Section 1: 10-K (10-K)
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
FORM 10-K
(Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2018 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO Commission File Number 001-37887
MEDEQUITIES REALTY TRUST, INC. (Exact name of Registrant as specified in its Charter)
Maryland 46-5477146 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3100 West End Avenue, Suite 1000 Nashville, TN 37203 (Address of principal executive offices) (Zip Code)
Registrant’s telephone number, including area code: (615) 627-4710
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange On Which Registered Common Stock, $0.01 par value per share New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES ☐ NO ☒ Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. YES ☐ NO ☒ Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES ☒ NO ☐ Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). YES ☒ NO ☐ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ☒ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b–2 of the Exchange Act.
Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☐
Emerging growth company ☒
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ☐ NO ☒ As of June 30, 2018, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was approximately $316,714,569, based on the closing stock price of $11.02 as reported on the New York Stock Exchange. The number of shares of registrant’s common stock outstanding as of February 19, 2019 was 31,840,651. DOCUMENTS INCORPORATED BY REFERENCE The information required by Part III of this Annual Report on Form 10-K is incorporated by reference herein from the registrant’s definitive proxy statement for its 2019 annual meeting of stockholders or, in the event that the registrant does not file such proxy statement within 120 days after the end of the registrant’s fiscal year, such information will be provided instead by an amendment to this Annual Report on Form 10-K not later than 120 days after the end of the registrant’s fiscal year.
Table of Contents
Page PART I Item 1. Business 4 Item 1A. Risk Factors 16 Item 1B. Unresolved Staff Comments 40 Item 2. Properties 40 Item 3. Legal Proceedings 40 Item 4. Mine Safety Disclosures 40
PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 41 Item 6. Selected Financial Data 43 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 44 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 59 Item 8. Financial Statements and Supplementary Data 60 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure 90 Item 9A. Controls and Procedures 90 Item 9B. Other Information 90
PART III Item 10. Directors, Executive Officers and Corporate Governance 91 Item 11. Executive Compensation 91 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 91 Item 13. Certain Relationships and Related Transactions, and Director Independence 91 Item 14. Principal Accounting Fees and Services 91
PART IV Item 15. Exhibits and Financial Statement Schedules 92 Item 16. Form 10-K Summary 95
Signatures 96
i CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
We make statements in this report that are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (set forth in Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Forward-looking statements provide our current expectations or forecasts of future events and are not statements of historical fact. These forward-looking statements include information about possible or assumed future events, including, among other things, discussion and analysis of our future financial condition, results of operations, funds from operations (“FFO”), adjusted funds from operations (“AFFO”), our strategic plans and objectives, cost management, potential property acquisitions and other investments, anticipated capital expenditures (and access to capital), amounts of anticipated cash distributions to our stockholders in the future and other matters. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “may,” “might,” “should,” “result” and variations of these words and other similar expressions are intended to identify forward-looking statements. Such statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and/or could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements. You are cautioned to not place undue reliance on forward-looking statements. Except as otherwise may be required by law, we undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or actual operating results. Factors that may impact forward-looking statements include, among others, the following: • risks associated with our ability to consummate the merger with Omega Healthcare Investors, Inc. (“Omega”); • risks associated with the pendency of the merger adversely affecting our business; • risks related to disruption of management’s attention from the ongoing business operations due to the pending merger; • the outcome of any legal proceedings relating to the merger; • risks and uncertainties related to the national, state and local economies, particularly the economies of Texas, California and Nevada, and the real estate and healthcare industries in general; • availability and terms of capital and financing, including the borrowing capacity under our credit agreement; • the successful operations of our largest tenants; • the ability of certain of our tenants to improve their operating results, which may not occur on the schedule or to the extent that we anticipate, or at all; • the impact of existing and future healthcare reform legislation on our tenants, borrowers and guarantors; • adverse trends in the healthcare industry, including, but not limited to, changes relating to reimbursements available to our tenants by government or private payors; • our tenants’ ability to make rent payments, particularly those tenants comprising a significant portion of our portfolio and those tenants occupying recently developed properties; • adverse effects of healthcare regulation and enforcement on our tenants, operators, borrowers, guarantors and managers and us; • our guarantors’ ability to ensure rent payments; • our possible failure to maintain our qualification as a real estate investment trust (“REIT”) and the risk of changes in laws governing REITs; • our dependence upon key personnel whose continued service is not guaranteed; • our ability to identify and consummate attractive acquisitions and other investment opportunities, including different types of healthcare facilities and facilities in different geographic markets; • our ability to source off-market and target-marketed deal flow; • fluctuations in mortgage and interest rates; • risks and uncertainties associated with property ownership and development; • failure to integrate acquisitions successfully; • potential liability for uninsured losses and environmental liabilities; • the potential need to fund improvements or other capital expenditures out of operating cash flow; and • potential negative impacts from the changes to the U.S. tax laws.
1 This list of risks and uncertainties, however, is only a summary of some of the most important factors and is not intended to be exhaustive. For a further discussion of these and other factors that could impact our future results, performance or transactions, see the risk factors described in Item 1A herein and in other documents that we file from time to time with the Securities and Exchange Commission (the “SEC”).
2 TENANT/GUARANTOR INFORMATION
This report includes information regarding certain of our tenants and guarantors, which are not subject to SEC reporting requirements. The information related to our tenants and guarantors contained in this report was provided to us by such tenants or guarantors, as applicable, or was derived from publicly available information. We have not independently investigated or verified this information. We have no reason to believe that this information is inaccurate in any material respect, but we cannot provide any assurance of its accuracy. We are providing this data for informational purposes only.
3 PART I
Item 1. Business. General References to “MedEquities,” “Company,” “we,” “us” and “our” refer to MedEquities Realty Trust, Inc., a Maryland corporation, together with our consolidated subsidiaries, including MedEquities Realty Operating Partnership, LP, a Delaware limited partnership (our “operating partnership”), of which we are the sole member of the sole general partner. We are a self-managed and self-administered company that invests in a diversified mix of healthcare properties and healthcare-related real estate debt investments. Our management team has extensive experience in acquiring, owning, developing, financing, operating, leasing and disposing of many types of healthcare properties, portfolios and operating companies. As of December 31, 2018, our portfolio was comprised of 34 healthcare facilities that contained a total of 2,758 licensed beds. Our properties are located in Texas, California, South Carolina, Nevada, Indiana, Connecticut and Tennessee and include 20 skilled nursing facilities, five behavioral health facilities, three acute care hospitals, two long-term acute care hospitals, two inpatient rehabilitation facilities, one assisted living facility and one medical office building. In addition, as of December 31, 2018, we had six healthcare-related debt investments totaling $52.0 million. As of December 31, 2018, all of our properties other than our medical office building were 100% leased pursuant to triple-net leases with lease expirations ranging from March 2029 to September 2033. We invest primarily in real estate across the acute, post-acute and behavioral spectrum of care, where our management team has extensive experience and relationships and which we believe differentiates us from other healthcare real estate investors. We believe acute, post-acute and behavioral healthcare facilities have the potential to provide higher risk-adjusted returns compared to other forms of net-leased real estate assets due to the specialized expertise and insight necessary to own, finance and operate these properties, which are factors that tend to limit competition among owners, operators and finance companies. We target healthcare providers or operators that provide higher acuity services, are experienced, growth-minded and that we believe have shown an ability to successfully navigate a changing healthcare landscape. We believe that by investing in facilities that span the acute, post-acute and behavioral spectrum of care, we will be able to adapt to, and capitalize on, changes in the healthcare industry and support, grow and develop long-term relationships with providers that serve the highest number of patients at the highest-yielding end of the healthcare real estate market. We expect to invest primarily in the following types of healthcare properties: acute care hospitals, skilled nursing facilities, short-stay surgical and specialty hospitals (such as those focusing on orthopedic, heart and other dedicated surgeries and specialty procedures), dedicated specialty hospitals (such as inpatient rehabilitation facilities, long-term acute care hospitals and facilities providing psychiatric care), large and prominent physician clinics, diagnostic facilities, outpatient surgery centers, behavioral and mental health facilities, facilities designated as senior housing and assisted living, including memory care, and facilities that support these services, such as medical office buildings. While our preferred form of investment is fee ownership of a facility with a long-term triple-net lease with the healthcare provider or operator, we also may provide debt financing to healthcare providers, typically in the form of mortgage or mezzanine loans. In addition, we may provide capital to finance the development of healthcare properties, which we may use as a pathway to the ultimate acquisition of pre-leased properties by including purchase options or rights of first offer in the loan agreements. We were incorporated in Maryland on April 23, 2014, and we are the sole member of the general partner of our operating partnership. All of our assets are held by, and our operations are conducted through, our operating partnership. As of December 31, 2018, we owned all of the outstanding units of limited partnership interest (“OP units”) of our operating partnership. We elected to be taxed as a REIT for U.S. federal income tax purposes commencing with the taxable year ended December 31, 2014. Merger Agreement As previously disclosed, on January 2, 2019, we entered into an Agreement and Plan of Merger (the “merger agreement”) with Omega, pursuant to which, subject to the satisfaction or waiver of certain conditions set forth in the merger agreement, we will merge with and into Omega (such merger transaction, the “merger”) at the effective time of the merger (the “merger effective time”), with Omega continuing as the surviving company in the merger. At the merger effective time, each outstanding share of our common stock will be converted into the right to receive (i) 0.235 of a share of common stock of Omega, subject to adjustment under certain limited circumstances, plus the right to receive cash in lieu of any fractional shares of Omega common stock; and (ii) an amount in cash equal to $2.00, subject to adjustment under certain limited circumstances. Pursuant to the terms of the merger agreement, we will declare a special dividend of $0.21 per share of our common stock payable to the holders of record of our common stock as of the end of trading on the New York Stock Exchange (the “NYSE”) on the trading day immediately prior to the closing date of the merger, which will be payable together with the cash consideration in the merger in accordance with the terms of the merger agreement (the “pre-closing dividend”). The merger is subject to customary closing conditions, including, but not limited to, the approval of our stockholders. The proposed merger is currently expected to close in the first half of 2019. The foregoing description of the merger and the merger agreement does not purport to be complete and is qualified in its entirety by reference to the merger agreement, which is filed as Exhibit 2.1 hereto and is incorporated herein by reference.
4 Our Portfolio As of December 31, 2018, our portfolio was comprised of 34 healthcare facilities that contain a total of 2,758 licensed beds. Our properties, which we acquired for an aggregate gross purchase price of $598.1 million, are located in Texas, California, Nevada, South Carolina, Indiana, Connecticut and Tennessee. We own 100% of all of our properties, other than Lakeway Regional Medical Center (“Lakeway Hospital”), in which we own a 51% interest through our consolidated partnership that owns Lakeway Hospital (the “Lakeway Partnership”). Our single-tenant properties are leased to ten operators with experienced management teams, with no single tenant/guarantor representing more than 25.6% of total revenue for the year ended December 31, 2018. In addition, we had six healthcare-related debt investments totaling $52.0 million as of December 31, 2018. In November 2018, we signed a new, 15-year triple-net master lease with certain affiliates of Creative Solutions in Healthcare, Inc. (“Creative Solutions”) for the ten skilled nursing facilities in Texas (the “Texas Ten Portfolio”) previously leased to affiliates of OnPointe (the “Prior Texas Ten Tenant”). Creative Solutions began operations of the Texas Ten Portfolio on January 1, 2019. Initial base rent under the lease is $7.7 million with annual escalators of 2.0% and two, five-year tenant renewal options. Our Properties The following table contains information regarding the healthcare facilities in our portfolio as of December 31, 2018 (dollars in thousands). Rental income Property % Gross for the year ended Property Major Tenant(s) (1) Location Type (2) Leased Investment Lease Expiration(s) December 31, 2018 Texas Ten Portfolio (10 properties) Creative Solutions (3) TX SNF 100% $ 145,142 December 2033 $ 2,918 Life Generations Portfolio (6 properties) Life Generations CA SNF- 5; ALF- 1 100% 96,696 March 2030 8,618 Lakeway Hospital (4) Baylor Scott & White Lakeway, TX ACH 100% 75,056 August 2031 15,156 Kentfield Rehabilitation & Specialty Hospital Vibra Healthcare Kentfield, CA LTACH 100% 58,030 December 2031 5,360 Mountain's Edge Hospital Fundamental Healthcare Las Vegas, NV ACH 100% 34,556 March 2032 4,315 AAC Portfolio (4 properties) AAC Holdings TX, NV BH 100% 25,047 August 2032 2,440 Southern Indiana Rehabilitation Hospital Vibra Healthcare IN IRF 100% 23,376 June 2033 1,238 Horizon Specialty Hospital of Henderson Fundamental Healthcare Las Vegas, NV LTACH 100% 20,010 March 2032 1,975 Physical Rehabilitation and Wellness Center of Fundamental Healthcare Spartanburg, SC SNF 100% 20,000 March 2029 1,975 Spartanburg Vibra Rehabilitation Hospital of Amarillo Vibra Healthcare Amarillo, TX IRF 100% 19,399 September 2030 1,596 Advanced Diagnostics Hospital East AD Hospital East Houston, TX ACH 100% 17,549 November 2032 1,979 Mira Vista Court Fundamental Healthcare Fort Worth, TX SNF 100% 16,000 March 2029 1,586 North Brownsville Medical Plaza (5) Aesthetic Vein & Laser Brownsville, TX MOB 21% 15,634 November 2019- July 2021 829 Institute (6) Magnolia Portfolio (2 properties) Magnolia Health IN SNF 100% 15,039 July 2032 1,542 Woodlake at Tolland Nursing and Rehabilitation Center Prospect Eldercare Tolland, CT SNF 100% 10,133 June 2029 993 Norris Academy Sequel Realty, LLC Andersonville, TN BH 100% 6,385 September 2033 181 Total $ 598,052 $ 52,701
(1) For properties other than North Brownsville Medical Plaza, the tenant listed is the parent guarantor. For Lakeway Hospital, the guarantor is Baylor University Medical Center, a wholly owned subsidiary of the nonprofit parent corporation Baylor Scott & White Holdings. With respect to Fundamental Healthcare, the guarantor is THI of Baltimore, Inc., a wholly owned subsidiary of Fundamental Healthcare.
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(2) LTACH- Long-Term Acute Care Hospital; SNF- Skilled Nursing Facility; MOB- Medical Office Building; ALF- Assisted Living Facility; ACH- Acute Care Hospital; IRF- Inpatient Rehabilitation Facility; BH- Behavioral Health Facility.
(3) The rental income for the year ended December 31, 2018 relates to the Prior Texas Ten Tenant. On December 31, 2018, the lease with the Prior Texas Ten Tenant was terminated. The Company entered into a 15-year triple-net master lease agreement with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced on January 1, 2019. Initial annual base rent under the lease is approximately $7.7 million.
(4) We own the facility through the Lakeway Partnership, a consolidated partnership, which, based on total equity contributions of $2.0 million, is owned 51% by us.
(5) We are the lessee under a ground lease that expires in 2081, with two ten-year extension options, and provides for annual base rent of approximately $0.2 million in 2018.
(6) Effective January 1, 2019, the Company entered into a 10-year lease agreement with Columbia Valley Healthcare System. This lease is for approximately 29.1% of the building. Initial annual base rent under the lease is approximately $0.4 million and provides for property operating expense reimbursements. Debt Investments Principal Amount Interest Loan Borrower(s) Outstanding Maturity Date Rate Collateral Guarantors Vibra Mortgage Loan Vibra $ 8,651 June 30, 2023 (1) 9.0% Vibra Hospital of Vibra Healthcare Real Estate Healthcare, Western Company II, LLC and Vibra Hospital LLC and Vibra Massachusetts of Western Massachusetts, LLC Healthcare II, LLC Medistar Gemini Mortgage Loan Medistar Gemini, LLC 9,700 February 28, 2019 (2) 12.0% Medistar Gemini Medistar Investments, Inc. and Manfred Co., L.C. Haven Construction Mortgage Loan HBS of Meridian, LLC 16,229 July 8, 2021 (3) 10.0% Inpatient psychiatric hospital CPIV Haven Holdings, LLC under construction in Meridian, ID Cobalt Mortgage Loan Louisville Rehab LP 5,414 January 17, 2021 9.5% (4) Second lien on an inpatient Executive personal guarantee rehabilitation facility under construction in Clarksville, IN Adora Midtown Mortgage Loan Adora 9 Realty, LLC 5,000 March 29, 2020 10.0% Second lien on Adora Adora Creekside Realty, LLC; Midtown and first lien on an personal guarantee of two executives additional parcel of land in Dallas, Texas $ 44,994
(1) On June 27, 2018, this loan, which was originated on August 1, 2014, was modified to convert to a 10-year amortizing loan with monthly principal and interest payments and a balloon payment on the maturity date on June 30, 2023. Principal of $1.0 million was repaid at the date of modification and the interest rate of 9.0% was unchanged.
(2) This loan was originated on August 1, 2017 with additional funding on February 16, 2018, at which time the interest rate under the loan increased from 10.0% per annum to 12.0% per annum. Mortgage interest accrues monthly but is not due until the maturity date of February 28, 2019.
(3) This construction mortgage loan of up to $19.0 million was originated on January 5, 2018. Interest accrues monthly and is added to the outstanding balance of the mortgage note receivable.
(4) This loan has an annual interest rate of 9.5%, which has a claw-back feature that would equate to a 15% annual interest rate from inception of the loan should we elect not to exercise our purchase option on the property under development.
6 We also have a $7.0 million pre-development note receivable with Medistar Stockton Rehab, LLC. The note accrues interest at an annual rate of 10.0% that is payable on the maturity date of February 28, 2019. The note is secured by a leasehold mortgage on the development of a future healthcare facility in Stockton, California. Summary of Investments by Type The following table contains information regarding the healthcare facilitates and debt investments in our portfolio as of and for the year ended December 31, 2018 (dollars in thousands). Revenue includes rental income and interest on mortgage notes receivable.
Properties/ Debt Licensed % of Revenue for the year ended % of Revenue for the year Investments Beds Gross Investment Gross Investment December 31, 2018 ended December 31, 2018 Skilled nursing facilities (1) 21 2,252 303,010 46.6% 17,632 30.8% Acute care hospitals 3 240 127,161 19.6% 21,452 37.5% Long-term acute care hospitals 2 99 78,040 12.0% 7,334 12.8% Behavioral health facilities 5 63 31,432 4.8% 2,620 4.6% Inpatient rehabilitation facility 2 104 42,775 6.6% 2,834 4.9% Medical office building 1 - 15,634 2.4% 829 1.4% Mortgage and other notes receivable (2) 6 - 51,994 8.0% 4,559 8.0% 40 2,758 $ 650,046 100.0% $ 57,260 100.0%
(1) Includes one assisted living facility connected to a skilled nursing facility.
(2) Mortgage interest revenue includes approximately $0.3 million in interest related to the Norris Academy construction loan prior to our acquisition of the facility upon completion of the construction project on September 21, 2018. Geographic Concentration The following table contains information regarding the geographic concentration of the healthcare facilities in our portfolio as of and for the year ended December 31, 2018 (dollars in thousands). No. of No. of No. of No. of No. of Licensed Gross % of Rental State No. of SNFs No. of ACHs LTACHs BHs IRFs MOBs Beds Investment Rental Income Income Texas 11 2 - 2 1 1 1,437 300,259 25,288 48.0% California (1) 6 - 1 - - - 619 154,726 13,977 26.5% Nevada - 1 1 2 - - 169 68,134 7,507 14.3% South Carolina 1 - - - - - 120 20,000 1,975 3.7% Indiana 2 - - - 1 - 220 38,415 2,780 5.3% Connecticut 1 - - - - - 130 10,133 993 1.9% Tennessee - - - 1 - - 63 6,385 181 0.3% 21 3 2 5 2 1 2,758 $ 598,052 $ 52,701 100.0%
(1) Includes one assisted living facility connected to a skilled nursing facility.
Tenant Concentration The following table contains information regarding the largest tenants, guarantors and borrowers in our portfolio as a percentage of revenue (rental income and interest on mortgage notes receivable and note receivable) for the years ended December 31, 2018 and 2017 and a percentage of total real estate assets (gross real estate properties, mortgage notes receivable and note receivable) as of December 31, 2018 and 2017.
% of Revenue for the year ended December 31, % of Total Real Estate Assets at December 31, 2018 2017 2018 2017 Baylor Scott & White Health 25.6% 24.1% 11.5% 12.9% Fundamental Healthcare 17.2% 15.1% 13.9% 14.8% Vibra Healthcare 15.8% 12.9% 16.8% 15.0% Life Generations Healthcare 15.0% 14.1% 14.9% 16.6% Prior Texas Ten Tenant (1) 5.1% 23.5% 22.3% 24.9%
(1) On December 31, 2018, the lease with the Prior Texas Ten Tenant was terminated. The Company entered into a 15-year triple-net master lease agreement with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced
7 on January 1, 2019. Initial annual base rent under the lease is approximately $7.7 million. Effective July 1, 2018, we began recognizing revenue under the lease with the Prior Texas Ten Tenant as cash is received. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Recent Developments—Texas Ten Portfolio Update.”
Significant Tenants The following tenants account for a significant percentage of our total revenue and rent generated from our portfolio. Adverse changes to any of their financial conditions could materially and adversely affect our business, financial condition and results of operations. See “Risk Factors—Risks Related to Our Business and Growth Strategy—Certain tenants/operators in our portfolio account for a significant percentage of the rent generated from our portfolio, and the failure of any of these tenants/operators to meet their obligations to us could materially and adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.”
Baylor Scott & White Health Our tenant at Lakeway Hospital is Scott & White Hospital – Round Rock (the “Baylor Lessee”), with Baylor University Medical Center (“BUMC”) as guarantor. These entities are part of the Baylor Scott & White Health system (“BSW Health”), the largest not-for-profit healthcare system in Texas. BSW Health is one of the largest healthcare delivery systems in the United States with a nationally recognized network of 48 hospitals, more than 800 patient access points, more than 7,800 active physicians and over 47,000 employees providing services focused in the Dallas-Fort Worth metropolitan area and central Texas region. The Baylor Lessee’s Round Rock hospital campus, known as Baylor Scott & White Medical Center-Round Rock, is located in Round Rock, Texas and was established in 2007. The campus includes an acute care hospital with 101 licensed beds and an 86,000 square foot medical office building that is attached to the hospital. BUMC owns and operates Baylor University Medical Center, a major teaching, research and acute care hospital located in Dallas, Texas. Baylor University Medical Center is one of the largest hospitals in Texas, with 914 licensed beds, and is one of the major referral centers in the region.
Creative Solutions in Healthcare Creative Solutions is a privately owned, owner-operator of long-term care facilities based in Fort Worth, Texas and has approximately 6,000 employees. Founded in 2000, Creative Solutions has a proven track record in the long-term care industry and as of December 31, 2018, operates 55 skilled nursing facilities and seven assisted living facilities with an aggregate of more than 6,400 beds across the State of Texas. Upon commencement of the master lease of the Texas Ten Portfolio on January 1, 2019, Creative Solutions will operate 72 facilities with an aggregate of more than 7,600 beds and will become one of the largest skilled nursing operators in Texas.
Fundamental Healthcare Fundamental Healthcare is a privately owned owner-operator headquartered in Sparks, Maryland. Fundamental Healthcare, through its subsidiaries, operates 90 healthcare facilities in ten states, including skilled nursing facilities, long-term acute care hospitals and rehabilitation centers, and has longstanding, industry-wide relationships. Fundamental Healthcare’s facilities are largely concentrated in Nevada, South Carolina, Maryland and Texas. Fundamental Healthcare’s wholly owned subsidiary, THI of Baltimore, serves as guarantor for each of our leases with subsidiaries of Fundamental Healthcare. Subsidiaries of THI of Baltimore operate 82 skilled nursing facilities, one long-term acute care hospital, two acute care hospitals and one inpatient psychiatric hospital.
Life Generations Life Generations Healthcare, LLC (“Life Generations”) is a privately owned owner-operator of long-term care facilities that began operations in 1998 and has approximately 4,900 employees. As of December 31, 2018, Life Generations operated 25 skilled nursing facilities and two assisted living facilities in California and Nevada, with an aggregate of more than 3,000 beds, and a therapy company that provides physical, occupational and speech therapy to residents in Life Generations’ facilities.
Vibra Healthcare Founded in 2004, Vibra Healthcare is a privately owned, nationwide owner-operator of freestanding long-term acute care hospitals and inpatient rehabilitation facilities, headquartered in Mechanicsburg, Pennsylvania. Vibra Healthcare and its subsidiaries serve as guarantors for the leases for the Kentfield Rehabilitation & Specialty Hospital, Vibra Rehabilitation Hospital of Amarillo and Southern Indiana Rehabilitation Hospital. At December 31, 2018, Vibra operated 29 long-term acute care hospitals, nine inpatient rehabilitation facilities, four skilled nursing units and 21 outpatient clinics located in 16 states. Vibra Healthcare is one of the largest privately owned post-acute owner-operators in the United States.
8 Lease Expirations The following table contains information regarding the lease expiration dates of the triple-net leases in our portfolio as of December 31, 2018, excluding our one medical office building (dollars in thousands).
No. of No. of Licensed Annualized Rental % of Annualized Rental Year No. of SNFs No. of ACHs No. of LTACHs BHs No. of IRFs Beds Income(1) Income Expiring 2019-2028 ------$ - - 2029 3 - - - - 392 4,533 7.6% 2030 (2) 6 - - - 1 603 10,213 17.2% 2031 - 1 1 - - 166 20,572 34.5% 2032 2 2 1 4 - 333 12,250 20.6% 2033 (3) 10 - - 1 1 1,264 11,941 20.1% 21 3 2 5 2 2,758 59,509 100.0%
(1) Annualized rental income is total rent, including straight-line rent and amortization of lease incentives, for the month ended December 31, 2018, multiplied by twelve. Annualized rental income excludes certain property operating expenses that are reimbursable by tenants, which are included as rental income.
(2) Includes one assisted living facility connected to a skilled nursing facility.
(3) Reflects the Company’s 15-year triple-net master lease agreement with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced on January 1, 2019 and expires in 2033. Medical Office Building Lease Expirations For the year ended December 31, 2018, our 67,682 square foot medical office building located in Brownsville, Texas had an average occupancy of 29.6% and generated total revenue of approximately $0.8 million that includes approximately $0.2 million in property operating expenses reimbursed by tenants. As of February 25, 2019, approximately 49.9% of the building was occupied with 20.8% of the building occupied by five tenants that generated approximately $0.4 million of total revenue for the year ended December 31, 2018 and 29.1% occupied by a new tenant whose lease commenced on January 1, 2019 and provides for initial base rent of approximately $0.4 million and property expense reimbursements estimated to be approximately $0.2 million. The leases for two tenants that occupy an aggregate 9.5% of the building and represented approximately $0.2 million in total revenue for the year ended December 31, 2018 expire during the fourth quarter of 2019. Description of Significant Properties Texas Ten Portfolio During 2015 we acquired the Texas Ten Portfolio for an aggregate gross purchase price of $145.0 million. The Texas Ten Portfolio contains an aggregate of approximately 339,733 square feet and 1,141 licensed beds. Upon acquisition of the properties, we leased 100% of the Texas Ten Portfolio to Prior Texas Ten Tenant. The lease with the Prior Texas Ten Tenant was a triple-net master lease with the tenant responsible for all costs of the facilities, including taxes, utilities, insurance, maintenance and capital improvements. Monthly base rent due under the master lease was approximately $1.1 million during 2017 and 2018. Beginning in May 2018, the Prior Texas Ten Tenant stopped paying the monthly contractual rent due under the master lease because of ongoing operational difficulties that adversely impacted its liquidity position. As a result of the operational issues and related non-payment of full contractual rent due, effective July 1, 2018, we began recognizing revenue under the master lease as cash was received from the tenant. Total base rent due under the Prior Texas Ten Tenant’s lease for the year ended December 31, 2018 was approximately $12.9 million, of which the Company collected and recognized as revenue approximately $6.9 million, which included the application of security deposits held by the Company equal to two months of base rent. During the quarter ended September 30, 2018, we reserved approximately $4.8 million for the balance of non-cash straight-line rent outstanding as of June 30, 2018 that has been previously recorded in rental income. Additionally, the Company’s net income for the year ended December 31, 2018 includes approximately $1.5 million in property-related expenses related to the Texas Ten Portfolio comprised primarily of property taxes for 2017 and 2018 which were the responsibility of the Prior Texas Ten Tenant under its triple-net master lease. The lease with the Prior Texas Ten Tenant was terminated as of December 31, 2018. In November 2018, the Company signed a new, 15-year triple-net master lease with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced on January 1, 2019. The initial annual base rent under the lease is approximately $7.7 million with annual lease escalators of 2.0% and two, five-year tenant renewal options. The Texas Ten Portfolio accounted for approximately 24.2% of the Company’s total real estate properties, net as of December 31, 2018.
9 Life Generations Portfolio During 2015, we acquired a portfolio of five skilled nursing facilities and one connected assisted living facility from Life Generations for $95.0 million (collectively the “Life Generations Portfolio”). The Life Generations Portfolio is located in the southern California markets and has approximately 559 licensed beds as of December 31, 2018. Upon acquisition of the properties, we leased 100% of the Life Generations Portfolio to wholly owned subsidiaries of Life Generations pursuant to a triple-net master lease agreement, with the tenants responsible for all costs of the facilities, including taxes, insurance, maintenance and capital improvements. The lease has a non-cancelable 15-year term, with two five-year extension options. The annualized base rent under the lease was approximately $8.3 million as of December 31, 2018. On the fifth anniversary of the initial lease term, the annual base rent will increase by the lesser 2.0% and the percentage increase in the consumer price index over the first five years of the lease. On the sixth through the ninth anniversaries of the initial lease term, the annual base rent will increase each year by the lesser of 2.0% and the percentage increase in the consumer price index over the prior 12 months. On each anniversary thereafter, the annual base rent will increase by 2.5% of the prior year’s base rent. The master lease agreement is unconditionally guaranteed by Life Generations. The master lease is also cross-defaulted with (i) any material uncured default by Life Generations under its credit facility that results in the actual acceleration of any amounts outstanding under its credit facility and (ii) any material uncured default under any material obligations related to the Life Generations Portfolio. Lakeway Hospital Lakeway Hospital is a 270,512 square-foot acute care hospital located in Lakeway, Texas. The hospital opened in April 2012 and is licensed for 106 beds and has six operating rooms. We own the facility through the Lakeway Partnership, which, based on a total equity contribution of $2.0 million, is owned 51% by us and 49% by an entity that is owned indirectly by physicians who have relocated their practices to Lakeway Hospital and a non-physician investor. Our equity contribution to the Lakeway Partnership was $1.0 million and our transfer of the original $50.0 million note and $23.0 million of cash to the Lakeway Partnership is structured as a mortgage loan to the Lakeway Partnership that is secured by a first mortgage lien on Lakeway Hospital (the “Lakeway Intercompany Mortgage Loan”). The Lakeway Intercompany Mortgage Loan has a ten-year term and requires payments of principal and interest at a rate of 8.0% per annum based on a 25-year amortization schedule. The interest rate on the Lakeway Intercompany Mortgage Loan will reset after five years based upon then-current market rates. The Lakeway Intercompany Mortgage Loan, the related interest income to us and the related interest expense to the Lakeway Partnership are eliminated in our consolidated financial statements. In addition, in connection with our acquisition of Lakeway Hospital, we assumed the seller’s rights as lessor under the ground lease for the medical office building that is part of Lakeway Hospital. The ground lease expires on October 1, 2061, subject to two ten-year extension options. The annualized base rent under the ground lease was approximately $0.3 million at December 31, 2018. Base rent increases each year by 3.0% of the prior year’s base rent. On September 1, 2016, BSW Health acquired the prior operations of Lakeway Hospital. In connection with the closing of this transaction, we simultaneously terminated the lease with the prior operator and entered into a new triple-net lease with the Baylor Lessee, which has an initial term of 15 years with two ten-year extension options. The annualized base rent under the lease is approximately $13.0 million as of December 31, 2018. The base rent will increase by 2.0% on the third anniversary of the lease and 2.5% on each anniversary thereafter. The lease provides that, commencing after completion of the third year of the lease and subject to certain conditions, the Baylor Lessee has the option to purchase Lakeway Hospital at a price equal to the aggregate base rent payable under the lease for the 12-month period following the date of the written notice from the Baylor Lessee divided by (i) 6.5% if written notice is provided after completion of the third lease year and before completion of the tenth lease year (which would result in a purchase price of not less than approximately $203.6 million) or (ii) 7.0% if written notice is provided any time thereafter. In addition, the Baylor Lessee has a right of first refusal and a right of first offer in the event that we intend to sell or otherwise transfer Lakeway Hospital. The lease is unconditionally guaranteed by BUMC, which is a wholly owned subsidiary of the nonprofit parent corporation Baylor Scott & White Holdings.
Our Tax Status We elected and qualified to be taxed as a REIT for U.S. federal income tax purposes commencing with our taxable year ended December 31, 2014. Our ability to maintain our qualification as a REIT will depend upon our ability to meet, on a continuing basis, various complex requirements under the Internal Revenue Code of 1986, as amended (the “Code”), relating to, among other things, the sources of our gross income, the composition and values of our assets, our distribution levels and the diversity of ownership of our stock. We believe that we are organized in conformity with the requirements for qualification as a REIT under the Code and that our intended manner of operation will enable us to meet the requirements for qualification and taxation as a REIT for U.S. federal income tax purposes. As a REIT, we generally will not be subject to U.S. federal income tax on our taxable income that we distribute to our stockholders. Under the Code, REITs are subject to numerous organizational and operational requirements, including a requirement
10 that they distribute on an annual basis at least 90% of their REIT taxable income, determined without regard to the deduction for dividends paid and excluding any net capital gains. If we fail to maintain our qualification for taxation as a REIT in any taxable year and do not qualify for certain statutory relief provisions, our income for that year will be subject to tax at regular corporate rates, and we would be disqualified from taxation as a REIT for the four taxable years following the year during which we ceased to maintain our qualification as a REIT. Even if we maintain our qualification as a REIT for U.S. federal income tax purposes, we may still be subject to state and local taxes on our income and assets and to U.S. federal income and excise taxes on our undistributed income. Additionally, any income earned by MedEquities Realty TRS, LLC, our taxable REIT subsidiary, and any other taxable REIT subsidiaries (“TRSs”) that we form or acquire in the future will be fully subject to U.S. federal, state and local corporate income tax.
Competition The market for making investments in healthcare properties is highly competitive and fragmented, and increased competition makes it more challenging for us to identify and successfully capitalize on opportunities that meet our investment objectives. In acquiring and leasing healthcare properties and providing financing to healthcare operators, we compete with financial institutions, institutional pension funds, private equity funds, real estate developers, other REITs, other public and private real estate companies and private real estate investors, many of whom have greater financial and operational resources and lower costs of capital than we have. We also face competition in leasing or subleasing available facilities to prospective tenants and entering into operating agreements with prospective operators. Our tenants/operators compete on a local and regional basis with operators of facilities that provide comparable services. The basis of competition for our operators includes the quality of care provided, reputation, the physical appearance of a facility, price, the range of services offered, family preference, alternatives for healthcare delivery, the supply of competing properties, physicians, staff, referral sources, location and the size and demographics of the population and surrounding areas.
Regulation
Healthcare Regulatory Matters The following discussion describes certain material healthcare laws and regulations that may affect our operations and those of our tenants/operators. The ownership and operation of hospitals, other healthcare properties and other healthcare providers are subject to extensive federal, state and local government healthcare laws and regulations. These laws and regulations include requirements related to licensure, conduct of operations, ownership of facilities, addition or expansion of facilities and services, prices for services, billing for services and the confidentiality and security of health-related information. Different properties within our portfolio may be more or less subject to certain types of regulation, some of which are specific to the type of facility or provider. These laws and regulations are wide-ranging and complex, may vary or overlap from jurisdiction to jurisdiction, and are subject frequently to change. Compliance with these regulatory requirements can increase operating costs and, thereby, adversely affect the financial viability of our tenants/operators’ businesses. Our tenants/operators’ failure to comply with these laws and regulations could adversely affect their ability to successfully operate our properties, which could negatively impact their ability to satisfy their contractual obligations to us. Our leases will require the tenants/operators to comply with all applicable laws, including healthcare laws. We may be subject directly to healthcare laws and regulations, because of the broad nature of some of these restrictions, such as the Anti-kickback Statute and False Claims Act among others. In some cases, especially in the event we own properties managed by third parties, regulatory authorities could classify us or our subsidiaries as an operating entity or license holder. Such a designation would significantly increase the regulatory requirements directly applicable to us and subject us to increased regulatory risk. We intend for all of our business activities and operations to conform in all material respects with all applicable laws and regulations, including healthcare laws and regulations. We expect that the healthcare industry will continue to face increased regulations and pressure in the areas of fraud, waste and abuse, cost control, healthcare management and provision of services. Healthcare Reform Measures. The Affordable Care Act has changed how healthcare services are covered, delivered and reimbursed through expanded coverage of uninsured individuals, reduced growth in Medicare program spending, reductions in Medicare and Medicaid Disproportionate Share Hospital (“DSH”) payments, and expanding efforts to tie reimbursement to quality and efficiency. In addition, the law reforms certain aspects of health insurance, contains provisions intended to strengthen fraud and abuse enforcement, and encourages the development of new payment models, including the creation of Accountable Care Organizations (“ACOs”). On June 28, 2012, the United States Supreme Court struck down the portion of the Affordable Care Act that would have allowed HHS to penalize states that do not implement the law’s Medicaid expansion provisions with the loss of existing federal Medicaid funding. As a result, some states may choose not to implement the Medicaid expansion. The expansion of health insurance coverage under the Affordable Care Act may result in a material increase in the number of patients using our tenants/operator’s facilities who have either private or public program coverage. In addition, the creation of ACOs and related initiatives may create possible sources of additional revenue. However, our tenants/operators may be negatively impacted by the law’s payment reductions, and it is uncertain what reimbursement rates will apply to coverage purchased through the exchanges. It is difficult to predict the full impact of the Affordable Care Act due to the law’s complexity, limited implementing
11 regulations or interpretive guidance, gradual and potentially delayed implementation, court challenges and possible amendment or repeal, as well as our inability to foresee how individuals, states and businesses will respond to the choices afforded them by the law. Sources of Revenue and Reimbursement. Our tenants and operators will receive payments for patient services from the federal government under the Medicare program, state governments under their respective Medicaid or similar programs, managed care plans, private insurers and directly from patients. Medicare is a federal program that provides certain hospital and medical insurance benefits to persons age 65 and over, some disabled persons, persons with end-stage renal disease and persons with Lou Gehrig’s Disease. Medicaid is a federal-state program, administered by the states, which provides hospital and medical benefits to qualifying individuals who are unable to afford healthcare. Generally, revenues for services rendered to Medicare patients are determined under a prospective payment system (“PPS”). CMS annually establishes payment rates for the PPS for each applicable facility type. Amounts received under Medicare and Medicaid programs are generally significantly less than established facility gross charges for the services provided and may not reflect the provider’s costs. Healthcare providers generally offer discounts from established charges to certain group purchasers of healthcare services, including private insurance companies, employers, health maintenance organizations (“HMOs”), preferred provider organizations (“PPOs”) and other managed care plans. These discount programs generally limit a provider’s ability to increase revenues in response to increasing costs. Patients are generally not responsible for the total difference between established provider gross charges and amounts reimbursed for such services under Medicare, Medicaid, HMOs, PPOs and other managed care plans, but are responsible to the extent of any exclusions, deductibles or coinsurance features of their coverage. The amount of such exclusions, deductibles and coinsurance continues to increase. Collection of amounts due from individuals is typically more difficult than from governmental or third-party payers. Payments to providers are being increasingly tied to quality and efficiency. These initiatives include requirements to report clinical data and patient satisfaction scores, reduced Medicare payments to hospitals based on “excess” readmission rates as determined by CMS, denial of payments under Medicare, Medicaid and some private payors for services resulting from a hospital or facility-acquired condition (“HAC”), and reduced Medicare payments to hospitals with high risk-adjusted HAC rates. Certain provider types, including, but not limited to, inpatient rehabilitation facilities and long-term acute care hospitals, are subject to specific limits and restrictions on admissions which, in turn, affect reimbursement at these facilities. The amounts of program payments received by our tenants/operators can be changed from time to time by legislative or regulatory actions and by determinations by agents for the programs. The Medicare and Medicaid statutory framework is subject to administrative rulings, interpretations and discretion that affect the amount and timing of reimbursement made under Medicare and Medicaid. Federal healthcare program reimbursement changes may be applied retroactively under certain circumstances. In recent years, the federal government has enacted various measures to reduce spending under federal healthcare programs including required cuts under the Affordable Care Act and “sequestration” reductions as required by the Budget Control Act of 2011. In addition, many states have enacted, or are considering enacting, measures designed to reduce their Medicaid expenditures and change private healthcare insurance, and states continue to face significant challenges in maintaining appropriate levels of Medicaid funding due to state budget shortfalls. Further, non-government payers may reduce their reimbursement rates in accordance with payment reductions by government programs or for other reasons. Healthcare provider operating margins may continue to be under significant pressure due to the deterioration in pricing flexibility and payor mix, as well as increases in operating expenses that exceed increases in payments under the Medicare and Medicaid programs. Anti-Kickback Statute. A section of the Social Security Act known as the “Anti-kickback Statute” prohibits, among other things, the offer, payment, solicitation or acceptance of remuneration, directly or indirectly, in return for referring an individual to a provider of services for which payment may be made in whole or in part under a federal healthcare program, including the Medicare or Medicaid programs. Courts have interpreted this statute broadly and held that the Anti-kickback Statute is violated if just one purpose of the remuneration is to generate referrals, even if there are other lawful purposes. The Affordable Care Act provides that knowledge of the Anti-kickback Statute or specific intent to violate the statute is not required in order to violate the Anti-kickback Statute. Violation of the Anti-kickback Statute is a crime, punishable by fines of up to $25,000 per violation, five years imprisonment, or both. Violations may also result in civil and administrative liability and sanctions, including civil penalties of up to $50,000 per violation, exclusion from participation in federal and state healthcare programs, including Medicare and Medicaid, and additional monetary penalties in amounts treble to the underlying remuneration. A violation of the Anti-kickback Statute also constitutes a per se violation of the False Claims Act, which is discussed in greater detail below. There are a limited number of statutory exceptions and regulatory safe harbors for categories of activities deemed protected from prosecution under the Anti-kickback Statute. Currently, there are statutory exceptions and safe harbors for various activities, including the following: certain investment interests, space rental, equipment rental, practitioner recruitment, personnel services and management contracts, sale of practice, referral services, warranties, discounts, employees, managed care arrangements, investments in group practices, freestanding surgery centers, ambulance replenishing and referral agreements for specialty services. The safe harbor for space rental arrangements requires, among other things, that the aggregate rental payments be set in advance, be consistent with fair market value and not be determined in a manner that takes into account the volume or value of any referrals. The fact that conduct or a business arrangement does not fall within a safe harbor does not necessarily render the conduct or business arrangement illegal under the Anti-kickback Statute. However, such conduct and business arrangements may lead to increased scrutiny by government enforcement authorities.
12 Many states have laws similar to the Anti-kickback Statute that regulate the exchange of remuneration in connection with the provision of healthcare services, including prohibiting payments to physicians for patient referrals. The scope of these state laws is broad because they can often apply regardless of the source of payment for care. Little precedent exists for their interpretation or enforcement. These statutes typically provide for criminal and civil penalties, as well as loss of facility licensure. We intend to use commercially reasonable efforts to structure our arrangements, including any lease/operating arrangements involving facilities in which local physicians are investors, so as to satisfy, or meet as closely as possible, safe harbor requirements. The safe harbors are narrowly structured, and there are not safe harbors available for every type of financial arrangement that we or our tenants/operators may enter. Although it is our intention to fully comply with the Anti-kickback Statue, as well as all other applicable state and federal laws, there can be no forward-looking assurance that regulatory authorities enforcing these laws will not question the compliance of our financial arrangements or the financial relationships of our tenants/operators with the Anti-kickback Statute or other similar laws. Stark Law. The Social Security Act also includes a provision commonly known as the “Stark Law.” The Stark Law prohibits a physician from making a referral to an entity furnishing “designated health services” paid by Medicare or Medicaid if the physician or a member of the physician’s immediate family has a financial relationship with that entity. Designated health services include, among other services, inpatient and outpatient hospital services, clinical laboratory services, physical therapy services and radiology services. The Stark Law also prohibits entities that provide designated health services from billing the Medicare and Medicaid programs for any items or services that result from a prohibited referral and requires the entities to refund amounts received for items or services provided pursuant to the prohibited referral. Sanctions for violating the Stark Law include denial of payment, civil monetary penalties of up to $15,000 per prohibited service provided for failure to return amounts received in a timely manner, and exclusion from the Medicare and Medicaid programs. The statute also provides for a penalty of up to $100,000 for a circumvention scheme. Failure to refund amounts received pursuant to a prohibited referral may also constitute a false claim and result in additional penalties under the False Claims Act, which is discussed in greater detail below. There are exceptions to the self-referral prohibition for many of the customary financial arrangements between physicians and providers, including employment contracts, leases and recruitment agreements. There is also an exception for a physician’s ownership interest in an entire hospital, as opposed to an ownership interest in a hospital department. Unlike safe harbors under the Anti-Kickback Statute, an arrangement must comply with every requirement of a Stark Law exception, or the arrangement will be in violation of the Stark Law. Through a series of rulemakings, CMS has issued final regulations implementing the Stark Law. While these regulations were intended to clarify the requirements of the exceptions to the Stark Law, it is unclear how the government will interpret many of these exceptions for enforcement purposes. Although there is an exception for a physician’s ownership interest in an entire hospital, the Affordable Care Act prohibits newly created physician-owned hospitals from billing for Medicare patients referred by their physician owners. As a result, the law effectively prevents the formation after December 31, 2010 of new physician-owned hospitals that participate in Medicare and Medicaid. While the Affordable Care Act grandfathers existing physician-owned hospitals, it does not allow these hospitals to increase the percentage of physician ownership and significantly restricts their ability to expand services. Many states also have laws similar to the Stark Law that prohibit certain self-referrals. The scope of these state laws is broad because they can often apply regardless of the source of payment for care, and little precedent exists for their interpretation or enforcement. These statutes typically provide for criminal and civil penalties, as well as loss of facility licensure. Although our lease agreements will require lessees to comply with the Stark Law, we cannot offer assurance that regulators will not question whether the arrangements entered into by us or by our tenants/operators are in compliance with the Stark Law or similar state laws. The False Claims Act. The federal False Claims Act prohibits knowingly making or presenting any false claim for payment to the federal government. The government uses the False Claims Act to combat fraud and abuse in government spending, including health care spending under Medicare and other government programs. The False Claims Act defines the term “knowingly” broadly. For example, though simple negligence will not give rise to liability under the False Claims Act, submitting a claim with reckless disregard to its truth or falsity constitutes a “knowing” submission. The False Claims Act contains qui tam, or whistleblower, provisions that allow private individuals to bring actions on behalf of the government alleging that the defendant has defrauded the federal government. Under the False Claims Act’s whistleblower provisions, whistleblowers are entitled to recover as much as 30% of the government’s recovery. The False Claims Act includes civil and criminal penalties and a treble damages provision for monetary penalties. The False Claims Act also provides between $10,957 and $21,916 in monetary damages per claim. As discussed above, the Affordable Care Act clarified that a violation of the Anti- kickback Statute constitutes a per se violation of the False Claims Act. Finally, most states have enacted their own false claims laws modeled after the federal False Claims Act. Other Fraud & Abuse Laws. There are various other fraud and abuse laws at both the federal and state levels that cover false claims and false statements and these may impact our business. For example, the Civil Monetary Penalties law authorizes the imposition of monetary penalties for various forms of fraud and abuse involving the Medicare and Medicaid programs. Penalties are assessed based on the type of violation at issue. For example, if the conduct involves a kickback, the government may seek a penalty
13 of up to $50,000 for each improper act, as well as treble damages. Actions prohibited under the Civil Monetary Penalties law include, but are not limited to, the following: • knowingly presenting or causing to be presented, a claim for services not provided as claimed or which is otherwise false or fraudulent in any way; • knowingly giving or causing to be giving false or misleading information reasonably expected to influence the decision to discharge a patient; • offering or giving remuneration to any beneficiary of a federal healthcare program likely to influence the receipt of reimbursable items or services; • arranging for reimbursable services with an entity which is excluded from participation from a federal healthcare program; or • knowingly or willfully soliciting or receiving remuneration for a referral of a federal healthcare program beneficiary. Any violations of the Civil Monetary Penalties Law by management or our tenants/operators could result in substantial fines and penalties, and could have an adverse effect on our business. HIPAA Administrative Simplification and Privacy and Security Requirements. HIPAA, as amended by the HITECH Act, and its implementing regulations create a national standard for protecting the privacy and security of individually identifiable health information (called “protected health information”). Compliance with HIPAA is mandatory for covered entities, which include healthcare providers such as tenants/operators of our facilities. Compliance is also required for entities that create, receive, maintain or transmit protected health information on behalf of covered entities, such as healthcare providers, or that perform services for such covered entities that involve the use or disclosure of protected health information, called “business associates.” In January, 2013, HHS issued a final rule to implement regulations pursuant to the HITECH Act and also imposed certain additional obligations for covered entities and their business associates. The final rule became effective March 26, 2013, and covered entities and business associates were given until September 23, 2013 to comply with most of these provisions. On September 19, 2013, HHS’s Office for Civil Rights announced a delay in the enforcement, until further notice, of certain requirements as applicable to HIPAA covered laboratories, and enforcement became effective as of October 6, 2014. HHS may, in the future, announce additional guidance that could affect the business of our tenants/operators subject to these laws. Covered entities must report a breach of protected health information that has not been secured through encryption or rendered unusable, unreadable or indecipherable to unauthorized third parties to all affected individuals without unreasonable delay, but in any case no more than 60 days after the breach is discovered. Notification must also be made to HHS and, in the case of a breach involving more than 500 individuals, to the media. In the final rule issued in January, 2013, HHS modified the standard for determining whether a breach has occurred by creating a presumption that any non-permitted acquisition, access, use or disclosure of protected health information is a breach unless the covered entity or business associate can demonstrate that there is a low probability that the information has been compromised, based on a risk assessment. Covered entities and business associates are subject to civil penalties for violations of HIPAA of up to $1.5 million per year for violations of the same requirement. In addition, criminal penalties can be imposed not only against covered entities and business associates, but also against individual employees who obtain or disclose protected health information without authorization. The criminal penalties range up to $250,000 and up to 10 years imprisonment. In addition, state Attorneys General may bring civil actions predicated on HIPAA violations. HHS is authorized to conduct periodic HIPAA compliance audits of covered entities and business associates. If any of our tenants/operators are subject to an investigation or audit and found to be in violation of HIPAA, such tenants/operators could incur substantial penalties, which could have a negative impact on their financial condition. Our tenants/operators may also be subject to more stringent state law privacy, security and breach notification obligations. Licensure, Certification and Accreditation. Healthcare property construction and operation are subject to numerous federal, state and local regulations relating to the adequacy of medical care, equipment, personnel, operating policies and procedures, maintenance of adequate records, fire prevention, rate-setting and compliance with building codes and environmental protection laws. The requirements for licensure, certification and accreditation are subject to change and, in order to remain qualified, it may become necessary for our tenants/operators to make changes in their facilities, equipment, personnel and services. Facilities in our portfolio will be subject to periodic inspection by governmental and other authorities to assure continued compliance with the various standards necessary for licensing and accreditation. We require our healthcare properties to be properly licensed under applicable state laws. As applicable, we also expect our operators/facilities to participate in the Medicare and Medicaid programs and to be appropriately accredited by an approved accrediting organization. The loss of Medicare or Medicaid certification would result in our tenants/operators that operate Medicare/Medicaid-eligible providers from receiving reimbursement from federal healthcare programs. The loss of necessary accreditation would result in increased scrutiny by CMS and likely the loss of payment from non-government payers. In some states, the construction or expansion of healthcare properties, the acquisition of existing facilities, the transfer or change of ownership and the addition of new beds or services may be subject to review by and prior approval of, or notifications to, state
14 regulatory agencies under a Certificate of Need (“CON”) program. Such laws generally require the reviewing state agency to determine the public need for additional or expanded healthcare properties and services. The requirements for licensure, certification and accreditation also include notification or approval in the event of the transfer or change of ownership or certain other changes. Further, federal programs, including Medicare, must be notified in the event of a change of ownership or change of information at a participating provider. Failure by our tenants/operators to provide required federal and state notifications, obtain necessary state licensure and CON approvals could result in significant penalties as well as prevent the completion of an acquisition or effort to expand services or facilities. We may be required to provide ownership information or otherwise participate in certain of these approvals and notifications. EMTALA. The EMTALA is a federal law that requires any hospital participating in the Medicare program to conduct an appropriate medical screening examination of every individual who presents to the hospital’s emergency room for treatment and, if the individual is suffering from an emergency medical condition, to either stabilize the condition or make an appropriate transfer of the individual to a facility able to handle the condition. The obligation to screen and stabilize emergency medical conditions exists regardless of an individual’s ability to pay for treatment. The government broadly interprets EMTALA to cover situations in which individuals do not actually present to a hospital’s emergency room, but present for emergency examination or treatment to the hospital’s campus, generally, or to a hospital-based clinic that treats emergency medical conditions or are transported in a hospital-owned ambulance, subject to certain exceptions. Penalties for violations of EMTALA include civil monetary penalties and exclusion from participation in the Medicare program. In addition, an injured individual, the individual’s family or a medical facility that suffers a financial loss as a direct result of a hospital’s violation of the law can bring a civil suit against the hospital. Our leases will require any hospitals in our portfolio operate in compliance with EMTALA, but failure to comply could result in substantial fines and penalties. Antitrust Laws. The federal government and most states have enacted antitrust laws that prohibit certain types of conduct deemed to be anti-competitive. These laws prohibit price fixing, concerted refusal to deal, market allocation, monopolization, attempts to monopolize, price discrimination, tying arrangements, exclusive dealing, acquisitions of competitors and other practices that have, or may have, an adverse effect on competition. Violations of federal or state antitrust laws can result in various sanctions, including criminal and civil penalties. Antitrust enforcement in the healthcare industry is currently a priority of the Federal Trade Commission and the Antitrust Division of the Department of Justice. We intend to operate so that we and our tenants/operators are in compliance with such federal and state laws, but future review by courts or regulatory authorities could result in a determination that could adversely affect the operations of our tenants/operators and, consequently, our operations. Healthcare Industry Investigations. Significant media and public attention has focused in recent years on the healthcare industry. The federal government is dedicated to funding additional federal enforcement activities related to healthcare providers and preventing fraud and abuse. Our tenants/operators will engage in many routine healthcare operations and other activities that could be the subject of governmental investigations or inquiries. For example, our tenants/operators will likely have significant Medicare and Medicaid billings, numerous financial arrangements with physicians who are referral sources, and joint venture arrangements involving physician investors. In recent years, Congress has increased the level of funding for fraud and abuse enforcement activities. It is possible that governmental entities could initiate investigations or litigation in the future and that such matters could result in significant costs and penalties, as well as adverse publicity. It is also possible that our executives could be included in governmental investigations or litigation or named as defendants in private litigation. Governmental agencies and their agents, such as the Medicare Administrative Contractors, fiscal intermediaries and carriers, as well as the HHS-OIG and HHS-OCR, CMS and state Medicaid programs, may conduct audits of our tenants/operator’s operations. Private payers may conduct similar post-payment audits, and our tenants/operators may also perform internal audits and monitoring. Depending on the results of those audits, the resolution of any issues identified in such audits could have a material, adverse effect on our portfolio’s financial position, results of operations and liquidity. Under the Recovery Audit Contractor (“RAC”) program, CMS contracts with RACs on a contingency basis to conduct post-payment reviews to detect and correct improper payments in the fee-for-service Medicare program, to managed Medicare plans and in the Medicaid program. CMS has also initiated a RAC prepayment demonstration program in 11 states. CMS also employs Medicaid Integrity Contractors (“MICs”) to perform post-payment audits of Medicaid claims and identify overpayments. In addition to RACs and MICs, the state Medicaid agencies and other contractors have increased their review activities. Should any of our tenants/operators be found out of compliance with any of these laws, regulations or programs, our business, our financial position and our results of operations could be negatively impacted.
Environmental Matters A wide variety of federal, state and local environmental and occupational health and safety laws and regulations affect healthcare property operations. These complex federal and state statutes, and their enforcement, involve a myriad of regulations, many of which involve strict liability on the part of the potential offender. Some of these federal and state statutes may directly impact us. Under various federal, state and local environmental laws, ordinances and regulations, an owner of real property or a secured lender, such as us, may be liable for the costs of removal or remediation of hazardous or toxic substances at, under or disposed of in connection with such property, as well as other potential costs relating to hazardous or toxic substances (including government fines
15 and damages for injuries to persons and adjacent property). The cost of any required remediation, removal, fines or personal or property damages and the owner’s or secured lender’s liability therefore could exceed or impair the value of the property, and/or the assets of the owner or secured lender. In addition, the presence of such substances, or the failure to properly dispose of or remediate such substances, may adversely affect the owner’s ability to sell or rent such property or to borrow using such property as collateral which, in turn, could reduce our revenues. For a description of the risks associated with environmental matters, see the risk factors described in Item 1A herein.
Insurance We have general liability insurance (lessor’s risk) that provides coverage for bodily injury and property damage to third parties resulting from our ownership of the healthcare properties that are leased to and occupied by our tenants. For our single-tenant properties, our leases with tenants also require the tenants to carry general liability, professional liability, all risks, loss of earnings and other insurance coverages and to name us as an additional insured under these policies. We believe that the policy specifications and insured limits are appropriate given the relative risk of loss, the cost of the coverage and industry practice.
Employees At December 31, 2018, we had 11 employees.
Corporate Information Our principal executive office is located at 3100 West End Avenue, Suite 1000, Nashville, Tennessee 37203. Our telephone number at our executive office is (615) 627-4710 and our corporate website is www.medequities.com. The information on, or accessible through, our website is not incorporated into and does not constitute a part of this Annual Report on Form 10-K or any other report or document we file with or furnish to the SEC.
Available Information We file our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those reports with the SEC. You may obtain copies of these documents by accessing the SEC’s website at www.sec.gov. In addition, as soon as reasonably practicable after such materials are furnished to the SEC, we make copies of the documents available to the public free of charge through our website or by contacting our Investor Relations Department at the address set forth above under “—Corporate Information.” Our Corporate Governance Guidelines, Code of Ethics and Business Conduct, Code of Ethics for Chief Executive Officer and Senior Financial Officers, and the charters of our audit committee, compensation committee and nominating and corporate governance committee are all available in the Corporate Governance section of the Investor Relations section of our website.
Financial Information For required financial information related to our operations, please refer to our consolidated financial statements, including the notes therein, included with this Annual Report on Form 10-K. Item 1A. Risk Factors Set forth below are the risks that we believe are material to our stockholders. You should carefully consider the following risks in evaluating our Company and our business. The occurrence of any of the following risks could materially adversely impact our financial condition, results of operations, cash flow, the market price of shares of our common stock and our ability to, among other things, satisfy our debt service obligations and to make distributions to our stockholders, which in turn could cause our stockholders to lose all or a part of their investment. Some statements in this report including statements in the following risk factors constitute forward-looking statements. Please refer to the section entitled “Cautionary Note Regarding Forward-Looking Statements” at the beginning of this Annual Report on Form 10-K.
Risks Related to the Proposed Merger with Omega The consummation of the merger is subject to a number of conditions which, if not satisfied or waived, would adversely impact our ability to complete the merger. The merger is subject to certain closing conditions, including, among others: (i) the receipt by us of the affirmative vote of the holders of a majority of the outstanding shares of our common stock approving the merger; (ii) the absence of any law that prohibits, restrains, enjoins or makes illegal the consummation of the merger; (iii) the absence of any order by any court of competent jurisdiction that prevents, restrains or enjoins the consummation of the merger or the other transactions contemplated by the merger agreement; (iv) the SEC having declared effective Omega’s registration statement on Form S-4 with respect to the shares of Omega common stock to be issued in the merger, and the registration statement not being the subject of any stop order or proceedings by the SEC seeking a stop order that has not be withdrawn; (v) the approval for listing on the NYSE, subject only to official notice of
16 issuance, of the shares of Omega common stock to be issued in the merger; (vi) the receipt of certain legal opinions by Omega and MedEquities; and (vii) other customary conditions specified in the merger agreement. There can be no assurance these conditions will be satisfied or waived, if permitted. Therefore, there can be no assurance with respect to the timing of the closing of the merger, or that the merger will be completed at all.
Failure to complete the merger could adversely affect the market price of our common stock and our future business and financial results. There can be no assurance that the conditions to closing of the merger will be satisfied or waived or that the merger will be completed. If the merger is not completed, our ongoing business could be adversely affected and we will be subject to a variety of risks associated with the failure to complete the merger, including the following: • upon termination of the merger agreement under specified circumstances, we are required to pay Omega a termination fee of $12,250,989; • we will incur certain transaction costs, including legal, accounting, financial advisor, filing, printing and mailing fees, regardless of whether the merger closes; and • the proposed merger, whether or not it closes, will divert the attention of certain management and other key employees from our ongoing business activities, including the pursuit of other opportunities that could be beneficial to us. If the merger is not completed, these risks could materially affect our business and financial results and the market price of our common stock, including to the extent that the current market price of our common stock reflects, and is positively affected by, a market assumption that the merger will be completed.
The merger agreement contains provisions that could discourage a potential competing acquirer from making a favorable proposal to us and, in specified circumstances, could require us to make a substantial termination payment to Omega. The merger agreement contains certain provisions that restrict our ability to solicit, initiate, knowingly encourage or facilitate or, subject to certain exceptions, enter into, continue or otherwise participate or engage in discussions or negotiations with respect to, or enter into any acquisition agreement with respect to, a competing acquisition proposal. In addition, Omega generally has an opportunity to offer to modify the terms of the merger agreement in response to any competing acquisition proposal before our board of directors may withdraw or qualify its recommendation with respect to the merger. We may be required to pay a termination fee of $12,250,989 to Omega in certain circumstances, including under certain circumstances if Omega terminates the merger agreement because our board of directors changes its recommendation with respect to the merger prior to the approval of the merger by our stockholders, we breach the non-solicitation provisions described above or we terminate the merger agreement to enter into a definitive agreement that constitutes a superior proposal. These provisions could discourage a potential competing acquirer or merger partner that might have an interest in acquiring all or a significant portion of us or our assets from considering or proposing such a competing transaction, even if it were prepared to pay consideration with a higher per share cash or market value than the per share market value proposed to be received or realized in the transactions contemplated by the merger agreement with Omega. These provisions also might result in a potential competing acquirer or merger partner proposing to pay a lower price to holders of our common stock than it might otherwise have proposed to pay because of the added expense of the termination payment that may become payable to Omega in certain circumstances under the merger agreement. If the merger agreement is terminated and after the termination we seek another business combination, we may not be able to negotiate a transaction with another party on terms comparable to, or better than, the terms of the transactions contemplated by the merger agreement with Omega.
The pendency of the merger could adversely affect our business and operations. In connection with the pending merger, some tenants, operators, borrowers, managers or vendors may react unfavorably or delay or defer decisions concerning their business relationships or transactions with us, which could adversely affect our revenues, earnings, funds from operations, cash flows and expenses, regardless of whether the merger is completed. In addition, due to certain restrictions in the merger agreement on the conduct of our business prior to completing the merger, we may be unable (without Omega’s prior written consent), during the pendency of the merger, to pursue strategic transactions, undertake significant capital projects, undertake certain significant financing transactions and otherwise pursue other actions, even if such actions would prove beneficial and may cause us to forego certain opportunities each might otherwise pursue absent the merger agreement. In addition, the pendency of the merger may make it more difficult for us to effectively retain and incentivize key personnel and may cause distractions from our strategy and day-today operations for its current employees and management.
17 Securities class action, derivative and other lawsuits could result in substantial costs and may delay or prevent the merger from being completed. Securities class action, derivative and other lawsuits are often brought against companies that have entered into merger agreements. In particular, on February 21, 2019 and February 22, 2019, two purported stockholders of the Company filed separate lawsuits against the Company, its board of directors and Omega relating to the merger. For additional information, see Item 3, “Legal Proceedings.” Even if the lawsuits are without merit, defending against these claims can result in substantial costs and divert management time and resources, which could adversely affect the operation of our business. There can be no assurances as to the outcome of such lawsuits, including the amount of costs associated with defending these claims or any other liabilities that may be incurred in connection with the litigation of these claims. Additionally, if a plaintiff is successful in obtaining an injunction prohibiting consummation of the merger on the agreed-upon terms, such an injunction may delay or prevent the merger from being completed, which may adversely affect our business, financial position and results of operation.
Risks Related to Our Business and Growth Strategy
Our growth will depend upon future acquisitions of healthcare properties, and we may be unsuccessful in identifying, financing and consummating attractive acquisitions or taking advantage of other investment opportunities, which would impede our growth and negatively affect our cash available for distribution to stockholders. Our ability to continue to expand through acquisitions is integral to our business strategy and requires that we identify, finance and consummate suitable acquisition or investment opportunities that meet our investment criteria and are compatible with our growth strategy. We may not be successful in identifying, financing and consummating acquisitions or investments in healthcare properties that meet our investment criteria, which would impede our growth. Our ability to acquire healthcare properties on favorable terms, or at all, may be adversely affected by the following significant factors: • competition from other real estate investors, including public and private REITs, private equity investors and institutional investment funds, many of whom may have greater financial and operational resources and lower costs of capital than we have and may be able to accept more risk than we can prudently manage; • competition from other potential acquirers, which could significantly increase the purchase prices for properties we seek to acquire; • challenges in obtaining off-market or target-marketed deal flow in the future or on a consistent basis, which could adversely affect our ability to locate and acquire healthcare properties at attractive prices and could materially impede our growth; • we may incur significant costs and divert management attention in connection with evaluating and negotiating potential acquisitions, including ones that we are subsequently unable to complete; • non-competition provisions in our lease with the Baylor Lessee for Lakeway Hospital, which, among other things, prohibits us from acquiring or leasing any acute care hospitals or ambulatory surgery centers within a 30-mile radius of Lakeway Hospital or a ten-mile radius of certain other acute care hospitals and ambulatory surgery centers operated by the Baylor Lessee or its affiliates; • even if we enter into agreements for the acquisition of properties, these agreements are subject to customary closing conditions, including the satisfactory results of our due diligence investigations; and • we may be unable to obtain debt or equity financing or to otherwise finance acquisitions on favorable terms, or at all. Our access to capital in order to fund future acquisitions and investments in the near term is limited due to, among other things, the restrictions on the use of proceeds from borrowings under the Credit Agreement (as defined below) for our secured credit facility and the borrowing base availability thereunder. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Credit Agreement” and “—Management’s Assessment of Future Borrowing Base Availability and Future Plans.” Our failure to identify, finance and consummate attractive acquisitions or take advantage of other investment opportunities without substantial expense, delay or other operational or financial problems, would impede our growth and negatively affect our results of operations and cash available for distribution to our stockholders.
