,025,232
303,273
3,888
Total assets acquired
1,140,860
339,700
(2,447)
Total liabilities assumed
Non-cash acquisition related activity
(2,780)
(1,937)
1,135,633
337,763
Construction in progress additions
96,403
79,668
(4,453)
(3,258)
Foreign currency translation
73
116
92,023
76,526
Capital improvements to existing properties
35,042
14,375
Total cash invested in real property, net of cash acquired
1,262,698
428,664
(1) Includes acquisitions with an aggregate purchase price of $844,298,000 for which the allocation of the purchase price consideration is preliminary and subject to change.
Seniors Housing Operating Activity
98,444
40,764
Building and improvements
1,229,017
224,936
74,091
10,021
27,957
5,567
23,928
5,679
Total assets acquired(2)
1,431,047
309,357
(234,597)
(12,846)
(19,016)
(17,011)
(253,613)
(29,857)
(86,842)
1,090,592
279,500
39,493
6,984
(1,116)
(293)
(1,345)
(810)
37,032
5,881
61,911
52,177
1,189,535
337,558
(1) Includes acquisitions with an aggregate purchase price of $1,268,031,000 for which the allocation of the purchase price consideration is preliminary and subject to change.
(2) Excludes $3,390,000 and $8,476,000 of cash acquired during the nine months ended September 30, 2015 and 2014, respectively.
9
Outpatient Medical Activity
September 30, 2015 (1)
737
29,588
426,288
471,410
19,373
17,440
1,245
446,398
519,683
(112,000)
(50,500)
(2,743)
(9,308)
(114,743)
(59,808)
(68,535)
(39,987)
Non-cash acquisition activity(3)
(45,836)
263,120
374,052
38,919
71,245
(742)
(1,533)
Accruals(4)
(1,921)
(11,290)
36,256
58,422
25,687
19,772
Total cash invested in real property
325,063
452,246
(1) Includes acquisitions with an aggregate purchase price of $440,220,000 for which the allocation of the purchase price consideration is preliminary and subject to change.
(2) Excludes $4,372,000 and $0 of cash acquired during the nine months ended September 30, 2015 and 2014, respectively.
(3) Relates to an acquisition of assets previously financed as real estate loans. Please refer to Note 6 for additional information.
(4) Represents non-cash consideration 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:
Triple-net
85,902
71,569
Seniors housing operating
19,869
Outpatient medical
16,592
56,807
Total development projects
122,363
128,376
Expansion projects
38,808
17,586
Total construction in progress conversions
161,171
145,962
10
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
1,042,770
988,290
Above market tenant leases
82,083
65,684
Below market ground leases
61,159
62,426
Lease commissions
22,498
19,536
Gross historical cost
Accumulated amortization
(836,684)
(776,501)
Net book value
371,826
359,435
Weighted-average amortization period in years
17.2
17.7
Below market tenant leases
89,891
91,168
Above market ground leases
7,860
7,859
97,751
99,027
(44,609)
(40,891)
53,142
58,136
15.6
14.4
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
(1,684)
179
(1,901)
423
Property operating expenses related to above/below market ground leases, net
(308)
(317)
(962)
(926)
Depreciation and amortization related to in place lease intangibles and lease commissions
(26,137)
(46,366)
(82,434)
(185,363)
The future estimated aggregate amortization of intangible assets and liabilities is as follows for the periods presented (in thousands):
Assets
Liabilities
39,972
3,279
2016
71,453
6,512
2017
43,426
6,052
2018
30,094
5,583
2019
24,033
5,325
Thereafter
162,848
26,391
11
5. Dispositions, Assets Held for Sale and Discontinued Operations
We periodically sell properties for various reasons, including favorable market conditions or the exercise of tenant purchase options. The following is a summary of our real property disposition activity for the periods presented (in thousands):
Real estate dispositions:
246,116
56,713
Outpatient medical(1)
166,919
343,337
Land parcels
5,724
Total dispositions
418,759
400,050
42,683
Proceeds from real estate dispositions
(1) Dispositions occurring in the nine-month period ending September 30, 2015 primarily related to the disposition of an unconsolidated equity investment with Forest City Enterprises.
Dispositions and Assets Held for Sale
Pursuant to our adoption of ASU No. 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity” (“ASU 2014-08”), operating results attributable to properties sold subsequent to or classified as held for sale after January 1, 2014 and which do not meet the definition of discontinued operations are no longer reclassified on our Consolidated Statements of Comprehensive Income. The following represents the activity related to these properties for the periods presented (in thousands):
7,164
26,123
24,237
89,593
1,041
4,507
3,991
18,512
1,577
1,595
4,586
6,017
Provision for depreciation
123
7,878
4,760
27,106
2,741
13,980
13,337
51,635
Income (loss) from real estate dispositions, net
4,423
12,143
10,900
37,958
Discontinued Operations
We have reclassified the income and expenses attributable to all properties sold prior to or held for sale at January 1, 2014 to discontinued operations in accordance with ASU 2014-08. The following illustrates the reclassification impact as reported in our Consolidated Statements of Comprehensive Income as a result of classifying these properties as discontinued operations for the periods presented (in thousands):
881
157
12
6. Real Estate Loans Receivable
The following is a summary of our real estate loan activity for the periods presented (in thousands):
Outpatient
Medical
Totals
Advances on real estate loans receivable:
Investments in new loans
392,278
10,674
Draws on existing loans
51,422
2,285
53,707
50,446
18,144
68,590
Net cash advances on real estate loans
443,700
445,985
61,120
79,264
Receipts on real estate loans receivable:
Loan payoffs
52,088
24,522
42,036
66,558
Principal payments on loans
19,023
25,494
52
25,546
Sub-total
50,016
42,088
92,104
Less: Non-cash activity(1)
Net cash receipts on real estate loans
(3,748)
Net cash advances (receipts) on real estate loans
372,589
374,874
11,104
21,892
32,996
Change in balance due to foreign currency translation
(2,131)
(1,085)
Net change in real estate loans receivable
370,458
372,743
10,019
(23,944)
(13,925)
(1) Represents an acquisition of assets previously financed as a real estate loan. Please see Note 3 for additional information.
We recorded no provision for loan losses during the nine months ended September 30, 2015. At September 30, 2015, we had no real estate loans with outstanding balances on non-accrual status and no allowances for loan losses were recorded.
7. Investments in Unconsolidated Entities
We participate in a number of joint ventures, which generally invest in seniors housing and health care real estate. The results of operations for these properties have been included in our consolidated results of operations from the date of acquisition by the joint ventures and are reflected in our Consolidated Statements of Comprehensive Income as income or loss from unconsolidated entities. The following is a summary of our investments in unconsolidated entities (dollars in thousands):
Percentage Ownership(1)
10% to 49%
35,657
31,511
10% to 50%
485,278
539,147
36% to 49%
37,419
173,493
(1) Excludes ownership of in-substance real estate.
At September 30, 2015, the aggregate unamortized basis difference of our joint venture investments of $161,882,000 is primarily attributable to appreciation of the underlying properties and transaction costs. This difference will be amortized over the remaining useful life of the related properties and included in the reported amount of income from unconsolidated entities.
8. Credit Concentration
We use net operating income from continuing operations (“NOI”) as our credit concentration metric. See Note 17 for additional information and reconciliation. The following table summarizes certain information about our credit concentration for the nine month period ended September 30, 2015, excluding our share of NOI in unconsolidated entities (dollars in thousands):
13
Number of
Percent of
Concentration by relationship:(1)
Properties
NOI
NOI(2)
Genesis Healthcare
180
273,922
17%
Sunrise Senior Living(3)
147
225,580
14%
Brookdale Senior Living
146
124,843
8%
Revera(3)
71
75,973
5%
Benchmark Senior Living
50
73,788
4%
Remaining portfolio
759
872,717
52%
1,353
1,646,823
100%
(1) Genesis Healthcare is in our triple-net segment. Sunrise Senior Living and Revera are in our seniors housing operating segment. Benchmark Senior Living and Brookdale Senior Living are both in our triple-net and seniors housing operating segments.
(2) NOI with our top five relationships comprised 49% of total NOI for the year ending December 31, 2014.
(3) Revera owns a controlling interest in Sunrise Senior Living.
9. Borrowings Under Credit Facilities and Related Items
At September 30, 2015, we had a primary unsecured credit facility with a consortium of 28 banks that includes a $2,500,000,000 unsecured revolving credit facility, a $500,000,000 unsecured term credit facility and a $250,000,000 Canadian-denominated unsecured term credit facility. We have an option, through an accordion feature, to upsize the unsecured revolving credit facility and the $500,000,000 unsecured term credit facility by up to an additional $1,000,000,000 and the $250,000,000 Canadian-denominated unsecured term credit facility by up to an additional $250,000,000. The primary unsecured credit facility also allows us to borrow up to $500,000,000 in alternate currencies (none outstanding at September 30, 2015). Borrowings under the unsecured revolving credit facility are subject to interest payable at the applicable margin over LIBOR interest rate (1.119% at September 30, 2015). The applicable margin is based on certain of our debt ratings and was 0.925% at September 30, 2015. In addition, we pay a facility fee quarterly to each bank based on the bank’s commitment amount. The facility fee depends on certain of our debt ratings and was 0.15% at September 30, 2015. The primary unsecured credit facility is scheduled to expire October 31, 2018 and can be extended for an additional year at our option.
The following information relates to aggregate borrowings under the primary unsecured revolving credit facility for the periods presented (dollars in thousands):
Balance outstanding at quarter end(1)
Maximum amount outstanding at any month end
235,000
535,000
637,000
Average amount outstanding (total of daily
principal balances divided by days in period)
298,370
100,380
402,619
253,681
Weighted average interest rate (actual interest
expense divided by average borrowings outstanding)
1.16%
1.67%
1.17%
1.40%
(1) As of September 30, 2015, letters of credit in the aggregate amount of $58,484,000 have been issued, which reduces the borrowing capacity on the primary unsecured revolving credit facility.
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, 2015, the annual principal payments due on these debt obligations were as follows (in thousands):
14
Senior
Secured
Unsecured Notes(1,2)
Debt (1,3)
106,190
400,000
464,519
864,519
450,000
399,670
849,670
558,656
1,008,656
2019(4,5)
1,286,625
374,769
1,661,394
Thereafter(6,7,8)
5,387,915
1,041,893
6,429,808
7,974,540
2,945,697
10,920,237
(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 1.169% to 6.5%.
