UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
x |
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. |
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For the quarterly period ended September 30, 2009. |
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OR |
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o |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the transition period from to |
Commission file number 1-08895
HCP, INC.
(Exact name of registrant as specified in its charter)
Maryland |
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33-0091377 |
(State or other jurisdiction of |
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(I.R.S. Employer |
incorporation or organization) |
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Identification No.) |
3760
Kilroy Airport Way, Suite 300
Long Beach, CA 90806
(Address of principal executive offices)
(562)
733-5100
(Registrants telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x 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 such shorter period that the registrant was required to submit and post such files). YES x 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 definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer x |
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Accelerated Filer o |
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Non-accelerated Filer o |
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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 x
As of October 30, 2009, there were 293,138,580 shares of the registrants $1.00 par value common stock outstanding.
HCP, INC.
PART I. FINANCIAL INFORMATION
Item 1. |
Financial Statements: |
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3 |
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4 |
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5 |
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6 |
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7 |
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Managements Discussion and Analysis of Financial Condition and Results of Operations |
34 |
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48 |
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49 |
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49 |
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50 |
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50 |
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51 |
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51 |
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55 |
2
HCP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
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September 30, |
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December 31, |
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2009 |
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2008 |
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||
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(Unaudited) |
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ASSETS |
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Real estate: |
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|
|
|
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Buildings and improvements |
|
$ |
7,804,118 |
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$ |
7,747,015 |
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Development costs and construction in progress |
|
273,567 |
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224,337 |
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||
Land |
|
1,548,845 |
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1,548,248 |
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||
Accumulated depreciation and amortization |
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(1,003,177 |
) |
(819,980 |
) |
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Net real estate |
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8,623,353 |
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8,699,620 |
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||
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Net investment in direct financing leases |
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634,233 |
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648,234 |
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Loans receivable, net |
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1,674,329 |
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1,076,392 |
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Investments in and advances to unconsolidated joint ventures |
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261,364 |
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272,929 |
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Accounts receivable, net of allowance of $17,430 and $18,413, respectively |
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36,824 |
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33,834 |
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Cash and cash equivalents |
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144,366 |
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57,562 |
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Restricted cash |
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31,988 |
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35,078 |
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Intangible assets, net |
|
410,366 |
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505,936 |
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Real estate held for sale, net |
|
3,783 |
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27,058 |
|
||
Other assets, net |
|
517,604 |
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493,183 |
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Total assets |
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$ |
12,338,210 |
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$ |
11,849,826 |
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LIABILITIES AND EQUITY |
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Bank line of credit |
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$ |
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$ |
150,000 |
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Term loan |
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200,000 |
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200,000 |
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Bridge loan |
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320,000 |
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Senior unsecured notes |
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3,520,577 |
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3,523,513 |
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Mortgage and other secured debt |
|
1,863,404 |
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1,641,734 |
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Other debt |
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99,487 |
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102,209 |
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Intangible liabilities, net |
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207,847 |
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232,630 |
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Accounts payable and accrued liabilities |
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310,493 |
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211,715 |
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Deferred revenue |
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86,925 |
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60,185 |
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Total liabilities |
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6,288,733 |
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6,441,986 |
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Commitments and contingencies |
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Preferred stock, $1.00 par value: 50,000,000 shares authorized; 11,820,000 shares issued and outstanding, liquidation preference of $25.00 per share |
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285,173 |
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285,173 |
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Common stock, $1.00 par value: 750,000,000 shares authorized; 293,145,064 and 253,601,454 shares issued and outstanding, respectively |
|
293,145 |
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253,601 |
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Additional paid-in capital |
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5,708,534 |
|
4,873,727 |
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Cumulative dividends in excess of earnings |
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(407,210 |
) |
(130,068 |
) |
||
Accumulated other comprehensive loss |
|
(9,838 |
) |
(81,162 |
) |
||
Total stockholders equity |
|
5,869,804 |
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5,201,271 |
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||
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Joint venture partners |
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7,927 |
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12,912 |
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Non-managing member unitholders |
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171,746 |
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193,657 |
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Total noncontrolling interests |
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179,673 |
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206,569 |
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Total equity |
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6,049,477 |
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5,407,840 |
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Total liabilities and equity |
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$ |
12,338,210 |
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$ |
11,849,826 |
|
See accompanying Notes to Condensed Consolidated Financial Statements.
3
HCP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share
data)
(Unaudited)
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Three Months Ended |
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Nine Months Ended |
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September 30, |
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September 30, |
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2009 |
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2008 |
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2009 |
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2008 |
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Revenues: |
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Rental and related revenues |
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$ |
218,366 |
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$ |
231,561 |
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$ |
663,044 |
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$ |
650,742 |
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Tenant recoveries |
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22,464 |
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20,225 |
|
67,124 |
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61,817 |
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Income from direct financing leases |
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13,173 |
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14,543 |
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39,302 |
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43,646 |
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Investment management fee income |
|
1,326 |
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1,523 |
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4,133 |
|
4,448 |
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Total revenues |
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255,329 |
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267,852 |
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773,603 |
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760,653 |
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Costs and expenses: |
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Depreciation and amortization |
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82,301 |
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77,292 |
|
242,318 |
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232,574 |
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Operating |
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46,173 |
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49,104 |
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139,812 |
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143,849 |
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General and administrative |
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22,860 |
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17,077 |
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61,625 |
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55,859 |
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Litigation provision |
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101,973 |
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101,973 |
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Impairments |
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15,123 |
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3,710 |
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20,904 |
|
5,284 |
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Total costs and expenses |
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268,430 |
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147,183 |
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566,632 |
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437,566 |
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Other income (expense): |
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Interest and other income, net |
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39,962 |
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62,283 |
|
93,027 |
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128,344 |
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Interest expense |
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(74,039 |
) |
(82,813 |
) |
(226,053 |
) |
(264,488 |
) |
||||
Total other income (expense) |
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(34,077 |
) |
(20,530 |
) |
(133,026 |
) |
(136,144 |
) |
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Income (loss) before income tax (expense) benefit and equity income from unconsolidated joint ventures |
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(47,178 |
) |
100,139 |
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73,945 |
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186,943 |
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Income tax (expense) benefit |
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322 |
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(853 |
) |
(1,406 |
) |
(4,327 |
) |
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Equity income from unconsolidated joint ventures |
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1,328 |
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1,227 |
|
1,993 |
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3,736 |
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Income (loss) from continuing operations |
|
(45,528 |
) |
100,513 |
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74,532 |
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186,352 |
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Discontinued operations: |
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Income (loss) before gain on sales of real estate, net of income taxes |
|
(152 |
) |
3,291 |
|
1,903 |
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19,158 |
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Impairments |
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(125 |
) |
(8,141 |
) |
||||
Gain on sales of real estate, net of income taxes |
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2,460 |
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27,752 |
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34,357 |
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228,395 |
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Total discontinued operations |
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2,308 |
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31,043 |
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36,135 |
|
239,412 |
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Net income (loss) |
|
(43,220 |
) |
131,556 |
|
110,667 |
|
425,764 |
|
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Noncontrolling interests and participating securities share in earnings |
|
(3,895 |
) |
(6,659 |
) |
(12,147 |
) |
(19,559 |
) |
||||
Preferred stock dividends |
|
(5,282 |
) |
(5,282 |
) |
(15,848 |
) |
(15,848 |
) |
||||
Net income (loss) applicable to common shares |
|
$ |
(52,397 |
) |
$ |
119,615 |
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$ |
82,672 |
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$ |
390,357 |
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Basic earnings (loss) per common share: |
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Continuing operations |
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$ |
(0.19 |
) |
$ |
0.36 |
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$ |
0.17 |
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$ |
0.65 |
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Discontinued operations |
|
0.01 |
|
0.13 |
|
0.14 |
|
1.03 |
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Net income (loss) applicable to common shares |
|
$ |
(0.18 |
) |
$ |
0.49 |
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$ |
0.31 |
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$ |
1.68 |
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Diluted earnings (loss) per common share: |
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Continuing operations |
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$ |
(0.19 |
) |
$ |
0.36 |
|
$ |
0.17 |
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$ |
0.65 |
|
Discontinued operations |
|
0.01 |
|
0.13 |
|
0.14 |
|
1.03 |
|
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Net income (loss) applicable to common shares |
|
$ |
(0.18 |
) |
$ |
0.49 |
|
$ |
0.31 |
|
$ |
1.68 |
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Weighted average shares used to calculate earnings (loss) per common share: |
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Basic |
|
284,812 |
|
244,572 |
|
267,971 |
|
232,199 |
|
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Diluted |
|
284,812 |
|
245,482 |
|
268,041 |
|
233,036 |
|
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Dividends declared per common share |
|
$ |
0.46 |
|
$ |
0.455 |
|
$ |
1.38 |
|
$ |
1.365 |
|
See accompanying Notes to Condensed Consolidated Financial Statements.
4
HCP, INC.
CONDENSED CONSOLIDATED STATEMENT OF EQUITY
(In thousands)
(Unaudited)
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Cumulative |
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Accumulated |
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Additional |
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Dividends |
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Other |
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Total |
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Total |
|
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|
||||||||
|
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Preferred Stock |
|
Common Stock |
|
Paid-In |
|
In Excess |
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Comprehensive |
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Stockholders |
|
Noncontrolling |
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Total |
|
||||||||||||
|
|
Shares |
|
Amount |
|
Shares |
|
Amount |
|
Capital |
|
Of Earnings |
|
Income (Loss) |
|
Equity |
|
Interests |
|
Equity |
|
||||||||
January 1, 2009 |
|
11,820 |
|
$ |
285,173 |
|
253,601 |
|
$ |
253,601 |
|
$ |
4,873,727 |
|
$ |
(130,068 |
) |
$ |
(81,162 |
) |
$ |
5,201,271 |
|
$ |
206,569 |
|
$ |
5,407,840 |
|
Comprehensive income: |
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|
|
|
|
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Net income |
|
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|
|
|
|
|
|
|
|
|
99,656 |
|
|
|
99,656 |
|
11,011 |
|
110,667 |
|
||||||||
Change in net unrealized gains (losses) on securities: |
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|
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|
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|
||||||||
Unrealized gains |
|
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|
|
|
|
|
|
|
|
|
|
|
75,180 |
|
75,180 |
|
|
|
75,180 |
|
||||||||
Less reclassification adjustment realized in net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,797 |
) |
(2,797 |
) |
|
|
(2,797 |
) |
||||||||
Change in net unrealized gains (losses) on cash flow hedges: |
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
||||||||
Unrealized losses |
|
|
|
|
|
|
|
|
|
|
|
|
|
(910 |
) |
(910 |
) |
|
|
(910 |
) |
||||||||
Less reclassification adjustment realized in net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
685 |
|
685 |
|
|
|
685 |
|
||||||||
Change in Supplemental Executive Retirement Plan obligation |
|
|
|
|
|
|
|
|
|
|
|
|
|
66 |
|
66 |
|
|
|
66 |
|
||||||||
Foreign currency translation adjustment |
|
|
|
|
|
|
|
|
|
|
|
|
|
(900 |
) |
(900 |
) |
|
|
(900 |
) |
||||||||
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
170,980 |
|
11,011 |
|
181,991 |
|
||||||||
Issuance of common stock, net |
|
|
|
|
|
39,639 |
|
39,639 |
|
830,617 |
|
|
|
|
|
870,256 |
|
(21,873 |
) |
848,383 |
|
||||||||
Repurchase of common stock |
|
|
|
|
|
(95 |
) |
(95 |
) |
(2,153 |
) |
|
|
|
|
(2,248 |
) |
|
|
(2,248 |
) |
||||||||
Amortization of deferred compensation |
|
|
|
|
|
|
|
|
|
11,068 |
|
|
|
|
|
11,068 |
|
|
|
11,068 |
|
||||||||
Preferred dividends |
|
|
|
|
|
|
|
|
|
|
|
(15,849 |
) |
|
|
(15,849 |
) |
|
|
(15,849 |
) |
||||||||
Common dividends ($1.38 per share) |
|
|
|
|
|
|
|
|
|
|
|
(360,949 |
) |
|
|
(360,949 |
) |
|
|
(360,949 |
) |
||||||||
Distributions to noncontrolling interests |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(11,662 |
) |
(11,662 |
) |
||||||||
Purchase of noncontrolling interests |
|
|
|
|
|
|
|
|
|
(4,725 |
) |
|
|
|
|
(4,725 |
) |
(4,372 |
) |
(9,097 |
) |
||||||||
September 30, 2009 |
|
11,820 |
|
$ |
285,173 |
|
293,145 |
|
$ |
293,145 |
|
$ |
5,708,534 |
|
$ |
(407,210 |
) |
$ |
(9,838 |
) |
$ |
5,869,804 |
|
$ |
179,673 |
|
$ |
6,049,477 |
|
See accompanying Notes to Condensed Consolidated Financial Statements.