Certain tenants/operators in our portfolio account for a significant percentage of the rent generated from our portfolio, and the failure of any of these tenants/operators to meet their obligations to us could materially and adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders. The successful performance of our real estate investments is materially dependent on the financial stability of our tenants/operators. Approximately 73.6% of the consolidated revenues (rental income and interest on mortgage notes and notes receivable) for the year ended December 31, 2018 was generated by Baylor Scott & White (25.6%), Fundamental Healthcare (17.2%), Vibra Healthcare (15.8%) and Life Generations (15.0%). In addition, our lease with Creative Solutions for the Texas Ten Portfolio,
18 which commenced on January 1, 2019, provides for initial annual base rent of approximately $7.7 million. Lease payment defaults by Baylor Scott & White, Life Generations, Fundamental Healthcare, Vibra Healthcare, Creative Solutions or other significant tenants/operators or declines in their operating performance could materially and adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders. For example, total base rent due under the Prior Texas Ten Tenant’s lease for the year ended December 31, 2018 was approximately $12.9 million, of which we collected and recognized as revenue only approximately $6.9 million, which included the application of security deposits held by the Company equal to two months of base rent, as a result of ongoing operational issues with the Prior Texas Ten Tenant. If the property is subject to a mortgage, a default by a significant tenant/operator on its lease payments to us or a significant decline in operating performance at a facility may result in a foreclosure on the property if we are unable to find an alternative source of revenue to meet mortgage payments. In the event of a tenant/operator default, we may experience delays in enforcing our rights as landlord and may incur substantial costs in protecting our investment and re-leasing our property. Further, we cannot assure you that we will be able to re-lease the property for the rent previously received, or at all, or that lease terminations will not cause us to sell the property at a loss. The result of any of the foregoing risks could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
Our healthcare properties and tenants/operators may be unable to compete successfully. We expect our healthcare properties often will face competition from nearby hospitals and other healthcare properties that provide comparable services. Some of those competing facilities are owned by governmental agencies and supported by tax revenues, and others are owned by nonprofit corporations and may be supported to a large extent by endowments and charitable contributions. These types of support are not available to our properties. Similarly, our tenants/operators may face competition from other medical practices in nearby hospitals and other medical facilities, including newer healthcare facilities. Our tenants/operators’ failure to compete successfully with these other practices could adversely affect the operating performance of our facilities. Further, from time to time and for reasons beyond our control, referral sources, including physicians and managed care organizations, may change their lists of hospitals or physicians to which they refer patients. This could also materially and adversely affect our tenants’/operators’ ability to meet our operating performance expectations and make rental payments to us or, if we lease properties to our TRS, our TRS’s ability to make rental payments to us, which, in turn, could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
We may have difficulty finding suitable replacement tenants in the event of a tenant default or non-renewal of our leases. We cannot predict whether our tenants will renew existing leases beyond their current terms. If any of our leases are not renewed upon expiration, we would attempt to lease those properties to another tenant. In case of non-renewal, we generally expect to have advance notice before expiration of the lease term to arrange for repositioning of the properties and our tenants are required to continue to perform all of their obligations (including the payment of all rental amounts) for the non-renewed assets until such expiration. However, following expiration of a lease term or if we exercise our right to replace a tenant in default, rental payments on the related properties could decline or cease altogether while we reposition the properties with a suitable replacement tenant. We also might not be successful in identifying suitable replacement tenants or entering into leases with new tenants on a timely basis or on terms as favorable to us as our current leases, or at all. For example, our new lease with Creative Solutions for the Texas Ten Portfolio provides for initial annual base rent of approximately $7.7 million, compared to approximately $12.9 million of total base rent that was due under the lease with the Prior Texas Ten Tenant for the year ended December 31, 2018. In addition, we may be required to fund certain expenses and obligations (e.g., real estate taxes, debt costs and maintenance expenses) to preserve the value of, and avoid the imposition of liens on, our properties while they are being repositioned. Our ability to reposition our properties with a suitable tenant could be significantly delayed or limited by state licensing, receivership, certificate of need or other laws, as well as by the Medicare and Medicaid change-of- ownership rules. We could also incur substantial additional expenses in connection with any licensing, receivership or change-of-ownership proceedings. In addition, our ability to locate suitable replacement tenants could be impaired by the specialized healthcare uses or contractual restrictions on use of the properties, and we may be required to spend substantial amounts to adapt the properties to other uses. Any such delays, limitations and expenses could adversely impact our ability to collect rent, obtain possession of leased properties or otherwise exercise remedies for tenant default and could have a material adverse effect on us. In addition, if we are unable to re-let the properties to healthcare operators with the expertise necessary to operate the type of properties in which we invest, we may be forced to sell the properties at a loss due to the repositioning expenses likely to be incurred by potential purchasers. All of these risks may be greater in smaller markets, where there may be fewer potential replacement tenants, making it more difficult to replace tenants, especially for specialized space, and could have a material adverse effect on us.
19 Our tenant at Lakeway Hospital has an option to purchase the property from us beginning after the third year of the lease term and has a right of first refusal and a right of first offer in the event that we intend to sell or otherwise transfer Lakeway Hospital, which could have an adverse effect on our business, results of operations and ability to make distributions to stockholders. We own a 51% interest in a consolidated partnership, or the Lakeway Partnership, that owns Lakeway Hospital and are lender to the Lakeway Partnership of a $73.0 million intercompany mortgage loan that is secured by Lakeway Hospital and bears interest at 8.0% per annum. The lease for Lakeway Hospital contains an option for the Baylor Lessee to purchase Lakeway Hospital commencing after the completion of the third year of the lease term for a purchase price of not less than approximately $203.6 million. If the purchase option is exercised, we may not be able to re-invest the expected net proceeds from the sale to us of not less than approximately $137 million on as favorable terms in a timely manner, or at all, and our operating results will be negatively impacted while we seek to reinvest the net proceeds from the sale. In addition, the Baylor Lessee has a right of first refusal and a right of first offer in the event that we intend to sell or otherwise transfer Lakeway Hospital, which could limit third-party offers for the property, inhibit our ability to sell the property or adversely affect the timing of any sale of the property and our ability to obtain the highest price possible in the event that we decide to market or sell the property.
Recently developed properties may take longer than expected to achieve stabilized operating levels, if at all, which could adversely affect our business and results of operations. Recently developed properties, such as Mountain’s Edge Hospital, may take longer than expected to achieve stabilized operating levels, if at all. To the extent such facilities fail to reach stabilized operating levels or achieve stabilization later than expected, it could materially and adversely affect our tenants’ abilities to make payments to us under their leases and thus adversely affect our business and results of operations.
A high concentration of our properties in a particular facility type magnifies the effects of events that may adversely impact this particular facility type. We intend to acquire income-producing healthcare properties diversified by facility type. However, approximately 81.1% of our consolidated rental income for the year ended December 31, 2018 was derived from skilled nursing facilities (30.8%), acute care hospitals (37.5%), and long term acute care hospitals (12.8%). As such, any adverse situation that disproportionately affects these facility types would have a magnified adverse effect on our portfolio.
Properties in Texas, California and Nevada accounted for approximately 88.7% of the consolidated rental income from our portfolio for the year ended December 31, 2018. For the year ended December 31, 2018, approximately 88.7% of our consolidated rental income was derived from properties located in Texas (48.0%), California (26.5%) and Nevada (14.2%). As a result of this geographic concentration, we are particularly exposed to downturns in the economies of, as well as other changes in the real estate and healthcare industries in, these geographic areas. Any material change in the current payment programs or regulatory, economic, environmental or competitive conditions in these geographic areas could have a disproportionate effect on our overall business results. In the event of negative economic or other changes in these geographic areas, our business, financial condition, results of operations and ability to make distributions to our stockholders may be adversely affected.
Our real estate investments are, and are expected to continue to be, concentrated in healthcare properties, which could adversely affect our operations relative to a more diversified portfolio of assets. We invest in a diversified mix of healthcare facilities and healthcare-related real estate debt investments. We are subject to risks inherent in concentrating investments in real estate, and the risks resulting from a lack of diversification may become even greater as a result of our business strategy to concentrate our investments in the healthcare sector. Any adverse effects that result from these risks could be more pronounced than if we diversified our investments outside of healthcare properties. Given our concentration in this sector, our tenant base is especially concentrated and dependent upon the healthcare industry generally, and any industry downturn or negative regulatory or governmental development could adversely affect the ability of our tenants to make lease payments and our ability to maintain current rental and occupancy rates. Our tenant mix could become even more concentrated if a significant portion of our tenants practice in a particular medical field or are reliant upon a particular healthcare delivery system. Accordingly, a downturn in the healthcare industry generally, or in the healthcare related facility specifically, could adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
Failure to succeed in investing in or acquiring different types of healthcare facilities or facilities in different geographic markets may have adverse consequences. We have invested in or acquired in the past, and we may invest in or acquire in the future if appropriate opportunities arise, types of healthcare facilities that are different than those we have previously invested in or acquired. Investing in or acquiring different types of healthcare facilities exposes us to a variety of risks, including difficulty evaluating the market conditions and industry trends specific to such facilities, evaluating quality tenants for such facilities and understanding rules and regulations specific to such
20 facilities. As a result, we may not be successful in investing in or acquiring types of healthcare facilities that are different than those we have previously invested in or acquired. In addition, we may look to expand into geographic markets across the United States beyond our existing markets. Investing in or acquiring facilities located in different geographic areas in the United States exposes us to further risks, such as lack of experience with the governmental and private third-party payors in such areas, lack of familiarity with the local market conditions and trends, difficulty in developing new business relationships in such areas and competition with other companies that already have an established presence in such areas. Our failure to succeed in investing in or acquiring different types of healthcare facilities or expanding into different geographic markets could materially and adversely impact our business, financial condition, results of operations and ability to make distributions to our stockholders.
We depend on key personnel whose continued service is not guaranteed and each of whom would be difficult to replace. We depend on the efforts and expertise of Mr. McRoberts, our chief executive officer and chairman of our board of directors, Mr. Harlan, our president and chief operating officer and member of our board of directors, and Mr. Walraven, our chief financial officer, to execute our business strategy. If one or more of these individuals were to no longer be employed by us, we may be unable to find suitable replacements. If we were to lose the services of one or more of our executive officers and were unable to find suitable replacements, our business, financial condition, results of operations and ability to make distributions to our stockholders could be materially and adversely affected.
Our growth depends on external sources of capital that are outside of our control and may not be available to us on commercially reasonable terms or at all, which could limit our ability, among other things, to meet our capital and operating needs or make the cash distributions to our stockholders necessary to maintain our qualification as a REIT. In order to maintain our qualification as a REIT, we are required under the Code, among other things, to distribute annually at least 90% of our REIT taxable income, determined without regard to the dividends paid deduction and excluding any net capital gain. In addition, we will be subject to income tax at regular corporate rates to the extent that we distribute less than 100% of our REIT taxable income, including any net capital gains. Because of these distribution requirements and the lack of otherwise available cash or cash equivalents, we may not be able to fund future capital needs, including any necessary acquisition financing, from operating cash flow. Consequently, we intend to rely on third-party sources to fund our capital needs. We may not be able to obtain such financing on favorable terms or at all. Our access to capital in the near term is limited due to, among other things, the restrictions on the use of proceeds from borrowings under the Credit Agreement for our secured credit facility and the borrowing base availability thereunder. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Credit Agreement” and “—Management’s Assessment of Future Borrowing Base Availability and Future Plans.” Any additional debt we incur will increase our leverage and likelihood of default, and any equity capital we may issue or sell to fund any such liquidity needs could be dilutive to your investment in us or to our net asset value. Our access to third-party sources of capital depends, in part, on: • general market conditions; • the market’s perception of our business and growth potential; • our current debt levels; • our current and expected future earnings; • our cash flow and cash distributions; and • the market price per share of our common stock. If we cannot obtain capital from third-party sources, we may not be able to acquire or develop properties when strategic opportunities exist, meet the capital and operating needs of our existing properties, satisfy our debt service obligations or make the cash distributions to our stockholders necessary to maintain our qualification as a REIT.
We may be unable to secure funds for future capital improvements, which could limit our ability to attract or replace tenants/operators, which, in turn, could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. Although under our typical lease structure our operators generally are responsible for capital improvement expenditures, it is possible that an operator may not be able to fulfill its obligations to keep the facility in good operating condition. Further, we may be responsible for capital improvement expenditures on such facilities after the terms of the triple-net leases expire. In addition, when tenants/operators do vacate their space, it is common that, in order to attract replacement tenants/operators, we will be required to expend substantial funds for improvements and, for our leased properties, leasing commissions related to the vacated space. Such improvements may require us to incur substantial capital expenditures. If we have not established capital reserves for such capital improvements, we will have to obtain financing from other sources, which may not be available on attractive terms or at all. We may
21 also have future financing needs for other capital improvements to refurbish or renovate our properties. If we need to secure financing sources for capital improvements in the future, but are unable to secure such financing or are unable to secure financing on terms we feel are acceptable, we may be unable to make capital improvements or we may be required to defer such improvements. If this happens, it may cause one or more of our properties to suffer from a greater risk of obsolescence or a decline in value, or a greater risk of decreased cash flows as a result of fewer potential tenants/operators being attracted to the property or existing tenants/operators not renewing their leases or operating agreements, as the case may be. If we do not have access to sufficient funding in the future, we may not be able to make necessary capital improvements to our properties, which, in turn, could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
We face potential adverse consequences of bankruptcy or insolvency by our tenants, operators, borrowers, managers and other obligors. We are exposed to the risk that our tenants, operators, borrowers, managers or other obligors could become bankrupt or insolvent. Although our lease, loan and management agreements will provide us with the right to exercise certain remedies in the event of default on the obligations owing to us or upon the occurrence of certain insolvency events, the bankruptcy and insolvency laws afford certain rights to a party that has filed for bankruptcy or reorganization. For example, a debtor-lessee may reject its lease with us in a bankruptcy proceeding. In such a case, our claim against the debtor-lessee for unpaid and future rents would be limited by the statutory cap of the U.S. Bankruptcy Code. This statutory cap could be substantially less than the remaining rent actually owed under the lease, and any claim we have for unpaid rent might not be paid in full. In addition, a debtor-lessee may assert in a bankruptcy proceeding that its lease should be re-characterized as a financing agreement. If such a claim is successful, our rights and remedies as a lender, compared to a landlord, are generally more limited. In the event of an obligor bankruptcy, we may also be required to fund certain expenses and obligations (e.g., real estate taxes, debt costs and maintenance expenses) to preserve the value of our properties, avoid the imposition of liens on our properties or transition our properties to a new tenant, operator or manager. As a result, our business, financial condition, results of operations and ability to make distributions to our stockholders could be adversely affected if an obligor becomes bankrupt or insolvent.
Long-term leases may result in below market lease rates over time, which could adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We have entered into long-term leases with tenants/operators at all of our single-tenant properties. Our long-term leases provide for rent to increase over time. However, if we do not accurately judge the potential for increases in market rental rates, we may set the terms of such long-term leases at levels such that even after contractual rental increases, the rent under our long-term leases could be less than then-current market rental rates. Further, we may have no ability to terminate those leases or to adjust the rent to then-prevailing market rates. As a result, our business, financial condition, results of operations and ability to make distributions to our stockholders could be materially and adversely affected.
We may incur additional costs in acquiring or re-leasing properties, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We may invest in properties designed or built primarily for a particular tenant/operator of a specific type of use known as a single-user facility. If the tenant/operator fails to renew its lease or defaults on its lease obligations, we may not be able to readily market a single-user facility to a new tenant/operator without making substantial capital improvements or incurring other significant costs. We also may incur significant litigation costs in enforcing our rights against the defaulting tenant/operator. These consequences could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
Changes in the reimbursement rates or methods of payment from third-party payors, including the Medicare and Medicaid programs, could have a material adverse effect on our tenants and operators and on us. Some of our tenants and operators may rely on reimbursement from third-party payors, including the Medicare and Medicaid programs, for substantially all of their revenues. Federal and state legislators and regulators have adopted or proposed various cost-containment measures that would limit payments to healthcare providers, and budget crises and financial shortfalls have caused states to implement or consider Medicaid rate freezes or cuts. Private third-party payors have also continued their efforts to control healthcare costs. We cannot assure you that adequate reimbursement levels will be available for services to be provided by our tenants and operators that currently depend on Medicare, Medicaid or private payor reimbursement. Regardless of the prevailing political environment in the United States, Medicare, Medicaid and managed care organizations are under increasing pressure to both control healthcare utilization and to limit reimbursement. Significant limits by governmental and private third-party payors on the scope of services reimbursed or on reimbursement rates and fees—whether from sequestration, alternatives to sequestration or future legislation or administrative actions—could have a material adverse effect on the liquidity, financial condition and results of operations of certain of our tenants and operators, which could affect adversely their ability to make rental payments under, and otherwise comply with the terms of, their leases with us.
22 There are inherent risks associated with real estate investments and with the real estate industry, each of which could have an adverse impact on our financial performance and the value of our properties. By owning our common stock, you will be subject to the risks associated with the ownership of real properties, including risks related to: • changes in national, regional and local conditions, which may be negatively impacted by concerns about inflation, deflation, government deficits, high unemployment rates, decreased consumer confidence, liquidity concerns and other adverse business concerns; • changes in local conditions, such as an oversupply of, reduction in demand for, or increased competition among, healthcare properties; • changes in interest rates and the availability of financing; • the attractiveness of our facilities to healthcare providers; and • changes in laws and governmental regulations, including those governing real estate usage, zoning and taxes. Any of these factors could adversely impact our financial performance and the value of our properties.
The illiquidity of real estate investments could significantly impede our ability to respond to changing economic, financial and investment conditions, which could adversely affect our cash flows and results of operations. Real estate investments are relatively illiquid and, as a result, we will have a limited ability to vary our portfolio in response to changes in economic, financial and investment conditions. We will also have a limited ability to sell assets in order to fund working capital and similar capital needs. In addition, healthcare properties are special purpose properties that could not be easily converted to general residential, retail or office use without significant expense. We cannot predict whether we will be able to sell any property for the price or on the terms set by us, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We also cannot predict the length of time needed to find a willing purchaser and to close the sale of a property. We also may be required to expend significant funds to correct defects or to make improvements before a property can be sold, and we cannot assure you that we will have funds available to correct those defects or to make those improvements. Our inability to dispose of assets at opportune times or on favorable terms could adversely affect our cash flows and results of operations. Moreover, the Code imposes restrictions on a REIT’s ability to dispose of properties that are not applicable to other types of real estate companies. In particular, the tax laws applicable to REITs require that we hold our properties for investment, rather than primarily for sale in the ordinary course of business, which may cause us to forego or defer sales of properties that otherwise would be in our best interests. Therefore, we may not be able to vary our portfolio promptly in response to economic or other conditions or on favorable terms, which may adversely affect our cash flows, our ability to make distributions to our stockholders and the market price of our common stock.
We may structure acquisitions of properties in exchange for OP units in our operating partnership on terms that could limit our liquidity or our flexibility or require us to maintain certain debt levels that otherwise would not be required to operate our business. We may acquire certain properties by issuing OP units in our operating partnership in exchange for a property owner contributing property to our operating partnership. If we enter into such transactions, in order to induce the contributors of such properties to accept OP units in our operating partnership, rather than cash, in exchange for their properties, it may be necessary for us to provide them additional incentives. For instance, our operating partnership’s limited partnership agreement provides that any holder of OP units may redeem OP units for cash equal to the value of an equivalent number of shares of our common stock or, at our option, shares of our common stock on a one-for-one basis. Furthermore, we might agree that if distributions the contributor received as a limited partner in our operating partnership did not provide the contributor with a defined return, then upon redemption of the contributor’s OP units we would pay the contributor an additional amount necessary to achieve that return. Such a provision could further negatively impact our liquidity and flexibility. Finally, in order to allow a contributor of a property to defer taxable gain on the contribution of property to our operating partnership, we might agree not to sell a contributed property for a defined period of time or until the contributor exchanged the contributor’s OP units for cash or shares of our common stock. Such an agreement would prevent us from selling those properties, even if market conditions made such a sale favorable to us. Additionally, in connection with acquiring properties in exchange for OP units, we may offer the property owners who contribute such property the opportunity to guarantee debt in order to assist those property owners in deferring the recognition of taxable gain as a result of their contributions. These obligations may require us to maintain more or different indebtedness than we would otherwise require for our business.
If we issue OP units in our operating partnership in exchange for property, the value placed on such units may not accurately reflect their market value, which may dilute your interest in us. If we issue OP units in our operating partnership in exchange for property, the per unit value attributable to such units will be determined based on negotiations with the property seller and, therefore, may not reflect the fair market value of such units if a
23 public market for such units existed. If the value of such units is greater than the value of the related property, your interest in us may be diluted.
We have a limited operating history as a publicly traded company and limited resources and may not be able to successfully operate our business, continue to implement our investment strategy or generate sufficient revenue to make or sustain distributions to stockholders. We cannot assure you that the past experience of our senior management team will be sufficient to successfully operate our company as a publicly traded company. We have a limited operating history as a publicly traded company, and we cannot assure you that the past experience of our senior management team will be sufficient to successfully operate our company as a publicly traded company, including the requirements to timely meet disclosure requirements of the SEC. We are required to develop and implement control systems and procedures in order to satisfy our periodic and current reporting requirements under applicable SEC regulations and comply with the NYSE listing standards, and this transition could place a significant strain on our management systems, infrastructure and other resources. Failure to operate successfully as a public company could have a material adverse effect on our financial condition, results of operations, cash flow and per share trading price of our common stock. In addition, our limited resources may also materially and adversely impact our ability to successfully operate our portfolio or implement our business plan successfully. As a result of our failure to successfully operate our business, implement our investment strategy or generate sufficient revenue to make or sustain distributions to stockholders, the value of your investment could decline significantly or you could lose a portion of or all of your investment. We will continue to incur new costs as a result of being a public company, and such costs may increase if and when we cease to be an “emerging growth company,” which could adversely impact our results of operations. As a public company, we incur significant legal, accounting, insurance and other expenses that we did not incur as a private company, including costs associated with public company reporting requirements of the Exchange Act, the Sarbanes-Oxley Act, the Dodd-Frank Act, the listing requirements of the NYSE and other applicable securities rules and regulations. Compliance with these rules and regulations has increased our legal and financial compliance costs, made some activities more difficult, time-consuming or costly and increased demand on our systems and resources. As a result, our executive officers’ attention may be diverted from other business concerns, which could adversely affect our business and results of operations. In addition, the expenses incurred by public companies generally for reporting and corporate governance purposes have been increasing. We expect compliance with these public reporting requirements and associated rules and regulations to increase expenses, particularly after we are no longer an emerging growth company, although we are currently unable to estimate these costs with any degree of certainty. We could be an emerging growth company until December 31, 2021, although circumstances could cause us to lose that status earlier, which could result in our incurring additional costs applicable to public companies that are not emerging growth companies. In addition, changing laws, regulations and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. These laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a diversion of our executive officers’ time and attention from revenue-generating activities to compliance activities. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us and our business may be adversely affected.
If we fail to maintain effective internal control over financial reporting, we may not be able to accurately report our financial results, which may adversely affect investor confidence in our company and, as a result, the value of our common stock. Our management is responsible for establishing and maintaining adequate internal control over financial reporting. After we are no longer an emerging growth company under the JOBS Act, Section 404 of the Sarbanes-Oxley Act requires our auditors to deliver an attestation report on the effectiveness of our internal control over financial reporting in conjunction with their opinion on our audited financial statements. Substantial work on our part is required to implement appropriate processes, document the system of internal control over key processes, assess their design, remediate any deficiencies identified and test their operation. This process is expected to be both costly and challenging. The existence of any material weakness would preclude a conclusion by management and our independent auditors that we maintained effective internal control over financial reporting. Our management may be required to devote significant time and expense to remediate any material weaknesses that may be discovered and may not be able to remediate any material weakness in a timely manner. The existence of any material weakness in our internal control over financial reporting could also result in errors in our consolidated financial statements that could require us to restate our consolidated financial statements, cause us to fail to meet our reporting obligations and cause investors to lose confidence in our reported financial information, all of which could lead to a decline in the per-share trading price of our common stock.
24 Acquired properties may expose us to unknown liabilities, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We may acquire properties subject to liabilities and without any recourse, or with only limited recourse, against the prior owners or other third parties with respect to unknown liabilities. Unknown liabilities with respect to acquired properties may include, but are not limited to, liabilities for clean-up of undisclosed environmental contamination, liabilities for failure to comply with fire, health, life-safety and similar regulations, claims by tenants, vendors or other persons against the former owners of the properties, liabilities incurred in the ordinary course of business and claims for indemnification by general partners, directors, officers and others indemnified by the former owners of the properties. If a liability were asserted against us based upon ownership of those properties, we might have to pay substantial sums to settle or contest it, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
We face possible liability for environmental cleanup costs and damages for contamination related to properties we acquire, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. Because we own real estate, we are subject to various federal, state and local environmental laws, ordinances and regulations. Under these laws, ordinances and regulations, a current or previous owner or operator of real estate may be liable for the cost of removal or remediation of hazardous or toxic substances on, under or in such property. The costs of removal or remediation could be substantial. Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances. Environmental laws also may impose restrictions on the manner in which property may be used or businesses may be operated, and these restrictions may require substantial expenditures. Environmental laws provide for sanctions in the event of noncompliance and may be enforced by governmental agencies or, in certain circumstances, by private parties. Certain environmental laws and common law principles could be used to impose liability for release of and exposure to hazardous substances, including the release of asbestos-containing materials into the air, and third parties may seek recovery from owners or operators of real estate for personal injury or property damage associated with exposure to released hazardous substances. In addition, new or more stringent laws or stricter interpretations of existing laws could change the cost of compliance or liabilities and restrictions arising out of such laws. The cost of defending against these claims, complying with environmental regulatory requirements, conducting remediation of any contaminated property, or of paying personal injury claims could be substantial, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. In addition, the presence of hazardous substances on a property or the failure to meet environmental regulatory requirements may materially impair our ability to use, lease or sell a property, or to use the property as collateral for borrowing.
The credit agreement for our secured credit facility restricts our use of proceeds from borrowings thereunder, restricts our ability to make distributions to our stockholders and contains other provisions that could adversely affect our business, financial condition, results of operations and the market price of our common stock. Under the Third Credit Amendment (as defined below), the total commitments under the Credit Agreement were reduced from $425 million to $300 million and, as of February 25, 2019, we had $278.8 million in borrowings outstanding under the Credit Agreement. The Third Credit Amendment also restricts our use of proceeds from borrowings under the Credit Agreement to approximately $10.3 million for the remaining funding obligations for the expansion at Mountain’s Edge Hospital and under our construction mortgage loan to Haven Healthcare, unless approved by lenders representing two-thirds of the outstanding commitments under the Credit Agreement. This reduction in the commitments under the Credit Agreement and the use of proceeds from borrowings thereunder significantly limits our access to capital under the Credit Agreement to fund future acquisitions and investments. In addition, the Third Credit Amendment prohibits us from declaring or paying any dividend on or prior to June 30, 2019, other than, subject to certain conditions, (i) a dividend to our common stockholders attributable to the fourth quarter of 2018 not to exceed $0.21 per share, with payment conditioned upon approval by our stockholders of the merger with Omega, and (ii) the pre-closing dividend pursuant to the terms of the merger agreement with Omega. After June 30, 2019, the Credit Agreement limits our distributions to stockholders to 95% of funds from operations (as defined in the Credit Agreement), unless we are in default under the Credit Agreement, in which case we are limited to making distributions necessary to maintain our status as a REIT under the Code. These restrictions may reduce the amount of distributions we otherwise would make to stockholders. The amount available to borrow under the Credit Agreement is limited according to a borrowing base valuation of assets owned by subsidiaries of our operating partnership. Upon expiration of the extension of the borrowing base availability included in the Third Credit Amendment on June 30, 2019, we expect to have approximately $12.0 million in excess borrowings over the estimated borrowing base availability at that date. We can provide no assurances that we will have cash on hand or access to capital on attractive terms, or at all, in order to pay down the outstanding borrowings to an amount below our borrowing base availability at that time. We also can provide no assurances that the lenders would agree to an additional modification of the Credit Agreement to remedy any excess borrowings. The Credit Agreement contains customary representations and warranties and financial and other affirmative and negative covenants. The Credit Agreement also contains customary events of default, in certain cases subject to customary periods to cure,
25 including among others, nonpayment of principal or interest, material breach of representations and warranties and failure to comply with covenants. In addition, it will constitute an event of default under the Credit Agreement if any two of our three executive officers leave our company and are not replaced by an executive officer reasonably acceptable to the lenders within 90 days of such departure. The occurrence of an event of default under the Credit Agreement, following any applicable cure period, would permit the lenders to, among other things, declare the unpaid principal, accrued and unpaid interest and all other amounts payable under the Credit Agreement to be immediately due and payable, the funds for which may not be available to us on attractive terms, or at all, which could result in foreclosure on the equity interests in our subsidiaries that are pledged as collateral under the Credit Agreement. The result of any of the foregoing risks could materially and adversely affect our business, financial condition, results of operations, ability to make distributions to our stockholders and the market price of our common stock.
We intend to continue to incur mortgage indebtedness and other borrowings, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We have financed and intend to continue to finance a portion of the purchase price of our investments in real estate and real estate-related investments by borrowing funds. As of February 25, 2019, we had $278.8 million of debt outstanding, all of which was under our secured credit facility. Certain of our properties have been pledged as collateral for our secured credit facility. In the future, we may incur mortgage debt and pledge some or all of our real estate as security for that debt to obtain funds to acquire additional real estate or for working capital. We also may borrow funds to satisfy the REIT qualification requirement that we distribute at least 90% of our annual REIT taxable income to our stockholders. When providing financing, a lender may impose restrictions on us that affect our ability to incur additional debt and affect our distribution and operating strategies. Loan documents we enter into may contain covenants that limit our ability to further mortgage the property, discontinue insurance coverage, or replace certain members of our management team. These or other limitations may adversely affect our flexibility and our ability to achieve our investment objectives. High debt levels may cause us to incur higher interest charges, which would result in higher debt service payments and lower amounts available for distributions to our stockholders. In addition, incurring mortgage debt increases the risk of loss since defaults on indebtedness secured by a property may result in lenders initiating foreclosure actions. In that case, we could lose the property securing the loan that is in default. For tax purposes, a foreclosure on any of our properties will be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property, we will recognize taxable income on foreclosure, but we would not receive any cash proceeds. We may give full or partial guarantees to lenders of mortgage debt to the entities that own our properties. When we give a guaranty on behalf of an entity that owns one of our properties, we will be responsible to the lender for satisfaction of the debt if it is not paid by such entity. If any mortgage contains cross collateralization or cross default provisions, a default on a single property could affect multiple properties. If any of our properties are foreclosed upon due to a default, our business, financial condition, results of operations and ability to make distributions to our stockholders may be materially and adversely affected.
Higher interest rates could increase our interest expense and may make it more difficult for us to finance acquisitions or refinance existing debt, which could reduce the number of properties we can acquire or require us to sell properties on terms that are not advantageous to us, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We currently have, and may incur in the future, debt that bears interest at variable rates. An increase in interest rates would increase our interest expense to the extent we have not effectively hedged against such increase, which could adversely affect our results of operations. In addition, an increase in interest rates would increase the costs of financing acquisitions, which could limit our growth prospects, and of refinancing existing debt, which would increase our interest expense and could adversely affect our cash flow and our ability to service our debt. If we are unable to refinance debt on favorable terms, or at all, due to higher interest rates or other factors, we may be forced to sell properties on terms that are not advantageous to us. If any of these events occur, our business, financial condition, results of operations and ability to make distributions to our stockholders may be materially and adversely affected.
Failure to hedge effectively against interest rate changes may materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. Subject to maintaining our qualification as a REIT for U.S. federal income tax purposes and our exemption from registration under the 1940 Act, we seek to manage and mitigate our exposure to interest rate risk attributable to variable-rate debt by using interest rate swap arrangements, interest rate cap agreements and other derivatives. The goal of our interest rate management strategy is to minimize or eliminate the effects of interest rate changes on the value of our assets, to improve risk-adjusted returns and, where possible, to lock in, on a long-term basis, a favorable spread between the yield on our assets and the cost of financing such assets. However, these derivatives themselves expose us to various risks, including the risk that: (i) counterparties may fail to honor their obligations under these arrangements; (ii) the credit quality of the counterparties owing money under these arrangements may be downgraded to such an extent that it impairs our ability to sell or assign our side of the hedging transactions; (iii) the duration of the
26 hedging transactions may not match the duration of the related liability; (iv) these arrangements may not be effective in reducing our exposure to interest rate changes; and (v) these arrangements may actually result in higher interest rates than we would otherwise have. Moreover, no hedging activity can completely insulate us from the risks associated with changes in interest rates. Failure to hedge effectively against interest rate changes may materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
Our costs associated with complying with the Americans with Disabilities Act may materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. Under the ADA, all places of public accommodation are required to comply with federal requirements related to access and use by disabled persons. The ADA has separate compliance requirements for “public accommodations” and “commercial facilities” that generally require that buildings and services be made accessible and available to people with disabilities. The ADA’s requirements could require removal of access barriers and could result in the imposition of injunctive relief, monetary penalties or, in some cases, an award of damages. We attempt to acquire properties that comply with the ADA or place the burden on the seller or other third party, such as a tenant/operator, to ensure compliance with the ADA. However, we cannot assure you that we will be able to acquire properties or allocate responsibilities in this manner. If we cannot, our costs associated with ADA compliance could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
We may obtain only limited warranties when we purchase a property and would have only limited recourse in the event that our due diligence did not identify any issues that lower the value of our property. The seller of a property often sells such property in its “as is” condition on a “where is” basis and “with all faults,” without any warranties of merchantability or fitness for a particular use or purpose. In addition, purchase and sale agreements may contain only limited warranties, representations and indemnifications that will only survive for a limited period after the closing. The purchase of properties with limited warranties increases the risk that we may lose some or all of our invested capital in the property, as well as the loss of rental income from that property which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. Acquiring or attempting to acquire multiple properties in a single transaction may materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. From time to time, we may acquire multiple properties in a single transaction. Portfolio acquisitions may be more complex and expensive than single-property acquisitions, and the risk that a multiple-property acquisition does not close may be greater than in a single-property acquisition. Portfolio acquisitions may also result in our owning investments in geographically dispersed markets, placing additional demands on our ability to manage the properties in the portfolio. In addition, a seller may require that a group of properties be purchased as a package even though we may not want to purchase one or more properties in the portfolio. In these situations, if we are unable to identify another person or entity to acquire the unwanted properties, we may be required to operate or attempt to dispose of these properties. Moreover, our ability to dispose of properties could be limited by our intention to avoid any “dealer sale” that could be subject to the 100% REIT prohibited transaction tax. To acquire multiple properties in a single transaction, we may be required to accumulate a large amount of cash. We would expect the returns that we earn on such cash to be less than the ultimate returns on real property. Any of the foregoing events may have a material adverse effect on our business, financial condition, results of operations and ability to make distributions to our stockholders.
Uninsured losses relating to real estate and lender requirements to obtain insurance may materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. There are types of losses relating to real estate, generally catastrophic in nature, such as losses due to wars, acts of terrorism, earthquakes, floods, hurricanes, pollution or environmental matters, for which we do not intend to obtain insurance unless we are required to do so by mortgage lenders. If any of our properties incurs a casualty loss that is not fully covered by insurance, the value of our assets will be reduced by any such uninsured loss. In addition, other than any reserves we may establish, we have no source of funding to repair or reconstruct any uninsured damaged property, and we cannot assure you that any such sources of funding will be available to us for such purposes in the future. Also, to the extent we must pay unexpectedly large amounts for uninsured losses, we could suffer reduced earnings. In cases where we are required by mortgage lenders to obtain casualty loss insurance for catastrophic events or terrorism, such insurance may not be available, or may not be available at a reasonable cost, which could inhibit our ability to finance or refinance our properties. Additionally, if we obtain such insurance, the costs associated with owning a property would increase. If any one of the events described above were to occur, it could have a material adverse effect on our business, financial condition, results of operations and ability to make distributions to our stockholders.
27 Uncertain market conditions relating to the future disposition of properties could cause us to sell our properties at a loss in the future, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We intend to hold our various real estate investments until such time as we determine that a sale or other disposition appears to be advantageous to achieve our investment objectives. Our management, subject to the oversight and approval of our board of directors, may exercise its discretion as to whether and when to sell a property, and we will have no obligation to sell properties at any particular time. We generally intend to hold properties for an extended period of time, and we cannot predict with any certainty the various market conditions affecting real estate investments that will exist at any particular time in the future. Additionally, we may incur prepayment penalties in the event we sell a property subject to a mortgage earlier than we otherwise had planned. Because of the uncertainty of market conditions that may affect the future disposition of our properties, and the potential payment of prepayment penalties upon such disposition, we cannot assure you that we will be able to sell our properties at a profit in the future, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
If we sell properties by providing financing to purchasers, defaults by the purchasers could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. If we decide to sell any of our properties, we intend to use our best efforts to sell them for cash. However, in some instances we may sell our properties by providing financing to purchasers. When we provide financing to purchasers, we will bear the risk that the purchaser may default on its obligations under the financing. Even in the absence of a purchaser default, the distribution of sale proceeds, or their reinvestment in other assets, will be delayed until the promissory notes or other property we may accept upon the sale are actually paid, sold, refinanced or otherwise disposed of. In some cases, we may receive initial down payments in cash and other property in the year of sale in an amount less than the selling price, and subsequent payments will be spread over a number of years. If any purchaser defaults under a financing arrangement with us, it could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
The loans that we have made and may make or purchase in the future may be impacted by unfavorable real estate market conditions, which could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. As of December 31, 2018, we had six healthcare-related debt investments in an aggregate amount of $52.0 million. We may make or purchase additional loans in the future. Such investments involve special risks relating to the particular borrower, and we are at risk of loss on those investments, including losses as a result of defaults on the loans. These losses may be caused by many conditions beyond our control, including economic conditions affecting real estate values, tenant/operator defaults and lease expirations, interest rate levels and the other economic and liability risks associated with real estate. If we acquire property by foreclosure following defaults under our mortgage loans, we will have the economic and liability risks as the owner of such property. We do not know whether the values of the healthcare property securing any of our mortgage loans will remain at the levels existing on the dates we initially made or purchased the mortgage loan. If the values of the underlying healthcare properties drop or the borrower defaults, our business, financial condition, results of operations and ability to make distributions to our stockholders may be materially and adversely affected.
We may be unable to successfully foreclose on the collateral securing our real estate-related loans and other investments we intend to make, and, even if we are successful in our foreclosure efforts, we may be unable to successfully sell any acquired equity interests or reposition any acquired properties, which may adversely affect our ability to recover our investments. If a borrower defaults under mortgage or other secured loans for which we are the lender, we may attempt to foreclose on the collateral securing those loans, including by acquiring the pledged equity interests or acquiring title to the subject properties, to protect our investment. In response, the defaulting borrower may contest our enforcement of foreclosure or exercise other available remedies, seek bankruptcy protection against our exercise of enforcement or other available remedies, or bring claims against us for lender liability. If a defaulting borrower seeks bankruptcy protection, the automatic stay provisions of the U.S. Bankruptcy Code would preclude us from enforcing foreclosure or other available remedies against the borrower unless relief is first obtained from the court with jurisdiction over the bankruptcy case. In addition, we are, and in the future may be, subject to intercreditor agreements that delay, impact, govern or limit our ability to foreclose on a lien securing a loan or otherwise delay or limit our pursuit of our rights and remedies. Any such delay or limit on our ability to pursue our rights or remedies could materially and adversely affect our business, results of operations and ability to make distributions to our stockholders. Even if we successfully foreclose on the collateral securing our mortgage loans and other investments, foreclosure-related costs, high loan-to-value ratios or declines in equity or property value could prevent us from realizing the full amount of our secured loans, and we could be required to write the asset down to its fair value and record an impairment charge for such losses. Moreover, we may acquire equity interests that we are unable to sell due to securities law restrictions or otherwise, and we may acquire title to properties that we are unable to reposition with new tenants or operators on a timely basis, if at all, or without making improvements or repairs to the properties at a significant expense. Any delay or costs incurred in repositioning the properties could adversely affect our ability to recover our investments.
28 The terms of joint venture agreements or other joint ownership arrangements into which we may enter could impair our operating flexibility and could adversely affect our business, financial condition, results of our operations and ability to make distributions to our stockholders. We may enter into joint ventures with affiliates and/or third parties to acquire or improve properties. We may also purchase properties in partnerships or other co-ownership arrangements. For example, we own Lakeway Hospital through the Lakeway Partnership, a consolidated partnership between us and local physicians and non-physician investors, and our partner’s approval is required for certain actions, including a sale or other disposition of a material part of Lakeway Hospital, incurring or modifying debt in excess of certain amounts (including modifying, prepaying or refinancing our mortgage loan to the Lakeway Partnership) and admitting additional partners or transferring existing interests in the Lakeway Partnership. Such joint ventures, partnerships or other ownership arrangements may involve risks not otherwise present when acquiring real estate directly, including the following: • a co-venturer, co-owner or partner may have certain approval rights over major decisions, which may prevent us from taking actions that are in our best interest but opposed by our partners, co-owners or co-venturers; • a co-venturer, co-owner or partner may at any time have economic or business interests or goals, which are, or become, inconsistent with our business interests or goals, including inconsistent goals relating to the sale of properties held in the joint venture, refinancing debt of the joint venture or the timing of termination or liquidation of the joint venture; • a co-venturer, co-owner or partner in an investment may become insolvent or bankrupt (in which event we and any other remaining partners or members would generally remain liable for the liabilities of the partnership or joint venture); • we may incur liabilities as a result of an action taken by our co-venturer, co-owner or partner; • a co-venturer, co-owner or partner may be in a position to take actions contrary to our instructions or requests or contrary to our policies or objectives, including our policy with respect to maintaining our qualification as a REIT; • agreements governing joint ventures, limited liability companies and partnerships often contain restrictions on the transfer of a member’s or partner’s interest or “buy-sell” or other provisions that may result in a purchase or sale of the interest at a disadvantageous time or on disadvantageous terms; • disputes between us and our joint venture partners may result in litigation or arbitration that would increase our expenses and prevent our officers and directors from focusing their time and effort on our business and result in subjecting the properties owned by the applicable joint venture to additional risk; and • that under certain joint venture arrangements, neither joint venture partner may have the power to control the venture, and an impasse could be reached, which might have a negative influence on the joint venture. If any of the foregoing were to occur, our financial condition, results of operations and cash available for distribution to our stockholders could be adversely affected. A cybersecurity incident and other technology disruptions could result in a violation of law or negatively impact our reputation and relationships with our tenants/operators, any of which could have a material adverse effect on our results of operations and our financial condition. Information and security risks have generally increased in recent years due to the rise in new technologies and the increased sophistication and activities of perpetrators of cyber-attacks. We use computers in substantially all aspects of our business operations, and we also use mobile devices and other online activities to connect with our employees and our tenants/operators. Such uses give rise to cybersecurity risks, including security breach, espionage, system disruption, theft and inadvertent release of information. Our business involves the storage and transmission of numerous classes of sensitive and/or confidential information, including business, financial and strategic information about our tenants/operators and us. If we fail to assess and identify cybersecurity risks associated with our operations, we may become increasingly vulnerable to such risks. Even the most well protected information, networks, systems and facilities remain potentially vulnerable because the techniques used in such attempted security breaches evolve and generally are not recognized until launched against a target, and in some cases are designed not to be detected and, in fact, may not be detected. Accordingly, we may be unable to anticipate these techniques or to implement adequate security barriers or other preventative measures, and thus it is impossible for us to entirely mitigate this risk. Further, in the future we may be required to expend additional resources to continue to enhance information security measures and/or to investigate and remediate any information security vulnerabilities. We can provide no assurances that the measures we have implemented to prevent security breaches and cyber incidents will be effective in the event of a cyber-attack. The theft, destruction, loss, misappropriation or release of sensitive and/or confidential information, or interference with our information technology systems or the technology systems of third-parties on which we rely, could result in business disruption, negative publicity, violation of privacy laws, loss of tenants, potential liability and competitive disadvantage, any of which could result in a material adverse effect on financial condition or results of operations.
29 Risks Related to the Healthcare Industry Adverse trends in healthcare provider operations may negatively affect the operations at our properties, which in turn, could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. We believe the healthcare industry is currently experiencing the following trends: • changes in the demand for and methods of delivering healthcare services; • changes in third-party reimbursement policies; • increased expense for uninsured patients; • increased competition among healthcare providers; • increased liability insurance expense; • continued pressure by private and governmental payors to reduce payments to providers of services; and • increased scrutiny of billing, referral and other practices by federal and state authorities and private insurers. These factors may materially and adversely affect the economic performance of some or all of our tenants/operators, which in turn could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders.
Our tenants, operators, borrowers, guarantors and managers and we may be adversely affected by healthcare regulation and enforcement. The regulatory environment of the long-term healthcare industry has generally intensified over time both in the amount and type of regulations and in the efforts to enforce those regulations. The extensive federal, state and local laws and regulations affecting the healthcare industry include those relating to, among other things, licensure, conduct of operations, ownership of facilities, addition of facilities and equipment, allowable costs, services, prices for services, qualified beneficiaries, quality of care, patient rights, fraudulent or abusive behavior, and financial and other arrangements that may be entered into by healthcare providers. Moreover, changes in enforcement policies by federal and state governments have resulted in an increase in the number of inspections, citations of regulatory deficiencies and other regulatory sanctions, including terminations from the Medicare and Medicaid programs, bars on Medicare and Medicaid payments for new admissions, civil monetary penalties and even criminal penalties. We are unable to predict the scope of future federal, state and local regulations and legislation, including the Medicare and Medicaid statutes and regulations, or the intensity of enforcement efforts with respect to such regulations and legislation, and any changes in the regulatory framework could have a material adverse effect on our tenants, operators, guarantors and managers, which, in turn, could have a material adverse effect on our business, financial condition, results of operations and ability to make distributions to our stockholders. Further, if our tenants, operators, borrowers, guarantors and managers fail to comply with the extensive laws, regulations and other requirements applicable to their businesses and the operation of our properties (some of which are discussed below), they could become ineligible to receive reimbursement from governmental and private third-party payor programs, face bans on admissions of new patients or residents, suffer civil or criminal penalties or be required to make significant changes to their operations. We also may become subject directly to healthcare laws and regulations because of the broad nature of some of these restrictions. Our tenants, operators, borrowers, guarantors, managers and we also could be forced to expend considerable resources responding to an investigation or other enforcement action under applicable laws or regulations. In such event, the results of operations and financial condition of our tenants, operators, borrowers, guarantors and managers and the results of operations of our properties operated or managed by those entities could be adversely affected, which, in turn, could have a material adverse effect on our business, financial condition, results of operations and ability to make distributions to our stockholders. We received a Civil Investigative Demand (“CID”) from the DOJ in September 2016, which indicates that it is conducting an investigation regarding alleged violations of the False Claims Act, Stark Law and Anti- Kickback Statute in connection with claims that may have been submitted to Medicare and other federal payors for services rendered to patients at Lakeway Hospital or by providers with financial relationships with Lakeway Hospital. The CID requested certain documents and information related to our acquisition and ownership of Lakeway Hospital. We have learned that the DOJ is investigating our conduct in connection with its investigation of financial relationships related to Lakeway Hospital, including allegations by the DOJ that we violated and are continuing to violate the Anti-Kickback Statute and the False Claims Act. We are cooperating fully with the DOJ in connection with the CID and have produced all of the information that has been requested to date. While we believe that our acquisition, ownership and leasing of Lakeway Hospital through the Lakeway Partnership was and is in compliance with all applicable laws, including meeting certain safe harbor requirements pertaining to such investments, we can provide no assurances regarding the outcome of the investigation, including whether or the extent to which the DOJ will seek monetary damages and/or other financial or other penalties. We have incurred and may continue to incur significant legal and other costs, and it may become necessary to divert management resources from our ordinary business operations in connection with the CID and the ongoing investigation. The incursion of these
30 costs and any adverse findings by the DOJ related to us could have a material adverse effect on our business, financial condition, results of operations and cash flows. All healthcare providers are subject to the federal Anti-Kickback Statute, which generally prohibits persons from offering, providing, soliciting, or receiving remuneration to induce either the referral of an individual or the furnishing of a good or service for which payment may be made under a federal healthcare program, such as Medicare or Medicaid. Certain healthcare facilities are also subject to the Federal Ethics in Patient Referral Act of 1989, commonly referred to as the Stark Law. The Stark Law generally prohibits the submission of claims to Medicare for payment if the claim results from a physician referral for certain designated services and the physician has a financial relationship with the health service provider that does not qualify under one of the exceptions for a financial relationship under the Stark Law. Similar prohibitions on kickbacks, physician self-referrals and submission of claims apply to state Medicaid programs, and may also apply to private payors under state laws. Violations of these laws subject persons and entities to termination from participation in Medicare, Medicaid and other federally funded healthcare programs or result in the imposition of treble damages and fines or other penalties. Healthcare facilities and providers may also experience an increase in medical record reviews from a host of government agencies and contractors, including the HHS Office of the Inspector General, the Department of Justice, Zone Program Integrity Contractors, and Recovery Audit Contractors. Other laws that impact how our operators conduct their operations include: federal and state laws designed to protect the confidentiality and security of patient health information; state and local licensure laws; laws protecting consumers against deceptive practices; laws generally affecting our operators’ management of property and equipment and how our operators generally conduct their operations, such as fire, health and safety, and environmental laws; federal and state laws affecting assisted living facilities mandating quality of services and care, and quality of food service; resident rights (including abuse and neglect laws); and health standards set by the federal Occupational Safety and Health Administration. For example, HIPAA imposes extensive requirements on the way in which certain healthcare entities use, disclose, and safeguard protected health information (as that term is defined under HIPAA), including requirements to protect the integrity, availability, and confidentiality of electronic medical records. Many of these obligations were expanded under the HITECH Act. In order to comply with HIPAA and the HITECH Act, covered entities often must undertake significant operational and technical implementation efforts. Operators also may face significant financial exposure if they fail to maintain the privacy and security of medical records, personal health information about individuals, or protected health information. The HITECH Act strengthened the HHS Secretary’s authority to impose civil money penalties for HIPAA violations occurring after February 18, 2009. The HITECH Act directs the HHS Secretary to provide for periodic audits to ensure covered entities and their business associates (as that term is defined under HIPAA) comply with the applicable HITECH Act requirements, increasing the likelihood that a HIPAA violation will result in an enforcement action. In October 2009, the Office for Civil Rights (“OCR”), issued an interim final rule which conformed HIPAA enforcement regulations to the HITECH Act, increasing the maximum penalty for multiple violations of a single requirement or prohibition to $1.5 million. Higher penalties may accrue for violations of multiple requirements or prohibitions. HIPAA violations are also potentially subject to criminal penalties. Additionally, on January 25, 2013, OCR promulgated a final rule that expands the applicability of and requirements under HIPAA and the HITECH Act and strengthens the government’s ability to enforce these laws. Generally, covered entities and business associates were required to come into compliance with the final rule by September 23, 2013, though certain exceptions may apply. We cannot predict the effect additional costs to comply with these laws may have on the expenses of our operators and their ability to meet their obligations to us. For additional information on healthcare regulation and enforcement, see Item 1 “Business—Regulation—Healthcare Regulatory Matters.”
We are unable to predict the impact of the Affordable Care Act or the results of any efforts to repeal and/or replace it. The Affordable Care Act has changed how healthcare services are covered, delivered and reimbursed through expanded coverage of uninsured individuals, reduced growth in Medicare program spending, reductions in Medicare and Medicaid Disproportionate Share Hospital (“DSH”) payments, and expanding efforts to tie reimbursement to quality and efficiency. In addition, the law reforms certain aspects of health insurance, contains provisions intended to strengthen fraud and abuse enforcement, and encourages the development of new payment models, including the creation of Accountable Care Organizations (“ACOs”). Our tenants/operators may be negatively impacted by the law’s payment reductions, and it is uncertain what reimbursement rates will apply to coverage purchased through the exchanges. We cannot predict the full impact of the Affordable Care Act on our operators and tenants and, thus, our business due to the law’s complexity, limited implementing regulations and interpretive guidance, gradual and delayed implementation, and our inability to foresee how individuals, states and businesses will respond to the choices afforded them by the law throughout its gradual implementation. In addition, President Trump and the U.S. Congress have stated that they intend to, and have made various attempts to, modify, repeal, replace or otherwise invalidate all or certain provisions of the Affordable Care Act, including the repeal of the individual mandate as part of the new tax reform bill, which was signed into law by President Trump on December 22, 2017. We cannot predict the ultimate outcome of the Affordable Care Act or what effect President Trump’s administration may have, if any, on coverage and reimbursement for healthcare items and services. The uncertainty surrounding the future of the Affordable Care Act could adversely affect our and our tenants’ business and growth prospects.
31 If we indirectly invest in healthcare operators, we will be subject to additional risks related to healthcare operations, which could have a material adverse effect on our results of operations. We may invest in hospitals or other providers that are tenants of our properties, structured, where applicable, in compliance with the REIT Investment and Diversification and Empowerment Act of 2007 (“RIDEA”) or other applicable REIT laws or regulations. If so, we will be exposed to various operational risks with respect to those operating properties that may increase our costs or adversely affect our ability to generate revenues. These risks include fluctuations in patient volume and occupancy, Medicare and Medicaid reimbursement, if applicable, and private pay rates; economic conditions; competition; federal, state, local and industry-regulated licensure, certification and inspection laws, regulations and standards; the availability and increases in cost of general and professional liability insurance coverage; federal, state and local regulations; the costs associated with government investigations and enforcement actions and False Claims Act litigation; the availability and increases in cost of labor (as a result of unionization or otherwise); and other risks applicable to operating businesses. Any one or a combination of these factors may adversely affect our revenue and results of operations.
Our tenants/operators may be subject to significant legal actions that could subject them to increased operating costs and substantial uninsured liabilities, which may affect their ability to pay their rent payments to us and, thus, could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders. As is typical in the healthcare industry, our tenants/operators may often become subject to claims that their services have resulted in patient injury or other adverse effects. Many of these tenants/operators may have experienced an increasing trend in the frequency and severity of professional liability and general liability insurance claims and litigation asserted against them. The insurance coverage maintained by tenants/operators may not cover all claims made against them nor continue to be available at a reasonable cost, if at all. In some states, insurance coverage for the risk of punitive damages arising from professional liability and general liability claims and/or litigation may not, in certain cases, be available to these tenants/operators due to state law prohibitions or limitations of availability. As a result, these types of tenants/operators of our healthcare properties operating in these states may be liable for punitive damage awards that are either not covered or are in excess of their insurance policy limits. We also believe that there has been, and will continue to be, an increase in governmental investigations of certain healthcare providers, particularly in the area of Medicare/Medicaid false claims, as well as an increase in enforcement actions resulting from these investigations. Insurance is generally not available to cover such losses. Any adverse determination in a legal proceeding or governmental investigation, whether currently asserted or arising in the future, could have a material adverse effect on a tenant/operator’s financial condition. If a tenant/operator is unable to obtain or maintain insurance coverage, if judgments are obtained in excess of the insurance coverage, if a tenant/operator is required to pay uninsured punitive damages, or if a tenant/operator is subject to an uninsurable government enforcement action, the tenant/operator could be exposed to substantial additional liabilities, which may affect the tenant/operator’s ability to pay rent to us, which in turn could have a material adverse effect on our business, financial condition and results of operations and our ability to make distributions to our stockholders.
Merger and acquisition activity or consolidation in the healthcare industries resulting in a change of control of, or a competitor’s investment in, one or more of our tenants, operators or managers could have a material adverse effect on us. The healthcare industries have recently experienced increased consolidation, including among owners of real estate and care providers. We compete with other healthcare REITs, healthcare providers, healthcare lenders, real estate partnerships, banks, insurance companies, private equity firms and other investors that pursue a variety of investments, which may include investments in our tenants, operators, borrowers or managers. A competitor’s investment in one of our tenants, operators or managers could enable our competitor to influence that tenant’s, operator’s, borrower’s or manager’s business and strategy in a manner that impairs our relationship with the tenant, operator, borrower or manager or is otherwise adverse to our interests. Depending on our contractual agreements and the specific facts and circumstances, we may have the right to consent to, or otherwise exercise rights and remedies, including termination rights, on account of, a competitor’s investment in, a change of control of, or other transactions impacting a tenant, operator or manager. In deciding whether to exercise our rights and remedies, including termination rights, we assess numerous factors, including legal, contractual, regulatory, business and other relevant considerations. In addition, in connection with any change of control of a tenant, operator or manager, the tenant’s, operator’s, borrower’s or manager’s management team may change, which could lead to a change in the tenant’s, operator’s, borrower’s or manager’s strategy or adversely affect the business of the tenant, operator or manager, either of which could have a material adverse effect on us.
Risks Related to Our Organizational Structure
The stock ownership limits imposed by the Code for REITs and our charter may restrict stock transfers and/or business combination opportunities, particularly if our management and board of directors do not favor a combination proposal. In order for us to maintain our qualification as a REIT under the Code, not more than 50% of the value of the outstanding shares of our capital stock may be owned, directly or indirectly, including through the application of certain attribution rules, by five or fewer individuals (as defined in the Code to include certain entities such as qualified pension plans) at any time during the last half of a taxable year (other than the first year for which we qualify and elect to be taxed as a REIT). Our charter, with certain exceptions,
32 authorizes our board of directors to take the actions that are necessary and desirable to preserve our qualification as a REIT. Unless exempted by our board of directors, no person or entity may actually or beneficially own, or be deemed to own by virtue of the applicable constructive ownership provisions of the Code, more than 9.8% (in value or in number of shares, whichever is more restrictive) of the outstanding shares of our common stock, or 9.8% (by value or by number of shares, whichever is more restrictive) of the outstanding shares of our capital stock, in each case excluding any shares of our capital stock that are not treated as outstanding for U.S. federal income tax purposes. Our board of directors may, in its sole discretion, grant an exemption to the stock ownership limits, subject to certain conditions and the receipt by our board of directors of certain representations and undertakings. Our charter also prohibits any person from (1) beneficially or constructively owning shares of our capital stock that would result in our being “closely held” under Section 856(h) of the Code or otherwise cause us to fail to maintain our qualification as a REIT, including, but not limited to, as a result of any person that operates a “qualified healthcare property” on behalf of a TRS failing to qualify as an “eligible independent contractor” (as defined in Section 856(d)(9)(A) of the Code), or us having significant non-qualifying income from “related” parties, or (2) transferring shares of our capital stock if such transfer would result in us being owned by fewer than 100 persons (determined without regard to any rules of attribution). The stock ownership limits contained in our charter key off the ownership at any time by any “person,” which term includes entities, and take into account direct and indirect ownership as determined under various ownership attribution rules in the Code. The stock ownership limits also might delay or prevent a transaction or a change in our control that might involve a premium price for our common stock or otherwise be in the best interests of our stockholders.
Our authorized but unissued common stock and preferred stock may prevent a change in our control that might involve a premium price for our common stock or otherwise be in the best interests of our stockholders. Our charter authorizes us to issue additional authorized but unissued shares of common or preferred stock. In addition, our board of directors may, without stockholder approval, amend our charter to increase the aggregate number of shares of our common stock or the number of shares of any class or series of preferred stock that we have authority to issue and classify or reclassify any unissued shares of common stock or preferred stock and set the preferences, rights and other terms of the classified or reclassified shares. As a result, our board of directors may establish a series of common stock or preferred stock that could delay or prevent a transaction or a change in our control that might involve a premium price for our common stock or otherwise be in the best interests of our stockholders.
Certain provisions of Maryland law could inhibit changes in control, which may discourage third parties from seeking change of control transactions that could involve a premium price for our common stock or that our stockholders otherwise believe to be in their best interests. Certain provisions of the Maryland General Corporation Law (the “MGCL”) may have the effect of inhibiting a third party from making a proposal to acquire us or of impeding a change of control under certain circumstances that otherwise could provide the holders of shares of our common stock with the opportunity to realize a premium over the then-prevailing market price of such shares, including: • “business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our outstanding voting stock or any affiliate or associate of ours who, at any time within the two-year period immediately prior to the date in question, was the beneficial owner of 10% or more of the voting power of our then outstanding stock) or an affiliate thereof for five years after the most recent date on which the stockholder becomes an interested stockholder and thereafter impose fair price and/or supermajority voting requirements on these combinations; and • “control share” provisions that provide that “control shares” of our company (defined as shares which, when aggregated with other shares controlled by the stockholder, except solely by virtue of a revocable proxy, entitle the stockholder to exercise one of three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of ownership or control of issued and outstanding “control shares”) have no voting rights with respect to their control shares except to the extent approved by our stockholders by the affirmative vote of at least two-thirds of all the votes entitled to be cast on the matter, excluding all interested shares. As permitted by the MGCL, we have elected, by resolution of our board of directors, to exempt from the business combination provisions of the MGCL, any business combination between us and any person and, pursuant to a provision in our bylaws, to exempt any acquisition of our stock from the control share provisions of the MGCL. However, our board of directors may by resolution elect to repeal the exemption from the business combination provisions of the MGCL and may by amendment to our bylaws opt in to the control share provisions of the MGCL at any time in the future. Additionally, certain provisions of the MGCL permit our board of directors, without stockholder approval and regardless of what is currently provided in our charter or our bylaws, to implement takeover defenses, some of which (for example, a classified board) we do not currently employ. These provisions may have the effect of inhibiting a third party from making an acquisition proposal for our company or of delaying, deferring, or preventing a change in control of our company under circumstances that otherwise could provide the holders of our common stock with the opportunity to realize a premium over the then-current market
33 price. Our charter contains a provision whereby we elect to be subject to the provisions of Title 3, Subtitle 8 of the MGCL relating to the filling of vacancies on our board of directors. Our charter, our bylaws and Maryland law also contain other provisions, including the provisions of our charter on removal of directors and the advance notice provisions of our bylaws, that may delay, defer, or prevent a transaction or a change of control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders.
Our board of directors may change our business, investment and financing strategies without stockholder approval and we may become more highly leveraged, which may increase our risk of default under our debt obligations. Our investment and financing policies are exclusively determined by our board of directors. Accordingly, our stockholders do not control these policies. As the market evolves, we may change our business, investment and financing strategies without a vote of, or notice to, our stockholders, which could result in our making investments and engaging in business activities that are different from, and possibly riskier than, the investments and businesses described in this Annual Report on Form 10-K. In particular, a change in our investment strategy, including the manner in which we allocate our resources across our properties or the types of assets in which we seek to invest, may increase our exposure to real estate market fluctuations. In addition, our organizational documents do not limit the amount or percentage of indebtedness, funded or otherwise, that we may incur. Our board of directors may alter or eliminate our current policy on borrowing at any time without stockholder approval. If this policy is changed, we may in the future become highly leveraged, which could result in an increase in our debt service. Higher leverage also increases the risk of default on our obligations. Furthermore, as the market evolves, our board may determine that healthcare properties do not offer the potential for attractive risk-adjusted returns for an investment strategy. In addition, a change in our investment policies, including the manner in which we allocate our resources across our portfolio or the types of assets in which we seek to invest, may increase our exposure to interest rate risk, real estate market fluctuations and liquidity risk. Changes to our strategies with regard to the foregoing could materially and adversely affect our business, financial condition, results of operations and ability to make distributions to our stockholders and the market price of our common stock.
Our rights and the rights of our stockholders to take action against our directors and officers are limited, which could limit your recourse in the event that we take certain actions which are not in our stockholders’ best interests. Maryland law provides that a director or officer has no liability in that capacity if he or she performs his or her duties in good faith, in a manner that he or she reasonably believes to be in our best interests and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Under the MGCL, directors are presumed to have acted with this standard of care. As permitted by Maryland law, our charter eliminates the liability of our directors and officers to us and our stockholders for money damages, except for liability resulting from: • actual receipt of an improper benefit or profit in money, property or services; or • active and deliberate dishonesty by the director or officer that was established by a final judgment as being material to the cause of action adjudicated. Our charter and bylaws obligate us to indemnify each present and former director or officer, to the maximum extent permitted by Maryland law, in the defense of any proceeding to which he or she is made, or threatened to be made, a party by reason of his or her service to us. In addition, we may be obligated to advance the defense costs incurred by our directors and officers. We also have entered into indemnification agreements with our officers and directors granting them express indemnification rights. As a result, we and our stockholders may have more limited rights against our directors and officers than might otherwise exist absent the current provisions in our charter, bylaws and indemnification agreements or that might exist for other public companies.
Our charter contains provisions that make removal of our directors difficult, which could make it difficult for our stockholders to effect changes to our management. Our charter contains provisions that make removal of our directors difficult, which could make it difficult for our stockholders to effect changes to our management and may prevent a change in control of our company that is in the best interests of our stockholders. Our charter provides that a director may only be removed for cause upon the affirmative vote of holders of two-thirds of all the votes entitled to be cast generally in the election of directors. Vacancies may be filled only by a majority of the remaining directors in office, even if less than a quorum. These requirements make it more difficult to change our management by removing and replacing directors and may prevent a change in control of our company that is in the best interests of our stockholders.
Termination of the employment agreements with our executive officers could be costly and prevent a change in our control. The employment agreements that we entered into with each of our executive officers provide that, if their employment with us terminates under certain circumstances (including upon a change in our control), we may be required to pay them significant amounts of severance compensation, including cash severance payments and accelerated vesting of equity awards, thereby making it costly to terminate their employment. Furthermore, these provisions could delay or prevent a transaction or a change in our control that might involve a premium paid for our common stock or otherwise be in the best interests of our stockholders.
34 Conflicts of interest could arise between the interests of our stockholders and the interests of holders of OP units, which may impede business decisions that could benefit our stockholders. If we issue OP units in our operating partnership to third parties, conflicts of interest could arise as a result of the relationships between us, on the one hand, and our operating partnership or any limited partner thereof, on the other. Our directors and officers have duties to us and our stockholders under applicable Maryland law in connection with their management of our company. At the same time, we, as the sole member of the general partner of our operating partnership, have fiduciary duties and obligations to our operating partnership and its limited partners under Delaware law and the partnership agreement of our operating partnership in connection with the management of our operating partnership. Our duties as the sole member of the general partner to our operating partnership and its partners may come into conflict with the duties of our directors and officers to our company and our stockholders. These conflicts may be resolved in a manner that is not in the best interests of our stockholders.
Federal Income Tax Risks
Failure to maintain our qualification as a REIT for U.S. federal income tax purposes would subject us to U.S. federal income tax on our taxable income at regular corporate rates, which would substantially reduce our ability to make distributions to our stockholders. We have elected to be taxed as a REIT for U.S. federal income tax purposes commencing with our short taxable year ended December 31, 2014. To maintain our qualification as a REIT, we must meet various requirements set forth in the Code concerning, among other things, the ownership of our outstanding stock, the nature of our assets, the sources of our income and the amount of our distributions. The REIT qualification requirements are extremely complex, and interpretations of the U.S. federal income tax laws governing qualification as a REIT are limited. We believe that our current organization and method of operation will enable us to continue to maintain our qualification as a REIT. However, at any time, new laws, interpretations or court decisions may change the federal tax laws relating to, or the U.S. federal income tax consequences of, qualification as a REIT. It is possible that future economic, market, legal, tax or other considerations may cause our board of directors to determine that it is not in our best interest to maintain our qualification as a REIT and to revoke our REIT election, which it may do without stockholder approval. If we fail to maintain our qualification as a REIT for any taxable year, we will be subject to U.S. federal income tax on our taxable income at regular corporate rates. In addition, we generally would be disqualified from treatment as a REIT for the four taxable years following the year in which we lost our REIT status. Losing our REIT status would reduce our net earnings available for investment or distribution because of the additional tax liability. In addition, distributions would no longer qualify for the dividends paid deduction, and we would no longer be required to make distributions. If this occurs, we might be required to borrow funds or liquidate some investments in order to pay the applicable tax. As a result of all these factors, our failure to maintain our qualification as a REIT could impair our ability to expand our business and raise capital, and would substantially reduce our ability to make distributions to you.
Our ability to maintain our qualification as a REIT could be adversely affected by our ownership of a health care facility if we lease a healthcare facility to a TRS lessee and such lease is not respected as a true lease for U.S. federal income tax purposes, if our TRS lessee fails to qualify as a “taxable REIT subsidiary,” or if the operator of the health care facility does not qualify as an “eligible independent contractor.” We may lease health care facilities to a TRS. If a lease of a health care facility to a TRS lessee is not respected as a true lease for U.S. federal income tax purposes, we may fail to maintain our qualification as a REIT. For the rent paid pursuant to any leases of health care facilities to a TRS lessee to qualify for purposes of the gross income tests, the leases must be respected as true leases for U.S. federal income tax purposes and must not be treated as a service contracts, joint ventures or some other type of arrangements. We intend to structure any leases of health care facilities to a TRS lessee so that the leases will be respected as true leases for U.S. federal income tax purposes, but there can be no assurance that the IRS will agree with this characterization. If a TRS fails to qualify as a “taxable REIT subsidiary” under the Code, we could fail to maintain our qualification as a REIT. Rent paid by a lessee that is a “related party tenant” is not qualifying income for purposes of the 75% and 95% gross income tests applicable to REITs. So long as the TRS lessee qualifies as a TRS, it will not be treated as a “related party tenant” with respect to our properties that are managed by an eligible independent contractor. We believe that our TRS qualifies to be treated as a TRS for U.S. federal income tax purposes, but there can be no assurance that the IRS will not challenge the status of our TRS for U.S. federal income tax purposes or that a court would not sustain such a challenge. If a given health care facility management company does not qualify as an “eligible independent contractor” or if a given health care facility is not a “qualified health care property,” we could fail to maintain our qualification as a REIT. Each property with respect to which our TRS lessee pays rent must be a “qualified health care property.” The REIT provisions of the Code provide only limited guidance for making determinations under the requirements for “qualified health care properties” and there can be no assurance that these requirements will be satisfied in all cases. Any health care facility management company that enters into a management contract with a TRS lessee must qualify as an “eligible independent contractor” under the REIT rules in order for the rent paid to us by our TRS to be qualifying income for our REIT income test requirements. Complex ownership attribution rules apply for purposes of these
35 ownership thresholds. Although we intend to monitor ownership of our stock by operators of our health care facilities and their owners, and certain provisions of our charter are designed to prevent ownership of our stock in violation of these rules, there can be no assurance that these ownership levels will not be exceeded.
The IRS may challenge the valuation of our assets and securities or the real estate collateral for the mortgage or mezzanine loans that we may originate and may contend that our ownership of such assets violates one or more of the asset tests applicable to REITs. We believe that the assets that we hold satisfy the asset test requirements. We will not obtain, nor are we required to obtain under the U.S. federal income tax laws, independent appraisals to support our conclusions as to the value of our assets and securities or the real estate collateral for the mortgage or mezzanine loans that we may originate. Moreover, the values of some assets may not be susceptible to a precise determination. As a result, there can be no assurance that the IRS will not contend that our ownership of securities and other assets violates one or more of the asset tests applicable to REITs.