(3) Annual interest rates range from 1.0% to 7.98%. Carrying value of the properties securing the debt totaled $5,205,803,000 at September 30, 2015.
(4) On July 25, 2014, we refinanced the funding on a $250,000,000 Canadian-denominated unsecured term credit facility (approximately $186,625,000 based on the Canadian/U.S. Dollar exchange rate on September 30, 2015). The loan matures on October 31, 2018 (with an option to extend for an additional year at our discretion) and bears interest at the Canadian Dealer Offered Rate plus 97.5 basis points (1.8% at September 30, 2015).
(5) On July 25, 2014, we refinanced the funding on a $500,000,000 unsecured term credit facility. The loan matures on October 31, 2018 (with an option to extend for an additional year at our discretion) and bears interest at LIBOR plus 97.5 basis points (1.17% at September 30, 2015).
(6) On November 20, 2013, we completed the sale of £550,000,000 (approximately $831,765,000 based on the Sterling/U.S. Dollar exchange rate in effect on September 30, 2015) of 4.8% senior unsecured notes due 2028.
(7) On November 25, 2014, we completed the sale of £500,000,000 (approximately $756,150,000 based on the Sterling/U.S. Dollar exchange rate in effect on September 30, 2015) of 4.5% senior unsecured notes due 2034.
(8) In May 2015, we issued $750,000,000 of 4.0% senior unsecured notes due 2025. In October 2015, we issued an additional $500,000,000 of these notes under a re-opening of the offer.
The following is a summary of our senior unsecured notes principal activity during the periods presented (dollars in thousands):
Weighted Avg.
Amount
Interest Rate
Beginning balance
7,817,154
4.385%
7,421,707
4.400%
Debt issued
750,000
4.000%
0.000%
Debt extinguished
(300,000)
6.200%
Debt redeemed
(215,965)
3.000%
(47,660)
Foreign currency
(76,649)
8.065%
(31,719)
3.892%
Ending balance
4.210%
7,342,328
4.388%
15
The following is a summary of our secured debt principal activity for the periods presented (dollars in thousands):
2,941,765
4.94%
3,010,711
5.10%
2.76%
3.23%
Debt assumed
339,929
3.34%
62,505
3.11%
(420,672)
4.27%
(240,355)
5.66%
(89,154)
3.88%
(45,807)
4.97%
Principal payments
(48,783)
4.85%
(23,434)
3.78%
4.72%
2,861,720
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, 2015, we were in compliance with all of the covenants under our debt agreements.
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 contracts and issuing debt in foreign currencies.
Interest Rate Swap Contracts and Foreign Currency Forward 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. Approximately $2,775,000 of gains, 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. During the nine months ended September 30, 2015, we settled certain net investment hedges generating cash proceeds of $103,615,000. The balance of the cumulative translation adjustment will be reclassified to earnings when the hedged investment is sold or substantially liquidated.
The following presents the notional amount of derivatives and other financial instruments as of the dates indicated (in thousands):
16
Derivatives designated as net investment hedges:
Denominated in Canadian Dollars
1,175,000
900,000
Denominated in Pounds Sterling
£
550,000
350,000
Financial instruments designated as net investment hedges:
250,000
1,050,000
Derivatives designated as cash flow hedges
Denominated in U.S. Dollars
57,000
72,000
58,000
40,000
Derivative instruments not designated:(1)
700,000
12,000
(1) These non-designated instruments represent off-setting forward exchange contracts to manage against adverse movements in exchange rates with regards to the purchase price on pending foreign acquisitions.
The following presents the impact of derivative instruments on the Consolidated Statements of Comprehensive Income for the periods presented (in thousands):
Location
Gain (loss) on interest rate swap recognized in OCI (effective portion)
OCI
(4)
(1)
(11)
Gain (loss) on interest rate swaps reclassified from AOCI into income (effective portion)
(462)
(459)
(1,390)
(1,338)
Gain (loss) on forward exchange contracts recognized in income
2,347
6,285
Gain (loss) on derivatives, net
(49)
(400)
Loss (gain) on option exercise(1)
Gain on release of cumulative translation adjustment related to net investment hedge of an equity investment
528
Gain (loss) on foreign exchange contracts and term loans designated as net investment hedge recognized in OCI
174,239
12,880
208,854
6,833
(1) In April 2011, we completed the acquisition of substantially all of the real estate assets of privately-owned Genesis Healthcare Corporation. In conjunction with this transaction, we received the option to acquire an ownership interest in Genesis Healthcare. In February 2015, Genesis Healthcare closed on a transaction to merge with Skilled Healthcare Group to become a publicly traded company which required us to record the value of the derivative asset due to the net settlement feature.
17
12. Commitments and Contingencies
At September 30, 2015, we had eight outstanding letter of credit obligations totaling $73,655,000 and expiring between 2015 and 2018. At September 30, 2015, we had outstanding construction in progress of $197,639,000 and were committed to providing additional funds of approximately $408,372,000 to complete construction. Purchase obligations also include $236,068,000 representing the cash portion of an acquisition that occurred in October 2015 and contingent purchase obligations totaling $29,427,000. 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, 2015, we had operating lease obligations of $988,564,000 relating to certain ground leases and company office space and capital lease obligations of $99,751,000 relating primarily to certain investment properties. 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, 2015, aggregate future minimum rentals to be received under these noncancelable subleases totaled $27,126,000.
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
25,875,000
Outstanding shares
Common Stock, $1.00 par value:
700,000,000
353,814,909
329,487,615
352,998,274
328,790,066
Preferred Stock. The following is a summary of our preferred stock activity during the periods indicated:
Shares
Dividend Rate
6.500%
26,108,236
6.496%
Shares converted
(233,236)
6.000%
Common Stock. The following is a summary of our common stock issuances during the nine months ended September 30, 2015 and 2014 (dollars in thousands, except per share amounts):
Shares Issued
Average Price
Gross Proceeds
Net Proceeds
June 2014 public issuance
16,100,000
62.35
1,003,835
968,517
September 2014 public issuance
17,825,000
63.75
1,136,344
1,095,883
2014 Dividend reinvestment plan issuances
3,114,052
60.05
186,996
2014 Option exercises
207,046
45.94
9,512
2014 Stock incentive plans, net of forfeitures
186,837
2014 Senior note conversions
199,943
2014 Preferred stock conversions
233,236
2014 Totals
37,866,114
2,336,687
February 2015 public issuance
19,550,000
75.50
1,476,025
1,423,935
2015 Dividend reinvestment plan issuances
2,935,950
70.28
206,334
2015 Option exercises
247,005
47.42
11,712
2015 Stock incentive plans, net of forfeitures
144,779
2015 Senior note conversions
1,330,474
2015 Totals
24,208,208
1,694,071
Dividends. The increase in dividends is primarily attributable to increases in our common shares outstanding as described above and an increase in common dividends per share. The following is a summary of our dividend payments (in thousands, except per share amounts):
Per Share
Common Stock
2.4750
852,563
2.3850
708,923
Series H Preferred Stock
0.0079
1
Series I Preferred Stock
2.4375
35,039
35,040
Series J Preferred Stock
1.2189
14,016
901,618
757,980
Accumulated Other Comprehensive Income. The following is a summary of accumulated other comprehensive income (loss) for the periods presented (in thousands):
19
Unrecognized gains (losses) related to:
Foreign Currency Translation
Available for Sale Securities
Actuarial Losses
Cash Flow Hedges
Balance at December 31, 2014
(74,770)
(1,589)
(650)
Other comprehensive income before reclassification adjustments
2,071
(2,625)
(18,740)
Reclassification amount to net income
1,390(1)
1,390
Net current-period other comprehensive income
Balance at September 30, 2015
(72,699)
(1,885)
Balance at December 31, 2013
(17,631)
(389)
(1,452)
(5,059)
(29,361)
(28,983)
(528)
1,338(1)
810
(29,889)
Balance at September 30, 2014
(47,520)
(3,732)
(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. 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 to five years. Options expire ten years from the date of grant. Stock-based compensation expense totaled $5,477,000 and $25,655,000 for the three and nine months ended September 30, 2015, respectively, and $4,271,000 and $26,108,000 for the same periods in 2014.
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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
114
202
155
181
Non-vested restricted shares
607
505
498
506
Redeemable shares
621
207
Convertible senior unsecured notes
988
262
821
Dilutive potential common shares
1,342
1,695
1,122
1,508
Denominator for diluted earnings per
share - adjusted weighted average shares
Basic earnings per share
Diluted earnings per share
The Series I Cumulative Convertible Perpetual Preferred Stock was not included in the calculations as the effect of conversions into common stock was anti-dilutive.
16. Disclosure about Fair Value of Financial Instruments
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, 2014 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.
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.
21
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 Primary Unsecured Credit Facility — The carrying amount of the primary unsecured credit facility approximates fair value because the borrowings are interest rate adjustable.
Senior Unsecured Notes — The fair value of the fixed rate senior unsecured notes payable was estimated based on Level 1 publicly available trading prices. The carrying amount of variable rate senior unsecured notes payable approximates fair value because the borrowings are interest rate adjustable.
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.
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.
Redeemable OP Unitholder Interests — The fair value of our redeemable unitholder interests are recorded on the balance sheet at fair value using Level 2 inputs. The fair value is measured using the closing price of our common stock, as units may be redeemed at the election of the holder for cash or, at our option, one share of our common stock per unit, subject to adjustment in certain circumstances.
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
570,997
606,910
188,651
194,935
Other real estate loans receivable
181,915
181,585
191,518
195,375
Available-for-sale equity investments
40,241
Foreign currency forward contracts
105,856
57,087
Financial liabilities:
Borrowings under unsecured credit facilities
8,489,584
8,613,702
3,024,245
3,053,067
21,909
1,495
Redeemable OP unitholder interests
111,380
46,722
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):
22
Fair Value Measurements as of September 30, 2015
Level 1
Level 2
Level 3
Available-for-sale equity investments(1)
Foreign currency forward contracts, net(2)
83,947
235,568
195,327
(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.