5
HCP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
|
|
Nine
Months Ended |
|
||||
|
|
2009 |
|
2008 |
|
||
Cash flows from operating activities: |
|
|
|
|
|
||
Net income |
|
$ |
110,667 |
|
$ |
425,764 |
|
Adjustments to reconcile net income to net cash provided by operating activities: |
|
|
|
|
|
||
Depreciation and amortization of real estate, in-place lease and other intangibles: |
|
|
|
|
|
||
Continuing operations |
|
242,318 |
|
232,574 |
|
||
Discontinued operations |
|
266 |
|
7,178 |
|
||
Amortization of above and below market lease intangibles, net |
|
(12,657 |
) |
(6,020 |
) |
||
Stock-based compensation |
|
11,068 |
|
10,637 |
|
||
Amortization of debt premiums, discounts and issuance costs, net |
|
6,187 |
|
7,409 |
|
||
Straight-line rents |
|
(38,751 |
) |
(28,645 |
) |
||
Interest accretion |
|
(23,813 |
) |
(20,134 |
) |
||
Deferred rental revenue |
|
10,507 |
|
16,227 |
|
||
Equity income from unconsolidated joint ventures |
|
(1,993 |
) |
(3,736 |
) |
||
Distributions of earnings from unconsolidated joint ventures |
|
5,444 |
|
3,736 |
|
||
Gain on sales of real estate |
|
(34,357 |
) |
(228,395 |
) |
||
Marketable securities (gains) losses, net |
|
(6,420 |
) |
2,746 |
|
||
Derivative losses, net |
|
922 |
|
1,803 |
|
||
Impairments |
|
21,029 |
|
13,425 |
|
||
Changes in: |
|
|
|
|
|
||
Accounts receivable |
|
11,310 |
|
14,881 |
|
||
Other assets |
|
(2,991 |
) |
(4,843 |
) |
||
Accrued liability for litigation provision |
|
101,973 |
|
|
|
||
Accounts payable and other accrued liabilities |
|
(10,989 |
) |
10,776 |
|
||
Net cash provided by operating activities |
|
389,720 |
|
455,383 |
|
||
Cash flows from investing activities: |
|
|
|
|
|
||
Acquisitions and development of real estate |
|
(71,009 |
) |
(132,436 |
) |
||
Lease commissions and tenant and capital improvements |
|
(27,321 |
) |
(44,734 |
) |
||
Proceeds from sales of real estate, net |
|
58,046 |
|
629,404 |
|
||
Contributions to unconsolidated joint ventures |
|
(48 |
) |
(2,620 |
) |
||
Distributions in excess of earnings from unconsolidated joint ventures |
|
5,775 |
|
8,727 |
|
||
Purchase of marketable securities |
|
|
|
(26,101 |
) |
||
Proceeds from the sale of marketable securities |
|
119,665 |
|
10,700 |
|
||
Proceeds from the sales of interests in unconsolidated joint ventures |
|
|
|
2,855 |
|
||
Principal repayments on loans receivable and direct financing leases |
|
8,654 |
|
14,590 |
|
||
Investments in loans receivable, net |
|
(165,506 |
) |
(2,863 |
) |
||
Decrease (increase) in restricted cash |
|
3,090 |
|
(883 |
) |
||
Net cash provided by (used in) investing activities |
|
(68,654 |
) |
456,639 |
|
||
Cash flows from financing activities: |
|
|
|
|
|
||
Net repayments under bank line of credit |
|
(150,000 |
) |
(951,700 |
) |
||
Repayments of bridge loan |
|
(320,000 |
) |
(830,000 |
) |
||
Repayments of mortgage debt |
|
(206,329 |
) |
(63,740 |
) |
||
Issuance of mortgage debt |
|
1,942 |
|
579,078 |
|
||
Repurchase and repayments of senior unsecured notes |
|
(7,735 |
) |
(300,000 |
) |
||
Settlement of cash flow hedge |
|
|
|
(9,658 |
) |
||
Debt issuance costs |
|
(718 |
) |
(10,068 |
) |
||
Net proceeds from the issuance of common stock and exercise of options |
|
846,135 |
|
1,060,236 |
|
||
Dividends paid on common and preferred stock |
|
(376,798 |
) |
(337,097 |
) |
||
Purchase of noncontrolling interests |
|
(9,097 |
) |
|
|
||
Distributions to noncontrolling interests |
|
(11,662 |
) |
(28,290 |
) |
||
Net cash used in financing activities |
|
(234,262 |
) |
(891,239 |
) |
||
Net increase in cash and cash equivalents |
|
86,804 |
|
20,783 |
|
||
Cash and cash equivalents, beginning of period |
|
57,562 |
|
96,269 |
|
||
Cash and cash equivalents, end of period |
|
$ |
144,366 |
|
$ |
117,052 |
|
See accompanying Notes to Condensed Consolidated Financial Statements.
6
HCP, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Business
HCP, Inc. is a Maryland corporation that is organized to qualify as a self-administered real estate investment trust (REIT) which, together with its consolidated entities (collectively, HCP or the Company), invests primarily in real estate serving the healthcare industry in the United States. The Company acquires, develops, leases, disposes and manages healthcare real estate and provides financing to healthcare providers.
(2) Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, the unaudited condensed consolidated financial statements do not include all of the information and footnotes required by 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 three and nine months ended September 30, 2009 are not necessarily indicative of the results that may be expected for the year ending December 31, 2009. For further information, refer to the consolidated financial statements and notes thereto for the year ended December 31, 2008 included in the Companys Annual Report on Form 10-K filed with the Securities and Exchange Commission (SEC) as updated by the Companys Current Report on Form 8-K filed with the SEC on May 4, 2009.
Use of Estimates
Management is required to make estimates and assumptions in the preparation of financial statements in conformity with GAAP. These estimates and assumptions affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.
Principles of Consolidation
The condensed consolidated financial statements include the accounts of HCP, its wholly-owned subsidiaries and joint ventures that it controls, through voting rights or other means. All material intercompany transactions and balances have been eliminated in consolidation.
At inception of joint venture transactions, the Company identifies entities for which control is achieved through means other than voting rights (variable interest entities or VIEs) and determines which business enterprise is the primary beneficiary of the VIE. A variable interest entity is broadly defined as an entity where either (i) the equity investors as a group, if any, do not have a controlling financial interest, or (ii) the equity investment at risk is insufficient to finance that entitys activities without additional subordinated financial support. The Company consolidates investments in VIEs when it is determined to be the primary beneficiary at either the creation of the VIE or upon the occurrence of a qualifying reconsideration event. Qualifying reconsideration events include, but are not limited to, the modification of contractual arrangements that affect the characteristics or adequacy of the entitys equity investments at risk and the disposal of all or a portion of an interest held by the primary beneficiary. At September 30, 2009, the Company did not consolidate any significant variable interest entities.
The Company uses qualitative and quantitative approaches when determining whether it is (or is not) the primary beneficiary of a VIE. Consideration of various factors includes, but is not limited to, the form of the Companys ownership interest, its representation on the entitys governing body, the size and seniority of its investment, various cash flow scenarios related to the VIE, its ability to participate in policy making decisions and the rights of the other investors to participate in the decision making process and to replace the Company as manager and/or liquidate the venture, if applicable.
At September 30, 2009, the Company had 60 properties leased to a total of eight tenants (VIE tenants) and a loan to a borrower where each tenant and borrower has been identified as a VIE. The Company acquired these leases and loan on October 5, 2006 in its merger with CNL Retirement Properties, Inc. (CRP). CRP determined it was not the primary
7
beneficiary of these VIEs, and the Company is required to carry forward CRPs accounting conclusions after the acquisition relative to their primary beneficiary assessments, provided the Company does not believe CRPs accounting to be in error. The Company believes that its accounting for the VIEs is the appropriate application of GAAP. On December 21, 2007, the Company made an investment of approximately $900 million in mezzanine loans where each mezzanine borrower has been identified as a VIE. The Company has also determined that it is not the primary beneficiary of these VIEs.
The carrying value and classification of the related assets, liabilities and maximum exposure to loss as a result of the Companys involvement with VIEs are presented below (in thousands):
VIE Type |
|
Maximum Loss |
|
Asset/Liability Type |
|
Carrying |
|
||
VIE tenantsoperating leases |
|
$ |
483,758 |
|
Lease intangibles, net and straight- |
|
$ |
7,550 |
|
VIE tenantsDFLs(2) |
|
650,000 |
|
Net investment in DFLs |
|
215,137 |
|
||
Senior secured loans |
|
81,322 |
|
Loans receivable, net |
|
81,322 |
|
||
Mezzanine loans |
|
929,942 |
|
Loans receivable, net |
|
929,942 |
|
||
(1) The Companys maximum loss exposure related to the VIE tenants represents the future minimum lease payments over the remaining term of the respective leases, which may be mitigated by re-leasing the properties to new tenants. The Companys maximum loss exposure related to loans to VIEs represents their current aggregate carrying value.
(2) Direct financing leases (DFLs).
See Notes 6 and 11 for additional description of the nature, purpose and activities of the Companys VIEs and interests therein.
For its investments in joint ventures, the Company evaluates the type of rights held by the limited partner(s), which may preclude consolidation in circumstances in which the sole general partner would otherwise consolidate the limited partnership. The assessment of limited partners rights and their impact on the presumption of control over limited partnership by the sole general partner should be made when an investor becomes the sole general partner and should be reassessed if (i) there is a change to the terms or in the exercisability of the rights of the limited partners, (ii) the sole general partner increases or decreases its ownership in the limited partnership interests, or (iii) there is an increase or decrease in the number of outstanding limited partnership interests. The Company similarly evaluates the rights of managing members of limited liability companies.
Investments in Unconsolidated Joint Ventures
Investments in entities which the Company does not consolidate but for which the Company has the ability to exercise significant influence over operating and financial policies are reported under the equity method of accounting. Under the equity method of accounting, the Companys share of the investees earnings or losses are included in the Companys consolidated results of operations.