To maintain our qualification as a REIT and to avoid the payment of U.S. federal income and excise taxes, we may be forced to borrow funds, use proceeds from the issuance of securities, pay taxable dividends of our stock or debt securities or sell assets to make distributions, which may result in our distributing amounts that may otherwise be used for our operations. To obtain the favorable tax treatment accorded to REITs, we normally are required each year to distribute to our stockholders at least 90% of our REIT taxable income, determined without regard to the deduction for dividends paid and by excluding net capital gains. We are subject to U.S. federal income tax on our undistributed taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from prior years. These requirements could cause us to distribute amounts that otherwise would be spent on acquisitions of properties and it is possible that we might be required to borrow funds, use proceeds from the issuance of securities, pay taxable dividends of our stock or debt securities or sell assets in order to distribute enough of our taxable income to maintain our qualification as a REIT and to avoid the payment of U.S. federal income and excise taxes.
Future sales of properties may result in penalty taxes, or may be made through TRSs, each of which would diminish the return to you. It is possible that one or more sales of our properties may be “prohibited transactions” under provisions of the Code. If we are deemed to have engaged in a “prohibited transaction” (i.e., we sell a property held by us primarily for sale in the ordinary course of our trade or business), all income that we derive from such sale would be subject to a 100% tax. The Code sets forth a safe harbor for REITs that wish to sell property without risking the imposition of the 100% tax. A principal requirement of the safe harbor is that the REIT must hold the applicable property for not less than two years prior to its sale. It is entirely possible, if not likely, that the sale of one or more of our properties will not fall within the prohibited transaction safe harbor. If we acquire a property that we anticipate will not fall within the safe harbor from the 100% penalty tax upon disposition, we may acquire such property through a TRS in order to avoid the possibility that the sale of such property will be a prohibited transaction and subject to the 100% penalty tax. If we already own such a property directly or indirectly through an entity other than a TRS, we may contribute the property to a TRS. Though a sale of such property by a TRS likely would mitigate the risk of incurring a 100% penalty tax, the TRS itself would be subject to regular corporate income tax at the U.S. federal level, and potentially at the state and local levels, on the gain recognized on the sale of the property as well as any income earned while the property is operated by the TRS. Such tax would diminish the amount of proceeds from the sale of such property ultimately distributable to you. Our ability to use TRSs in the foregoing manner is subject to limitation. Among other things, the value of our securities in TRSs may not exceed 20% of the value of our assets and dividends from our TRSs, when aggregated with all other non-real estate income with respect to any one year, generally may not exceed 20% of our gross income with respect to such year. No assurances can be provided that we would be able to successfully avoid the 100% penalty tax through the use of TRSs.
In certain circumstances, we and/or our subsidiaries may be subject to U.S. federal and state income taxes, which would reduce our cash available for distribution to our stockholders. Even if we maintain our qualification as a REIT, we may be subject to U.S. federal income taxes or state taxes. As discussed above, net income from a “prohibited transaction” will be subject to a 100% penalty tax. To the extent we satisfy the distribution requirements applicable to REITs, but distribute less than 100% of our taxable income, we will be subject to U.S. federal income tax at regular corporate rates on our undistributed income. We may not be able to make sufficient distributions to avoid excise taxes applicable to REITs. We may also decide to retain capital gains we earn from the sale or other disposition of our properties and pay income tax directly on such income. In that event, our stockholders would be treated as if they earned that income and paid the tax on it directly. However, our stockholders that are tax-exempt, such as charities or qualified pension plans, would have no benefit from their deemed payment of such tax liability. We may also be subject to state and local taxes on our income or property, either directly or at the level of the companies through which we indirectly own our assets. Any federal or state taxes we pay will reduce our cash
36 available for distribution to our stockholders. In addition, our TRS, MedEquities Realty TRS, LLC, will be subject to corporate-level tax.
The ability of our board of directors to revoke or otherwise terminate our REIT qualification without stockholder approval may cause adverse consequences to our stockholders. Our charter provides that our board of directors may revoke or otherwise terminate our REIT election, without the approval of our stockholders, if it determines that it is no longer in our best interest to continue to maintain our qualification as a REIT. If we cease to maintain our qualification as a REIT, we would become subject to U.S. federal income tax on our taxable income at regular corporate rates and would no longer be required to distribute most of our taxable income to our stockholders, which may have adverse consequences on our total return to our stockholders.
If our operating partnership were taxable as a corporation for U.S. federal income tax purposes, we would fail maintain our qualification as a REIT and would suffer other adverse tax consequences. If additional partners are admitted to our operating partnership, we intend for our operating partnership to be treated as a partnership for U.S. federal income tax purposes. If the IRS were to successfully challenge the status of our operating partnership as a partnership, however, our operating partnership generally could be taxable as a corporation. In such event, we likely would fail to maintain our qualification as a REIT for U.S. federal income tax purposes, and the resulting corporate income tax burden would reduce the amount of distributions that our operating partnership could make to us. This would substantially reduce the cash available to make distributions to our stockholders.
The failure of a mezzanine loan to qualify as a real estate asset could adversely affect our ability to maintain our qualification as a REIT. We may acquire mezzanine loans for which the IRS has provided a safe harbor but not rules of substantive law. In IRS Revenue Procedure 2003-65, the IRS provided a safe harbor pursuant to which a mezzanine loan, if it meets certain requirements, will be treated by the IRS as a real estate asset for purposes of the REIT asset tests, and interest derived from the mezzanine loan will be treated as qualifying mortgage interest for purposes of the REIT 75% gross income test. We may acquire mezzanine loans that do not meet all of the requirements of this safe harbor. In the event we own a mezzanine loan that does not meet the safe harbor, the IRS could challenge such loan’s treatment as a real estate asset for purposes of the REIT asset and gross income tests and, if such a challenge were sustained, we could fail to maintain our qualification as a REIT. Complying with the REIT requirements may limit our ability to hedge risk effectively. The REIT provisions of the Code may limit our ability to hedge our liabilities effectively. In general, income from hedging transactions does not constitute qualifying income for purposes of the 75% and 95% gross income tests applicable to REITs. However, to the extent, we enter into a hedging contract to reduce interest rate risk or foreign currency risk on indebtedness incurred to acquire or carry real estate assets, any income we derive from the contract would be excluded from gross income for purposes of calculating the REIT 75% and 95% gross income tests if specified requirements are met. Consequently, we may have to limit our use of advantageous hedging techniques or implement those hedges through a TRS. This may leave us exposed to greater risks than we would otherwise want to bear and could increase the cost of our hedging activities because a TRS would be subject to tax on the income therefrom.
Complying with the REIT requirements may cause us to forego otherwise attractive opportunities or sell properties earlier than we wish. To maintain our qualification as a REIT for U.S. federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our stockholders and the ownership of shares of our stock. We may be required to make distributions to our stockholders at disadvantageous times or when we do not have funds readily available for distribution, or we may be required to forego or liquidate otherwise attractive investments in order to comply with the REIT tests. Thus, compliance with the REIT requirements may hinder our ability to operate solely on the basis of maximizing profits.
We may make distributions consisting of both stock and cash, in which case stockholders may be required to pay income taxes in excess of the cash distributions they receive. We may make distributions that are paid in cash and stock at the election of each stockholder and may distribute other forms of taxable stock dividends. Taxable stockholders receiving such distributions will be required to include the full amount of the distributions as ordinary income to the extent of our current and accumulated earnings and profits for U.S. federal income tax purposes. As a result, stockholders may be required to pay income taxes with respect to such distributions in excess of the cash received. If a stockholder sells the stock that it receives in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the distribution, depending on the market price of our stock at the time of the sale. Furthermore, in the case of certain non-U.S. stockholders, we may be required to withhold U.S. federal income tax with respect to taxable dividends,
37 including taxable dividends that are paid in stock. In addition, if a significant number of our stockholders decide to sell their stock in order to pay taxes owed with respect to taxable stock dividends, it may put downward pressure on the trading price of our stock.
You may be restricted from acquiring or transferring certain amounts of our common stock. Certain provisions of the Code and the stock ownership limits in our charter may inhibit market activity in our stock and restrict our business combination opportunities. In order to maintain our qualification as a REIT, five or fewer individuals, as defined in the Code, may not own, beneficially or constructively, more than 50% in value of our issued and outstanding stock at any time during the last half of a taxable year. Attribution rules in the Code determine if any individual or entity beneficially or constructively owns our stock under this requirement. Additionally, at least 100 persons must beneficially own our stock during at least 335 days of a taxable year. To help insure that we meet these tests, our charter restricts the acquisition and ownership of shares of our stock. Our charter, with certain exceptions, authorizes our board of directors to take such actions as are necessary and desirable to preserve our qualification as a REIT. Unless exempted by our board of directors, our charter prohibits any person from beneficially or constructively owning more than 9.8% in value or number of shares, whichever is more restrictive, of the outstanding shares of our stock. Our board of directors may not grant an exemption from these restrictions to any proposed transferee whose ownership in excess of such ownership limit would result in our failing to maintain our qualification as a REIT.
Dividends paid by REITs generally do not qualify for the favorable tax rates available for some dividends. The maximum U.S. federal income tax rate applicable to qualified dividend income paid to U.S. stockholders that are individuals, trusts and estates currently is 20%. Dividends paid by REITs generally are not eligible for such maximum tax rate. Although the favorable tax rates applicable to qualified dividend income do not adversely affect the taxation of REITs or dividends paid by REITs, such favorable tax rates could cause investors who are individuals, trusts and estates to perceive investments in REITs to be relatively less attractive than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the shares of REITs, including our common stock. Changes to the U.S. federal income tax laws, including the enactment of certain tax reform measures, could have an adverse impact on our business and financial results. The legislation commonly known as the Tax Cuts and Jobs Act (the "Tax Act") was enacted on December 22, 2017. The Tax Act significantly changed the U.S. federal income taxation of U.S. businesses and their owners, including REITs and their stockholders. The impact of the act on us and our shareholders is uncertain and may not become evident for some period of time. For example, the Tax Act contained provisions that may reduce the relative competitive advantage of operating as a REIT, including the lowering of income tax rates on individuals and corporations, which eases the burden of double taxation on corporate dividends and potentially causes the single level of taxation on REIT distributions to become relatively less attractive. The Tax Act also contains provisions allowing the expensing of capital expenditures, which could result in the bunching of taxable income and required distributions for REITs, and provisions extending the depreciable lives of certain real estate assets and further limiting the deductibility of interest expense, which could negatively impact the real estate market. In addition, although the Tax Act was recently passed, there can be no assurance that future changes to the U.S. federal income tax laws or regulatory changes will not be proposed or enacted that could impact our business and financial results. The REIT rules are constantly under review by persons involved in the legislative process and by the Internal Revenue Service and the U.S. Treasury Department, which may result in revisions to regulations and interpretations in addition to statutory changes. If enacted, certain of such changes could have an adverse impact on our business and financial results. We cannot predict whether, when or to what extent the Tax Act and any new U.S. federal tax laws, regulations, interpretations or rulings will impact the real estate investment industry or REITs. Prospective investors are urged to consult their tax advisors regarding the effect of the Tax Act and potential future changes to the federal tax laws on an investment in our shares.
Risks Related to Ownership of Our Common Stock
The trading volume and market price of our common stock may be volatile and could decline substantially. The market price of our common stock may be volatile. In addition, the trading volume in our common stock may fluctuate and cause significant price variations to occur. If the market price of our common stock declines significantly, you may be unable to resell your shares at or above the price at which you purchased them. We cannot assure you that the market price of our common stock will not fluctuate or decline significantly in the future, including as a result of factors unrelated to our operating performance or prospects. In particular, the market price of our common stock could be subject to wide fluctuations in response to a number of factors, including, among others, the following: • actual or anticipated differences in our operating results, liquidity or financial condition; • changes in our revenues, FFO, AFFO or earnings estimates; • publication of research reports about us, our properties, the healthcare industry or overall real estate market;
38 • increases in market interest rates that lead purchasers of our common stock to demand a higher yield; • additions and departures of key personnel; • the performance and market valuations of other similar companies; • the operating results of our tenants; • adverse market reaction to any additional debt we incur in the future; • actions by institutional stockholders; • the passage of legislation or other regulatory developments that adversely affect us or our industry; • the realization of any of the other risk factors presented in this Annual Report on Form 10-K; • speculation in the press or investment community; • the extent of investor interest in our securities; • the general reputation of REITs and the attractiveness of our equity securities in comparison to other equity securities, including securities issued by other real estate-based companies; • our underlying asset value; • changes in accounting principles; • investor confidence in the stock and bond markets generally; • future equity issuances; • failure to meet and maintain REIT qualification and requirements; • low trading volume of our stock; • terrorist acts; and • general market and economic conditions, including factors unrelated to our operating performance. In the past, securities class action litigation has often been instituted against companies following periods of volatility in the market price of their common stock. If the market price of our common stock is volatile and this type of litigation is brought against us, it could result in substantial costs and divert our management’s attention and resources, which could have a material adverse effect on us.
Common stock eligible for future sale could have an adverse effect on the value of our common stock. As of February 25, 2019, we had approximately 31,840,651 shares of our common stock outstanding. We may from time to time issue additional shares of common stock or OP units, which, at our option, may be redeemed for shares of our common stock, in connection with the acquisition of investments, as compensation or otherwise, and we may grant registration rights in connection with such issuances. We cannot predict the effect, if any, of future sales of our common stock, or the availability of shares for future sales, on the market price of the common stock. Sales of substantial amounts of our common stock, or the perception that such sales could occur, may adversely affect prevailing market price of our common stock.
We may be unable to make distributions at expected levels, which could result in a decrease in the market price of our common stock. The Credit Agreement for our secured credit facility prohibits us from declaring or paying any dividend on or prior to June 30, 2019, other than, subject to certain conditions, (i) a dividend to our common stockholders attributable to the fourth quarter of 2018 not to exceed $0.21 per share, with payment conditioned upon approval by our stockholders of the merger with Omega, and (ii) the pre-closing dividend pursuant to the terms of the merger agreement with Omega. All distributions to our stockholders will be made at the discretion of our board of directors and will be based upon, among other factors, our historical and projected results of operations, financial condition, cash flows and liquidity, maintenance of our REIT qualification and other tax considerations, capital expenditure and other expense obligations, debt covenants (including the restrictions under the Credit Agreement), contractual prohibitions or other limitations and applicable law and such other matters as our board of directors may deem relevant from time to time. If sufficient cash is not available for distribution from our operations, we may have to fund distributions from working capital, borrow to provide funds for such distributions or reduce the amount of such distributions. We may not be able to make distributions in the future, and our inability to make distributions, or to make distributions at expected levels, could result in a decrease in the market price of our common stock.
39 Future issuances of debt and preferred equity securities, which would rank senior to our common stock upon liquidation, or future issuances of equity securities (including OP units), which would dilute our existing stockholders and may be senior to our common stock for purposes of making distributions, may adversely affect the market price of our common stock. In the future, we may issue debt or equity securities or incur other borrowings. Upon our liquidation, holders of our debt securities and other loans and preferred stock will receive a distribution of our available assets before common stockholders. If we incur debt or issue preferred stock in the future, our future interest and/or dividend costs could increase and adversely affect our liquidity, FFO, AFFO and results of operations. We are not required to offer any additional equity securities to existing common stockholders on a preemptive basis. Therefore, additional common stock issuances, directly or through convertible or exchangeable securities (including OP units), warrants or options, will dilute the holdings of our existing common stockholders and such issuances or the perception of such issuances may reduce the market price of our common stock. Our preferred stock, if issued, would likely have a preference on distribution payments, periodically or upon liquidation, which could eliminate or otherwise limit our ability to make distributions to common stockholders. Because our decision to issue debt or equity securities or incur other borrowings in the future will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing, nature or success of our future capital raising efforts. Thus, common stockholders bear the risk that our future issuances of debt or equity securities or our incurrence of other borrowings will negatively affect the market price of our common stock.
Increases in market interest rates may reduce demand for our common stock and result in a decline in the market price of our common stock. The market price of our common stock may be influenced by the distribution yield on our common stock (i.e., the amount of our annual distributions as a percentage of the market price of our common stock) relative to market interest rates. An increase in market interest rates, which are currently low compared to historical levels, may lead prospective purchasers of our common stock to expect a higher distribution yield, which we may not be able, or may choose not, to provide. Higher interest rates would also likely increase our borrowing costs and decrease our operating results and cash available for distribution. Thus, higher market interest rates could cause the market price of our common stock to decline.
Item 1B. Unresolved Staff Comments. None.
Item 2. Properties. The information set forth under the caption “Our Portfolio” in Item 1 of this Annual Report on Form 10-K is incorporated by reference herein.
Item 3. Legal Proceedings. On February 21, 2019, a purported stockholder of the Company filed a lawsuit against the Company, its board of directors and Omega in the United States District Court for the District of Maryland, entitled Brekka v. MedEquities Realty Trust, Inc., et al., Case 1:19-cv-00535-JKB. The complaint alleges, among other things, that the Company, its board of directors and Omega violated certain federal securities laws by making materially incomplete and misleading statements in, and/or omitting certain information that is material to stockholders from, the Registration Statement on Form S-4, as filed with the SEC on February 11, 2019 (the “Form S- 4”), relating to the proposed merger between the Company and Omega. The complaint seeks, among other things, an injunction preventing the parties from filing an amendment to the Form S-4, an injunction preventing the consummation of the merger and, in the event the merger is consummated, rescission of the merger or damages, plus attorneys’ fees and costs. On February 22, 2019, another purported stockholder of the Company filed a derivative and class action lawsuit against the Company, its board of directors and Omega in the Circuit Court for Baltimore City, entitled Scarantino v. McRoberts et al. The complaint alleges, among other things, violations of fiduciary duties by the Company’s board of directors in connection with its approval of the Company’s proposed merger with Omega and the omission from the Form S-4 of certain information that is material to stockholders. The complaint seeks, among other things, an injunction preventing the parties from filing an amendment to the Form S-4, an injunction preventing the consummation of the merger and, in the event the merger is consummated, rescission of the merger or damages, plus attorneys’ fees and costs. The Company believes that the claims asserted in the above referenced lawsuits are without merit and intends to vigorously defend the Company and the director defendants against these claims.
Item 4. Mine Safety Disclosures. Not applicable.
40 PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information Our common stock trades on the NYSE under the symbol “MRT.”
Stock Performance Graph The following graph sets forth the cumulative total stockholder return (assuming reinvestment of dividends) to our stockholders during the period from September 29, 2016 (the date our common stock began trading on the NYSE) through December 31, 2018, as well as the corresponding returns on an overall stock market index (Russell 2000) and a peer group index (FTSE NAREIT Equity Healthcare REITs Index). The stock performance graph assumes that $100 was invested on September 29, 2016. Historical total stockholder return is not necessarily indicative of future results. The information in this paragraph and the following graph and table shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C, other than as provided in Item 201 of Regulation S-K, or to the liabilities of Section 18 of the Exchange Act, except to the extent we specifically request that such information be treated as soliciting material or specifically incorporate it by reference into a filing under the Securities Act or the Exchange Act.
Period Ending Index 9/29/2016 12/31/2016 3/31/2017 6/30/2017 9/30/2017 12/31/2017 3/31/2018 6/30/2018 9/30/2018 12/31/2018 MedEquities Realty Trust, Inc. $ 100.00 $ 95.77 $ 98.55 $ 112.85 $ 106.99 $ 104.15 $ 99.49 $ 106.45 $ 95.86 $ 67.46 Russell 2000 100.00 108.83 111.52 114.26 120.74 124.77 124.67 134.34 139.14 111.03 FTSE NAREIT Equity Healthcare REIT 100.00 89.20 95.38 100.39 94.97 89.98 80.16 91.56 93.91 96.80
Stockholder Information As of February 19, 2019, there were approximately 20 holders of record of our common stock. However, because many shares of our common stock are held by brokers and other institutions on behalf of stockholders, we believe there are substantially more beneficial holders of our common stock than record holders.
Dividend Information Any future distributions will be at the sole discretion of our board of directors and will depend upon a number of factors, including our actual and projected results of operations, the cash flow generated by our operations, FFO, AFFO, liquidity, our operating expenses, our debt service requirements, capital expenditure requirements for the properties in our portfolio, prohibitions and other limitations under our financing arrangements, our REIT taxable income, the annual REIT distribution requirements, restrictions on making distributions under Maryland law and such other factors as our board of directors deems relevant. We cannot assure you that our distribution policy will not change in the future. For a description of restrictions on our ability to make
41 distributions, see “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Credit Facility.” For more information regarding risk factors that could materially adversely affect our ability to make distributions to our stockholders, please see “Item 1A—Risk Factors.” We anticipate that our distributions generally will be taxable as ordinary income to our stockholders, although a portion of the distributions may constitute a return of capital or may be designated by us as qualified dividend income or capital gain. We will furnish annually to each of our stockholders a statement setting forth distributions paid during the preceding year and their characterization as ordinary income, return of capital, qualified dividend income or capital gain. Distributions in excess of our current and accumulated earnings and profits will not be taxable to a taxable U.S. stockholder under current U.S. federal income tax law to the extent those distributions do not exceed the stockholder’s adjusted tax basis in his or her common stock, but rather will reduce the adjusted tax basis of the common stock. Therefore, the gain (or loss) recognized on the sale of that common stock or upon our liquidation will be increased (or decreased) accordingly. To the extent those distributions exceed a taxable U.S. stockholder’s adjusted tax basis in shares of our common stock, they generally will be treated as a capital gain realized from the taxable disposition of those shares. The percentage of our stockholder distributions that exceeds our current and accumulated earnings and profits may vary substantially from year to year. During 2018 and 2017, we declared quarterly distributions aggregating $0.63 and $0.84 per share of common stock, respectively. Note 11 to the consolidated financial statements provides further discussion regarding the tax treatment of the common dividends paid. In order to maintain qualification as a REIT, we must distribute to our stockholders, on an annual basis, at least 90% of our REIT taxable income, determined without regard to the deduction for dividends paid and excluding net capital gains. In addition, we will be subject to U.S. federal income tax at regular corporate rates to the extent that we distribute less than 100% of our net taxable income (including net capital gains) and will be subject to a 4% nondeductible excise tax on the amount by which our distributions in any calendar year are less than a minimum amount specified under applicable U.S. federal income tax laws. We intend to distribute our REIT taxable income to our stockholders in a manner intended to satisfy the REIT 90% distribution requirement and to avoid any U.S. federal income tax liability on our income and the 4% nondeductible excise tax. We anticipate that our estimated cash available for distribution will exceed the annual distribution requirements applicable to REITs. However, under some circumstances, we may be required to use cash reserves, incur debt or liquidate assets at rates or times that we regard as unfavorable or make a taxable distribution of our shares in order to satisfy the REIT 90% distribution requirement and to avoid U.S. federal income tax and the 4% nondeductible excise tax.
Unregistered Sales of Equity Securities None.
Issuer Purchases of Equity Securities During the three months ended December 31, 2018, certain of our employees surrendered shares of common stock owned by them to satisfy their minimum statutory federal and state tax obligations associated with the vesting of restricted shares of common stock issued under our Amended and Restated 2014 Equity Incentive Plan (the “Plan”). The following table summarizes all of these repurchases during the three months ended December 31, 2018. Maximum Number of Shares That May Total Number of Shares Average Price Paid Per Total Number of Shares Purchased as Part of Yet be Purchased Under the Plans or Period Purchased(1) Share Publicly Announced Plans or Programs Programs October 1 through October 31, 2018 - - N/A N/A November 1 through November 30, 2018 - - N/A N/A December 1 through December 31, 2018 9,678 $ 6.90 N/A N/A Total 9,678
(1) The number of shares purchased represents shares of common stock surrendered by certain of our employees to satisfy their statutory minimum federal and state tax obligations associated with the vesting of restricted shares of common stock issued under the Plan. With respect to these shares, the price paid per share is based on the fair value at the time of surrender.
42 Item 6. Selected Financial Data. The following table of selected financial information as of and for the years ended December 31, 2018, 2017, 2016 and 2015 and for the period ended December 31, 2014 is derived from our audited consolidated financial statements. The data should be read in conjunction with, and is qualified in its entirety by reference to, our consolidated financial statements and related notes thereto included elsewhere in this Annual Report on Form 10-K and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” (dollars in thousands, except per share amounts).
As of and for the years ended December 31, 2018 2017 2016 2015 2014 (1) Operating information: Total revenues $ 57,260 $ 61,105 $ 49,296 $ 44,438 $ 5,447 Preferred stock dividends - - 13,760 7,835 - Net income attributable to noncontrolling interest 3,843 3,730 266 4,029 - Net income (loss) attributable to common stockholders 5,663 20,422 (2,710 ) 4,866 23 Per share information: Net income (loss) attributable to common stockholders per share: Basic and diluted $ 0.17 $ 0.64 $ (0.18 ) $ 0.42 $ (0.00 ) Dividends declared per common share $ 0.63 $ 0.84 $ 0.63 $ 0.85 $ 0.20 Balance sheet information: Total assets $ 632,789 $ 581,603 $ 519,753 $ 543,667 $ 211,033 Total debt $ 278,137 $ 215,523 $ 144,000 $ 247,400 $ 50,000
(1) Represents the period from April 23, 2014 (inception) to December 31, 2014.
43 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion should be read together with the consolidated financial statements and the notes thereto contained elsewhere is this Annual Report on Form 10-K.
Overview and Background We are a self-managed and self-administered company that invests in a diversified mix of healthcare properties and healthcare-related real estate debt investments. As of December 31, 2018, we had investments of $590.2 million, net in 34 real estate properties that contained a total of 2,758 licensed beds and six healthcare-related real estate debt investments. Our properties are located in Texas, California, Nevada, South Carolina, Indiana, Connecticut and Tennessee and include 20 skilled nursing facilities, five behavioral health facilities, three acute care hospitals, two long-term acute care hospitals, two inpatient rehabilitation facilities, one assisted living facility and one medical office building. As of December 31, 2018, all of our properties other than our medical office building were 100% leased pursuant to triple-net leases with lease expirations ranging from March 2029 to September 2033. We conduct our business through an UPREIT structure, consisting of our operating partnership, MedEquities Realty Operating Partnership, LP, and subsidiaries of our operating partnership, including our taxable REIT subsidiary, MedEquities Realty TRS, LLC. Through our wholly owned limited liability company, MedEquities OP GP, LLC, we are the sole general partner of our operating partnership, and as of December 31, 2018, we owned all of the OP units of our operating partnership. In the future, we may issue OP units to third parties in connection with healthcare property acquisitions, as compensation or otherwise. There are no material differences between us and our operating partnership as of December 31, 2018. Recent Developments Merger Agreement On January 2, 2019, we entered into an Agreement and Plan of Merger (the “merger agreement”) with Omega Healthcare Investors, Inc. (“Omega”) pursuant to which, subject to the satisfaction or waiver of certain conditions set forth in the merger agreement, we will merge with an into Omega (such merger transaction, the “merger”) at the effective time of the merger (the “merger effective time”), with Omega continuing as the surviving company in the merger. At the merger effective time, each outstanding share of our common stock will be converted into the right to receive (i) 0.235 of a share of common stock of Omega, subject to adjustment under certain limited circumstances, plus the right to receive cash in lieu of any fractional shares of Omega common stock; and (ii) an amount in cash equal to $2.00, subject to adjustment under certain limited circumstances. Pursuant to the terms of the merger agreement, we will declare a special dividend of $0.21 per share of our common stock payable to the holders of record of our common stock as of the end of trading on the New York Stock Exchange (the “NYSE”) on the trading day immediately prior to the closing date of the merger, which will be payable together with the cash consideration in the merger in accordance with the terms of the merger agreement (the “pre-closing dividend”). The merger is subject to customary closing conditions, including, but not limited to, the approval of our stockholders. The proposed merger is currently expected to close in the first half of 2019. The foregoing description of the merger and the merger agreement does not purport to be complete and is qualified in its entirety by reference to the merger agreement, which is filed as Exhibit 2.1 hereto and is incorporated herein by reference.
Texas Ten Portfolio Update In November 2018, the Company signed a new, 15-year triple-net master lease with certain affiliates of Creative Solutions in Healthcare (“Creative Solutions”) for our portfolio of ten skilled nursing facilities located throughout Texas (the “Texas Ten Portfolio”) previously leased to affiliates of OnPointe (the “Prior Texas Ten Tenant”). The lease with the Prior Texas Ten Tenant was terminated on December 31, 2018 and the new lease with Creative Solutions commenced on January 1, 2019. The initial annual base rent under the lease is approximately $7.7 million with annual lease escalators of 2.0% and two, five-year tenant renewal options. The Texas Ten Portfolio accounted for approximately 24.2% of the Company’s total real estate properties, net as of December 31, 2018. The lease with the Prior Texas Ten Tenant was a triple-net master lease with the tenant responsible for all costs of the facilities, including taxes, utilities, insurance, maintenance and capital improvements. Monthly base rent due under the master lease was approximately $1.1 million during 2017 and 2018. Beginning in May 2018, the Prior Texas Ten Tenant stopped paying the monthly contractual rent due under the master lease because of ongoing operational difficulties that adversely impacted its liquidity position. As a result of the operational issues and related non-payment of full contractual rent due, effective July 1, 2018, we began recognizing revenue under the master lease as cash was received from the tenant. Total base rent due under the Prior Texas Ten Tenant’s lease for the year ended December 31, 2018 was approximately $12.9 million, of which the Company collected and recognized as revenue approximately $6.9 million, which included the application of security deposits held by the Company equal to two months of base rent. During the quarter ended September 30, 2018, we reserved approximately $4.8 million for the balance of non-cash straight-line rent outstanding as of June 30, 2018 that has been previously recorded in rental income. Additionally, the Company’s net income for the year ended December 31, 2018 was adversely impacted by approximately $1.5 million in property-
44 related expenses related to the Texas Ten Portfolio comprised primarily of property taxes for 2017 and 2018, which were the responsibility of the Prior Texas Ten Tenant under their triple-net master lease.
Fundamental Healthcare Portfolio Update We lease a portfolio of four properties – Mountain’s Edge Hospital, Horizon Specialty Hospital of Henderson, Physical Rehabilitation and Wellness Center of Spartanburg, and Mira Vista Court – to subsidiaries of Fundamental Healthcare (“Fundamental”) pursuant to a triple-net master lease (as amended, the “Fundamental Master Lease”), which is guaranteed by THI of Baltimore, Inc., a wholly owned subsidiary of Fundamental (the “Fundamental Guarantor”). The Fundamental Guarantor operates approximately 82 skilled nursing facilities, one long-term acute care hospital, two acute care hospitals and one inpatient psychiatric hospital. The Mountain’s Edge facility is undergoing an expansion to add five operating rooms. Once construction is completed, Fundamental believes the facility will be able to provide a broad variety of surgical services that will result in higher patient volumes and reimbursements. The operating results of the Mira Vista skilled nursing facility have been adversely affected by turnover in the facility’s administrator position as well as by increased competition in the market. Primarily as a result of the operating performance at these two facilities, management of Fundamental has reported to us that, for the trailing twelve-month period ended September 30, 2018, the portfolio rent coverage ratio was 0.58x. Additionally, Fundamental management reported the fixed charge coverage ratio of the Fundamental Guarantor for the trailing twelve-month period ended September 30, 2018 was 1.06x. On October 6, 2018, we entered into the First Amendment (the “Fundamental Lease Amendment”) to the Fundamental Master Lease, pursuant to which we agreed to defer a portion of the monthly rent and certain other payments under the Fundamental Master Lease in the aggregate amount of approximately $2.4 million (the “Total Abatement Amount”) for the period from May 20, 2018 through March 20, 2019 (the “Temporary Abatement Period”). During the Temporary Abatement Period, Fundamental is required to pay monthly interest on the then-outstanding Total Abatement Amount at an annual interest rate of 9%, in addition to the reduced rent and other payments due under the Fundamental Master Lease. Beginning in April 2019, the Total Abatement Amount will be due in equal monthly installments over the remainder of 2019. As of December 31, 2018, the deferred rent balance was approximately $1.7 million, which is recorded in other assets on our consolidated balance sheet. At February 25, 2019, the deferred rent balance was approximately $2.0 million. In addition, the Fundamental Lease Amendment eliminated the covenants requiring a minimum portfolio fixed charge coverage ratio and a minimum facility rent coverage ratio and amended the minimum portfolio coverage ratio to 1.20x through the quarterly reporting period of December 31, 2020 and 1.25x for each quarter thereafter. The minimum portfolio rent coverage and the Fundamental Guarantor fixed charge coverage ratio covenants do not apply during the Temporary Abatement Period. If the operating results of our Fundamental tenants and/or the Fundamental Guarantor do not improve, they may default on the lease payments or other obligations to us, which could materially and adversely affect our business, financial condition and results of operations.
2018 Investments During the year ended December 31, 2018, we made the following investments: On September 21, 2018, we acquired the newly constructed Norris Academy, a psychiatric residential treatment facility for children and youth with neurodevelopmental disorders located in northeast Tennessee, which previously served as collateral for a construction mortgage loan provided by us. The purchase price of approximately $6.4 million was satisfied by applying the aggregate principal amount outstanding on the mortgage loan. The property is 100% leased to a wholly owned subsidiary of Sequel Youth and Family Services, LLC pursuant to a 15-year triple-net lease with two 10-year renewal options at an initial yield of 9.0% with annual rent escalators. On June 27, 2018, we acquired Southern Indiana Rehabilitation Hospital, a 60-bed inpatient rehabilitation facility located in New Albany, Indiana, a suburb of Louisville, Kentucky, for an aggregate purchase price of $23.4 million in cash. The property is 100% leased to an affiliate of Vibra Healthcare, LLC pursuant to a 15-year initial term triple-net lease with two five-year renewal options at an initial lease rate of 9.0% with annual escalators. On June 27, 2018, we entered into a loan modification agreement for the $10.0 million mortgage note with Vibra Healthcare, LLC and Vibra Healthcare II, LLC that converted the loan to a 10-year amortizing loan requiring monthly principal and interest payments with a balloon payment on the maturity date of June 30, 2023. As part of the modification, the borrowers repaid $1.0 million of principal. The interest rate on the loan remains unchanged at 9.0%. On April 6, 2018, we originated a $7.0 million pre-development note receivable with Medistar Stockton Rehab, LLC. The note accrues interest at an annual rate of 10.0% that is payable on the maturity date of February 28, 2019. The note is secured by a leasehold mortgage on the development of a future healthcare facility in Stockton, California. On March 29, 2018, we originated a $5.0 million mortgage note receivable with a subsidiary real estate entity of GruenePointe Holdings, LLC, which is secured by a second lien on a skilled nursing and assisted living facility (“Adora Midtown”) and a first lien
45 on an additional parcel of land in Dallas, Texas. The loan has a two-year term and an annual interest rate of 10.0% that is payable on the maturity date of March 29, 2020. We have an existing purchase option on Adora Midtown for a gross purchase price not to exceed approximately $28.0 million, plus an earnout that we may pay based on the facility’s earnings before interest, taxes, depreciation, amortization and rent expense (“EBITDAR”) during the three years following the closing date of the acquisition. On February 16, 2018, we funded an additional $3.0 million under an existing mortgage note receivable with Medistar Corporation, which is secured by land and an existing building in Webster, Texas (the “Medistar Gemini Mortgage Loan”) that increased the total balance of the loan to $9.7 million. Effective with this additional funding, the interest rate under the loan increased from an annual interest rate of 10.0% to an annual interest rate of 12.0% and is payable upon the maturity date of the loan on February 28, 2019. On January 31, 2018, we originated a $5.4 million mortgage note receivable to Louisville Rehab LP to partially fund the construction of a 42-bed inpatient rehabilitation facility in Clarksville, Indiana. The note is secured by a second lien on the facility. The three-year loan has an annual interest rate of 9.5%, which has a claw-back feature that would equate to a 15.0% rate from inception of the loan should we elect not to exercise our purchase option. We have the exclusive option to purchase the new facility upon completion for approximately $26.0 million that would be leased pursuant to a 20-year triple net master lease guaranteed by Cobalt Medical Partners and Cobalt Rehabilitation Hospitals at an initial annual rate of 9.0%. On January 5, 2018, we closed on a construction mortgage receivable with a maximum principal amount of up to $19.0 million to Haven Behavioral Healthcare for the purchase and conversion of an existing long- term acute care hospital to a 72-bed inpatient psychiatric hospital in Meridian, Idaho. The loan has a three-year term and an annual interest rate of 10.0%. Interest accrues monthly and is added to the outstanding balance of the mortgage note receivable. Upon completion of the planned renovation, we have the exclusive right to purchase the property, for a purchase price equal to the outstanding loan balance, in a sale-leaseback transaction with a 15-year triple-net master lease with an initial yield of 9.3%. The balance outstanding under this loan was approximately $16.2 million on December 31, 2018.
Mountain’s Edge Hospital Expansion Funding Pursuant to the Fundamental Master Lease (as defined above), we agreed to make available through March 2019 an aggregate amount of up to $11.0 million for the construction and equipping of certain new surgical suites at Mountain’s Edge Hospital, subject to certain terms and conditions. The base rent under the master lease will be increased by an amount equal to the in-place lease rate, currently 9.4%, of the amount advanced, as advances are made. As of February 25, 2019, approximately $6.6 million has been funded pursuant to this commitment.
Critical Accounting Policies The preparation of financial statements in conformity with generally accepted accounting principles (“GAAP”) in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Management considers accounting estimates or assumptions critical in either of the following cases: • the nature of the estimates or assumptions is material because of the levels of subjectivity and judgment needed to account for matters that are highly uncertain and susceptible to change; and • the effect of the estimates and assumptions is material to the financial statements. Management believes the current assumptions used to make estimates in the preparation of the consolidated financial statements are appropriate and not likely to change in the future. However, actual experience could differ from the assumptions used to make estimates, resulting in changes that could have a material adverse effect on our consolidated results of operations, financial position and/or liquidity. These estimates will be made and evaluated on an ongoing basis using information that is available as well as various other assumptions believed to be reasonable under the circumstances. Management has discussed the determination and disclosures of these critical accounting policies with the audit committee of the board of directors. The following presents information about our critical accounting policies including the material assumptions used to develop significant estimates. Certain of these critical accounting policies contain discussion of judgments and estimates that have not yet been required by management but that it believes may be reasonably required of it to make in the future. See Note 2 “Accounting Policies and Related Matters” to the consolidated financial statements for additional information on significant accounting policies and the effect of recent accounting pronouncements. Principles of Consolidation The consolidated financial statements include the accounts of our wholly owned subsidiaries, and all material intercompany transactions and balances are eliminated in consolidation. We consolidate entities in which we own less than 100% of the equity interest but have a controlling interest through voting rights or other means. For these entities, we record a noncontrolling interest representing the equity held by other parties.
46 From inception, we continually evaluate all of our transactions and investments to determine if they represent variable interests subject to the variable interest entity (“VIE”) consolidation model and then determine which business enterprise is the primary beneficiary of its operations. We make judgments about which entities are VIEs based on an assessment of whether (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 entity’s activities without additional subordinated financial support. We consolidate investments in VIEs when we are determined to be the primary beneficiary. This evaluation is based on our ability to direct and influence the activities of a VIE that most significantly impact that entity’s economic performance. For investments not subject to the variable interest entity consolidation model, we will evaluate the type of rights held by the limited partner(s) or other member(s), which may preclude consolidation in circumstances in which the sole general partner or managing member would otherwise consolidate the limited partnership. The assessment of limited partners’ or members’ rights and their impact on the presumption of control over a limited partnership or limited liability corporation by the sole general partner or managing member should be made when an investor becomes the sole general partner or managing member and should be reassessed if (i) there is a change to the terms or in the exercisability of the rights of the limited partners or members, (ii) the sole general partner or member increases or decreases its ownership in the limited partnership or corporation or (iii) there is an increase or decrease in the number of outstanding limited partnership or membership interests. Our ability to assess correctly our influence or control over an entity at inception of our involvement or on a continuous basis when determining the primary beneficiary of a VIE affects the presentation of these entities in our consolidated financial statements. Subsequent evaluations of the primary beneficiary of a VIE may require the use of different assumptions that could lead to identification of a different primary beneficiary, resulting in a different consolidation conclusion than what was determined at inception of the arrangement. Revenue Recognition, Mortgage Loans and Receivables Leases of Real Estate Properties Upon inception of new lease arrangements, including new leases that arise from amendments, we assess the terms and conditions to determine the proper lease classification. A lease arrangement is classified as an operating lease if none of the following criteria are met: (i) transfer of ownership to the lessee, (ii) lessee has a bargain purchase option during or at the end of the lease term, (iii) the lease term is equal to 75% or more of the underlying property’s economic life or (iv) the future minimum lease payments (excluding executory costs) are equal to 90% or more of the excess estimated fair value of the leased building. If one of the four criteria is met and the minimum lease payments are determined to be reasonably predicable and collectible, the lease arrangement is generally accounted for as a direct financing lease. Currently, all of our lease arrangements are classified as operating leases. If the assumptions utilized in the above classification assessments were different, our lease classification for accounting purposes may have been different; thus the timing and amount of our revenue recognized would have been impacted, which may be material to our consolidated financial statements. We recognize rental revenue for operating leases on a straight-line basis over the lease term when collectability is reasonably assured and the tenant has taken possession or controls the physical use of a leased asset. For assets acquired subject to leases, we recognize revenue upon acquisition of the asset provided the tenant has taken possession or control of the physical use of the leased asset. If the lease provides for tenant improvements, we determine whether the tenant improvements, for accounting purposes, are owned by the tenant or us. When we are the owner of the tenant improvements, the tenant is not considered to have taken physical possession or have control of the physical leased asset until the tenant improvements are substantially completed. When the tenant is the owner of the tenant improvements, any tenant improvement allowance funded is treated as a lease incentive and amortized as a reduction of revenue over the lease term. The determination of ownership of the tenant improvements is subject to significant judgment. If our assessment of the owner of the tenant improvements for accounting purposes were different, the timing and amount of our revenue recognized would be impacted. In addition to minimum rental payments, some lease agreements may provide for contingent rents based on the lessee’s operations, such as a percentage of a lessee’s gross revenue increase over a specified base amount. Rental revenue related to any contingent rents is recognized only when the change in factor(s) on which the contingent rental payments are based actually occur. We monitor the liquidity and creditworthiness of our tenants and operators on a continuous basis to determine the need for an allowance for doubtful accounts, including an allowance for operating lease straight-line rent receivables, for estimated losses resulting from tenant defaults or the inability of tenants to make contractual rent and tenant recovery payments. This evaluation considers industry and economic conditions, property performance, credit enhancements and other factors. For straight-line rent amounts, our assessment is based on income recoverable over the term of the lease. We exercise judgment in establishing allowances and consider payment history and current credit status in developing these estimates. These estimates may differ from actual results, which could be material to our consolidated financial statements. At December 31, 2018 and 2017, we have determined that no allowance for doubtful accounts is necessary.
47 Mortgage Loans, Other Receivables Loans receivable, including mortgage notes, are classified as held-for-investment based on management’s intent and ability to hold the loans for the foreseeable future or to maturity. We recognize interest income on loans, including the amortization of discounts and premiums, using the interest method applied on a loan-by-loan basis when collectability of the future payments is reasonably assured. Premiums, discounts and related costs are recognized as yield adjustments over the term of the related loans. Loans receivable are placed on non-accrual status at such time as management determines that collectability of contractual amounts is not reasonably assured. While on non-accrual status, loans are either accounted for on a cash basis, in which income is recognized only upon receipt of cash, or on a cost-recovery basis, where cash receipts reduce the carrying value of the loan, based on management’s judgment of collectability. Management’s judgments regarding the collectability of amounts outstanding under loans receivable can affect the timing of revenue recognized and the financial statement presentation of these arrangements. Allowances are established for loans based upon an estimate of probable losses on an individual basis if they are determined to be impaired. Loans are impaired when it is deemed probable that we will be unable to collect all amounts due on a timely basis in accordance with the contractual terms of the loan or lease. Determining the adequacy of the allowance is complex and requires significant judgment by us about the effect of matters that are inherently uncertain. The allowance is based upon our assessment of the borrower’s or lessee’s overall financial condition, resources and payment record; the prospects for support from any financially responsible guarantors; and, if appropriate, the net 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 loan’s effective interest rate, the fair value of collateral, general economic conditions and trends, historical and industry loss experience, and other relevant factors. While our assumptions for any such allowances are based in part upon historical data, our estimates may differ from actual results, which could be material to our consolidated financial statements. Real Estate Investments We evaluate each purchase transaction to determine whether the acquired assets meet the definition of a business and make estimates as part of our allocation of the purchase prices. For acquisitions accounted for as asset acquisitions, the purchase price is allocated to the various components of the acquisition based upon the relative fair value of each component. For acquisitions accounted for as business combinations, the purchase price is allocated at fair value of each component. In making estimates of fair values for purposes of allocating purchase prices of acquired real estate, we utilize a number of sources, including independent appraisals that may be obtained in connection with the acquisition or financing of the respective property and other market data. We also consider information obtained about each property as a result of our pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the assets acquired. The most significant components of our allocations are typically the allocation of fair value to land and buildings and in-place leases and other intangible assets. The estimates of the fair value of buildings will affect the amount of depreciation and amortization we record over the estimated useful life of the property acquired. For any value assigned to in-place leases and other intangibles, including the assessment as to the existence of any above-or below-market in-place leases, management makes its best estimates based on the evaluation of the specific characteristics of each tenant’s lease. Factors considered include estimates of carrying costs during hypothetical expected lease-up periods, market conditions and costs to execute similar leases. These assumptions affect the amount of future revenue that we will recognize over the remaining lease term for the acquired in-place leases. The values of any identified above-or below-market in-place leases are based on the present value of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease, or for below-market in-place leases including any bargain renewal option terms. Above-market lease values are recorded as a reduction of rental income over the lease term while below-market lease values are recorded as an increase to rental income over the lease term. The recorded values of in-place lease intangibles are recognized in amortization expense over the initial term of the respective leases. Transaction costs related to asset acquisitions are included in the cost basis of the acquired assets, while transaction costs related to acquisitions that are deemed business combinations are expensed as incurred. Asset Impairment Real estate asset impairment losses are recorded when events or changes in circumstances indicate the asset is impaired and the estimated undiscounted cash flows to be generated by the asset are less than its carrying amount. Management assesses the impairment of properties individually and impairment losses are calculated as the excess of the carrying amount over the fair value of assets to be held and used, and carrying amount over the fair value less cost to sell in instances where management has determined that we will dispose of the property. In determining fair value, we use current appraisals or other third party opinions of value and other estimates of fair value such as estimated discounted future cash flows. We evaluate the carrying values of mortgage loans, including mortgage notes receivable, on an individual basis. Management periodically evaluates the realizability of future cash flows from the mortgage loan receivable when events or circumstances, such as the non-receipt of principal and interest payments and/or significant deterioration of the financial condition of the borrower, indicate
48 that we will be unable to collect all the contractual interest and principal payments as scheduled in the mortgage agreement. An impairment charge is recognized in current period earnings and is calculated as the difference between the carrying amount of the mortgage loan receivable and the discounted cash flows expected to be received, or if foreclosure is probable, the fair value of the collateral securing the mortgage. Stock-Based Compensation The fair value of stock-based awards is calculated on the date of grant. We amortize the stock-based compensation expense on a straight-line basis over the period that the awards are expected to vest, net of any forfeitures. We may grant stock-based awards, in the form of restricted stock units, that vest based on the achievement of either performance conditions or market conditions. Typical performance conditions to vesting include growth in real estate investment assets and growth in quarterly adjusted funds from operations attributable to common stockholders per diluted share over a defined performance period. The fair value of awards subject to subject to performance conditions is determined based on the closing market price of our common stock on the date of grant. Total compensation expense is recognized for awards with performance conditions based on the probable outcome the performance conditions. The probability of achieving a performance condition is assessed on a quarterly basis. The total compensation expense to recognize for awards with performance based vesting conditions including achievement of certain market conditions is based on our estimate of the ultimate fair value of such award after considering our expectation of future performance. Typical market conditions for these awards are based on our stock price levels or our total stockholder return (stock price and dividends) including comparisons of our total stockholder returns to an index of other REIT stocks. Since the awards are earned based on the achievement of market conditions, we must initially evaluate and estimate the probability of achieving the market conditions in order to determine the fair value of the award and over what period to recognize the stock compensation expense. Due to the complexities inherently involved with these awards, we will typically use an independent consultant to assist in modeling both the value of the award and the various periods over which each tranche of an award will be earned. We use what is termed a Monte Carlo simulation model which determines a value and earnings periods based on multiple outcomes and their probabilities based on significant inputs such as risk-free interest rate, expected volatility and expected service period that are made at the time of grant of the award. See Note 2 “Accounting Policies and Related Matters” in the notes to the consolidated financial statements for information concerning recently issued accounting standards. Factors That May Influence Future Results of Operations Our revenues are derived from rents earned pursuant to the lease agreements entered into with our tenants and from interest income from loans that we make to other facility owners. Our tenants operate in the healthcare industry, generally providing medical, surgical and rehabilitative care to patients. The capacity of our tenants/borrowers to pay our rents and interest is dependent upon their ability to conduct their operations at profitable levels. We believe that the business environment in which our tenants operate is generally positive for efficient operators. However, our tenants’ operations are subject to economic, regulatory and market conditions that may affect their profitability, which could impact our results of operations. Accordingly, we actively monitor certain key factors, including changes in those factors that we believe may provide early indications of conditions that may affect the level of risk in our lease and loan portfolio. Key factors that we consider in underwriting prospective tenants, borrowers and guarantors and in monitoring the performance of existing tenants, borrowers and guarantors include, but are not limited to, the following: • the current, historical and projected cash flow and operating margins of each tenant and at each facility; • the ratio of our tenants’ operating earnings both to facility rent and to facility rent plus other fixed costs, including debt costs; • the quality and experience of the tenant and its management team; • construction quality, condition, design and projected capital needs of the facility; • the location of the facility; • local economic and demographic factors and the competitive landscape of the market; • the effect of evolving healthcare legislation and other regulations on our tenants’ profitability and liquidity; and • the payor mix of private, Medicare and Medicaid patients at the facility. We also actively monitor the credit risk of our tenants. The methods used to evaluate a tenant’s liquidity and creditworthiness include reviewing certain periodic financial statements, operating data and clinical outcomes data of the tenant. Over the course of a lease, we also have regular meetings with the facility management teams. Through these means we are able to monitor a tenant’s credit quality. Our approach to our investments in real estate-related debt investments is similar to our process when seeking to
49 purchase the underlying property. We service our debt investments in-house and monitor both the credit quality of the borrower as well as the value of our collateral on an ongoing basis. Certain business factors, in addition to those described above that directly affect our tenants and borrowers, will likely materially influence our future results of operations: • the financial and operational performance of our tenants and borrowers, particularly those that account for a significant portion of the income generated by our portfolio, such as Baylor Scott & White Health, Creative Solutions, Life Generations Healthcare, Fundamental Healthcare and Vibra Healthcare (see “Recent Developments—Texas Ten Portfolio Update” and “Recent Developments— Fundamental Healthcare Portfolio Update” above); • trends in the cost and availability of capital, including market interest rates, that our prospective tenants may use for financing their real estate assets through lease structures; • unforeseen changes in healthcare regulations that may limit the incentives for physicians to participate in the ownership of healthcare providers and healthcare real estate; • reductions in reimbursements from Medicare, state healthcare programs and commercial insurance providers that may reduce our tenants’ profitability impacting our lease rates; and • competition from other financing sources. Leasing Activity- Medical Office Building For additional information on the leasing activity at the Company’s medical office building, see “Business—Our Portfolio—Lease Expirations—Medical Office Building Lease Expirations.” Results of Operations Year ended December 31, 2018 compared to December 31, 2017 (dollars in thousands)
For the year ended December 31, Change 2018 2017 $ % Revenues Rental income $ 52,701 $ 58,913 $ (6,212 ) (11 %) Interest on mortgage notes receivable 4,041 2,157 1,884 87 % Interest on notes receivable 518 35 483 1,380 % Total revenues 57,260 61,105 (3,845 ) (6 %) Expenses Depreciation and amortization 17,202 15,504 1,698 11 % Property related 2,797 1,482 1,315 89 % Real estate acquisition related 1,064 457 607 133 % Franchise, excise and other taxes 315 141 174 123 % General and administrative 13,900 11,677 2,223 19 % Total operating expenses 35,278 29,261 6,017 21 % Operating income 21,982 31,844 (9,862 ) (31 %)
Other income (expense) Interest and other income 11 9 2 22 % Interest expense (12,487 ) (7,701 ) (4,786 ) 62 % (12,476 ) (7,692 ) (4,784 ) 62 %
Net income $ 9,506 $ 24,152 $ (14,646 ) (61 %) Less: Net income attributable to noncontrolling interest (3,843 ) (3,730 ) (113 ) 3 % Net income attributable to common stockholders $ 5,663 $ 20,422 $ (14,759 ) (72 %) Revenues for the year ended December 31, 2018 decreased approximately $3.8 million, or 6%, over the prior year as a result of an approximately $6.2 million decrease in rental income, partially offset by an approximately $2.4 million increase in interest on mortgage notes and notes receivable. Rental income decreased approximately $11.5 million related to the write-off of straight-line rent and conversion of the Prior Texas Ten Tenant to non-accrual status for revenue recognition as described above under “Recent Developments—Texas Ten Portfolio Update.” Additionally, rental income decreased approximately $1.3 million due to increased vacancy at our medical office building, North Brownsville Medical Plaza. This was partially offset by an increase in rental income of approximately $6.0 million from ten new properties acquired during the years ended December 31, 2017 and 2018 and a $0.5 million
50 increase in rental income primarily related to the Mountain’s Edge Hospital expansion funding described above under “2018 Investments- Mountain’s Edge Hospital Expansion Funding.” Interest on mortgage notes and note receivable increased approximately $3.4 million as a result of the origination of five mortgage notes and one note receivable during the years ended December 31, 2017 and 2018, partially offset by a decrease of $0.9 million related to the conversion of a $12.5 million mortgage loan to fee simple ownership in November 2017. Total operating expenses for the year ended December 31, 2018 increased approximately $6.0 million, or 21%, over the prior year period, primarily from: (i) an increase in depreciation and amortization expense of $1.7 million primarily associated with the ten real estate assets acquired during the years ended December 31, 2017 and 2018, (ii) an increase in property-related expenses of approximately $1.3 million primarily related to approximately $1.5 million of 2017 and 2018 property taxes for the Texas Ten Portfolio, which were the responsibility of the Prior Texas Ten Tenant as described above under “Recent Developments- Texas Ten Portfolio Update” partially offset by a decrease in expenses related to the Company’s one medical office building, (iii) an increase in real estate acquisition-related costs of approximately $0.6 million related to the write-off of capitalized project costs that are no longer being pursued; and (vi) a net increase in general and administrative expenses of approximately $2.2 million, comprised of higher professional service costs totaling $3.6 million that includes approximately $2.1 million in transaction costs incurred during the second quarter of 2018 and approximately $0.5 million in merger-related costs incurred in the fourth quarter of 2018, partially offset by $1.4 million in reduced compensation and related expenses. Interest expense for year ended December 31, 2018 increased approximately $4.8 million, or 62%, over the prior year. This increase was the result of (i) a higher weighted-average outstanding balance under the credit facility of approximately $74.6 million for the year ended December 31, 2018 compared to the prior year, (ii) a higher weighted-average interest rate under the credit facility, including the effect of the interest rate swap agreements, of 4.1% for the year ended December 31, 2018, compared to 3.2% for the prior year; and (iii) approximately $0.2 million in higher amortization of deferred financing costs primarily associated with the Second Amendment to our Second Amended and Restated Credit Agreement from October 2018, which is described below under “Liquidity and Capital Resources- Credit Facility.” Year ended December 31, 2017 compared to December 31, 2016 (dollars in thousands)
For the year ended December 31, Change 2017 2016 $ % Revenues Rental income $ 58,913 $ 48,330 $ 10,583 22 % Interest on mortgage notes receivable 2,157 921 1,236 134 % Interest on notes receivable 35 45 (10 ) (22 %) Total revenues 61,105 49,296 11,809 24 % Expenses Depreciation and amortization 15,504 14,323 1,181 8 % Property related 1,482 1,303 179 14 % Real estate acquisition related 457 488 (31 ) (6 %) Franchise, excise and other taxes 141 366 (225 ) (61 %) Bad debt expense - 216 (216 ) (100 %) General and administrative 11,677 10,596 1,081 10 % Total operating expenses 29,261 27,292 1,969 7 % Operating income 31,844 22,004 9,840 45 %
Other income (expense) Interest and other income 9 195 (186 ) (95 %) Interest expense (7,701 ) (10,883 ) 3,182 (29 %) (7,692 ) (10,688 ) 2,996 (28 %)
Net income $ 24,152 $ 11,316 $ 12,836 113 % Less: Preferred stock dividends - (13,760 ) 13,760 (100 %) Less: Net income attributable to noncontrolling interest (3,730 ) (266 ) (3,464 ) 1,302 % Net income (loss) attributable to common stockholders $ 20,422 $ (2,710 ) $ 23,132 NM NM = Not Meaningful Revenues for the year ended December 31, 2017 increased approximately $11.8 million, or 24%, over the prior year as a result of an approximately $10.6 million increase in rental income and an approximately $1.2 million increase in interest on mortgage notes receivable related to the origination of three mortgage loans in 2017. The $10.6 million increase in rental income compared to the
51 prior-year period was due to: (i) an approximately $2.4 million increase attributable to rental income from eight new properties acquired during the year ended December 31, 2017; (ii) an approximately $1.0 million increase related primarily to the Mountain’s Edge Hospital expansion funding during 2017 described above; (iii) an approximately $0.2 million increase in expense reimbursements; and (iv) a one-time write-off of $6.9 million in straight-line rent in 2016 as a result of the operator change at Lakeway Hospital to BSW Health and the termination of the prior tenant’s lease. Total operating expenses for the year ended December 31, 2017 increased approximately $2.0 million, or 7%, over the prior year which was comprised primarily of: (i) an increase in depreciation and amortization expense of $1.2 million primarily associated with the eight real estate assets acquired during the year ended December 31, 2017; and (ii) an increase in general and administrative expenses of approximately $1.1 million resulting from higher insurance and salary-related expenses of approximately $0.2 million and approximately $0.8 million of stock-based compensation expense primarily related to the December 30, 2016 and January 1, 2017 equity grants. These increases were was partially offset by a decrease in franchise taxes of $0.2 million and a decrease in bad debt expense of $0.2 million recorded in the second quarter of 2016 associated with the operator change at Lakeway Hospital. Interest and other income for the year ended December 31, 2017 decreased $0.2 million. In September 2016, we recognized a surety bond fee of approximately $0.2 million. Interest expense for year ended December 31, 2017 decreased approximately $3.2 million, or 29%, over the prior year. This decrease was comprised of the following: • Approximately $1.8 million in lower interest and unused credit facility fees as a result of (i) a reduction in the weighted-average outstanding balance under the credit facility of approximately $44.3 million for the year ended December 31, 2017 compared to the prior year and (ii) a lower weighted-average interest rate under the credit facility, including the effect of the interest rate swap agreements, of 3.2% for the year ended December 31, 2017, compared to 3.6% for the prior year; and • Approximately $1.4 million in lower amortization of deferred financing costs primarily associated with the amendment and restatement of the credit agreement in February 2017, which extended the maturity date of amounts due under the revolving credit facility to February 2021 and added the term loan with a maturity date of February 2022. Preferred stock dividends decreased approximately $13.8 million from the prior-year period as a result of the redemption in October 2016 of all of our 7.875% Series B Redeemable Cumulative Preferred Stock (“Series B Preferred Stock”) with a portion of the net proceeds from our initial public offering (“IPO”). Earnings attributable to noncontrolling interest represent the proportionate share of our partner in the operating results of the consolidated Lakeway Partnership. The net income attributable to noncontrolling interest was $3.7 million for the year ended December 31, 2017, compared to $0.3 million for the prior year. The change represents the noncontrolling interest holder’s proportionate share of the $6.9 million increase in rental income as a result of the straight-line rent write-off in 2016 and $0.2 million decrease in bad debt expense resulting from the agreement in the second quarter of 2016 to an operator change to BSW Health at Lakeway Hospital and the termination of the prior tenant’s lease. Liquidity and Capital Resources Overview Liquidity is a measure of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain our assets and operations, make distributions to our stockholders and other general business needs. Our primary sources of cash include operating cash flows, borrowings, including borrowings under our revolving credit facility and secured term loan, and net proceeds from equity issuances. Our primary uses of cash include funding acquisitions and investments consistent with our investment strategy, repaying principal and interest on outstanding borrowings, making distributions to our stockholders, funding our operations and paying accrued expenses. At December 31, 2018, we had $8.4 million of cash and cash equivalents. As of February 25, 2019, we had approximately $5.6 million of estimated contractual obligations expected to be funded through June 30, 2019, excluding interest on our borrowings under the Credit Agreement. We expect to fund these obligations with a combination of cash flows from operations and borrowings under the Credit Agreement. Our long-term liquidity needs consist primarily of funds necessary to pay for the costs of acquiring additional healthcare properties and making additional loans and other investments, including funding potential future developments and redevelopments, and principal and interest payments on our debt. In addition, although the terms of our net leases generally obligate our tenants to pay capital expenditures necessary to maintain and improve our net-leased properties, we from time to time may fund the capital expenditures or other property-related items for our net-leased properties through loans to the tenants or advances, some of which may increase the amount of rent payable with respect to the properties. We may also fund the capital expenditures for any multi-tenanted properties, which currently include our one medical office building. We expect to meet our long-term liquidity requirements through various sources of capital, including future equity issuances (including limited partnership units in our operating partnership) or debt offerings, net cash provided by operations, borrowings under our revolving credit facility, long-term mortgage indebtedness and other secured and unsecured borrowings. However, our access to capital in order to fund future acquisitions, investments and the other activities described above in the near term is limited due to, among other things, the restrictions on the use of proceeds from borrowings under the Credit Agreement and the
52 borrowing base availability under the Credit Agreement. See “—Credit Agreement” and “—Management’s Assessment of Future Borrowing Base Availability and Future Plans.” Our ability to make distributions to our stockholders is limited by the covenants in the Credit Agreement as further described below. In addition, our ability to incur any additional other debt will depend on a number of factors, including our degree of leverage, the value of our unencumbered assets, compliance with covenants under our existing debt agreements, borrowing restrictions that may be imposed by lenders and the conditions of the debt markets. Our ability to access the equity markets also will depend on a number of factors, including general market conditions for REITs and market perceptions about us. Under the Credit Agreement, we are subject to continuing covenants and are required to make continuing representations and warranties, and future indebtedness that we may incur may contain similar provisions. In addition, borrowings under the Credit Agreement are secured by pledges of the equity interests in substantially all of our subsidiaries. In the event of a default, the lenders could accelerate the timing of payments under the debt obligations and we may be required to repay such debt with capital from other sources, which may not be available on attractive terms, or at all, which would have a material adverse effect on our liquidity, financial condition, results of operations and ability to make distributions to our stockholders. Credit Agreement Our Second Amended and Restated Credit Agreement (as amended, the “Credit Agreement”) provides for a $300 million secured revolving credit facility that matures in February 2021 and a $125 million secured term loan that matures in February 2022. The revolving credit facility has one 12-month extension option, subject to certain conditions, including the payment of a 0.15% extension fee. At December 31, 2018 and 2017, the weighted-average interest rate under our credit facility was 4.9% and 3.6%, respectively. The weighted-average balance outstanding under our credit facility was approximately $253.0 million and $178.5 million for the years ended December 31, 2018 and 2017, respectively. The revolving credit facility includes an unused facility fee equal to 0.25% of the amount of the unused portion of the revolving credit facility if amounts borrowed are equal to or greater than 50% of the total commitments or 0.35% if amounts borrowed are less than 50% of such commitments. The amount available to borrow under the Credit Agreement is limited according to a borrowing base valuation of assets owned by subsidiaries of our operating partnership. The credit facility is secured by a pledge of our operating partnership’s equity interests in its subsidiaries that own borrowing base assets, which is substantially all of our assets. On October 9, 2018, we entered into the Second Amendment (the “Second Credit Amendment”) to the Credit Amendment. The Second Credit Amendment amended certain terms, covenants and conditions of the Credit Agreement, including, but not limited to the following:
• increased the applicable margin from pre-amendment of 1.75% to 3.00% for LIBOR-rate loans and 0.75% to 2.00% for base-rate loans to post-amendment of 2.00% to 3.50% for LIBOR-rate loans and 1.00% to 2.50% for base-rate loans, in each case depending on the Company’s leverage ratio, until the Performance Hurdle has occurred, at which time, subject to certain conditions, the applicable margins will revert to those in effect prior to the Credit Amendment; • temporarily increased the borrowing base availability attributable to our borrowing base assets, other than the Texas Ten Portfolio, until December 31, 2018; • reduced the borrowing base availability attributable to the Texas Ten Portfolio until the earlier to occur of the Texas Ten Revaluation Date and December 31, 2018; failure of the Texas Ten Revaluation Date to occur on or prior to December 31, 2018 would have resulted in the Texas Ten Portfolio being excluded as a borrowing base asset; • until the Performance Hurdle has occurred, restricts the Operating Partnership’s use of proceeds from borrowings under the Credit Agreement, unless approved by lenders representing two-thirds of the outstanding commitments under the Credit Agreement. Proceeds totaling approximately $20.4 million were pre-approved for specific uses, comprised primarily of the remaining funding obligations for the expansion at Mountain’s Edge Hospital and under the Company’s construction mortgage loan to Haven Healthcare; • provided that the covenants relating to (i) the minimum aggregate occupancy rate for borrowing base properties and (ii) the maximum adjusted net operating income attributable to a tenant or group of affiliated tenants, shall not apply on or before March 31, 2019; and • did not place additional limitations regarding dividends and distributions prior to December 31, 2018 provided no default or event of default occurred as a result, in whole or in part, of the failure of the Texas Ten Revaluation Date to occur on or before December 31, 2018. Under the Second Credit Amendment, the “Texas Ten Revaluation Date” is defined as the occurrence of all of the following: (i) the written approval by the administrative agent and lenders representing 60.0% of the outstanding commitments under the Credit Agreement of a tenant for the Texas Ten Portfolio pursuant to a lease approved in writing by the administrative agent (the “Replacement Texas Ten Lease”) and a termination of the existing lease for the Texas Ten Portfolio, all pursuant to agreements
53 approved in writing by the administrative agent; (ii) delivery to the administrative agent of a new appraisal of, and the determination of a new appraised value for, the Texas Ten Portfolio based upon the Replacement Texas Ten Lease; and (iii) compliance with each other provision of the Credit Agreement relating to the inclusion of borrowing base assets in the determination of borrowing base availability under the Credit Agreement. The Company satisfied all of the criteria in the definition of Texas Ten Revaluation Date by December 31, 2018. Under the Second Credit Amendment, the “Performance Hurdle” is defined as the occurrence of all of the following: (i) the Texas Ten Revaluation Date shall have occurred on or before December 31, 2018; (ii) the completion of the expansion at Mountain’s Edge Hospital in accordance with the terms of the Fundamental Master Lease, subject to certain other conditions; (iii) the obligations of the tenant under the Fundamental Master Lease to pay full rent and of the tenant under the Replacement Texas Ten Lease to pay rent shall have commenced; (iv) no default or event of default under the Fundamental Master Lease or the Replacement Texas Ten Lease shall have occurred; (v) the tenants under the Fundamental Master Lease and the Replacement Texas Ten Lease shall have not less than one full quarter history of paying rent and reserves with no payment defaults, late payments or delinquencies; (vi) our operating partnership shall have delivered to the administrative agent a written request to return to the original pricing spreads in effect prior to the Credit Amendment (which request may not be delivered prior to July 1, 2019), together with a written certification that the foregoing conditions have been satisfied; and (vii) lenders representing two-thirds of the outstanding commitments under the Credit Agreement shall have approved the return to the original pricing spreads in effect prior to the Credit Amendment. Effective January 1, 2019, we had complied with the terms of the Second Credit Amendment including all the criteria in the definition of Texas Ten Revaluation Date. At that date, the temporary increase in borrowing base availability attributable to our borrowing base assets as provided for in the Second Credit Amendment expired, resulting in our borrowings under the credit facility exceeding borrowing base availability by approximately $7.2 million. On February 20, 2019, we entered into the Third Amendment (the “Third Credit Amendment”) to the Credit Agreement that further amended certain terms, covenants and conditions of the Credit Agreement and the Second Credit Amendment including, but not limited to the following: • extends the increase in borrowing base availability attributable to our borrowing base assets provided for in the Second Credit Amendment, including the Texas Ten Portfolio, until June 30, 2019; • restricts our use of proceeds from borrowings under the Credit Agreement to approximately $10.3 million for the remaining funding obligations for the expansion at Mountain’s Edge Hospital and under the Company’s construction mortgage loan to Haven Healthcare, unless approved by lenders representing two-thirds of the outstanding commitments under the Credit Agreement; • reduces the maximum amount available under the revolving credit facility from $300 million to $175 million which, when combined with the $125 million term loan, provides total commitments available to the Company under the Credit Agreement of $300 million; • requires any principal repayment on the Medistar Gemini Mortgage Loan and Medistar Stockton Loan to be used to pay down the outstanding balance on the revolving credit facility; and • prohibits us from declaring or paying any dividend on or prior to June 30, 2019, other than, subject to certain conditions, (i) a dividend to our common stockholders attributable to the fourth quarter of 2018 not to exceed $0.21 per share, with payment conditioned upon approval by our stockholders of the merger with Omega and subject to our maintaining a minimum of $2.0 million in unrestricted cash and cash equivalents upon payment of such dividend, and (ii) the pre-closing dividend pursuant to the terms of the merger agreement with Omega. We incurred fees associated with the Credit Amendment of approximately $0.8 million. These costs will be amortized to interest expense through July 1, 2019. We incurred fees associated with the Third Credit Amendment of approximately $0.2 million. These costs will be amortized to interest expense through June 30, 2019. We will write-off approximately $0.9 million related to unamortized deferred financing costs in the first quarter of 2019 related to the reduction in total commitments under the Credit Agreement. At February 25, 2019, we had $278.8 million in borrowings outstanding, of which $153.8 million was outstanding under the revolving credit facility with a weighted-average interest rate of 5.25%, reflecting a 2.75% spread over LIBOR, and $125.0 million was outstanding under the term loan. As of February 25, 2019, we had approximately $10.3 million in pre-approved borrowing capacity under the Credit Agreement. Our ability to borrow under the Credit Agreement is subject to ongoing compliance with various customary restrictive covenants, including with respect to liens, indebtedness, investments, distributions, mergers and asset sales. In particular, the Credit Agreement limits our distributions to stockholders to 95% of funds from operations (as defined in the Credit Agreement), subject to certain exceptions. The Third Credit Amendment further limits distributions through June 30, 2019 as described above. These restrictions may reduce the amount of distributions we otherwise would make to stockholders. In addition, the Credit Agreement requires us to satisfy certain financial covenants.