17. Segment Reporting
We invest in seniors housing and health care real estate. We evaluate our business and make resource allocations on our four operating segments: triple-net, seniors housing operating, outpatient medical and life science. During the quarter ended March 31, 2015, we changed the names of our seniors housing triple-net segment to triple-net and our medical facilities segment to outpatient medical.
Our triple-net properties include long-term/post-acute care facilities, hospitals, assisted living facilities, independent living/continuing care retirement communities, care homes (United Kingdom), independent support living facilities (Canada), care homes with nursing (United Kingdom) and combinations thereof. Under the 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 the seniors housing communities referenced above that are owned and/or operated through RIDEA structures (see Notes 3 and 18).
Our outpatient medical properties include medical office buildings and life science buildings which are aggregated into our outpatient medical reportable segment. Our medical office buildings are typically leased to multiple tenants and generally require a certain level of property management. During the three months ended June 30, 2015, we disposed of our life science investments.
We evaluate performance based upon NOI by 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.
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, 2014). The results of operations for all acquisitions described in Note 3 are included in our consolidated results of operations from the acquisition dates and
23
are components of the appropriate segments. There are no intersegment sales or transfers.
Summary information for the reportable segments is as follows for the periods presented (in thousands):
Three Months Ended September 30, 2015:
Seniors Housing Operating
Outpatient Medical
Non-segment / Corporate
285,027
124,263
19,454
1,054
1,872
969
772
309
305,450
547,081
126,444
368,050
40,653
Net operating income from continuing operations
179,031
85,791
570,294
Reconciling items:
12,359
30,990
7,120
70,661
74,486
87,306
44,007
1,865
7,630
(162)
(139)
723
Income (loss) from continuing operations before income taxes and income from unconsolidated entities
216,879
53,105
34,826
(108,312)
Income tax expense
87
3,237
154
(134)
(Loss) income from unconsolidated entities
2,851
(5,629)
219,817
50,713
35,127
(108,446)
2,155
(109)
221,972
35,018
12,346,157
10,325,540
4,699,643
85,026
24
Three Months Ended September 30, 2014:
250,748
103,400
7,520
770
981
325
106
259,249
483,791
104,377
41
320,895
34,221
259,208
162,896
70,156
492,366
10,294
26,612
7,692
73,837
(3)
68,027
95,819
37,124
10,572
1,363
(36)
2,728
Other Expenses
8,825
1,437
170,427
28,459
23,977
(107,262)
5,986
3,746
466
(5,550)
1,565
177,766
26,655
26,008
207,370
Nine Months Ended September 30, 2015:
829,422
356,080
52,343
3,126
4,481
5,823
5,001
665
83
887,588
1,581,445
361,226
1,067,127
116,392
514,318
244,834
25,064
104,245
21,929
209,833
216,921
252,785
133,725
45,615
23,610
1,154
10,096
24,776
646,099
133,678
88,026
(355,671)
(2,617)
(745)
460
(867)
(Loss) income from unconsolidated
entities
5,697
(26,785)
2,857
649,179
106,148
91,343
(356,538)
56,251
192,751
705,430
284,094
25
Nine Months Ended September 30, 2014:
736,599
301,852
23,220
1,065
2,586
1,448
1,643
850
198
761,267
1,409,024
305,288
732
939,108
100,502
760,535
469,916
204,786
1,435,435
28,063
82,924
25,423
223,924
125
275
202,668
334,625
111,444
5,900
12,863
2,783
383
514,990
37,409
65,136
(341,781)
5,194
1,302
(127)
4,157
(29,007)
5,145
524,341
9,704
70,154
Income (loss) from discontinued operations
35,366
906
566,842
71,060
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
793,429
81.0%
707,842
83.5%
2,309,596
81.6%
2,078,863
84.0%
International
185,568
19.0%
139,681
16.5%
520,746
18.4%
396,914
16.0%
100.0%
As of
22,508,234
82.0%
20,728,477
82.9%
4,948,132
18.0%
4,285,819
17.1%
26
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, a 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 TRS 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 unaudited consolidated financial statements and are subject to federal and state income taxes as the operations of such facilities are included in TRS entities. Certain net operating loss carryforwards could be utilized to offset taxable income in future years.
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 based or withholding taxes on certain investments located in jurisdictions outside the U.S. The income tax benefit for the three months ended September 30, 2015 and 2014, was primarily due to operating income or losses, offset by certain discrete items at our TRS entities. In 2014, we established certain wholly-owned direct and indirect subsidiaries in Luxembourg and Jersey and transferred interests in certain foreign investments into this holding company structure. The structure includes a property holding company that is tax resident in the United Kingdom. No material adverse current tax consequences in Luxembourg, Jersey or the United Kingdom resulted from the creation of this holding company structure and all of the subsidiary entities in the structure are treated as disregarded entities of the company for U.S. federal income tax purposes. The company reflects current and deferred tax liabilities for any such withholding taxes incurred as a result of this holding company structure in its consolidated financial statements.
Generally, given current statutes of limitations, we are subject to audit by the Internal Revenue Service (“IRS”) for the year ended December 31, 2011 and subsequent years and by state taxing authorities for the year ended December 31, 2010 and subsequent years. The company and its subsidiaries are also subject to audit by the Canada Revenue Agency and provincial authorities generally for periods subsequent to our initial investments in Canada in May 2012, by HM Revenue & Customs for periods subsequent to our initial investments in the United Kingdom in August 2012 and by Luxembourg taxing authorities generally for periods subsequent to our establishment of certain Luxembourg-based subsidiaries during 2014.
27
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 2015
Key Performance Indicators, Trends and Uncertainties
Corporate Governance
29
30
31
33
LIQUIDITY AND CAPITAL RESOURCES
Sources and Uses of Cash
Off-Balance Sheet Arrangements
Contractual Obligations
Capital Structure
34
35
RESULTS OF OPERATIONS
Summary
Non-Segment/Corporate
36
37
40
44
OTHER
Non-GAAP Financial Measures
Other Disclosures
Critical Accounting Policies
45
56
Cautionary Statement Regarding Forward-Looking Statements
The following discussion and analysis is based primarily on the unaudited consolidated financial statements of Welltower Inc. (formerly 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, 2014, 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 Welltower Inc. and its subsidiaries unless specifically noted otherwise.
Executive Summary
Welltower Inc. (NYSE:HCN), an S&P 500 company headquartered in Toledo, Ohio, is driving the transformation of health care infrastructure. The company invests with leading seniors housing operators, post-acute providers and health systems to fund the real estate and infrastructure needed to scale innovative care delivery models and improve people’s wellness and overall health care experience. Welltower™, a real estate investment trust (“REIT”), owns properties in major, high-growth markets in the United States, Canada and the United Kingdom, consisting of seniors housing and post-acute communities and outpatient medical properties. 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 for the three months ended September 30, 2015 (dollars in thousands):
Percentage of
Type of Property
NOI(1)
53.6%
749
31.4%
352
15.0%
252
570,272
(1) Excludes our share of investments in unconsolidated entities. Entities in which we have a joint venture with a minority partner are shown at 100% of the joint venture amount.
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, relationship 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 outpatient medical 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, 2015, rental income and resident fees and services represented 42% and 56%, respectively, of total revenues. 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 credit facility, 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 credit facility, 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 credit facility, 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 credit facility. At September 30, 2015, we had $292,042,000 of cash and cash equivalents, $74,758,000 of restricted cash and $1,951,516,000 of available borrowing capacity under our primary unsecured credit facility.
We believe the capital markets remain supportive of our investment strategy. In July 2014, we closed on a new primary unsecured credit facility that further enhances our access to efficient capital and financial flexibility. For the 21 months ended September 30, 2015, we raised $5,612,494,000 in aggregate gross proceeds through the issuance of common stock and unsecured debt. The capital raised, in combination with available cash and borrowing capacity under our primary unsecured credit facility, supported pro rata gross new investments of $3,579,831,000 during 2014 and $3,330,923,000 during the nine months ended September 30, 2015. 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 February 2015, we completed the public issuance of 19,550,000 shares of common stock at a price of $75.50 per share for approximate gross proceeds of $1,476,025,000. This was the largest overnight common stock offering and the highest offering price in our history. In May 2015, we issued $750,000,000 of 4.0% senior unsecured notes due 2025, generating approximately $743,407,000 of net proceeds. This was the largest single tranche U.S. debt offering in our history. In October 2015, we re-opened this tranche and issued an additional $500,000,000 of these notes, generating net proceeds of approximately $485,250,000. During the nine months ended September 30, 2015, we raised $206,334,000 through our dividend reinvestment program. Also during October 2015, we raised approximately $47,463,000 under our Equity Shelf Program (as defined below).
Investments. The following summarizes our acquisitions and joint venture investments completed during the nine months ended September 30, 2015 (dollars in thousands):
Investment Amount(1)
Capitalization Rates(2)
Book Amount(3)
1,150,199
6.8%
43
1,247,004
6.1%
134,999
5.9%
97
2,532,202
6.4%
3,018,305
(1) Represents stated pro rata 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 and 7 to our unaudited consolidated financial statements for additional information.
Dispositions. The following summarizes our property dispositions completed during the nine months ended September 30, 2015 (dollars in thousands):
Proceeds(1)
307,961
7.1%
251,840
585,799
5.1%
32
893,760
5.8%
(1) Represents pro rata proceeds received upon disposition including any seller financing.
(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. See Note 5 to our unaudited consolidated financial statements for additional information.