The initial carrying value of investments in unconsolidated joint ventures is based on the amount paid to purchase the joint venture interest or the carrying value of the assets prior to the sale of interests in the joint venture. To the extent that the Companys cost basis is different from the basis reflected at the joint venture level, the basis difference is generally amortized over the lives of the related assets and liabilities and included in the Companys share of equity in earnings of the joint venture. The Company evaluates its equity method investments for impairment based upon a comparison of the estimated fair value of the equity method investment to its carrying value. When the Company determines a decline in the estimated fair value of an investment in an unconsolidated joint venture below its carrying value is other-than-temporary, an impairment is recorded. The Company recognizes gains on the sale of interests in joint ventures to the extent the economic substance of the transaction is a sale.
Revenue Recognition
The Company recognizes rental revenue from tenants on a straight-line basis over the lease term when collectibility is reasonably assured and the tenant has taken possession or controls the physical use of the leased asset. For assets acquired subject to leases, the Company recognizes revenue upon acquisition of the asset provided the tenant has taken possession or controls the physical use of the leased asset. If the lease provides for tenant improvements, the Company determines whether the tenant improvements, for accounting purposes, are owned by the tenant or the Company. When the Company is the owner of the tenant improvements, the tenant is not considered to have taken physical possession or have control of the physical use of the leased asset until the tenant improvements are substantially completed. When the tenant is the owner of the tenant
8
improvements, any tenant improvement allowance that is funded is treated as a lease incentive and amortized as a reduction of revenue over the lease term. Tenant improvement ownership is determined based on various factors including, but not limited to:
· whether the lease stipulates how and on what a tenant improvement allowance may be spent;
· whether the tenant or landlord retains legal title to the improvements at the end of the lease term;
· whether the tenant improvements are unique to the tenant or general-purpose in nature; and
· whether the tenant improvements are expected to have any residual value at the end of the lease.
Certain leases provide for additional rents contingent upon a percentage of the facilitys revenue in excess of specified base amounts or other thresholds. Such revenue is recognized when actual results reported by the tenant, or estimates of tenant results, exceed the base amount or other thresholds. Such revenue is recognized only after the contingency has been removed (when the related thresholds are achieved), which may result in the recognition of rental revenue in periods subsequent to when such payments are received.
Tenant recoveries related to reimbursement of real estate taxes, insurance, repairs and maintenance, and other operating expenses are recognized as revenue in the period the applicable expenses are incurred. The reimbursements are recognized and presented gross, as the Company is generally the primary obligor with respect to purchasing goods and services from third-party suppliers, has discretion in selecting the supplier and bears the associated credit risk.
For leases with minimum scheduled rent increases, the Company recognizes income on a straight-line basis over the lease term when collectibility is reasonably assured. Recognizing rental income on a straight-line basis for leases results in recognized revenue exceeding amounts contractually due from tenants. Such cumulative excess amounts are included in other assets and were $151 million and $112 million, net of allowances, at September 30, 2009 and December 31, 2008, respectively. If the Company determines that collectibility of straight-line rents is not reasonably assured, the Company limits future recognition to amounts contractually owed and paid, and, when appropriate, establishes an allowance for estimated losses. The results for the three and nine months ended September 30, 2008 include lease termination fees of $18 million from a tenant in connection with the early termination of three leases on July 30, 2008 in the Companys life science segment.
The Company maintains an allowance for doubtful accounts, including an allowance for straight-line rent receivables, for estimated losses resulting from tenant defaults or the inability of tenants to make contractual rent and tenant recovery payments. The Company monitors the liquidity and creditworthiness of its tenants and operators on an ongoing basis. This evaluation considers industry and economic conditions, property performance, credit enhancements and other factors. For straight-line rent amounts, the Companys assessment is based on amounts estimated to be recoverable over the term of the lease. At September 30, 2009 and December 31, 2008, the Company had an allowance of $54 million and $40 million, respectively, included in other assets, as a result of the Companys determination that collectibility is not reasonably assured for certain straight-line rent amounts.
The Company receives management fees from its investments in certain joint venture entities for various services provided as the managing member of the entities. Management fees are recorded as revenue when management services have been performed. Intercompany profit for management fees is eliminated.
The Company recognizes gains on sales of properties upon the closing of the transaction with the purchaser. Gains on properties sold are recognized using the full accrual method when the collectibility of the sales price is reasonably assured, the Company is not obligated to perform significant activities after the sale, the initial investment from the buyer is sufficient and other profit recognition criteria have been satisfied. Gains on sales of properties may be deferred in whole or in part until the requirements for gain recognition have been met.
The Company uses the direct finance method of accounting to record income from DFLs. For leases accounted for as DFLs, future minimum lease payments are recorded as a receivable. The difference between the future minimum lease payments and the estimated residual values less the cost of the properties is recorded as unearned income. Unearned income is deferred and amortized to income over the lease terms to provide a constant yield when collectibility of the lease payments is reasonably assured. Investments in DFLs are presented net of unamortized unearned income.
9
Loans receivable are classified as held-for-investment based on managements intent and ability to hold the loans for the foreseeable future or to maturity. Loans held-for-investment are carried at amortized cost and are reduced by a valuation allowance for estimated credit losses as necessary. The Company recognizes interest income on loans, including the amortization of discounts and premiums, using the effective interest method. The effective interest method is applied on a loan-by-loan basis when collectibility of the future payments is reasonably assured. Premiums and discounts are recognized as yield adjustments over the life of the related loans. Loans are transferred from held-for-investment to held-for-sale when managements intent is to no longer hold the loans for the foreseeable future. Loans held-for-sale are recorded at the lower of cost or estimated fair value.
Allowances are established for loans and DFLs based upon an estimate of probable losses for the individual loans and DFLs deemed to be impaired. Loans and DFLs are impaired when it is deemed probable that the Company will be unable to collect all amounts due in accordance with the contractual terms of the loan or lease. The allowance is based upon the Companys assessment of the borrowers or lessees overall financial condition, resources and payment record; the prospects for support from any financially responsible guarantors; and, if appropriate, the realizable value of any collateral. These estimates consider all available evidence including, as appropriate, the present value of the expected future cash flows discounted at the loans or DFLs effective interest rate, the estimated fair value of collateral, general economic conditions and trends, historical and industry loss experience, and other relevant factors.
Loans and DFLs are placed on non-accrual status when management determines that the collectibility of contractual amounts is not reasonably assured. While on non-accrual status, loans or DFLs are either accounted for on a cash basis, in which income is recognized only upon receipt of cash, or on a cost-recovery basis, in which all cash receipts reduce the carrying value of the loan or DFL, based on the Companys judgment of future collectibility.
Real Estate
Real estate, consisting of land, buildings and improvements, is recorded at cost. The Company allocates the cost of the acquisition, including the assumption of liabilities, to the acquired tangible assets and identifiable intangibles based on their estimated fair values. The Company assesses fair value based on estimated cash flow projections that utilize appropriate discount and/or capitalization rates and available market information. Estimates of future cash flows are based on a number of factors including historical operating results, known and anticipated trends, and market and economic conditions. The estimated fair value of tangible assets of an acquired property is based on the value of the property as if it was vacant.
The Company records acquired above and below market leases at an estimated fair value using discount rates which reflect the risks associated with the leases acquired. The amount recorded is based on the present value of the difference between (i) the contractual amounts to be paid pursuant to each in-place lease and (ii) managements estimate of fair market lease rates for each in-place lease, measured over a period equal to the remaining term of the lease for above market leases and the initial term plus the extended term for any leases with below market renewal options. Other intangible assets acquired include amounts for in-place lease values that are based on the Companys evaluation of the specific characteristics of each tenants lease. Factors considered include estimates of carrying costs during hypothetical expected lease-up periods, market conditions and costs to execute similar leases. In estimating carrying costs, the Company includes estimates of lost rents at market rates during the hypothetical expected lease-up periods, which are dependent on local market conditions. In estimating costs to execute similar leases, the Company considers leasing commissions, legal and other related costs.
The Company capitalizes direct construction and development costs, including predevelopment costs, interest, property taxes, insurance and other costs directly related and essential to the acquisition, development or construction of a real estate project. The Company capitalizes construction and development costs while substantive activities are ongoing to prepare an asset for its intended use. The Company considers a construction project as substantially complete and held available for occupancy upon the completion of tenant improvements, but no later than one year from cessation of major construction activity. Costs incurred after a project is substantially complete and ready for its intended use, or after development activities have ceased, are expensed as incurred. For redevelopment of existing operating properties, the Company capitalizes costs based on the net carrying value of the existing property under redevelopment plus the cost for the construction and improvement incurred in connection with the redevelopment. Costs previously capitalized related to abandoned acquisitions or developments are charged to earnings. Expenditures for repairs and maintenance are expensed as incurred. The Company considers costs incurred in conjunction with re-leasing properties, including tenant improvements and lease commissions, to represent the acquisition of productive assets and, accordingly, such costs are reflected as investment activities in the Companys statement of cash flows.
10
The Company computes depreciation on properties using the straight-line method over the assets estimated useful life. Depreciation is discontinued when a property is identified as held-for-sale. Buildings and improvements are depreciated over useful lives ranging up to 45 years. Above and below market lease intangibles are amortized primarily to revenue over the remaining noncancellable lease terms and bargain renewal periods, if any. Other in-place lease intangibles are amortized to expense over the remaining noncancellable lease term and bargain renewal periods, if any.
Impairment of Long-Lived Assets and Goodwill
The Company assesses the carrying value of real estate assets and related intangibles (real estate assets), whenever events or changes in circumstances indicate that the carrying value of such asset or asset group may not be recoverable. The Company tests its real estate assets for impairment by comparing the sum of the expected undiscounted cash flows to the carrying value of the real estate asset or asset group. If the carrying value exceeds the expected undiscounted cash flows, an impairment loss will be recognized by adjusting the carrying value of the real estate assets to their estimated fair value.
Goodwill is tested for impairment at least annually and whenever the Company identifies triggering events that may indicate an impairment has occurred by applying a two-step approach. Potential impairment indicators include a significant decline in real estate valuations, restructuring plans or a decline in the Companys market capitalization below its carrying value. The Company tests for impairment of its goodwill by comparing the estimated fair value of a reporting unit containing goodwill to its carrying value. If the carrying value exceeds the estimated fair value, the second step of the test is needed to measure the amount of potential goodwill impairment. The second step requires the estimated fair value of the reporting unit to be allocated to all the assets and liabilities of the reporting unit as if it had been acquired in a business combination at the date of the impairment test. The excess estimated fair value of the reporting unit over the estimated fair value of assets and liabilities is the implied value of goodwill and is used to determine the amount of impairment. The Company selected the fourth quarter of each fiscal year to perform its annual impairment test.
Assets Held for Sale and Discontinued Operations
Certain long-lived assets are classified as held-for-sale and are reported at the lower of their carrying value or their estimated fair value less costs to sell and are no longer depreciated. Discontinued operations is a component of an entity that has either been disposed of or is deemed to be held for sale if, (i) the operations and cash flows of the component have been or will be eliminated from ongoing operations as a result of the disposal transaction, and (ii) the entity will not have any significant continuing involvement in the operations of the component after the disposal transaction.
Stock-Based Compensation
Share-based compensation expense for share-based awards granted on or after January 1, 2006 to employees, including grants of employee stock options, are recognized in the statement of operations based on their estimated fair value. Compensation expense for awards with graded vesting is generally recognized ratably over the period from the date of grant to the date when the award is no longer contingent on the employee providing additional services.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash on hand and short-term investments with original maturities of three months or less when purchased. The Company maintains cash deposits with major financial institutions which periodically exceed the Federal Deposit Insurance Corporation insurance limit. The Company has not experienced any losses to date related to cash or cash equivalents.