54 The Credit Agreement also contains customary events of default, in certain cases subject to customary periods to cure, including among others, nonpayment of principal or interest, material breach of representations and warranties and failure to comply with covenants. The occurrence of an event of default, following the applicable cure period, would permit the lenders to, among other things, declare the unpaid principal, accrued and unpaid interest and all other amounts payable under the credit facility to be immediately due and payable. We were in compliance with all financial covenants at December 31, 2018. Our operating partnership is the borrower under the Credit Agreement, and we and certain of our subsidiaries serve as guarantors under the Credit Agreement. Management’s Assessment of Future Borrowing Base Availability and Future Plans As noted above, our borrowings under the Credit Agreement exceeded borrowing base availability by approximately $7.2 million upon expiration on January 1, 2019 of the provisions in the Second Credit Amendment that temporarily increased borrowing base availability. The Third Credit Amendment extended to June 30, 2019 the increase in borrowing base availability attributable to our borrowing base assets provided for in the Second Credit Amendment, including the Texas Ten Portfolio. This extension increases borrowing base availability to cover all outstanding borrowings as of January 1, 2019 and the $10.3 million in pre-approved additional borrowings to complete the expansion at Mountain’s Edge Hospital and fund the remaining commitment under our construction mortgage loan with Haven Healthcare. All of our outstanding borrowings on the credit facility will be repaid upon closing of the announced merger with Omega, as discussed in further detail above under “Recent Developments- Merger Agreement.” In the event the merger is delayed or does not close as anticipated, the additional borrowing base availability and borrowings provided by the Third Credit Amendment, along with our current cash on hand and expected monthly net cash flows, are projected to provide sufficient liquidity to the Company to satisfy outstanding funding obligations, comprised primarily of the Haven construction mortgage loan and Mountain’s Edge construction project; ongoing operating expenses, including interest payments under the Credit Agreement; and required distributions to stockholders to satisfy REIT requirements through February 2020. Upon expiration of the extension of the borrowing base availability included in the Third Credit Amendment on June 30, 2019, we expect our unrestricted cash and cash equivalents on hand would be sufficient to pay down the approximately $12.0 million in excess borrowings over the estimated borrowing base availability at that date. If our unrestricted cash and cash equivalents as of July 1, 2019 are not sufficient to cover any borrowings under the Credit Agreement that exceed borrowing base availability, and our merger with Omega has not yet occurred, management would seek an additional modification of our Credit Agreement to remedy the over-advanced position, which may include, but is not limited to, granting the lenders a first mortgage interest in its real estate portfolio in order to secure all amounts outstanding under the Credit Agreement. Based upon preliminary discussions with the lead agent under the Credit Agreement, management believes that a conversion to a mortgaged-back facility is executable and the value of our real estate investments is sufficient to cover amounts outstanding on the facility. Interest Rate Swap Agreements We may use interest rate derivatives from time to time to manage our exposure to interest rate risks. On February 10, 2017, we entered into interest rate swap agreements, effective on April 10, 2017, on the full $125.0 million on the term loan to fix the variable LIBOR rate at 1.84%, plus the LIBOR spread under the amended credit agreement, which was 2.75% at February 25, 2019. Sources and Uses of Cash Year ended December 31, 2018 compared to December 31, 2017
For the year ended December 31, 2018 2017 Change Cash, cash equivalents and restricted cash at beginning of period $ 12,640 $ 9,771 $ 2,869 Net cash provided by operating activities 23,466 41,141 (17,675 ) Net cash used in investing activities (65,989 ) (77,069 ) 11,080 Net cash provided by financing activities 38,253 38,797 (544 ) Cash, cash equivalents and restricted cash at end of period $ 8,370 $ 12,640 $ (4,270 ) Operating Activities- Cash flows from operating activities decreased by $17.7 million for the year ended December 31, 2018 compared to the year ended December 31, 2017. Operating cash flows were primarily impacted by a net decrease in cash of $7.5 million related to other operating assets and liabilities and a $1.6 million net decrease in deferred revenues based on the timing of rents collected. Additionally, there was a $5.8 million net decrease related to the conversion of the Prior Texas Ten Tenant to non-accrual status for revenue recognition as described above under the heading “Recent Developments—Texas Ten Portfolio Update.” Operating cash flows were also impacted by an increase of $4.9 million in cash interest payments and $2.1 million in transaction costs for the year ended December 31, 2018 compared to 2017. This was partially offset by increases in rent and interest income from acquisitions completed during 2017 and 2018. We expect that, on an annual basis, our cash flows from operating activities may exceed our cash
55 dividends to stockholders. However, to the extent cash distributions to stockholders exceed cash flows from operating activities in any period, we expect to fund such excess distributions with available cash on hand or, if permitted under the terms of the Credit Agreement, amounts available under our credit facility. Investing Activities- Cash used in investing activities during the year ended December 31, 2018 decreased by $11.0 million compared to the year ended December 31, 2017. This decrease is mainly the result of completing fewer acquisitions partially offset by funding more debt investments during the year ended December 31, 2018 as compared to the prior-year period. Financing Activities- Cash provided by financing activities for the year ended December 31, 2018 decreased by $0.5 million compared to the year ended December 31, 2017. The change resulted primarily from a reduction of $9.6 million in borrowings under our credit facility during the year ended December 31, 2018 as compared to the prior-year period, a decrease in dividends paid to common stockholders of $6.6 million and lower deferred loan costs paid of $2.0 million. Year ended December 31, 2017 compared to December 31, 2016 The sources and uses of cash reflected in our consolidated statements of cash flows for the years ended December 31, 2017 and 2016 are summarized below (dollars in thousands):
For the year ended December 31, 2017 2016 Change Cash, cash equivalents and restricted cash at beginning of period $ 9,771 $ 12,620 $ (2,849 ) Net cash provided by operating activities 41,141 30,452 10,689 Net cash used in investing activities (77,069 ) (340 ) (76,729 ) Net cash (used in) provided by financing activities 38,797 (32,961 ) 71,758 Cash, cash equivalents and restricted cash at end of period $ 12,640 $ 9,771 $ 2,869 Operating Activities- Cash flows from operating activities increased by $10.7 million for the year ended December 31, 2017 compared to the year ended December 31, 2016. Operating cash flows were primarily impacted by a net increase in cash of $5.0 million related to other operating assets and liabilities and a $2.1 million net increase in deferred revenues based on the timing of rents collected. Operating cash flows were also impacted by an increase in cash of $3.1 million due to acquisitions completed during 2017. Investing Activities- Cash used in investing activities during the year ended December 31, 2017 increased by $76.7 million compared to the year ended December 31, 2016. This increase was primarily related to the acquisition of eight properties totaling $55.2 million and the origination of three mortgage notes receivable totaling $21.1 million. Financing Activities- Cash provided by financing activities was $38.8 million for the year ended December 31, 2017 compared to cash used by financing activities of $33.0 million for the year ended December 31, 2016. The change resulted primarily from net borrowings under the credit facility of $72.2 million to fund the acquisition of eight properties and the origination of three mortgage notes receivable during the year ended December 31, 2017 compared to a net repayment of $103.4 million for the year ended December 31, 2016. The net proceeds of $224.3 million from our IPO in 2016 were used to redeem our Series B Preferred Stock and to pay down amounts outstanding under our credit facility, resulting in a reduction of $14.6 million in preferred stock dividends. These increases were partially offset by (i) $1.5 million in additional deferred financing costs related to the credit facility amendment in February 2017, (ii) $16.2 million in additional dividends paid resulting from the increase in the number of shares of common stock outstanding as a result of our IPO in 2016 and (iii) $0.9 million in additional distributions to our noncontrolling interest. Contractual Obligations The following table sets forth our contractual obligations as of December 31, 2018, excluding the impact of subsequent events (dollars in thousands):
2019 2020-2021 2022-2023 2024-Thereafter Total Secured credit facility (1) $ 8,285 $ 163,016 $ - $ - $ 171,301 Term loan (2) 5,739 11,479 125,645 - 142,863 Operating lease commitments (3) 351 379 362 19,617 20,709 Tenant renovation funding obligation (4) 5,691 - - - 5,691 Mortgage note funding obligation (5) 2,770 - - - 2,770 $ 22,836 $ 174,874 $ 126,007 $ 19,617 $ 343,334
(1) Assumes the outstanding balance of $153.8 million and the weighted average interest rate of 5.1% in effect at December 31, 2018 remain in effect until maturity of our credit facility. Amounts also include unused credit facility fees assuming the balance outstanding at December 31, 2018 remains outstanding through maturity of our secured revolving credit facility.
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(2) Assumes the interest rate of 4.6% in effect at December 31, 2018 remains in effect until maturity of the term loan.
(3) All of our contractual obligations to make operating lease payments are related to our corporate office lease and one ground lease.
(4) Pursuant to the Fundamental Healthcare master lease, we agreed to make available an aggregate amount of up to $11.0 million for the construction and equipping of certain new surgical suites. As of December 31, 2018, approximately $5.3 million has been funded.
(5) On January 5, 2018, we closed on a construction mortgage note receivable with a maximum principal amount of $19.0 million to Haven Behavioral Healthcare. The balance outstanding under this loan was approximately $16.2 million at December 31, 2018. In connection with entering into the master lease with Creative Solutions, we agreed to indemnify Creative Solutions for certain Medicare liabilities up to a maximum amount of approximately $0.8 million. Off-Balance Sheet Arrangements As of December 31, 2018, we had no off-balance sheet arrangements. Non-GAAP Financial Measures We consider the following non-GAAP financial measures useful to investors as key supplemental measures of our performance: FFO attributable to common stockholders and AFFO attributable to common stockholders. Funds from Operations FFO is a non-GAAP measure used by many investors and analysts that follow the real estate industry. FFO, as defined by the National Association of Real Estate Investment Trusts (“Nareit”), represents net income (computed in accordance with GAAP), excluding gains (losses) on sales of real estate and impairments of real estate assets, plus real estate-related depreciation and amortization and after adjustments for unconsolidated partnerships and joint ventures. Noncontrolling interest amounts represent adjustments to reflect only our share of depreciation and amortization. We compute FFO in accordance with Nareit’s definition, which may differ from the methodology for calculating FFO, or similarly titled measures, used by other companies. Historical cost accounting for real estate assets implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values instead have historically risen or fallen with market conditions, most real estate industry investors consider FFO to be helpful in evaluating a real estate company’s operations. We believe that the presentation of FFO provides useful information to investors regarding our operating performance by excluding the effect of real-estate related depreciation and amortization, gains or losses from sales for real estate, including impairments, extraordinary items and the portion of items related to unconsolidated entities, all of which are based on historical cost accounting, and that FFO can facilitate comparisons of operating performance between periods and between REITs, even though FFO does not represent an amount that accrues directly to common stockholders. Our calculation of FFO may not be comparable to measures calculated by other companies that do not use the Nareit definition of FFO or do not calculate FFO per diluted share in accordance with NAREIT guidance. FFO should not be considered as an alternative to net income (computed in accordance with GAAP) as an indicator of our financial performance or to cash flow from operating activities (computed in accordance with GAAP) as an indicator of our liquidity. Adjusted Funds from Operations AFFO is a non-GAAP measure used by many investors and analysts to measure a real estate company’s operating performance by removing the effect of items that do not reflect ongoing property operations. To calculate AFFO, we further adjust FFO for certain items that are not added to net income in Nareit’s definition of FFO, such as acquisition expenses, non-real estate-related depreciation and amortization (including amortization of lease incentives, tenant allowances and leasing costs), stock-based compensation expenses, and any other non-comparable or non-operating items, that do not relate to the operating performance of our properties. For the year ended December 31, 2018, approximately $2.1 million of transaction costs comprised primarily of professional fees incurred during the second quarter of 2018 was added back in the calculation of AFFO. Additionally, for the year ended December 31, 2018, approximately $0.5 million of merger-related costs comprised of professional fees incurred in the fourth quarter of 2018 was added back in the calculation of AFFO. To calculate AFFO, we also adjust FFO to remove the effect of straight-line rent revenue, which represents the recognition of net unbilled rental income expected to be collected in future periods of a lease agreement that exceeds the actual contractual rent due periodically from tenants for their use of the leased real estate under each lease. Noncontrolling interest amounts represent adjustments to reflect only our share of straight line rent revenue. Our calculation of AFFO may differ from the methodology used for calculating AFFO by certain other REITs and, accordingly, our AFFO may not be comparable to AFFO reported by other REITs. AFFO should not be considered as an alternative to net income (computed in accordance with GAAP) as an indicator of our financial performance or to cash flow from operating activities (computed in accordance with GAAP) as an indicator of our liquidity.
57 The table below reconciles net income attributable to common stockholders, the most directly comparable GAAP metric, to FFO and AFFO attributable to common stockholders for the years ended December 31, 2018, 2017 and 2016 and is presented using the weighted average common shares as determined in our computation of earnings per share. The effects of restricted shares of common stock were included in the dilutive weighted-average common shares outstanding for the calculation of FFO and AFFO per common share for the year ended December 31, 2016, as their effects were dilutive. These shares were excluded from the calculation of diluted net income (loss) attributable to common stockholders per share for the year ended December 31, 2016 because their effects were not dilutive. FFO and AFFO attributable to common stockholders for the year ended December 31, 2018 as compared to the year ended December 31, 2017 include the effects of the reduction in revenues and increase in property tax expense related to the Texas Ten Portfolio as described above under the heading “Recent Developments—Texas Ten Portfolio Update” and higher interest expense, partially offset by higher revenues from new investment activities. FFO attributable to common stockholders for the year ended December 31, 2018 also includes the effect of $2.1 million in transaction costs incurred primarily in the second quarter of 2018 and $0.5 million in merger-related costs incurred in the fourth quarter of 2018 comprised primarily of professional fees. The increase in FFO attributable to common stockholders and AFFO attributable to common stockholders for the year ended December 31, 2017 as compared to the year ended December 31, 2016 is primarily related to the acquisition of eight properties and the origination of three mortgage notes receivable during the year ended December 31, 2017, as well as the use of proceeds from our IPO in October 2016, in which we redeemed all outstanding preferred stock and partially repaid amounts outstanding on our prior credit facility, resulting in a lower weighted-average balance. The weighted-average interest rate on borrowings on the prior credit facility was also reduced as a result of completing our IPO in October 2016 and the amended credit facility in February 2017. Additionally, FFO attributable to common stockholders for the year ended December 31, 2016 includes our proportionate share of the straight-line rent write-off resulting from the agreement to an operator change to BSW Health at Lakeway Hospital and the termination of the prior tenant’s lease as discussed above in “Results of Operations.”
58 The amounts presented below are in thousands, except per share amounts. For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Net income (loss) attributable to common stockholders $ 5,663 $ 20,422 $ (2,710 ) Real estate depreciation and amortization, net of noncontrolling interest 16,871 15,177 14,123 FFO attributable to common stockholders 22,534 35,599 11,413 Acquisition costs on completed acquisitions - - 18 Stock-based compensation expense 3,405 3,387 2,555 Deferred financing costs amortization 1,281 1,051 2,466 Expensed transaction costs 2,089 - - Merger-related costs 520 - - Non-real estate depreciation and amortization 537 560 307 Preferred stock redemption premium paid upon completion of the IPO - - 6,256 Surety bond fee - - (188 ) Straight-line rent expense 149 157 165 Straight-line rent revenue, net of noncontrolling interest 121 (4,822 ) 278 AFFO attributable to common stockholders $ 30,636 $ 35,932 $ 23,270
Weighted average shares outstanding-earnings per share Basic 31,597 31,447 15,838 Diluted 31,601 31,484 15,838
Net income (loss) attributable to common stockholders per share Basic and diluted $ 0.17 $ 0.64 $ (0.18 )
Weighted average common shares outstanding- FFO and AFFO attributable to common stockholders Basic 31,597 31,447 15,838 Diluted 31,601 31,484 15,926
FFO per common share Basic and diluted $ 0.71 $ 1.13 $ 0.72
AFFO per common share Basic $ 0.97 $ 1.14 $ 1.47 Diluted $ 0.97 $ 1.14 $ 1.46 Inflation We are exposed to inflation risk as income from long-term leases on our single-tenant leased properties are a main source of our cash flows from operations. For our single-tenant leased properties, the majority of our leases protect us from the impact of inflation. These leases generally include fixed rent escalators and are considered “triple-net” leases. Therefore, the tenants of these properties are responsible for the payment of all property-related expenses, including utilities, real estate taxes, and insurance. However, due to the long-term nature of the anticipated leases, among other factors, the leases may not re-set frequently enough to cover inflation. Item 7A. Quantitative and Qualitative Disclosures About Market Risk. The primary market risk to which we are exposed is interest rate risk. We may be exposed to the effects of interest rate changes primarily as a result of long-term debt used to acquire properties and make loans and other investments, including borrowings under the amended credit facility agreement. As of December 31, 2018, we had $153.8 million outstanding under our revolving credit facility and $125.0 million outstanding under our term loan, all of which bear interest at a variable rate, and no other outstanding debt. We entered into interest rate swaps on the term loan that effectively converted it into fixed-rate debt. At December 31, 2018, LIBOR on our outstanding borrowings was 2.40%. Assuming no increase in the amount of our variable interest rate debt, if LIBOR increased 100 basis points, our cash flow would decrease by approximately $1.5 million annually. Assuming no increase in the amount of our variable rate debt, if LIBOR decreased 100 basis points, our cash flow would increase by approximately $1.5 million annually.
59 Item 8. Financial Statements
MedEquities Realty Trust, Inc. Index to Consolidated Financial Statements and Financial Statement Schedules
Page Report of Independent Registered Public Accounting Firm 61 Consolidated Balance Sheets 62 Consolidated Statements of Operations 63 Consolidated Statements of Comprehensive Income 64 Consolidated Statements of Equity 65 Consolidated Statements of Cash Flows 66 Notes to Consolidated Financial Statements 68 Consolidated Financial Statement Schedules Schedule III- Real Estate and Accumulated Depreciation 86 Schedule IV- Mortgage Loans on Real Estate 88
60
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors MedEquities Realty Trust, Inc.:
Opinion on the Consolidated Financial Statements We have audited the accompanying consolidated balance sheets of MedEquities Realty Trust, Inc. and subsidiaries (the Company) as of December 31, 2018 and 2017, the related consolidated statements of operations, comprehensive income, equity, and cash flows for each of the years in the three-year period ended December 31, 2018, and the related notes and financial statement Schedule III, real estate and accumulated depreciation, and Schedule IV, mortgage loans receivable on real estate (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2018, in conformity with U.S. generally accepted accounting principles.
Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ KPMG LLP
We have served as the Company’s auditor since 2014.
Atlanta, Georgia February 25, 2019
61 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Balance Sheets (in thousands, except per share amounts)
December 31, 2018 December 31, 2017 Assets Real estate properties Land $ 45,594 $ 43,180 Building and improvements 537,437 505,623 Intangible lease assets 11,387 11,387 Furniture, fixtures and equipment 3,634 3,538 Less accumulated depreciation and amortization (59,611 ) (41,984 ) Total real estate properties, net 538,441 521,744
Mortgage notes receivable, net 44,778 18,557 Note receivable 7,000 - Cash and cash equivalents 8,370 12,640 Other assets, net 34,200 28,662 Total Assets $ 632,789 $ 581,603
Liabilities and Equity Liabilities Debt $ 278,137 $ 215,523 Accounts payable and accrued liabilities 5,691 6,605 Deferred revenue 1,601 2,722 Total liabilities 285,429 224,850
Commitments and contingencies Equity Common stock, $0.01 par value. Authorized 400,000 shares; 31,841 and 31,836 issued and outstanding at December 31, 2018 and December 31, 2017, respectively 314 314 Additional paid in capital 378,716 375,690 Dividends declared (87,646 ) (67,691 ) Retained earnings 49,859 44,196 Accumulated other comprehensive income 2,211 1,247 Total MedEquities Realty Trust, Inc. stockholders' equity 343,454 353,756 Noncontrolling interest 3,906 2,997 Total equity 347,360 356,753 Total Liabilities and Equity $ 632,789 $ 581,603
See accompanying notes to consolidated financial statements.
62 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Statements of Operations (in thousands, except per share amounts)
For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Revenues Rental income $ 52,701 $ 58,913 $ 48,330 Interest on mortgage notes receivable 4,041 2,157 921 Interest on notes receivable 518 35 45 Total revenues 57,260 61,105 49,296 Expenses Depreciation and amortization 17,202 15,504 14,323 Property related 2,797 1,482 1,303 Real estate acquisition related 1,064 457 488 Franchise, excise and other taxes 315 141 366 Bad debt expense - - 216 General and administrative 13,900 11,677 10,596 Total operating expenses 35,278 29,261 27,292 Operating income 21,982 31,844 22,004
Other income (expense) Interest and other income 11 9 195 Interest expense (12,487 ) (7,701 ) (10,883 ) (12,476 ) (7,692 ) (10,688 )
Net income $ 9,506 $ 24,152 $ 11,316 Less: Preferred stock dividends - - (13,760 ) Less: Net income attributable to noncontrolling interest (3,843 ) (3,730 ) (266 ) Net income (loss) attributable to common stockholders $ 5,663 $ 20,422 $ (2,710 )
Net income (loss) attributable to common stockholders per share Basic and diluted $ 0.17 $ 0.64 $ (0.18 )
Weighted average shares outstanding Basic 31,597 31,447 15,838 Diluted 31,601 31,484 15,838
Dividends declared per common share $ 0.63 $ 0.84 $ 0.63
See accompanying notes to consolidated financial statements.
63 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Statements of Comprehensive Income (in thousands)
Year Ended December 31, 2018 2017 2016
Net income $ 9,506 $ 24,152 $ 11,316 Other comprehensive income: Increase in fair value of cash flow hedge 964 1,247 - Total other comprehensive income 964 1,247 - Comprehensive income 10,470 25,399 11,316 Less: comprehensive income attributable to noncontrolling interest (3,843 ) (3,730 ) (266 ) Comprehensive income attributable to MedEquities Realty Trust, Inc. $ 6,627 $ 21,669 $ 11,050
See accompanying notes to consolidated financial statements.
64 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Statements of Equity (in thousands)
Series A Preferred Series B Preferred Additional Accum. Other Non- Stock Stock Common Stock Paid-In Retained Dividends comprehensive controlling Shares Par Value Shares Par Value Shares Par Value Capital Earnings Declared income Interest Total Equity Balance at December 31, 2015 - $ - 125 $ 1 11,233 $ 109 $ 273,740 $ 12,724 $ (19,876 ) $ - $ 4,547 $ 271,245 Redemption of preferred stock - - (125 ) (1 ) - - (125,124 ) - - - - (125,125 ) Grants of restricted stock - - - - 89 ------Issuance of common stock, net of costs - - - - 20,435 205 221,444 - - - - 221,649 Distributions to noncontrolling interest ------(2,307 ) (2,307 ) Stock-based compensation ------2,555 - - - - 2,555 Net income ------11,050 - - 266 11,316 Dividends to preferred stockholders ------(13,760 ) - - (13,760 ) Dividends to common stockholders ------(7,315 ) - - (7,315 ) Balance at December 31, 2016 - $ - - $ - 31,757 $ 314 $ 372,615 $ 23,774 $ (40,951 ) $ - $ 2,506 $ 358,258 Grants of restricted stock - - - - 115 ------Issuance of common stock, net of costs ------(20 ) - - - - (20 ) Repurchase and cancellation of restricted stock - - - - (5 ) - (50 ) - - - - (50 ) Retirement of common stock - - - - (11 ) ------Shares surrendered for taxes upon vesting - - - - (20 ) - (242 ) - - - - (242 ) Other comprehensive income ------1,247 - 1,247 Distributions to noncontrolling interest ------(3,239 ) (3,239 ) Stock-based compensation ------3,387 - - - - 3,387 Net income ------20,422 - - 3,730 24,152 Dividends to common stockholders ------(26,740 ) - - (26,740 ) Balance at December 31, 2017 - $ - - $ - 31,836 $ 314 $ 375,690 $ 44,196 $ (67,691 ) $ 1,247 $ 2,997 $ 356,753 Grants of restricted stock - - - - 46 ------Forfeited restricted stock - - - - (12 ) ------Vesting of restricted stock units - - - - 8 ------Shares surrendered for taxes upon vesting - - - - (37 ) - (379 ) - - - - (379 ) Other comprehensive income ------964 - 964 Distributions to noncontrolling interest ------(2,934 ) (2,934 ) Stock-based compensation ------3,405 - - - - 3,405 Net income ------5,663 - - 3,843 9,506 Dividends to common stockholders ------(19,955 ) - - (19,955 ) Balance at December 31, 2018 - $ - - $ - 31,841 $ 314 $ 378,716 $ 49,859 $ (87,646 ) $ 2,211 $ 3,906 $ 347,360
See accompanying notes to consolidated financial statements.
65 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (in thousands)
For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Operating activities Net income $ 9,506 $ 24,152 $ 11,316 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 19,517 17,617 17,921 Stock-based compensation 3,405 3,387 2,555 Straight-line rent receivable (936 ) (5,919 ) 3,447 Straight-line rent liability 149 157 165 Provision for bad debt - - 216 Construction mortgage interest income (1,186 ) (22 ) - Write-off of pre-acquisitions costs 513 149 252 Write-off of pre-offering costs - - 89 Changes in operating assets and liabilities Other assets (7,210 ) 10,264 (12,939 ) Accounts payable and accrued liabilities 796 (9,147 ) 9,062 Deferred revenues (1,088 ) 503 (1,632 ) Net cash provided by operating activities 23,466 41,141 30,452 Investing activities Acquisitions of real estate (23,458 ) (55,179 ) (72 ) Capital expenditures for real estate (3,931 ) (1,105 ) - Funding of mortgage notes and note receivable, net (39,715 ) (21,113 ) (1,662 ) Repayments of mortgage notes and notes receivable 1,349 450 1,712 Capitalized pre-acquisition costs, net (210 ) (107 ) (306 ) Capital expenditures for corporate property (24 ) (15 ) (12 ) Net cash used in investing activities (65,989 ) (77,069 ) (340 ) Financing activities Net borrowings (repayments) on secured credit facility 62,600 (52,800 ) (103,400 ) Dividends paid to common stockholders (20,097 ) (26,657 ) (10,459 ) Distributions to noncontrolling interest (2,934 ) (3,239 ) (2,307 ) Deferred loan costs (901 ) (2,910 ) (1,402 ) Taxes remitted upon vesting of restricted stock (397 ) (224 ) - Capitalized pre-offering costs (18 ) (280 ) - Proceeds from borrowings on term loan - 125,000 - Cancellation of restricted stock - (50 ) - Proceeds from sale of common shares, net of offering costs - (43 ) 224,320 Redemption of preferred shares - - (125,125 ) Dividends paid to preferred stockholders - - (14,588 ) Net cash provided by (used in) financing activities 38,253 38,797 (32,961 ) Increase (decrease) in cash, cash equivalents and restricted cash (4,270 ) 2,869 (2,849 ) Cash, cash equivalents and restricted cash at beginning of period 12,640 9,771 12,620 Cash, cash equivalents and restricted cash at end of period $ 8,370 $ 12,640 $ 9,771
See accompanying notes to consolidated financial statements.
66 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (continued) (in thousands)
For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Supplemental Cash Flow Information Interest paid 11,181 6,325 8,417 Norris Academy acquisition of real estate 6,383 - - Norris Academy mortgage note conversion (6,383 ) - - Accrued capital expenditures for real estate 613 - - Texas gross margins taxes paid, net of reimbursement 96 (23 ) 69 Accrued pre-acquisition costs 34 64 21 Accrued pre-offering costs - 18 -
67 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements December 31, 2017 Note 1 - Organization and Nature of Business MedEquities Realty Trust, Inc. (the “Company”), which was incorporated in the state of Maryland on April 23, 2014, is a self-managed and self-administered company that invests in a diversified mix of healthcare properties and healthcare-related real estate debt investments. As of December 31, 2018, the Company had investments of $590.2 million, net in 34 real estate properties and six healthcare-related real estate debt investments. The Company owns 100% of all of its properties and investments, other than its investment in an acute care hospital in Lakeway, Texas (“Lakeway Hospital”), in which the Company owns a 51% interest through a consolidated partnership (the “Lakeway Partnership”). In October 2016, the Company completed its initial public offering (the “IPO”) of its common stock, resulting in aggregate net proceeds to the Company of approximately $221.6 million, after deducting the underwriting discount and commissions and offering expenses payable by the Company. These offering expenses include approximately $2.7 million of offering expenses that had been paid prior to 2016. The Company used approximately $131.4 million to redeem all of its outstanding preferred stock and approximately $94.8 million to repay amounts outstanding under its secured credit facility. The Company conducts its business through an umbrella partnership REIT (“UPREIT”) structure, consisting of the Company’s operating partnership, MedEquities Realty Operating Partnership, LP (the “Operating Partnership”), and subsidiaries of the Operating Partnership, including the Company’s taxable REIT subsidiary (“TRS”), MedEquities Realty TRS, LLC. The Company’s wholly owned limited liability company, MedEquities OP GP, LLC, is the sole general partner of the Operating Partnership, and the Company presently owns all of the units of limited partnership interest in the Operating Partnership (“OP units”). In the future, the Company may issue OP units to third parties in connection with healthcare property acquisitions, as compensation or otherwise. As the sole owner of the general partner of the Operating Partnership, the Company has the exclusive power to manage and conduct the Operating Partnership’s business, subject to certain limitations. The Company has elected to be taxed as a real estate investment trust (“REIT”) for U.S. federal tax purposes. To maintain its qualification as a REIT, the Company must meet certain organizational and operational requirements, including a requirement to distribute at least 90% of its annual REIT taxable income to its stockholders (which is computed without regard to the dividends paid deduction or net capital gain and which does not necessarily equal net income as calculated in accordance with U.S. generally accepted accounting principles (“GAAP”)). As a REIT, the Company will not be subject to federal income tax to the extent it distributes qualifying dividends to its stockholders. If the Company fails to maintain its qualification as a REIT in any taxable year, it will be subject to federal income tax (including any applicable alternative minimum tax) on its taxable income at regular corporate income tax rates and generally will not be permitted to qualify for treatment as a REIT for federal income tax purposes for the four taxable years following the year during which qualification is lost unless the Internal Revenue Service grants the Company relief under certain statutory provisions. Such an event could materially and adversely affect the Company’s net income and net cash available for distribution to stockholders. Even if the Company qualifies for taxation as a REIT, the Company may be subject to state and local taxes on its income and property and federal income and excise taxes on its undistributed income. Taxable income from non-REIT activities managed through the Company’s TRS, if any, is subject to applicable U.S. federal, state and local income taxes. The Company has no activity in its TRS. Note 2 - Accounting Policies and Related Matters Use of Estimates: The preparation of the consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the amounts of revenue and expense reported in the period. Significant estimates are made for the valuation of real estate and any related intangibles and fair value assessments with respect to purchase price allocations. Actual results may differ from those estimates. Principles of Consolidation: The consolidated financial statements include the accounts of the Company’s wholly owned subsidiaries and subsidiaries in which the Company has a controlling interest. All material intercompany transactions and balances have been eliminated in consolidation. There are no material differences between the Company and the Operating Partnership as of December 31, 2018. Noncontrolling Interest: The portion of equity not owned by the Company in entities controlled by the Company, and thus consolidated, is presented as noncontrolling interest and classified as a component of consolidated equity, separate from total stockholders’ equity on the Company’s consolidated balance sheets. The amount recorded will be based on the noncontrolling interest holder’s initial investment in the consolidated entity, adjusted to reflect the noncontrolling interest holder’s share of earnings or losses in the consolidated entity and any distributions received or additional contributions made by the noncontrolling interest holder. The earnings or losses from the entity attributable to noncontrolling interests are reflected in “net income attributable to noncontrolling interest” in the consolidated statements of operations.
68 Segment Reporting: The Company owns, acquires and finances healthcare-related properties. The Company is managed as one reporting unit, rather than multiple reporting units, for internal reporting purposes and for internal decision-making. Therefore, the Company discloses its operating results in a single reportable segment. Cash and Cash Equivalents: Cash and cash equivalents consist of highly liquid investments with original maturities of three months or less. The majority of the Company’s cash and cash equivalents are held at major commercial banks which at times may exceed the Federal Deposit Insurance Corporation limit. The Company has not experienced any losses to date on invested cash. Revenue Recognition- Leases of Real Estate Properties: At the inception of a new lease arrangement, including new leases that arise from amendments, the Company assesses the terms and conditions to determine the proper lease classification. Currently, all of the Company’s lease arrangements are classified as operating leases. Rental revenue for operating leases is recognized on a straight-line basis over the lease term when collectability is reasonably assured and the tenant has taken possession or controls the physical use of a 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 by 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 leased asset until the tenant improvements are substantially completed. When the tenant is the owner of the tenant improvements, any tenant improvement allowance funded is treated as a lease incentive and amortized as a reduction of revenue over the lease term. The determination of ownership of the tenant improvements is subject to significant judgment. If the Company’s assessment of the owner of the tenant improvements for accounting purposes were different, the timing and amount of revenue recognized would be impacted. The Company maintains an allowance for doubtful accounts, including an allowance for operating lease 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 tenants and operators on a continuous basis. This evaluation considers industry and economic conditions, property performance, credit enhancements and other factors. For straight-line rent amounts, the Company’s assessment is based on income recoverable over the term of the lease. The Company exercises judgment in establishing allowances and considers payment history and current credit status in developing these estimates. These estimates may differ from actual results, which could be material to the consolidated financial statements. At December 31, 2018 and 2017, the Company had no allowance for doubtful accounts. The Company’s leases are generally “triple-net” leases with terms requiring operating expenses associated with the Company’s facilities, such as taxes, insurance and utilities, to be paid directly by the Company’s tenants. Failure by a tenant to pay such expenses, or to pay late, would result in a violation of the lease agreement, which could lead to an event of default if not cured timely. Leases in the medical office building owned by the Company require tenants to make estimated payments to the Company to cover their proportional share of operating expenses, including, but not limited to, real estate taxes, property insurance, routine maintenance and repairs, utilities and property management expenses. The Company collects these estimated expenses and is reimbursed by tenants for any actual expense in excess of estimates or reimburses tenants if collected estimates exceed actual operating results. The reimbursements are recorded in rental income as operating expense recoveries, and the expenses are recorded in property-related expenses, 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 credit risk. For the years ended December 31, 2018, December 31, 2017 and December 31, 2016, the Company reported operating expense recoveries, primarily related to its one medical office building, totaling $0.2 million, $1.0 million, and $0.9 million, respectively, which is included in rental income on the consolidated statements of operations. Revenue Recognition- Mortgage Notes and Other Receivables: Mortgage notes receivable are classified as held-for-investment based on management’s intent and ability to hold the mortgage notes receivable for the foreseeable future or to maturity. The Company recognizes interest income on mortgage notes receivable, including the amortization of any discounts and premiums, using the interest method applied on a loan-by- loan basis when collectability of the future payments is reasonably assured. Premiums, discounts and related costs are recognized as yield adjustments over the term of the related loans. Mortgage notes receivable are placed on non-accrual status at such time as management determines that collectability of contractual amounts is not reasonably assured. While on non-accrual status, mortgage notes receivable are either accounted for on a cash basis, in which income is recognized only upon receipt of cash, or on a cost-recovery basis, where cash receipts reduce the carrying value of the loan, based on management’s judgment of collectability. No mortgage notes receivable are currently on non-accrual status. Allowances are established for loans based upon an estimate of probable losses on an individual basis if they are determined to be impaired. Loans are impaired when it is deemed probable that the Company will be unable to collect all amounts due on a timely basis in accordance with the contractual terms of the loan. The allowance is based upon management’s assessment of the borrower’s overall financial condition, resources and payment record; the prospects for support from any financially responsible guarantors; and, if appropriate, the net 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 loan’s effective interest rate, the fair value of collateral, general economic conditions and trends, historical and industry loss experience, and other relevant factors. At December 31, 2018 and 2017, the Company had no allowance for loan losses.
69 Commitment, origination and other fees from lending activities are recognized as interest income over the life of the related loan. Allocation of Purchase Price of Acquired Real Estate: As part of the purchase price allocation process of acquisitions (whether accounted for as asset acquisitions or business combinations), management makes estimates based upon the relative fair values of each component for asset acquisitions and at a fair value of each component for business combinations. In making estimates of fair values for purposes of allocating purchase prices of acquired real estate, the Company utilizes a number of sources, including independent appraisals that may be obtained in connection with the acquisition or financing of the respective property and other market data. The Company also considers information obtained about each property as a result of the Company’s pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the assets acquired. The Company records above-market and below-market in-place lease values, if any, which are based on the present value of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease, or, for below-market in-place leases, including any bargain renewal option terms. The Company amortizes any resulting capitalized above-market lease values as a reduction of rental income over the lease term. The Company amortizes any resulting capitalized below-market lease values as an increase to rental income over the lease term. As of December 31, 2018 and 2017, the Company had one above-market in-place lease with a gross value of $7.6 million. The Company did not have any below-market in-place leases as of December 31, 2018 and 2017. The Company amortizes the value of in-place leases to amortization expense over the initial term of the respective leases. If a lease is terminated, the unamortized portion of the in-place lease value is charged to amortization expense. Depreciation and amortization of real estate assets and liabilities is provided for on a straight-line basis over the estimated useful lives of the assets:
Building 18 to 50 years Improvements 2 to 48 years Lease intangibles 12 to 15 years Furniture, fixtures, and equipment 5 to 14 years Asset Impairment- Real Estate Properties: Real estate asset impairment losses are recorded when events or changes in circumstances indicate the asset is impaired and the estimated undiscounted cash flows to be generated by the asset are less than its carrying amount. Management assesses the impairment of properties individually and impairment losses are calculated as the excess of the carrying amount over the fair value of assets to be held and used, and carrying amount over the fair value less cost to sell in instances where management has determined that the Company will dispose of the property and the criteria are met for the property to be classified as held-for-sale. In determining the fair value, the Company uses current appraisals or other third party opinions of value and other estimates of fair value such as estimated discounted future cash flows. Asset Impairment- Mortgage Notes and Other Receivables: The Company evaluates the carrying value of mortgage and other notes receivable on an individual basis. Management periodically evaluates the realizability of future cash flows from the mortgage note receivable when events or circumstances, such as non-receipt of principal and interest payments and/or significant deterioration of the financial condition of the borrower, indicate that the Company will be unable to collect all the contractual interest and principal payments as scheduled in the loan agreement. An impairment charge is recognized in current period earnings and is calculated as the difference between the carrying amount of the loan and the discounted cash flows expected to be received, or if foreclosure is probable, the fair value of the collateral securing the loan. Earnings Per Share: Basic earnings per common share is computed by dividing net income (loss) applicable to common shares by the weighted number of shares of common stock outstanding during the period. Diluted earnings per common share is calculated by including the effect of dilutive securities. Certain of the Company’s unvested restricted stock awards contain non-forfeitable rights to dividends, and accordingly, these awards are deemed to be participating securities. These participating securities are included in the earnings allocation in computing both basic and diluted earnings per common share. Income Taxes: Commencing with its taxable year ended December 31, 2014, the Company elected to be taxed as a REIT under the Internal Revenue Code of 1986, as amended (the "Code"). The Company intends at all times to maintain its qualification as a REIT under Sections 856 through 860 of the Code. The Company has elected that its subsidiary, MedEquities Realty TRS, LLC, be taxed as a TRS under provisions of the Code. A TRS is subject to federal and state income taxes like those applicable to regular corporations. Aside from such income taxes that may be applicable to the taxable income in the Company’s TRS, the Company will not be subject to federal income tax provided that the Company continues to maintain its qualification as a REIT and makes distributions to stockholders equal to or in excess of the Company’s taxable income. The Company’s federal tax returns for the years ended December 31, 2015, 2016 and 2017 are currently subject to examination by taxing authorities. The Company classifies interest and penalties related to uncertain tax positions, if any, in the Company’s
70 consolidated financial statements as a component of income tax expense. The Company has made no U.S. federal income tax payments. Stock-Based Compensation: The fair value of stock-based awards is calculated on the date of grant. The Company amortizes the stock-based compensation expense on a straight-line basis over the period that the awards are expected to vest, net of any forfeitures. Forfeitures of stock-based awards are recognized as they occur. Deferred Costs: Costs incurred prior to the completion of offerings of stock or other capital instruments that directly relate to the offering are deferred and netted against proceeds received from the offering. Fair Value Measurement: Fair value is defined as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants. In calculating fair value, a company must maximize the use of observable market inputs, minimize the use of unobservable market inputs and disclose in the form of an outlined hierarchy the details of such fair value measurements. A hierarchy of valuation techniques is defined to determine 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 Company’s 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. 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 and market capitalization rates. 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. Valuation techniques used by the Company include the use of third-party valuations and internal valuations, which may include discounted cash flow and Monte Carlo valuation models. For the years ended December 31, 2018 and 2017, the Company has recorded all acquisitions based on estimated fair values. The fair values were obtained from third-party appraisals based on comparable properties (using the market approach, which involved Level 3 inputs in the fair value hierarchy). Derivatives: In the normal course of business, the Company is subject to risk from adverse fluctuations in interest rates. The Company has chosen to manage this risk through the use of derivative financial instruments, primarily interest rate swaps. Counterparties to these contracts are major financial institutions. The Company is exposed to credit loss in the event of nonperformance by these counterparties. The Company does not use derivative instruments for trading or speculative purposes. The Company’s objective in managing exposure to interest risk is to limit the impact on cash flows. To qualify for hedge accounting, the Company’s interest rate swaps 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 transactions must be, and be expected to remain, probable of occurring in accordance with the Company’s related assertions. All of the Company’s hedges are cash flow hedges. The Company recognizes all derivative instruments as assets or liabilities at their fair value in the consolidated balance sheets. Changes in the 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 designed in qualified cash flow hedging relationships, the change in fair value of the derivatives is recognized in accumulated other comprehensive income (loss). Gains and losses are reclassified from accumulated other comprehensive income into earnings once the underlying hedged transaction is recognized in earnings. Accumulated Other Comprehensive Income: Certain items must be included in comprehensive income, including items such as foreign currency translation adjustments, minimum pension liability adjustments and unrealized gains or losses on available-for-sale securities. The accumulated other comprehensive income balances at December 31, 2018 and 2017 were approximately $2.2 million $1.2 million, respectively. Recent Accounting Developments: On January 1, 2018, the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Update (“ASU”) No. 2016-18, “Statement of Cash Flows - Restricted Cash,” became effective for the Company. This guidance requires that a statement of cash flows explain the change during the period in the total cash, cash equivalents and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The consolidated statement of cash flows for the year ended December 31,
71 2016 reflects an increase in the beginning of period cash, cash equivalents and restricted cash line item and an increase in the change in other assets line item, each of approximately $0.1 million. The consolidated statement of cash flows for the year ended December 31, 2017 reflects an increase in the beginning of period cash, cash equivalents and restricted cash line item and a decrease in the change in other assets line item, each of approximately $0.3 million, as a result of the adoption of this new guidance. On January 1, 2018, the FASB’s new revenue recognition standard included in Accounting Standards Codification (“ASC”) 606, Revenue from Contacts with Customers, became effective for the Company. This new revenue recognition standard superseded most of the existing revenue recognition guidance. This standard’s core principle is that a company will recognize revenue when it transfers goods or services to customers in amounts that reflect the consideration to which the company expects to be entitled in exchange for those goods and services. The Company’s revenues are comprised of rental income from leasing arrangements and interest from mortgage and other notes receivable, which are specifically excluded from the new revenue recognition guidance. Therefore, implementation of this new standard did not have a significant impact on the Company’s consolidated financial position, results of operations and cash flows. In August 2017, the FASB issued ASU No. 2017-12, “Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities.” The purpose of this updated guidance is to align better a company’s financial reporting for hedging activities with the economic objectives of those activities. The transition guidance provides companies with the option of early adopting the new standard using a modified retrospective transition method in any interim period after issuance of the update, or alternatively requires adoption for fiscal years beginning January 1, 2019. The Company adopted the new standard on January 1, 2018, which had no impact on the Company’s consolidated financial statements. In February 2016, the FASB established Topic 842, Leases, by issuing ASU No. 2016-02, which amends the existing accounting standards for lease accounting, including requiring lessees to recognize most leases on their balance sheet and making targeted improvements to lessor accounting. Topic 842 was subsequently amended by ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU No. 2018-10, Codification Improvements to Topic 842, Leases; and ASU 2018-11, Targeted Improvements. The new standard is effective for the Company on January 1, 2019. A modified retrospective transition approach is required, applying the new standard to all leases existing at the date of initial application. An entity may choose to use either (1) its effective date or (2) the beginning of the earliest comparative period presented in the financial statements as its date of initial application. If an entity chooses the second option, the transition requirements for existing leases also apply to leases entered into between the date of initial application and the effective date. The entity must also recast its comparative period financial statements and provide the disclosures required by the new standard for the comparative periods. The Company adopted the new standard on January 1, 2019 and used the effective date as its date of initial application. Consequently, financial information will not be updated and the disclosures required under the new standard will not be provided for dates and periods before January 1, 2019. The new standard provides a number of optional practical expedients in transition. The Company has elected the “package of practical expedients”, which permits it not to reassess under the new standard the Company’s prior conclusions about lease identification, lease classification and initial direct costs. The Company did not elect the use-of-hindsight or the practical expedient pertaining to land easements, the latter not being applicable to the Company. While the Company continues to assess all of the effects of adoption, it currently believes the most significant effect for the Company as lessee relates to the recognition of new right-of-use assets and lease liabilities on its consolidated balance sheet for the corporate office lease and one ground lease. Upon adoption, the Company currently expects to recognize additional operating liabilities of approximately $3.2 million, with corresponding right-of-use assets of the same amount based on the present value of the remaining minimum rental payments under current leasing standards for these two existing operating leases. For leases where the Company is the lessor, the Company does not expect the new standard to have a material effect on its consolidated financial statements. The Company currently has one medical office building in which the Company provides services to maintain the asset. While the new standard identifies common area maintenance as a non-lease component of the Company’s real estate lease contracts, the Company expects to apply the practical expedient to account for its gross real estate leases in its one medical office building and associated common area maintenance components as a single, combined operating lease component. Consequently, the Company does not expect the new standard’s changed guidance on contract components to significantly affect its financial reporting. In addition, due to the new standard’s narrowed definition of initial direct costs, the Company expects to expense lease origination costs as incurred that are currently capitalized as initial direct costs and amortized to expense over the lease term. In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments - Credit Losses (Topic 326),” which requires entities to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The standard also requires additional disclosures related to significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an entity’s portfolio. The amended guidance is effective for fiscal years, and interim periods within those years, beginning January 1, 2020, with early adoption permitted for the fiscal years, and interim periods within those fiscal years, beginning January 1, 2019. The Company is evaluating the
72 impact of adopting this new accounting standard on the Company’s consolidated financial statements and currently expects that it will not have a material impact. Note 3- Merger Agreement On January 2, 2019, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Omega Healthcare Investors, Inc. (“Omega”). Pursuant to the terms of the Merger Agreement, the Company will merge with an into Omega, with Omega continuing as the surviving company in the merger. Each share of Company common stock will be converted at the effective time of the merger into the right to receive (i) 0.235 of a share of common stock of Omega, subject to adjustment under certain limited circumstances, plus the right to receive cash in lieu of any fractional shares of Omega common stock; and (ii) an amount in cash equal to $2.00, subject to adjustment under certain limited circumstances. Pursuant to the terms of the Merger Agreement, the Company will declare a special dividend of $0.21 per share of common stock payable to the holders of record of the Company’s common stock as of the end of trading on the New York Stock Exchange on the trading day immediately prior to the closing date of the merger, which will be payable together with the cash consideration in the merger in accordance with the terms of the Merger Agreement. The merger is subject to customary closing conditions, including, but not limited to, the approval of the Company’s stockholders. The proposed merger transaction is currently expected to close in the first half of 2019. Note 4 – Investment Activity 2018 Investment Activity During the year ended December 31, 2018, the Company originated four healthcare-related real estate debt investments, funded additional principal under an existing mortgage note receivable and completed two real estate acquisitions for a total additional investment of $64.5 million. Additional details regarding these investments are described in more detail below. 2018 Real Estate Acquisitions On June 27, 2018, the Company acquired Southern Indiana Rehabilitation Hospital, a 60-bed inpatient rehabilitation facility located in New Albany, Indiana, a suburb of Louisville, Kentucky, for an aggregate purchase price of $23.4 million in cash. The property is 100% leased to an affiliate of Vibra Healthcare, LLC pursuant to a 15-year initial term triple-net lease with two five-year renewal options at an initial lease rate of 9.0% with annual escalators. This transaction was accounted for as an asset acquisition and less than $0.1 million of transaction costs were capitalized. On September 21, 2018, the Company acquired the newly constructed Norris Academy, a psychiatric residential treatment facility for children and youth with neurodevelopmental disorders located in northeast Tennessee, which previously served as collateral for a construction mortgage loan. The purchase price of approximately $6.4 million was satisfied by applying the aggregate principal amount outstanding on the mortgage loan provided by the Company. The property is 100% leased to a wholly owned subsidiary of Sequel Youth and Family Services, LLC (“Sequel”) pursuant to a 15-year triple-net lease with two 10-year renewal options at an initial yield of 9.0% with annual rent escalators. This transaction was accounted for as an asset acquisition and less than $0.1 million of transaction costs were capitalized. 2018 Mortgage Notes and Note Receivable Funding On January 5, 2018, the Company closed on a construction mortgage note receivable with a maximum principal amount of up to $19.0 million to Haven Behavioral Healthcare, Inc. to fund the purchase and conversion of an existing long-term acute care hospital to a 72-bed inpatient psychiatric hospital in Meridian, Idaho. The loan has a three-year term and an annual interest rate of 10.0%. Interest accrues monthly and is added to the outstanding balance of the mortgage note receivable. Upon completion of the planned renovation, the Company has the exclusive right to purchase the property, for a purchase price equal to the outstanding loan balance, in a sale-leaseback transaction with a 15-year triple-net lease with an initial yield of 9.3%. The balance outstanding under this loan was approximately $16.2 million as of December 31, 2018. On January 31, 2018, the Company originated a $5.4 million mortgage note receivable to Louisville Rehab LP to partially fund the construction of a 42-bed inpatient rehabilitation facility in Clarksville, Indiana. The note is secured by a second lien on the facility. The three-year loan has an annual interest rate of 9.5%, which has a claw-back feature that would equate to a 15.0% rate from inception of the loan should the Company elect not to exercise its purchase option. The Company has the exclusive option to purchase the new facility upon completion for approximately $26.0 million that would be leased pursuant to a 20-year triple-net lease guaranteed by Cobalt Medical Partners and Cobalt Rehabilitation Hospitals at an initial lease rate of 9.0%. On February 16, 2018, the Company funded an additional $3.0 million under an existing mortgage note receivable with a subsidiary of Medistar Corporation, which is secured by land and an existing building in Webster, Texas that increased the total balance of the loan to $9.7 million. Effective with this additional funding, the interest rate under the loan increased from an annual interest rate of 10.0% to an annual interest rate of 12.0% and is payable upon maturity of the loan on February 28, 2019. On March 29, 2018, the Company originated a $5.0 million mortgage note receivable with a subsidiary real estate entity of GruenePointe Holdings, LLC, which is secured by a second lien on a skilled nursing and assisted living facility (“Adora Midtown”)
73 and a first lien on an additional parcel of land in Dallas, Texas. The loan has a two-year term and accrues interest at an annual rate of 10.0% that is payable on the maturity date of March 29, 2020. The Company has an existing purchase option on Adora Midtown for a gross purchase price not to exceed approximately $28.0 million, plus an earnout based on the facility’s earnings before interest, taxes, depreciation, amortization and rent expense during the three years following the closing date of the acquisition. On April 6, 2018, the Company originated a $7.0 million pre-development note receivable with Medistar Stockton Rehab, LLC. The note accrues interest at an annual rate of 10.0% that is payable on the maturity date of February 28, 2019. The note is secured by a leasehold mortgage on the development of a future healthcare facility in Stockton, California. On June 27, 2018, the Company entered into a loan modification agreement for the $10.0 million mortgage note with Vibra Healthcare, LLC and Vibra Healthcare II, LLC (the “Vibra Mortgage Loan”) that converted the loan to a 10-year amortizing loan requiring monthly principal and interest payments with a balloon payment on the maturity date of June 30, 2023. As part of the modification, the borrowers repaid $1.0 million of principal. The interest rate on the loan remains unchanged at 9.0%. The balance outstanding under this loan was approximately $8.7 million as of December 31, 2018. 2017 Investment Activity 2017 Real Estate Acquisitions On June 30, 2017, the Company acquired Woodlake at Tolland Nursing & Rehabilitation Center, a 130-bed skilled nursing facility located in Woodlake, Connecticut, from a wholly owned subsidiary of Prospect Medical Holdings, Inc. for an aggregate purchase price of $10.0 million in cash. The property is 100% leased pursuant to a 12-year initial term triple-net lease with two ten-year renewal options at an initial lease rate of 9.0% with annual escalators. This transaction was accounted for as an asset acquisition and approximately $0.1 million of transaction costs were capitalized. On July 31, 2017, the Company acquired two skilled nursing facilities, totaling 160 licensed beds, located in Indiana from Magnolia Health Systems, Inc. (the “Magnolia Portfolio”) for an aggregate purchase price of $15.0 million in cash. The facilities are 100% leased to Magnolia Health Systems, Inc. pursuant to a 15-year initial term triple-net master lease with two ten-year renewal options at an initial lease rate of 9.0% with annual escalators. This transaction was accounted for as an asset acquisition and less than $0.1 million of transaction costs were capitalized. On August 9, 2017, the Company acquired four behavioral health and substance abuse treatment facilities from subsidiaries of AAC Holdings, Inc. (the “AAC Portfolio”) for an aggregate purchase price of $25.0 million in cash. The facilities are comprised of two standalone intensive outpatient treatment facilities in Las Vegas, Nevada and Arlington, Texas, a 159-bed sober living facility in Las Vegas and a 133-bed sober living facility in Arlington. The properties are 100% leased to AAC Holdings, Inc. pursuant to a 15-year initial term triple-net master lease with two five-year renewal options at an initial lease rate of 8.75% with annual escalators. This transaction was accounted for as an asset acquisition and less than $0.1 million of transaction costs were capitalized. On November 10, 2017, the Company exercised its option to acquire Advanced Diagnostics Hospital East in Houston, Texas for $17.5 million, which was satisfied by applying the $12.5 million aggregate principal amount outstanding on the mortgage note (see discussion below) to the purchase price and $5.0 million in cash consideration. The property is 100% leased pursuant to a 15-year triple net lease with two ten-year renewal options at an initial yield of 9.6% with annual rent escalators. This transaction was accounted for as an asset acquisition and less than $0.1 million of transaction costs were capitalized. 2017 Mortgage Notes Receivable Funding On January 30, 2017, the Company invested $12.5 million through a newly originated interest-only loan at an interest rate of 9.6% and secured by a first mortgage on a licensed general acute care surgical hospital that consists of 23,300 square feet with four operating rooms, two special procedure rooms, four inpatient rooms and four full-size extended recovery rooms. This mortgage note was satisfied on November 10, 2017 when the Company exercised its option to purchase the property as described above under “2017 Real Estate Acquisitions.” On August 1, 2017, the Company funded a $6.7 million mortgage note receivable to a subsidiary of Medistar Corporation, which is secured by land and an existing building in Webster, Texas. Interest accrues at a rate of 12% per annum and is payable upon the maturity date of the loan on February 28, 2019. On October 10, 2017, the Company closed on a construction mortgage note receivable with a maximum principal amount of up to $6.0 million to a wholly owned subsidiary of Sequel to fund the construction and development of a replacement psychiatric residential treatment facility for children and youth with neurodevelopmental disorders located in northeast Tennessee. Amounts funded through the construction mortgage note receivable bear interest at a rate of 8.25%, which is funded as additional borrowings under the loan. As described above under the heading “-2018 Real Estate Acquisitions”, in September 2018 the company acquired the facility for a purchase price of approximately $6.4 million which was satisfied by applying the aggregate principal amount outstanding on the mortgage loan.
74 Texas Ten Portfolio Master Lease Update In November 2018, the Company signed a new, 15-year triple net master lease with certain affiliates of Creative Solutions in Healthcare, Inc. (“Creative Solutions”) for its portfolio of ten skilled nursing facilities located throughout Texas (the “Texas Ten Portfolio”) previously leased to affiliates of OnPointe (the “Prior Texas Ten Tenant”). The lease with the Prior Texas Ten Tenant was terminated on December 31, 2018 and the new lease with Creative Solutions commenced on January 1, 2019. The initial annual base rent under the lease is approximately $7.7 million with annual lease escalators of 2.0% and two, five-year tenant renewal options. The Texas Ten Portfolio accounted for approximately 24.2% of the Company’s total real estate properties, net as of December 31, 2018. The lease with the Prior Texas Ten Tenant was a triple-net master lease with the tenant responsible for all costs of the facilities, including taxes, utilities, insurance, maintenance and capital improvements. Monthly base rent due under the master lease was approximately $1.1 million during 2017 and 2018. Beginning in May 2018, the Prior Texas Ten Tenant stopped paying the monthly contractual rent due under the master lease because of ongoing operational difficulties that began in the second half of 2017 that adversely impacted its liquidity position. As a result of the operational issues and related non-payment of full contractual rent due, effective July 1, 2018, the Company began recognizing revenue under the master lease as cash was received from the tenant. Total base rent due under the Prior Texas Ten Tenant’s lease for the year ended December 31, 2018 was approximately $12.9 million, of which the Company collected and recognized as revenue approximately $6.9 million, which included the application of security deposits held by the Company equal to two months of base rent. During the quarter ended September 30, 2018, we reserved approximately $4.8 million for the balance of non-cash straight-line rent outstanding as of June 30, 2018 that has been previously recorded in rental income. Additionally, the Company’s net income for the year ended December 31, 2018 was adversely impacted by approximately $1.5 million in property-related expenses for the Texas Ten Portfolio comprised primarily of property taxes for 2017 and 2018 which were the responsibility of the Prior Texas Ten Tenant under its triple-net master lease.
Fundamental Healthcare Master Lease Update The Company leases a portfolio of four properties to subsidiaries of Fundamental Healthcare (“Fundamental”) pursuant to a triple-net master lease with base rent of approximately $8.8 million for 2018. Effective October 6, 2018, the Company amended the master lease to defer approximately $2.4 million in base rent for the period May 2018 through March 2019 associated with Mountain’s Edge Hospital, which is currently undergoing an expansion that is expected to be completed by the end of the first quarter of 2019. Beginning in April 2019, the deferred rent amount will be due in equal monthly installments over the remainder of 2019. Interest on the outstanding deferred rent accrues interest at 9.0% during the deferral and repayment periods. As of December 31, 2018, the deferred rent balance was $1.7 million, which is recorded in other assets on the Company’s consolidated balance sheet. Leasing Operations Minimum cash rental payments due to the Company in future periods under executed non-cancelable operating leases in place for the Company’s properties as of December 31, 2018 are as follows (dollars in thousands):
For the year ending December 31 (1): 2019 $ 55,860 2020 56,500 2021 57,194 2022 58,117 2023 59,084 Thereafter 526,114 Total $ 812,869
(1) Includes cash rental payments due to the Company under the 15-year triple-net master lease with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced on January 1, 2019 and provides initial annual base rent of approximately $7.7 million. Additionally, the table includes cash rental payments under a 10-year lease agreement for approximately 29.1% of the Company’s one medical office building with commenced on January 1, 2019 and provides for initial annual base rent of approximately $0.4 million.
75 Concentrations of Credit Risks The following table contains information regarding tenant concentration in the Company’s portfolio, based on the percentage of revenues (rental income and interest on mortgage notes receivable and note receivable) for the years ended December 31, 2018, 2017 and 2016, related to tenants, or affiliated tenants, that exceed 10% of revenues.
% of revenue for the year ended December 31, 2018 2017 2016 Baylor Scott & White Health 25.6% 24.1% N/A (1) Fundamental Healthcare 17.2% 15.1% 16.7% Vibra Healthcare 15.8% 12.9% 15.5% Life Generations Healthcare 15.0% 14.1% 17.5% Prior Texas Ten Tenant (2) 23.5% 28.9%
(1) Percentage of revenue is less than 10%. (2) The Company began recognizing revenue under the master lease as cash is received from the Prior Texas Ten Tenant effective July 1, 2018. As a result, the percentage of revenue for the year ended December 31, 2018 is less than 10%. On December 31, 2018, the lease with the Prior Texas Ten Tenant was terminated. The Company entered into a 15-year triple-net master lease agreement with certain affiliates of Creative Solutions for the Texas Ten Portfolio, which commenced on January 1, 2019. See “Texas Ten Portfolio Master Lease Update” above. The following table contains information regarding the geographic concentration of the properties in the Company’s portfolio as of December 31, 2018 and 2017, which includes percentage of rental income for the years ended December 31, 2018 and 2017 (dollars in thousands).
Number of Properties at December 31, Gross Investment at December 31, % of Total Real Estate Property Investments at December 31, % of Rental Income For the year ended For the year ended State 2018 2017 2018 2017 2018 2017 December 31, 2018 December 31, 2017 Texas 17 17 $ 300,259 $ 300,206 50.2% 53.3% 48.0% 60.5% California 7 7 154,726 154,726 25.9% 27.4% 26.5% 23.8% Nevada 4 4 68,134 63,624 11.4% 11.3% 14.3% 10.5% Indiana 3 2 38,415 15,039 6.4% 2.7% 5.3% 1.1% South Carolina 1 1 20,000 20,000 3.3% 3.5% 3.7% 3.3% Connecticut 1 1 10,133 10,133 1.7% 1.8% 1.9% 0.8% Tennessee 1 - 6,385 - 1.1% - 0.3% - 34 32 $ 598,052 $ 563,728 100.0% 100.0% 100.0% 100.0%
Note 5 - Real Estate Intangibles The following is a summary of the carrying amount of real estate intangible assets (dollars in thousands): December 31, 2018 December 31, 2017 Weighted Average Accumulated Net Accumulated Net Life (Years) as of Gross Intangibles Amortization Intangibles Gross Intangibles Amortization Intangibles December 31, 2018 Above-market lease $ 7,636 $ (1,655 ) $ 5,981 $ 7,636 $ (1,146 ) $ 6,490 11.8 In-place leases 2,406 (1,446 ) 960 2,406 (1,323 ) 1,083 9.7 Leasing commissions 1,294 (639 ) 655 1,294 (560 ) 734 9.2 Legal/marketing fees 51 (31 ) 20 51 (28 ) 23 9.2 Total $ 11,387 $ (3,771 ) $ 7,616 $ 11,387 $ (3,057 ) $ 8,330 11.3 The Company recorded amortization expense related to real estate intangible assets of approximately $0.7 million and $1.1 million for the years ended December 31, 2018 and 2017, respectively.