Dividends. Our Board of Directors increased the annual cash dividend to $3.30 per common share ($0.825 per share quarterly), as compared to $3.18 per common share for 2014, beginning in February 2015. The dividend declared for the quarter ended September 30, 2015 represents the 178thconsecutive 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, except per share amounts):
March 31,
June 30,
December 31,
50,022
71,829
188,636
190,799
312,573
Funds from operations
288,803
284,245
316,512
284,516
344,250
340,588
392,295
460,376
482,692
504,754
517,716
558,815
Same store cash net operating income
409,723
422,227
426,260
423,847
416,400
428,791
427,948
Per share data (fully diluted):
0.17
0.24
0.57
0.56
0.89
0.99
0.95
1.01
1.02
0.97
1.11
Concentration Risk. We evaluate our concentration risk in terms of NOI by property mix, relationship mix and geographic mix. Concentration risk is a valuable measure in understanding what portion of our NOI could be at risk if certain sectors were to experience downturns. Property mix measures the portion of our NOI that relates to our various property types. Relationship mix measures the portion of our NOI that relates to our top five relationships. Geographic mix measures the portion of our NOI that relates to our top five states (or international equivalents). The following table reflects our recent historical trends of concentration risk by NOI for the periods indicated below:
Property mix:(1)
53%
55%
54%
32%
33%
30%
31%
15%
Relationship mix:(1)
16%
Sunrise Senior Living(2)
9%
7%
Revera(2)
Remaining relationships
51%
Geographic mix:(1)
California
10%
United Kingdom
6%
New Jersey
Pennsylvania
Texas
Remaining geographic areas
63%
64%
62%
61%
60%
58%
(1) Excludes our share of investments in unconsolidated entities. Entities in which the company has a joint venture with a minority partner are shown at 100% of the joint venture amount.
(2) Revera owns a controlling interest in Sunrise Senior Living.
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
48%
45%
43%
42%
Debt to undepreciated book
capitalization ratio
40%
38%
39%
Debt to market capitalization ratio
37%
29%
28%
Interest coverage ratio
3.45x
3.51x
3.86x
4.29x
4.21x
5.32x
4.39x
Fixed charge coverage ratio
2.74x
2.77x
3.07x
3.39x
3.34x
4.19x
Lease Expirations. The following table sets forth information regarding lease expirations for certain portions of our portfolio as of September 30, 2015 (dollars in thousands):
Expiration Year
2020
2021
2022
2023
2024
Triple-net:
51
517
Base rent(1)
12,406
14,907
37,216
19,193
37,194
35,359
18,819
43,946
940,133
% of base rent
1.1%
0.0%
1.3%
3.2%
1.7%
3.1%
1.6%
3.8%
81.1%
Units/beds
432
1,467
3,151
1,391
3,725
4,964
2,164
55,711
% of Units/beds
0.6%
2.0%
4.2%
1.9%
5.0%
6.7%
2.9%
74.9%
Outpatient medical:
Square feet
761,227
838,863
1,104,670
936,001
1,062,052
1,210,011
1,146,299
2,162,371
1,192,960
1,353,779
4,269,748
18,997
18,562
27,630
22,485
26,112
30,653
28,733
44,486
26,088
35,676
84,256
5.2%
7.6%
6.2%
7.2%
8.4%
7.9%
12.2%
9.8%
23.3%
Leases
251
284
269
250
227
173
150
99
225
% of Leases
8.6%
10.9%
12.3%
11.7%
10.8%
7.5%
7.8%
6.5%
4.3%
(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 “Cautionary Statement Regarding Forward-Looking Statements” 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, 2014, 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.welltower.com/#investors/governance. The information on our website is not incorporated by reference in this Quarterly Report on Form 10-Q, and our web address is included as an inactive textual reference only.
Liquidity and Capital Resources
Our primary sources of cash include rent and interest receipts, resident fees and services, borrowings under our primary unsecured credit facility, 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
314,946
198%
Cash provided from (used in):
Operating activities
182,155
21%
Investing activities
(1,398,746)
126%
Financing activities
197,455
18%
(2,446)
n/a
(706,636)
-71%
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, 2015 and 2014, cash flow provided from operations exceeded cash distributions to stockholders.
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 2015” and Notes 3 and 6 of our unaudited consolidated financial statements. The following is a summary of cash used in non-acquisition capital improvement activities (dollars in thousands):
New development
165,311
140,829
24,482
Recurring capital expenditures, tenant improvements and lease commissions
13,650
43,956
(30,306)
-69%
Renovations, redevelopments and other capital improvements
108,990
42,368
66,622
157%
287,951
227,153
60,798
27%
The change in new development is primarily due to the number and size of construction projects on-going during the relevant periods. Renovations, redevelopments and other capital improvements include expenditures to maximize property value, increase net operating income, maintain a market-competitive position and/or achieve property stabilization. Generally, these expenditures have increased as a result of acquisitions, primarily in our seniors housing operating segment.
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/conversion of common and preferred stock and dividend payments. Please refer to Notes 9, 10 and 13 of our unaudited consolidated financial statements for additional information.
At September 30, 2015, we had investments in unconsolidated entities with our ownership generally ranging from 10% to 50%. Please see Note 7 to our unaudited 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 unaudited consolidated financial statements for additional information. At September 30, 2015, we had eight outstanding letter of credit obligations. Please see Note 12 to our unaudited consolidated financial statements for additional information.
The following table summarizes our payment requirements under contractual obligations as of September 30, 2015 (in thousands):
Payments Due by Period
2016-2017
2018-2019
Unsecured revolving credit facility(1)
Senior unsecured notes and credit facilities:(2)
U.S. Dollar senior unsecured notes
5,700,000
850,000
3,800,000
Pounds Sterling senior unsecured notes(3)
1,587,915
U.S. Dollar term credit facility
500,000
Canadian Dollar term credit facility(3)
186,625
Secured debt:(2,3)
Consolidated
864,189
933,425
Unconsolidated
499,217
8,832
53,211
27,454
409,720
Contractual interest obligations:(4)
Unsecured revolving credit facility
18,966
2,842
11,368
4,756
Senior unsecured notes and term loans(3)
3,547,135
118,562
665,356
595,402
2,167,815
Consolidated secured debt(3)
608,001
35,231
225,990
129,012
217,768
Unconsolidated secured debt(3)
144,514
4,648
34,097
30,964
74,805
Capital lease obligations(5)
99,751
1,182
9,464
9,012
80,093
Operating lease obligations(5)
988,564
3,907
30,956
31,123
922,578
Purchase obligations(5)
673,867
249,736
371,693
52,438
Other long-term liabilities(6)
6,022
369
2,950
2,703
Total contractual obligations
17,996,274
531,499
3,119,274
4,042,914
10,302,587
(1) Relates to unsecured revolving credit facility with an aggregate commitment of $2,500,000,000. See Note 9 to our unaudited consolidated financial statements for additional information.
(2) Amounts represent principal amounts due and do not reflect unamortized premiums/discounts or other fair value adjustments as reflected on the balance sheet.
(3) Based on foreign currency exchange rates in effect as of balance sheet date.
(4) Based on variable interest rates in effect as of balance sheet date.
(5) See Note 12 to our unaudited consolidated financial statements for additional information.
(6) Primarily relates to payments to be made under our Supplemental Executive Retirement Plan.
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, 2015, 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 credit facility, 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, 2015 is as follows:
Per Agreement
Primary Unsecured Credit Facility
Senior Unsecured Notes
Actual at September 30, 2015
Covenant
Total Indebtedness to Book Capitalization Ratio maximum
Secured Indebtedness to Total Assets Ratio maximum
11%
Total Indebtedness to Total Assets maximum
Unsecured Debt to Unencumbered Assets maximum
36%
Adjusted Interest Coverage Ratio minimum
1.50x
4.71x
Adjusted Fixed Charge Coverage minimum
3.72x
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 1, 2015, we filed with the Securities and Exchange Commission (the “SEC”) (1) an open-ended automatic or “universal” shelf registration statement covering an indeterminate amount of future offerings of debt securities, common stock, preferred stock, depositary shares, warrants and units and (2) a registration statement in connection with our enhanced dividend reinvestment plan under which we may issue up to 15,000,000 shares of common stock. As of October 23, 2015, 12,800,329 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, 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 23, 2015, we had $408,926,000 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 primary unsecured credit facility.
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: triple-net, seniors housing operating and outpatient medical. The primary performance measures for our properties are NOI and SSCNOI, which are discussed below. Please see Note 17 to our unaudited consolidated financial statements for additional information. The following is a summary of our results of operations (dollars in thousands, except per share amounts):
45,788
34%
427,306
166%
75,783
24%
1,077,132
889,562
187,570
EBITDA
522,842
461,978
60,864
13%
1,707,405
1,308,684
398,721
Net operating income from continuing operations (NOI)
77,928
211,388
Same store cash NOI
1,688
0%
1,273,140
1,258,210
14,930
1%
0.08
129%
0.10
3.10
2.96
0.14
0.53x
4.64x
3.60x
1.04x
0.38x
12%
3.67x
2.86x
0.81x
The following is a summary of our NOI for the triple-net segment (dollars in thousands):
SSCNOI(1)
211,586
204,626
6,960
3%
628,463
609,336
19,127
Non-cash NOI attributable to same store properties(1)
22,376
20,189
2,187
67,456
52,565
14,891
NOI attributable to non same store properties(2)
71,488
34,393
37,095
108%
191,669
98,634
93,035
94%
46,242
127,053
(1) Change is due to increases in cash and non-cash NOI (described below) related to 584 same store properties.
(2) Change is primarily due to the acquisition of 149 properties and the conversion of 9 construction projects into revenue-generating properties subsequent to January 1, 2014.
The following is a summary of our results of operations for the triple-net segment (dollars in thousands):
34,279
92,823
11,934
159%
29,123
125%
(12)
-1%
4,375
302%
46,201
126,321
(41)
-100%
(732)
Other expenses:
2,065
20%
(2,999)
-11%
(52)
(58,552)
6,459
14,253
246
39,715
673%
(103)
286%
10,132
(8,825)
88,571
88,781
(210)
241,489
245,545
(4,056)
-2%
Income from continuing operations before income taxes and income (loss) from unconsolidated entities
46,452
131,109
25%
Income tax benefit (expense)
(5,899)
-99%
(7,811)
1,498
111%
1,540
Income from continuing operations
42,051
124,838
Discontinued operations, net(1)
(7,135)
Gain (loss) on real estate dispositions, net(1)
(27,449)
-93%
20,885
59%
14,602
138,588
Less: Net income (loss) attributable to noncontrolling interests
526
500
1,528
1,491
2%
Net income attributable to common stockholders
221,446
206,870
14,576
703,902
565,351
138,551
(1) See Note 5 to our unaudited consolidated financial statements.
The increase in rental income is primarily attributable to the acquisitions of new properties, the conversion of newly constructed triple-net properties from which we receive rent and the modification of our lease with Genesis Healthcare to replace the CPI-based component of an annual increaser with a fixed annual increaser effective April 1, 2014 and extend the term. 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, 2015, we had no lease renewals but we had 25 leases with rental rate increasers ranging from 0.12% to 0.43% in our triple-net portfolio.