Restricted Cash
Restricted cash primarily consists of amounts held by mortgage lenders to provide for (i) future real estate tax expenditures, tenant improvements and capital expenditures, and (ii) security deposits and net proceeds from property sales that were executed as tax-deferred dispositions.
Derivatives
During its normal course of business, the Company uses certain types of derivative instruments for the purpose of managing interest rate risk. To qualify for hedge accounting, derivative instruments used for risk management purposes must effectively reduce the risk exposure that they are designed to hedge. In addition, at inception of a qualifying cash flow hedging relationship, the underlying transaction or transactions, must be, and are expected to remain, probable of occurring in accordance with the Companys related assertions.
11
The Company recognizes all derivative instruments, including embedded derivatives required to be bifurcated, as assets or liabilities in the Companys condensed consolidated balance sheets at their estimated fair value. Changes in the estimated fair value of derivative instruments that are not designated as hedges or that do not meet the criteria of hedge accounting are recognized in earnings. For derivatives designated in qualifying cash flow hedging relationships, the change in the estimated fair value of the effective portion of the derivatives is recognized in accumulated other comprehensive income (loss), whereas the change in the estimated fair value of the ineffective portion is recognized in earnings. For derivatives designated in qualifying fair value hedging relationships, the change in the estimated fair value of the effective portion of the derivatives offsets the change in the estimated fair value of the hedged item, whereas the change in the estimated fair value of the ineffective portion is recognized in earnings.
The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objectives and strategy for undertaking various hedge transactions. This process includes designating all derivatives that are part of a hedging relationship to specific forecasted transactions as well as recognized obligations or assets in the balance sheet. The Company also assesses and documents, both at inception of the hedging relationship and on a quarterly basis thereafter, whether the derivatives that are designated in hedging transactions are highly effective in offsetting the designated risks associated with the respective hedged items. When it is determined that a derivative ceases to be highly effective as a hedge, or that it is probable the underlying forecasted transaction will not occur, the Company discontinues hedge accounting prospectively and records the appropriate adjustment to earnings based on the current estimated fair value of the derivative.
Income Taxes
In 1985, HCP, Inc. elected REIT status and believes it has always operated so as to continue to qualify as a REIT under Sections 856 to 860 of the Internal Revenue code of 1986, as amended (the Code). Accordingly, HCP, Inc. will not be subject to U.S. federal income tax, provided that it continues to qualify as a REIT and makes distributions to stockholders equal to or in excess of its taxable income. On July 27, 2007, the Company formed HCP Life Science REIT, a consolidated subsidiary, which elected REIT status for the year ended December 31, 2007. HCP, Inc., along with its consolidated REIT subsidiary, are each subject to the REIT qualification requirements under Sections 856 to 860 of the Code. If either REIT fails to qualify as a REIT in any taxable year, it will be subject to federal income taxes at regular corporate rates and may be ineligible to qualify as a REIT for four subsequent tax years.
HCP, Inc. and HCP Life Science REIT are subject to state and local income taxes in some jurisdictions, and in certain circumstances each REIT may also be subject to federal excise taxes on undistributed income. In addition, certain activities the Company undertakes must be conducted by entities which elect to be treated as taxable REIT subsidiaries (TRSs). TRSs are subject to both federal and state income taxes.
Marketable Securities
The Company classifies its marketable equity and debt securities as available-for-sale. These securities are carried at their estimated fair value with unrealized gains and losses recognized in stockholders equity as a component of accumulated other comprehensive income (loss). Gains or losses on securities sold are determined based on the specific identification method. When the Company determines declines in the estimated fair value of marketable securities are other-than-temporary, a loss is recognized in earnings.
Capital Raising Issuance Costs
Costs incurred in connection with the issuance of common shares are recorded as a reduction of additional paid-in capital. Costs incurred in connection with the issuance of preferred shares are recorded as a reduction of the preferred stock amount. Debt issuance costs are deferred, included in other assets and amortized to interest expense over the remaining term of the related debt based on the effective interest method.
Segment Reporting
The Companys segments are based on its internal method of reporting which classifies operations by healthcare sector. The Companys business operations include five segments: (i) senior housing, (ii) life science, (iii) medical office, (iv) hospital and (v) skilled nursing.
12
Noncontrolling Interests and Mandatorily Redeemable Financial Instruments
The Company reports arrangements with noncontrolling interests as a component of equity separate from the parents equity. The Company accounts for purchases or sales of equity interests that do not result in a change in control as equity transactions. In addition, net income attributable to the noncontrolling interest is included in consolidated net income (loss) on the face of the statement of operations and, upon a gain or loss of control, the interest purchased or sold, as well as any interest retained, is recorded at its estimated fair value with any gain or loss recognized in earnings.
As of September 30, 2009, there were 4.3 million non-managing member units outstanding in six limited liability companies (LLC), for all of which the Company is the managing member: (i) HCPI/Tennessee, LLC; (ii) HCPI/Utah, LLC; (iii) HCPI/Utah II, LLC; (iv) HCP DR California, LLC; (v) HCP DR Alabama, LLC; and (vi) HCP DR MCD, LLC. The Company consolidates these entities since it exercises control and carries the noncontrolling interests at cost. The non-managing member LLC Units (DownREIT units) are exchangeable for an amount of cash approximating the then-current market value of shares in the Companys common stock or, at the Companys option, shares of the Companys common stock (subject to certain adjustments, such as stock splits and reclassifications). At September 30, 2009, the carrying and market values of the 4.3 million DownREIT units were $172 million and $170 million, respectively. The market value of DownREIT units correlates to the changes in market value of our common stock and not the market value of the respective assets owned by the DownREIT LLCs.
Life Care Bonds Payable
Two of the Companys continuing care retirement communities (CCRCs) issue non-interest bearing life care bonds payable to certain residents of the CCRCs. Generally, the bonds are refundable to the resident or to the residents estate upon termination or cancellation of the CCRC agreement. An additional senior housing facility owned by the Company collects non-interest bearing occupancy fee deposits that are refundable to the resident or the residents estate upon the earlier of the re-letting of the unit or after two years of vacancy. Proceeds from the issuance of new bonds are used to retire existing bonds, and since the maturity of the obligations for the three facilities is not determinable, no interest is imputed. These amounts are included in other debt in the Companys condensed consolidated balance sheets.
Fair Value Measurements
The Company measures and discloses the estimated fair value of financial assets and liabilities utilizing a hierarchy of valuation techniques based on whether the inputs to a fair value measurement are considered to be observable or unobservable in a marketplace. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Companys market assumptions. This hierarchy requires the use of observable market data when available. These inputs have created the following fair value hierarchy:
· Level 1 quoted prices for identical instruments in active markets;
· Level 2 quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which significant inputs and significant value drivers are observable in active markets; and
· Level 3 fair value measurements derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
The Company measures fair value using a set of standardized procedures that are outlined herein for all assets and liabilities which are required to be measured at their estimated fair value on either a recurring or non-recurring basis. When available, the Company utilizes quoted market prices from an independent third party source to determine fair value and classifies such items in Level 1. In some instances where a market price is available, but the instrument is in an inactive or over-the-counter market, the Company consistently applies the dealer (market maker) pricing estimate and classifies the asset or liability in Level 2.
If quoted market prices or inputs are not available, fair value measurements are based upon valuation models that utilize current market or independently sourced market inputs, such as interest rates, option volatilities, credit spreads, market capitalization rates, etc. Items valued using such internally-generated valuation techniques are classified according to the lowest level input that is significant to the fair value measurement. As a result, the asset or liability could be classified in either Level 2 or 3 even though there may be some significant inputs that are readily observable. Internal fair value models and techniques used by the Company include discounted cash flow and Black Scholes valuation models. The Company also considers its counterpartys and own credit risk on derivatives and other liabilities measured at fair value. The Company has elected the mid-market pricing expedient when determining fair value.
13
Earnings per Share
Basic earnings per common share is computed by dividing net income applicable to common shares by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per common share is calculated by including the effect of dilutive securities.
On January 1, 2009, the Company adopted the participating securities provision of Financial Accounting Standard Board (FASB) Accounting Standard Codification (ASC) 260-10, Earnings Per Share - Overall (ASC 260-10). ASC 260-10 addresses whether instruments granted in share-based payment awards are participating securities prior to vesting, and therefore, need to be included in the earnings allocation when computing earnings per share under the two-class method as described in ASC 260-10. In accordance with ASC 260-10, unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method. Upon adoption, all prior-period earnings per share data presented was adjusted retrospectively with no material impact.
Recent Accounting Pronouncements
In April 2009, the FASB issued additional disclosure provisions of ASC 825-10, Financial Instruments Overall (ASC 825-10). ASC 825-10 requires disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies in addition to the annual financial statements. ASC 825-10 is effective for interim periods ending after June 15, 2009. Prior period presentation is not required for comparative purposes at initial adoption. The adoption of ASC 825-10 on June 30, 2009 did not have a material impact on the Companys consolidated financial position or results of operations.
In April 2009, the FASB issued an amendment to ASC 320-10, Investment-Debt and Equity Securities Overall (ASC 320-10). ASC 320-10 amends the other-than-temporary impairment guidance in U.S. GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. The amended provision of ASC 320-10 is effective for fiscal years and interim periods ending after June 15, 2009. The adoption of ASC 320-10 on June 30, 2009 did not have a material impact on the Companys consolidated financial position or results of operations.
In April 2009, the FASB issued an amendment to ASC 820-10, Fair Value Measurements and Disclosures Overall (ASC 820-10). ASC 820-10 provides additional guidance for estimating fair value when the volume and level of activity for both financial and nonfinancial assets or liabilities have significantly decreased. ASC 820-10 is effective for fiscal years and interim periods ending after June 15, 2009 and shall be applied prospectively. The adoption of ASC 820-10 on June 30, 2009 did not have a material impact on the Companys consolidated financial position or results of operations.
In May 2009, the FASB issued ASC 855, Subsequent Events (ASC 855). ASC 855 provides general guidelines to account for the disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. These guidelines are consistent with current accounting requirements, but clarify the period, circumstances, and disclosures for properly identifying and accounting for subsequent events. ASC 855 is effective for interim periods and fiscal years ending after June 15, 2009. The adoption of ASC 855 on June 30, 2009 did not have a material impact on the Companys consolidated financial position or results of operations.
In June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R) (SFAS No. 167). SFAS No. 167 requires enterprises to perform a more qualitative approach to determining whether or not a variable interest entity will need to be consolidated on a quarterly basis. This evaluation will be based on an enterprises ability to direct and influence the activities of a variable interest entity that most significantly impact its economic performance. SFAS No. 167 is effective for interim periods and fiscal years beginning after November 15, 2009. Early adoption is not permitted. The Company is currently evaluating the impact of SFAS No. 167 on its consolidated financial position and results of operations.
In June 2009, the FASB Accounting Standards Codification (the Codification) was issued in the form of ASC 105, Generally Accepted Accounting Principles (ASC 105). Upon issuance, the Codification became the single source of authoritative, nongovernmental US GAAP. The Codification reorganized U.S. GAAP pronouncements into accounting topics, which are displayed using a single structure. Certain SEC guidance is also included in the Codification and will follow a similar topical structure in separate SEC sections. ASC 150 is effective for interim periods and fiscal years ending after September 15, 2009. The adoption of the Codification on September 30, 2009 did not have a material impact on the Companys consolidated financial position or results of operations.