76 The following table represents expected amortization of existing real estate intangible assets at December 31, 2018 (dollars in thousands):
For the year ending December 31: 2019 $ 687 2020 687 2021 687 2022 687 2023 687 Thereafter 4,181 Total $ 7,616
Note 6 – Debt The table below details the Company’s debt balance at December 31, 2018 and 2017 (dollars in thousands):
December 31, 2018 December 31, 2017 Term loan- secured $ 125,000 $ 125,000 Revolving credit facility- secured 153,800 91,200 Unamortized deferred financing costs (663 ) (677 ) $ 278,137 $ 215,523 The Company’s Second Amended and Restated Credit Agreement (as amended, the “Credit Agreement”) provides for a $300 million revolving credit facility that matures in February 2021 and a $125 million term loan that matures in February 2022. The revolving credit facility has one 12-month extension option, subject to certain conditions, including the payment of a 0.15% extension fee. At December 31, 2018 and 2017, the weighted-average interest rate under the Credit Agreement was 4.9% and 3.6%, respectively. Total costs related to the revolving credit facility at December 31, 2018 were $4.0 million, gross ($2.3 million, net), of which $0.5 million, gross ($0.4 million, net) are related to the Credit Amendment (as defined below). These costs are included in other assets, net on the consolidated balance sheet at December 31, 2018 and will be amortized to interest expense through February 2021, the maturity date of the revolving credit facility, and July 1, 2019, the earliest date to achieve the Performance Hurdle (as defined below) for the Credit Amendment, respectively. The total amount of deferred financing costs associated with the term loan at December 31, 2018 was $1.0 million, gross ($0.7 million, net), of which $0.3 million, gross ($0.2 million, net) are related to the Credit Amendment (as defined below). These costs are netted against the balance outstanding under the term loan on the Company’s consolidated balance sheet and will be amortized to interest expense through February 2022, the maturity date of the term loan, and July 1, 2019, the earliest date to achieve the Performance Hurdle (as defined below) for the Credit Amendment, respectively. The Company recognized amortization expense of deferred financing costs, included in interest expense on the consolidated statements of operations, of $1.3 million, $1.1 million and $2.5 million for the years ended December 31, 2018, 2017 and 2016, respectively. The amortization expense for the year ended December 31, 2016 includes approximately $0.3 million of unamortized deferred financing costs associated with credit facility amendments. Amendments to Credit Agreement On October 9, 2018, the Company entered into the Second Amendment (the “Second Credit Amendment”) to the Credit Agreement. The Second Credit Amendment amended certain terms, covenants and conditions of the Credit Agreement, including, but not limited to the following:
• increased the applicable margin from pre-amendment of 1.75% to 3.00% for LIBOR-rate loans and 0.75% to 2.00% for base-rate loans to post-amendment of 2.00% and 3.50% for LIBOR-rate loans and 1.00% and 2.50% for base-rate loans, in each case depending on the Company’s leverage ratio, until the Performance Hurdle has occurred, at which time, subject to certain conditions, the applicable margins will revert to those in effect prior to the Credit Amendment; • temporarily increased the borrowing base availability attributable to the Company’s borrowing base assets, other than the Texas Ten Portfolio, until December 31, 2018; • reduced the borrowing base availability attributable to the Texas Ten Portfolio until the earlier to occur of the Texas Ten Revaluation Date and December 31, 2018; failure of the Texas Ten Revaluation Date to occur prior to December 31, 2018 would have resulted in the Texas Ten Portfolio being excluded as a borrowing base asset; • until the Performance Hurdle has occurred, restricts the Company’s use of proceeds from borrowings under the Credit Agreement unless approved by lenders representing two-thirds of the outstanding commitments under the Credit Agreement. Proceeds totaling approximately $20.4 million were pre-approved for specific uses, comprised primarily of the remaining
77 funding obligations for the expansion at Mountain’s Edge Hospital and under the Company’s construction mortgage loan to Haven Healthcare; • provided that the covenants relating to (i) the minimum aggregate occupancy rate for borrowing base properties and (ii) the maximum adjusted net operating income attributable to a tenant or group of affiliated tenants, shall not apply on or before March 31, 2019; and • did not place additional limitations regarding dividends and distributions prior to December 31, 2018 provided no default or event of default occurred as a result, in whole or in part, of the failure of the Texas Ten Revaluation Date to occur on or before December 31, 2018. Under the Second Credit Amendment, the “Texas Ten Revaluation Date” is defined as the occurrence of all of the following: (i) the written approval by the administrative agent and lenders representing 60.0% of the outstanding commitments under the Credit Agreement of a tenant for the Texas Ten Portfolio pursuant to a lease approved in writing by the administrative agent (the “Replacement Texas Ten Lease”) and a termination of the existing lease for the Texas Ten Portfolio, all pursuant to agreements approved in writing by the administrative agent; (ii) delivery to the administrative agent of a new appraisal of, and the determination of a new appraised value for, the Texas Ten Portfolio based upon the Replacement Texas Ten Lease; and (iii) compliance with each other provision of the Credit Agreement relating to the inclusion of borrowing base assets in the determination of borrowing base availability under the Credit Agreement. The Company satisfied all of the criteria in the definition of Texas Ten Revaluation Date by December 31, 2018. Under the Second Credit Amendment, the “Performance Hurdle” is defined as the occurrence of all of the following: (i) the Texas Ten Revaluation Date shall have occurred on or before December 31, 2018; (ii) the completion of the expansion at Mountain’s Edge Hospital in accordance with the terms of the Fundamental Master Lease, subject to certain other conditions; (iii) the obligations of the tenant under the Fundamental Master Lease to pay full rent and of the tenant under the Replacement Texas Ten Lease to pay rent shall have commenced; (iv) no default or event of default under the Fundamental Master Lease or the Replacement Texas Ten Lease shall have occurred; (v) the tenants under the Fundamental Master Lease and the Replacement Texas Ten Lease shall have not less than one full quarter history of paying rent and reserves with no payment defaults, late payments or delinquencies; (vi) the Company’s operating partnership shall have delivered to the administrative agent a written request to return to the original pricing spreads in effect prior to the Credit Amendment (which request may not be delivered prior to July 1, 2019), together with a written certification that the foregoing conditions have been satisfied; and (vii) lenders representing two-thirds of the outstanding commitments under the Credit Agreement shall have approved the return to the original pricing spreads in effect prior to the Second Credit Amendment. Effective January 1, 2019, the Company had complied with the terms of the Second Credit Amendment including all the criteria in the definition of Texas Ten Revaluation Date. At that date, the temporary increase in borrowing base availability attributable to the Company’s borrowing base assets as provided for in the Second Credit Amendment expired, resulting in the Company’s borrowings under the credit facility exceeding borrowing base availability by approximately $7.2 million. On February 20, 2019, the Company entered into the Third Amendment (the “Third Credit Amendment”) to the Credit Agreement that further amended certain terms, covenants and conditions of the Credit Agreement and the Second Credit Amendment including, but not limited to the following: • extends the increase in borrowing base availability attributable to the Company’s borrowing base assets provided for in the Second Credit Amendment, including the Texas Ten Portfolio, until June 30, 2019; • restricts our use of proceeds from borrowings under the Credit Agreement to approximately $10.3 million for the remaining funding obligations for the expansion at Mountain’s Edge Hospital and under the Company’s construction mortgage loan to Haven Healthcare, unless approved by lenders representing two-thirds of the outstanding commitments under the Credit Agreement; • reduces the maximum amount available under the revolving credit facility from $300 million to $175 million which, when combined with the $125 million term loan, provides total commitments available to the Company under the Credit Agreement of $300 million; • requires any principal repayment on the Medistar Gemini Mortgage Loan and Medistar Stockton Loan to be used to pay down the outstanding balance on the revolving credit facility; and • prohibits the Company from declaring or paying any dividend on or prior to June 30, 2019, other than, subject to certain conditions, (i) a dividend to our common stockholders attributable to the fourth quarter of 2018 not to exceed $0.21 per share, with payment conditioned upon approval by our stockholders of the merger with Omega and subject to our maintaining a minimum of $2.0 million in unrestricted cash and cash equivalents upon payment of such dividend, and (ii) the pre-closing dividend pursuant to the terms of the merger agreement with Omega. The Company incurred fees associated with the Second Credit Amendment of approximately $0.8 million. As described above, these costs will be amortized to interest expense through July 1, 2019. The Company incurred fees associated with the Third Credit
78 Amendment of approximately $0.2 million. These costs will be amortized to interest expense through June 30, 2019. The Company will write-off approximately $0.9 million related to unamortized deferred financing costs in the first quarter of 2019 related to the reduction in total commitments under the Credit Agreement. At February 25, 2019, the Company had $278.8 million in borrowings outstanding, of which $153.8 million was outstanding under the revolving credit facility with a weighted-average interest rate of 5.25%, reflecting a 2.75% spread over LIBOR and $125.0 million was outstanding on the term loan. As of February 25, 2019, the Company had approximately $10.3 million in pre-approved borrowing capacity under the Credit Agreement. Management’s Assessment of Future Borrowing Base Availability and Future Plans As noted above, the Company’s borrowings under the Credit Agreement exceeded borrowing base availability by approximately $7.2 million upon expiration on January 1, 2019 of the provisions in the Second Credit Amendment that temporarily increased borrowing base availability. The Third Credit Amendment extended to June 30, 2019 the increase in borrowing base availability attributable to the Company’s borrowing base assets provided for in the Second Credit Amendment, including the Texas Ten Portfolio. This extension increases borrowing base availability to cover all outstanding borrowings as of January 1, 2019 and the $10.3 million in pre-approved additional borrowings to complete the expansion at Mountain’s Edge Hospital and fund the remaining commitment under the Company’s construction mortgage loan with Haven Healthcare. All the Company’s outstanding borrowings on the credit facility will be repaid upon closing of the announced merger with Omega, as discussed in further detail in Note 3. In the event the merger is delayed or does not close as anticipated, the additional borrowing base availability and borrowings provided by the Third Credit Amendment, along with the Company’s current cash on hand and expected monthly net cash flows, are projected to provide sufficient liquidity to the Company to satisfy outstanding funding obligations, comprised primarily of the Haven construction mortgage loan and Mountain’s Edge construction project; ongoing operating expenses, including interest payments under the Credit Agreement; and required distributions to stockholders to satisfy REIT requirements through February 2020. Upon expiration of the extension of the borrowing base availability included in the Third Credit Amendment on June 30, 2019, the Company expects its unrestricted cash and cash equivalents on hand would be sufficient to pay down the approximately $12.0 million in excess borrowings over the estimated borrowing base availability at that date. If the Company’s unrestricted cash and cash equivalents as of July 1, 2019 are not sufficient to cover any borrowings under the Credit Agreement that exceed borrowing base availability, and the Company’s merger with Omega has not yet occurred, management would seek an additional modification of its Credit Agreement to remedy the over-advanced position, which may include, but is not limited to, granting the lenders a first mortgage interest in its real estate portfolio in order to secure all amounts outstanding under the Credit Agreement. Based upon preliminary discussions with the lead agent under the Credit Agreement, management believes that a conversion to a mortgaged-back facility is executable and the value of the Company’s real estate investments is sufficient to cover amounts outstanding on the facility. Interest Rate Swap Agreements To mitigate exposure to interest rate risk, on February 10, 2017, the Company entered into interest rate swap agreements, effective April 10, 2017, on the full $125 million on the term loan to fix the variable LIBOR interest rate at 1.84%, plus the LIBOR spread under the amended credit agreement, which was 2.75% at February 25, 2019. The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps as part of its interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable-rate amounts from a counterparty in exchange for the Company making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. The changes in the fair value of derivatives designated and that qualify as cash flow hedges are recorded in accumulated other comprehensive income. Those amounts reported in accumulated other comprehensive income related to these interest rate swaps will be reclassified to interest expense as interest payments are made on the Company’s variable-rate debt. During the next 12 months, the Company estimates that an additional $0.9 million will be reclassified from other comprehensive income as a decrease to interest expense. The fair value of the Company’s derivative financial instruments at December 31, 2018 and December 31, 2017 was an asset of $2.2 million and $1.2 million, respectively, and was included in Other assets, net on the consolidated balance sheet.
79 The table below details the location in the consolidated financial statements of the gain(loss) recognized on interest rate derivatives designated as cash flow hedges for the years ended December 31, 2018 and 2017 (dollars in thousands).
Year ended December Year ended December 31, 2018 31, 2017 Amount of gain recognized in other comprehensive income $ 1,138 $ 636 Amount of gain (loss) reclassified from accumulated other comprehensive income into interest expense 174 (611 ) Total other comprehensive income $ 964 $ 1,247
As of December 31, 2018, the Company did not have any derivatives in a net liability position including accrued interest but excluding any adjustments for nonperformance risk. Note 7 - Other Assets Items included in other assets, net on the Company’s consolidated balance sheets as of December 31, 2018 and 2017 are detailed in the table below (dollars in thousands):
December 31, 2018 December 31, 2017 Straight-line rent receivable $ 13,325 $ 12,389 Tenant allowances and lease incentives, net 8,204 8,463 Interest and accounts receivable 4,437 548 Prepaid assets and deposits, net 2,825 2,022 Deferred financing costs, net 2,273 2,685 Interest rate swap derivative asset 2,211 1,247 Pre-acquisition costs, net 544 872 Capitalized pre-offering costs 297 297 Corporate property, net 84 139 $ 34,200 $ 28,662 Tenant allowances and lease incentives are amortized against revenue on a straight-line basis over the lease term. Note 8 - Incentive Plan The Company’s Amended and Restated 2014 Equity Incentive Plan (the “Plan”) provides for the grant of stock options, share awards (including restricted common stock and restricted stock units), stock appreciation rights, dividend equivalent rights, performance awards, annual incentive cash awards and other equity-based awards, including Long Term Incentive Plan (“LTIP”) units, which are convertible on a one-for- one basis into OP units. As of December 31, 2018, the Plan had 3,356,723 shares authorized for issuance with 2,134,091 shares available for future issuance, subject to certain adjustments set forth in the Plan. Restricted Stock Awards of restricted stock are awards of the Company’s common stock that are subject to restrictions on transferability and other restrictions as established by the Company’s compensation committee on the date of grant that are generally subject to forfeiture if employment terminates prior to vesting. Upon vesting, all restrictions would lapse. Except to the extent restricted under the award agreement, a participant awarded restricted stock will have all of the rights of a stockholder as to those shares, including, without limitation, the right to vote and the right to receive dividends on the shares. The awards generally cliff vest over three years or vest ratably over three years from the date of grant. The value of the awards is determined based on the market value of the Company’s common stock on the date of grant. The Company expenses the cost of restricted stock ratably over the vesting period. Restricted Stock Units The Company’s restricted stock unit (“RSU”) awards represent the right to receive unrestricted shares of common stock based on the achievement of Company performance objectives as determined by the Company’s compensation committee. Grants of RSUs prior to 2016 generally entitle recipients to shares of common stock equal to 0% up to 100% of the number of units granted at the vesting date, based on two independent criteria measured over a three-year period – (i) the Company’s absolute total stockholder return (“TSR”) and (ii) Company’s TSR relative to the MSCI US REIT Index (symbol: RMS). Grants of RSUs during and subsequent to 2016 generally entitle recipients to shares of common stock equal to 0% up to 150% of the number of units granted at the vesting date, based on four independent criteria measured over a three-year period – (i) the Company’s growth in gross real estate investments, (ii) the Company’s growth in Adjusted Funds From Operations (“AFFO”) per share, (iii) the Company’s absolute TSR and (iv) the Company’s TSR relative to the FTSE NAREIT Equity Healthcare REIT Index. RSUs are not eligible to vote or subject to receive dividend equivalents prior to vesting. Dividend equivalents are credited to the recipient and are paid only to the extent the applicable criteria are met, and the RSUs vest and the related common stock is issued.
80 The grant date fair value of RSUs subject to vesting based on the Company’s absolute TSR and TSR relative to a REIT index is estimated using a Monte Carlo simulation that utilizes inputs such as expected future volatility of the Company’s common stock, volatilities of certain peer companies included in the applicable indexes upon which the relative TSR performance is measured, estimated risk-free interest rate and the expected service periods of three years. The estimated compensation expense for these RSUs was derived using a risk free interest rate ranging from 1.00% to 1.97%, volatility of the Company’s common stock ranging from 23.4% to 42.4%, volatility of the benchmark REIT Index from 13.6% to 19.2% and an expected service period of three years. The grant date fair value of RSUs subject to vesting based on the Company’s growth in gross real estate investments and the Company’s growth in AFFO per share is determined based on the market value of the Company’s common stock on the date of grant. The Company assesses the probability of achievement of the growth in gross real estate investments and growth in AFFO per share and records expense for the awards based on the probable achievement of these metrics. The Company recognizes the cost of restricted stock units ratably over the vesting period. The following table summarizes the stock-based award activity for the years ended December 31, 2018, 2017 and 2016:
Weighted-Average Restricted Stock Grant Date Fair Value Per Restricted Stock Weighted-Average Grant Date Fair Value Awards Award RSU Awards Per RSU Outstanding as of December 31, 2015 280,080 $ 15.49 359,025 $ 7.91 Granted 88,915 11.83 216,750 9.50 Vested (16,202 ) 15.16 - - Outstanding as of December 31, 2016 352,793 $ 14.57 575,775 $ 8.51 Granted 115,030 11.18 243,750 9.98 Vested (148,636 ) 14.39 - - Cancelled (5,368 ) 15.00 - - Forfeited - - (158,927 ) 6.53 Outstanding as of December 31, 2017 313,819 $ 13.42 660,598 $ 9.52 Granted 46,788 11.14 937 11.13 Vested (207,690 ) 14.47 (8,312 ) 9.35 Forfeited (12,299 ) 11.52 (194,598 ) 9.00 Outstanding as of December 31, 2018 140,618 $ 11.28 458,625 $ 9.75 During the year ended December 31, 2018, 207,690 restricted shares of common stock granted to certain employees of the Company and non-employee directors vested. Of the restricted shares and RSUs that vested during the year ended December 31, 2018, 37,670 shares were surrendered by certain employees to satisfy their tax obligations. All forfeited shares for the year ended December 31, 2018 relate to one former non- employee director that resigned from the Board of Directors in November 2018. RSUs are included in the preceding tables as if the participants earn shares equal to 100% of the units granted. The RSUs shown as granted during the year ended December 31, 2018 represent the additional 50% of RSUs from the 2016 grant that vested for one former employee. In addition, 194,598 RSUs previously granted to employees did not vest because the criteria for vesting were not achieved. During the year ended December 31, 2017, 148,636 restricted shares of common stock granted to certain employees of the Company and non-employee directors vested. Of the restricted shares that vested, 20,229 shares were surrendered by employees to satisfy their tax obligations. All cancelled shares for the year ended December 31, 2017 relate to non-employee director compensation and are described in Note 10 under the heading “Arrangements with BlueMountain.” RSUs are included in the preceding tables as if the participants earn shares equal to 100% of the units granted. In addition, 158,927 RSUs previously granted to employees did not vest because the criteria for vesting were not achieved. All of the shares that vested during the year ended December 31, 2016 related to grants of restricted shares to non-employee directors. The table below summarizes compensation expense related to share-based payments, included in general and administrative expenses, for the years ended December 31, 2018, 2017 and 2016 (in thousands):
2018 2017 2016 Restricted stock $ 1,534 $ 1,892 $ 1,605 Restricted stock units 1,871 1,495 950 Stock-based compensation $ 3,405 $ 3,387 $ 2,555
The remaining unrecognized cost from stock-based awards at December 31, 2018 was approximately $2.9 million and will be recognized over a weighted-average period of 1.6 years.
81 Note 9 - Commitments and Contingencies Commitments As detailed in Note 4 under the heading “Investment Activity,” the Company had funding commitments of up to $19.0 million on one construction mortgage loan at December 31, 2018. As of February 25, 2019, approximately $17.8 million has been funded pursuant to this commitment. In April 2017, the Company agreed to make available through March 2019 an aggregate amount of up to $11.0 million for the construction and equipping of certain new surgical suites at Mountain’s Edge Hospital, subject to certain terms and conditions. The base rent associated with this property will be increased by an amount equal to the in-place lease rate, currently 9.4% of the amount advanced, as advances are made. As of February 25, 2019, approximately $6.6 million has been funded pursuant to this commitment. In connection with entering into the master lease with Creative Solutions, the Company agreed to indemnify Creative Solutions for certain Medicare liabilities up to a maximum amount of approximately $0.8 million. As of December 31, 2018, the Company was obligated under operating lease agreements consisting primarily of the Company’s corporate office lease, which expires in 2020, and a ground lease related to the medical office building in the Company’s portfolio, which expires in 2081. Annual base rent on the corporate office lease increases approximately 3.0% annually. The Company’s ground lease rent increases 2.0% annually and is included in property-related expenses. Rent expense relating to the operating leases, including straight-line rent, was approximately $0.5 million for each of the years ended December 31, 2018, 2017 and 2016. The Company’s future minimum lease payments for its operating leases as of December 31, 2018 were as follows (dollars in thousands):
For the year ending: 2019 351 2020 203 2021 176 2022 179 2023 183 Thereafter 19,617 Total $ 20,709 Contingencies From time to time, the Company or its properties may be subject to claims and suits in the ordinary course of business. The Company’s lessees and borrowers have indemnified, and are obligated to continue to indemnify, the Company against all liabilities arising from the operations of the properties and are further obligated to indemnify it against environmental or title problems affecting the real estate underlying such facilities. The Company is not aware of any pending or threatened litigation that, if resolved against the Company, would have a material adverse effect on its consolidated financial condition, results of operations or cash flows. In September 2016, the Company received a Civil Investigative Demand (“CID”) from the U.S. Department of Justice (“DOJ”), which indicates that it is conducting an investigation regarding alleged violations of the False Claims Act, Stark Law and Anti-Kickback Statute in connection with claims that may have been submitted to Medicare and other federal payors for services rendered to patients at Lakeway Hospital or by providers with financial relationships with Lakeway Hospital. The CID requested certain documents and information related to the Company’s acquisition and ownership of Lakeway Hospital. The Company has learned that the DOJ is investigating the Company’s conduct in connection with its investigation of financial relationships related to Lakeway Hospital, including allegations by the DOJ that the Company violated and is continuing to violate the Anti-Kickback Statute and the False Claims Act. The Company is cooperating fully with the DOJ in connection with the CID and has produced all of the information that has been requested to date. The Company believes that the acquisition, ownership and leasing of Lakeway Hospital through the Lakeway Partnership was and is in compliance with all applicable laws. However, due to the uncertainties surrounding this matter and its ultimate outcome, the Company is unable to determine any estimate or range of loss. On February 21, 2019, a purported stockholder of the Company filed a lawsuit against the Company, its board of directors and Omega in the United States District Court for the District of Maryland, entitled Brekka v. MedEquities Realty Trust, Inc., et al., Case 1:19-cv-00535-JKB. The complaint alleges, among other things, that the Company, its board of directors and Omega violated certain federal securities laws by making materially incomplete and misleading statements in, and/or omitting certain information that is material to stockholders from, the Registration Statement on Form S-4, as filed with the SEC on February 11, 2019 (the “Form S- 4”), relating to the proposed merger between the Company and Omega. The complaint seeks, among other things, an injunction preventing the parties from filing an amendment to the Form S-4, an injunction preventing the consummation of the merger and, in the event the merger is consummated, rescission of the merger or damages, plus attorneys’ fees and costs.
82 On February 22, 2019, another purported stockholder of the Company filed a derivative and class action lawsuit against the Company, its board of directors and Omega in the Circuit Court for Baltimore City, entitled Scarantino v. McRoberts et al. The complaint alleges, among other things, violations of fiduciary duties by the Company’s board of directors in connection with its approval of the Company’s proposed merger with Omega and the omission from the Form S-4 of certain information that is material to stockholders. The complaint seeks, among other things, an injunction preventing the parties from filing an amendment to the Form S-4, an injunction preventing the consummation of the merger and, in the event the merger is consummated, rescission of the merger or damages, plus attorneys’ fees and costs. The Company believes that the claims asserted in the above referenced lawsuits are without merit and intends to vigorously defend the Company and the director defendants against these claims.
Note 10 - Equity Preferred Stock Series B On March 11, 2015 and April 1, 2015, the Company sold an aggregate of 125,000 shares of the Company’s 7.875% Series B Redeemable Cumulative Preferred Stock (“Series B Preferred Stock”), with a liquidation preference of $1,000 per share, to Carter/Validus Operating Partnership, L.P., for gross proceeds of $125 million. Dividends on the Series B Preferred Stock were paid monthly at an annual rate of 7.875% of the $1,000 liquidation preference plus any accumulated and unpaid dividends. On October 4, 2016, upon completion of the IPO, the Company redeemed the Series B Preferred Stock for $131.3 million, based on the $1,000 liquidation preference and a special redemption dividend equal to 5% of the liquidation preference, plus accrued and unpaid dividends of $0.9 million from September 1, 2016 through the redemption date. Common Stock Dividends During 2018 and 2017, the Company declared common stock dividends aggregating $0.63 and $0.84 per share, respectively. The following table depicts common stock dividends related to 2017 and 2018.
Quarter Quarterly Dividend Date of Declaration Date of Record Date Paid 1st Quarter 2017 $ 0.21 May 3, 2017 May 17, 2017 May 31, 2017 2nd Quarter 2017 $ 0.21 August 2, 2017 August 16, 2017 August 30, 2017 3rd Quarter 2017 $ 0.21 November 1, 2017 November 15, 2017 November 29, 2017 4th Quarter 2017 $ 0.21 February 7, 2018 February 19, 2018 March 5, 2018 1st Quarter 2018 $ 0.21 May 8, 2018 May 22, 2018 June 5, 2018 2nd Quarter 2018 $ 0.21 August 1, 2018 August 15, 2018 August 29, 2018
Arrangements with BlueMountain In connection with BlueMountain Capital Management, LLC’s (“BlueMountain”) purchase of shares of the Company’s common stock in a private placement in July 2014, the Company entered into the BlueMountain Rights Agreement with BlueMountain, which currently allows for BlueMountain to designate two directors on the Company’s board of directors. Pursuant to BlueMountain’s internal policies, all compensation payable to the BlueMountain director designees who are employees of BlueMountain is paid or transferred to BlueMountain, including an aggregate of 16,108 restricted shares of common stock granted to the BlueMountain director designees in 2014 and 2015. Due to adverse tax implications for BlueMountain related to its receipt of restricted stock, the Company and BlueMountain agreed to the following, which occurred on March 28, 2017: (i) BlueMountain forfeited 10,740 vested shares of common stock previously granted to the BlueMountain director designees; (ii) the Company repurchased and cancelled the remaining 5,368 unvested restricted shares of common stock held by BlueMountain for approximately $50,000; and (iii) BlueMountain repaid to the Company approximately $29,000, which represented all dividends previously paid on the 16,108 restricted shares previously granted to the BlueMountain director designees. Noncontrolling Interest The Company owns Lakeway Hospital through a consolidated partnership, which, based on a total equity cash contribution of $2.0 million, is owned 51% by the Company and 49% by an entity that is owned indirectly by a physicians group and a non-physician investor. The partnership was formed on March 20, 2015. The Company’s equity contribution to the Lakeway Partnership was $1.0 million, and the Company’s transfer of the original $50.0 million note and $23.0 million of cash to the Lakeway Partnership is structured as an intercompany $73.0 million loan (the “Lakeway Intercompany Mortgage Loan”) to the Lakeway Partnership that is secured by a first mortgage lien on Lakeway Hospital. The Lakeway Intercompany Mortgage Loan has a ten-year term and requires payments of principal and interest at a rate of 8.0% per annum based on a 25-year amortization schedule. The interest rate on the Lakeway Intercompany Mortgage Loan will reset after five years based upon then-current market rates. At December 31, 2018 and 2017, the Lakeway Intercompany Mortgage Loan had an outstanding principal balance of $69.6 million and $70.7 million, respectively.
83 Note 11 – Distributions (unaudited) The Company must distribute at least 90% of its taxable income in order to continue to maintain our qualification as a REIT. This distribution requirement can be satisfied by current year distributions or, to a certain extent, by distributions in the following year. For federal income tax purposes, distributions to stockholders are treated as ordinary income, return of capital or a combination thereof. The federal income tax classification of the per share common stock distributions are as follows:
Year Ended December 31, 2018 2017 2016 Ordinary taxable distributions $ 0.29 $ 0.66 $ 0.22 Return of capital 0.34 0.18 0.70 Total $ 0.63 $ 0.84 $ 0.92 Pursuant to Section 857(b)(9) of the Code, dividend distributions made to stockholders on January 14, 2016 with a record date of December 31, 2015 are deemed to have been received by stockholders of record on December 31, 2015. Based on earnings and profits for the taxable year 2015, the Company’s aggregate cash distributions exceeded its earnings and profits for the taxable year 2015. Therefore, a portion of the January 14, 2016 cash distribution was treated as a 2016 distribution for federal income tax purposes and were included as taxable income to the recipient in 2016. Note 12 - Earnings per Share The Company applies the two-class method for determining earnings per common share as its outstanding restricted common stock with non-forfeitable dividend rights are considered participating securities. The following table sets forth the computation of earnings per common share for the years ended December 31, 2018, 2017 and 2016 (amounts in thousands, except per share amounts):
For the year ended For the year ended For the year ended Numerator: December 31, 2018 December 31, 2017 December 31, 2016 Net income $ 9,506 $ 24,152 $ 11,316 Less: Net income attributable to noncontrolling interest (3,843 ) (3,730 ) (266 ) Less: Dividends on preferred shares - - (13,760 ) Net income (loss) attributable to common stockholders 5,663 20,422 (2,710 ) Less: Allocation to participating securities (183 ) (265 ) (182 ) Net income (loss) available to common stockholders $ 5,480 $ 20,157 $ (2,892 )
Denominator Basic weighted-average common shares 31,597 31,447 15,838 Dilutive potential common shares 4 37 - Diluted weighted-average common shares 31,601 31,484 15,838
Earnings (loss) per common share- basic and diluted $ 0.17 $ 0.64 $ (0.18 )
The effects of RSUs outstanding were excluded from the calculation of diluted loss per common share for the year ended December 31, 2016 because their effects were not dilutive. Note 13 - Fair Value of Financial Instruments Financial Assets and Liabilities Measured at Fair Value The Company’s financial assets and liabilities measured at fair value on a recurring basis currently include derivative financial instruments. These derivative financial instruments are valued in the market using discounted cash flow techniques. These techniques incorporate Level 1 and Level 2 inputs. The market inputs are utilized in the discounted cash flow calculation considering the instrument’s term, notional amount, discount rate and credit risk. Significant inputs to the derivative valuation model for interest rate swaps are observable in active markets and are classified as Level 2 in the hierarchy. The fair value of the Company’s interest rate swaps asset, which is included in Other assets, net on the consolidated balance sheet, was $2.2 million and $1.2 million at December 31, 2018 and 2017, respectively. See Note 6 for further discussion regarding the Company’s interest rate swap agreements.
84 Financial Assets and Liabilities Not Carried at Fair Value The carrying amounts of cash and cash equivalents, restricted cash, receivables and payables are reasonable estimates of their fair value as of December 31, 2018 and 2017 due to their short-term nature. The fair value of the Company’s mortgages and note receivable as of December 31, 2018 and 2017 is estimated by using Level 2 inputs such as discounting the estimated future cash flows using current market rates for similar loans that would be made to borrowers with similar credit ratings and for the same remaining maturities. As of December 31, 2018, the fair value of the Company’s $52.0 million mortgage notes and note receivable was estimated to be approximately $51.9 million. As of December 31, 2017, the fair value of the Company’s $18.6 million mortgage notes receivable was estimated to be approximately $18.7 million. At December 31, 2018 and 2017, the Company’s indebtedness was comprised of borrowings under the credit facility that bear interest at LIBOR plus a margin (Level 2). The fair value of borrowings under the credit facility is considered to be equivalent to their carrying values as the debt is at variable rates currently available and resets on a monthly basis. Fair value estimates are made at a specific point in time, are subjective in nature and involve uncertainties and matters of significant judgment. Settlement at such fair value amounts may not be possible. Note 14- Selected Interim Financial Data (unaudited) The following is a summary of the unaudited quarterly financial information for the years ended December 31, 2018 and 2017 (amounts in thousands, except per share data):
Quarter ended March 31 June 30 September 30 December 31 2018 Revenues $ 16,716 $ 17,560 $ 9,678 $ 13,306 Interest expense (2,558 ) (2,786 ) (3,190 ) (3,953 )
Net income (loss) 6,154 4,186 (1,196 ) 362 Net income attributable to noncontrolling interest (985 ) (954 ) (951 ) (953 ) Net income (loss) attributable to common stockholders $ 5,169 $ 3,232 $ (2,147 ) $ (591 )
Net income (loss) attributable to common stockholders per share: Basic and diluted $ 0.16 $ 0.10 $ (0.07 ) $ (0.02 )
Quarter ended March 31 June 30 September 30 December 31 2017 Revenues $ 14,282 $ 14,825 $ 15,766 $ 16,232 Interest expense (1,515 ) (1,808 ) (2,117 ) (2,261 )
Net income 5,475 5,732 6,266 6,679 Net income attributable to noncontrolling interest (944 ) (936 ) (941 ) (909 ) Net income attributable to common stockholders $ 4,531 $ 4,796 $ 5,325 $ 5,770
Net income attributable to common stockholders per share: Basic and diluted $ 0.14 $ 0.15 $ 0.17 $ 0.18
The sum of the basic and diluted earnings per common share for the four quarters in the periods presented may differ from the annual earnings per common share calculation due to the required method of computing the weighted average number of common shares in the respective periods.
85 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Schedule III Real Estate and Accumulated Depreciation (dollars in thousands)
Gross Amount at Which Carried at Close of Initial Cost to Company Period Building and Cost Building and improvements Furniture, Capitalized improvements Furniture, Number and fixtures, Subsequent and fixtures, Accumulated of Type of intangible and to intangible and Depreciation Date of Date Property/Portfolio Name Location Properties Property (3) Encumbrances Land lease assets equipment Acquisition Land lease assets equipment Total(1) (1) (2) Construction Acquired Texas Ten Portfolio TX 10 SNF $ - $ 4,325 $ 140,815 $ - $ 2 $ 4,325 $ 140,817 $ - $ 145,142 $ (15,062 ) 1963-2013 2015 Life Generations Portfolio CA 6 SNF/ALF - 18,338 75,592 2,748 18 18,341 75,607 2,748 96,696 (12,211 ) 1966-1992 2015 Lakeway Hospital TX 1 ACH - 5,181 69,875 - - 5,181 69,875 - 75,056 (5,967 ) 2012 2015 Kentfield Rehabilitation & Specialty Hospital CA 1 LTACH - 6,204 51,826 - - 6,204 51,826 - 58,030 (6,553 ) 1962 2014 Mountain's Edge Hospital NV 1 ACH - 2,296 27,116 - 5,144 2,296 32,260 - 34,556 (2,337 ) 2015-2018 2015 AAC Portfolio TX, NV 4 BH - 2,026 23,021 - - 2,026 23,021 - 25,047 (1,288 ) 1980-2001 2017 Southern Indiana Rehabilitation Hospital IN 1 IRF - 1,967 21,409 - - 1,968 21,408 - 23,376 (468 ) 1993 2018 Horizon Specialty Hospital of Henderson NV 1 LTACH - 733 19,277 - - 733 19,277 - 20,010 (2,376 ) 2012 2014 Physical Rehabilitation and Wellness Center of Spartanburg SC 1 SNF - 170 19,830 - - 170 19,830 - 20,000 (2,321 ) 1989 2014 Vibra Rehabilitation Hospital of Amarillo TX 1 IRF - 991 18,181 227 - 991 18,181 227 19,399 (3,033 ) 1990 2015 Advanced Diagnostics Hospital East TX 1 ACH - 863 16,668 - 18 864 16,685 - 17,549 (495 ) 1998 2017 Mira Vista Court TX 1 SNF - 1,343 14,657 - - 1,343 14,657 - 16,000 (1,780 ) 2013 2015 North Brownsville Medical Plaza TX 1 MOB - - 15,128 - 506 - 15,628 6 15,634 (3,533 ) 2007 2014 Magnolia Portfolio IN 2 SNF - 217 14,265 557 - 217 14,265 557 15,039 (1,179 ) 1983-1986 2017 Woodlake at Tolland Nursing and Rehabilitation CT 1 SNF - 490 9,643 - - 490 9,643 - 10,133 (956 ) 1992 2017 Norris Academy TN 1 BH - 445 5,844 96 - 445 5,844 96 6,385 (52 ) 2018 2018 Total $ - $ 45,589 $ 543,147 $ 3,628 $ 5,688 $ 45,594 $ 548,824 $ 3,634 $ 598,052 $ (59,611 )
Reference footnotes on the next page.
86
(1) The changes in total real estate and accumulated depreciation for the years ended December 31, 2018, 2017 and 2016 are as follows:
For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Cost Balance at beginning of period $ 563,728 $ 494,874 $ 504,853 Acquisitions 23,377 55,250 - Capitalized costs 4,563 1,104 21 Foreclosure of mortgage note - - - Conversion of mortgage note 6,384 12,500 - Elimination of earn-out payment - - (10,000 ) Balance at end of period $ 598,052 $ 563,728 $ 494,874
Accumulated Depreciation Balance at beginning of period $ 41,984 $ 26,052 $ 11,172 Depreciation 17,627 15,932 14,880 Balance at end of period $ 59,611 $ 41,984 $ 26,052
The unaudited aggregate net tax value of real estate assets for federal income tax purposes as of December 31, 2018 is estimated to be $550 million.
(2) The cost of building and improvements is depreciated on a straight-line basis over the estimated useful lives of the buildings and improvements, ranging primarily from 2 to 50 years. The cost of intangible lease assets is depreciated on a straight-line basis over the initial term of the related leases, ranging primarily from 12 to 15 years. The cost of furniture, fixtures and equipment are depreciated on a straight-line basis over the estimated useful lives of the furniture, fixtures and equipment, ranging primarily from 5 to 14 years. See Note 2 to the consolidated financial statements for information on useful lives used for depreciation and amortization.
(3) LTACH -- long-term acute care hospital; SNF -- skilled nursing facility; MOB -- medical office building; IRF -- inpatient rehabilitation facility; ACH -- acute care hospital; ALF -- assisted living facility; BH – behavioral health facility.
87 MEDEQUITIES REALTY TRUST, INC. AND SUBSIDIARIES Schedule IV Mortgage Loans Receivable on Real Estate (dollars in thousands)
Principal Amount of Loans Subject Final Periodic to Delinquent Maturity Payment Face Amount of Carrying Amount of Principal or Description Interest Rate Date Terms Prior Liens Mortgages Mortgages(7) Interest First mortgage relating to 1 property in: Springfield, Massachusetts -- rehabilitation hospital 9.00% 6/30/2023 (1) - $ 10,000 $ 8,651 - Webster, Texas -- integrated medical facility 12.00% 1/31/2019 (2) - 9,700 9,700 - Meridian, Idaho -- long-term acute care hospital 10.00% 7/8/2021 (3) - 16,229 16,229 - Second mortgage relating to 1 property in: Clarksville, Indiana -- inpatient rehabilitation facility 9.50% 1/17/2021 (4) 15,791 (5) 5,414 5,414 - Dallas, Texas -- skilled nursing and assisted living facility 10.00% 3/29/2020 (6) 15,994 5,000 5,000 - $ 31,785 $ 46,343 $ 44,994
(1) The Springfield, Massachusetts loan, which was originated on August 1, 2014, was modified on June 27, 2018 to convert to a 10-year amortizing loan with monthly principal and interest payments and a balloon payment on the maturity date of June 30, 2023. Principal of $1.0 million was repaid at the date of modification.
(2) This loan was originated on August 1, 2017 with additional funding on February 16, 2018, at which time the interest rate under the loan increased from 10.0% per annum to 12.0% per annum. Interest accrues monthly on the Webster, Texas loan and is payable on the Maturity Date.
(3) The Meridian, Idaho loan is a construction mortgage loan of up to $19.0 million. Interest accrues monthly and is added to the principal of the loan.
(4) The interest rate for the Clarksville, Indiana loan is 9.5% per annum and has a claw-back feature that would equate to a 15% annual interest rate from inception of the loan should the Company not elect to exercise their option on the property under development. Interest for the loan is paid monthly in arrears.
(5) The Clarksville, Indiana loan is for a property that is under development with a first mortgage commitment of $15.8 million.
(6) Interest accrues monthly and is payable on the Maturity Date.
(7) Carrying amount of mortgages represents the contractual amount due under the mortgage note as of the date of this Schedule IV and excludes any other fees or costs associated with the mortgage notes and their origination. The aggregate cost for federal income tax purposes as of December 31, 2018 is estimated to be $45.0 million.
88 Changes in mortgage loans for the periods ended December 31, 2018, 2017 and 2016 are summarized as follows:
For the year ended For the year ended For the year ended December 31, 2018 December 31, 2017 December 31, 2016 Balance at beginning of period $ 18,635 $ 10,000 $ 10,000 Additions during year: New mortgage loans 34,092 (8) 21,135 (9) - 34,092 21,135 - Deductions during year: Collection of principal (1,349 ) - - Foreclosure of mortgage note - - - Conversion to fee simple ownership (6,384 ) (8) (12,500 ) (9) - (7,733 ) (12,500 ) -
Balance at end of period $ 44,994 $ 18,635 $ 10,000
(8) On September 27, 2018, the Company acquired the newly constructed Norris Academy. The purchase price of approximately $6.4 million was satisfied by applying the aggregate principal amount outstanding on the construction mortgage loan provided by the Company. The Company funded approximately $1.9 million on the construction mortgage loan for the year ended December 31, 2017 and approximately $4.5 million for the year ended December 31, 2018.
(9) On January 30, 2017, the Company invested $12.5 million through a newly originated interest-only loan secured by a first mortgage on a licensed general acute care surgical hospital. On November 10, 2017, the Company completed the acquisition of Advanced Diagnostics Hospital East for a purchase price of $17.5 million, pursuant to the exercise of its exclusive right to purchase the property contained in the Company's $12.5 million mortgage note receivable. The $12.5 million in principal outstanding on the mortgage note receivable was applied to the purchase price, and the Company paid an additional $5.0 million in cash in satisfaction of the purchase price.
89 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure. None. Item 9A. Controls and Procedures. Disclosure Controls and Procedures Disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) are controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. In connection with the preparation of this Annual Report on Form 10-K, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2018. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at a reasonable assurance level as of December 31, 2018. Management’s Annual Report on Internal Control over Financial Reporting The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting as of December 31, 2018 based on the 2013 framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on that evaluation, the Company’s management concluded that our internal control over financial reporting was effective as of December 31, 2018. Attestation Report of Independent Registered Public Accounting Firm Not applicable. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended December 31, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Item 9B. Other Information. On February 20, 2019, the Company, the operating partnership and certain of their subsidiaries entered into the Third Amendment (the “Third Credit Amendment”) to the Second Amended and Restated Credit Agreement, dated as of February 10, 2017, with KeyBank National Association, as administrative agent and a lender, and the other lenders party thereto. The summary of Third Credit Amendment included in this Annual Report on Form 10-K under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Credit Agreement” is incorporated by reference herein. Such summary of the Third Credit Amendment does not purport to be complete and is qualified in its entirety by reference to the Third Credit Amendment, a copy of which is filed as Exhibit 10.36 hereto and is incorporated herein by reference.
90 PART III Item 10. Directors, Executive Officers and Corporate Governance. The information required by this item is incorporated by reference from the Company’s Proxy Statement with respect to the Company’s 2019 Annual Meeting of Stockholders or, in the event that the Company does not file such proxy statement by April 30, 2019, such information will be provided instead by an amendment to this Annual Report on Form 10-K no later than April 30, 2019. Item 11. Executive Compensation. The information required by this item is incorporated by reference from the Company’s Proxy Statement with respect to the Company’s 2019 Annual Meeting of Stockholders or, in the event that the Company does not file such proxy statement by April 30, 2019, such information will be provided instead by an amendment to this Annual Report on Form 10-K no later than April 30, 2019. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. The information required by this item is incorporated by reference from the Company’s Proxy Statement with respect to the Company’s 2019 Annual Meeting of Stockholders or, in the event that the Company does not file such proxy statement by April 30, 2019, such information will be provided instead by an amendment to this Annual Report on Form 10-K no later than April 30, 2019. Item 13. Certain Relationships and Related Transactions, and Director Independence. The information required by this item is incorporated by reference from the Company’s Proxy Statement with respect to the Company’s 2019 Annual Meeting of Stockholders or, in the event that the Company does not file such proxy statement by April 30, 2019, such information will be provided instead by an amendment to this Annual Report on Form 10-K no later than April 30, 2019. Item 14. Principal Accounting Fees and Services. The information required by this item is incorporated by reference from the Company’s Proxy Statement with respect to the Company’s 2019 Annual Meeting of Stockholders or, in the event that the Company does not file such proxy statement by April 30, 2019, such information will be provided instead by an amendment to this Annual Report on Form 10-K no later than April 30, 2019.
91 PART IV Item 15. Exhibits, Financial Statement Schedules. (a) (1) Financial Statements The Consolidated Financial Statements are included in Item 8 and are filed as part of this report. (2) Financial Statement Schedules The Financial Statement Schedules are included in Item 8 and are filed as part of this report. All other schedules are omitted because they are not applicable or not present in amounts sufficient to require submission or the required information is shown in the Consolidated Financial Statements and the Notes thereto. (3) Exhibits The Exhibits are included in Item 15(b) and are incorporated by reference herein. (b) Exhibits
Exhibit Number Description 2.1 Agreement and Plan of Merger, dated as of January 2, 2019, by and among MedEquities Realty Trust, Inc., MedEquities OP GP, LLC, MedEquities Realty Operating Partnership, LP, Omega Healthcare Investors, Inc. and OHI Healthcare Properties Limited Partnership (Pursuant to Item 601(b)(2) of Regulation S-K, the schedules to the Agreement and Plan of Merger have been omitted and MedEquities Realty Trust, Inc. agrees to furnish supplementally a copy of any such omitted schedules to the SEC upon request). (Incorporated by reference to Exhibit 2.1 of the Company’s Current Report on Form 8-K, filed on January 2, 2019).
3.1 Articles of Amendment and Restatement (Incorporated by reference to Exhibit 3.1 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
3.2 Articles Supplementary, designating MedEquities Realty Trust, Inc.’s 12.5% Series A Redeemable Cumulative Preferred Stock (Incorporated by reference to Exhibit 3.2 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
3.3 Articles Supplementary, designating MedEquities Realty Trust, Inc.’s 7.875% Series B Redeemable Cumulative Preferred Stock (Incorporated by reference to Exhibit 3.3 of the Company’s Registration Statement on Form S-11 filed on August 20, 2015).
3.4 Amended and Restated Bylaws (Incorporated by reference to Exhibit 3.4 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
10.1 First Amended and Restated Agreement of Limited Partnership of MedEquities Realty Operating Partnership, LP, dated July 31, 2014 (Incorporated by reference to Exhibit 10.1 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
10.2 Amendment No. 1, dated January 28, 2015, to the First Amended and Restated Agreement of Limited Partnership of MedEquities Realty Operating Partnership, LP (Incorporated by reference to Exhibit 10.2 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
10.3 Amendment No. 2, dated March 10, 2015, to the First Amended and Restated Agreement of Limited Partnership of MedEquities Realty Operating Partnership, LP (Incorporated by reference to Exhibit 10.3 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
10.4† MedEquities Realty Trust, Inc. Amended and Restated 2014 Equity Incentive Plan (as amended and restated effective May 3, 2017) (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on May 4, 2017).
10.5† Form of Restricted Stock Unit Award Agreement (Incorporated by reference to Exhibit 10.2 to the Company’s Registration Statement on Form S-8, filed on October 6, 2016).
92 10.6† Form of Restricted Stock Award Agreement for Officers (Incorporated by reference to Exhibit 10.3 to the Company’s Registration Statement on Form S-8, filed on October 6, 2016).
10.7† Form of Restricted Stock Award Agreement for Directors (Incorporated by reference to Exhibit 10.4 to the Company’s Registration Statement on Form S-8, filed on October 6, 2016).
10.8† Amended and Restated Employment Agreement, dated as of September 15, 2016, by and among MedEquities Realty Trust, Inc., MedEquities Realty Operating Partnership, LP and John W. McRoberts (Incorporated by reference to Exhibit 10.8 to the Company’s Registration Statement on Form S-11/A, filed on September 19, 2016).
10.9† Amended and Restated Employment Agreement, dated as of September 15, 2016, by and among MedEquities Realty Trust, Inc., MedEquities Realty Operating Partnership, LP and William C. Harlan (Incorporated by reference to Exhibit 10.9 of the Company’s Registration Statement on Form S-11/A, filed on September 19, 2016).
10.10† Amended and Restated Employment Agreement, dated as of September 15, 2016, by and among MedEquities Realty Trust, Inc., MedEquities Realty Operating Partnership, LP and Jeffery C. Walraven (Incorporated by reference to Exhibit 10.10 of the Company’s Registration Statement on Form S-11/A, filed on September 19, 2016).
10.11† Indemnification Agreement by and between MedEquities Realty Trust, Inc. and each of its directors and officers listed on Schedule A thereto (Incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q, filed on May 10, 2018). 10.12 Master Lease, dated as of March 31, 2015, by and among MRT of La Mesa, CA – SNF, LLC, MRT of National City CA – SNF I, LLC, MRT of National City CA – SNF II, LLC and MRT of Upland CA – SNF/ALF, LLC and GHC of La Mesa, LLC, GHC of National City II, LLC, GHC of National City I, LLC, GHC of Upland SNF, LLC and GHC of Upland RCFE, LLC (Incorporated by reference to Exhibit 10.19 to the Company’s Registration Statement on Form S-11/A, filed on May 5, 2016).
10.13 First Amendment to Master Lease, dated as of October 1, 2015, by and among MRT of La Mesa, CA – SNF, LLC, MRT of National City CA – SNF I, LLC, MRT of National City CA – SNF II, LLC, MRT of Upland CA – SNF/ALF, LLC and MRT of San Diego CA – SNF, LLC and GHC of La Mesa, LLC, GHC of National City II, LLC, GHC of National City I, LLC, GHC of Upland SNF, LLC, GHC of Upland RCFE, LLC and GHC of Kearny Mesa, LLC (Incorporated by reference to Exhibit 10.20 to the Company’s Registration Statement on Form S-11/A, filed on May 5, 2016).
10.14 Second Amendment to Master Lease, dated as of June 8, 2016, by and among MRT of La Mesa, CA - SNF, LLC, MRT of National City CA - SNF I, LLC, MRT of National City CA - SNF II, LLC, MRT of Upland CA - SNF/ALF, LLC and MRT of San Diego CA - SNF, LLC and GHC of La Mesa, LLC, GHC of National City II, LLC, GHC of National City I, LLC, GHC of Upland SNF, LLC, GHC of Upland RCFE, LLC and GHC of Kearny Mesa, LLC (Incorporated by reference to Exhibit 10.34 to the Company’s Registration Statement on Form S-11/A, filed on August 22, 2016).
10.15 Guaranty of Master Lease, dated as of March 31, 2015 by Life Generations Healthcare LLC in favor of MRT of La Mesa, CA – SNF, LLC, MRT of National City CA – SNF I, LLC, MRT of National City CA – SNF II, LLC and MRT of Upland CA – SNF/ALF, LLC (Incorporated by reference to Exhibit 10.21 to the Company’s Registration Statement on Form S-11/A, filed on May 5, 2016).
10.16 Master Lease Agreement, dated as of, 2016, by and between Lakeway Realty, L.L.C., Scott & White Hospital Round Rock and Baylor University Medical Center (Incorporated by reference to Exhibit 10.28 to the Company’s Registration Statement on Form S-11/A, filed on September 19, 2016).
10.17 Amended and Restated Operating Agreement of Lakeway Realty, L.L.C., dated as of March 20, 2015 (Incorporated by reference to Exhibit 10.25 to the Company’s Registration Statement on Form S-11/A, filed on May 5, 2016).
93 10.18 BlueMountain Rights Agreement, dated as of July 25, 2014, by and between MedEquities Realty Trust, Inc. and BlueMountain Capital Management, LLC (Incorporated by reference to Exhibit 10.25 of the Company’s Registration Statement on Form S-11, filed on August 20, 2015).
10.19 Purchase and Sale Agreement, dated as of July 29, 2015, by and among GruenePointe Acquisition I, LLC, MRT of San Antonio TX – SNF I, LLC, MRT of San Antonio TX – SNF II, LLC, MRT of Graham TX – SNF, LLC, MRT of Kemp TX – SNF, LLC, MRT of Kerens TX – SNF, LLC, MRT of Brownwood TX – SNF, LLC, MRT of El Paso TX – SNF, LLC, MRT of Kaufman TX – SNF, LLC, MRT of Longview TX – SNF, LLC and MRT of Mt. Pleasant TX – SNF, LLC (Incorporated by reference to Exhibit 10.30 to the Company’s Registration Statement on Form S-11/A, filed on May 5, 2016).
10.20 Second Amended and Restated Credit Agreement, dated as of February 10, 2017, by and among the Operating Partnership and KeyBank National Association, as administrative agent and a lender, and the other agents and lenders part thereto (Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on February 13, 2017).
10.21 Second Amended and Restated Unconditional Guaranty of Payment and Performance, dated as of February 10, 2017, by and among the Company and its subsidiaries party thereto, in favor of KeyBank National Association and the other lenders under the Amended Credit Agreement (Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on February 13, 2017).
10.22 Amended and Restated Master Lease between MRT of Las Vegas NV – ACH, LLC, MRT of Las Vegas NV – LTACH, LLC, MRT of Fort Worth TX – SNF, LLC and MRT of Spartanburg SC – SNF, LLC as Landlord, and Nashville Leasehold Interest, LLC, as Tenant, dated as of April 27, 2017 (Incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q, filed on August 8, 2017).
10.23 Master Lease Guaranty, dated as of April 27, 2017, by THI of Baltimore, Inc. in favor of MRT of Las Vegas NV – ACH, LLC, MRT of Las Vegas NV – LTACH, LLC, MRT of Fort Worth TX – SNF, LLC and MRT of Spartanburg SC – SNF, LLC as Landlord (Incorporated by reference to Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q, filed on August 8, 2017).
10.24 Letter Agreement, dated March 28, 2017, by and among the Company and certain funds managed by BlueMountain Capital Management, LLC (Incorporated by reference to Exhibit 10.4 to the Company’s Quarterly Report on Form 10-Q, filed on August 8, 2017).
10.25 First Amendment to BlueMountain Rights Agreement, dated December 29, 2017, by and between the Company and BlueMountain Capital Management, LLC (Incorporated by reference to Exhibit 10.28 to the Company’s Annual Report on Form 10-K, filed on February 21, 2018).
10.26 First Amendment to the Second Amended and Restated Credit Agreement, dated December 22, 2017, by and among the Operating Partnership and KeyBank National Association, as administrative agent and a lender, and the other agents and lenders part thereto (Incorporated by reference to Exhibit 10.29 to the Company’s Annual Report on Form 10-K, filed on February 21, 2018).
10.27† 2016 Form of Restricted Stock Unit Award Agreement (Incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q, filed on May 8, 2017).
10.28† 2017 Form of Restricted Stock Unit Award Agreement (Incorporated by reference to Exhibit 10.31 to the Company’s Annual Report on Form 10-K, filed on February 21, 2018).
10.29 First Amendment to the Amended and Restated Master Lease, dated as of October 6, 2019, by and among MRT of Las Vegas NV – ACH, LLC, MRT of Las Vegas NV – LTACH, LLC, MRT of Fort Worth TX – SNF, LLC, MRT of Spartanburg SC – SNF, LLC, Nashville Leasehold Interest, LLC and the operators party thereto (Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on October 12, 2018).
10.30 Second Amendment to Second Amended and Restated Credit Agreement, dated as of October 9, 2018, by and among the Company, the Operating Partnership, their subsidiaries party thereto, KeyBank National Association and the other lenders party thereto (Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on October 12, 2018).
94
10.31* Amended and Restated Master Lease, dated November 20, 2018, by and between certain subsidiaries of the Company and Creative Solutions in Healthcare, Inc.
10.32* Amended and Restated Guaranty Agreement, dated November 20, 2018, by an between certain subsidiaries of the Company, Creative Solutions in Healthcare, Inc. and the individuals party thereto
10.33† Retention Incentive Award Agreement, dated January 2, 2019, by and between MedEquities Realty Trust, Inc. and John W. McRoberts (Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on January 2, 2019).
10.34† Retention Incentive Award Agreement, dated January 2, 2019, by and between MedEquities Realty Trust, Inc. and William C. Harlan (Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on January 2, 2019).
10.35† Retention Incentive Award Agreement, dated January 2, 2019, by and between MedEquities Realty Trust, Inc. and Jeffery C. Walraven (Incorporated by reference to Exhibit 10.3 to the Company’s Current Report on Form 8-K, filed on January 2, 2019).
10.36* Third Amendment to Second Amended and Restated Credit Agreement, dated as of February 20, 2019, by and among the Company, the Operating Partnership, their subsidiaries party thereto, KeyBank National Association and the other lenders party thereto
21.1* List of subsidiaries.
23.1* Consent of KPMG.
31.1* Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.
32.1* Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS XBRL Instance Document*
101.SCH XBRL Taxonomy Extension Schema*
101.CAL XBRL Taxonomy Extension Calculation Linkbase*
101.DEF XBRL Taxonomy Extension Definition Linkbase*
101.LAB XBRL Taxonomy Extension Label Linkbase*
101.PRE XBRL Taxonomy Extension Presentation Linkbase*
*Filed herewith †Management contract or compensatory plan or arrangement.
Item 16. Form 10-K Summary. None
95 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
MedEquities Realty Trust, Inc.
Date: February 25, 2019 By: /s/ John W. McRoberts John W. McRoberts
Chairman and Chief Executive Officer (Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this Report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.
Name Title Date
/s/ John W. McRoberts Chairman, Chief Executive Officer February 25, 2019 John W. McRoberts (Principal Executive Officer)
/s/ William C. Harlan President, Chief Operating Officer and Director February 25, 2019 William C. Harlan
/s/ Jeffery C. Walraven Executive Vice President and Chief Financial Officer February 25, 2019 Jeffery C. Walraven (Principal Financial Officer)
/s/ David L. Travis Senior Vice President and Chief Accounting Officer February 25, 2019 David L. Travis (Principal Accounting Officer)
/s/ Randall L. Churchey Director February 25, 2019 Randall L. Churchey
/s/ John N. Foy Director February 25, 2019 John N. Foy
/s/ Steven L. Geringer Director February 25, 2019 Steven I. Geringer
/s/ Stephen L. Guillard Director February 25, 2019 Stephen L. Guillard
/s/ Elliott Mandelbaum Director February 25, 2019 Elliott Mandelbaum
/s/ Todd W. Mansfield Director February 25, 2019 Todd W. Mansfield
96 (Back To Top)
Section 2: EX-10.31 (EX-10.31)
Exhibit 10.31 AMENDED AND RESTATED MASTER LEASE
by and between
MRT of San Antonio TX -- SNF I, LLC MRT of San Antonio TX -- SNF II, LLC MRT of Graham TX -- SNF, LLC MRT of Kemp TX -- SNF, LLC MRT of Kerens TX -- SNF, LLC MRT of Brownwood TX -- SNF, LLC MRT of El Paso TX -- SNF, LLC MRT of Kaufman TX -- SNF, LLC MRT of Longview TX -- SNF, LLC MRT of Mt. Pleasant TX -- SNF, LLC
(as “Landlord”)
and
Brownwood IV Enterprises, L.L.C. El Paso VI Enterprises, L.L.C. Graham I Enterprises, L.L.C. Kaufman I Enterprises, L.L.C. Kemp I Enterprises, L.L.C. Kerens I Enterprises, L.L.C. Longview III Enterprises, L.L.C. San Antonio I Enterprises, L.L.C. San Antonio II Enterprises, L.L.C. Mt. Pleasant V Enterprises, L.L.C.
(as “Tenant”)
Dated: November 20, 2018
TABLE OF CONTENTS
Page
ARTICLE 1 DEFINITIONS3 ARTICLE 2 DEMISED PREMISES AND PERSONAL PROPERTY8 ARTICLE 3 TERM OF LEASE9 ARTICLE 4 RENT9 ARTICLE 5 LATE CHARGES AND INTEREST12 ARTICLE 6 PAYMENT OF TAXES AND ASSESSMENTS12 ARTICLE 7 [RESERVED]13 ARTICLE 8 OCCUPANCY13 ARTICLE 9 INSURANCE14 ARTICLE 10 LANDLORD’S OR MORTGAGEE’S RIGHT TO PERFORM17 ARTICLE 11 REPAIRS AND MAINTENANCE; CASUALTY18 ARTICLE 12 ALTERATIONS AND DEMOLITION21 ARTICLE 13 COMPLIANCE WITH LAWS AND ORDINANCES22 ARTICLE 14 DISCHARGE OF LIENS22 ARTICLE 15 INSPECTIONS OF PREMISES BY LANDLORD23 ARTICLE 16 CONDEMNATION23 ARTICLE 17 RENT ABSOLUTE24 ARTICLE 18 ASSIGNMENT AND SUBLETTING26 ARTICLE 19 EVENTS OF DEFAULT28 ARTICLE 20 RIGHT TO CONTEST31 ARTICLE 21 LANDLORD’S REMEDIES UPON DEFAULT31 ARTICLE 22 CUMULATIVE REMEDIES OF LANDLORD34 ARTICLE 23 SECURITY FOR RENT34 ARTICLE 24 INDEMNIFICATION36 ARTICLE 25 SUBORDINATION PROVISIONS37 ARTICLE 26 TENANT’S FAITHFUL COMPLIANCE WITH MORTGAGE38 ARTICLE 27 HUD FINANCINGS39 ARTICLE 28 TENANT’S ATTORNMENT39 ARTICLE 29 REPRESENTATIONS AND WARRANTIES40 ARTICLE 30 STATEMENTS AND REPORTS40
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TABLE OF CONTENTS (continued) Page
ARTICLE 31 [RESERVED]41 ARTICLE 32 ADDITIONAL COVENANTS41 ARTICLE 33 MISCELLANEOUS42 ARTICLE 34 TRANSFER OF OPERATIONS UPON TERMINATION OF LEASE45 ARTICLE 35 HAZARDOUS SUBSTANCES50 ARTICLE 36 LIMITATION OF LANDLORD’S LIABILITY52
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AMENDED AND RESTATED
MASTER LEASE
THIS AMENDED AND RESTATED MASTER LEASE (this “Lease”) made and entered into this 20th day of November, 2018, by and among MRT of San Antonio TX - SNF I, LLC, MRT of San Antonio TX - SNF II, LLC, MRT of Graham TX - SNF, LLC, MRT of Kemp TX - SNF, LLC, MRT of Kerens TX - SNF, LLC, MRT of Brownwood TX - SNF, LLC, MRT of El Paso TX - SNF, LLC, MRT of Kaufman TX - SNF, LLC, MRT of Longview TX - SNF, LLC, and MRT of Mt. Pleasant TX - SNF, LLC, each a Delaware limited liability company (collectively, the “Landlord”), and Brownwood IV Enterprises, L.L.C., El Paso VI Enterprises, L.L.C., Graham I Enterprises, L.L.C., Kaufman I Enterprises, L.L.C., Kemp I Enterprises, L.L.C., Kerens I Enterprises, L.L.C., Longview III Enterprises, L.L.C., San Antonio I Enterprises, L.L.C., San Antonio II Enterprises, L.L.C. and Mt. Pleasant V Enterprises, L.L.C., each a Texas limited liability company (collectively referred to herein as the “Tenant” and sometimes individually as a “Tenant”, as the context requires).
W I T N E S S E T H:
WHEREAS, pursuant to a Master Lease, dated July 29, 2015 (as amended, the “GuenePointe Lease”), Landlord currently leases the Leased Property, as defined below, to GruenePointe 1 Graham, LLC, GruenePointe 1 El Paso, LLC, GruenePointe 1 Kerens, LLC, GruenePointe 1 Casa Rio, LLC, GruenePointe 1 River City, LLC, GruenePointe 1 Brownwood, LLC, GruenePointe 1 Longview, LLC, GruenePointe 1 Kemp, LLC, GruenePointe 1 Mt. Pleasant, LLC, and GruenePointe 1 Kaufman, LLC, each a Texas limited liability company (collectively, “GruenePointe”); and
WHEREAS, pursuant to the GruenePointe Lease, GruenePointe is currently either the licensed operator, or the manager pursuant to a prior QIPP Transaction, of the respective Facilities located on the Land (as such terms are hereinafter defined); and
WHEREAS, Landlord and Tenant have entered into a Master Lease, dated November 9, 2018 (the “Original Master Lease”), with respect to the Leased Property (as defined herein), except that Mt. Pleasant I Enterprises, L.L.C., was included as a Tenant under the Original Master Lease and Mt. Pleasant V Enterprises, L.L.C., was not included as a Tenant thereunder; and
WHEREAS, by entering into this Lease, the parties wish to amend and restate in its entirety the Original Lease in order to substitute Mt. Pleasant V Enterprises, L.L.C., as a Tenant hereunder in place of Mt. Pleasant I Enterprises, L.L.C., and to make certain minor corrections to the text of the Original Lease, and Mt. Pleasant I Enterprises, L.L.C., is executing the signature page to this Lease in order to evidence its agreement with such amendment and substitution; and
WHEREAS, GruenePointe and Tenant have entered into an Amended and Restated Operations Transfer Agreement, dated the date hereof (as the same may be amended from time to time, the “OTA”), pursuant to which GruenePointe has agreed to transfer to Tenant certain
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assets and operational control of the Facilities, and Tenant has agreed to acquire such assets and operational control, upon the terms and conditions set forth therein; and
WHEREAS, it is a condition to the closing under the OTA that the GruenePointe Lease shall have been terminated and that Landlord and Tenant shall have entered into a new lease, pursuant to which Landlord shall lease the Leased Property to Tenant, and Tenant shall lease the Leased Property from Landlord, for a term commencing as of the Effective Time under the OTA; and
WHEREAS, Landlord is willing to lease the Leased Property to Tenant, and Tenant is willing to lease the Leased Property from Landlord, subject to and in accordance with the terms, conditions and covenants contained herein; and
WHEREAS, as an inducement to Landlord to lease the Leased Property to Tenant pursuant to this Lease, Creative Solutions in Healthcare, Inc., a Texas corporation (the “Guarantor”) has executed and delivered to Landlord that certain Amended and Restated Guaranty Agreement, dated of even date herewith (the “Guaranty Agreement”), guarantying the performance of all of the obligations of Tenant under this Lease; and
WHEREAS, it is the parties’ intention to set forth their respective covenants and obligations in a single agreement, not merely as a matter of convenience, but because the leasing of the ten (10) properties comprising the Leased Property as an inseparable unit is a special and essential inducement to Landlord to enter into this transaction, and but for the leasing of such ten (10) properties together as an inseparable whole, Landlord would not have entered into this Lease; and
WHEREAS, the parties agree and acknowledge that the amount set forth herein as Rent (defined below) is calculated on the basis of leasing the said ten (10) properties together as a single, inseparable group and is non-allocable among the ten (10) properties, and that it would be impossible to allocate to any one or more of the properties a divisible portion of the Rent; and
WHEREAS, the parties agree and acknowledge and are forever estopped from asserting to the contrary that if, notwithstanding the provisions of these Recitals, this Lease were to be determined or found to be in any proceeding, action or arbitration under state or federal bankruptcy, insolvency, debtor-relief or other applicable laws to constitute multiple leases demising multiple properties, such multiple leases could not, by the debtor, trustee, or any other party, be selectively or individually assumed, rejected or assigned; and
WHEREAS, it is the parties’ intention and understanding that nothing in this Lease, including any rights of Landlord to inspect the Leased Property or gain access to any of Tenant’s information, shall constitute or be deemed to constitute a duty on the part of Landlord to provide for the safety and well-being of any resident of the Facilities, which shall be the sole and exclusive responsibility of Tenant.
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NOW, THEREFORE, in consideration of the mutual covenants and agreements contained herein, and for other good and valuable consideration, the receipt, sufficiency and mutuality of which are hereby acknowledged, it is agreed as follows:
ARTICLE 1 DEFINITIONS
1.1 The terms defined in this Article shall, for all purposes of this Lease and all agreements supplemental hereto, have the meaning herein specified.
(a) “Adverse Event” has the meaning ascribed to such term in Section 4.6.
(b) “Affiliate” means, with respect to any person, any person that, directly or indirectly, controls or is controlled by or is under common control with such person. For the purposes of this definition, “control” (including the correlative meanings of the terms “controlled by” and “under common control with”), as used with respect to any person, means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such person, through the ownership of voting securities, partnership interests or other equity interests. For the purposes of this definition, “person” means any natural person, trust, partnership, corporation, joint venture or other legal entity.
(c) “Base Rent” has the meaning ascribed to such term in Section 4.1.
(d) “Casualty” has the meaning ascribed to such term in Section 11.3.
(e) “Commencement Date” means the Transfer Date, as defined in the OTA.
(f) “Control” means, as applied to any entity, the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of that entity, whether through ownership, voting control, by contract or otherwise.
(g) “Default Rate” means an annual rate of interest equal to the greater of (i) the Prime Rate plus five percent (5%), and (ii) twelve percent (12%).
(h) “Demised Premises” means, collectively, the Land, the Facilities, any other improvements now or hereafter located on the Land, and all easements, tenements, hereditaments and appurtenances thereto.
(i) “EBITDAR” means, for any period, an amount equal to:
(i) the consolidated net income of Tenant for such period determined in accordance with GAAP; plus
(ii) the sum of the following, to the extent deducted in the calculation of such net income: (1) interest expense, (2) depreciation, (3) income taxes, (4) franchise taxes, (5) amortization, (6) all other non-cash, non-recurring charges and expenses, excluding accruals for cash expenses made in the ordinary course of business, (7) loss from any sales of assets, other
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than sales in the ordinary course of business, (8) non-cash rent expenses, (9) rent under any real estate leases, (10) non-cash compensation expenses arising from the issuance of stock, options to purchase stock, and stock appreciation rights and settlement costs and legal expenses related to the grant and exercise of stock options, and (11) non-recurring or special Tenant employee bonuses as well as non-recurring special corporate level bonuses, including expenses and employer taxes related to the payment of such bonuses; minus
(iii) gains from any sales of assets, other than sales in the ordinary course of business; minus
(iv) to the extent not already deducted from the calculation of net income, a management fee equal to the greater of (A) five percent (5%) of actual collected revenue of the Facilities for such period, and (B) six percent (6%) of the lesser of (1) Net Patient Revenue of the Facilities for such period, and (2) actual collected revenue of the Facilities for such period.
(j) “EBITDARM” means, for any period, an amount equal to EBITDAR for such period, plus, to the extent deducted in determining such EBITDAR, management fees.
(k) “environmental laws” has the meaning ascribed to such term in Section 35.2.
(l) “Event of Default” has the meaning ascribed to such term in Section 19.1.
(m) “Facilities” means the skilled nursing facilities respectively situated on the Land and identified on Exhibit “A” hereto.
(n) “Facility Property” means, with respect to any Facility, such Facility and the Land upon which it is situated.
(o) “Financial Statements” has the meaning ascribed to such term in Section 30.1.
(p) “First Extended Term” has the meaning ascribed to such term in Section 3.3.
(q) “Fixed Charges” means, for any period, the aggregate amount, on a consolidated basis, of (A) scheduled principal payments for such period in respect of indebtedness, excluding balloon payments and principal payments from time to time on any accounts receivable/payable working capital line of credit provided by a commercial lender, (B) scheduled payments (including but not limited to principal and interest payments) for such period related to equipment financing and/or capital leasing (to the extent not included in clause (A) above), (C) non-financed capital expenditures during such period, excluding construction in progress expenditures, (D) required payments during such period of interest on indebtedness, and (E) scheduled payments of rent for such period on any real estate leases and equipment operating leases.
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(r) “Guarantor” has the meaning ascribed to such term in the recitals of this Lease.
(s) “Guarantor Group” means, collectively, the Guarantor, each of the entities comprising the Tenant, and each other entity that is the operator of any facility that, at the time in question, is managed or operated by Guarantor.
(t) “Hazardous substance” has the meaning ascribed to such term in Section 35.2.
(u) “Indemnified Parties” has the meaning ascribed to such term in Section 24.1.
(v) “Initial Term” has the meaning ascribed to such term in Section 3.1.
(w) “Intangibles” has the meaning ascribed to such term in Section 34.1.
(x) “Land” means, collectively, all of the parcels of real property on which the Facilities are respectively located and which are more fully described on Exhibit “B” hereto.
(y) “Landlord” has the meaning ascribed to such term in the introductory paragraph of this Lease.
(z) “Landlord’s Personal Property” means all unaffixed equipment and other personal property of any nature whatsoever located at any of the Facilities as of the Commencement Date, including, but not limited to, data processing equipment, medical equipment and supplies, office equipment, beds, furniture, and other items owned by Landlord in connection with each Facility and all component and ancillary parts used in connection with any such items, and all replacements, substitutions, accretion and additions to any such items; excluding, however, motor vehicles.
(aa) “Lease” means this Amended and Restated Master Lease.
(bb) “Lease Year” means a twelve (12) month period commencing on the Commencement Date, and on each anniversary of the Commencement Date thereafter, except that if the Commencement Date is other than the first day of a calendar month, then the first Lease Year shall be the period from the Commencement Date through the date twelve (12) months after the last day of the calendar month in which the Commencement Date occurs, and each subsequent Lease Year shall be the period of twelve (12) months running from the date immediately succeeding the last day of the prior Lease Year.
(cc) “Leased Property” means, collectively, the Demised Premises and the Landlord’s Personal Property.