The change in interest income is due to a higher loan volume in the current year, which includes a first mortgage loan to Genesis Healthcare to facilitate their merger with Skilled Healthcare Group. The increase in other income year-to-date over the prior year includes the receipt of an early prepayment fee related to a real estate loan receivable.
38
During the nine months ended September 30, 2015, we completed four triple-net construction projects representing $85,902,000 or $270,132 per bed/unit plus expansion projects totaling $38,808,000. The following is a summary of triple-net construction projects pending as of September 30, 2015 (dollars in thousands):
Units/Beds
Commitment
Balance
Est. Completion
Frederick, MD
130
19,000
17,863
4Q15
Edmond, OK
142
24,500
7,984
3Q16
Carrollton, TX
104
18,900
5,940
Tulsa, OK
145
25,800
3,709
4Q16
Bracknell, UK
64
16,709
6,633
Piscataway, NJ
124
30,600
17,062
Raleigh, NC
93,000
33,891
1Q17
Livingston, NJ
120
51,440
16,744
279,949
109,826
Interest expense for the nine months ended September 30, 2015 and 2014 represents secured debt interest expense. The change in secured debt interest expense is due to the net effect and timing of assumptions, segment transitions, extinguishments and principal amortizations. The following is a summary of our triple-net property secured debt principal activity (dollars in thousands):
Wtd. Avg.
545,207
5.556%
581,740
5.389%
670,769
5.337%
587,136
5.394%
(20,338)
6.306%
(9,019)
6.140%
(132,545)
4.695%
Foreign Currency
(6,155)
5.316%
(13,011)
(3,046)
5.566%
(2,657)
5.774%
(9,545)
5.669%
(8,053)
5.830%
515,668
5.526%
570,064
5.374%
Monthly averages
520,244
5.541%
573,927
5.379%
549,861
5.528%
580,636
5.387%
In April 2011, we completed the acquisition of substantially all of the real estate assets of privately-owned Genesis Healthcare Corporation. In conjunction with this transaction, we received the option to acquire an ownership interest in Genesis Healthcare. In February 2015, Genesis Healthcare closed on a transaction to merge with Skilled Healthcare Group to become a publicly traded company which required us to record the value of the derivative asset due to the net settlement feature. We elected to exercise our option during the three months ended March 31, 2015 which resulted in a $58,427,000 gain.
Depreciation and amortization increased primarily as a result of new property acquisitions and the conversions of newly constructed triple-net properties. To the extent that we acquire or dispose of additional properties in the future, our provision for depreciation and amortization will change accordingly.
Transaction costs represent costs incurred with property acquisitions including due diligence costs, fees for legal and valuation services, the termination of pre-existing relationships, lease termination expenses and other similar costs. The increase in year-to-date transaction costs over the prior year includes a charge related to the termination of pre-existing relationships, the termination of a lease obligation and overall higher transaction volume. The fluctuation in losses/gains on debt extinguishment is primarily attributable to the volume of extinguishments and the terms of the related secured debt.
The decrease in other expenses in the third quarter is primarily related to the 2014 reversal of the indemnification asset recorded in connection with the Genesis acquisition. At that time, an income tax benefit was recorded in the same amount to reverse the unrecognized tax benefits related to the transaction.
Changes in the gain on sales of properties are related to property sales which totaled 23 and twelve for the nine months ended September 30, 2015 and 2014, respectively. During the nine months ended September 30, 2015, we recorded an impairment of $2,200,000 related to a triple-net property and land parcel, both of which are considered held for sale.
39
The following is a summary of our NOI for the seniors housing operating segment (dollars in thousands):
154,128
160,725
(6,597)
-4%
457,733
466,455
(8,722)
Non-cash NOI attributable to same store properties
(250)
(261)
(754)
(793)
-5%
25,153
2,432
22,721
934%
57,339
4,254
53,085
1248%
16,135
44,402
(1) Relates to 279 same store properties. Decrease is primarily due to unfavorable changes in USD/CAD and GBP/USD rates.
(2) Change is primarily due to the acquisition of 73 properties subsequent to January 1, 2014.
The following is a summary of our seniors housing operating results of operations (dollars in thousands):
62,843
167,002
2,061
194%
447
138%
3,358
204%
63,290
172,421
47,155
128,019
4,378
21,321
26%
(275)
(8,513)
-9%
(81,840)
-24%
(2,942)
-28%
10,747
84%
(383)
(1,437)
125,926
134,437
(8,511)
-6%
380,640
432,507
(51,867)
-12%
Income (loss) from continuing operations before income taxes and income (loss) from unconsolidated entities
24,646
87%
96,269
257%
(509)
-14%
(2,047)
-157%
(79)
2,222
-8%
24,058
90%
96,444
994%
(679)
(391)
(288)
74%
2,114
(3,104)
5,218
-168%
51,392
27,046
24,346
104,034
12,808
91,226
712%
Fluctuations in revenues and property operating expenses are primarily a result of acquisitions and the movement of U.S. and foreign currency exchange rates. The fluctuations in depreciation and amortization are due to acquisitions and variations in amortization of short-lived intangible assets. The decrease in depreciation and amortization for the three and nine month periods ended September 30, 2015 as compared to the prior year are due primarily to a number of short lived intangible assets which became fully amortized. To the extent that we acquire or dispose of additional properties in the future, these amounts will change accordingly.
During the nine month period ended September 30, 2015, we completed one seniors housing operating construction project representing $19,869,000 or $283,843 per unit. The following is a summary of our seniors housing operating construction projects, excluding expansions, pending as of September 30, 2015 (dollars in thousands):
Units
Camberley, UK
102
20,982
18,279
Chertsey, UK
93
46,778
12,390
3Q17
Bushey, UK
95
59,897
13,817
2Q18
290
127,657
Interest expense represents secured debt interest expense as well as interest expense related to our $250,000,000 Canadian-denominated unsecured term credit facility and Sterling-denominated senior unsecured notes. The increase in interest expense from the prior year is attributed primarily to the £500,000,000 Sterling-denominated senior unsecured notes issued in November 2014. Please refer to Note 10 to our unaudited consolidated financial statements for additional information. The following is a summary of our seniors housing operating property secured debt principal activity (dollars in thousands):
1,827,123
4.353%
1,637,508
4.499%
1,654,531
4.422%
1,714,714
4.622%
85,811
2.623%
87,410
3.190%
2.759%
3.228%
22,032
4.995%
227,929
4.075%
12,005
4.147%
(79,981)
3.478%
(31,167)
5.079%
(199,946)
3.507%
(112,829)
5.665%
(44,360)
3.588%
(22,234)
3.759%
(76,146)
3.639%
3.775%
(9,375)
4.217%
(8,296)
4.325%
(27,730)
4.209%
(25,335)
4.354%
1,801,250
4.335%
1,663,221
4.431%
1,792,576
4.346%
1,649,352
4.481%
1,754,706
4.376%
1,654,526
4.538%
The increase in transaction costs in the current year is a result of increased acquisition and transaction volume in the current year. The majority of our seniors housing operating properties are formed through partnership interests. Net income attributable to noncontrolling interests represents our partners’ share of net income (loss) related to joint ventures. The fluctuations in income (loss) from unconsolidated entities is primarily due to depreciation and amortization of short-lived intangible assets and the timing of additional investments in unconsolidated entities.
The following is a summary of our NOI for the outpatient medical segment (dollars in thousands):
62,234
60,909
1,325
186,944
182,419
4,525
1,299
1,744
(445)
-26%
4,137
6,160
(2,023)
-33%
22,258
7,503
14,755
197%
53,753
16,207
37,546
232%
15,635
22%
40,048
(1) Change is due to increases in cash NOI and decreases in non-cash NOI related to 178 same store properties.
(2) Change is primarily due to acquisitions of 41 properties and conversions of construction projects into 12 revenue-generating properties subsequent to January 1, 2014.
The following is a summary of our results of operations for the outpatient medical segment (dollars in thousands):
20,863
54,228
1,102
143%
1,895
73%
49%
(185)
-22%
22,067
55,938
6,432
19%
15,890
(572)
-7%
(3,494)
6,883
22,281
(1,525)
(1,629)
-59%
50,965
46,179
4,786
156,808
139,650
17,158
Income from continuing operations before income taxes and income from unconsolidated entities
10,849
22,890
35%
(312)
-67%
Income from unconsolidated entities
(1,418)
-91%
(2,288)
-44%
9,119
21,189
191,845
21175%
9,010
213,034
300%
1,015
55
960
1745%
1,024
274
750
274%
34,003
25,953
8,050
283,070
70,786
212,284
The increase in rental income is primarily attributable to the acquisitions of new properties and the conversion of newly constructed outpatient medical properties 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, 2015, our consolidated outpatient medical portfolio signed 65,179 square feet of new leases and 228,038 square feet of renewals. The weighted-average term of these leases was six years, with a rate of $37.25 per square foot and tenant improvement and lease commission costs of $15.75 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 5%.
During the nine months ended September 30, 2015, we completed one outpatient medical construction project representing $16,592,000 or $325 per square foot. The following is a summary of the outpatient medical construction projects, excluding expansions, pending as of September 30, 2015 (dollars in thousands):
42
Square Feet
Bel Air, MD
99,184
26,386
12,289
1Q16
Richmond, TX
36,475
11,670
5,062
Stamford, CT
92,345
41,735
3,359
Missouri, TX
23,863
9,180
1,560
Brooklyn, NY
140,955
103,624
15,248
392,822
192,595
37,518
Total interest expense represents secured debt interest expense. 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 outpatient medical secured debt principal activity (dollars in thousands):
654,990
5.193%
585,161
6.067%
609,268
5.838%
700,427
5.999%
50,500
2.863%
112,000
1.837%
(29,370)
5.381%
(11,447)
5.700%
(88,182)
5.355%
(118,507)
5.613%
(3,065)
6.023%
(3,282)
6.092%
(10,531)
5.724%
(11,488)
5.682%
622,555
5.181%
620,932
5.812%
640,971
5.188%
590,392
6.001%
608,489
5.523%
634,851
5.956%
The increase in property operating expenses and depreciation and amortization is primarily attributable to acquisitions and construction conversions of new outpatient medical facilities for which we incur certain property operating expenses.