14
Reclassifications
Certain amounts in the Companys condensed consolidated financial statements for prior periods have been reclassified to conform to the current period presentation. Assets sold or held for sale and associated liabilities have been reclassified on the condensed consolidated balance sheets and operating results reclassified from continuing to discontinued operations (see Note 4). All prior period noncontrolling interests on the condensed consolidated balance sheets have been reclassified as a component of equity and all prior period noncontrolling interests share of earnings on the condensed consolidated statements of operations have been reclassified to clearly identify net income attributable to the non-controlling interest.
(3) Real Estate Property Investments
During the nine months ended September 30, 2009, the Company funded an aggregate of $86 million for construction, tenant and other capital improvement projects primarily in the life science segment.
During the nine months ended September 30, 2008, the Company acquired a senior housing facility for $11 million, purchased a joint venture interest valued at $29 million and funded an aggregate of $126 million for construction, tenant and capital improvement projects primarily in the life science and medical office segments.
(4) Dispositions of Real Estate and Discontinued Operations
Dispositions of Real Estate
During the three months ended September 30, 2009, the Company sold two medical office buildings (MOBs) for approximately $6 million and recognized gain on sales of real estate of $2.5 million. During the three months ended September 30, 2008, the Company sold three hospitals for approximately $116 million and recognized gain on sales of real estate of approximately $28 million. The hospitals sold in 2008 included a hospital located in Tarzana, California, which was sold for $89 million resulting in a gain on sale of real estate of $18 million.
During the nine months ended September 30, 2009, the Company sold 11 properties for $58 million and recognized gain on sales of real estate of $34.4 million. The Companys sales of properties during the nine months ended September 30, 2009 were made from the following segments: (i) 81% hospital; (ii) 18% medical office; and (iii) 1% senior housing. During the nine months ended September 30, 2008, the Company sold 47 properties for approximately $629 million and recognized gain on sales of real estate of approximately $228 million. The Companys sales of properties during the nine months ended September 30, 2008 were made from the following segments: (i) 68% hospital; (ii) 15% skilled nursing; (iii) 14% medical office; and (iv) 3% senior housing.
Properties Held for Sale
At September 30, 2009, the Company held for sale one property with a carrying value of $4 million. At December 31, 2008, the Company held for sale 12 properties with an aggregate carrying value of $27 million.
Results from Discontinued Operations
The following table summarizes operating income from discontinued operations and gain on sales of real estate included in discontinued operations (dollars in thousands):
|
|
Three
Months Ended |
|
Nine
Months Ended |
|
||||||||
|
|
2009 |
|
2008 |
|
2009 |
|
2008 |
|
||||
Rental and related revenues |
|
$ |
150 |
|
$ |
5,912 |
|
$ |
2,836 |
|
$ |
34,792 |
|
Other revenues |
|
|
|
29 |
|
|
|
51 |
|
||||
|
|
150 |
|
5,941 |
|
2,836 |
|
34,843 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Depreciation and amortization expenses |
|
56 |
|
414 |
|
266 |
|
7,178 |
|
||||
Operating expenses |
|
225 |
|
1,282 |
|
617 |
|
6,687 |
|
||||
Other costs and expenses |
|
21 |
|
954 |
|
50 |
|
1,820 |
|
||||
Income (loss) before gain on sales of real estate, net of income taxes |
|
$ |
(152 |
) |
$ |
3,291 |
|
$ |
1,903 |
|
$ |
19,158 |
|
|
|
|
|
|
|
|
|
|
|
||||
Impairments |
|
$ |
|
|
$ |
|
|
$ |
125 |
|
$ |
8,141 |
|
|
|
|
|
|
|
|
|
|
|
||||
Gain on sales of real estate |
|
$ |
2,460 |
|
$ |
27,752 |
|
$ |
34,357 |
|
$ |
228,395 |
|
|
|
|
|
|
|
|
|
|
|
||||
Number of properties held for sale |
|
1 |
|
16 |
|
1 |
|
16 |
|
||||
Number of properties sold |
|
2 |
|
3 |
|
11 |
|
47 |
|
||||
Number of properties included in discontinued operations |
|
3 |
|
19 |
|
12 |
|
63 |
|
15
(5) Net Investment in Direct Financing Leases
The components of net investment in DFLs consist of the following (dollars in thousands):
|
|
September 30, |
|
December 31, |
|
||
|
|
2009 |
|
2008 |
|
||
Minimum lease payments receivable |
|
$ |
1,330,836 |
|
$ |
1,373,283 |
|
Estimated residual values |
|
467,248 |
|
467,248 |
|
||
Allowance for DFL losses (impairments) |
|
(15,123 |
) |
|
|
||
Unearned income |
|
(1,148,728 |
) |
(1,192,297 |
) |
||
Net investment in direct financing leases |
|
$ |
634,233 |
|
$ |
648,234 |
|
Properties subject to direct financing leases |
|
30 |
|
30 |
|
The DFLs were acquired in the Companys merger with CRP. CRP determined that these leases were DFLs, and the Company is required to carry forward CRPs accounting conclusions after the acquisition date relative to their assessment of these leases, provided that the Company does not believe CRPs accounting to be in error. The Company believes that its accounting for the leases is appropriate and in accordance with GAAP. Certain leases contain provisions that allow the tenants to elect to purchase the properties during or at the end of the lease terms for the aggregate initial investment amount plus adjustments, if any, as defined in the lease agreements. Certain leases also permit the Company to require the tenants to purchase the properties at the end of the lease terms.
Lease payments due to the Company relating to three DFLs with a carrying value of $38 million at September 30, 2009, are subordinate to, and along with the Companys interest in the land, serve as collateral for first mortgage construction loans entered into by the tenants to fund development costs related to the properties. During the three months ended December 31, 2008, the Company determined that two of these DFLs were impaired and began recognizing income on a cost-recovery basis. During the three months ended September 30, 2009, the Company recognized provisions for DFL losses of $15.1 million, which reduces the carrying value of these DFLs to $19 million. These provisions for DFL losses reflect the anticipated restructure of these leases resulting from the bankruptcy of the lessee. On October 19, 2009, the lessees of all three DFLs filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. The Company includes provisions for DFL losses in impairments in its consolidated statements of operations.
(6) Loans Receivable
The following table summarizes the Companys loans receivable (in thousands):
|
|
September 30, 2009 |
|
December 31, 2008 |
|
||||||||||||||
|
|
Real Estate |
|
Other |
|
Total |
|
Real Estate |
|
Other |
|
Total |
|
||||||
Mezzanine |
|
$ |
|
|
$ |
999,118 |
|
$ |
999,118 |
|
$ |
|
|
$ |
999,891 |
|
$ |
999,891 |
|
Joint venture partners |
|
|
|
778 |
|
778 |
|
|
|
7,055 |
|
7,055 |
|
||||||
Other |
|
785,636 |
|
83,700 |
|
869,336 |
|
71,224 |
|
81,725 |
|
152,949 |
|
||||||
Unamortized discounts, fees and costs |
|
(123,920 |
) |
(70,983 |
) |
(194,903 |
) |
|
|
(83,262 |
) |
(83,262 |
) |
||||||
Loan loss allowance |
|
|
|
|
|
|
|
|
|
(241 |
) |
(241 |
) |
||||||
|
|
$ |
661,716 |
|
$ |
1,012,613 |
|
$ |
1,674,329 |
|
$ |
71,224 |
|
$ |
1,005,168 |
|
$ |
1,076,392 |
|
16
On October 5, 2006, through its merger with CRP, the Company acquired an interest-only, senior secured term loan made to an affiliate of the Cirrus Group, LLC (Cirrus). The loan had a maturity date of December 31, 2008, with a one-year extension period at the option of the borrower, subject to certain conditions, under which amounts were borrowed to finance the acquisition, development, syndication and operation of new and existing surgical partnerships. The loan accrues interest at a rate of 14.0%, of which 9.5% is payable monthly and the balance of 4.5% is deferred until maturity. The loan is collateralized by all of the assets of the borrower (comprised primarily of interests in partnerships operating surgical facilities, some of which are on the premises of properties owned by HCP Ventures IV or the Company) and is supported in part by limited guarantees made by certain principals of Cirrus. Recourse under certain of these guarantees is limited to the guarantors respective interests in certain entities owning real estate that are pledged to secure such guarantees. At December 31, 2008, the borrower did not meet the conditions necessary to exercise its extension option and did not repay the loan upon maturity. On April 22, 2009, new terms for extending the maturity date of the loan were agreed to, including the payment of a $1.1 million extension fee, and the maturity was extended to December 31, 2010. At September 30, 2009 and December 31, 2008, the carrying value of this loan, including accrued interest of $3 million and $0.6 million, respectively, was $85 million and $80 million, respectively. In July 2009, the Company issued a notice of default for the borrowers failure to make interest payments. Through September 30, 2009 the borrower has failed to make four of its contractual payments. However, at September 30, 2009, the Company continues to maintain this loan on accrual status as the Company believes it is reasonably assured it will collect all amounts outstanding under the loan, including accrued but unpaid interest, based on the estimated fair value of underlying collateral and guarantees supporting the loan. During the three and nine months ended September 30, 2009, the Company recognized interest income from this loan of $3.2 million and $9.1 million, respectively, and received cash payments from this borrower of $0.6 million and $3.0 million, respectively.
On December 21, 2007, the Company made an investment in mezzanine loans having an aggregate face value of $1.0 billion, for approximately $900 million, as part of the financing for The Carlyle Groups $6.3 billion purchase of HCR ManorCare. These interest-only loans mature in January 2013 and bear interest on their face values at a floating rate of one-month London Interbank Offered Rate (LIBOR) plus 4.0%. These loans are mandatorily pre-payable in January 2012 unless the borrower satisfies certain performance conditions. At closing, the loans were secured by an indirect pledge of equity ownership in 339 HCR ManorCare facilities located in 30 states and were subordinate to other debt of approximately $3.6 billion. At September 30, 2009, the carrying value of these loans was $930 million.
On August 3, 2009, the Company purchased a $720 million participation in first mortgage debt of HCR ManorCare, at a discount of $130 million, for approximately $590 million. The $720 million participation bears interest at LIBOR plus 1.25% and represents 45% of the $1.6 billion most senior tranche of HCR ManorCares mortgage debt incurred as part of the above mentioned financing for The Carlyle Groups acquisition of Manor Care, Inc. in December 2007. The mortgage debt matures in January 2012, with a one-year extension available at the borrowers option subject to certain performance conditions, and was secured by a first lien on 331 facilities located in 30 states at closing. At September 30, 2009, the carrying value of the participation in this loan was $595 million.
(7) Investments in and Advances to Unconsolidated Joint Ventures
The Company owns interests in the following entities which are accounted for under the equity method at September 30, 2009 (dollars in thousands):
Entity(1) |
|
Properties |
|
Investment(2) |
|
Ownership% |
|
|
HCP Ventures II |
|
25 senior housing facilities |
|
$ |
139,064 |
|
35 |
|
HCP Ventures III, LLC |
|
13 MOBs |
|
11,092 |
|
30 |
|
|
HCP Ventures IV, LLC |
|
54 MOBs and 4 hospitals |
|
41,284 |
|
20 |
|
|
HCP Life Science(3) |
|
4 life science facilities |
|
63,991 |
|
50 - 63 |
|
|
Suburban Properties, LLC |
|
1 MOB |
|
3,727 |
|
67 |
|
|
Advances to unconsolidated joint ventures, net |
|
|
|
2,206 |
|
|
|
|
|
|
|
|
$ |
261,364 |
|
|
|
Edgewood Assisted Living Center, LLC(4)(5) |
|
1 senior housing facility |
|
$ |
(488 |
) |
45 |
|
Seminole Shores Living Center, LLC(4)(5) |
|
1 senior housing facility |
|
(888 |
) |
50 |
|
|
|
|
|
|
$ |
259,988 |
|
|
|
(1) These joint ventures are not consolidated since the Company does not control, through voting rights or other means, the joint ventures. See Note 2 regarding the Companys policy on consolidation.