(dd) “Material Adverse Change” means any change that (i) has or would reasonably be expected to have a material adverse effect on the financial condition of the
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business, operations, properties, assets, or liabilities of any single Facility, Tenant or Guarantor, either individually or taken as a whole, or (ii) constitutes a material adverse change in or material adverse effect on the legality, validity or enforceability of this Lease or the Guaranty Agreement, or (iii) constitutes a material adverse change in or material adverse effect upon the existence, perfection or priority of any security interest or lien securing this Lease or the value of any collateral securing this Lease, or (iv) constitutes a material violation by any single Facility or Tenant of any material law or regulation that is not cured within thirty (30) days, unless such violation is being contested or appealed by appropriate proceedings, or (v) has materially impaired or would reasonably be expected to materially impair the ability of Guarantor to perform the obligations set forth in the Guaranty Agreement, or (vi) has materially impaired or would reasonably be expected to materially impair the ability of Tenant to perform its obligations or to consummate the transactions under this Lease.
(ee) “Medicaid Net Patient Revenue” means Net Patient Revenue derived solely from payments under the Texas Medicaid program, including under any Texas Medicaid managed care organization.
(ff) “Mortgage” has the meaning ascribed to such term in Section 25.1.
(gg) “Mortgagee” has the meaning ascribed to such term in Section 25.1.
(hh) “Net Patient Revenue” means, for any period, gross patient service revenue for such period minus contractual allowances, charity care provision, and the provision for doubtful accounts.
(ii) “OTA” has the meaning ascribed to such term in the recitals of this Lease.
(jj) “Permitted Use” means, as to each Facility Property, the operation of a skilled nursing facility licensed for the number of beds, and certified for the number of Medicare beds and for the number of Medicaid beds as indicated with respect to such Facility Property on Exhibit “A” hereto, as well as uses incidental thereto, all in full compliance with all rules, regulations and minimum standards applicable thereto, as prescribed by the State of Texas and such other governmental authorities having jurisdiction thereof, and for any other purpose mutually agreed upon in writing by Landlord and Tenant, and for no other purpose.
(kk) “Prime Rate” means the prime rate of interest reported in the Wall Street Journal or if the Wall Street Journal ceases to be in existence or for any reason no longer publishes such prime rate, then the Prime Rate shall be the rate announced by a national bank selected by Landlord.
(ll) “Proper Successor” has the meaning ascribed to such term in Section 33.5 of this Lease.
(mm) “Purchase Price” has the meaning ascribed to such term in Section 31.4.
(nn) “QIPP Subtenant” has the meaning ascribed to such term in Section 18.4.
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(oo) “QIPP Transaction” has the meaning ascribed to such term in Section 18.4.
(pp) “Rent” means, collectively, Base Rent and all additional rent under this Lease.
(qq) “Second Extended Term” has the meaning ascribed to such term in Section 3.4.
(rr) “Security Deposit” has the meaning ascribed to such term in Section 23.3.
(ss) “SNF Medicaid Rate” means the daily rate, unit rate, fee-for-service rate, or any other rate paid directly or indirectly to a Facility, by the Texas Health and Human Services Commission, the Texas Medicaid and Healthcare Partnership, any Texas Medicaid managed care organization, or any equivalent, successor or designated entity, or, any individual or entity contracted with any of the foregoing, as the Medicaid payment for each day a Medicaid recipient utilizes a bed in a Facility.
(tt) “Supplemental Management Fees” means any supplemental management fees or payments received by Tenant in its capacity as manager of any Facility as to which Tenant has entered into a QIPP Transaction.
(uu) “Taking” has the meaning ascribed to such term in Section 16.1.
(vv) “Taxes and Assessments” has the meaning ascribed to such term in Section 6.1.
(ww) “Tenant” has the meaning ascribed to such term in the introductory paragraph of this Lease.
(xx) “Tenant’s Fixed Charge Coverage Ratio” means, for any period, the ratio of (i) the aggregate EBITDAR of Tenant for such period, to (ii) the aggregate Fixed Charges of Tenant for such period.
(yy) “Tenant’s Personal Property” means any equipment or other personal property, other than the Landlord’s Personal Property, placed or installed by Tenant at any of the Facilities after the date hereof, and any replacements, substitutions, accretions and additions to any such items.
(zz) “Tenant’s Rent Coverage Ratio” means, for any period, the ratio of (i) the aggregate EBITDAR of Tenant for such period, to (ii) Base Rent for such period.
(aaa) “Term” has the meaning ascribed to such term in Section 3.7.
(bbb) “Test Date” means the last day of each calendar quarter during the Term, beginning with the first such date to occur that is at least six (6) months after the Commencement Date.
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(ccc) “Transition Closing Date” has the meaning ascribed to such term in Section 33.1.
(ddd) All other terms shall be as defined in the other sections of this Lease.
ARTICLE 2 DEMISED PREMISES AND PERSONAL PROPERTY
2.1 For and in consideration of the Rent to be paid and the other covenants and agreements hereinafter to be kept and performed by the parties, Landlord does hereby lease unto Tenant, and Tenant does hereby lease from Landlord, the Leased Property for the Term, for use and operation therein and thereon for the Permitted Use.
2.2 Except in the circumstance of any unavoidable Casualty, throughout the Term, Tenant shall use or cause the Demised Premises to be used continuously for the Permitted Use.
2.3 Upon the expiration or termination of this Lease for any reason, the Demised Premises, with the improvements located therein and all the Landlord’s Personal Property shall be surrendered in good order, condition and repair (ordinary wear and tear excepted).
2.4 Landlord and Tenant agree that this Lease constitutes a single and indivisible lease as to all of the Demised Premises collectively and shall not be subject to severance or division unless and to the extent, pursuant to Section 18.5, Landlord elects to effect a partial assignment of this Lease. In furtherance of and subject to the foregoing, Landlord and Tenant each (a) waives any claim or defense based upon the characterization of this Lease as anything other than a master lease of all the Demised Premises and irrevocably waives any claim or defense that asserts that this Lease is anything other than a master lease, (b) covenants and agrees that it will not assert that this Lease is anything but a unitary, unseverable instrument pertaining to the lease of all, but not less than all, of the Demised Premises, (c) stipulates and agrees not to challenge the validity, enforceability or characterization of this Lease of the Demised Premises as a unitary, unseverable instrument pertaining to the lease of all, but not less than all, of the Demised Premises, and (iv) shall support the intent of the parties that this Lease is a unitary, unseverable instrument pertaining to the lease of all, but not less than all, of the Demised Premises, if, and to the extent that, any challenge occurs. To the extent that legal, tax or title insurance requirements in connection with the purchase of the Demised Premises by Landlord or the leasing thereof to Tenant, may require, or may have required, individual rent allocations (including allocations of rents in certain states for tax purposes), Landlord and Tenant agree that such individual allocations are solely to comply with legal, tax or title insurance requirements, and shall not be used or construed, directly or indirectly, to vary the intent of Landlord and Tenant that this Lease constitutes a single and indivisible lease of all the Demised Premises collectively and is not an aggregation of separate leases.
ARTICLE 3 TERM OF LEASE
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3.1 Except as expressly provided below, the initial term of this Lease (the “Initial Term”) shall commence on the Commencement Date and shall expire on the last day prior to the fifteenth (15th) anniversary of the Commencement Date. Notwithstanding anything contained herein to the contrary, if the Commencement Date occurs on any day other than the first day of a calendar month, the Initial Term shall expire on the fifteenth (15th) anniversary of the last day of the calendar month in which the Commencement Date occurs, unless terminated earlier as provided for herein. Promptly following the occurrence of the Commencement Date, Landlord and Tenant shall jointly execute a Declaration of Commencement Date, substantially in form attached hereto as Exhibit “C”, setting forth the calendar date of the Commencement Date.
3.2 Tenant shall have and is hereby granted the right and option to extend the Initial Term of this Lease for an extended term of five (5) Lease Years (the “First Extended Term”) upon and subject to all the terms, provisions and conditions hereof. The First Extended Term shall commence upon the day next following the expiration of the Initial Term.
3.3 In the event that Tenant shall have exercised the option contained in Section 3.2 above, Tenant shall have and is hereby granted the right and option to extend this Lease for an additional extended term of five (5) Lease Years (the “Second Extended Term”) upon and subject to all the terms, provisions and conditions hereof. The Second Extended Term shall commence upon the day next following the expiration of the First Extended Term.
3.4 The options granted pursuant to Sections 3.2 and 3.3 above may be exercised only if there is no uncured Event of Default under this Lease at the time of exercise and at the time of the expiration of the Initial Term or the First Extended Term, as applicable. Said options shall be exercised by Tenant giving to Landlord written notice of Tenant’s election to do so not less than two hundred seventy (270) days prior to the expiration of the Initial Term or the First Extended Term, as applicable.
3.5 The Initial Term, as it may be extended by the First Extended Term and the Second Extended Term, is hereinafter referred to as the “Term”.
ARTICLE 4 RENT
4.1 During the Term, Tenant shall pay to Landlord rental (“Base Rent”) for the Demised Premises and the Landlord’s Personal Property, over and above all other and additional payments to be made by Tenant as provided in this Lease, in an amount per annum equal to Seven Million Seven Hundred Thousand and no/100 Dollars ($7,700,000.00), or Six Hundred Forty-One Thousand Six Hundred Sixty-Six and 67/100 Dollars ($641,666.67) per month. On each anniversary of the Commencement Date, the Base Rent shall increase over the Base Rent as in effect as of the last day of the immediately preceding Lease Year by two percent (2%). Notwithstanding anything herein to the contrary, the increases to Base Rent pursuant to this Section 4.1 shall not be applicable to any amounts added to Base Rent pursuant to Section 4.3 or Section 4.4.
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4.2 The Base Rent for each calendar month during the Term shall be paid by Tenant to Landlord in four (4) equal installments, each in the amount of $160,416.67, on the first four (4) Fridays of such calendar month. Unless otherwise notified in writing, all payments of Rent shall be made payable to Landlord by wire transfer to the account specified on Exhibit “D” attached hereto, or to such other account as Landlord may designate in writing from time to time. Tenant may, but shall not be obligated to, authorize Landlord to effect payments of Base Rent by electronic funds transfers (debit entries) initiated by Landlord from Tenant’s bank account as such amounts become due.
4.3 In the event that, during any of the Texas state fiscal years ending, respectively, in 2019, 2020, or 2021, there shall become effective an increase in the SNF Medicaid Rate that, when added to all other such increases that became effective during such three-fiscal year period, represents a meaningful increase above the SNF Medicaid Rate in effect for the state fiscal year ended on September 30, 2018 (a “Triggering Rate Increase”), then, upon Landlord’s request, Landlord and Tenant shall in good faith negotiate the amount, if any, by which Base Rent thereafter shall be increased in order to equitably reflect the increase in the fair market rental value of the Facilities as the result of such Triggering Rate Increase.
4.4 In the event that, at any time following the date of this Lease, Tenant shall enter into a QIPP Transaction as to any Facility, then, upon Landlord’s request, Landlord and Tenant shall in good faith negotiate the amount, if any, by which Base Rent thereafter shall be increased in order to equitably reflect the increase in the fair market rental value of the Facilities as the result of such QIPP Transaction.
4.5 This Lease is and shall be deemed and construed to be a “pure net” or “triple-net” lease and the Rent specified herein shall be net to Landlord in each year during the Term of this Lease. Landlord shall have no cost obligation, responsibility or liability whatsoever for repairing, operating, maintaining or owning the Premises during the Term of this Lease. Tenant does hereby indemnify Landlord against any and all such costs, expenses and obligations. Accordingly, Tenant shall pay Rent to Landlord during the Term free of any deduction, diminution or payment obligation on the part of Landlord for real property taxes and assessments, sales and use taxes, and all other taxes, assessments, utility charges, operating expenses, refurnishings, insurance premiums and any other charge or expense, levy, fine, fee or cost in connection with the Premises and the ownership, operation and maintenance, repair and replacement thereof, including but not limited to all expenses and charges, whether for upkeep, maintenance, operation, repair, refurnishing, refurbishing, restoration, replacement, insurance premiums, taxes, utilities, occupational licenses and other permits and other operating or other charges of a like nature or otherwise, whether known or unknown, ordinary or extraordinary, foreseen or unforeseen, anticipated or unanticipated, and in effect now or enacted hereafter.
4.6 Tenant recognizes and acknowledges that Landlord and/or certain beneficial owners of Landlord may from time to time qualify as real estate investment trusts pursuant to Sections 856 et seq. of the Internal Revenue Code of 1986, as amended, and that avoiding (a) the loss of such status, (b) the receipt of any income derived under any provision of this Lease that does not constitute “rents from real property” (in the case of real estate investment trusts), and
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(c) the imposition of income, penalty or similar taxes (each an “Adverse Event”) is of material concern to Landlord and such beneficial owners. In the event that this Lease or any document contemplated hereby could, in the reasonable opinion of counsel to Landlord, result in or cause an Adverse Event, Tenant agrees to cooperate with Landlord in negotiating an amendment or modification thereof and shall at the request of Landlord execute and deliver such documents reasonably required to effect such amendment or modification. Any amendment or modification shall be structured so that the economic results to Landlord and Tenant shall be substantially similar to those set forth in this Lease without regard to such amendment or modification, and any such amendment or modification shall not materially increase the obligations of Tenant as identified in this Lease. Without limiting any of Landlord’s other rights pursuant to this provision, Landlord may waive the receipt of any amount payable to Landlord hereunder and such waiver shall constitute an amendment or modification of this Lease with respect to such payment.
4.7 Notwithstanding any language contained in this Lease to the contrary, the parties agree and acknowledge that the amount set forth as Base Rent is calculated on the basis of leasing the Leased Property together as a single, inseparable group. The parties agree that the Base Rent payable hereunder is non-allocable among the Leased Properties. Further notwithstanding any language contained in this Lease to the contrary, the parties further agree and acknowledge that it would be impossible to allocate to any one or more of the Leased Properties a divisible portion of the Base Rent. Further notwithstanding any language contained in this Lease to the contrary, Tenant agrees and acknowledges that the leasing of the Leased Property as an inseparable whole was accepted by Landlord as a special and essential inducement to enter into this transaction, and but for Tenant’s agreement to lease the Leased Property as an inseparable whole, Landlord would not have entered into this Lease.
4.8 This Lease is a “true lease” and not a financing lease, capital lease, mortgage, equitable mortgage, deed of trust, trust agreement or other financing or trust arrangement; the economic realities of this Lease are those of a true lease; and the business relationship created by this Lease and any related documents is solely that of a long-term commercial operating lease between Landlord and Tenant and has been entered into by both parties in reliance on the economic and legal bargains contained herein. In no event shall Tenant or any affiliate of Tenant claim depreciation, amortization or interest deductions as owner of any property for United States federal, state or local tax purposes (except as alterations not financed by Landlord). The Term is less than the remaining economic life of the Leased Property.
4.9 Whenever under the terms of this Lease any sum of money is required to be paid by Tenant in addition to the Base Rent, whether or not such sum is herein designated as additional rent or provision is made for the collection of said sum as additional rent, said sum shall nevertheless be deemed additional rent and shall be collectible as such with the first installment of rent thereafter falling due hereunder.
ARTICLE 5 LATE CHARGES AND INTEREST
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5.1 Tenant hereby acknowledges that late payment by Tenant to Landlord of Base Rent will cause Landlord to incur costs not contemplated by this Lease, the exact amount of which will be extremely difficult to ascertain. Such costs include, but are not limited to, processing and accounting charges. Accordingly, if any installment of Base Rent shall not be received by Landlord when such amount shall be due, then without any requirement for notice to Tenant, Tenant shall pay to Landlord a late charge equal to five percent (5%) of the portion of such installment of Base Rent that is not paid timely. The parties hereby agree that such late charge represents a fair and reasonable estimate of the costs Landlord will incur by reason of late payment by Tenant. Acceptance of such late charge by Landlord shall in no event constitute a waiver of Tenant’s default or breach with respect to any unpaid overdue amounts, nor prevent Landlord from exercising any of the other rights and remedies granted under this Lease, at law or in equity.
5.2 Any Base Rent or other amounts payable by Tenant to Landlord under this Lease that are not paid on the due date shall bear interest at the Default Rate from the due date until paid.
ARTICLE 6 PAYMENT OF TAXES AND ASSESSMENTS
6.1 Subject to Section 6.2, Tenant will pay, thirty (30) days before any fine, penalty, interest or cost may be added thereto for the non-payment thereof (or sooner if elsewhere herein required), all taxes assessed or levied by government (including but not limited to real estate taxes, ad valorem taxes, school taxes, assessments and personal property, intangible and use taxes, if any, imposed upon the Leased Property), assessments, licenses and permit fees, bed taxes, charges for public utilities imposed upon the Leased Property, and all governmental charges, general and special, ordinary and extraordinary, foreseen and unforeseen, of any kind and nature whatsoever that during the Term may be assessed, levied, confirmed, imposed upon or become due and payable out of or in respect of, or become a lien on the Leased Property and/or Landlord’s Personal Property or any part thereof (hereinafter collectively referred to as “Taxes and Assessments”).
6.2 Tenant shall pay to Landlord (or, if so directed by Landlord, to Landlord’s lender), on the 4th Friday of each calendar month during the Term, an amount equal to 1/12th of the anticipated Taxes and Assessments for the then current calendar year. Landlord will apply all such payments (which shall not bear interest) to the payment of the Taxes and Assessments as and when they become due. If at any time the payments theretofore paid by Tenant shall be insufficient for the payment of the Taxes and Assessments, Tenant, within ten (10) Business Days after Landlord’s written demand therefor, shall pay the amount of the deficiency to Landlord or Landlord’s Lender, as the case may be. If Landlord fails to make any payment for which payments are sufficiently held by Landlord, and such failure results in a penalty or imposition payable by Landlord or Tenant with respect to the Premises, Landlord shall be responsible for paying such penalty or imposition. If such collected amounts are in excess of the Taxes and Assessments due, then (i) such excess shall be applied to the Taxes and Assessments
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for the next calendar year, or (ii) if in the final calendar year of the Term, such excess shall be refunded to Tenant within ten (10) Business Days of the expiration of the Term.
6.3 Tenant shall prepare and timely file all required personal property declaration forms for the personal property at the Premises, including, without limitation, the Equipment and Tenant’s Personal Property, and shall pay on or before the due date thereof, all personal property taxes directly to the governing authorities, it being understood and agreed that personal property taxes shall not be deemed to be included in the Taxes and Assessments to be deposited with and paid by Landlord under Section 7(b). Within thirty (30) days after the due date thereof, Tenant shall deliver to Landlord receipts (if available from the taxing authority) or other evidence of payment of all personal property taxes paid by Tenant.
6.4 Any Taxes and Assessments relating to a fiscal period of any authority, a part of which is included within the Term and a part of which is included in a period of time before or after the Term, shall be adjusted pro rata between Landlord and Tenant and each party shall be responsible for its pro rata share of any such Taxes and Assessments.
6.5 Nothing herein contained shall require Tenant to pay income taxes assessed against Landlord, or capital levy, franchise, estate, succession or inheritance taxes of Landlord.
6.6 If any income, profits or revenue tax shall be levied, assessed or imposed upon the income, profits or revenue arising from Base Rent payable hereunder, partially or totally in lieu of or as a substitute for real estate or personal property taxes imposed upon the Leased Property, or otherwise, then Tenant shall be responsible for the payment of such tax. In addition, Tenant shall pay to Landlord any and all state and local sales tax, use tax, franchise tax (including the Texas “margin tax”) and/or gross receipts tax imposed on any payment deemed to be Rent under this Lease or under the Laws and rules and regulations imposing such taxes. For the avoidance of doubt, Tenant will pay directly to Landlord all state and local sales tax, use tax, franchise tax and/or gross receipts tax within thirty (30) days after presentation of invoice or written direction of Landlord and Landlord will remit the same to the appropriate governmental entity.
ARTICLE 7 [RESERVED]
ARTICLE 8 OCCUPANCY
8.1 During the Term, the Facilities demised hereunder shall be used and occupied by Tenant for the Permitted Use. Tenant shall at all times maintain in good standing and in full force and effect all the licenses, certifications and provider agreements issued by the State of Texas and any other applicable state or federal governmental agencies, permitting the operation of the Demised Premises for the Permitted Use. Tenant shall at all times use commercially reasonable efforts to maximize the number of occupied beds at the Demised Premises. Without Landlord’s prior written consent, which Landlord may withhold in its sole and absolute discretion, Tenant shall not apply for, or consent to, any reduction in the number of state licensed beds or Medicaid and Medicare certified beds at the Demised Premises.
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8.2 Tenant will not suffer any act to be done or any condition to exist on the Demised Premises or any portion thereof that is unlawful, known to be dangerous or that may void or make voidable any insurance then in force on the Demised Premises or any portion thereof.
8.3 Upon expiration or termination of this Lease for any reason, Tenant will return to Landlord the Demised Premises, with the improvements located therein and all the Landlord’s Personal Property (i) in good order, condition and repair, reasonable wear and tear excepted, and (ii) qualified and sufficient for licensing and certification by all governmental agencies having jurisdiction over the Demised Premises for the Permitted Use with licenses, certifications and provider agreements in full force and good standing.
ARTICLE 9 INSURANCE
9.1 Tenant shall, at its sole cost and expense, during the term of this Lease, maintain property and casualty insurance with extended coverage endorsement on the Leased Property. Each carrier providing any insurance, or portion thereof, required by this Article shall be reasonably acceptable to Landlord, shall have the legal right to conduct its business in the jurisdiction in which the Leased Property is located, and shall have a claims paying ability rating by S&P of not less than “A-” and an A.M. Best Company, Inc. rating of not less than “A” and financial size category of not less than “IX”.
9.2 Tenant shall, at Tenant’s sole cost and expense, cause to be issued and shall maintain during the entire Term of this Lease:
(a) Property insurance provided by a Causes of Loss-Special Form, which insurance shall include an endorsement for building ordinance/demolition/increased cost of construction. Such insurance shall, at all times, be maintained in an amount equal to the full replacement cost of the Demised Premises. Such insurance shall, at all times, also be maintained in the full replacement cost of the Landlord’s Personal Property located at or used in connection with the Demised Premises. As used herein, the term “full replacement cost” means coverage for the actual replacement cost of the Demised Premises and such amount may be determined annually by a qualified appraiser on behalf of the Landlord, at Landlord’s expense. The term “full replacement cost” shall also mean coverage for the actual replacement cost of the Landlord’s Personal Property located at or used in connection with the Demised Premises. Upon written request by Tenant, Landlord will provide Tenant with information in its possession that is reasonably necessary to establish the value of the Leased Property or any portion thereof. Such insurance shall at all times be payable to Landlord and Tenant as their interest may appear and shall contain a loss payable clause to the holder of any mortgage/deed of trust or lessor under any leasehold estate superior to Landlord to which this Lease shall be subject and subordinate, as said mortgagee’s/beneficiary’s/senior lessor’s interest may appear.
(b) Boiler & Machinery insurance for the Demised Premises, in the amount of full replacement of the Demised Premises and the Landlord’s Personal Property, under the terms of which Landlord and Tenant will be indemnified, as their interests may appear, against any loss
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or damage of the Leased Property that may result from any accident as covered under a standard Boiler & Machinery policy;
(c) If either required by any Mortgagee or if the Demised Premises are located in a flood zone or earthquake zone, as applicable, Flood and Earthquake insurance for the Demised Premises in an amount not less than the replacement cost of the Leased Property, as determined by Landlord.
(d) Commercial general liability insurance naming Landlord and Tenant as insured, and such other parties as Landlord shall request as additional insureds, and insuring against claims for bodily injury or property damage occurring upon, in or about the Demised Premises, or in or upon the streets, sidewalks, passageways and areas adjoining the Demised Premises, such insurance to afford protection for the Demised Premises with limits of not less than Two Hundred Fifty Thousand and 00/100 Dollars ($250,000) per each occurrence and Seven Hundred Fifty Thousand and 00/100 Dollars ($750,000) aggregate per location, or such higher limits as may be required under Texas law. Coverage shall be on an occurrence basis;
(e) Nursing Home or Long-Term Care Professional Liability insurance with limits of not less than Two Hundred Fifty Thousand and 00/100 Dollars ($250,000) per each occurrence and Seven Hundred Fifty Thousand and 00/100 Dollars ($750,000) aggregate per location, or such higher limits as may be required under Texas law. Coverage shall be on an occurrence basis;
(f) Automobile liability insurance with respect to each motor vehicle owned or operated by Tenant, with limits of not less than One Million and 00/100 Dollars ($1,000,000) per each occurrence and Three Million and 00/100 Dollars ($3,000,000) aggregate;
(g) Umbrella general liability coverage with a limit of not less than Five Million and No/100 Dollars ($5,000,000.00); and
(h) Worker’s compensation insurance or other similar insurance that may be required by governmental authorities or applicable legal requirements in an amount not less than the minimum required by law.
9.3 All policies of insurance shall:
(a) (i) name Tenant as the insured and Landlord and Landlord’s Lenders as additional insureds, as their interests may appear, and (ii) include primary coverage in favor of all additional insureds (and with provisions that any other insurance carried by any additional insured or Landlord shall be non-contributing and that naming Landlord and the additional parties listed above in this Section as additional insureds shall not negate any right Landlord or such parties would have had as claimants under the policy if not so designated); provided that the business interruption insurance required pursuant to this Article 9 shall name Landlord and Landlord’s Lenders as loss payees.
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(b) provide that the beneficial interest of Landlord in such policies shall be fully transferable;
(c) provide that they shall not be canceled, terminated, reduced or materially modified without at least thirty (30) days prior written notice to Landlord;
(d) include a standard mortgagee clause in favor of any mortgagee/beneficiary/senior lessor and shall contain, if obtainable, a waiver of the insurer’s right of subrogation against funds paid under the standard mortgagee endorsement that are to be used to pay the cost of any repairing, rebuilding, restoring or replacing;
(e) provide that they are being issued on a primary, non-contributory basis, and with respect to any umbrella or “excess coverage” policy, such shall specifically provide that it is primary vis-a-vis any insurance policies carried by Landlord or any of Landlord’s affiliates; and
(f) be subject only to such deductibles or retention amounts as shall reasonably be acceptable to Landlord.
9.4 An original Certificate of Insurance and Evidence of Property Coverage for all insurance policies required by this Article shall be delivered to Landlord at least five (5) days prior to the Commencement Date and replacement Certificates of Insurance and Evidence of Property Coverage at least thirty (30) days prior to the date of expiration. From time- to-time immediately after Landlord’s request thereof, Tenant shall deliver to Landlord copies of all insurance policies then being carried by Tenant pursuant to these insurance requirements.
9.5 Tenant shall at all times keep in effect business interruption insurance with a loss of rents endorsement naming Landlord as an insured in an amount at least sufficient to cover each of the following for the period of the next succeeding twelve (12) months following the occurrence of the business interruption:
(a) The aggregate of the cost of all taxes and assessments due for such twelve (12) month period;
(b) The cost of all insurance premiums for insurance required to be carried by Tenant for such twelve (12) month period; and
(c) The aggregate of the amount of the Base Rent for such twelve (12) month period.
All proceeds of any business interruption insurance shall be applied, first, to the payment of any and all Base Rent payments for such twelve (12) month period; second, to the payment of any taxes and assessments and insurance deposits required for such twelve (12) month period; and, thereafter, after all necessary repairing, rebuilding, restoring or replacing has been completed as required by the pertinent provisions of this Lease and the pertinent sections of any
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mortgage/deed of trust/senior lease, any remaining balance of such proceeds shall be paid over to Tenant.
9.6 From time to time, Landlord or any mortgagee/beneficiary/senior lessor may reasonably require Tenant to change the amount or type of insurance, or to add or substitute additional coverages, required to be maintained by Tenant hereunder.
9.7 In the event the amount of any casualty insurance proceeds exceed One Hundred Fifty Thousand and No/100 Dollars ($150,000), such insurance proceeds as may be paid to Tenant and Landlord shall be deposited with Landlord to be held and disbursed for the repairing, rebuilding, restoring or replacing of the Demised Premises or any portion thereof, or any improvements from time to time situated thereon or therein, subject to the pertinent provisions of any Mortgage and in accordance with the provisions of this Lease.
No sums shall be paid by Landlord from such proceeds toward such repairing, rebuilding, restoring or replacing unless it shall be first made to appear to the reasonable satisfaction of Landlord that the amount of money necessary to provide for any such repairing, rebuilding, restoring or replacing (according to any plans or specifications that may be adopted therefor) in excess of the amount received from any such insurance policies, if any, has been expended or provided by Tenant for such repairing, rebuilding, restoring or replacing, and that the amount received from such insurance policies is sufficient to complete such work. In the event there is any amount required in excess of the amount received from such insurance policies, Tenant shall deposit such excess funds with Landlord so that the total amount available will be sufficient to complete such repairing, rebuilding, restoring or replacing in accordance with the provisions of any Mortgage and any plans and specifications submitted in connection therewith, free from any liens or encumbrances of any kind whatsoever. The funds held by Landlord shall be disbursed as needed for completion of the work, with each disbursement to be made only upon presentment of architect’s or general contractor’s certificates, waivers of lien (including conditional waivers, as appropriate), contractor’s sworn statements, and other evidence of cost as may be reasonably required by Landlord or any Mortgagee.
ARTICLE 10 LANDLORD’S OR MORTGAGEE’S RIGHT TO PERFORM
10.1 Should Tenant fail to pay any amounts or perform any of its covenants herein agreed to be paid or performed, and such failure continues beyond any applicable cure periods set forth in this Lease with respect thereto, Landlord may, but shall not be required to, make such payment or perform such covenants, and all sums so expended by Landlord thereon shall immediately be payable by Tenant to Landlord, with interest thereon at the Default Rate, from date thereof until paid, and in addition, Tenant shall reimburse Landlord for Landlord’s reasonable expenses in enforcing or performing such covenants, including reasonable attorney’s fees. Any such costs or expenses incurred or payments made by Landlord shall be payable by Tenant as additional rent and shall be collectible as such by Landlord.
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10.2 Performance of, and/or payment made, to discharge said Tenant’s obligations shall be optional with Landlord and such performance and payment shall in no way constitute a waiver of, or a limitation upon, Landlord’s other rights hereunder.
10.3 Tenant hereby acknowledges and agrees that any Mortgagee shall have the right but not the obligation to perform any covenants and pay any amounts that Tenant has failed to perform or pay as required under the terms of this Lease but only to the extent such Mortgagee is entitled under the terms of its Mortgage.
ARTICLE 11 REPAIRS AND MAINTENANCE; CASUALTY
11.1 Throughout the Term, Tenant, at its sole cost and expense, will keep and maintain, or cause to be kept and maintained, the Leased Property (including without limitation the sidewalks, alleyways, passageways, vacant land, parking spaces, curb cuts, and curbs adjoining the Demised Premises) in good order and condition (ordinary wear and tear excepted subject to Tenant’s obligation to repair and replace the same in accordance with the terms of this Lease) without waste, and Tenant will make or cause to be made, as and when the same shall become necessary, all structural and nonstructural, exterior and interior, replacing, repairing and restoring necessary to comply with the above requirements. All replacing, repairing and restoring required of Tenant shall be new and (in the reasonable opinion of Landlord), to the extent reasonably available, of equivalent quality to the property being repaired or replaced, and shall be in compliance with all standards and requirements of law, licenses and municipal ordinances necessary to operate the Demised Premises for the Permitted Use. Any items of Landlord’s Personal Property that are uneconomical to repair shall be replaced by new items or newly refurbished items that, to the extent reasonably available, are of equivalent quality to the Landlord’s Personal Property being repaired or replaced and in good working order, and all replacement items shall become part of the Landlord’s Personal Property. No items of Landlord’s Personal Property shall be removed from the Demised Premises except in connection with repair or replacement of such items. In performing any such repairs, Tenant shall comply in all respects with Section 14.1, and shall, upon request from Landlord, deliver to Landlord evidence satisfactory to Landlord of such compliance, including, without limitation, copies of lien waivers and/or paid invoices for all such repairs.
11.2 Replacement Reserve.
(a) Tenant shall establish and maintain in effect throughout the Term hereof a cash reserve (the “Replacement Reserve”) in an amount equal to $500 per licensed bed for each of the Facilities, which amount shall be funded by Tenant as hereinafter set forth and held by Landlord in a cash account on its books and records, for the payment of costs and expenses associated with capital improvements, repairs and replacements of every kind and nature to be performed at the Facilities (“Capital Improvements”), and for no other purpose. During the initial two (2) Lease Years, Tenant shall deliver to Landlord, simultaneously with each of the four installments of Base Rent to be paid during each calendar month, and in addition to all other amounts due hereunder, an amount equal to one-ninety-sixth (1/96th) of the required
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Replacement Reserve to be deposited into the Replacement Reserve. On or before the last day of each Lease Year, Tenant shall deposit into the Replacement Reserve such additional amounts as may be necessary to replenish any amounts drawn from the Replacement Reserve during such Lease Year. Disbursements shall be made from the Replacement Reserve only in accordance with this paragraph. So long as no Event of Default has occurred and is continuing, and no event or circumstance exists which, with the giving of notice, the passage of time or both, would become an Event of Default, Landlord shall disburse to Tenant from the Replacement Reserve (but in no event to exceed amounts on deposit in the Replacement Reserve), within ten (10) business days after Tenant’s written request (and provision to Landlord of any supporting documentation reasonably required by Landlord), the costs and expenses incurred installing or constructing any Capital Improvements, provided such written notice includes a detailed description of the Capital Improvements installed or constructed together with an invoice for the work done. With each draw request, Tenant will deliver to Landlord (i) a certification by Tenant that the work for which the draw to be funded has been completed in accordance with applicable legal requirements, and (ii) such additional supporting evidence as may be requested by Landlord in its reasonable judgment, including such items as invoices, receipts or other evidence verifying the cost of such work, together with affidavits and/or lien waivers from those providing work, materials or supplies for such portion of the work (provided it shall not be a requirement that Tenant shall have made any payment on such invoice, unless necessary to procure the required lien waiver). Tenant will additionally furnish to Landlord evidence that all necessary or required approvals or consents from governmental authorities have been obtained. In authorizing any disbursement from the Replacement Reserve, Landlord shall be entitled to rely on Tenant’s written request and supporting documentation without any inquiry into the accuracy, validity or contestability of any such amount or the nature or necessity of the materials provided or the work performed. Landlord may, at any time and from time to time, but shall have no obligation to, make or cause to be made inspections of any Facility. In the event that any inspection report from any such inspection reasonably recommends that Capital Improvements are required or anticipated that are the obligation of Tenant in accordance the terms of this Lease, Landlord shall provide Tenant with a written description of such Capital Improvements and Tenant shall then complete those Capital Improvements to the reasonable satisfaction of Landlord as expeditiously as is reasonably practicable under the circumstances after the receipt of such description from Landlord.
(b) It is specifically hereby stipulated and agreed that notwithstanding the preceding provisions of this Section 11.2, the management, uses and disbursement procedures and requirements of the Replacement Reserve may be taken over by a Facility Mortgagee, and Tenant agrees to negotiate in good faith any changes to this Section 11.2 as may be reasonably requested by a Facility Mortgagee in such event and to pay the reasonable costs of the Facility Mortgagee in processing draw requests.
(c) Tenant shall provide Landlord with an engineering or property condition report (at Tenant’s sole cost and expense and in form and substance satisfactory to Landlord in Landlord’s sole discretion) with respect to each Facility, not more than twenty-four (24) months nor less than eighteen (18) months prior to the end of the Initial Term (unless Tenant has elected a renewal option pursuant to Article 3) or (if Tenant has elected a renewal option pursuant to
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Article 3) the last renewal Term elected by Tenant pursuant to Article 3. If (i) any such property condition report lists replacements of the roof or HVAC systems as being required on the Demised Premises during the remainder of the applicable Term, or (ii) an alteration or repair to the Demised Premises is required by any applicable governmental authority during the last eighteen (18) months of the applicable Term, then, Tenant promptly and expeditiously shall cause such alteration or repair to be performed and, provided such alteration or repair is the result of normal wear and tear and not due to neglect or waste by Tenant, the cost of such alteration or repair, as the case may be, will be apportioned between Landlord and Tenant with Tenant’s share equal to the cost of such alteration or repair, as the case may be, multiplied by a fraction, the numerator of which shall be the remainder of the Term from the time such alteration or repair needs to be made pursuant to clauses (i) and (ii) of this paragraph, and the denominator of which shall be the anticipated useful life of such alteration or repair, as the case may be. If, after any such apportionment, any renewal Term is exercised in accordance with Article 3, the cost of such alteration or repair will be re-apportioned accordingly. If such alteration or repair is due to neglect or waste by Tenant, Tenant will bear the full cost of such alteration or repair, including any reasonable costs incurred by Landlord to ensure that the alteration or repair is completed, and such alteration or repair shall be made in accordance with all applicable requirements of this Lease.
(d) Provided that no Event of Default exists at the expiration of this Lease, and Tenant has paid all sums to Landlord which Tenant is required to pay prior to the expiration of this Lease and there is not otherwise any term, covenant or condition which is required to be performed by Tenant as of the expiration of this Lease (including, without limitation, any alteration or repair required pursuant to Section 11.2(c)), then any portion of the Replacement Reserve then remaining on deposit with Landlord shall be returned to Tenant after delivery of exclusive possession of the Demised Premises to Landlord. In the event of the sale of the Demised Premises and the purchaser’s assumption of Landlord’s obligations hereunder, Landlord shall have the right to transfer the Replacement Reserve to the purchaser, and Landlord shall thereupon be deemed to be released by Tenant from all liability for the return of such Replacement Reserve, and Tenant agrees to look solely to the new landlord for the return of said Replacement Reserve. It is agreed that the provisions hereof shall apply to every transfer or assignment made of the Replacement Reserve to a new landlord. Tenant further covenants that it will not assign or encumber the monies deposited herein as the Replacement Reserve and that neither Landlord nor its successors or assigns shall be bound by any such assignment, encumbrance, attempted assignment or attempted encumbrance.
11.3 In the event that any part of the improvements located on the Demised Premises or the Landlord’s Personal Property shall be damaged or destroyed by fire or other casualty (any such event being called a “Casualty”), Tenant shall promptly and with all due diligence, but in any event on or before one year after the date of such Casualty, replace, repair and restore the same as nearly as possible to the condition it was in immediately prior to such Casualty, in accordance with all of the terms, covenants and conditions and other applicable requirements of this Lease and any Mortgage in the event of such Casualty, whether or not the insurance proceeds or other compensation are sufficient to pay the cost of such restoration and repair. The Demised Premises and the Landlord’s Personal Property shall be so replaced, repaired and
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restored as to be of at least equal value and substantially the same character as prior to such Casualty. Tenant shall submit to Landlord for Landlord’s prior written approval plans and specifications for any such restoring, replacing or repairing, and Tenant shall immediately select an independent architect approved by Landlord and any Mortgagee, who shall be in charge of such repairing, restoring and replacing. Without limitation of Landlord’s rights hereunder, there shall be the following additional conditions precedent to any disbursement of insurance proceeds: (i) at the time of each and every disbursement there shall exist no Event of Default under this Lease, and (ii) that Landlord and Mortgagee, if applicable, shall have approved all plans and specifications for any proposed repair or restoration. Tenant covenants that it will give to Landlord prompt written notice of any Casualty affecting the Leased Property. Notwithstanding anything to the contrary in this Lease, there shall be no abatement or other adjustment of Base Rent as a result of any Casualty.
11.4 Provided that there shall not exist an Event of Default under this Lease, Tenant shall have the right, at any time and from time to time, to remove and dispose of any Landlord’s Personal Property that may have become obsolete or unfit for use, or that is no longer useful in the operation of the Demised Premises, provided further that Tenant promptly replaces any such Landlord’s Personal Property so removed or disposed of with other personal property free of any security interest, lien or encumbrance. Said replacement Landlord’s Personal Property shall be in good working order and of the same character and specifications as the Landlord’s Personal Property so removed or disposed of and such replacement Landlord’s Personal Property shall automatically become the property of and shall belong to Landlord, and Tenant shall execute such bills of sale or other documents reasonably requested by Landlord to vest the ownership of such Landlord’s Personal Property in Landlord.
11.5 The parties acknowledge the existence of a subsurface water condition affecting the building foundation at the Facility identified on Exhibit “A” as Kemp Care Center, located at 1351 S. Elm Street, Kemp Texas. Notwithstanding anything contained in this Lease to the contrary, Landlord agrees expeditiously to perform, at Landlord’s sole cost and expense, such remediation of the said condition as shall reasonably be necessary in order to alleviate the infiltration of water to the building’s fill pad and to reduce further movement of the foundation. Tenant shall have no responsibility for any maintenance, repair or rebuilding that may be the direct result of subsurface water conditions at Kemp Care Center.
ARTICLE 12 ALTERATIONS AND DEMOLITION
12.1 Tenant will not remove or demolish any improvement or building that is part of the Demised Premises or any portion thereof or allow it to be removed or demolished, without the prior written consent of Landlord. Tenant further agrees that it will not make, authorize or permit to be made any changes or alterations having a cost of more than Fifty Thousand Dollars ($50,000) at any one Facility in any given year without first obtaining Landlord’s written consent thereto. As used herein, the term “changes or alterations” shall not include routine maintenance, upkeep or upgrades, such as painting, wallpapering, installation of flooring, installation or replacement of HVAC systems and controls, roof repair or replacement, non- structural energy
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upgrades, upgrades and changes mandated by law or the orders of any governmental agency having jurisdiction of the Demised Premises, and similar changes; it shall include, however, structural changes and building additions. All alterations, improvements and additions to the Demised Premises shall be of first-class quality and in good working order, in the reasonable opinion of Landlord, and shall become the property of Landlord and shall meet all building and fire codes, and all other applicable codes, rules, regulations, laws and ordinances.
ARTICLE 13 COMPLIANCE WITH LAWS AND ORDINANCES
13.1 Throughout the Term, Tenant, at its sole cost and expense, will obey, observe and promptly comply with all present and future laws, ordinances, orders, rules, regulations and requirements of any federal, state and municipal governmental agency or authority having jurisdiction over all or any portion of the Leased Property and the use and operation thereof for the Permitted Use.
13.2 Tenant shall likewise observe and comply with the requirements of all policies of public liability and fire insurance and all other policies of insurance at any time in force with respect to the Leased Property or any portion thereof.
13.3 Tenant shall promptly apply for and procure and keep in good standing and in full force and effect all necessary licenses, permits, provider agreements and certifications required by any governmental authority for the purpose of maintaining and operating each Facility as a skilled nursing facility, in full compliance with all the rules and regulations and minimum standards applicable thereto, as prescribed by the State of Texas and such other governmental authorities having jurisdiction thereof, each Facility having no less than the number of licensed skilled nursing beds as set forth on Exhibit A. Notwithstanding anything else in this Lease, Tenant shall not be held responsible for reductions in the number of licensed beds where such reductions were made by HHSC or other government authority having jurisdiction over the Facilities and under circumstances in which Tenant could not have prevented the reduction with the exercise of reasonable care and diligence.
13.4 Within thirty (30) days of receipt, Tenant will deliver or mail to Landlord, to the address and in the manner as provided herein for the giving of notices, copies of all inspection reports, annual license renewals, surveys, deficiency reports, and notices of administrative hearings and/or court actions from all state, federal and local governmental bodies regarding all or any portion of the Leased Property or any of the Facilities. Tenant shall notify Landlord within five (5) business days after receipt thereof of any notice from any governmental agency terminating or suspending or threatening termination or suspension, of any license, permit, provider agreement or certification relating to the Leased Property and shall provide a copy of the same to Landlord (a “Material Notice”).
ARTICLE 14 DISCHARGE OF LIENS
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14.1 Tenant will not create or permit to be created or to remain, and Tenant will discharge, any lien, encumbrance or charge levied on account of any mechanic’s, laborer’s or materialman’s lien or any conditional sale, security agreement or chattel mortgage, or otherwise, that might be or become a lien, encumbrance or charge upon the Leased Property or any part thereof or the income therefrom, for work or materials or personal property furnished or supplied to, or claimed to have been supplied to or at the request of Tenant.
14.2 If any such lien, encumbrance or charge is created upon the Demised Premises or any part thereof, then in addition to any other right or remedy, Landlord may, upon ten (10) days’ notice, but shall not be obligated to, discharge the same either by paying the amount claimed to be due or by processing the discharge of such lien by deposit or by bonding proceedings. Any amount so paid by Landlord and all costs and expenses incurred by Landlord in connection therewith, together with interest thereon at the Default Rate, shall be payable by Tenant under this Lease and shall be paid by Tenant to Landlord on demand. Except as herein provided, nothing contained herein shall in any way empower Tenant to do or suffer any act that can, may or shall cloud or encumber Landlord’s or any Mortgagee’s interest in the Demised Premises.
ARTICLE 15 INSPECTIONS OF PREMISES BY LANDLORD
15.1 At any time during reasonable business hours, Landlord and/or its authorized representative shall have the right to enter the Demised Premises and inspect the Leased Property; provided that Tenant shall be entitled to reasonable prior notice of any such entry or inspection (which notice may be oral) except in the event of an emergency or in the event Tenant is then in default under this Lease in which case no notice shall be necessary.
15.2 Landlord agrees that the person or persons entering the Demised Premises and inspecting the Leased Property pursuant to Section 15.1 above will cause as little inconvenience to Tenant as may reasonably be possible under the circumstances.
15.3 Tenant hereby acknowledges and agrees that any Mortgagee shall have the right but not the obligation to enter the Demised Premises and inspect the Leased Property to the extent such Mortgagee is entitled to do so under the terms of its Mortgage.
ARTICLE 16 CONDEMNATION
16.1 In the event the entirety of any Facility Property, or such portion thereof that renders the Facility not able to be operated for its primary intended use in compliance with this Lease, shall be taken or sold under the notice or threat of such taking for any public use by act of any public authority (hereinafter referred to as a “Taking”), then this Lease shall terminate as to the affected Facility Property as of the date of such Taking. Upon such Taking, the Base Rent shall be reduced in accordance with Section 16.3, below. All damages awarded for such Taking under the power of eminent domain shall be the property of Landlord, whether such damages shall be awarded as compensation for diminution in value of the leasehold or the fee of the
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Facility Property. Tenant shall be entitled, if provided by law, to pursue and receive a separate award from the condemning authority for loss of Tenant’s interest in the Facility Property, but only if the award to which Landlord would have otherwise been entitled had Tenant not received or participated in such award, is not diminished thereby, directly or indirectly, and, further, in no event shall Tenant be entitled to an apportionment of any condemnation award or settlement that Landlord would have been entitled to receive with respect to such Taking but for the above provision and Tenant hereby assigns to Landlord any and all right, title and interest Tenant may have in any and all such awards or settlements.
16.2 In the event of a partial Taking of a Facility Property, the result of which shall be a reduction in the number of licensed beds at the Facility Property by fifty percent (50%) or more of the Facility Property’s licensed capacity existing prior to such Taking, Landlord shall have the option (i) to terminate this Lease, whereupon the Base Rent shall be reduced as provided in Section 16.3, below, or (ii) Landlord shall hold in trust that portion, if any, of such award, settlement or compromise that shall be allocable to consequential damage to buildings and improvements not taken, and Landlord shall pay out such portion to Tenant for the cost of restoring the Facility Property as a complete structural unit, as such restoration work progresses in accordance with the procedure for making insurance proceeds available for restoration, repair or rebuilding as set forth in ARTICLE 9 and ARTICLE 11. Landlord shall be entitled to retain any excess portion of such award, settlement or compromise. Tenant shall be entitled, if provided by law, to pursue and receive a separate award from the condemning authority for loss of Tenant’s interest in the Facility Property, but only if the award to which Landlord would have otherwise been entitled had Tenant not received or participated in such award, is not diminished thereby, directly or indirectly, and, further, in no event shall Tenant be entitled to an apportionment of any condemnation award or settlement that Landlord would have been entitled to receive with respect to such Taking but for the above provision and Tenant hereby assigns to Landlord any and all right, title and interest Tenant may have in any and all such awards or settlements. In the event of a partial condemnation that does not result in any termination of this Lease with respect to the Facility Property, the Base Rent payable under Section 4.1 hereof shall be proportionally adjusted based upon the number of licensed and certified beds lost to the number of licensed and certified beds authorized in the Facility Property immediately prior to the Taking.
16.3 In the event this Lease is terminated as to any Facility Property in accordance with Section 16.1 or Section 16.2, the Base Rent shall be reduced by an amount equal to (i) the Base Rent immediately prior to the date of notice of such Taking, multiplied by (ii) the ratio of the EBITDARM attributable to such Facility Property for the twelve (12) month period immediately prior to such Taking to the aggregate EBITDARM attributable to all of the Facilities for the twelve (12) month period immediately prior to such Taking. The termination of this Lease due to a Taking is the result of circumstances beyond the control of Landlord and Tenant and the parties hereto affirm that, except for such specific isolated situation, this Lease is intended to be a single indivisible lease.
ARTICLE 17 RENT ABSOLUTE
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17.1 The Leased Property is leased to Tenant in an “AS IS, WHERE IS” condition, subject to the rights of any parties in possession thereof, the state of the title thereof as of the date of this Lease, any state of facts that an accurate survey or physical inspection thereof might show, and to all zoning regulations, restrictions, rules and ordinances, building restrictions and other laws and regulations now in effect or hereafter adopted by any governmental authority having jurisdiction thereof. Tenant has examined the Leased Property and has found the same satisfactory. Tenant acknowledges that the Leased Property is the property of Landlord and that Tenant has the leasehold rights as set forth in the terms and conditions of this Lease.
17.2 As a material inducement to Landlord in the making of and entry into this Lease, Tenant hereby expressly agrees as follows:
(a) It is the responsibility of Tenant to be fully acquainted with the nature, in all respects, of the Leased Property, including (but not by way of limitation); the soil and geology thereof, the waters thereof and thereunder; the drainage thereof; the manner of construction and the condition and state of repair and lack of repair of all improvements of every nature; the nature, provisions and effect of all health, fire, zoning, building, subdivision and all other use and occupancy laws, ordinances, and regulations applicable thereto; and the nature and extent of the rights of others with respect thereto, whether by way of reversion, easement, right of way, prescription, adverse possession, profit, servitude, lease, tenancy, lien, encumbrance, license, contract, reservation, condition, right of re-entry, possibility of reverter, sufferance or otherwise. Landlord makes no representation as to, and has no duty to be informed with respect to, any of the matters set forth in the preceding sentence. Tenant hereby accepts the Leased Property as suitable and adequate in all respects for the conduct of the business and the uses of the Leased Property as contemplated under the provisions of this Lease.
(b) Tenant expressly covenants and agrees that it hereby takes this Lease and the leasehold estate hereby established upon and subject to Landlord’s title as it exists on the date hereof (but subject to Landlord’s covenant of quiet enjoyment in Section 33.1 hereof), including all rights, rights of way, easements, profits, servitudes, reservations, restrictions, conditions, exceptions, reversions, possibilities of reverter, liens, encumbrances, occupancies, tenancies, licenses, clouds, claims and defects, known and unknown and whether of record or not.
(c) Tenant hereby expressly waives any and all rights that it might have against Landlord by reason of any of the foregoing, including (but not limited to) the requirements of any inspection or examination by Tenant of the Leased Property.
17.3 Except as otherwise specifically provided in this Lease, this Lease shall continue in full force and effect, and the obligations of Tenant hereunder shall not be released, discharged or otherwise affected, by reason of: (i) any damage to or destruction of the Leased Property or any part thereof or the taking of the Leased Property or any part thereof by condemnation, requisition or otherwise for any reason, (ii) any restriction or prevention of or interference with any use of the Leased Property or any part thereof, including any restriction or interference with or circumstance that prevents the use of the Leased Property as contemplated by Section 8.1, (iii) any frustration of Tenant’s purposes hereunder, (iv) any claim that Tenant has or might have
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against Landlord, or (v) any other occurrence whatsoever, whether similar or dissimilar to the foregoing.
17.4 Without limiting the generality of Section 17.3, Tenant shall continue to pay Base Rent and to perform its obligations under this Lease even if Tenant claims that Landlord has breached any obligation under this Lease or that Tenant has been damaged by any act or omission of Landlord. Therefore, Tenant shall at all times remain obligated to fully and faithfully pay and perform all its obligations under this Lease, without any right of set-off, counterclaim, abatement, deduction, or any other reduction. Tenant’s sole right to recover damages against Landlord by reason of a breach or alleged breach of Landlord’s obligations under this Lease shall be to pursue, prove and subsequently be awarded by a court of competent jurisdiction a judgment for such damages in a separate action against Landlord.
ARTICLE 18 ASSIGNMENT AND SUBLETTING
18.1 During the Term, Tenant shall not, without the prior written consent of Landlord, which may be withheld in the sole discretion of Landlord, assign this Lease or in any manner whatsoever sublet, assign, sell, pledge, encumber or transfer all or any part of the Leased Property or any interest in the Leased Property or enter into any management or other similar agreement pursuant to which a party shall undertake responsibility for the management and operation of the Leased Property or any portion thereof. For the purposes of this Lease, it shall be deemed to be an assignment of this Lease if there shall occur any change (voluntary or involuntary, by operation of law or otherwise) in the persons or entities which Control the management and affairs of Tenant or Guarantor as of the date of this Lease. Further, and except for security interests granted to Tenant’s senior secured lender, Tenant shall not cause or permit any sale, transfer, pledge, assignment or encumbrance of ownership interest or voting rights in Tenant which results in twenty percent (20%) or more of the ownership interests or voting rights in Tenant being held by any persons or entities that did not have such ownership as of the date of this Lease, whether voluntarily, involuntarily, by operation of law or otherwise, and any such act or occurrence shall be deemed to be an assignment of this Lease, and shall require Landlord’s prior written consent, which may be withheld in Landlord’s sole discretion. Any violation or breach or attempted violation or breach of the provisions of this Article by Tenant, or any acts inconsistent herewith shall vest no right, title or interest herein or hereunder or in the Leased Property, in any such transferee or assignee, and any such violation, breach or attempted violation or breach shall constitute an Event of Default hereunder permitting Landlord to terminate this Lease or to exercise any of its other remedies in accordance with the provisions of ARTICLE 21 without any right of Tenant to cure the same. Landlord’s consent to any of the foregoing shall not release Tenant from, or otherwise affect, Tenant’s obligations and liabilities under this Lease.
18.2 Notwithstanding the provisions of Section 18.1, Landlord agrees that Tenant shall have the right to encumber, collaterally assign, pledge or hypothecate Tenant’s interest in the leasehold estate created by this Lease without Landlord’s prior written consent so long as such encumbrance, assignment or pledge (hereinafter, a “Leasehold Mortgage”) is in favor of a real
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estate investment trust, bank, saving and loan association, investment bank, insurance company, trust company, commercial credit corporation, pension plan, pension fund or pension advisory firm, mutual fund, government entity or plan that satisfies the Eligibility Requirements (defined below). All proceeds from any Leasehold Mortgage shall remain the property of Tenant. Landlord shall not be obligated to subordinate any or all of Landlord’s right, title or interest in and to the Demised Properties or this Lease to the lien of any Leasehold Mortgage. A Leasehold Mortgage shall encumber only Tenant’s leasehold interest in the Demised Properties and shall not encumber Landlord’s right, title or interest in the Demised Properties. Landlord shall have no liability whatsoever for the payment or performance of any obligation secured by any Leasehold Mortgage or related obligations. A Leasehold Mortgage shall be, and hereafter shall continue at all times to be, subject and subordinate to each and all of the covenants, conditions and restrictions set forth in this Lease (including with regard to any attempted further assignment by the holder of the Leasehold Mortgage, whether by foreclosure or otherwise), and junior, subject and subordinate, in each and every respect, to all rights and interests of any Landlord’s Mortgagee now or hereafter affecting any of the Demised Properties. Should there be any conflict between the provisions of this Lease and the provisions of any Leasehold Mortgage, the provisions of this Lease shall control. No Leasehold Mortgage shall be for a term longer than the then current Lease Term. Upon written request from Tenant, Landlord agrees to deliver an estoppel certificate in favor of Tenant’s Lender regarding this Lease, in form and substance reasonably acceptable to Landlord and Tenant’s Lender. If Landlord delivers to Tenant a Default notice under this Lease, Landlord shall notify any Tenant’s Lender that has delivered to Landlord a prior written request for such notice, and Landlord shall recognize and accept the performance of any obligation of Tenant hereunder by Tenant’s Lender (provided said performance occurs within the same cure periods as provided to Tenant under this Lease); provided, however that nothing contained herein shall obligate Tenant’s Lender to take any such actions. Any act by Tenant or Tenant’s Lender in violation of this Section 18.2 shall be null and void and of no force or effect. Tenant shall, without charge, at any time and from time to time, within twenty (20) days after any request by Landlord, obtain from Tenant’s Lender and deliver to Landlord or any other Person specified by Landlord, duly executed and acknowledged, an estoppel certificate certifying (x) copies of the documents creating, evidencing and securing the debt secured by any Leasehold Mortgage, (y) whether, to the knowledge of Tenant’s Lender, any default exists under such Leasehold Mortgage and (z) such other matters relating to such Leasehold Mortgage as Landlord may reasonably request. This Section shall survive termination of this Lease. “Eligibility Requirements” as used in this Section means, with respect to any entity, that such entity (i) has total assets (in name or under management) in excess of $500,000,000 and (except with respect to a pension advisory firm or similar fiduciary) either (x) capital/statutory surplus or shareholder’s equity of $200,000,000 or (y) market capitalization of at least $300,000,000, and (ii) is regularly engaged in the business of making or owning commercial real estate loans (including mezzanine loans to direct or indirect owners of commercial properties, which loans are secured by pledges of direct or indirect ownership interests in the owners of such commercial properties) or operating commercial real estate properties.
18.3 Notwithstanding the provisions of Section 18.1, Landlord agrees that Tenant shall have the right to engage Guarantor, as manager of the operations of the Facilities; provided that
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(i) the management fee or other compensation payable to Guarantor for such services with respect to any period shall accrue at a rate not to exceed six percent (6%) of the lesser of (A) Net Patient Revenue of the Facilities, and (B) actual collected revenue of the Facilities.
18.4 Notwithstanding the provisions of Section 18.1, Tenant shall be permitted to enter into one or more transactions (each, a “QIPP Transaction”), pursuant to which Tenant shall sublease one or more of the Facilities to one or more nonprofit hospital systems (each, a “QIPP Subtenant”), provided that, in each case, (i) the QIPP Subtenant becomes the licensed operator of the subject Facility, (ii) the subject Facility, as operated by such QIPP Subtenant, is eligible to participate in the Texas Quality Incentive Payment Program (QIPP) or other Intergovernmental Transfer (IGT) program as established by HHSC, (iii) the proposed form of sublease agreement is approved in advance by Landlord, which approval shall not be unreasonably withheld, and (iv) the operation of the subject Facility is to be managed by Tenant pursuant to a management agreement approved in advance by Landlord, which approval shall not be unreasonably withheld. Tenant shall not enter into any amendment or modification of any sublease or management agreement entered into in connection with a QIPP Transaction (each, a “QIPP Agreement”), or grant any waiver or release under or with respect to any QIPP Agreement, without the prior written consent of Landlord in each instance. Tenant shall provide to Landlord, (i) simultaneously with the giving of any such notice, a copy of any notice of default under any QIPP Agreement given by Tenant to any QIPP Subtenant, and (ii) as promptly as practicable upon receipt, but in any event with two (2) business days of receipt, a copy of any notice of default given to Tenant by any QIPP Subtenant pursuant to any of the QIPP Agreements.
18.5 Reserved.
18.6 Tenant hereby acknowledges and agrees that Landlord is not assuming and shall have no obligation or liability whatsoever with respect to any QIPP Agreement. Moreover, and notwithstanding anything to the contrary in any QIPP Agreement, Tenant shall remain fully responsible for the performance of all terms, covenants and provisions of this Lease as applicable to all of the Facility Properties.
18.7 This Lease shall be fully assignable by Landlord or its successors and assigns, in whole as to all of the Demised Premises or in part with respect to one or more of the Demised Premises (including to one or more Affiliates of Landlord). Tenant agrees to cooperate reasonably with Landlord in connection with any such assignment, and agrees to execute and deliver (or cause to be executed and delivered, as applicable) to Landlord any other instruments and documents requested by Landlord in connection with the assignment, including any commercially reasonable subordination, non-disturbance and attornment agreement that may be requested by Landlord’s assignee’s lenders. From and after the effective date of any such Landlord assignment and notice thereof to Tenant, Landlord shall be automatically released (without need for any further agreement or other document) from any liability thereafter arising with respect to the Demised Properties covered thereby.
ARTICLE 19 EVENTS OF DEFAULT
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19.1 The occurrence of any of the following acts or events shall constitute an event of default on the part of Tenant (“Event of Default”):
(a) The failure of Tenant to pay when due any payment of Base Rent, or any part thereof, or any other sum or sums of money due or payable to Landlord under the provisions of this Lease;
(b) The failure on the part of Tenant to maintain in effect any of the insurance policies required to be maintained by Tenant under this Lease;
(c) Any unauthorized assignment, subletting or transfer of Tenant’s interest under this Lease as a result of non-compliance with the provisions of Section 18.1;
(d) The failure of Tenant to comply with, or the violation by Tenant of, any of the terms, conditions or provisions of any Mortgage, after notice thereof by Landlord to Tenant if such failure or violation shall not be cured within ten (10) days;
(e) The failure of Tenant to give any Material Notices pursuant to Section 13.4;
(f) The failure of Tenant to perform or comply in any material respect with any other term or provision of this Lease not requiring the payment of money, including, without limitation, the failure to comply in any material respect with the provisions hereof pertaining to the use, operation and maintenance of the Demised Premises; provided, however, if the default described in this paragraph is curable same shall be deemed cured, if: (a) within three (3) business days of Tenant’s receipt of a notice of default from Landlord, Tenant gives Landlord notice of its intent to cure such default; and (b) Tenant cures such default within thirty (30) days after such notice from Landlord, unless such default cannot with the exercise of diligent efforts be cured within a period of thirty (30) days because of the nature of the default or delays beyond the control of Tenant, and cure after such thirty (30) day period will not have a material and adverse effect upon the Premises, in which case such default shall not constitute an Event of Default if Tenant uses its best efforts to cure such default by promptly commencing and diligently pursuing such cure to the completion thereof, provided, further however, no cure period for such default shall continue for more than one hundred twenty (120) days from Tenant’s receipt of a notice of default from Landlord;
(g) Any local, state or federal agency having jurisdiction over the operation of any Facility orders the removal of ten percent (10%) or more of the patients located in such Facility unless such removal shall have been ordered for reasons beyond the control of Tenant;
(h) The voluntary transfer by Tenant of ten percent (10%) or more of the patients located in any Facility and such transfer is not at the patients’ request or for reasons relating to the health and well-being of the patients that were transferred;
(i) The making by any Tenant or Guarantor of an assignment for the benefit of creditors;
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(j) The levying of a writ of execution or attachment on or against the property of any Tenant or Guarantor that is not discharged or stayed by action of Tenant or Guarantor contesting same, within thirty (30) days after such levy or attachment (provided if the stay is vacated or ended, this paragraph shall again apply);
(k) If proceedings are instituted in a court of competent jurisdiction for the reorganization, liquidation or involuntary dissolution of any Tenant or Guarantor for its adjudication as a bankrupt or insolvent, or for the appointment of a receiver of the property of any Tenant or Guarantor, and said proceedings are not dismissed and any receiver, trustee or liquidator appointed therein is not discharged within ninety (90) days after the institution of said proceedings;
(l) The sale of any interest of Tenant in the Demised Premises or portion thereof under a writ of execution or other legal process;
(m) The failure on the part of Tenant during the Term to cure or abate or receive a waiver for any violation claimed by any governmental authority, or any officer acting on behalf thereof, of any law, order, ordinance, rule or regulation pertaining to the operation of any Facility, including without limitation, any proceedings to revoke any license granted to Tenant for the operation of the Permitted Use at such Facility Property or to decertify such Facility Property from participation in the Medicare or Medicaid reimbursement programs, within either (a) thirty (30) days prior to the date set forth in any notice from the governmental authority for revocation, withdrawal or cancellation of any license, certificate, permit or provider agreement, or, (b) if no date is set forth for revocation, withdrawal or cancellation of any license, certificate, permit or provider agreement, prior to the expiration of any time period permitted by such authority for such cure or abatement, in each case, subject to Tenant’s right to contest the same in accordance with ARTICLE 20; provided, however, that in the event such authority requires such cure or abatement under subsection (a) be completed in less than thirty (30) days, Tenant shall endeavor to effect such cure or abatement as expeditiously as possible, but in no event less than ten (10) days prior to the expiration of the time period permitted by such authority for such cure or abatement;
(n) The abandonment of the Demised Premises, or any material portion thereof, by Tenant;
(o) The termination of the right to receive Medicaid or Medicare reimbursements based upon any actual or alleged fraud, misfeasance or malfeasance;
(p) The failure on the part of Tenant during the Term to cure or abate any payment obligation claimed by any governmental authority pertaining to Medicaid or Medicare recoupments or any other impositions, including, but not limited to bed taxes, in connection with the provider agreements, certifications or licenses for the Demised Premises, subject to Tenant’s right to contest the same in accordance with ARTICLE 20;
(q) The failure of any Guarantor to perform, or the violation by any Guarantor of any of the covenants of the Guaranty Agreement beyond any notice and cure periods set forth
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therein or any representations or warranties by Guarantors under the Guaranty Agreement shall prove to have been false in any material respect when made;
(r) The occurrence of a Material Adverse Change as to Tenant or the Guarantors, which Material Adverse Change has not been remedied to the reasonable satisfaction of Landlord within ten (10) days following written notice thereof from Landlord; or
(s) The occurrence of an event of default under any senior secured credit facility as to which Tenant, Guarantor, or any entity that Controls Tenant or Guarantor, is a borrower or a guarantor, and such default is not waived in writing or cured within any applicable cure period under such credit facility.
ARTICLE 20 RIGHT TO CONTEST
20.1 Tenant shall have the right upon written notice thereof to Landlord, to contest by appropriate legal proceedings, diligently conducted in good faith, the validity or application of any law, regulation or rule mentioned herein, and to delay compliance therewith pending the prosecution of such proceedings; provided, however, that (a) no civil or criminal liability would thereby be incurred by Landlord or any successor operator of all or any portion of the Demised Premises and no lien or charge would thereby be imposed upon or satisfied out of the Leased Property or any portion thereof, (b) the effectiveness and good standing of any licenses, certificates, permits or provider agreements affecting the Demised Premises or any portion thereof or the nursing home operated at the applicable Facility Property would continue in full force and effect during the period of such contest, and is cured not less than thirty (30) days prior to the date set forth for revocation, withdrawal or cancellation of any such licenses, certificates, permits or provider agreements, and (c) Tenant satisfies any and all applicable requirements of any Mortgage.
ARTICLE 21 LANDLORD’S REMEDIES UPON DEFAULT
21.1 Upon the occurrence of an Event of Default, Landlord may exercise all rights and remedies under this Lease and the laws of the state in which any Facility is located available to a Landlord of real and personal property in the event of a default by its tenant. Without limiting the foregoing, Landlord shall have the right to do any of the following:
(a) Terminate this Lease and all rights of Tenant hereunder, provided that a Proper Successor has been designated, by giving Tenant ten (10) days written notice of such election to terminate, in which event Tenant shall immediately surrender the Leased Property to the Proper Successor, and if Tenant fails to surrender the Leased Property, Landlord may, without prejudice to any other remedy which Landlord may have, expel or remove Tenant and any other person who may be occupying the Demised Premises, or any part thereof. In such event Landlord may seek such damages and remedies as are available at law or in equity for Tenant’s breach of this Lease, including the recovery from Tenant of the following:
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(i) the worth at the time of award of any unpaid Rent which has been earned at the time of such termination; plus
(ii) the worth at the time of award of any amount by which the unpaid Rent which would have been earned after termination until the time of award exceeds the amount of such rental loss that Tenant proves could have been reasonably avoided; plus
(iii) the worth at the time of award of the amount by which the unpaid Rent for the balance of the Term after the time of the award exceeds the amount of such rental loss that Tenant proves could be reasonably avoided; plus
(iv) any other amount necessary to compensate Landlord for all the detriment proximately caused by Tenant’s failure to perform its obligations under this Lease or which in the ordinary course of things would be likely to result therefrom; and
(v) at Landlord’s election, such other amounts in addition to or in lieu of the foregoing as may be permitted from time to time by applicable law.
All Rent shall be computed on the basis on the amounts thereof payable on the date of Tenant’s default, as the same are to be adjusted thereafter as contemplated by this Lease. As used in subparagraphs “(i)” and “(ii)”, above, the “worth at the time of award” is computed by allowing interest in the per annum amount equal to the Default Rate. As used in subparagraph (iii), above, the “worth at the time of award” is computed by discounting such amount at the Prime Rate.