Transaction costs represent costs incurred with property acquisitions including due diligence costs, fees for legal and valuation services, termination of pre-existing relationships, lease termination expenses and other similar costs. The fluctuations in transaction costs are primarily due to acquisition volumes in the relevant periods.
Income from unconsolidated entities represents our share of net income or losses from certain unconsolidated property investments related to our strategic joint venture with a national medical office building company and the period for which we held a joint venture investment with Forest City Enterprises.
Gain on real estate dispositions is due to the disposition of our interest in the joint venture with Forest City Enterprises in the second quarter of 2015.
The following is a summary of our results of operations for the non-segment/corporate activities (dollars in thousands):
(84)
-79%
(115)
-58%
(3,176)
(14,091)
6,147
(4,765)
Loss on extinguishment of debt, net
(2,005)
-73%
22,048
808%
108,334
107,368
966
355,754
341,979
13,775
Loss from continuing operations before income taxes
(1,050)
(13,890)
Loss from continuing operations
(1,184)
(14,757)
Less: Preferred stock dividends
(2)
Net loss attributable to common stockholders
(124,798)
(123,614)
(405,593)
(390,838)
(14,755)
The following is a summary of our non-segment/corporate interest expense (dollars in thousands):
66,679
69,485
(2,806)
196,752
210,765
(14,013)
94
112
(18)
-16%
281
334
(53)
Primary unsecured credit facility
2,042
1,760
282
7,806
6,884
922
(1,321)
(1,561)
240
-15%
(4,680)
98
Swap loss (savings)
(7)
175%
(23)
109%
Loan expense
3,178
4,045
-21%
9,697
10,730
(1,033)
-10%
The change in interest expense on senior unsecured notes is due to the net effect of issuances and extinguishments, excluding our Sterling-denominated senior unsecured notes and Canadian-denominated unsecured term credit facility, both of which are in our seniors housing operating segment. Please refer to Note 10 to our unaudited 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. Loan expense represents the amortization of deferred loan costs incurred in connection with the issuance and amendments of debt. Loan expense changes are due to amortization of charges for costs incurred in connection with senior unsecured note issuances. The change in interest expense on the primary unsecured credit facility is due primarily to the net effect and timing of draws, paydowns and variable interest rate changes. Please refer to Note 9 of our unaudited consolidated financial statements for additional information regarding our primary unsecured credit facility.
General and administrative expenses for the nine months ended September 30, 2014 included $19,688,000 related to CEO transition costs. Excluding these costs, general and administrative expenses as a percentage of consolidated revenues for the three months ended September 30, 2015 and 2014 were 3.77% and 3.63%, respectively. The increase in general and administrative expenses excluding the CEO transition costs is primarily related to costs associated with our initiatives to attract and retain appropriate personnel to achieve our business objectives. The loss on extinguishment of debt is due primarily to the early extinguishment of the 2016 senior unsecured notes. The increase in other expenses in the current year is due to costs associated with the retirement of an executive officer and the termination of our investment in a strategic medical office partnership.
We believe that net income, as defined by U.S. GAAP, is the most appropriate earnings measurement. However, we consider FFO, NOI and EBITDA to be useful supplemental measures 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 attributable to common stockholders, 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 and noncontrolling interests.
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 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, 2014. Any properties acquired, developed, transitioned, sold or classified as held for sale 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 credit facility 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 coverage 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 unsecured credit facility 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.
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. Noncontrolling interest and unconsolidated entity amounts represent adjustments to reflect our share of depreciation and amortization. Amounts are in thousands except for per share data.
FFO Reconciliations:
233,318
214,449
195,393
188,829
208,802
(13,079)
(29,604)
(110,839)
(56,845)
(190,111)
(2,046)
(10,520)
(9,741)
(9,359)
(8,234)
(7,249)
(10,467)
(11,647)
Unconsolidated entities
15,983
20,787
18,250
19,560
26,496
19,791
18,146
Average common shares outstanding:
289,606
296,256
327,492
336,754
350,399
290,917
297,995
329,130
337,812
351,366
Per share data:
Net income attributable to
common stockholders
0.58
1.00
0.96
0.87
1.12
(29,618)
(29,363)
55,019
64,433
2.97
3.11
46
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 includes discontinued operations. Dollars are in thousands.
EBITDA Reconciliations:
65,200
87,854
206,474
209,422
330,459
120,956
121,099
120,707
121,080
118,861
Income tax expense (benefit)
2,260
1,569
(10,198)
5,101
(304)
7,417
(3,344)
421,734
424,971
527,675
519,027
665,539
Interest Coverage Ratio:
Non-cash interest expense
(330)
(1,649)
(547)
100
(119)
4,202
(3,791)
1,605
1,700
1,779
2,066
2,387
2,060
Total interest
122,231
121,150
119,667
122,873
123,348
125,123
119,204
Fixed Charge Coverage Ratio:
Secured debt principal payments
15,455
15,803
14,549
16,473
15,630
17,336
15,817
Preferred dividends
16,353
Total fixed charges
154,039
153,305
150,568
155,698
155,330
158,811
151,373
360,491
(6,369)
3,769
(2,527)
291
5,084
6,311
363,048
367,673
45,807
48,783
457,912
465,511
47
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 includes discontinued operations. Dollars are in thousands.
Twelve Months Ended
Adjusted EBITDA
Reconciliations:
131,682
212,355
331,524
512,300
656,518
899,126
945,612
472,827
483,082
484,975
481,197
481,321
479,083
481,778
6,987
7,341
(5,934)
(1,267)
(3,832)
2,016
8,870
920,156
934,128
892,117
844,130
799,641
793,994
798,823
29,320
29,635
32,075
33,462
30,416
31,622
Provision for loan losses
2,110
(749)
(218)
6,542
9,558
25,108
43,464
41,356
1,550,349
1,668,118
1,740,969
1,877,993
1,992,218
2,248,099
2,308,061
Adjusted Fixed Charge Coverage Ratio:
6,700
7,014
7,087
7,150
7,931
8,292
8,378
(880)
(1,292)
(2,790)
(2,427)
(2,215)
3,636
392
478,647
488,804
489,272
485,920
487,037
491,011
490,548
Adjusted interest coverage ratio
3.24x
3.41x
3.56x
4.09x
4.58x
60,341
62,867
62,119
62,280
62,455
63,988
65,256
66,088
65,838
65,588
65,408
605,076
617,509
616,979
613,608
614,900
620,407
621,212
Adjusted fixed charge coverage ratio
2.56x
2.70x
2.82x
3.06x
3.62x
48
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. Dollars are in thousands.
NOI Reconciliations:
Total revenues:
245,580
256,439
266,600
282,988
299,149
456,319
468,914
488,546
494,561
539,805
99,893
101,017
112,144
116,606
118,176
Non-segment/corporate
76
479
801,807
826,446
867,769
894,177
957,169
Property operating expenses:
243
308,184
310,029
327,200
338,507
360,569
33,004
33,278
35,815
37,954
37,785
Total property operating expenses
341,431
343,754
363,015
376,461
398,354
Net operating income:
245,337
255,992
148,135
158,885
161,346
156,054
179,236
66,889
67,739
76,329
78,652
80,391
(120,833)
(121,065)
(118,435)
(120,707)
(121,080)
(118,861)
(121,130)
(351)
58,427
(233,318)
(214,449)
(200,970)
(195,393)
(188,829)
(208,802)
(205,799)
(32,865)
(51,660)
(30,803)
(27,616)
(35,138)
(38,474)
(36,950)
(952)
(7,040)
(13,554)
(47,991)
(48,554)
(12,491)
(9,333)
Gain (loss) on extinguishment of debt, net
148
(531)
(2,692)
(6,484)
(15,401)
(18,887)
(584)
(2,220)
(10,262)
(10,583)
(2,260)
(1,569)
(5,101)
304
(7,417)
(5,556)
(11,516)
(7,722)
(12,648)
(2,952)
6,675
6,668
110,839
56,845
190,111
(16,353)
(16,352)
Loss (income) attributable to noncontrolling interests
1,175
327
(164)
(1,486)
(2,271)
(1,534)
(862)
(410,354)
(410,863)
(356,111)
(316,118)
(326,917)
(246,242)
(388,251)
(360,334)
(361,071)
(648,737)
(603,431)
(115,327)
(110,562)
(21,546)
(70,379)
(3,075)
(34,872)
1,339
(4,666)
(1,177,328)
(961,410)
Same Store Cash NOI Reconciliations:
Net operating income from continuing operations:
80,390
460,361
482,616
492,260
504,275
517,694
558,775
Adjustments:
Non-cash NOI on same store properties
(13,022)
(19,354)
(20,189)
(19,688)
(22,241)
(22,838)
(22,377)
NOI attributable to non same store properties
(31,401)
(32,841)
(34,393)
(40,925)
(53,731)
(66,450)
(71,488)
Subtotal
(44,423)
(52,195)
(54,582)
(60,613)
(75,972)
(89,288)
(93,865)
Seniors housing operating:
266
261
253
(117)
(1,705)
(2,432)
(5,386)
(9,034)
(23,155)
(25,153)
149
(1,439)
(2,171)
(5,134)
(8,783)
(22,902)
(24,903)
(2,226)
(2,190)
(1,744)
(1,560)
(1,262)
(1,577)
(1,299)
(4,138)
(4,565)
(7,503)
(13,121)
(15,277)
(16,217)
(22,258)
(6,364)
(6,755)
(9,247)
(14,681)
(16,539)
(17,794)
(23,557)
Same store cash net operating income:
200,914
203,797
205,987
207,016
209,861
279
148,284
157,446
156,212
147,271
156,334
178
60,525
60,984
61,648
62,113
62,596
Same Store Cash NOI Property Reconciliation:
Total Properties
Acquisitions
(263)
Developments
(21)
Held-for-sale
(14)
Other(1)
Same store properties
(1) Includes eleven land parcels and three loans.