(2) Represents the carrying value of the Companys investment in the unconsolidated joint venture. See Note 2 regarding the Companys policy for accounting for joint venture interests.
(3) Includes three unconsolidated joint ventures between the Company and an institutional capital partner for which the Company is the managing member. HCP Life Science includes the following partnerships: (i) Torrey Pines Science Center, LP (50%); (ii) Britannia Biotech Gateway, LP (55%); and (iii) LASDK, LP (63%).
(4) As of September 30, 2009, the Company has guaranteed in the aggregate $4 million of a total of $8 million of notes payable for these joint ventures. No amounts have been recorded related to these guarantees at September 30, 2009.
(5) Negative investment amounts are included in accounts payable and accrued liabilities.
17
Summarized combined financial information for the Companys unconsolidated joint ventures follows (in thousands):
|
|
September 30, |
|
December 31, |
|
||
|
|
2009 |
|
2008 |
|
||
Real estate, net |
|
$ |
1,659,879 |
|
$ |
1,703,308 |
|
Other assets, net |
|
192,210 |
|
184,297 |
|
||
Total assets |
|
$ |
1,852,089 |
|
$ |
1,887,605 |
|
|
|
|
|
|
|
||
Notes payable |
|
$ |
1,162,994 |
|
$ |
1,172,702 |
|
Accounts payable |
|
44,526 |
|
39,883 |
|
||
Other partners capital |
|
465,557 |
|
488,860 |
|
||
HCPs capital(1) |
|
179,012 |
|
186,160 |
|
||
Total liabilities and partners capital |
|
$ |
1,852,089 |
|
$ |
1,887,605 |
|
(1) Aggregate basis difference of the Companys investments in these joint ventures of $79 million, as of September 30, 2009, is primarily attributable to real estate and related intangible assets.
|
|
Three
Months Ended |
|
Nine
Months Ended |
|
||||||||
|
|
2009 |
|
2008 |
|
2009 |
|
2008(1) |
|
||||
Total revenues |
|
$ |
46,366 |
|
$ |
46,522 |
|
$ |
138,833 |
|
$ |
138,938 |
|
Net income (loss) |
|
2 |
|
1,615 |
|
(1,093 |
) |
5,408 |
|
||||
HCPs equity income |
|
1,328 |
|
1,227 |
|
1,993 |
|
3,736 |
|
||||
Fees earned by HCP |
|
1,326 |
|
1,523 |
|
4,133 |
|
4,448 |
|
||||
Distributions received, net |
|
4,202 |
|
4,208 |
|
11,219 |
|
12,463 |
|
||||
(1) Includes the financial information of Arborwood Living Center, LLC and Greenleaf Living Centers, LLC, which were sold on April 3, 2008 and June 12, 2008, respectively.
(8) Intangibles
At September 30, 2009 and December 31, 2008, intangible lease assets, comprised of lease-up intangibles, above market tenant lease intangibles, below market ground lease intangibles and intangible assets related to non-compete agreements, were $617 million and $680 million, respectively. At September 30, 2009 and December 31, 2008, the accumulated amortization of intangible assets was $207 million and $174 million, respectively.
At September 30, 2009 and December 31, 2008, below market lease intangibles and above market ground lease intangibles were $289 million and $294 million, respectively. At September 30, 2009 and December 31, 2008, the accumulated amortization of intangible liabilities was $81 million and $61 million, respectively.
On October 5, 2006, the Company acquired CRP in a merger and, through the purchase method of accounting, it allocated $35 million of above-market lease intangibles related to 15 senior housing facilities that were operated by Sunrise Senior Living, Inc. and its subsidiaries (Sunrise). In June 2009, in a subsequent review of the related calculations of the relative fair value of these lease intangibles, the Company noted valuation errors, which resulted in an aggregate overstatement of the above-market lease intangible assets and an understatement of building and improvements of $28 million. In the periods from October 5, 2006 through March 31, 2009, these errors resulted in an understatement of rental and related revenues and depreciation expense of approximately $6 million and $2 million, respectively. The Company recorded the related corrections in June 2009, and determined that such misstatements to the Companys results of operations or financial position during the periods from October 5, 2006 through June 30, 2009 were immaterial.
18
(9) Other Assets
The Companys other assets consisted of the following (in thousands):
|
|
September 30, |
|
December 31, |
|
||
|
|
2009 |
|
2008 |
|
||
Marketable debt securities |
|
$ |
201,163 |
|
$ |
228,660 |
|
Marketable equity securities |
|
3,931 |
|
3,845 |
|
||
Straight-line rent assets, net |
|
151,132 |
|
112,038 |
|
||
Deferred debt issuance costs, net |
|
19,909 |
|
23,512 |
|
||
Goodwill |
|
50,346 |
|
51,746 |
|
||
Other |
|
91,123 |
|
73,382 |
|
||
Total other assets |
|
$ |
517,604 |
|
$ |
493,183 |
|
The cost or amortized cost, estimated fair value and gross unrealized gains and losses on marketable securities follows (in thousands):
|
|
|
|
|
|
Gross Unrealized |
|
||||||
|
|
Cost Basis (1) |
|
Fair Value |
|
Gains |
|
Losses |
|
||||
September 30, 2009: |
|
|
|
|
|
|
|
|
|
||||
Debt securities |
|
$ |
195,830 |
|
$ |
201,163 |
|
$ |
7,033 |
|
$ |
(1,700 |
) |
Equity securities |
|
3,695 |
|
3,931 |
|
417 |
|
(181 |
) |
||||
Total investments |
|
$ |
199,525 |
|
$ |
205,094 |
|
$ |
7,450 |
|
$ |
(1,881 |
) |
|
|
|
|
|
|
|
|
|
|
||||
December 31, 2008: |
|
|
|
|
|
|
|
|
|
||||
Debt securities |
|
$ |
295,138 |
|
$ |
228,660 |
|
$ |
|
|
$ |
(66,478 |
) |
Equity securities |
|
4,181 |
|
3,845 |
|
|
|
(336 |
) |
||||
Total investments |
|
$ |
299,319 |
|
$ |
232,505 |
|
$ |
|
|
$ |
(66,814 |
) |
(1) Represents the original cost basis of the marketable securities adjusted for discount accretion and other-than-temporary impairments recorded through earnings, if any.
At September 30, 2009, $176 million of the Companys marketable debt securities accrue interest at 9.625% and mature in November 2016 and $20 million accrue interest at 9.25% and mature in May 2017. The issuers of these notes may elect to pay interest in cash or by issuing additional notes for all or a portion of the interest payments. In November 2008, the issuer of the Companys 9.625% debt securities elected to make its next interest payment by issuing additional notes, and in May 2009, the Company received $14 million of additional debt securities in lieu of its cash interest payment. In May 2009, the issuer of the Companys 9.625% debt securities elected to make its next interest payment in cash.
Marketable securities with unrealized losses at September 30, 2009 are not considered to be other-than-temporarily impaired as the Company has the intent and ability to hold these investments for a period of time sufficient to allow for an anticipated recovery in fair value. In addition, it is not likely that the Company will be required to sell its marketable debt securities prior to the recovery of their amortized cost basis.
During the three months ended September 30, 2008, the Company purchased $26 million of senior secured notes with an aggregate par value of $27 million that accrue interest at 9.625% and mature in November 2016. During the three months ended September 30, 2009, the Company sold marketable debt securities for $115 million, which resulted in gains of approximately $6 million. During the nine months ended September 30, 2009 and 2008, the Company sold debt securities for $120 million and $11 million, respectively, which resulted in gains of approximately $7 million and $1 million, respectively. During the nine months ended September 30, 2008, the Company recognized a $3.5 million loss related to an other-than-temporary impairment on marketable equity securities with a carrying value of $8 million. Gains and losses and other-than-temporary impairment losses related to available-for-sale marketable securities are included in interest and other income, net in each respective period.
19
(10) Debt
Bank Line of Credit and Bridge and Term Loans
The Companys revolving line of credit facility with a syndicate of banks provides for an aggregate borrowing capacity of $1.5 billion and matures on August 1, 2011. This revolving line of credit facility accrues interest at a rate per annum equal to LIBOR plus a margin ranging from 0.325% to 1.00%, depending upon the Companys debt ratings. The Company pays a facility fee on the entire revolving commitment ranging from 0.10% to 0.25%, depending upon its debt ratings. Based on the Companys debt ratings at September 30, 2009, the margin on the revolving line of credit facility was 0.55% and the facility fee was 0.15%. At September 30, 2009, the Company had no outstanding amounts under this revolving line of credit facility.
At September 30, 2009, the outstanding balance of the Companys term loan was $200 million and matures on August 1, 2011. The term loan accrues interest at a rate per annum equal to LIBOR plus a margin ranging from 1.825% to 2.375%, depending upon the Companys debt ratings (weighted-average effective interest rate of 2.73% at September 30, 2009). Based on the Companys debt ratings at September 30, 2009, the margin on the term loan was 2.00%.
The Companys revolving line of credit facility and term loan contain certain financial restrictions and other customary requirements, including cross-default provisions to other indebtedness. Among other things, these covenants, using terms defined in the agreement (i) limit the ratio of Consolidated Total Indebtedness to Consolidated Total Asset Value to 60%, (ii) limit the ratio of Unsecured Debt to Consolidated Unencumbered Asset Value to 65%, (iii) require a Fixed Charge Coverage ratio of 1.75 times, and (iv) require a formula-determined Minimum Consolidated Tangible Net Worth of $4.9 billion at September 30, 2009. At September 30, 2009, the Company was in compliance with each of these restrictions and requirements of the revolving line of credit facility and term loan.
On May 8, 2009, the Company repaid the remaining $320 million outstanding balance under its bridge loan credit facility with proceeds received from the issuance of shares of its common stock.
Senior Unsecured Notes
At September 30, 2009, the Company had $3.5 billion in aggregate principal amount of senior unsecured notes outstanding. Interest rates on the notes ranged from 1.20% to 7.07%. The weighted-average effective interest rate on the senior unsecured notes at September 30, 2009 was 6.13%. Discounts and premiums are amortized to interest expense over the term of the related notes.
The senior unsecured notes contain certain covenants including limitations on debt, cross-acceleration provisions and other customary terms. At September 30, 2009, the Company was in compliance with these covenants.
Mortgage and Other Secured Debt
At September 30, 2009, the Company had $1.9 billion in mortgage debt secured by 168 healthcare facilities with a carrying value of $2.4 billion. Interest rates on the mortgage notes ranged from 0.33% to 8.63% with a weighted average effective rate of 5.10% at September 30, 2009.
On August 3, 2009, in connection with the Companys purchase of a $720 million (face value) participation in first mortgage debt of HCR ManorCare, the Company incurred $425 million in secured debt financing. This debt matures in January 2013, subject to certain conditions, and is secured by the first mortgage debt participation. See Note 6 for additional disclosures regarding this participating interest pledged as collateral for this debt.