21.2 Enter upon and take possession of the Leased Property and expel or remove Tenant and any other Person who may be occupying the Demised Premises or any part thereof as well as any and all property, with or without terminating this Lease, and any property may be removed and stored in a public warehouse or elsewhere at the cost of and for the account of Tenant; and Landlord shall be obligated to use commercially reasonable efforts to mitigate its damages by reletting the Leased Property; and Tenant shall cooperate with Landlord in connection with any proposed transfer to any Proper Successor to transfer operations; and Tenant covenants and agrees to pay Landlord, on demand, any cost or expense incurred by Landlord in connection with reletting the Leased Property or any deficiency in Base Rent that may arise by reason of such reletting, including, without limitation, brokerage fees, advertising expenses, preparation expenses, alterations and repairs to the Leased Property, legal expenses, and the cost of performing such of Tenant’s obligations as Landlord determines to be necessary and reasonable. Landlord’s obligation to mitigate Landlord’s damages shall be subject to the following conditions: (i) Landlord shall be required to only use reasonable efforts to mitigate damages by re-letting the Demised Premises as a unitary whole, which efforts shall not exceed those that a commercially reasonable landlord generally uses to re-let multi-site (10 or more) portfolios of healthcare facilities that are treated as a single premises under a unitary lease that has been terminated and sought to be re-let as a single premises under a new unitary lease; (ii) notwithstanding clause (i), Landlord shall not be deemed to have failed to mitigate as to any un-let portion of the Demised Premises if Landlord or its affiliates re-let the Demised Premises in individual sites or in smaller groups of sites which Landlord may in its discretion deem
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appropriate; (iii) any failure to mitigate as described herein with respect to any period of time shall only reduce the Base Rent and additional rent to which Landlord is entitled hereunder by the actual sums collected for the same components of fixed rent and additional rent from other tenants during such period; any amounts collected as a result of any re-letting shall be applied first to the payment of any costs and expenses of such re-letting, including brokerage fees, attorneys’ fees, and the costs of any alterations and repairs necessary to re-let the Demised Premises; and (iv) in no event shall Tenant be entitled to any excess rental received by Landlord over and above charges damages otherwise chargeable to Tenant. Without limiting the foregoing, recognizing that the future value of Facility Properties comprising the Demised Premises depends in part on the terms of new leases therefor, including the rental rates stated therein, Landlord’s rejection of a prospective replacement tenant for the Demised Premises or any part thereof based on an offer of rentals below the greater of the fair market value rent or the rates provided in this Lease, or otherwise containing substantive terms less favorable than those contained herein, shall not give rise to a claim by Tenant that Landlord failed to mitigate Landlord’s damages.
21.3 In the event that Landlord shall elect to so relet, rentals received by Landlord from such reletting shall be applied: first, to the payment of any indebtedness other than rent due hereunder from Tenant to Landlord; second, to the payment of any cost of such reletting; third, to the payment of the cost of any alterations and repairs to the Leased Property; fourth, to the payment of rent due and unpaid hereunder; and the remainder, if any, shall be held by Landlord and applied in payment of future rent as the same may become due and payable hereunder. Should that portion of such rentals received from such reletting during any month, which is applied to the payment of rent hereunder, be less than the rent payable during that month by Tenant hereunder, then Tenant shall pay such deficiency to Landlord. Such deficiency shall be calculated and paid in full immediately upon demand. Tenant shall also pay to Landlord, as soon as ascertained, any costs and expenses incurred by Landlord in such reletting or in making such alterations and repairs not covered by the rentals received from such reletting. Notwithstanding any election by Landlord to re-take possession of the Leased Property pursuant to this provision, Landlord may, at any time thereafter, upon written notice to Tenant, terminate this Lease in all respects and exercise other remedies available at law or in equity or herein relating to such termination as a result of a Tenant default.
21.4 Enter upon the Demised Premises and take such actions as may be required of Tenant to cure the complained of default; and Tenant covenants and agrees to reimburse Landlord on demand for any expenses, direct or indirect, which Landlord may incur in thus effecting compliance with Tenant’s obligations under this Lease.
21.5 Pursue change of ownership applications and proceedings with regulatory authorities regulating the licenses and any Medicare or Medicaid Contracts for the applicable Facility and its Permitted Use.
21.6 Before or after repossession of the Leased Property pursuant to Section 21.2, and whether or not this Lease has been terminated, Landlord shall have the right (but shall be under no obligation) to relet any portion of the Leased Property to such tenant or tenants, for such term
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or terms (which may be greater or less than the remaining balance of the Term), for such rent, or such conditions (which may include concessions or free rent) and for such uses, as Landlord, in its absolute discretion, may determine, and Landlord may collect and receive any rents payable by reason of such reletting. Tenant agrees to pay Landlord, immediately upon demand, all expenses incurred by Landlord in obtaining possession and in reletting any of the Leased Property, including fees, commissions, tenant improvements, alterations, repairs, and costs of attorneys, architects, agents and brokers.
21.7 Landlord may pursue all of its legal and equitable remedies, including specific performance.
21.8 No re-entry or taking possession of the Leased Property by Landlord pursuant to Section 21.2 or otherwise shall be construed as an election to terminate this Lease unless a written notice of such intention be given to Tenant or unless the termination thereof be decreed by a court of competent jurisdiction. Notwithstanding any reletting without termination by Landlord because of any default of Tenant, Landlord may at any time after such reletting elect to terminate this Lease for any such default.
ARTICLE 22 CUMULATIVE REMEDIES OF LANDLORD
22.1 The specific remedies to which Landlord may resort under the terms of this Lease are cumulative and are not intended to be exclusive of any other remedies or means of redress to which Landlord may be lawfully entitled in case of any breach or threatened breach by Tenant of any provision or provisions of this Lease. The failure of Landlord to insist, in any one or more cases, upon the strict performance of any of the terms, covenants, conditions, provisions or agreements of this Lease, or to exercise any option herein contained, shall not be construed as a waiver or relinquishment for the future of any such term, covenant, condition, provisions, agreement or option.
ARTICLE 23 SECURITY FOR RENT
23.1 Landlord shall have a first lien paramount to all others on every right and interest of Tenant in and to this Lease, and, except for any lien in favor of a Mortgagee, on Tenant’s furnishings, equipment, fixtures, accounts receivable, books and records. Tenant hereby consents to Landlord filing such financing statements and other documents reasonably required to perfect such security interest. Such lien is granted for the purpose of securing the payments of Base Rent, charges, penalties, and damages herein covenanted to be paid by Tenant, and for the purpose of securing the performance of all of Tenant’s obligations under this Lease. Such lien shall be in addition to all rights to Landlord given and provided by law. This Lease shall constitute a security agreement under the Uniform Commercial Code granting Landlord a security interest in any furnishings, equipment, fixtures, accounts receivable, and books and
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records, and Tenant shall execute such other instruments and financing statements as Landlord may request to evidence or perfect said security interest.
23.2 Notwithstanding the foregoing provisions of Section 23.1 of this Lease to the contrary, Landlord hereby agrees that it will subordinate its security interest in Tenant’s accounts receivable to any secured lender of Tenant that is providing working capital to Tenant in connection with Tenant’s operation of the Demised Premises (“Tenant’s Accounts Receivable Financing”), provided that Landlord’s consent and subordination to Tenant’s Accounts Receivable Financing shall be subject to the following conditions precedent: (a) Tenant’s Accounts Receivable Financing shall be from a bona fide third party lender; and (b) Tenant’s Accounts Receivable lender shall execute and deliver to Landlord an intercreditor and subordination agreement in form and substance reasonably satisfactory to Landlord.
23.3 Tenant shall deposit with Landlord an amount equal to two (2) months of Base Rent (as increased in accordance with this Section, the “Security Deposit”) as security for the faithful performance and observance by Tenant of the terms, provisions and conditions of this Lease. Such Security Deposit may be made by Tenant in 48 equal installments during the initial Lease Year, with each such installment to be paid simultaneously with each of the four installments of Base Rent to be paid during each calendar month of the initial Lease Year. On the first day of the second (2nd) Lease Year, and on the first day of each Lease Year thereafter, Tenant shall deposit with Landlord the additional amount necessary to increase the Security Deposit to an amount equal to two (2) monthly payments of Base Rent for the upcoming Lease Year and any such deposit shall become part of the Security Deposit. It is agreed that upon the occurrence of an Event of Default, Landlord may use, apply or retain the whole or any part of the Security Deposit to the extent required for the payment of any Base Rent or any other sum as to which Tenant is in default or for any sums which Landlord may expend or may be required to expend by reason of Tenant’s default in respect of any of the terms, covenants and conditions of this Lease, including but not limited to, any damage or deficiency in the reletting of the Demised Premises, whether such damage or deficiency accrued before or after summary proceedings or other re-entry by Landlord. In the event Landlord uses or applies the whole or any part of the Security Deposit, Tenant shall replenish the Security Deposit to its original sum (as increased in accordance with this Section) within ten (10) days after written notice from Landlord to Tenant of the sum due. Tenant shall be in default under this Lease if the amount due is not paid within the required time period. Provided that no Event of Default exists at the expiration of this Lease, and Tenant has paid all sums to Landlord which Tenant is required to pay prior to the expiration of this Lease and there is not otherwise any term, covenant or condition which is required to be performed by Tenant as of the expiration of this Lease (including, without limitation, any alteration or repair required pursuant to Section 11.2(c)), then any portion of the Security Deposit then remaining on deposit with Landlord shall be returned to Tenant after delivery of exclusive possession of the Demised Premises to Landlord. In the event of the sale of the Demised Premises and the purchaser’s assumption of Landlord’s obligations hereunder, Landlord shall have the right to transfer the Security Deposit to the purchaser, Landlord shall thereupon be deemed to be released by Tenant from all liability for the return of such Security Deposit, and Tenant agrees to look solely to the new landlord for the return of said Security Deposit. It is agreed that the provisions hereof shall apply to every transfer or assignment made of the Security
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Deposit to a new landlord. Tenant further covenants that it will not assign or encumber the monies deposited herein as security and that neither Landlord nor its successors or assigns shall be bound by any such assignment, encumbrance, attempted assignment or attempted encumbrance.
23.4 Tenant hereby assigns and transfers to Landlord all right, title and interest, whether now existing or hereafter arising, in and to any and all security interests granted to Tenant pursuant to any QIPP Agreement (the “Assigned Collateral”). Additionally, in connection with any QIPP Transaction hereafter entered into by Tenant, Tenant shall use commercially reasonable efforts to cause each QIPP Subtenant to grant to Tenant a security interest and lien on every right and interest of such QIPP Subtenant in and to its sublease of such Facility, and in and to its personal property and intangible property, to secure its obligations under its sublease. Tenant shall assign to Landlord any such security interest granted by each QIPP Subtenant to secure Tenant’s obligations under this Master Lease.
ARTICLE 24 INDEMNIFICATION
24.1 Tenant shall defend, protect, indemnify and save harmless Landlord, its Affiliates, and their respective partners, members, managers, officers, stockholders, trustees, directors and employees (collectively, “Indemnified Parties”), from and against and shall reimburse such parties for:
(a) any and all liabilities, obligations, losses, penalties, costs, charges, judgments, claims, causes of actions, suits, damages and expenses (collectively, “Claims”) that
(i) arise from or under this Lease or Tenant’s use, occupancy and operations of, in or about the Premises during the Term, or
(ii) arise from the ownership, operation, maintenance, management, use, regulation, development, expansion or construction of the Facilities and/or provision of health services from or at the Facilities during the Term of this Lease, including without limitation, Claims of Health Care Regulatory Agencies and Third Party Payors, Recoupment Claims, Claim by or through patients, residents, customers of such Facilities or services, and Professional Liability and General Liability (“PLGL”) Claims, in each case which are attributable to occurrences during the Term that the Facilities are leased by Tenant (or any period prior to the Term during which the Facilities, or any portion thereof, are managed by the Tenant or any Subtenant), provided, however, that with respect to PLGL Claims, such indemnification shall not extend to unaffiliated third party beneficiaries, or
(iii) that may be imposed upon or incurred or paid by or asserted against the Indemnified Parties by reason of or in connection with (A) any accident, injury, death or damage to any person or property occurring in; on or about the Premises or any portion thereof or any adjacent street, alley, sidewalk, curb, or passageway; (B) any changes, Alterations, repairs and anything done in, on or about the Premises or any part thereof in connection with such changes, Alterations and repairs; (C) the use, non- use, occupation, condition, operation,
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maintenance or management of the Premises or any part thereof, or any adjacent street, alley, sidewalk, curb, or passageway; (D) any negligent act on the part of Tenant or any of its agents, contractors, servants, employees, space tenants, licensees, assignees, or subtenants; (E) the performance of any labor or services or the furnishing of any materials or other property in respect of the Premises or any part thereof, (F) any violation by Tenant (or by any agent, contractor, or licensee then upon or using the Premises) of any provision of this Lease (beyond the expiration of all applicable notice and cure periods) or any breach of any law, regulation, or ordinance by Tenant or its agents, concessionaires, contractors, servants, vendors, materialmen or suppliers; or (G) the condition of the Premises, or of any Buildings or other structures now or hereafter situated thereon, or the fixtures or personal property thereon or therein, to the extent such events described in the foregoing clauses (A) through (G) occur during the Term (excluding from this clause (G) any environmental or other condition of the Premises existing on the Commencement Date); and
(b) all costs, expenses and liabilities incurred, including actual, customary and reasonable attorney’s fees and disbursements through and including appellate proceedings, in or in connection with any of such Claims.
24.2 If any action or proceeding shall be brought against any of the Indemnified Parties by reason of any such Claims, Tenant, upon notice from any of the Indemnified Parties, shall resist and defend such action or proceeding, at its sole cost and expense by counsel to be selected by Tenant but otherwise satisfactory to such Indemnified Party in its reasonable discretion. Tenant or its counsel shall keep each Indemnified Party fully apprised at all times of the status of such defense. If Tenant shall fail to defend such action or proceeding, such an Indemnified Party may retain its own attorneys to defend or assist in defending any such claim, action or proceeding and Tenant shall pay the actual, customary and reasonable fees and disbursements of such attorneys. The terms and provisions of this Article 24 shall not in any way be affected by the absence of insurance covering such occurrence or claim or by the failure or refusal of any insurance company to perform any obligation on its part. The provisions of this Article 24 shall survive the expiration or earlier termination of this Lease. Neither Landlord nor Tenant shall enter into any settlement of a Claim which would impose a monetary liability on the other party, without the written consent of such other party. Any insurance proceeds actually received by an Indemnified Party shall be credited against the indemnification otherwise to be provided herein. An Indemnified Party shall give prompt written notice to Tenant of any Claim for which it seeks indemnification hereunder, but delay in providing such notice shall not relieve Tenant of its indemnification obligations, except to the extent such delay materially prejudiced Tenant’s ability to defend such Claim. Notwithstanding the foregoing, neither Tenant nor any of its Affiliates shall assume any obligation for PLGL Claims that result from occurrences prior to the Commencement Date (except for such claims which arise during Tenant’s or any Subtenant’s management in a Facility or portion thereof managed by Tenant or any Subtenant).
ARTICLE 25 SUBORDINATION PROVISIONS
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25.1 This Lease (and Tenant’s interest in the Leased Property) shall be subject and subordinate to any and all mortgages or deeds of trust now or hereafter in force and affecting the Demised Premises (or any portion thereof) and/or Landlord’s Personal Property, and to all renewals, modifications, consolidations, replacements and extensions thereof (any such mortgage or deed of trust, as it may be renewed, modified, consolidated, replaced and extended is hereinafter referred to as “a Mortgage” or “any such Mortgage”, and the holder or beneficiary of a Mortgage is hereinafter referred to as a “Mortgagee”). Tenant agrees to execute and deliver upon demand such further instruments subordinating this Lease to any such Mortgage, or other liens or encumbrances as shall be desired by Landlord; provided, that Landlord shall deliver to Tenant a subordination, nondisturbance and attornment executed by any such Mortgagee, in form reasonably satisfactory to Tenant and such Mortgagee. Tenant agrees further that any Mortgagee shall have the right to subordinate its Mortgage and its rights thereunder to this Lease, except that such Mortgagee shall be entitled to expressly exclude from such subordination the Mortgagee’s rights, if any, to insurance proceeds and eminent domain awards in the event of a loss or casualty or eminent domain taking of the Leased Property, or any portion thereof. If such Mortgagee executes and records an instrument that purports to effect a partial or complete subordination of its Mortgage to this Lease, this Lease shall not be terminated by a foreclosure of such Mortgage, but any rights of such Mortgagee to insurance proceeds or eminent domain awards that are expressly excluded from such subordination shall remain superior to the rights of Tenant.
25.2 During the existence of any material uncured default on the part of Tenant under this Lease, all fees, payments or other obligations of Tenant to any of the Guarantors or to any of the members of a Guarantor shall be subordinate to the prior payment in full of all obligations owing to Landlord under this Lease.
25.3 Tenant also acknowledges and agrees that all rights and payments due under any management, consulting or similar agreement or agreements relative to the operation of a Facility by or on behalf of Tenant are to be and are hereby made subordinate to Tenant’s full payment and performance of all obligations under this Master Lease to Landlord. As a result, if an Event of Default occurs and during the continuance of an Event of Default or if an event or circumstance occurs, which with notice or the passage of time or both would become and Event of Default, then any and all payments otherwise due and owing to the manager or other party to such agreement(s) by Tenant shall cease and remain suspended until the Event of Default is cured or, if applicable, such other event or circumstance which might become an Event of Default no longer exists. Upon resumption of payments, any applicable arrearage may be repaid in accordance with a payment schedule as agreed between Tenant and such manager with Landlord’s approval which shall not be unreasonably withheld.
ARTICLE 26 TENANT’S FAITHFUL COMPLIANCE WITH MORTGAGE
26.1 Anything in this Lease contained to the contrary notwithstanding, Tenant shall at all times and in all respects fully, timely and faithfully comply with and observe each and all of the conditions, covenants, and provisions required on the part of Landlord under any Mortgage to
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which this Lease is subordinate or to which it later may become subordinate, a copy of which has been provided to Tenant, including, without limitation, such conditions, covenants and provisions of such Mortgage that relate to the care, maintenance, repair, insurance, restoration, preservation and condemnation of the Demised Premises, provided that such conditions, covenants and provisions do not require compliance and observance to a standard or degree materially in excess of that required by the provisions of this Lease, and Tenant shall not do or permit to be done anything that would constitute a breach of or default under any obligation of Landlord under any Mortgage. However, nothing in this Article contained shall be construed to obligate Tenant, except as may otherwise be provided in this Lease, to pay any Base Rent due or part of the principal or interest secured by any Mortgage. Tenant further covenants and agrees as follows: (a) if requested by Landlord in writing, Tenant shall give any Mortgagee notice of any Landlord default that occurs under this Lease, (b) Tenant shall not terminate this Lease as a result of Landlord’s default, without giving such Mortgagee written notice of Landlord’s default under this Lease at the same time that Landlord is given notice of such default, and (c) if Landlord fails to cure such default within the applicable grace period, if any, contained in this Lease, such Mortgagee shall have thirty (30) days after notice thereof to cure any such default.
ARTICLE 27 HUD FINANCINGS
27.1 Tenant acknowledges that Landlord may enter into one or more Mortgage loans insured through HUD under the provisions of Section 232 of the National Housing Act, and the regulations thereunder (each, a “HUD Loan”). Tenant shall execute and deliver any agreement, document or instrument, or take any action, that is reasonably required to effectuate or confirm any of the transactions or amendments in connection with any HUD Loan. Landlord agrees to reimburse Tenant for its reasonable and documented attorneys’ fees and expenses incurred in connection with the review and execution of the aforementioned documents and instruments.
ARTICLE 28 TENANT’S ATTORNMENT
28.1 Tenant covenants and agrees that, if by reason of a default upon the part of Landlord herein in the performance of any of the terms and conditions of any Mortgage, and the estate of Landlord thereunder is terminated by summary dispossession proceedings or otherwise, Tenant will attorn to the then Mortgagee or the purchaser in such foreclosure proceedings, as the case may be, and will recognize such Mortgagee or such purchaser as the lessor under this Lease. Tenant covenants and agrees to execute and deliver, at any time and from time to time, upon the request of Landlord or of any Mortgagee or the purchaser in foreclosure proceedings, any instrument that may be necessary or appropriate to evidence such attornment. Tenant further waives the provisions of any statute or rule of law now or hereafter in effect that may terminate this Lease or give or purport to give Tenant any right of election to terminate this Lease or to surrender possession of the Demised Premises in the event any such proceedings are brought against Landlord under such Mortgage or by any Mortgagee, and agrees that this Lease shall not be affected in any way whatsoever by any such proceedings.
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ARTICLE 29 REPRESENTATIONS AND WARRANTIES
29.1 Tenant represents, warrants and covenants to Landlord as follows:
(a) Tenant is a Texas limited liability company duly organized and validly existing and in good standing in the State of Texas.
(b) Tenant has the full right and power to enter into and perform Tenant’s obligations under this Lease, and has taken all requisite company action to authorize the execution, delivery and performance of this Lease.
29.2 Landlord represents, warrants and covenants to Tenant as follows:
(a) Landlord is a Delaware limited liability company duly organized and validly existing and in good standing in the State of Delaware.
(b) Landlord has the full right and power to enter into and perform Landlord’s obligations under this Lease, and has taken all requisite company action to authorize the execution, delivery and performance of this Lease.
ARTICLE 30 STATEMENTS AND REPORTS
30.1 Within one hundred twenty (120) days after the end of each calendar year, Tenant shall cause Guarantor to furnish to Landlord a full and complete audited combined financial statement of the Guarantor Group for such year, which financial statement (i) shall contain a balance sheet and detailed income and expense statement, as well as supplemental combining schedules, (ii) shall be duly certified by an officer of Guarantor as fairly representing the combined financial condition and results of operations of the Guarantor Group as of and for the year then ended, in accordance with GAAP, and (iii) shall be accompanied by a statement of a nationally recognized accounting firm acceptable to Landlord in its sole discretion that such financial statement presents fairly, in all material respects, the combined financial condition, results of operations, and cash flows of the Guarantor Group as of and for the year then ended and was prepared in conformity with GAAP (collectively called “Financial Statements”). In addition, within one hundred twenty (120) days after the expiration or earlier termination of the Term, Tenant shall deliver to Landlord the Financial Statements of each Tenant covering the period of time from the last day of the immediately preceding fiscal year to the date on which the Term expires or terminates, and any such obligation shall survive the expiration or earlier termination of this Lease.
30.2 Within thirty (30) days after each calendar month during the Term, Tenant shall furnish to Landlord an unaudited Financial Statement and a detailed statistical report for each of the Facilities for the preceding calendar month and year to date in sufficient detail to show average daily payor mix and patient acuity for such month, as well as such other information as may from time to time be reasonably requested by Landlord.
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30.3 Upon Landlord’s written request, but not more than one time per calendar quarter, Tenant shall furnish to Landlord an aged accounts receivable report of each of the Facilities in sufficient detail to show amounts due in the account age classification of 30 days, 60 days, 90 days, 120 days and over 120 days, within ten (10) days of such request.
30.4 Upon Landlord’s written request, Tenant shall furnish to Landlord all Medicare and Medicaid cost reports and any amendments thereto filed or received with respect to the Facilities and all responses, audit reports, rate letters, correspondence or inquiries with respect to such cost reports, within ten (10) days of such request.
30.5 Within twenty (20) days after the close of each calendar quarter during the Term, Tenant shall deliver to Landlord a certificate, signed by a responsible officer of the Tenant, certifying, as of the close of such quarterly period, compliance on the part of the Tenant with each of the covenants set forth in Section 32.1 of this Lease, and providing in reasonable detail the calculation of such compliance.
At all times, Tenant shall keep and maintain full and correct records and books of account of the operations of Tenant at the Demised Premises and records and books of account of the entire business operations of Tenant in accordance with sound accounting practices. Upon request by Landlord, Tenant shall make available for inspection by Landlord or its designee not more than once per Lease Year (except that such limitation shall not apply after the occurrence of an Event of Default), during reasonable business hours, said records and books of account covering the entire business operations of Tenant at the Demised Premises. In the event Landlord determines in its reasonable opinion that the Financial Statements may contain a material discrepancy, error or misrepresentation, Landlord shall have the right from time to time to cause a certified public accountant to audit any Financial Statements and said records and books of account. To the extent that such audit confirms a material discrepancy, error or misrepresentation, such audit shall be at Tenant’s expense. A “material” discrepancy, error or misrepresentation means any discrepancy, error or misrepresentation which results in a misstatement of Tenant’s results from operations reflected in the Financial Statements being equal to or greater than 5%.
ARTICLE 31 [RESERVED]
ARTICLE 32 ADDITIONAL COVENANTS
32.1 Tenant covenants and agrees that, as of each Test Date,
(a) Tenant’s Rent Coverage Ratio for the twelve (12) month period then ended shall be not less than 1.2 to 1.0;
(b) Tenant’s Fixed Charge Coverage Ratio for the twelve (12) month period then ended shall be not less than 1.0 to 1.0;
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32.2 Tenant covenants and agrees that it shall not make any distributions or other payments to any of its members, in cash or property (a “Distribution”), at any time during the Term of this Lease, unless immediately prior to and after giving effect to such distribution or payment, both of the following conditions are satisfied:
(a) all payments required under this Lease to have been paid by Tenant shall have been paid and there shall not have occurred an Event of Default or any event that, with the giving of notice or the passage of time, would constitute and Event of Default under this Lease; and
(b) EBITDAR for the then most recently completed 12-calendar month period, minus the sum of (i) the amount of the proposed Distribution, and (ii) all other Distributions made by Tenant during such 12-calendar month period, shall be not less than the aggregate Base Rent for such 12-calendar month period.
32.3 Except as provided in Section 23 of this Lease, and except for dispositions of inventory and replacements of personal property in accordance with this Lease, each Tenant shall maintain sole ownership of its assets, free and clear of all liens and encumbrances.
32.4 Tenant shall not voluntarily transfer a resident of any of the Facilities to any other nursing facility operated by a member of the Guarantor Group, unless such transfer is at the request of such resident or due to medical necessity.
ARTICLE 33 MISCELLANEOUS
33.1 Tenant, upon paying the Base Rent and all other charges herein provided, and for observing and keeping the covenants, agreements, terms and conditions of this Lease on its part to be performed, shall lawfully and quietly hold, occupy and enjoy the Demised Premises during the Term, and subject to its terms, without hindrance by Landlord or by any other person or persons claiming under Landlord.
33.2 It is understood and agreed that the granting of any consent by Landlord to Tenant to perform any act of Tenant requiring Landlord’s consent under the terms of this Lease, or the failure on the part of Landlord to object to any such action taken by Tenant without Landlord’s consent, shall not be deemed a waiver by Landlord of its rights to require such consent for any further similar act by Tenant, and Tenant hereby expressly covenants and warrants that as to all matters requiring Landlord’s consent under the terms of this Lease, Tenant shall secure such consent for each and every happening of the event requiring such consent, and shall not claim any waiver on the part of Landlord of the requirement to secure such consent.
33.3 Tenant represents to Landlord that it did not deal with any broker in connection with this Lease, and hereby indemnifies Landlord against the claims or demands of any broker claimed through a relationship with Tenant. Landlord hereby represents to Tenant that it did not deal with any broker in connection with this Lease, and hereby indemnifies Tenant against the claims or demands of any broker claimed through a relationship with Landlord.
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33.4 If an action shall be brought by Landlord to recover any rental under this Lease, or for or on account of any breach of or to enforce or interpret any of the terms, covenants or conditions of this Lease, or for the recovery of possession of the Demised Premises, or otherwise, the prevailing party shall be entitled to recover from the other, as part of its costs, reasonable attorney’s fees.
33.5 Should Tenant hold possession hereunder after the expiration of the Term without the consent of Landlord, Tenant shall become a tenant on a month-to-month basis upon all the terms, covenants and conditions herein specified, excepting however that Tenant shall pay Landlord a monthly rental, for the period of such month-to-month tenancy, in an amount equal to 125% of the last Base Rent specified. Notwithstanding the foregoing or anything contained in ARTICLE 33 or elsewhere in this Lease, if Tenant is unable to surrender the Demised Premises because Landlord fails to provide a Proper Successor (as defined below) for the Facilities at the end of the Lease Term to take over the operation and management of the Facility, Tenant shall have the right, but shall not be obligated to, remain in possession of the Demised Premises and continue to operate and manage the same if Tenant would be legally prohibited from abandoning the Demised Premises or in Tenant’s judgment, based on reasonable commercial standards in the nursing facility industry, abandoning the Demised Premises without a Proper Successor in place to continue the operations of the Facilities would jeopardize its (or its affiliates’ or subsidiaries’) reputation as a provider of nursing facility care or could otherwise subject it (or its affiliates or subsidiaries) to liability for negligence or mistreatment of residents at the Demised Premises. In the event Tenant remains in possession of the Demised Premises pursuant to the immediately preceding sentence, Tenant shall, during such occupancy, pay to Landlord rent at a rate equal to the annual Base Rent payable by Tenant in the last year of the Lease Term, and Tenant shall surrender possession of the Demised Premises within ten (10) business days after Landlord provides a Proper Successor for the Facilities. As used herein, “Proper Successor” means a qualified and duly licensed operator of the Facilities, or one as to which the applicable state licensing authority has indicated its willingness to issue a License upon transfer of possession of the Facilities.
33.6 Except as otherwise specifically permitted herein, all notices, or demands required to be given by either party to the other shall be in writing and shall be sent by (a) personal delivery, (b) expedited delivery service with proof of delivery, (c) United States registered/certified mail, return receipt requested, (d) nationwide courier guaranteeing overnight delivery, such as Federal Express or United Parcel Service, or (e) prepaid telecopy, telegram, telex or fax, addressed to the other party hereto at the address set forth below:
If to Landlord: c/o MedEquities Realty Trust, Inc. 3100 West End Avenue, Suite 1000 Nashville, TN 37203 Attention: John McRoberts, CEO Telephone: (615) 627-4715 Facsimile No.: None E-mail: [email protected]
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with copy to: Michael S. Blass, Esq. Arent Fox LLP 1301 Avenue of the Americas, 42nd Floor New York, NY 10019 Telephone: (212) 484-3902 Facsimile No.: (212) 484-3990 E-mail: [email protected]
If to Tenant: MRT I Enterprises, LLC 4150 International Plaza, Suite 600 Fort Worth, Texas 76109 Attn: Gary Blake
With a copy to: Rawls Law Office, P.C. c/o Caleb Rawls 3010 LBJ Freeway, Suite 1200 Dallas, Texas 75234 [email protected] or if written notification of a change of address has been sent, to such other party and/or to such other address as may be designated in that written notification. Any such notice or demand shall be deemed to have been given either at the time of personal delivery or in the case of service by mail, as of the date of first attempted delivery at the address and in the manner provided herein, or in the case of telecopy, telegram or telex, upon receipt. Notwithstanding the foregoing, notice sent by telecopy shall be deemed given and effective when sent if and only if a PDF copy of any such notice is also e-mailed immediately to the intended recipients at the e-mail addresses noted above or to such other e-mail addresses as may be designated in a written notification of a change of address.
33.7 Upon demand by either party, Landlord and Tenant agree to execute and deliver a short form lease in recordable form so that the same may be recorded by either party.
33.8 Each party agrees at any time and from time to time, upon not less than ten (10) days prior written request from the other party, to execute, acknowledge and deliver to the other party a statement in writing, certifying that this Lease is unmodified and in full force and effect (or if there have been modifications, that the same is in full force and effect as modified, and stating the modifications), the dates to which the Base Rent has been paid, the amount of the Base Rent and security deposit held by Landlord, and whether this Lease is then in default or whether any events have occurred that, with the giving of notice or the passage of time, or both, could constitute a default hereunder and any and all other information reasonably required by Landlord or its Mortgagee; it being intended that any such statement delivered pursuant to this paragraph may be relied upon by any prospective assignee, Mortgagee or purchaser of the fee interest in the Demised Premises or of this Lease.
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33.9 All of the provisions of this Lease shall be deemed and construed to be “conditions” and “covenants” as though the words specifically expressing or importing covenants and conditions were used in each separate provision hereof.
33.10 Any reference herein to the termination of this Lease shall be deemed to include any termination hereof by expiration or pursuant to the provisions hereof referring to early termination.
33.11 The headings and titles in this Lease are inserted only as a matter of convenience and for reference and in no way define, limit or describe the scope or intent of this Lease, nor in any way affect this Lease.
33.12 This Lease contains the entire agreement between the parties and any executory agreement hereafter made shall be ineffective to change, modify or discharge it in whole or in part unless such executory agreement is in writing and signed by the party against whom enforcement of the change, modification or discharge is sought. This Lease cannot be changed orally or terminated orally.
33.13 Except as otherwise herein expressly provided, the covenants, conditions and agreements in this lease shall bind and inure to the benefit of Landlord and Tenant and their respective successors and assigns.
33.14 All nouns and pronouns and any variations thereof shall be deemed to refer to the masculine, feminine, neuter, singular or plural as the identity of the person or persons, firm or firms, corporation or corporations, entity or entities or any other thing or things may require.
33.15 If any term or provision of this Lease shall be held invalid or unenforceable to any extent, the remaining terms and provisions of this Lease shall not be affected thereby, and each term and provision shall be valid and enforceable to the fullest extent permitted by law.
33.16 This Lease may be executed in counterparts, each of which shall be deemed to be an original, and all of which taken together shall constitute one and the same instrument. Counterparts may be executed in either original or electronically transmitted form (e.g., faxed or emailed portable document format (PDF) form), and the parties hereby adopt as original any signatures received via electronically transmitted form.
ARTICLE 34 TRANSFER OF OPERATIONS UPON TERMINATION OF LEASE
34.1 The date on which (i) this Lease either terminates or expires pursuant to its terms or is terminated by either party whether pursuant to a right granted to it hereunder or otherwise, (ii) the date on which Tenant’s right to possession of the Demised Premises is terminated pursuant to a right granted to it hereunder or otherwise, or (iii) the date on which Tenant otherwise abandons the Demised Premises shall be referred to as the “Transition Closing Date” in this Article. On the Transition Closing Date, this Lease shall be deemed and construed as an absolute assignment for purposes of vesting in Landlord (or Landlord’s designee – for purposes
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of this ARTICLE 34 the term Landlord shall be deemed to mean Landlord’s designee, if applicable)) all of Tenant’s right, title and interest in and to the following intangible property that is now or hereafter used in connection with the operation of the Demised Premises (the “Intangibles”) and an assumption by Landlord of Tenant’s obligations under the Intangibles from and after the Transition Closing Date; provided that, from and after the Transition Closing Date, Tenant shall indemnify, defend and hold harmless Landlord and the other Indemnified Parties from and against any claims, losses, costs or damages, including reasonable attorneys’ fees incurred or arising by reason of Tenant’s obligations under the Intangibles prior to the Transition Closing Date:
(a) service contracts and equipment leases for the benefit of the Demised Premises to which Tenant is a party, and that can be terminated without penalty by Tenant within sixty (60) or fewer days’ notice or that Landlord requests be assigned to Landlord pursuant to this ARTICLE 34;
(b) any provider agreements with Medicare, Medicaid or any other third-party payor programs (excluding the right to any reimbursement for periods prior to the Transition Closing Date, as defined above) entered in connection with the Demised Premises to the extent assignable by Tenant;
(c) all existing agreements with residents of the Facilities and any guarantors thereof, to the extent assignable by Tenant (excluding the right to any payments for periods prior to the Transition Closing Date) and any and all patient trust fund accounts; and
(d) at Landlord’s option, the business of Tenant as conducted at the Demised Premises as a going concern, including but not limited to the name of the business conducted thereon and all telephone numbers presently in use therein.
34.2 Landlord shall be responsible for and shall pay all expenses with respect to the Demised Premises accruing on or after 12:01 a.m. on the day of the Transition Closing Date and shall be entitled to receive and retain all revenues from the Demised Premises accruing on or after the Transition Closing Date. Within fifteen (15) business days after the Transition Closing Date, the following adjustments and prorations shall be determined as of the Transition Closing Date:
(a) Taxes and Assessments, if any. If the information as to the actual amount of any of the foregoing taxes and assessments are not available for the tax year in which the Transition Closing Date occurs, the proration of such taxes shall be estimated based upon reasonable information available to the parties, including information disclosed by the local tax office or other public information, and an adjustment shall be made when actual figures are published or otherwise become available.
(b) Tenant will terminate the employment of all employees on the Transition Closing Date and shall be and remain liable for any and all wages, accrued vacation and sick leave pay for employees of the Demised Premises with respect to the period prior to and including the Transition Closing Date.
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(c) Landlord shall receive a credit equal to any advance payments by patients of the Facilities to the extent attributable to periods on and after the Transition Closing Date.
(d) The present insurance coverage on the Demised Premises shall be terminated as of the Transition Closing Date and there shall be no proration of insurance premiums.
(e) All other income from, and expenses of, the Demised Premises (other than mortgage interest and principal), including but not limited to public utility charges and deposits, maintenance charges and service charges shall be prorated between Tenant and Landlord as of the Transition Closing Date. Tenant shall, if possible, obtain final utility meter readings as of the Transition Closing Date. To the extent that information for any such proration is not available, Tenant and Landlord shall effect such proration within ninety (90) days after the Transition Closing Date.
(f) Tenant shall be and remain responsible for any employee severance pay and accrued benefits that may be payable as the result of any termination of an employee’s employment on or prior to the Transition Closing Date.
34.3 All necessary arrangements shall be made to provide possession of the Demised Premises to Landlord on the Transition Closing Date, at which time of possession Tenant shall deliver to Landlord all medical records, patient records and other personal information concerning all patients residing at the Facilities as of the Transition Closing Date and other relevant records used or developed in connection with the business conducted at the Demised Premises. Such transfer and delivery shall be in accordance with all applicable laws, rules and regulations concerning the transfer of medical records and other types of patient records.
34.4 For the period commencing on the Transition Closing Date and ending on the date Landlord, or its designee, obtains any and all appropriate state or other governmental licenses and certifications required to operate the Facilities, Tenant hereby agrees that Landlord, or Landlord’s designee, shall have the right, but not the obligation, to manage and operate the Demised Premises, on a triple net basis, and shall be entitled to all revenues of the Demised Premises during such period, and to use any and all licenses, certifications and provider agreements issued to Tenant by any federal, state or other governmental authority for such operation of the Demised Premises, if permitted by any such governmental authorities. If Landlord or its designee exercises the right described above in this Section 33.4, the provisions of this Section 34.4 shall be self-operative and shall constitute a management agreement between Tenant, on the one hand, and Landlord or its designee, on the other hand, on the terms set forth above in this Section 34.4 provided, however, that upon the request of Landlord or its designee, Tenant shall enter into a separate management agreement on the terms set forth in this Section 34.4 and on such other terms and provisions as may be specified by Landlord or its designee.
34.5 Tenant shall provide Landlord with an accounting within fifteen (15) days after the Transition Closing Date of all funds belonging to patients at the Facilities that are held by Tenant in a custodial capacity. Such accounting shall set forth the names of the patients for whom such funds are held, the amounts held on behalf of each such patient and Tenant’s
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warranty that the accounting is true, correct and complete. Additionally, Tenant, in accordance with all applicable rules and regulations, shall make all necessary arrangements to transfer such funds to a bank account designated by Landlord, and Landlord shall in writing acknowledge receipt of and expressly assume all Tenant’s financial and custodial obligations with respect thereto. Notwithstanding the foregoing, Tenant will indemnify, defend and hold Landlord and any other Indemnified Party harmless from and against all liabilities, claims and demands, including reasonable attorney’s fees, in the event the amount of funds, if any, transferred to Landlord’s bank account as provided above, did not represent the full amount of the funds then or thereafter shown to have been delivered to Tenant as custodian that remain undisbursed for the benefit of the patient for whom such funds were deposited, or with respect to any matters relating to patient funds that accrued during the Term.
34.6 All cash, checks and cash equivalent at the Demised Premises and deposits in bank accounts (other than patient trust accounts) relating to the Demised Premises on the Transition Closing Date shall remain Tenant’s property after the Transition Closing Date. Subject to the provisions of ARTICLE 23, all accounts receivable, loans receivable and other receivables of Tenant, whether derived from operation of the Demised Premises or otherwise, shall remain the property of Tenant after the Transition Closing Date. Tenant shall retain full responsibility for the collection thereof. Landlord shall assume responsibility for the billing and collection of payments on account of services rendered by it on and after the Transition Closing Date. In order to facilitate Tenant’s collection efforts, Tenant agrees to deliver to Landlord, within a reasonable time after the Transition Closing Date, a schedule identifying all of those private pay balances owing for the month prior to the Transition Closing Date and Landlord agrees to apply any payments received that are specifically designated as being applicable to services rendered prior to the Transition Closing Date to reduce the pre-Transition Closing Date balances of said patients by promptly remitting said payments to Tenant. All other payments received shall be retained by Landlord as being applicable to services rendered after the Transition Closing Date. Landlord shall cooperate with Tenant in Tenant’s collection of its preclosing accounts receivable. Landlord shall have no liability for uncollectible receivables and shall not be obligated to bear any expense as a result of such activities on behalf of Tenant. Subject to the provisions of ARTICLE 23, Landlord shall remit to Tenant or its assignee those portions of any payments received by Landlord that are specifically designated as repayment or reimbursement arising out of cost reports filed for the cost reporting periods ending on or prior to the Transition Closing Date.
34.7 With respect to residents at the Facilities on the Transition Closing Date, Landlord and Tenant agree as follows:
(a) With respect to Medicare and Medicaid residents, Landlord and Tenant agree that subject to the provisions of ARTICLE 23, payment for in-house residents covered by Medicare or Medicaid on the Transition Closing Date will be made (on a per diem basis) by Medicare or Medicaid under current regulations directly to Tenant for services rendered at the Demised Premises prior to the Transition Closing Date. Said payments shall be the sole responsibility of Tenant and Landlord shall in no way be liable therefor. After the Transition Closing Date, Landlord and Tenant shall each have the right to review supporting books, records
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and documentation that are in the possession of the other relating to Medicaid or Medicare payments.
(b) If, following the Transition Closing Date, Landlord receives payment from any state or federal agency or third-party provider that represents reimbursement with respect to services provided at the Demised Premises prior to the Transition Closing Date, Landlord agrees that, subject to the provisions of ARTICLE 23, it shall remit such payments to Tenant. Payments by Landlord to Tenant shall be accompanied by a copy of the appropriate remittance.
(c) If, following the Transition Closing Date, Tenant receives payment from any state or federal agency or third-party provider that represents reimbursement with respect to services provided at the Facilities on or after the Transition Closing Date, Tenant agrees that, it shall remit such payments to Landlord. Payments by Tenant to Landlord shall be accompanied by a copy of the appropriate remittance.
34.8 In addition to the obligations required to be performed hereunder by Tenant and Landlord on and after the Transition Closing Date, Tenant and Landlord agree to perform such other acts, and to execute, acknowledge, and/or deliver subsequent to the Transition Closing Date such other instruments, documents and materials, as the other may reasonably request in order to effectuate the consummation of the transaction contemplated herein, including but not limited to any documents or filings that may be required to be delivered by Tenant to Landlord or be filed in order for the transaction contemplated hereunder to be in compliance with all local, state and federal laws, statutes, rules and regulations.
34.9 Tenant for itself, its successors and assigns hereby indemnifies and agrees to defend and hold Landlord and the other Indemnified Parties and their respective successors and assigns harmless from and against any and all claims, demands, obligations, losses, liabilities, damages, recoveries and deficiencies (including interest, penalties and reasonable attorney’s fees, costs and expenses) that any of them may suffer as a result of the breach by Tenant in the performance of any of its commitments, covenants or obligations under this ARTICLE 34, or with respect to any suits, arbitration proceedings, administrative actions or investigations that relate to the use by Tenant of the Demised Premises during the Term or for any liability that may arise from operation of the Demised Premises as nursing homes during the Term, including without limitation, any amounts due or to be reimbursed to any governmental authority based upon any audit or review of Tenant or of any Facility or the operation thereof and pertaining to the period prior to the Transition Closing Date or any amounts recaptured under Titles XVIII or XIX based upon applicable Medicaid/Medicare recapture regulations. The rights of Landlord under this paragraph are without prejudice to any other remedies not inconsistent herewith that Landlord may have against Tenant pursuant to the terms of this Lease. The foregoing indemnity shall survive the expiration or termination of this Lease, whether due to lapse of time or otherwise.
34.10 So long as the termination of this Lease is not due to a default by Tenant hereunder and provided further that Tenant has performed in accordance with this ARTICLE 34, Landlord for itself, its successors and assigns hereby indemnifies and agrees to defend and hold
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Tenant and its successors and assigns harmless from any and all claims, demands, obligations, losses, liabilities, damages, recoveries and deficiencies (including interest, penalties and reasonable attorney’s fees, costs and expenses) that any of them may suffer as a result of the breach by Landlord in the performance of any of its commitments, covenants or obligations under this ARTICLE 34, or with respect to any suits, arbitration proceedings, administrative actions or investigations that relate to the use of the Demised Premises after the Term or for any liability that may arise from operation of the Demised Premises as a nursing home after the Term. The rights of Tenant under this paragraph are without prejudice to any other remedies not inconsistent herewith that Tenant may have against Landlord pursuant to the terms of this Lease or otherwise.
34.11 Landlord shall have the right, upon five (5) business days’ prior notice to Tenant (unless the facts and circumstance giving rise to the implementation of this ARTICLE 34 involve an Event of Default, in which case no prior notice shall be required), to offset against any monies due Tenant pursuant to the terms of this ARTICLE 34, any amounts due by Tenant to Landlord pursuant to this Lease, including without limitation any amounts due for taxes or insurance premiums.
34.12 Anything to the contrary contained in this ARTICLE 34 notwithstanding, in the event the termination of this Lease is due to a default by Tenant hereunder, none of the provisions of this ARTICLE 34 shall in any way limit, reduce, restrict or modify the rights granted to Landlord pursuant to ARTICLE 21, ARTICLE 22, and ARTICLE 23.
34.13 Landlord and Tenant agree to cooperate with each other in order to effectuate the terms and provisions of this ARTICLE 34.
ARTICLE 35 HAZARDOUS SUBSTANCES
35.1 Tenant shall not install, permit to be installed, generate, transport, store, treat or dispose of, at the Leased Property any asbestos or asbestos-containing substance or any hazardous substance (as hereinafter defined). Except with respect to any hazardous substance or condition that existed at or with respect to the Leased Property as of the Commencement Date, Tenant shall promptly either: (a) remove or remediate any such hazardous substance or condition; or (b) otherwise comply with such federal, state or local laws, rules, regulations or orders, in all such events at Tenant’s sole expense, and provide evidence thereof that is satisfactory to Landlord. If Tenant shall fail to so remove or otherwise comply, Landlord may, after notice to Tenant and the expiration of the earlier of (i) the applicable cure period hereunder or (ii) the cure period permitted under the applicable law, rule, regulation or order, either declare this Lease to be in default or do whatever is necessary to remove or remediate said hazardous substance(s) or condition(s) from the Leased Property or otherwise comply with the applicable law, rule, regulation or order, and Landlord’s costs and expenses in respect thereof shall be due and payable upon demand. Tenant shall give to Landlord and its agents and employees access to the Leased Property for purposes of removing or remediating said asbestos or other hazardous substance(s) or condition(s) and conducting appropriate tests for the purpose of ascertaining
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compliance with the terms hereof. Tenant shall promptly provide Landlord copies of all communications, permits or agreements with any governmental authority or agency (federal, state or local) or any private entity relating in any way to any hazardous substance or condition.
35.2 For purposes of this ARTICLE 34 “hazardous substance” means any material, chemical, compound or other substance defined or regulated as a hazardous toxic or dangerous substance, contaminant, chemical waste (including medical waste) waste, pollutant or material, or otherwise giving rise to liability, under the Resource Conservation and Recovery Act (“RCRA”), 42 U.S.C. Section 6901 et seq., the Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”), 52 U.S.C. Section 9601 et seq. or any other federal, state or local law, ordinance or regulation relating to the protection of public health or safety, the environment or natural resources, including without limitation any common law theory based on nuisance or strict liability now or at any time in effect applicable to the jurisdiction affecting the Demised Premises (collectively, the “environmental laws”).
35.3 Except as reasonably necessary for or consistent with the permitted use of the Leased Property, Tenant shall not conduct or authorize the generation, transportation, storage, treatment or disposal at the Leased Property of any hazardous substance, without prior written authorization by Landlord, and Tenant’s failure to comply with the foregoing prohibition shall constitute a default under this Lease.
35.4 Except with respect to any hazardous substance or condition that existed at or with respect to the Leased Property as of the Commencement Date, if the presence, release, threat of release or placement on or in the Leased Property, or the generation, transportation, storage, treatment or disposal at the Leased Property of any hazardous substance: (i) gives rise to liability (including, but not limited to, a response action, remedial action or removal action) under any of the environmental laws, (ii) poses a significant threat to public health or safety, or (iii) pollutes or threatens to pollute the environment, then Tenant shall promptly take any and all remedial and removal action necessary to eliminate such liability, threat to public health or safety or pollution, as the case may be, and take all actions to mitigate to the maximum extent possible, liability arising from the hazardous substance, whether or not required by law.
35.5 Tenant shall defend (with counsel reasonably satisfactory to Landlord), indemnify the Indemnified Parties and hold the Indemnified Parties harmless from and against all loss, cost, damage and expense (including, without limitation, attorneys’ fees and costs incurred in the investigation, defense and settlement of claims) that any Indemnified Party may incur as a result of or in connection with (a) the assertion against any Indemnified Party of any claim relating to the presence or removal of any asbestos or other hazardous substance at the Leased Property that did not exist at or with respect to the Leased Property as of the Commencement Date, or (b) failure of the Leased Property or any portion of the Leased Property to comply with any and all environmental laws (except with respect to conditions that existed at or with respect to the Leased Property as of the Commencement Date), or (c) the breach by Tenant of any of its covenants contained in this ARTICLE 35. The foregoing indemnity shall survive the expiration or termination of this Lease.
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ARTICLE 36 LIMITATION OF LANDLORD’S LIABILITY
36.1 In the event of any conveyance or other divestiture of title to the Leased Property the grantor or the person who is divested of title shall be entirely freed and relieved of all covenants and obligations thereafter accruing hereunder, and the grantee or the person who otherwise succeeds to title shall be deemed to have assumed the covenants and obligations of Landlord thereafter accruing hereunder and shall then be Landlord under this Lease. Notwithstanding anything to the contrary provided in this Lease, if Landlord or any successor in interest of Landlord shall be an individual, partnership, limited liability company, corporation, trust, tenant in common or mortgagee, there shall be absolutely no personal, corporate or entity liability on the part of Landlord or any individual or member of Landlord or any manager, stockholder, director, officer, employee, partner or trustee of Landlord with respect to the terms, covenants or conditions of this Lease, and Tenant shall look solely to the interest of Landlord in the Leased Property for the satisfaction of each and every remedy that Tenant may have for the breach of this Lease; such exculpation from personal, corporate or entity liability to be absolute and without any exception, whatsoever. Anything to the contrary notwithstanding, under no circumstances shall any personal liability attach to or be imposed upon Landlord or any partners, officers, directors, managers, members, agents or employees of Landlord with respect to the terms, covenants or conditions of this Lease.
[SIGNATURE PAGES FOLLOW]
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IN WITNESS WHEREOF, the parties hereto have caused this Amended and Restated Master Lease to be signed by persons authorized so to do on behalf of each of them respectively the day and year first above written.
LANDLORD:
MRT OF SAN ANTONIO TX – SNF I, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF SAN ANTONIO TX – SNF II, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF GRAHAM TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KEMP TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KERENS TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
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MRT OF BROWNWOOD TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF EL PASO TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KAUFMAN TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF LONGVIEW TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF MT. PLEASANT TX – SNF, LLC a Delaware limited liability company
By: /s/ Jeffery C. Walraven Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
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TENANT:
Brownwood IV Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
El Paso VI Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
Graham I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
Kaufman I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
Kemp I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
Kerens I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
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Longview III Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
San Antonio I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
San Antonio II Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
Mt. Pleasant V Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
The undersigned, a Tenant under the Original Lease, hereby agrees to the substitution of Mt. Pleasant V Enterprises, L.L.C., in place of the undersigned as a Tenant under this Amended and Restated Master Lease:
Mt. Pleasant I Enterprises, L.L.C. a Texas limited liability company
By: /s/ Gary Blake Gary Blake Manager
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EXHIBIT “A” FACILITIES
Facility Name Address Lic. Beds Medicare Beds Medicaid Dually Beds Certified Casa Rio Health Care and 6211 S New Braunfels Avenue, San 124 26 0 98 Rehabilitation Antonio TX, 78223 (Bexar County)
Graham Oaks Care Center 1325 First Street, Graham TX 76450 120 3 0 117 (Young County)
Greenhill Villas 2530 Greenhill Road, Mount Pleasant, TX 150 37 0 113 75455 (Titus County)
Kemp Care Center 1351 South Elm Street, Kemp, TX 75143 124 43 0 81 (Kaufman County)
Kerens Care Center 809 NE 4th Street, Kerens, TX 75144 70 0 0 67 (Navarro County)
River City Care Center 921 Nolan Street, San Antonio, TX 78202 100 8 0 92 (Bexar County)
Songbird Lodge 2500 Songbird Circle, Brownwood, TX 121 16 0 105 76801 (Brown County)
Sunflower Park Health Care 1803 Highway 243 East, Kaufman, TX 92 2 0 90 75142 (Kaufman County)
St. Teresa Nursing and 10350 Montana Avenue, El Paso, TX 124 34 0 90 Rehabilitation Center 79925 (El Paso County)
Whispering Pines Lodge 2131 Alpine Road, Longview, TX 75601 116 16 0 100 (Gregg County)
A-1
EXHIBIT “B” LEGAL DESCRIPTIONS OF LAND
(See attached)
B-1
Exhibit A
Legal Description Tract 1: All of that certain 4.00 acre tract, lot, or parcel of land being out of the Taylor Smith Survey No. 600, Abstract No. 821, being situated in the City of Brownwood, Brown County, Texas, 3.06895 miles, S 12°29'22.8" W, of the Court House of Brown County, Texas, and being 23.37513 miles, N 39 39°03'04.8"E, of the Geographical Center of the State of Texas, and being more particularly described by metes and bounds on Exhibit "A-1" attached hereto and made a part hereof. Tract 2:
Those certain non-exclusive easements for ingress to and from Tract 1 as described herein and a recognized public roadway, and being described in three parcels as follows: Parcel 1:
Along the Northwest 25 feet of what is depicted as "Alamo Street" on that certain plat prepared by George M. Amthor, Ill, R.P.L.S. dated August 23, 1991, which said plat is attached hereto as Exhibit "B" and made a part hereof beginning at the intersection of the centerline of the said "Alamo Street", and continuing Northeasterly to the intersection of said centerline with the Northwest line of an unnamed street adjoining the 4.0 acre tract hereby conveyed along its Northeast line; Parcel 2: A 50 foot wide roadway along the Northeast line of the 4.0 acre tract hereby conveyed, the centerline of which begins at the intersection of the centerline of an unnamed street and the centerline of "Alamo Street" as shown on the said George M. Amthor, Ill, plat, and running South 21 degrees, 24 minutes, 00 seconds East 398.95 feet to the end of this; and Parcel 3: A 50 foot wide roadway along the Southwest line of the 4.0 acre tract hereby conveyed, the centerline of which begins at the intersection of the centerline of another unnamed street and the center line of the said "Alamo Street" as shown on the said George M. Amthor, Ill,
B-2 plat, and running North 21 degrees, 19 minutes, 38 seconds, West 398.95 feet to the end of this.
B-3
Exhibit A
Legal Description
Lot 1, Block 1, Montana Skilled Nursing Subdivision, an addition to the City of El Paso, El Paso County, Texas, according to the map thereof recorded under Instrument No. 20120023088, Real Property Records of El Paso County, Texas.
B-4
Exhibit A
Legal Description
PARCEL ONE:
All that certain lot, tract or parcel of land, situated in the City of Kerens, Navarro County, Texas, a part of the Daniel Addition according to the Plat recorded in Volume 493, Page 185, Navarro County, Texas, Deed Records, and which is more particularly described as follows:
BEGINNING at the intersection of the North line of 4th Street and the East line of Margaret Avenue;
THENCE Eastward with the North line of 4th Street 300 feet to the intersection of the West line of Lelia Avenue and North line of 4th Street; THENCE North with the West line of Lelia Avenue 600 feet to the intersection of the South line of 6th Street and West line of Lelia Avenue;
THENCE Westward 300 feet to the intersection of East line of Margaret Avenue and South line of 6th Street;
THENCE with the East line of Margaret Avenue 600 feet to the PLACE OF BEGINNING.
PARCEL TWO:
A right of way over and across all that certain lot, tract or parcel of land being a 33' wide strip of land, a portion of that certain 95,6 acre tract in the Hiram Bush Survey, Navarro County, Texas, known as the Joe M. Daniel Block 3, described in Volume 621, Page 585, Deed Records of Navarro County, Texas, with the center line of said right of way being a straight line described as follows: BEGINNING at the Southwest corner of the Joe M. Daniel Block 3;
THENCE N. 29 deg. 50' W a distance of 1,240 feet to a point;
THENCE N 60 deg. 10' E a distance of 255 feet 3 inches to a point for the PLACE OF BEGINNING of the center line of such right of way;
THENCE N 29 deg. 50' W to the point of intersection with the existing City of Kerens, Texas, sewer line, the PLACE OF ENDING of the center line of such right of way,
B-5
Exhibit A
Legal Description
Lot 1, Block 1, of Kemp Health Care Addition, an addition to the City of Kemp, in Kaufman County, Texas, according to the Map or Plat thereof recorded in Cabinet 3, Page 164, Plat Records of Kaufman County, Texas, and Document No. 2012-0018091 of the Official Public Records of Kaufman County, Texas.
Special Warranty Deed- Kemp Investor Holdings, LLC (Kemp Care Center)
B-6
Exhibit A
Legal Description
Tract 1: Fee Simple Estate BEING all that certain tract or parcel of land situated in the Prior Herron Survey, A 265, located about 2.35 miles N 6° W from the City of Mt. Pleasant, Titus County, Texas; being a part of that certain 20.594 acres described in a Deed Mt. Pleasant Land Development, LLC to Mt. Pleasant
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Operators, LLC dated August 7, 2012, recorded in Clerk's File Doc. #20084907, Official Public Records of Titus County, Texas, being all of Lot 3 of Senior Community Addition to the City of Mount Pleasant, Texas, as reflected in Plat of said addition recorded in Plat # 561 and filed on June 6, 2012, in the Plat Records of Titus County, Texas; and being more particularly described as follows:
BEGINNING at a 1/2" rebar marked with a "Cooper" cap found on the South East corner of said Lot 3, being on the North boundary line of a 6 acre tract described as First Tract In a Deed to Cathy Lynn Shurbet Parr, dated October 19, 2005, recorded in Vol. 1773, Page 2, Real Property Records;
THENCE S 88° 47' 07" W along the South boundary line of said Lot 3 a distance of 465.59 feet to a 1/2'' rebar marked with a "Cooper" cap found on the most South West corner of said Lot 3, being on the North boundary line of said 6 acre tract, and being on the South East corner of a Called 2 acre tract described in a Deed to Mrs. Lida E. Moore, dated August 7, 1951, recorded in Vol. 185, Page 490, Deed Records;
THENCE in a Northerly direction along the West boundary line of said Lot 3 as follows:
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N 1° 41' 53" W a distance of 291.43 feet to a 1/2" rebar marked with a "COOPER" cap found on the most South West corner of said Lot 3, and being on the Northeast corner of said CALLED 2 acre tract,
S 88° 42' 02" W a distance of 15.26 feet to a 1/2" rebar marked with a "Cooper" cap found on an external corner of said Lot 3 and being on the South East corner of Lot 2 of said Addition, and
N 14° 03' 39" W a distance of 252.36 feet to a X!" rebar marked with a "Cooper" cap found on the North West corner of said Lot 3, being on the North East corner of Lot 2 of said Addition, and being on the South boundary line of Senior Community Drive; THENCE S 89° 52' 28" E along the South boundary line of said Senior Community Drive a distance of 562.97 feet to a "PK" nail found on the North East corner of said Lot 3; THENCE in a Southerly direction along the East boundary line of said Lot 3 as follows: S 0° 03' 41" W a distance of 47.44 feet to a "PK" nail found for a corner;
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S 15° 12' 06" E a distance of 351.02 feet to a 1W rebar marked with a "Cooper" cap found for a corner; S 74° 49' 18" W a distance of 132.03 feet to a'/2' rebar marked with a
"Cooper" cap found for a corner;
S 12° 33' 33" E a distance of 106.45 feet to the PLACE OF BEGINNING and containing 6.471 acres of land. Tract 2: Easement Estate
As established and defined by an Access Easement Agreement dated January 16, 2015, between Fredo Enterprises I, LLC and Mt. Pleasant Operators, LLC and recorded January 23, 2015 in Clerk's File No. 20150257 of the Public Records of Titus County, Texas.
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Tract 3: Easement Estate
As established and defined by Easement Deed executed by Cathy Lynn Shurbet Parr to Mt. Pleasant Land Development, L.L.C., filed for record on February 7, 2008, and recorded under County Clerk's File No. 200800000729, Real Property Records of Titus County, Texas.
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Special Warranty Deed- Mt. Pleasant Operators, LLC (Greenhill Villas)
Exhibit A
Legal Description
0.992 of an acre of land, more or less, being comprised of Lots 15, 16, 17 and 18, Block G, New City Block 1659, ORIGINAL CITY LOT 11, RANGE 4, DISTRICT 1, San Antonio, Bexar County, Texas; as shown on the City of San Antonio Engineers Section Map No. 28, and being the same tract of land conveyed to River City Life Care, Inc. of record in Volume 10463, Page 1816, Official Public Records of Bexar County, Texas. Said 0.992 acre tract being more particularly described by metes and bounds in Exhibit "A-1" attached hereto and made a part hereof.
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Exhibit A
Legal Description Tract 1: Fee Simple Estate Lot 2, Block 1, New City Block 10934, Highland Hills Village, in the City of San Antonio, Bexar County, Texas, according to the map or plat thereof recorded in Volume 9609, Page 34, of the Deed and Plat Records of Bexar County, Texas. Tract 2: Easement Estate
Easement rights as established and defined under the terms and provisions of Pipeline Easement Agreement (Sanitary Sewer) executed by and between Texas Department of State Health Services and Dos Rios Trust, Brooks Hardee, Trustee, filed March 31, 2009, recorded in Volume 13918, Page 2444, amended in Volume 14656, Page 2167, of the Official Public Records of Bexar County, Texas.
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Exhibit A
Legal Description
BEING 4.96 acres of land located in the Alex Jordan Survey, A-262, City of Longview, Gregg County, Texas, said 4.96 acres being all of Lot 1 and part of Lot 2, Block 8215, Jefferson Village East, Unit 1 according to the Correction Plat of said Block 8215 recorded in Volume 1255, Page 307, Deed Records, Gregg County, Texas, also being a part of a called 14.48 acre tract recorded in Volume 2499, Page 327, Public Official Records, Gregg County, Texas, said 4.96 acres being more particularly described as follows:
BEGINNING at a 1/2" iron rod set at the intersection of the South ROW line of Eden Drive and the West ROW line of Alpine Road for corner, said corner being the Northeast corner of said Lot 1, Block 8215 of said Jefferson Village East - Unit 1, same being the Northeast corner of said called 14,48 acre tract and PLACE OF BEGINNING of the herein described 4.96 acre tract of land;
THENCE S 45 deg. 20 min. 00 sec. W, 329.80 feet along the West ROW line of said Alpine road, same being the East line of said Lot 1, Block 8215 and said called 14.48 acre tract to a 1/2 inch iron rod set in same for angle point of this tract;
THENCE S 47 deg. 50 min. 00 sec. W, 389.63 feet along the West ROW line of said Alpine Road, same being the East line of said Lot 2 and Lot 2, Block 8215, and called 7.24 acre tract to a 1/2 inch iron rod set in same for the Southwest corner of the herein described 4.96 acre tract of land;
THENCE N 42 deg. 10 min 00 sec. W, 250.00 feet to a 1/2 inch iron rod set for an angle point of this tract;
THENCE N 01 deg. 09 min. 00 sec. W, 245.50 feet to a 1/2 inch iron rod set in the South ROW line of said Eden Drive for corner, said corner also being in the North line of said Lot 2, Block 8215 and said 14.48 acre tract for the Northwest corner of the herein described 4.96 acre tract of land;
THENCE N 88 deg. 50 min. 26 sec. E, 88.21 feet along the South ROW line of said Eden Drive to a 1/2 inch iron rod set in same for angle point of this tract;
THENCE S 87 deg. 46 min. 01 sec. E, 84.50 feet along the South ROW line of said Eden Drive to a PK nail set in concrete for angle point of this tract;
THENCE S 86 deg. 06 min. 00 sec. E, 526.70 feet along the South ROW line of said Eden Drive to the PLACE OF BEGINNING and containing 4.96 acres of land.
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Exhibit A
Legal Description
Tract 1: All that certain lot, tract or parcel of land, part of the Thomas Beedy Survey, Abstract No. 21, Kaufman County, Texas, part of that certain called 7.338 acre tract conveyed to Ricky R. Vrzalik, et al from Andrew J. Kupper, and wife on January 13, 1988 and recorded in Volume 917, Page 85 of the Deed Records of Kaufman County, Texas, and being more particularly described by metes and bounds on Exhibit "A-1" attached hereto and made a part hereof. Tract 2:
All that certain lot, tract or parcel of land, part of the Thomas Beedy Survey, Abstract No. 21, Kaufman County, Texas, part of that certain called 3,551 acre tract conveyed to Dorothea Spencer by Ricky R. Vrzalik, etal on March 30, 1990, recorded in Volume 987, Page 334 of the Deed Records of Kaufman County, Texas, and being more particularly described by metes and bounds on Exhibit "A-2" attached hereto and made a part hereof. Tract 3: All that certain lot, tract or parcel of land, part of the Thomas Beedy Survey, Abstract No. 21, Kaufman County, Texas, part of that certain called 3.551 acre tract conveyed to Dorothea Spencer by Ricky R. Vrzalik, etal on March 30, 1990, recorded in Volume 987, Page 334 of the Deed Records of Kaufman County, Texas, and being more particularly described by metes and bounds on Exhibit "A-3" attached hereto and made a part hereof.
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EXHIBIT "A"
A tract of land containing 6,05 acres, more or less, being part of Bloch 114 mit or the Ben 11111Survey, Abstract Nu. 137 and being the Sallie tract as describvil in a deed front Graham Oaks, Inc, to Graham Oohs Associates, LA, recorded in Volume 754, Page 153, of the Deed Records of Young County, 'resits, being more particalorly described as follows:
Beginning at a 5/8 inch it,dt rod set in (he north line of First Street and at the southeast corner of a 20 foot alley as Shtli111 on it plat of Morningside Addition to the City of Craham, recorded In Whiffle 1, Page 179, of the Phil Records of Voting county, Texas, said iron rod being the southwest corner of the tract described In a deed from Graham Oaks, Inc., io Cruham Oaks Associates, LP. recorded in Volume 754, Inge 153, of the Deed Retort's of Young County, Texas;
Thence with the east line of said alley, North 00 degrees 19 minutes 31 seconds FAA fora distance of 599.00 feel to an "X" set in concrete for corner In the south line of a called 8,5 acre met described in a deed recorded in Volume 404, Page 538, of the Deed Records of Young Counly,TeNnSt
Thence with the south line of said 8,5 acre tenet, South 89 degrees 40 minutes 29 seconds East for a illsittace of 440,00 feet to a 518 inch iron rod set for corner at the northwest corner of a called 47.8 acre tract
Thence with the northernmost west line of said 47.8 acre tract, South 00 degrees 19 minutes 31 seconds West for a distance of 599,00 to a 5/8 inch iron rod set for corner in the north ROA We of First Street;
Thence with the North R,O.W. line of First Streets North 89 degrees 40 minutes 29 seconds West for It distance of 440,00 feet to (he point of beginning.
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EXHIBIT "C"
DECLARATION OF COMMENCEMENT DATE
This Declaration of Commencement Date ("Declaration") is made this ___ day of ______, 20__, by and among MRT of San Antonio TX - SNF I, LLC, MRT of San Antonio TX - SNF II, LLC, MRT of Graham TX - SNF, LLC, MRT of Kemp TX - SNF, LLC, MRT of Kerens TX - SNF, LLC, MRT of Brownwood TX - SNF, LLC, MRT of El Paso TX - SNF, LLC, MRT of Kaufman TX - SNF, LLC, MRT of Longview TX - SNF, LLC, and MRT of Mt. Pleasant TX - SNF, LLC, each a Delaware limited liability company (collectively, the “Landlord”), and Brownwood IV Enterprises, L.L.C., El Paso VI Enterprises, L.L.C., Graham I Enterprises, L.L.C., Kaufman I Enterprises, L.L.C., Kemp I Enterprises, L.L.C., Kerens I Enterprises, L.L.C., Longview III Enterprises, L.L.C., San Antonio I Enterprises, L.L.C., San Antonio II Enterprises, L.L.C. and Mt. Pleasant V Enterprises, L.L.C., each a Texas limited liability company (collectively, the “Tenant”).