1,435,237
1,646,740
(52,564)
(67,456)
(98,635)
(191,669)
(151,199)
(259,125)
793
754
(4,254)
(57,339)
(3,461)
(56,585)
(6,160)
(4,137)
(16,207)
(53,753)
(22,367)
(57,890)
United States of America
Health Care Reimbursements
Policy and legislative changes that increase or decrease government reimbursement impact our operators and tenants that participate in Medicare, Medicaid, or other government programs. The reimbursement methodologies applied to health care facilities continue to evolve. To the extent that policy or legislative changes, or new reimbursement methodologies decrease government reimbursement to our operators and tenants, our revenue and operations may be adversely affected.
Medicare Reimbursement and Physicians. Historically, the Centers for Medicare and Medicaid Services (“CMS”) annually adjusted the Medicare Physician Fee Schedule payment rates based on an update formula that included application of the Sustainable Growth Rate (“SGR”). On April 1, 2014, President Obama signed into law the Protecting Access to Medicare Act of 2014, which provided for a 0% update to the 2015 Medicare Physician Fee Schedule through March 31, 2015. On November 13, 2014, CMS published the calendar year 2015 Physician Fee Schedule final rule, which, consistent with the Protecting Access to Medicare Act of 2014, called for a 0% update from January 1, 2015 through March 31, 2015 and a negative 21.2% update under the statutory SGR formula for April 1, 2015 through December 31, 2015. However, on April 16, 2015, President Obama signed and enacted into law H.R. 2, the Medicare Access and CHIP Reauthorization Act of 2015, which, among other things:
· Repeals the SGR.
· Institutes a 0% update to the single conversion factor under the Medicare Physician Fee Schedule from January 1 through June 30, 2015, a 0.5% update for July 2015 through the end of 2019, and a 0% update for 2020 through 2025. For 2026 and subsequent years, the update will be either 0.75% or 0.25%, depending in which Alternate Payment Model (“APM”) the physician participates.
· Delays the Geographic Practice Cost Indices (“GPCI”) payment adjustment until January 1, 2018.
· Extends the therapy cap exceptions process through December 31, 2017.
· Imposes a market basket update of 1% for skilled nursing providers for FY 2018.
Additionally, on April 6, 2015, CMS announced final 2016 payment rates for Medicare Advantage, with an expected average payment impact of 3.25%. Changes in Medicare Advantage plan payments may indirectly affect our operators and tenants that contract with Medicare Advantage plans.
CMS also issued several additional rules (proposed and final) which could impact our tenants and operators.
· On August 4, 2015, CMS published a final rule regarding fiscal year 2016 (“FY16”) Medicare payment rates for skilled nursing facilities (“SNFs”). Under the rule, CMS projects that aggregate payments to SNFs will increase by $430 million, or 1.2%, from payments in fiscal year 2015.
· On August 17, 2015, CMS published a final rule regarding FY16 Medicare payment rates for Long-Term Care Hospitals (“LTCHs”). Under the rule, standard LTCH Prospective Payment System (“PPS”) rates will increase 1.7%. CMS projects overall payments to LTCHs under the rule would decrease by 4.6%, or $250 million, due to the statutory decrease in payment rates for site neutral LTCH PPS cases. Site neutral LTCH PPS cases do not meet the clinical criteria to qualify for the higher standard LTCH PPS payment rates.
· On July 8, 2015, CMS issued a proposed rule regarding 2016 Medicare payment rates for hospital outpatient departments (“HOPDs”) and ambulatory surgery centers (“ASCs”). Under the rule, CMS proposes to reduce payments to HOPDs by 0.1% and increase payments to ASCs by 1.1%. The proposed rule also included updates to the “Two-Midnight” rule regarding when inpatient admissions are appropriate for payment under Medicare Part A. If finalized, an inpatient admission lasting less than two midnights would be payable under Medicare Part A on a case-by-case basis based on the judgment of the admitting physician, supported by documentation in the medical record.
· On July 14, 2015, CMS issued a proposal to bundle the costs for Lower Extremity Joint Replacement (“LEJR”) procedures in certain geographic areas. The bundle would begin with the hospital admission and continue for 90 days following hospital discharge. The following services, among others, would be included: physician services, inpatient hospital services (including readmission), LTCH, inpatient rehabilitation, SNF, and/or home health services, hospital outpatient services, outpatient therapy, clinical lab and hospice. Hospitals subject to the bundling requirements with spending below an established target price that meet the threshold on certain quality measures could earn a reconciliation payment from Medicare. Hospitals with spending that exceeds the target would need to pay the difference to Medicare.
· On July 15, 2015, CMS issued a proposed rule regarding 2016 Medicare payment rates under the Physician Fee Schedule (“PFS”). Among other proposals, CMS plans to initiate implementation of the new payment system for physicians and other practitioners, the Merit-Based Incentive Payment System (“MIPS”), required by the legislation that repealed the SGR.
· On July 16, 2015, CMS issued a proposed rule that, for the first time in nearly 25 years, would comprehensively update the SNF requirements for participation under Medicare and Medicaid. Among other things, the proposed rule addresses requirements relating to quality of care and quality of life, facility responsibilities and staffing considerations, resident assessments, and compliance and ethics programs. CMS estimates that this rule would result in an estimated first-year cost of approximately $46,491 per facility and a subsequent-year cost of $40,685 per facility on 15,691 LTC facilities.
Other Health Care Initiatives
Recent Quality Initiatives. Recent government proposals have resulted in an increased emphasis by the government on the quality of care provided by providers. For example, on February 27, 2015, CMS announced the establishment of a Health Care Payment Learning and Action Network as part of its plan to shift the Medicare program, and the healthcare system at large, toward paying providers based on quality, rather than the quantity of care they provide to patients. Through the Learning and Action Network, CMS will work with private payers, employers, consumers, providers, states and state Medicaid programs, and other partners to expand alternative payment models into their programs. To the extent this and similar measures impose additional obligations on our operators or tenants, or decrease the reimbursements that they receive, our revenues and operations may be indirectly adversely affected.
The Department of Health and Human Services, Office of Inspector General (“OIG”) Recommendations Addressing SNF Billing. In the OIG’s March 2015 Compendium of Priority Recommendations, a report that highlights the OIG’s previous recommendations for which corrective action has not been completed, the OIG cited its prior November 2012 report addressing questionable billing practices by SNFs. The OIG recommended, among other things, changing the current method for determining how much therapy is needed to ensure appropriate payments, monitoring compliance with new therapy assessments, and improving accuracy of data submitted by SNFs. Similarly, in June 2015, the OIG issued a report analyzing CMS’ assessments related to changes in the amount of therapy that a beneficiary receives during stays. The OIG concluded that CMS’ new policies create challenges for oversight and that SNFs’ use of these assessments cost Medicare $143 million over 2 years. The OIG recommended, among other things, that CMS (1) reduce the financial incentive for SNFs to use assessments differently when decreasing and increasing therapy and (2) accelerate its efforts to implement a new method for paying for therapy. Most recently, OIG issued a report in September 2015 calling for reevaluation of the Medicare payment system for SNFs. In particular, OIG found that Medicare payments for therapy greatly
53
exceeded SNFs’ costs for therapy, and that, under the current payment system, SNFs increasingly billed for the highest level of therapy even though key beneficiary characteristics remained largely the same. OIG determined that its findings demonstrated the need for CMS to reevaluate the Medicare SNF payment system, concluding that payment reform could save Medicare billions of dollars and encourage SNFs to provide services that are better aligned with beneficiaries’ care needs. If followed, these reports and recommendations may impact our operators and tenants.
Challenges to the Health Reform Laws. Since the enactment of the Patient Protection and Affordable Care Act of 2010, as modified by the Health Care and Education Reconciliation Act of 2010 (collectively, the “Health Reform Laws”), there have been multiple attempts through legislative action and legal challenge to repeal or amend the Health Reform Laws, including the case that was before the U.S. Supreme Court, King v. Burwell. Although the Supreme Court in Burwellupheld the use of subsidies to individuals in federally-facilitated health care exchanges on June 25, 2015, which ultimately did not disrupt significantly the implementation of the Health Care Reform Laws, we cannot predict whether other current or future efforts to repeal or amend the Health Reform Laws will be successful, nor can we predict the impact that such a repeal or amendment would have on our operators or tenants and their ability to meet their obligations to us.
Canada
Licensing and Regulation
Ontario
Retirement homes in Ontario are regulated under the Retirement Homes Act, 2010 (the “Act”). A license is required to operate a retirement home. Licenses must be applied for and are non-transferable. Applications for licenses are directed to the Registrar of the Retirement Homes Regulatory Authority (“RHRA”).
The Act requires a report to the RHRA when any person has reasonable grounds to suspect abuse of a resident by anyone, or neglect of a resident by staff. Following a report to the RHRA, there is a mandatory inspection carried out by the RHRA, which results in a report that is posted on the RHRA’s public website. The most recent report must also be posted in the subject home, and be readily available for review if requested thereafter. The Registrar of the RHRA can receive complaints about a retirement home contravening a provision of the Act, and if such a complaint is received, it must be reviewed promptly. The Registrar may ask the retirement home that is the subject of the complaint to provide information relevant to the complaint, and has the power to conduct an inspection, issue a written warning or take other action as prescribed in the regulations.
British Columbia
The Community Care and Assisted Living Act, the Residential Care Regulation, and the Community Care and Assisted Living Regulation (together, the “B.C. Act”) regulate “community care facilities” (long-term care facilities) in substantially the same manner as retirement homes are regulated under the Ontario Act. The B.C. Act defines such a facility as premises used for the purpose of supervising vulnerable persons who require three or more prescribed services (from a list that includes regular assistance with activities of daily living; distribution of medication; management of cash resources; monitoring of food intake; structured behavior management and intervention; and psychosocial or physical rehabilitative therapy).
Other Related Laws
Privacy
Privacy laws in Canada are consent-based and require the implementation of a privacy program involving policies, procedures and the designation of an individual or team with primary responsibility for a custodian’s privacy law compliance. Mandatory breach notification, to the affected individuals, is a requirement under some laws and amendments have been passed or proposed, but are not yet in effect, requiring breach notification to the applicable privacy regulator under some laws. Some laws require notification where personal health information/personal information is processed or stored outside of Canada. One provincial law (in Quebec) provides for fines where an organization fails to perform required due diligence before outsourcing activities involving personal information to a service provider outside of the province.