On August 27, 2009, the Company repaid early $100 million of variable-rate mortgage debt. The mortgage debt, with an original maturity of January 2010, was repaid with proceeds from the Companys August 2009 public equity offering and third quarter asset sales.
Mortgage debt generally requires monthly principal and interest payments, is collateralized by certain properties and is generally non-recourse. Mortgage debt typically restricts transfer of the encumbered properties, prohibits additional liens, restricts prepayment, requires payment of real estate taxes, requires maintenance of the properties in good condition, requires maintenance of insurance on the properties and includes requirements to obtain lender consent to enter into and terminate material leases. Some of the mortgage debt is also cross-collateralized by multiple properties and may require tenants or operators to maintain compliance with the applicable leases or operating agreements of such properties.
20
Other Debt
At September 30, 2009, the Company had $99 million of non-interest bearing life care bonds at two of its CCRCs and non-interest bearing occupancy fee deposits at another of its senior housing facilities, all of which were payable to certain residents of the facilities (collectively, Life Care Bonds). At September 30, 2009, $44 million of the Life Care Bonds were refundable to the residents upon the resident moving out or to their estate upon death, and $55 million of the Life Care Bonds were refundable after the unit is successfully remarketed to a new resident.
Debt Maturities
The following table summarizes our stated debt maturities and scheduled principal repayments, excluding debt premiums and discounts, at September 30, 2009 (in thousands):
Year |
|
Term Loan |
|
Senior |
|
Mortgage |
|
Other |
|
Total |
|
|||||
2009 (3 months) |
|
$ |
|
|
$ |
|
|
$ |
22,813 |
|
$ |
99,487 |
|
$ |
122,300 |
|
2010 |
|
|
|
206,421 |
|
115,046 |
|
|
|
321,467 |
|
|||||
2011 |
|
200,000 |
|
292,265 |
|
140,235 |
|
|
|
632,500 |
|
|||||
2012 |
|
|
|
250,000 |
|
63,776 |
|
|
|
313,776 |
|
|||||
2013 |
|
|
|
550,000 |
|
675,104 |
|
|
|
1,225,104 |
|
|||||
Thereafter |
|
|
|
2,237,000 |
|
843,114 |
|
|
|
3,080,114 |
|
|||||
|
|
$ |
200,000 |
|
$ |
3,535,686 |
|
$ |
1,860,088 |
|
$ |
99,487 |
|
$ |
5,695,261 |
|
(1) |
On October 15, 2009, the Company exercised its election to extend the maturity date of $86 million of mortgage debt from 2010 to 2015. The above table reflects the reclassification of the portion of the mortgage debt that was extended to September 2015. |
(2) |
Other debt represents non-interest bearing Life Care Bonds and occupancy fee deposits at three of the Companys senior housing facilities, which are payable on-demand, under certain conditions. |
(11) Commitments and Contingencies
Legal Proceedings
From time to time, the Company is a party to legal proceedings, lawsuits and other claims that arise in the ordinary course of the Companys business. Regardless of their merits, these matters may force the Company to expend significant financial resources. Except as described in this Note 11, the Company is not aware of any other legal proceedings or claims that it believes may have, individually or taken together, a material adverse effect on the Companys business, prospects, financial condition or results of operations. The Companys policy is to accrue legal expenses as they are incurred.
On May 3, 2007, Ventas, Inc. (Ventas) filed a complaint against the Company in the United States District Court for the Western District of Kentucky asserting claims of tortious interference with contract and tortious interference with prospective business advantage. The complaint alleged, among other things, that the Company interfered with Ventas purchase agreement with Sunrise Senior Living Real Estate Investment Trust (Sunrise REIT); that the Company interfered with Ventas prospective business advantage in connection with the Sunrise REIT transaction; and that the Companys actions caused Ventas to suffer damages. As part of the same litigation, the Company filed counterclaims against Ventas as successor to Sunrise REIT. On March 25, 2009, the District Court issued an order dismissing the Companys counterclaims. On April 8, 2009, the Company filed a motion for leave to file amended counterclaims. On May 26, 2009, the District Court denied the Companys motion.
Ventas sought approximately $300 million in compensatory damages plus punitive damages. On July 16, 2009, the District Court dismissed Ventass claim that HCP interfered with Ventass purchase agreement with Sunrise REIT, dismissed claims for compensatory damages based on alleged financing and other costs, and allowed Ventass claim of interference with prospective advantage to proceed to trial. Ventass claim was tried before a jury between August 18, 2009 and September 4, 2009. During the trial, the District Court dismissed Ventass claim for punitive damages. On September 4, 2009, the jury returned a verdict in favor of Ventas in the amount of approximately $102 million in compensatory damages. The District Court entered a judgment against the Company in that amount on September 8, 2009. In relation to the Ventas matter, the Company recorded $102 million as a litigation provision expense during the three months ended September 30, 2009.
21
On September 22, 2009, the Company filed a motion for judgment as a matter of law or for a new trial. Also on September 22, 2009, Ventas filed a motion seeking approximately $20 million in prejudgment interest and approximately $4 million in additional damages to account for changes in currency exchange rates. The District Court has not yet ruled on those motions. The Company intends to continue to defend itself on appeal, including by appealing the adverse judgment.
On June 29, 2009, several of the Companys subsidiaries, together with three of its tenants, filed complaints in the Delaware Court of Chancery against Sunrise Senior Living, Inc. and three of its subsidiaries. A complaint was also filed on behalf of several other Company subsidiaries and one tenant on July 24, 2009 in the United States District Court for the Eastern District of Virginia. The complaints are based on Sunrises defaults under management and related agreements governing Sunrises operation of 64 Company subsidiary-owned facilities, 62 of which are leased to the tenants and two of which are leased directly to Sunrise. The complaints generally allege that Sunrise systematically breached various contractual and fiduciary duties by, among other things, (i) failing to maintain licenses necessary to the facilities operation; (ii) demonstrating a conscious disregard for the facilities budgets and other controls over expenditures related to the facilities; (iii) failing to provide various marketing and financial reports necessary for the Company subsidiaries and the tenants monitoring of Sunrises performance; (iv) retaining funds for Sunrises own benefit, and/or the benefit of its affiliates, that were properly due to the tenants; (v) charging the facilities for inappropriate overhead and similar corporate-level pass-through expenses that should have been borne by Sunrise and/or its affiliates; and (vi) obstructing the Company subsidiaries and the tenants contractually-prescribed audits of Sunrises operation of the facilities. The Company subsidiaries also allege that Sunrises policies constitute a breach of fiduciary duties to the Company subsidiaries and the tenants. The Company subsidiaries and tenants are generally seeking judicial confirmation of Sunrises material defaults of the management agreements and the Company subsidiaries and tenants rights to terminate the agreements for the 64 communities, and associated injunctive relief requiring Sunrise to vacate the facilities after cooperating in the transition of the facilities to another operator. In addition, the Company subsidiaries and tenants are seeking monetary damages related to the defaults. With regard to two Company subsidiary-owned facilities in the State of New York, the relevant Company subsidiary and tenant also seek judicial confirmation of the impossibility of the parties performance under the applicable management agreements due to the passage and implementation of new state legislation and related regulations.
In response to each of the complaints, Sunrise has asserted counterclaims against the Company, the relevant Company subsidiaries and tenants alleging that (i) such Company subsidiaries and tenants have breached contractual duties and the implied covenant of good faith and fair dealing under the management and related agreements; (ii) the Company and the relevant Company subsidiaries have intentionally interfered with tenants performance of the management agreements; and (iii) the Company, the relevant Company subsidiaries and tenants have conspired to harm Sunrises business and reputation. The Company, the relevant Company subsidiaries and tenants have collectively filed motions to dismiss the counterclaims in both jurisdictions.
A trial date has not been set by either court. The Company expects that enforcing its and the Companies subsidiaries rights, and potentially defending against Sunrises counterclaims, will require it to expend significant funds. There can be no assurance that the Company subsidiaries or its tenants will prevail in their claims against Sunrise or in defending against Sunrises counterclaims.
On June 30, 2008, the Company, Health Care Property Partners (HCPP), a joint venture between the Company and an affiliate of Tenet Healthcare Corporation (Tenet), and Tenet executed a definitive settlement agreement relating to complaints filed by certain Tenet subsidiaries against the Company. On September 19, 2008, the parties closed the transactions contemplated by the settlement agreement, effecting, among other things: (i) the sale of a hospital in Tarzana, California, by the Company to a Tenet affiliate, (ii) the extension of the terms of three other hospitals leased by the Company to affiliates of Tenet, and (iii) the acquisition by the Company of Tenets 23% interest in HCPP. During the three months ended September 30, 2008, the Company recognized $28.6 million of income from this settlement of the above disputes, which was included in interest and other income, net and a gain of real estate for the sale of the hospital in Tarzana, California, of $18 million.
22
The fair value of consideration exchanged and related income recognized as a result of the Companys September 2008 settlement with Tenet follows (in thousands):
Consideration received |
|
|
|
|
Cash proceeds for hospital in Tarzana, California and other settlement |
|
$ |
105,760 |
|
Fair value of Tenets 23% interest in HCPP |
|
29,137 |
|
|
Total consideration received |
|
$ |
134,897 |
|
|
|
|
|
|
Consideration given |
|
|
|
|
Fair value of hospital in Tarzana, California |
|
$ |
88,900 |
|
Cash paid for Tenets interest in HCPP |
|
17,379 |
|
|
Total consideration given |
|
$ |
106,279 |
|
Settlement income |
|
$ |
28,618 |
|
The gain on the sale of the Companys hospital in Tarzana, California to Tenet consisted of the following (in thousands):
Fair value of hospital, net of costs |
|
$ |
88,609 |
|
Carrying value of hospital sold |
|
(70,590 |
) |
|
Gain on sale of real estate |
|
$ |
18,019 |
|
Development Commitments
As of September 30, 2009, the Company was committed under the terms of contracts to complete the construction of properties undergoing development at a remaining aggregate cost of approximately $10.8 million.
Concentration of Credit Risk
Concentrations of credit risks arise when a number of operators, tenants or obligors related to the Companys investments are engaged in similar business activities, or activities in the same geographic region, or have similar economic features that would cause their ability to meet contractual obligations, including those to the Company, to be similarly affected by changes in economic conditions. The Company regularly monitors various segments of its portfolio to assess potential concentrations of risks. Management believes the current portfolio is reasonably diversified across healthcare related real estate and does not contain any other significant concentration of credit risks, except as disclosed herein. The Company does not have significant foreign operations.
On September 30, 2009, the Company had investments in mezzanine and secured loans to HCR ManorCare with an aggregate face value of $1.7 billion and a carrying value of $1.5 billion. At September 30, 2009, the carrying value of these investments represented approximately 85% of the Companys skilled nursing segment assets and 12% of its total segment assets.
On September 30, 2009, the Company had 60 of its senior housing facilities, excluding the 15 communities transitioned on October 1, 2009 discussed below, leased to eight tenants that have been identified as VIE tenants. These VIE tenants are thinly capitalized entities that rely on the cash flows generated from the senior housing facilities to pay operating expenses, including the rent obligations under their leases. The 60 senior housing facilities leased to the VIE tenants are operated by Sunrise. Sunrise is a publicly traded company and is subject to the informational filing requirements of the Securities and Exchange Act of 1934, as amended, and is required to file periodic reports on Form 10-K and Form 10-Q with the SEC.