The powers of privacy regulators and penalties for violations of privacy law vary according to the applicable law or are left to the courts. To date, penalties have generally not been monetary, although that may change depending on decisions in connection with class actions. Regulators have the authority to make public the identity of a health information custodian that has been found to have
54
committed a breach, so that there is a reputational risk associated with privacy law violations even where no monetary damages are incurred. The notification of patients (as mentioned above, mandatory under some privacy laws and a best practice in other jurisdictions) and other activities required to manage a privacy breach can give rise to significant costs.
Registration
In England, care home services are principally regulated by the Health and Social Care Act 2008 (the “Act”) and associated Regulations. The Act requires all persons carrying out “Regulated Activities” in England, and the managers of such persons, to be registered. Regulated Activities are defined in the Health and Social Care Act 2008 (Regulated Activities) Regulations 2014, as amended (the “2014 Regulations”), and include (among other activities):
· The provision of personal care for persons who, by reason of old age, illness or disability are unable to provide it for themselves, and which is provided in a place where those persons are living at the time the care is provided; and
· The provision of residential accommodation, together with nursing or personal care.
From April 1, 2015, the 2014 Regulations fully revoked the Health and Social Care Act 2008 (Regulated Activities) Regulations 2010 (the “2010 Regulations”) and while the 2014 Regulations introduce certain modifications with regard to service standards, the registration obligations under the Act remain.
Service Standards and Notification Obligations
The 2014 Regulations aim to streamline the legal obligations in the 2010 Regulations, and replace them with a set of more broadly-phrased, legally binding “Fundamental Standards”. The 2014 Regulations list the standards that must be met when providing care services. The service providers’ legal obligations include:
· Care and treatment must be appropriate and reflect service user needs and preferences;
· Service users must be treated with dignity and respect;
· Care and treatment must only be provided with consent;
· Care and treatment must be provided in a safe way for service users;
· Service users must be protected from abuse and improper treatment;
· Service users nutritional and hydration needs must be met;
· All premises and equipment must be clean, secure, suitable and used properly;
· Complaints must be investigated and appropriate action taken;
· Systems and processes must be established to ensure compliance with fundamental standards;
· Sufficient numbers of suitably qualified, competent, skilled and experienced staff must be deployed;
· Persons employed must be of good character, having the necessary qualifications, skills and experience, and be able to perform the work for which they are employed; and
· Health service bodies must be open and transparent with service users about their care and treatment.
Failure to comply with certain provisions of the above Regulations is an offense, with a person guilty of the offense liable on summary conviction to a fine. Monetary penalty notices may also be issued.
The Regulations also include:
· Requirements around fit and proper persons being employed for the purposes of carrying of a regulated activity. Such persons must be of good character, have the qualifications, competence, skills and experience necessary and be able by reason of their health to perform their tasks. Recruitment procedures must also be established and effectively operated with certain specified information being available in relation to each person employed and registered where required;
· A new “duty of candour” to notify and apologize to affected persons, in the event of certain incidents having actually or potentially led to the death of the service user, where the death relates directly to the incident rather than to the natural course of the service user's illness or underlying condition, or severe harm, moderate harm or prolonged psychological harm to the service user;
· A requirement for a service provider to display a performance assessment received as a rating of its performance by the Care Quality Commission (the “CQC”); and
· A requirement that registered persons have regard to guidance issued by the CQC and any code of practice from the Secretary of State in relation to prevention or control of health care associated infections.
Under the Care Quality Commission (Registration) Regulations 2009 certain matters must be notified to the CQC, the government regulatory body overseeing the provision of nursing and other care services in England. Failure to comply with notification obligations is an offense and a person guilty of an offense is liable on summary conviction to a fine of up to £2,500.
Regulatory Oversight and Inspections
The Act also sets out the powers and responsibilities of the CQC. Among other powers, the CQC administers the compulsory registration system and issues guidance to care service providers on how to comply with applicable standards set out in legislation.
The Care Act 2014 sets out certain provisions concerning (among others):
· The duty of a local authority to meet the needs of an adult for care and support and a carer’s needs where the registered care provider is unable to carry on a regulated activity because of business failure;
· The duty of the CQC to assess the financial sustainability of providers subject to its regulatory regime with a view to identifying any threats that such providers may face to their financial sustainability. Where the CQC identifies a significant risk to financial sustainability it can require the provider to develop a sustainability plan setting out the provider’s plan to mitigate or eliminate risk or require the provider to organize an independent review of the business with the costs being recovered from the provider;
· The CQC informing local authorities where a registered care provider is likely to become unable to carry on a regulated activity; and
· A new offense where certain registered care providers supply, publish or make available information that is false or misleading in a material respect which can also apply to a director, manager or person purporting to act as such of a company.
Our unaudited 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 unaudited 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 unaudited 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, 2014 for further information regarding significant accounting policies that impact us. There have been no material changes to these policies in 2015.
This Quarterly Report on Form 10-Q may contain “forward-looking” statements as defined in the Private Securities Litigation Reform Act of 1995. When the company uses words such as “may,” “will,” “intend,” “should,” “believe,” “expect,” “anticipate,” “project,” “estimate” or similar expressions that do not relate solely to historical matters, it is making forward-looking statements. In particular, these forward-looking statements include, but are not limited to, those relating to the company’s opportunities to acquire, develop or sell properties; the company’s ability to close its anticipated acquisitions, investments or dispositions on currently anticipated terms, or within currently anticipated timeframes; the expected performance of the company’s operators/tenants and properties; the company’s expected occupancy rates; the company’s ability to declare and to make distributions to shareholders; the company’s investment and financing opportunities and plans; the company’s continued qualification as a real estate investment trust (“REIT”); the company’s ability to access capital markets or other sources of funds; and the company’s ability to meet its earnings guidance. Forward-looking statements are not guarantees of future performance and involve risks and uncertainties that may cause the company’s actual results to differ materially from the company’s expectations discussed in the forward-looking statements. 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 and seniors housing 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 properties with profitable results; the failure to make new investments or acquisitions as and when anticipated; natural disasters and other acts of God affecting the company’s properties; 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; liability or contract claims by or against operators/tenants; unanticipated difficulties and/or expenditures relating to future investments or acquisitions; environmental laws affecting the company’s properties; changes in rules or practices governing the company’s financial reporting; the movement of U.S. and foreign currency exchange rates; the company’s ability to maintain its qualification as a REIT; 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, 2014, 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 undertakes no obligation to update or revise publicly any forward-looking statements, whether because of new information, future events or otherwise, or to update the reasons why actual results could differ from those projected in any forward-looking statements.
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 underlying foreign currency exposures with gains and losses on derivative contracts hedging these exposures. 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 and foreign currency exchange rates.
We historically borrow on our primary unsecured credit facility 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 our primary unsecured credit facility. 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.
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
7,287,915
(500,331)
7,101,655
(547,358)
2,567,571
(81,472)
2,673,480
(93,580)
9,855,486
(581,803)
9,775,135
(640,938)
Our variable rate debt, including our primary unsecured credit facility, is reflected at fair value. At September 30, 2015, we had $1,554,751,000 outstanding under our variable rate debt. Assuming no changes in outstanding balances, a 1% increase in interest rates would result in increased annual interest expense of $15,548,000. At December 31, 2014, we had $983,783,000 outstanding under our variable rate debt. Assuming no changes in outstanding balances, a 1% increase in interest rates would have resulted in increased annual interest expense of $9,838,000.
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 impact the amount of net income we earn from our investments in Canada and the United Kingdom. Based solely on our results for the three months ended September 30, 2015, if these exchange rates were to increase or decrease by 100 basis points, our net income from these investments would decrease or increase, as applicable, by less than $1,000,000 annualized. We seek to mitigate these underlying foreign currency exposures with non-U.S. denominated borrowings and 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 and health care properties outside the U.S., we may also decide to transact additional business or borrow funds in currencies other than U.S. Dollars, Canadian Dollars or Pounds Sterling. To illustrate the impact of changes in foreign currency markets, we performed a sensitivity analysis on our derivative portfolio whereby we modeled the change in net present values arising from a hypothetical 1% increase in foreign currency exchange rates to determine the instruments’ change in fair value. The following table summarizes the results of the analysis performed (dollars in thousands):
Carrying
Value
Foreign currency forward contracts(1)
76,326
2,091
54,247
4,242
Debt designated as hedges
1,774,540
13,000
1,851,189
1,850,866
15,091
1,905,436
17,242
(1) Amounts exclude cross currency hedge activity.
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.
Item 4.Controls and Procedures
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 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.
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.
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, 2014.
Item 2.Unregistered Sales of Equity Securities and Use of Proceeds
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, 2015 through July 31, 2015
August 1, 2015 through August 31, 2015
65.08
September 1, 2015 through September 30, 2015
(1) During the three months ended September 30, 2015, 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.
On October 29, 2015, the Board of Directors of the company amended the company’s by-laws to reflect the change of its name from Health Care REIT, Inc. to Welltower Inc.
The foregoing description does not purport to be complete and is qualified in its entirety by reference to the full text of the company’s Fifth Amended and Restated By-Laws, a copy of which is filed herewith as Exhibit 3.2 to this Quarterly Report on Form 10-Q and is incorporated herein by reference.
1.1 Form of Amendment No. 2, dated August 5, 2015, to the Equity Distribution Agreements entered into by and between the company and each of UBS Securities LLC, KeyBanc Capital Markets Inc. and Credit Agricole Securities (USA) Inc. (filed with the Securities and Exchange Commission as Exhibit 1.3 to the company’s Form 8-K filed August 5, 2015, and incorporated herein by reference thereto).
3.1 Certificate of Amendment of Second Restated Certificate of Incorporation of the company (filed with the Securities and Exchange Commission as Exhibit 3.1 to the company’s Form 8-K filed September 30, 2015, and incorporated herein by reference thereto).
3.2 Fifth Amended and Restated By-Laws of the company.
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, 2015 and December 31, 2014, (ii) the Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2015 and 2014, (iii) the Consolidated Statements of Equity for the nine months ended September 30, 2015 and 2014, (iv) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2015 and 2014 and (v) the Notes to Unaudited Consolidated Financial Statements.
SIGNATURES
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 thereunto duly authorized.
Date: October 30, 2015
By:
/s/ THOMAS J. DEROSA
Thomas J. DeRosa,
Chief Executive Officer
(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)