On October 1, 2009, the Company completed the transition of management agreements on 15 communities operated by Sunrise that were previously terminated for Sunrises failure to achieve certain performance thresholds. The transition of these facilities to new operators reduced the Companys Sunrise-managed properties in its portfolio to 75 communities from the original 101 communities HCP acquired in the 2006 CRP transaction. The termination of the agreements did not require the payment of a termination fee to Sunrise by its tenants or the Company.
To mitigate credit risk of certain senior housing leases, leases are combined into portfolios that contain cross-default terms, so that if a tenant of any of the properties in a portfolio defaults on its obligations under its lease, the Company may pursue its remedies under the lease with respect to any of the properties in the portfolio. Certain portfolios also contain terms whereby the net operating profits of the properties are combined for the purpose of securing the funding of rental payments due under each lease.
DownREIT LLCs
In connection with the formation of certain DownREIT LLCs, many members contribute appreciated real estate to the DownREIT LLC in exchange for DownREIT units. These contributions are generally tax-deferred, so that the pre-contribution gain related to the property is not taxed to the member. However, if the contributed property is later sold by the DownREIT LLC, the unamortized pre-contribution gain that exists at the date of sale is specially allocated and taxed to the contributing members. In many of the DownREITs, the Company has entered into indemnification agreements with those
23
members who contributed appreciated property into the DownREIT LLC. Under these indemnification agreements, if any of the appreciated real estate contributed by the members is sold by the DownREIT LLC in a taxable transaction within a specified number of years, the Company will reimburse the affected members for the federal and state income taxes associated with the pre-contribution gain that is specially allocated to the affected member under the Code (make-whole payments). These make-whole payments include a tax gross-up provision.
Credit Enhancement Guarantee
Certain of the Companys senior housing facilities serve as collateral for $133 million of debt (maturing May 1, 2025) that is owed by a previous owner of the facilities. This indebtedness is guaranteed by the previous owner who has an investment grade credit rating. These senior housing facilities, which are classified as investments in DFLs, were acquired in the Companys merger with CRP. As of September 30, 2009, the DFLs had a carrying value of $355 million.
Environmental Costs
The Company monitors its properties for the presence of hazardous or toxic substances. The Company is not aware of any environmental liability with respect to the properties that would have a material adverse effect on the Companys business, financial condition or results of operations. The Company carries environmental insurance and believes that the policy terms, conditions, limitations and deductibles are adequate and appropriate under the circumstances, given the relative risk of loss, the cost of such coverage and current industry practice.
General Uninsured Losses
The Company obtains various types of insurance to mitigate the impact of property, business interruption, liability, flood, windstorm, earthquake, environmental and terrorism related losses. The Company attempts to obtain appropriate policy terms, conditions, limits and deductibles considering the relative risk of loss, the cost of such coverage and current industry practice. There are, however, certain types of extraordinary losses, such as those due to acts of war or other events that may be either uninsurable or not economically insurable. In addition, the Company has a large number of properties that are exposed to earthquake, flood and windstorm occurrences and the insurances for such losses carry high deductibles. Should a significant uninsured loss occur at a property, the Companys assets may become impaired.
(12) Equity
Preferred Stock
At September 30, 2009, the Company had two series of preferred stock outstanding, Series E and Series F preferred stock. The Series E and Series F preferred stock have no stated maturity, are not subject to any sinking fund or mandatory redemption and are not convertible into any other securities of the Company. Holders of each series of preferred stock generally have no voting rights, except under limited conditions, and all holders are entitled to receive cumulative preferential dividends based upon each series respective liquidation preference. To preserve the Companys status as a REIT, each series of preferred stock is subject to certain restrictions on ownership and transfer. Dividends are payable quarterly in arrears on the last day of March, June, September and December. The Series E and Series F preferred stock are currently redeemable at the Companys option.
The following table lists the Series E cumulative redeemable preferred stock cash dividends paid and/or declared by the Company during the nine months ended September 30, 2009:
Declaration Date |
|
Record Date |
|
Amount |
|
Dividend |
|
|
February 2 |
|
March 16 |
|
$ |
0.45313 |
|
March 31 |
|
April 23 |
|
June 15 |
|
0.45313 |
|
June 30 |
|
|
July 29 |
|
September 15 |
|
0.45313 |
|
September 30 |
|
|
October 29 |
|
December 15 |
|
0.45313 |
|
December 31 |
|
|
24
The following table lists the Series F cumulative redeemable preferred stock cash dividends paid and/or declared by the Company during the nine months ended September 30, 2009:
Declaration Date |
|
Record Date |
|
Amount |
|
Dividend |
|
|
February 2 |
|
March 16 |
|
$ |
0.44375 |
|
March 31 |
|
April 23 |
|
June 15 |
|
0.44375 |
|
June 30 |
|
|
July 29 |
|
September 15 |
|
0.44375 |
|
September 30 |
|
|
October 29 |
|
December 15 |
|
0.44375 |
|
December 31 |
|
|
Common Stock
During the nine months ended September 30, 2009 and 2008, the Company issued 106,000 and 397,000 shares of common stock, respectively, under its Dividend Reinvestment and Stock Purchase Plan (DRIP). The Company issued 525,000 and 2 million shares of common stock upon the conversion of DownREIT units during the nine months ended September 30, 2009 and 2008, respectively. The Company also issued 26,000 and 623,000 shares upon exercise of stock options during the nine months ended September 30, 2009 and 2008, respectively.
During the nine months ended September 30, 2009 and 2008, the Company issued 305,000 and 144,000 shares of restricted stock, respectively, under the Companys 2000 Stock Incentive Plan, as amended, and the Companys 2006 Performance Incentive Plan. The Company also issued 182,000 and 131,000 shares upon the vesting of performance restricted stock units during the nine months ended September 30, 2009 and 2008, respectively.
On May 8, 2009, the Company completed a $440 million public offering of 20.7 million shares of common stock at a price per share of $21.25. The Company received net proceeds of $422 million, which were used to repay all amounts of indebtedness outstanding under the bridge loan credit facility with the remainder used for general corporate purposes.
On August 10, 2009, the Company completed a $441 million public offering of 17.8 million shares of its common stock at a price of $24.75 per share. The Company received net proceeds of $423 million, which were used to repay the total outstanding indebtedness under the Companys revolving line of credit facility, including borrowings for the acquired participation in first mortgage debt of HCR ManorCare, with the remainder used for general corporate purposes.
The following table lists the common stock cash dividends paid and/or declared by the Company during the nine months ended September 30, 2009:
Declaration Date |
|
Record Date |
|
Amount |
|
Dividend |
|
|
February 2 |
|
February 9 |
|
$ |
0.46 |
|
February 23 |
|
April 23 |
|
May 5 |
|
0.46 |
|
May 21 |
|
|
July 29 |
|
August 6 |
|
0.46 |
|
August 19 |
|
|
October 29 |
|
November 9 |
|
0.46 |
|
November 24 |
|
|
Accumulated Other Comprehensive Income (Loss) (AOCI)
|
|
September 30, |
|
December 31, |
|
||
|
|
2009 |
|
2008 |
|
||
|
|
(in thousands) |
|
||||
AOCIunrealized gains (losses) on available-for-sale securities, net |
|
$ |
5,569 |
|
$ |
(66,814 |
) |
AOCIunrealized losses on cash flow hedges, net |
|
(11,954 |
) |
(11,729 |
) |
||
Supplemental Executive Retirement Plan minimum liability |
|
(1,755 |
) |
(1,821 |
) |
||
Cumulative foreign currency translation adjustment |
|
(1,698 |
) |
(798 |
) |
||
Total accumulated other comprehensive loss |
|
$ |
(9,838 |
) |
$ |
(81,162 |
) |
Noncontrolling Interests
On March 30, 2009, the Company purchased for $9 million the non-controlling interests in three senior housing joint ventures with a carrying value of $4 million. The $5 million excess of the payment above the carrying value of the noncontrolling interests was charged to additional paid-in capital.
25
Total Comprehensive Income
The following table provides a reconciliation of comprehensive income (in thousands):
|
|
Three
Months Ended |
|
Nine
Months Ended |
|
||||||||
|
|
2009 |
|
2008 |
|
2009 |
|
2008 |
|
||||
Net income (loss) |
|
$ |
(43,220 |
) |
$ |
131,556 |
|
$ |
110,667 |
|
$ |
425,764 |
|
Other comprehensive income (loss) |
|
8,981 |
|
(20,683 |
) |
71,324 |
|
(26,779 |
) |
||||
Total comprehensive income (loss) |
|
$ |
(34,239 |
) |
$ |
110,873 |
|
$ |
181,991 |
|
$ |
398,985 |
|
Substantially all of other comprehensive income for the three and nine months ended September 30, 2009 and 2008 related to the change in the estimated fair value of the Companys available-for-sale marketable debt securities. See additional discussions of available-for-sale marketable debt securities in Note 9.
(13) Segment Disclosures
The Company evaluates its business and makes resource allocations based on its five business segments: (i) senior housing, (ii) life science, (iii) medical office, (iv) hospital, and (v) skilled nursing. Under the senior housing, life science, hospital and skilled nursing segments, the Company invests primarily in single operator or tenant properties, through the acquisition and development of real estate, and debt issued by operators in these sectors. Under the medical office segment, the Company invests through the acquisition of MOBs that are primarily leased under gross or modified gross leases, which are generally to multiple tenants, and require a greater level of property management. The accounting policies of the segments are the same as those described under Summary of Significant Accounting Policies (see Note 2). There were no intersegment sales or transfers during the nine months ended September 30, 2009 and 2008. The Company evaluates performance based upon property net operating income from continuing operations (NOI), and interest income of the combined investments in each segment.
Non-segment assets consist primarily of real estate held for sale and corporate assets including cash, restricted cash, accounts receivable, net and deferred financing costs. Interest expense, depreciation and amortization and non-property specific revenues and expenses are not allocated to individual segments in determining the Companys performance measure. See Note 11 for other information regarding concentrations of credit risk.
Summary information for the reportable segments follows (in thousands):
For the three months ended September 30, 2009:
Segments |
|
Rental
and |
|
Tenant |
|
Income |
|
Investment |
|
Total |
|
NOI(1) |
|
Interest |
|
|||||||
Senior housing |
|
$ |
68,625 |
|
$ |
|
|
$ |
13,173 |
|
$ |
703 |
|
$ |
82,501 |
|
$ |
82,050 |
|
$ |
304 |
|
Life science |
|
53,536 |
|
9,696 |
|
|
|
|
|
63,232 |
|
51,302 |
|
|
|
|||||||
Medical office |
|
65,419 |
|
12,271 |
|
|
|
623 |
|
78,313 |
|
44,117 |
|
|
|
|||||||
Hospital |
|
20,986 |
|
497 |
|
|
|
|
|
21,483 |
|
20,600 |
|
16,343 |
|
|||||||
Skilled nursing |
|
9,800 |
|
|
|
|
|
|
|
9,800 |
|
9,761 |
|
23,416 |
|
|||||||
Total segments |
|
218,366 |
|
22,464 |
|
13,173 |
|
1,326 |
|
255,329 |
|
207,830 |
|
40,063 |
|
|||||||
Non-segment |
|
|
|
|
|
|
|
|
|
|
|
|
|
(101 |
) |
|||||||
Total |
|
$ |
218,366 |
|
$ |
22,464 |
|
$ |
13,173 |
|
$ |
1,326 |
|
$ |
255,329 |
|
$ |
207,830 |
|
$ |
39,962 |
|
26
For the three months ended September 30, 2008:
Segments |
|
Rental
and |
|