WHEREAS, Landlord and Tenant entered into that certain Amended and Restated Lease Agreement dated November 20, 2018 (hereinafter referred to as the "Lease"), for certain Premises more particularly described therein;
NOW, THEREFORE, Landlord and Tenant mutually declare and confirm as follows:
1. Tenant is in possession of, and has accepted, the Demised Premises.
2. The Commencement Date of the Lease is ______, 20__.
4. Capitalized terms used but not otherwise defined herein shall have the meaning set forth in the Lease.
[Signature pages follow]
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IN WITNESS WHEREOF, Landlord and Tenant have signed this Declaration as of the date first set forth above.
LANDLORD:
MRT OF SAN ANTONIO TX – SNF I, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF SAN ANTONIO TX – SNF II, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF GRAHAM TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KEMP TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KERENS TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
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MRT OF BROWNWOOD TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF EL PASO TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF KAUFMAN TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF LONGVIEW TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
MRT OF MT. PLEASANT TX – SNF, LLC a Delaware limited liability company
By: Jeffery C. Walraven, Executive Vice President and Chief Financial Officer
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TENANT:
Brownwood IV Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
El Paso VI Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
Graham I Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
Kaufman I Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
Kemp I Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
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Kerens I Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
Longview III Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
San Antonio I Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
San Antonio II Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
Mt. Pleasant V Enterprises, L.L.C. a Texas limited liability company
By: Gary Blake Manager
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EXHIBIT "D"
LANDLORD’S WIRE INSTRUCTIONS
Name of Bank: Pinnacle Bank
Bank’s Address: 150 Third Avenue South Nashville, TN 37201
Account Holder: MedEquities Realty Operating Partnership, LP
ABA No. 064008637 Account No. 5838310
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Section 3: EX-10.32 (EX-10.32)
Exhibit 10.32
AMENDED AND RESTATED
GUARANTY AGREEMENT
This AMENDED AND RESTATED GUARANTY AGREEMENT (this “Guaranty”), is made as of November 20, 2018, by Creative Solutions in Healthcare, Inc., a Texas corporation (the “Entity Guarantor”), Gary Blake and Malisa Blake-Deane (the "Personal Guarantors" and, collectively with the Entity Guarantor, the "Guarantors"), in favor of MRT of San Antonio TX - SNF I, LLC, MRT of San Antonio TX - SNF II, LLC, MRT of Graham TX - SNF, LLC, MRT of Kemp TX - SNF, LLC, MRT of Kerens TX - SNF, LLC, MRT of Brownwood TX - SNF, LLC, MRT of El Paso TX - SNF, LLC, MRT of Kaufman TX - SNF, LLC, MRT of Longview TX - SNF, LLC, and MRT of Mt. Pleasant TX - SNF, LLC, each a Delaware limited liability company (collectively, the "Landlord").
WHEREAS, pursuant to an Amended and Restated Master Lease, of even date herewith (the "Master Lease"), between Landlord and Brownwood IV Enterprises, LLC, El Paso VI Enterprises, LLC, Graham I Enterprises, LLC, Kaufman I Enterprises, LLC, Kemp I Enterprises, LLC, Kerens I Enterprises, LLC, Longview III Enterprises, LLC, San Antonio I Enterprises, LLC, San Antonio II Enterprises, LLC and Mt. Pleasant V Enterprises, LLC, each a Texas limited liability company (collectively, the "Tenant"), Landlord has agreed to lease to Tenant, and Tenant has agreed to Lease from Landlord, the real and personal property comprising those certain ten (10) skilled nursing facilities located in the State of Texas and listed on Schedule A hereto (the "Facilities"); and
WHEREAS, as a condition to entering into the Master Lease, Landlord has required that the Guarantors execute and deliver this Guaranty to Landlord; and
WHEREAS, by executing this Guaranty, the Guarantors and Landlord wish to amend and restate in its entirety that certain Guaranty Agreement, dated November 9, 2018, that was executed in connection with the Original Master Lease; and
WHEREAS, Capitalized terms not otherwise defined herein shall have the respective meanings as defined in the Master Lease.
NOW, THEREFORE, as a condition precedent to the commencement of the Master Lease, and for other consideration, the receipt and sufficiency of which are hereby acknowledged, Guarantors hereby agree as follows:
1. Guaranteed Obligations. Guarantors, jointly and severally, hereby unconditionally, absolutely and irrevocably guarantee to Landlord the timely payment and performance by Tenant of each and every obligation of Tenant under the Master Lease, including, without limitation, payment of all Base Rent, all other rent, and all other amounts now or hereafter due under the Master Lease, and all indemnification and other obligations of Tenant under the Master Lease, whether arising during the Initial Term or any renewals or extensions thereof, in strict accordance with the terms of the Master Lease (collectively, the “Contract Obligations”). In addition, Guarantors, jointly and severally, hereby unconditionally, absolutely and irrevocably agree to pay on demand any and all costs, expenses and fees of any type whatsoever including,
without limitation, attorneys’ fees incurred by Landlord in enforcing any rights under this Guaranty or under the Master Lease (collectively, the “Expenses”). The Contract Obligations and the Expenses are collectively referred to as the “Guaranteed Obligations”. Without limiting the generality of the foregoing, the Guarantors' liability shall extend to all amounts that constitute part of the Guaranteed Obligations and that are owed by Tenant to Landlord under the Master Lease, including those that may be unenforceable or not allowable due to any bankruptcy, reorganization or similar proceeding involving Tenant; provided, however, that the Guaranteed Obligations shall not exceed an amount equal to the next thirty (30) months of then-current Rent payable by Tenant to Landlord under the Lease at the time of the notice of default from Landlord to Tenant.
2. Unconditional, Unlimited and Absolute Guaranty. Guarantors guarantee that all of the Guaranteed Obligations will be paid, performed and observed strictly in accordance with the terms of the Master Lease, as applicable, regardless of any law, statute, rule, regulation, decree or order now or hereafter in effect in any jurisdiction affecting or purporting to affect in any manner any such terms or the related rights or remedies of Landlord. The obligations of Guarantors under this Guaranty are independent of the Guaranteed Obligations. The liability of each Guarantor under this Guaranty shall be unconditional, unlimited and absolute and shall not be affected, released, modified, altered, terminated, discharged or impaired, in whole or in part, by any of the following:
(a) any lack of genuineness, validity, legality or enforceability or the voidability of the Master Lease or any other agreement or instrument relating thereto;
(b) any change in the time, manner or place of payment, performance or observance of any of the Guaranteed Obligations or any extensions of time for payment, performance or observance of the Guaranteed Obligations or any of the terms of the Master Lease;
(c) any waiver, assertion, enforcement, failure to enforce, consent, indulgence or departure granted by Landlord with respect to any term of the Master Lease including, without limitation, acceptance of any amounts less than the scheduled rent or other amount due under the Master Lease or the waiver of any default or event of default by Tenant or acceptance of any settlement from Tenant for its obligations under the Master Lease;
(d) any failure or delay of Landlord to exercise, or any lack of diligence in exercising, any right or remedy with respect to the Master Lease;
(e) the failure of any individual, partnership, association, corporation, limited liability company or other entity (a “Person”) to complete construction of any Improvements to the Property or any Facility or any Improvements for Tenant’s use and occupancy of the Property or any Facility;
(f) the exercise of any right or remedy under the Master Lease;
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(g) any bankruptcy, insolvency, assignment for the benefit of creditors, receivership, trusteeship or dissolution of Tenant or any guarantor of Tenant’s obligations under the Master Lease;
(h) any exchange, surrender or release, in whole or in part, of any collateral or security that may be held by Landlord at any time under the Master Lease or in respect of the Guaranteed Obligations;
(i) the release of any other Guarantor or any other Person from liability for the payment, performance or observance of any of the Guaranteed Obligations or any of the terms of the Master Lease on the part of Tenant to be paid, performed or observed, as applicable, whether by operation of law or otherwise;
(j) the exercise, delay or failure to exercise any rights, powers or privileges Landlord may now or hereafter have against any Person or collateral in respect of the Guaranteed Obligations, or against any of the other Guarantors;
(k) Landlord’s consent to any assignment of or sublease under the Master Lease;
(l) any failure to give any Guarantor any notice of any type whatsoever, and Guarantors hereby waive any and all such notices;
(m) any and all notice of the creation, renewal or extension of the Guaranteed Obligations and notice of or proof of reliance by Landlord upon this Guaranty or acceptance of this Guaranty; or
(n) all of the foregoing from time to time before or after any default or event of default by Tenant under the Master Lease and with or without further notice to any Guarantor.
This Guaranty shall continue to be effective or be reinstated, as applicable, and the rights of Landlord hereunder shall continue with respect to, any Guaranteed Obligation at any time paid by Tenant which shall thereafter be required to be restored or returned by Landlord or any successor or assignee of Landlord upon the insolvency, bankruptcy or reorganization of Tenant, or for any other reason, all as though such Guaranteed Obligation had not been so paid or applied.
3. Waivers. Guarantors hereby waive (a) notice of acceptance of this Guaranty and of any change in the financial condition of Tenant or Landlord, (b) promptness, diligence, presentment and demand for payment and performance or observance of any of the Guaranteed Obligations, (c) protest, notice of dishonor, notice of default and any other notice with respect to any of the Guaranteed Obligations or this Guaranty or otherwise required or applicable by law, (d) any demand for payment under this Guaranty, (e) any requirement that Landlord exercise or exhaust any right or remedy or take any action against Tenant, any other Person or Guarantor or any collateral or other available security and agrees that Landlord may enforce its rights hereunder without recourse to any rights under the Master Lease or applicable law, and
- 3 - 3 without taking any actions or proceedings against Tenant, any other Person or Guarantor or any collateral or security for any of the Guaranteed Obligations, (f) all benefits of any statute of limitations affecting the Guarantor’s liability under, or the enforcement of, this Guaranty, (g) any failure of Landlord to disclose to Guarantors any information relating to the financial condition, operations or properties of Tenant or any other guarantor of the Guaranteed Obligations (Guarantors hereby waive any duty of Landlord to obtain or disclose such information), and (h) any right or claim of right to cause a marshalling of the assets of Tenant or any other Person or to cause Landlord to proceed against Tenant, any other Person or any collateral.
4. Bankruptcy. Without limiting the Guarantors' obligations under this Guaranty, if Tenant or Tenant’s trustee, receiver or other officer with similar powers, rejects, disaffirms or otherwise terminates the Master Lease pursuant to any bankruptcy, insolvency, reorganization, moratorium or any other law affecting creditors’ rights generally, Guarantors, jointly and severally, shall automatically be deemed to have assumed, from and after the date such rejection, disaffirmance or other termination of the Master Lease is deemed effective, all obligations and liabilities of Tenant under the Master Lease to the same extent as if Guarantors had been originally named instead of Tenant as the Tenant under the Master Lease and as if the Master Lease had never been so rejected, disaffirmed or otherwise terminated. Guarantor, upon such assumption, shall pay, perform and observe all of the Guaranteed Obligations, whether accrued or accruing, and Guarantors shall be subject to any rights or remedies of Landlord that may have accrued or that may thereafter accrue against Tenant on account of any default or event of default under the Master Lease notwithstanding that such defaults existed prior to the date Guarantors are deemed to have assumed the Master Lease or that such rights or remedies are unenforceable against Tenant by reason of such rejection, disaffirmance or other termination. Guarantors shall confirm such assumption in writing at the request of Landlord upon or after such rejection, disaffirmance or other termination but any such failure shall not affect the assumption by Guarantors. Neither Guarantors' obligation to make payment or performance of the Guaranteed Obligations under this Guaranty nor any remedy for the enforcement thereof shall be impaired, modified, changed, stayed, released or limited in any manner by any impairment, modification, change, release, limitation or stay of the liability of Tenant or its estate in bankruptcy or any remedy for the enforcement thereof resulting from the operation of any present of future provision of the U.S. Bankruptcy Code or other statute or from any court decision and Guarantors shall be obligated under this Guaranty as if no such impairment, stay, modification, change, release or limitation had occurred.
5. Primary Obligation. This is an absolute, unconditional and unlimited guaranty of payment and performance and not of collection and Guarantors waive any right to require that any action be brought against Tenant or any other Person, or to require that resort be had to any collateral, security, any balance of any deposit account or credit on the books of Landlord in favor of Tenant or any other Person. No invalidity, irregularity or unenforceability of any part of the Master Lease shall affect, impair or be a defense to this Guaranty and this Guaranty shall constitute the primary obligation of Guarantors.
6. No Demand. No demand on Guarantors shall be required and no notice to Guarantors of any default or event of default under the Master Lease shall be required. Guarantors hereby waive any such demand or notice. Landlord shall have the right to enforce this Guaranty immediately and directly against any Guarantors upon any default or event of default under the
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Master Lease. Landlord may commence any action or proceeding based upon this Guaranty directly against any or all of the Guarantors without making Tenant a party defendant in such action or proceeding. Any one or more successive or concurrent actions may be brought against Guarantors either in the same action, if any, brought against Tenant, or in separate actions as Landlord, in its sole discretion, deems advisable.
7. Waiver of Rights against Tenant. Until the indefeasible cash payment in full of all of the Guaranteed Obligations, Guarantors hereby irrevocably waive any claim or other rights that any of them may now or hereafter acquire against Tenant from the existence, payment, performance or enforcement of the Guaranteed Obligations or any other documents executed in connection therewith (collectively, the “Guaranty Documents”), including, without limitation, any right of subrogation, reimbursement, exoneration, contribution or indemnification and any right to participate in any claim or remedy of Landlord against Tenant, whether or not such claim, remedy or right arises in equity, under contract, statute or common law including, without limitation, the right to take or receive from Tenant, directly or indirectly, in cash or other property or by set-off or in any other manner, payment or security on account of such claim, remedy or right. Guarantors hereby acknowledge that the waiver, contained in the preceding sentence (the “Subrogation Waiver”) is given as a condition precedent to Landlord’s agreement to enter into the transactions contemplated under the Master Lease and, therefore, Guarantors agree not to amend or modify in any way the Subrogation Waiver without the prior written consent of Landlord. If any amount is paid to Guarantors in violation of the preceding sentence at any time prior to the indefeasible cash payment in full of all amounts payable under this Guaranty, such amount shall be held in trust for the benefit of Landlord, shall be segregated from the other funds of Guarantors and shall be paid to Landlord and credited to all amounts payable under this Guaranty, whether matured or unmatured, in accordance with the terms of the Master Lease, as the case may be, and the Guaranty Documents, or held as collateral for any amounts payable under this Guaranty.
8. Modification of Master Lease. If the Master Lease is modified in any respect by Landlord and Tenant, the obligations hereunder of Guarantors shall extend and apply with respect to the full and faithful performance and observance of all covenants, terms and conditions of the Master Lease and any modification thereof and Guarantors hereby consent to and agree to be bound by the terms of such modification. If the term of the Master Lease is renewed or extended for any period beyond the date specified therein, either pursuant to any option granted therein or otherwise, or if the Tenant holds over beyond the term of the Master Lease, the obligations of each Guarantor hereunder shall extend and apply to the full and faithful performance and observance of all terms, conditions, covenants, obligations, liabilities, duties and agreements contained in the Master Lease, as applicable.
9. Additional Covenants. Guarantors, jointly and severally, covenant and agree that, until the full payment and satisfaction of all Guaranteed Obligations, Guarantors shall perform and comply with each of the covenants set forth in this Section 9.
(a) At all times, Gary Blake and Malisa Blake-Deane shall maintain ownership of not less than eighty percent (80%) of the total issued and outstanding ownership interest in each of the Tenants, free and clear of all liens and encumbrances.
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(b) During the existence of any material uncured default on the part of Tenant under the Master Lease, all fees, payments or other obligations of Tenant to any Guarantor or to any of the shareholders of the Entity Guarantor shall be subordinate to the prior payment in full of all obligations owing to Landlord under the Master Lease.
(c) The Entity Guarantor shall not collect or accrue any Management Fees with respect to any of the Facilities other than in compliance with Section 18.3 of the Master Lease.
(d) The Entity Guarantor shall not make any distributions or other payments to any of its shareholders, in cash or property, at any time during the Term of the Master Lease, unless immediately prior to and after giving effect to such distribution or payment, all payments required to have been paid by Tenant under the Master Lease shall have been paid and there shall not have occurred an Event of Default or any event that, with the giving of notice or the passage of time, would constitute, or would reasonably be expected to result in, an Event of Default under the Master Lease or a default under any other material agreement or obligation by which Entity Guarantor is bound either directly or as a guarantor.
(e) Within one hundred twenty (120) days after the end of each calendar year during the Term, Guarantor shall furnish to Landlord a full and complete audited combined financial statement of Entity Guarantor and its managed entities for such year, which financial statement (i) shall contain a balance sheet and detailed income and expense statement, as well as supplemental combining schedules, (ii) shall be duly certified by an officer of Entity Guarantor to fairly represent the financial condition of Entity Guarantor, as of the date thereof, in accordance with GAAP, and (iii) shall be accompanied by a statement of a nationally recognized accounting firm acceptable to Landlord in its sole discretion that such financial statement presents fairly, in all material respects, the financial condition of Entity Guarantor as of the end of the calendar year being reported on and that the results of the operations and cash flows for such year were prepared, and are being reported on, in conformity with GAAP (each, a “Financial Statement”).
(f) Within thirty (30) days after each calendar month during the Term, Entity Guarantor shall furnish to Landlord an unaudited Financial Statement.
(g) Within forty-five (45) days after the end of each calendar year during the Term, or at more frequent intervals as may from time to time be reasonably requested by Landlord, each Personal Guarantor shall furnish to Landlord a personal balance sheet and financial statement in substantially the same form as the personal statements previously delivered by them to Landlord and dated September 30, 2018.
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10. Notices. Any notice given hereunder shall be in writing and shall be deemed given when actually delivered or three Business Days after being mailed by U.S. Mail, postage prepaid, certified mail, return receipt requested, or when sent by overnight courier addressed as follows:
If to a Guarantor: To the address indicated for such Guarantor on the signature pages hereto
with a copy to: Rawls Law Office, P.C. c/o Caleb Rawls 3010 LBJ Freeway, Suite 1200 Dallas, Texas 75234 [email protected]
If to Landlord: c/o MedEquities Realty Trust, Inc. 3100 West End Ave, Suite 1000 Nashville, TN 37203 Attention: John McRoberts, CEO Telephone: (615) 627-4715 Facsimile: None Email: [email protected]
with copy to: Michael S. Blass, Esq. Arent Fox LLP 1301 Avenue of the Americas, 42nd Floor New York, NY 10019 Telephone: (212) 484-3902 Fax No.: (212) 484-3990 E-mail: [email protected]
11. Waiver. Any failure on the part of Landlord to enforce any provision of this Guaranty shall not constitute a waiver of Landlord’s right to thereafter enforce such provision or to enforce any other provision at any time.
12. Additional Acts. The parties shall execute such other documents and take such other actions as may be necessary or appropriate to further evidence or effectuate their agreement as set forth herein.
13. Modification. Subject to the provisions of Section 2, above, the terms of this Guaranty cannot be modified except by a written instrument signed by Guarantors and Landlord.
14. Attorneys’ Fees. The prevailing party in any suit brought to enforce or interpret this Guaranty shall be entitled to recover reasonable attorneys’ fees and necessary disbursements in addition to any other available relief.
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15. Governing Law. This Guaranty and the rights and obligations of the parties hereunder shall be governed by and enforced in accordance with the laws of the state of Texas.
16. Severability. If any provision of this Guaranty or the application thereof to any Person or circumstances shall be invalid or unenforceable to any extent, the remainder of this Guaranty and the application of such provisions to other Persons or circumstances shall not be affected thereby and shall be enforced to the greatest extent permitted by law.
17. Multiple Counterparts. This Guaranty may be executed in any number of counterparts, each of which when executed and delivered shall be deemed to be an original, and all of which when taken together shall constitute one and the same agreement. Delivery of an executed counterpart of a signature page of this Guaranty by facsimile, portable document format (.pdf), or other electronic imaging means shall be effective as delivery of a manually executed counterpart of this Guaranty.
18. Successors and Assigns. This Guaranty is a continuing guaranty and shall (a) remain in full force and effect until payment, performance and observance in full of all of the Guaranteed Obligations and all other amounts payable under this Guaranty, (b) be binding upon Guarantors and any permitted successors, and (c) inure to the benefit of and be enforceable by Landlord and its successors, transferees, participants and assigns or by any Person to whom Landlord’s interest in the Master Lease may be assigned. Guarantors agree that Landlord may assign this Guaranty and Landlord’s rights hereunder without the consent or approval of Guarantors.
19. Benefit to Guarantors. Guarantors hereby warrant and represent that Guarantors are Affiliates of Tenant and that this Guaranty will benefit, directly or indirectly, the Guarantors.
20. WAIVER OF TRIAL BY JURY. GUARANTORS HEREBY AGREE NOT TO ELECT A TRIAL BY JURY OF ANY ISSUE TRIABLE BY JURY AND HEREBY WAIVE ANY RIGHT TO TRIAL BY JURY TO THE FULLEST EXTENT PERMITTED BY LAW WITH REGARD TO THIS GUARANTY OR ANY CLAIM, COUNTERCLAIM OR OTHER ACTION ARISING IN CONNECTION THEREWITH. THIS WAIVER OF RIGHT TO TRIAL BY JURY IS GIVEN KNOWINGLYAND VOLUNTARILY BY GUARANTORS AND IS INTENDED TO ENCOMPASS EACH INSTANCE AND EACH ISSUE AS TO WHICH THE RIGHT TO TRIAL BY JURY WOULD OTHERWISE ACCRUE.
21. NOTICE OF FINAL AGREEMENT. THIS GUARANTY REPRESENTS THE FINAL AGREEMENT AMONG THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS, OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO ORAL AGREEMENTS AMONG THE PARTIES.
[Remainder of page intentionally blank; signature pages follow.]
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IN WITNESS WHEREOF, the undersigned have caused this amended and Restated Guaranty to be executed as of the date and year first written above.
ENTITY GUARANTOR:
Creative Solutions in Healthcare, Inc., a Texas corporation
By: _/s/Gary Blake______Name:_Gary Blake______Title: _President and CEO______Address: 4150 International Plaza, Suite 600______Fort Worth, TX 76109______Attn: _Gary Blake______Telephone: _817-348-8959______E-mail: ______
PERSONAL GUARANTORS:
_/s/ Gary Blake______Name: Gary Blake Address: 4167 Charron Lane Fort Worth, TX 76116
__/s/ Malisa Blake-Deane______Name: Malisa Blake-Deane Address: 6905 Santuary Heights Road Fort Worth, TX 76132
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SCHEDULE A
FACILITIES
Facility Name Address Lic. Beds Casa Rio Health Care and 6211 S New Braunfels Avenue, San 124 Rehabilitation Antonio TX, 78223 (Bexar County)
Graham Oaks Care Center 1325 First Street, Graham TX 76450 120 (Young County)
Greenhill Villas 2530 Greenhill Road, Mount Pleasant, TX 150 75455 (Titus County)
Kemp Care Center 1351 South Elm Street, Kemp, TX 75143 124 (Kaufman County)
Kerens Care Center 809 NE 4th Street, Kerens, TX 75144 70 (Navarro County)
River City Care Center 921 Nolan Street, San Antonio, TX 78202 100 (Bexar County)
Songbird Lodge 2500 Songbird Circle, Brownwood, TX 125 76801 (Brown County)
Sunflower Park Health Care 1803 Highway 243 East, Kaufman, TX 92 75142 (Kaufman County)
St. Teresa Nursing and 10350 Montana Avenue, El Paso, TX 124 Rehabilitation Center 79925 (El Paso County)
Whispering Pines Lodge 2131 Alpine Road, Longview, TX 75601 116 (Gregg County)
10 (Back To Top)
Section 4: EX-10.36 (EX-10.36)
Exhibit 10.36
THIRD AMENDMENT TO SECOND AMENDED AND RESTATED CREDIT AGREEMENT
THIS THIRD AMENDMENT TO SECOND AMENDED AND RESTATED CREDIT AGREEMENT (this “Amendment”), dated as of February 20, 2019, by and among MEDEQUITIES REALTY OPERATING PARTNERSHIP, LP, a Delaware limited partnership (“Borrower”), EACH OF THE ENTITIES IDENTIFIED AS “GUARANTORS” ON THE SIGNATURE PAGES OF THIS AMENDMENT (collectively, the “Guarantors”), KEYBANK NATIONAL ASSOCIATION (“KeyBank”), individually and as Agent for itself and the other Lenders from time to time a party to the Credit Agreement (as hereinafter defined) (KeyBank, in its capacity as Agent, is hereinafter referred to as “Agent”), and EACH OF THE OTHER “LENDERS” WHICH ARE SIGNATORIES HERETO (together with KeyBank in its capacity as a Lender, hereinafter referred to collectively as the “Lenders”).
W I T N E S S E T H:
WHEREAS, the Borrower, Agent and each of the Lenders are party to that certain Second Amended and Restated Credit Agreement dated as of February 10, 2017, as amended by that certain First Amendment to Second Amended and Restated Credit Agreement dated as of December 22, 2017, and that certain Second Amendment to Second Amended and Restated Credit Agreement dated as of October 9, 2018 (the “Second Amendment”; as such Credit Agreement has been and may be varied, extended, supplemented, consolidated, replaced, increased, renewed, modified or amended from time to time, the “Credit Agreement”);
WHEREAS, in connection with the Credit Agreement, the Guarantors executed and delivered to Agent and the Lenders that certain Second Amended and Restated Unconditional Guaranty of Payment and Performance dated as of February 10, 2017 (the “Guaranty”), or subsequently joined as a “Guarantor” thereunder pursuant to a Joinder Agreement;
WHEREAS, the Borrower and the Guarantors have requested that the Agent and the Lenders make certain modifications to the Credit Agreement and Agent and the Lenders have consented to such modifications, subject to the execution and delivery of this Amendment.
NOW, THEREFORE, for and in consideration of the sum of TEN and NO/100 DOLLARS ($10.00), and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto do hereby covenant and agree as follows:
Definitions
. Capitalized terms used in this Amendment, but which are not otherwise expressly defined in this Amendment, shall have the respective meanings given thereto in the Credit Agreement.
Modifications of the Credit Agreement
. The Borrower, Agent and the Lenders do hereby modify and amend the Credit Agreement as follows:
(a) By inserting the following definitions in §1.1 of the Credit Agreement, in the appropriate alphabetical order:
“Definitive Agreement. That certain Agreement and Plan of Merger dated as of January 2, 2019 by and among Omega Healthcare Investors, Inc., a Maryland corporation,
OHI Healthcare Properties Limited Partnership, a Delaware limited partnership, REIT, General Partner and Borrower.
Distribution Conditions. The Distribution Conditions shall exist when (a) the final affirmative vote in favor of the merger contemplated by the Definitive Agreement by such shareholders of the REIT as are required to approve such merger shall have occurred and be effective, (b) the Definitive Agreement has not been terminated, (c) neither the Borrower, the REIT nor any of their Subsidiaries has received any notice that any event or circumstance has occurred which would permit, with notice or the passage of time, or both, the termination of the Definitive Agreement, and (d) after due inquiry, neither the Borrower, the REIT nor any of their Subsidiaries otherwise has any knowledge that, any event or circumstance has occurred which would permit, with notice or the passage of time, or both, the termination of the Definitive Agreement.
Medistar Notes. Collectively, (i) that certain Promissory Note in the original principal face amount of $6,700,000.00 dated as of August 1, 2017 by Medistar Gemini, LLC as maker to the order of MRT of Webster TX-IMF, LLC, as amended by that certain First Amendment to Promissory Note dated December 11, 2017, that certain Second Amendment to Promissory Note dated February 16, 2018 (which Second Amendment increased the principal amount of the note to $9,700,000.00), that certain Third Amendment to Promissory Note dated December 28, 2018, and that certain Fourth Amendment to Promissory Note dated January 30, 2019, and (ii) that certain Promissory Note in the original principal face amount of $7,000,000.00 dated as of April 6, 2018 by Medistar Stockton Rehab, LLC as maker to the order of MRT of Stockton CA-IRF, LLC dated as of April 6, 2018, as amended by that certain First Amendment to Promissory Note dated December 28, 2018 and that certain Second Amendment to Promissory Note dated January 30, 2019.
Q4 2018 Dividend. See §8.7(a).
Replacement Texas Ten Lease. That certain Amended and Restated Master Lease dated November 20, 2018 by and among various Subsidiary Guarantors, as landlords, and Brownwood IV Enterprises, L.L.C., El Paso VI Enterprises, L.L.C., Graham I Enterprises, L.L.C., Kaufman I Enterprises, L.L.C., Kemp I Enterprises, L.L.C., Kerens Enterprises, L.L.C., Longview III Enterprises, L.L.C., San Antonio I Enterprises, L.L.C., San Antonio II Enterprises, L.L.C., and Mt. Pleasant V Enterprises, L.L.C., as tenants.
Third Amendment Effective Date. February 20, 2019.”
(b) By deleting in their entirety the definitions of “Adjusted Net Operating Income”, “Borrowing Base Availability”, “Implied Debt Service Coverage Ratio”, “Net Operating Income”, “Swing Loan Commitment”, “Texas Ten Portfolio”, “Total Commitment” and “Total Revolving Credit Commitment” appearing in §1.1 of the Credit Agreement, and inserting in lieu thereof the following:
“Adjusted Net Operating Income. On any date of determination with respect to any period, an amount equal to the sum of:
(a) with respect to Newly-Built Properties that are included in the calculation of Borrowing Base Availability, the Net Operating Income from such Borrowing Base Properties for the trailing twelve (12) month period; plus
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(b) with respect to Stabilized Properties that are MOBs (including, for the avoidance of doubt, those with Major Tenants) that are included in the calculation of Borrowing Base Availability, the Net Operating Income from such Borrowing Base Properties for the trailing twelve (12) month period; plus
(c) with respect to EBITDAR Stabilized Properties (other than MOBs and SNFs) that are included in the calculation of Borrowing Base Availability, the lesser of:
(i) the Net Operating Income from such Borrowing Base Properties for the trailing twelve (12) month period, and
(ii) the amount that would result from dividing (A) an amount equal to (X) the trailing twelve (12) month Tenant EBITDAR for such Borrowing Base Property less (Y) the Capital Reserves relating to the applicable Borrowing Base Property for such period, by (B) 1.40; plus
(d) with respect to EBITDAR Stabilized Properties that are SNFs that are included in the calculation of Borrowing Base Availability, the lesser of:
(i) the Net Operating Income from such Borrowing Base Properties for the trailing twelve (12) month period, and
(ii) the amount that would result from dividing (A) an amount equal to (X) the trailing twelve (12) month Tenant EBITDAR for such Borrowing Base Property less (Y) the Capital Reserves relating to the applicable Borrowing Base Property for such period, by (B) 1.20.
Notwithstanding the foregoing, (x) with respect to the Texas Ten Portfolio only, if all of the properties in the Texas Ten Portfolio are leased to a single tenant pursuant to a master lease which is cross-defaulted, and all of the properties subject to the master lease are Borrowing Base Properties, then for the purposes of calculating the ratio in clause (d)(ii) with respect to the Texas Ten Portfolio, all of such Borrowing Base Assets subject to such master lease shall be included in calculating such ratio (provided further that the financial and operating reports with respect to such properties shall be provided to Agent on an individual and aggregate basis), and (y) with respect to the Texas Ten Real Estate only, for the period from January 1, 2019 through and including June 30, 2019, the Borrowing Base Availability shall be determined pursuant to clause (d)(i) above only, and for the period thereafter, the calculation of Tenant EBITDAR for the Texas Ten Real Estate shall be determined (1) for the period commencing July 1, 2019 and ending September 30, 2019, by annualizing the Tenant EBITDAR for the Texas Ten Real Estate for the period of January 1, 2019 through and including June 30, 2019, (2) for the period commencing October 1, 2019 and ending December 31, 2019, by annualizing the Tenant EBITDAR for the Texas Ten Real Estate for the period of January 1, 2019 through and including September 30, 2019, and (3) thereafter by using Tenant EBITDAR for the Texas Ten Real Estate on a trailing twelve (12) month basis. Notwithstanding the foregoing, for the calculation pursuant to clauses (c) and (d) above for assets that were previously considered Newly-Built Properties, the calculation of Tenant EBITDAR will initially be based on annualized trailing six (6) month Tenant EBITDAR at the applicable property for the first quarter after inclusion as an EBITDAR Stabilized Property, annualized trailing nine (9) month Tenant EBITDAR at the property for the second quarter after inclusion as an EBITDAR Stabilized Property, and twelve (12) month trailing Tenant EBITDAR at the property for all
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subsequent periods. The calculation of Adjusted Net Operating Income shall exclude any property that is no longer a Borrowing Base Property.
Borrowing Base Availability.
(1) For the period commencing on the Second Amendment Effective Date through and including December 31, 2018, the sum of:
(a) for Borrowing Base Properties and Borrowing Base Loans included in the calculation of Borrowing Base Availability (excluding the Texas Ten Portfolio), the lower of:
(i) (A) the sum of (1) the Borrowing Base Property Amount plus (2) the sum of the Borrowing Base Mortgage Loan Amounts determined for each Borrowing Base Loan, multiplied by (B) 0.60; and
(ii) the maximum principal amount of Loans and Letter of Credit Liabilities that would not cause the Implied Debt Service Coverage Ratio (with the Net Operating Income and Borrowing Base Loan Interest components of such ratio calculated with respect to the applicable Borrowing Base Assets only) to be less than 1.45 to 1.00;
plus
(b) until the first to occur of (i) the Texas Ten Revaluation Date and (ii) December 31, 2018, for the Texas Ten Real Estate the sum of $42,648,000.00, and if the Texas Ten Revaluation Date occurs prior to December 31, 2018, thereafter under this clause (1) through and including December 31, 2018 the Borrowing Base Availability attributable to the Texas Ten Real Estate shall be determined in accordance with clause (1)(a) of this definition (without giving effect to the parenthetical in clause (1)(a) therein).
(2) For the period commencing on January 1, 2019 through and including June 30, 2019, for Borrowing Base Properties and Borrowing Base Loans included in the calculation of Borrowing Base Availability, the lower of:
(a) (i) the sum of (A) the Borrowing Base Property Amount plus (B) the sum of the Borrowing Base Mortgage Loan Amounts determined for each Borrowing Base Loan, multiplied by (ii) 0.60; and
(b) the maximum principal amount of Loans and Letter of Credit Liabilities that would not cause the Implied Debt Service Coverage Ratio (with the Net Operating Income and Borrowing Base Loan Interest components of such ratio calculated with respect to the applicable Borrowing Base Assets only) to be less than 1.50 to 1.00.
(3) For the period commencing July 1, 2019 and continuing thereafter, the sum of:
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(a) for Borrowing Base Properties included in the calculation of Borrowing Base Availability that are SNFs and MOBs, the lower of:
(i) for each such Borrowing Base Property, (A) the lowest of the Appraised Value of such Borrowing Base Property and the Borrowing Base Property Cost of such Borrowing Base Property, multiplied by (B) 0.60; and the aggregate amount pursuant to this clause (3)(a)(i) shall be the sum of such amounts determined for each such Borrowing Base Property; and
(ii) the maximum principal amount of Loans and Letter of Credit Liabilities that would not cause the Implied Debt Service Coverage Ratio (with the Net Operating Income component of such ratio calculated with respect to SNFs and MOBs only) to be less than 1.50 to 1.00;
plus
(b) for Borrowing Base Properties included in the calculation of Borrowing Base Availability that are not SNFs and MOBs, the lower of:
(i) for each such Borrowing Base Property, (A) the lower of the Appraised Value of such Borrowing Base Property and the Borrowing Base Property Cost of each such Borrowing Base Property, multiplied by (B) 0.50; and the aggregate amount pursuant to this clause (3)(b)(i) shall be the sum of such amounts determined for each such Borrowing Base Property, and
(ii) the maximum principal amount of Loans and Letter of Credit Liabilities that would not cause the Implied Debt Service Coverage Ratio (with the Net Operating Income component of such ratio calculated with respect to Borrowing Base Properties that are not SNFs or MOBs only) to be less than 1.75 to 1.00;
plus
(c) the aggregate Borrowing Base Mortgage Loan Amount as determined for each Borrowing Base Loan multiplied by 0.35.
Implied Debt Service Coverage Ratio. For the period from the Second Amendment Effective Date through and including June 30, 2019, the Implied Debt Service Coverage Ratio shall be the ratio of (a) the sum of (i) Adjusted Net Operating Income from the Borrowing Base Properties included in the calculation of Borrowing Base Availability plus (ii) Borrowing Base Loan Interest from the Borrowing Base Loans included in the calculation of Borrowing Base Availability, divided by (b) the Implied Debt Service Coverage Amount. For the period commencing on July 1, 2019 and continuing thereafter, the Implied Debt Service Coverage Ratio shall be the ratio of (x) Adjusted Net Operating Income from the Borrowing Base Properties included in the calculation of Borrowing Base Availability, divided by (y) the Implied Debt Service Coverage Amount.
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Net Operating Income. For any Real Estate and for a given period, an amount equal to the sum of (a) the rents, common area reimbursements and other income for such Real Estate for such period received in the ordinary course of business from tenants in occupancy paying rent (excluding any reserve amounts received by a Person from tenants in accordance with the terms of their Leases, pre-paid rents and revenues, security deposits except to the extent applied in satisfaction of tenants’ obligations for rent, and any non-recurring fees, charges or amounts) minus (b) all expenses paid or accrued and related to the ownership, operation or maintenance of such Real Estate for such period, including, but not limited to, taxes, assessments and the like, insurance, utilities, payroll costs, maintenance, repair and landscaping expenses, marketing expenses, and general and administrative expenses (including an appropriate allocation for legal, accounting, advertising, marketing and other expenses incurred in connection with such Real Estate, but specifically excluding general overhead expenses of REIT and its Subsidiaries, any property management fees, in each case, in connection with such Real Estate), minus (c) excluding Real Estate which is encumbered by a Borrowing Base Loan, the greater of (i) actual property management expenses of such Real Estate, and (ii) an amount equal to three percent (3%) of the gross revenues from such Real Estate, minus (d) all rents, common area reimbursements and other income for such Real Estate received from tenants in default of payment or other material obligations under their lease (provided that the failure of the Fundamental Tenant alone to pay the deferred rent and replacement reserves relating to the Fundamental Rent Deferment and interest payable with respect thereto shall not be deemed for the purpose of this clause (d) to disqualify the other rents received from the Fundamental Tenant from inclusion in Net Operating Income so long as the Fundamental Tenant is not in default of any other payment or other material obligations under the Fundamental Master Lease and so long as the Fundamental Landlords do not otherwise declare a default under the Fundamental Lease or otherwise exercise any rights or remedies thereunder with respect to such deferred rent, reserves and interest or otherwise), or with respect to leases as to which the tenant or any guarantor thereunder is subject to any Insolvency Event; provided, however, that straight line leveling adjustments required under GAAP and amortization of deferred market rent into income pursuant to ASC 805 shall be excluded from the calculation of Net Operating Income. For the purposes of determining the Implied Debt Service Coverage Ratio, except as provided below, Net Operating Income from the Borrowing Base Properties shall be calculated on a rolling quarterly annualized basis (that is, if such Real Estate has been owned, or with respect to the Texas Ten Portfolio, leased pursuant to the Replacement Texas Ten Lease, only for one (1) full quarter, by multiplying the result for the current quarter times four (4), if such Real Estate has been owned, or with respect to the Texas Ten Portfolio, leased pursuant to the Replacement Texas Ten Lease, only for two (2) full quarters, by multiplying the results for the prior two (2) quarters by two (2); or if such Real Estate has been owned, or with respect to the Texas Ten Portfolio, leased pursuant to the Replacement Texas Ten Lease, for three (3) full quarters, by multiplying the results for the previous three (3) quarters by 4/3), and the first quarter in the calculation shall be the first full quarter of ownership or lease pursuant to the Replacement Texas Ten Lease, as applicable. Notwithstanding the foregoing, any payment received with respect to the real estate included in the Texas Ten Portfolio prior to the effectiveness of the Replacement Texas Ten Lease and not paid pursuant to the Replacement Texas Ten Lease shall not be included in the calculation of Net Operating Income. Notwithstanding the foregoing and for the avoidance of doubt, no payment of deferred rent or reserves relating to the Fundamental Rent Deferment or interest payable with respect thereto shall be included in Net Operating Income. In the instance that the Borrower or a Subsidiary Guarantor has not owned a Borrowing Base Property for at least one (1) quarter, the historic Net Operating Income shall be used. To the extent that the historic Net Operating Income is not available for any reason, Borrower may prepare a pro forma of Net Operating Income to be used for one (1) quarter until actual results for such quarter are available, such proforma to be approved by Agent.
Swing Loan Commitment. An amount equal to Twelve Million Five Hundred Thousand and No/100 Dollars ($12,500,000.00), as the same may be changed from time to time in accordance with the terms of this Agreement.
Texas Ten Portfolio. The portfolio of ten (10) skilled nursing facilities located in the State of Texas, which are owned by Subsidiary Guarantors and leased pursuant to the Replacement Texas Ten Lease.
Total Commitment. The sum of the Commitments of the Lenders, as in effect from time to time. As of the Third Amendment Effective Date, the Total Commitment is Three Hundred Million and No/100 Dollars ($300,000,000.00), and is subject to increase in §2.11.
Total Revolving Credit Commitment. The sum of the Revolving Credit Commitments of the Revolving Credit Lenders, as in effect from time to time. As of the Third Amendment Effective Date, the Total Revolving Credit Commitment is One Hundred Seventy-Five Million and No/100 Dollars ($175,000,000.00). The Total Revolving Credit Commitment may increase in accordance with §2.11.”
(c) By deleting in its entirety §2.9 of the Credit Agreement, and inserting in lieu thereof the following:
“§2.9 Use of Proceeds. The Borrower will use the proceeds of the Loans solely for the uses and in the amounts described in Schedule 2.9 hereto (which may be to reimburse Borrower or its Subsidiaries for costs previously paid towards such remaining costs), subject to the terms and conditions of this Agreement, and except as provided above in this sentence or with respect to refinancing of Swing Loans made for a purpose permitted under this §2.9 there shall be no additional advances of proceeds of the Loans without the approval of the Required Lenders. The Borrower shall identify and certify in each Loan Request the purposes shown on Schedule 2.9 for which such proceeds shall be used and the aggregate amount of each permitted use that has been used (including the requested advance) and the amount remaining.”
(d) By inserting the following as §3.2(f) of the Credit Agreement:
“(f) In the event there shall have occurred any voluntary or involuntary payment or prepayment of principal of any Medistar Note, or any other event (including, without limitation, a casualty to or condemnation of a property securing or relating to a Medistar Note) resulting in a prepayment of any Medistar Note, or any other recovery or monetary return by or for Borrower or a Subsidiary of Borrower, whether directly or otherwise, with respect to any Medistar Note, Borrower shall, within two (2) Business Days of receipt of such payment, prepayment, recovery or other return, pay the amount thereof to the Agent for the account of the Lenders for application to the Loans as provided in §3.4, together with any additional amounts payable pursuant to §4.7.”
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(e) By deleting the word “and” appearing at the end of §7.4(n) of the Credit Agreement, by renumbering §7.4(o) of the Credit Agreement as §7.4(p) of the Credit Agreement, and by inserting the following as §7.4(o) of the Credit Agreement:
“(o) Within ten (10) days of the end of each calendar month, a statement certified by the chief financial officer of the REIT of the outstanding principal balance of each Medistar Note as of the end of the preceding calendar month, and whether any payment, prepayment, or other recovery or return described in §3.2(f) with respect to any Medistar Note occurred in the preceding calendar month; and”
(f) By deleting in its entirety §8.7(a) of the Credit Agreement and inserting in lieu thereof the following:
“(a) The Borrower shall not pay any Distribution to the partners, members or other owners of the Borrower, and General Partner and REIT shall not pay any Distribution to their partners, members or other owners, to the extent that the aggregate amount of such Distributions paid, when added to the aggregate amount of all other Distributions paid in any period of four (4) consecutive calendar quarters, exceeds ninety-five percent (95%) of such Person’s Funds from Operations for such period (provided that the period of measurement shall commence January 1, 2017 and such test in this §8.7(a) shall be tested by annualizing the results from such quarter until four (4) consecutive calendar quarters thereafter have elapsed); provided that the limitations contained in this §8.7(a) shall not preclude Distributions in an amount equal to the minimum distributions required under the Code to maintain the REIT Status of REIT, as evidenced by a certification of the principal financial or accounting officer of REIT containing calculations in detail reasonably satisfactory in form and substance to the Agent. Notwithstanding the foregoing, the Borrower, the General Partner and the REIT shall not declare or pay any Distributions on or prior to June 30, 2019, except that the Borrower, the General Partner and the REIT, subject to the other terms of this §8.7, (i) may declare (but shall not pay) Distributions relating to the fourth (4th) calendar quarter of 2018 in an amount not in excess of $0.21 per share of common stock of the REIT (the “Q4 2018 Dividend”), (ii) may pay the Distributions described in §8.7(a)(i) provided that the Distribution Conditions exist, and (iii) may declare and pay, in addition to the Q4 2018 Dividend, the “Pre-Closing Dividend”, as such term is defined in the Definitive Agreement as in effect on January 2, 2019, provided that the Distribution Conditions exist; provided further that any Q4 2018 Dividend paid on or after January 1, 2019 shall only be paid from Unrestricted Cash of the Borrower or the REIT and the payment thereof shall not violate this Agreement, any Applicable Law or the Definitive Agreement.”
(g) By inserting the following as §8.16 of the Credit Agreement:
“§8.16 Non-Encumbrance. Without implying any limitation upon the generality of §8.2, the Borrower will not, and will not permit any other Person to, create or incur or suffer to be created or incurred or to exist (a) any lien, encumbrance, mortgage, pledge, negative pledge, charge, restriction or other security interest of any kind upon any Medistar Note or any other document, agreement or instrument evidencing, securing or relating thereto, or (b) any
7
provision of a document, instrument or agreement (other than a Loan Document) which prohibits or purports to prohibit the creation or assumption of any Lien on any Medistar Note or any other document, agreement or instrument evidencing, securing or relating thereto, as security for the Obligations.”
(h) By inserting the following as §9.11 of the Credit Agreement:
“§9.11 Liquidity. In the event that the Borrower, General Partner or REIT shall pay any Q4 2018 Dividend on or after the Third Amendment Effective Date, the Borrower will not at any time permit the amount of its Unrestricted Cash and Cash Equivalents to be less than $2,000,000.00.”
(i) By deleting in its entirety Schedule 1.1 attached to and made a part of the Credit Agreement, and inserting in lieu thereof Schedule 1.1 attached to this Amendment.
(j) By deleting in its entirety Schedule 2.9 attached to and made a part of the Credit Agreement, and inserting in lieu thereof Schedule 2.9 attached to this Amendment.
3. Definitive Agreement. The Agent and the Lenders acknowledge that Borrower, General Partner and REIT have entered into the Definitive Agreement. Nothing herein shall be deemed a waiver of any covenant, term or other provision of the Credit Agreement or the other Loan Documents, including without limitation §8.4 of the Credit Agreement and the definition of “Change of Control.”
4. Reduction of Revolving Credit Commitment and Swing Loan Commitment. Upon the effectiveness of this Amendment, the Swing Loan Commitment, the Total Revolving Credit Commitment and the Total Commitment shall be reduced as provided in this Amendment. Each Revolving Credit Loan of a Revolving Credit Lender shall continue to be held by such Revolving Credit Lender and be evidenced by this Agreement and such Revolving Credit Lenders’ Revolving Credit Note. Exhibit A attached to this Amendment sets forth the outstanding principal balance of the Revolving Credit Loans made by each Revolving Credit Lender as of the date of this Amendment. Each Swing Loan of the Swing Loan Lender shall continue to be held by the Swing Loan Lender and evidenced by this Agreement and the Swing Loan Note. The Swing Loan Commitment of the Swing Loan Lender and the Revolving Credit Commitment of each Revolving Credit Lender shall be as set forth in this Amendment, notwithstanding that the face amount of the Swing Loan Note exceeds the Swing Loan Commitment and the face amount of each Revolving Credit Lender’s Revolving Credit Note exceeds the amount of such Revolving Credit Lender’s Revolving Credit Commitment.”
References to Loan Documents
. All references in the Loan Documents to the Credit Agreement shall be deemed a reference to the Credit Agreement as modified and amended herein.
Consent of Borrower and the Guarantors
. By execution of this Amendment, Borrower and the Guarantors hereby expressly consent to the modifications and amendments relating to the Credit Agreement as set forth herein and any other agreements executed contemporaneously herewith, and Borrower and Guarantors hereby acknowledge, represent and agree that the Credit Agreement, as modified and amended herein, and the other Loan Documents (including without limitation the Guaranty) remain in full force and effect and constitute the valid and legally binding obligation of Borrower and Guarantors, respectively, enforceable against such
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Persons in accordance with their respective terms, and that the Guaranty extends to and applies to the foregoing documents as modified and amended.
Representations
. Borrower and Guarantors represent and warrant to Agent and the Lenders as follows:
(a) Authorization
. The execution, delivery and performance of this Amendment and any other documents executed in connection herewith and the transactions contemplated hereby and thereby (i) are within the authority of Borrower and Guarantors, (ii) have been duly authorized by all necessary proceedings on the part of such Persons, (iii) do not and will not conflict with or result in any breach or contravention of any provision of law, statute, rule or regulation to which any of such Persons is subject or any judgment, order, writ, injunction, license or permit applicable to such Persons, (iv) do not and will not conflict with or constitute a default or a breach or give rise to a right of termination (whether with the passage of time or the giving of notice, or both) under any provision of the partnership agreement or certificate, certificate of formation, operating agreement, articles of incorporation or other charter documents or bylaws of, or any mortgage, indenture, agreement, contract or other instrument (including without limitation the Definitive Agreement) binding upon, any of such Persons or any of its properties or to which any of such Persons is subject, and (v) do not and will not result in or require the imposition of any lien or other encumbrance on any of the properties, assets or rights of such Persons, other than the liens and encumbrances created by the Loan Documents.
(b) Enforceability
. This Amendment and any other documents executed in connection herewith are the valid and legally binding obligations of Borrower and Guarantors enforceable in accordance with the respective terms and provisions hereof and thereof, except as enforceability is limited by bankruptcy, insolvency, reorganization, moratorium or other laws relating to or affecting generally the enforcement of creditors’ rights and the effect of general principles of equity.
(c) Approvals
. The execution, delivery and performance of this Amendment and any other documents executed in connection herewith and the transactions contemplated hereby and thereby do not require the approval or consent of or approval of any Person or the authorization, consent, approval of or any license or permit issued by, or any filing or registration with, or the giving of any notice to, any court, department, board, commission or other governmental agency or authority other than those already obtained.
(d) Reaffirmation
. After giving effect to this Amendment, each and every representation and warranty made by the Borrower, the Guarantors and their respective Subsidiaries in the Loan Documents or otherwise made by or on behalf of such Persons in connection therewith are true and correct in all material respects (subject to §1.2(m) of the Credit Agreement) as of the date hereof except for representations or warranties that expressly relate to an earlier date.
(e) Leases
. Each of the Leases relating to each Borrowing Base Property included in the calculation of Borrowing Base Availability is in full force and effect in accordance with its respective terms without any payment default or any other material default thereunder (without regard to any grace or notice and cure period), nor are there any defenses, counterclaims, offsets, concessions or rebates available to a tenant thereunder, and neither the Borrower nor any Guarantor has given or made any notice of any payment or other material default, or any claim,
9
with respect to any of the Leases, and to the best of the knowledge and belief of the Borrower, there is no basis for any such claim or notice of default by any tenant. Borrower and Guarantors have delivered to Agent copies of all notices of default delivered to any Major Tenant or Operator under a Lease or Operators’ Agreement, as applicable, with respect to a Borrowing Base Asset. Except as described in Paragraphs 4(a) and (b) of the Second Amendment, there have been no amendments, modifications, concessions or waivers (whether written or oral) of any Lease relating to a Borrowing Base Property included in the calculation of Borrowing Base Availability or Operators’ Agreement which have not been delivered to and approved by Agent.
(f) No Default
. No Default or Event of Default has occurred and is continuing or will arise or occur after the execution and delivery of this Amendment and any other documents executed in connection herewith.
Waiver of Claims
. Borrower and Guarantors acknowledge, represent and agree that Borrower and Guarantors as of the date hereof have no defenses, setoffs, claims, counterclaims or causes of action of any kind or nature whatsoever with respect to the Loan Documents, the administration or funding of the Loans or with respect to any acts or omissions of Agent or any of the Lenders, or any past or present directors, officers, agents or employees of Agent or any of the Lenders, and each of Borrower and Guarantors does hereby expressly waive, release and relinquish any and all such defenses, setoffs, claims, counterclaims and causes of action, if any.
Ratification
. Except as hereinabove set forth or in any other document previously executed or executed in connection herewith, all terms, covenants and provisions of the Credit Agreement and the other Loan Documents remain unaltered and in full force and effect, and the parties hereto do hereby expressly ratify and confirm the Credit Agreement and the other Loan Documents. Nothing in this Amendment or the other documents executed in connection herewith shall be deemed or construed to constitute, and there has not otherwise occurred, a novation, cancellation, satisfaction, release, extinguishment or substitution of the indebtedness evidenced by the Notes or the other obligations of Borrower and Guarantors under the Loan Documents (including without limitation the Guaranty). By execution of this Amendment, Borrower and Guarantors hereby acknowledge and agree that Agent and the Lenders have made no agreement, and are in no way obligated, to grant any future extension, waiver, indulgence or consent.
Counterparts
. This Amendment may be executed in any number of counterparts which shall together constitute but one and the same agreement.
Miscellaneous
. THIS AMENDMENT SHALL, PURSUANT TO NEW YORK GENERAL OBLIGATIONS LAW SECTION 5-1401, BE GOVERNED BY THE LAWS OF THE STATE OF NEW YORK. This Amendment shall be binding upon and shall inure to the benefit of the parties hereto and their respective permitted successors, successors-in-title and assigns as provided in the Credit Agreement.
Effective Date
. The effectiveness of this Amendment is subject to receipt by the Agent of each of the following, each in form and substance reasonably satisfactory to the Agent:
(a) A counterpart of this Amendment duly executed by the Borrower, Guarantors, the Required Lenders and Agent;
(b) An updated Borrowing Base Certificate and Compliance Certificate (giving effect to the amendments set forth in this Amendment);
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(c) Borrower shall have paid to Agent for the account of each Lender executing this Amendment the fees set forth in a separate letter between Borrower and the Agent;
(d) Such other certificates, documents, instruments, agreements and resolutions as the Agent may reasonably request; and
(e) The Borrower shall have paid the reasonable out-of-pocket fees and expenses of Agent in connection with this Amendment and the transactions contemplated hereby.
No Impairment
. Except as otherwise expressly provided herein, nothing herein contained shall in any way (a) impair or affect the validity and priority of the lien of the Security Documents (as defined in the Credit Agreement); (b) alter, waive, annul or affect any provision, condition or covenant in the Loan Documents; or (c) affect or impair any rights, powers or remedies under the Loan Documents. No course of dealing, forbearance, delay, omission or inaction by the Agent or the Lenders in the exercise of their rights and remedies, and no continuing performance by the Agent, the Lenders, the Borrower or the Guarantors under the Loan Documents: (x) shall constitute (i) a waiver, modification or an alteration of the terms, conditions, or covenants of any Loan Document, all of which remain in full force and effect; or (ii) a waiver, release, or limitation upon the Agent’s or the Lenders’ exercise of any of their rights and remedies thereunder or which may otherwise be available at law or in equity, or otherwise be prejudicial thereto, all of which rights and remedies are hereby expressly reserved; or (y) shall relieve or release the Borrower or any Guarantor in any way from any of their respective covenants, agreements, duties, or obligations under the Loan Documents. It is the intent of the parties hereto that all the terms and provisions of the Loan Documents shall continue in full force and effect, except as modified by this Amendment and the other documents executed and delivered herewith. Nothing in this Amendment shall be deemed or construed to constitute, and there has not otherwise occurred, a novation, cancellation, satisfaction, release, extinguishment or substitution of the indebtedness evidenced by the Notes or the other obligations of Borrower or Guarantors under the Loan Documents.
Amendment as Loan Document
. This Amendment shall constitute a Loan Document.
Final Agreement
. THIS AMENDMENT REPRESENTS THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES.
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IN WITNESS WHEREOF, the parties hereto, acting by and through their respective duly authorized officers and/or other representatives, have duly executed this Amendment, under seal, as of the day and year first above written.
BORROWER:
MEDEQUITIES REALTY OPERATING PARTNERSHIP, LP, a Delaware limited partnership
By: MedEquities OP GP, LLC, a Delaware limited liability company, its general partner
By:/s/ Jeffery C. Walraven Name: Jeffery C. Walraven Title: EVP and CFO
(SEAL)
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GUARANTORS:
MEDEQUITIES REALTY TRUST, INC., a Maryland corporation
By:/s/ Jeffery C. Walraven
Name: Jeffery C. Walraven
Title: EVP and CFO
(SEAL)
MEDEQUITIES OP GP, LLC, a Delaware limited liability company
By:/s/ Jeffery C. Walraven
Name: Jeffery C. Walraven
Title: EVP and CFO
(SEAL)
MEDEQUITIES REALTY TRS, LLC, a Delaware limited liability company
By:/s/ Jeffery C. Walraven
Name: Jeffery C. Walraven
Title: EVP and CFO
(SEAL)
[Signatures Continue On Next Page]
[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
MRT OF KENTFIELD CA – LTACH, LLC, MRT OF LAS VEGAS NV – LTACH, LLC, MRT OF SPARTANBURG SC - SNF, LLC, MRT OF BROWNSVILLE TX - MOB, LLC, MRT OF AMARILLO TX – 1ST MORTGAGE IRF, LLC, MRT OF SPRINGFIELD MA – 1ST MORTGAGE ACH, LLC, MRT OF LAKEWAY TX-ACH, LLC, MRT OF FORT WORTH TX – SNF, LLC, MRT OF LAS VEGAS NV – ACH, LLC, MRT OF LA MESA CA – SNF, LLC, MRT OF UPLAND CA – SNF/ALF, LLC, MRT OF NATIONAL CITY CA – SNF I, LLC, MRT OF NATIONAL CITY CA – SNF II, LLC, MRT OF BROWNWOOD TX - SNF, LLC, MRT OF EL PASO TX - SNF, LLC, MRT OF GRAHAM TX - SNF, LLC, MRT OF KAUFMAN TX - SNF, LLC, MRT OF KEMP TX - SNF, LLC, MRT OF KERENS TX - SNF, LLC, MRT OF LONGVIEW TX - SNF, LLC, MRT OF MT. PLEASANT TX - SNF, LLC, MRT OF SAN ANTONIO TX - SNF II, LLC, MRT OF SAN ANTONIO TX - SNF I, LLC, MRT OF SAN DIEGO CA – SNF, LLC, MRT OF HOUSTON TX – EAST FREEWAY ACH, LLC, MRT OF TOLLAND CT – SNF, LLC, MRT OF BROOKVILLE IN – SNF, LLC, MRT OF LIBERTY IN – SNF, LLC, MRT OF TEXAS - ATF, LLC, MRT OF NEVADA - ATF, LLC, MRT OF NEW ALBANY IN - IRF, LLC, MRT OF BOISE ID-IPH, LLC, and MRT OF ANDERSONVILLE TN - PRTF, LLC, each a Delaware limited liability company
By: /s/ Jeffery C. Walraven Name: Jeffery C. Walraven Title: EVP and CFO
(SEAL)
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[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
LENDERS:
KEYBANK NATIONAL ASSOCIATION, individually and as Agent
/s/ Grant Saunders Name: Grant Saunders Title: Senior Vice President
By: /s/ Grant Saunders Name: Grant Saunders Title: Senior Vice President
JPMORGAN CHASE BANK, N.A. By: /s/ Nadeige Dang
Name: Nadeige Dang
Title: Executive Director
CITIBANK, N.A.
By:/s/ David Bouton
Name: David Bouton
Title: Authorized Signatory
CAPITAL ONE, NATIONAL ASSOCIATION
By: /s/ Katarzyna Dobrzanska
Name: Katarzyna Dobrzanska
Title: Duly Authorized Signatory
FIFTH THIRD BANK, an Ohio banking corporation
By:
Name:
Title:
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[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
CADENCE BANK, N.A.
By: /s/Will Donnelly
Name: Will Donnelly
Title: Assistant Vice President
CITIZENS BANK, N.A.
By: /s/ Frank Kaplan Name: Frank Kaplan Title: Vice President
ROYAL BANK OF CANADA
By: /s/ William Behuniak
Name: William Behuniak
Title: Authorized Signatory
RAYMOND JAMES BANK, N.A.
By: /s/ H. Fred Coble, Jr. Name: H. Fred Coble, Jr. Title: Managing Director
PINNACLE BANK
By: /s/ Allison H. Jones
Name: Allison H. Jones
Title: Senior Vice President
RENASANT BANK
By: /s/ Craig Gardella Name: Craig Gardella Title: EVP
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[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
HANCOCK WHITNEY BANK (formerly known as Whitney Bank dba Hancock Bank)
By: /s/ Brian Wille
Name: Brian Wille
Title: Senior Vice President
CAPSTAR BANK
By: /s/ David A. Bertani
Name: David A. Bertani
Title: SVP, Healthcare Group
[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
SCHEDULE 1.1
LENDERS AND COMMITMENTS
REVOLVING CREDIT COMMITMENT
Revolving Credit Revolving Credit Commitment Name and Address Commitment Percentage
KeyBank National Association $23,333,333.46 13.3333334057% 4211 W. Boy Scout Boulevard, Suite 570 Tampa, Florida 33607 Attention: Grant Saunders Telephone: (813) 313-5516 Facsimile: (813) 313-5555 LIBOR Lending Office: Same as Above JPMorgan Chase Bank, N.A. $23,333,333.46 13.3333334057% 383 Madison Avenue, Floor 24 New York, New York 10179 Attention: Linna Zhang Telephone: (212) 622-2332 Facsimile: ______
LIBOR Lending Office: Same as Above
CitiBank, N.A. $23,333,333.06 13.3333331771% 388 Greenwich Street, 6th Floor New York, New York 10013 Attention: Stephanie Liu Telephone: (212) 723-4195 Facsimile: (646) 291-5422 LIBOR Lending Office: Same as Above
Capital One, National Association1 $20,588,235.30 11.7647058857% 77 W. Wacker Drive, 10th Floor Chicago, Illinois 60601 Attention: Jeffrey Muchmore Telephone: ______Facsimile: (855) 332-1699
1 Notices of a legal nature to Capital One, National Association shall also be delivered to: Capital One, National Association 5804 Trailridge Drive Austin, Texas 78731 Attention: Diana Pennington, Senior Director, Associate General Counsel Reference: MedEquities Realty Trust Facsimile: (855) 438-1132
With a copy to:
Capital One, National Association Two Bethesda Metro Center, Suite 600 Bethesda, Maryland 20814 Attention: Scott Rossbach, Senior Director Reference: MedEquities Realty Trust Facsimile: (855) 717-8092
[Signature Page to Third Amendment to Second Amended and Restated Credit Agreement–KeyBank/MedEquities]
Revolving Credit Revolving Credit Commitment Name and Address Commitment Percentage
LIBOR Lending Office: Same as Above
Fifth Third Bank $14,411,764.70 8.2352941143% 424 Church Street, 5th Floor Nashville, Tennessee 37219 Attention: Vera McEvoy Telephone: (615) 687-8028 Facsimile: (615) 687-3067 LIBOR Lending Office: Same as Above Citizens Bank, N.A. $12,352,941.18 7.0588235314% 28 State Street Boston, Massachusetts 02109 Attention: Craig Aframe Telephone: (617) 725-5707 Facsimile: (216) 277-7106 LIBOR Lending Office: Same as Above Raymond James Bank, N.A. $12,352,941.18 7.0588235314% 710 Carillon Parkway St. Petersburg, Florida 33733 Attention: James Armstrong Telephone: (727) 567-7919 Facsimile: (866) 205-1396
LIBOR Lending Office: Same as Above
Schedule 1.1 – Page 1 110012211\V-6
Revolving Credit Revolving Credit Commitment Name and Address Commitment Percentage
Royal Bank of Canada $12,352,941.18 7.0588235314% Global Loans Administration 20 King Street West, 4th Floor Toronto, Ontario, Canada Attention: Manager, Loans Administration Telephone: (212) 428-6343 Facsimile: (212) 428-2372 LIBOR Lending Office: Same as Above Cadence Bank, N.A. $10,294,117.64 5.8823529371% 102 Woodmont Boulevard, Suite 243 Nashville, Tennessee 37205 Attention: Drew Healy Telephone: (615) 345-0209 Facsimile: (205) 488-3320
LIBOR Lending Office: Same as Above Whitney Bank dba Hancock Bank $8,235,294.12 4.7058823543% 12 Cadillac Drive, Suite 180 Brentwood, Tennessee 37207 Attention: Brian Wille Telephone: (615) 823-1866 Facsimile: (615) 373-3990
LIBOR Lending Office: Same as Above Pinnacle Bank $5,352,941.18 3.0588235314% 150 Third Avenue S., Suite 800 Nashville, Tennessee 37203 Attention: Allison Jones Telephone: (615) 743-6051 Facsimile: (615) 743-6151 LIBOR Lending Office: Same as Above CapStar Bank $4,941,176.48 2.8235294171% 201 4th Avenue North, Suite 950 Nashville, Tennessee 37219 Attention: Mark D. Mattson Telephone: (615) 732-6414 Facsimile: (615) 732-6415 LIBOR Lending Office: Same as Above
Schedule 1.1 – Page 2 110012211\V-6
Revolving Credit Revolving Credit Commitment Name and Address Commitment Percentage
Renasant Bank $4,117,647.06 2.3529411771% 1820 West End Avenue Nashville, Tennessee 37203 Attention: Craig Gardella Telephone: (615) 234-1625 Facsimile: (615) 340-3027 LIBOR Lending Office: Same as Above
TOTAL $175,000,000.00 100% * Percentages may not add to 100% due to rounding.
Schedule 1.1 – Page 3 110012211\V-6
LENDERS AND COMMITMENTS
TERM LOAN A COMMITMENT
Term Loan A Commitment Term Loan A Commitment Percentage Name and Address
KeyBank National Association $16,666,666.77 13.3333334160% 4211 W. Boy Scout Boulevard, Suite 570 Tampa, Florida 33607 Attention: Grant Saunders Telephone: (813) 313-5516 Facsimile: (813) 313-5555 LIBOR Lending Office: Same as Above JPMorgan Chase Bank, N.A. $16,666,666.77 13.3333334160% 383 Madison Avenue, Floor 24 New York, New York 10179 Attention: Linna Zhang Telephone: (212) 622-2332 Facsimile: ______
LIBOR Lending Office: Same as Above
CitiBank, N.A. $16,666,666.47 13.3333331760% 388 Greenwich Street, 6th Floor New York, New York 10013 Attention: Stephanie Liu Telephone: (212) 723-4195 Facsimile: (646) 291-5422 LIBOR Lending Office: Same as Above
2 Notices of a legal nature to Capital One, National Association shall also be delivered to: Capital One, National Association 5804 Trailridge Drive Austin, Texas 78731 Attention: Diana Pennington, Senior Director, Associate General Counsel Reference: MedEquities Realty Trust Facsimile: (855) 438-1132
With a copy to:
Capital One, National Association Two Bethesda Metro Center, Suite 600 Bethesda, Maryland 20814 Attention: Scott Rossbach, Senior Director Reference: MedEquities Realty Trust Facsimile: (855) 717-8092
Schedule 1.1 – Page 4 110012211\V-6
Term Loan A Commitment Term Loan A Commitment Percentage Name and Address
Capital One, National Association2 $14,705,882.35 11.7647058800% 77 W. Wacker Drive, 10th Floor Chicago, Illinois 60601 Attention: Jeffrey Muchmore Telephone: ______Facsimile: (855) 332-1699
LIBOR Lending Office: Same as Above
Fifth Third Bank $10,294,117.65 8.2352941200% 424 Church Street, 5th Floor Nashville, Tennessee 37219 Attention: Vera McEvoy Telephone: (615) 687-8028 Facsimile: (615) 687-3067 LIBOR Lending Office: Same as Above Citizens Bank, N.A. $8,823,529.41 7.0588235280% 28 State Street Boston, Massachusetts 02109 Attention: Craig Aframe Telephone: (617) 725-5707 Facsimile: (216) 277-7106 LIBOR Lending Office: Same as Above Raymond James Bank, N.A. $8,823,529.41 7.0588235280% 710 Carillon Parkway St. Petersburg, Florida 33733 Attention: James Armstrong Telephone: (727) 567-7919 Facsimile: (866) 205-1396
LIBOR Lending Office: Same as Above
Schedule 1.1 – Page 5 110012211\V-6
Term Loan A Commitment Term Loan A Commitment Percentage Name and Address
Royal Bank of Canada $8,823,529.41 7.0588235280% Global Loans Administration 20 King Street West, 4th Floor Toronto, Ontario, Canada Attention: Manager, Loans Administration Telephone: (212) 428-6343 Facsimile: (212) 428-2372 LIBOR Lending Office: Same as Above Cadence Bank, N.A. $7,352,941.18 5.8823529440% 102 Woodmont Boulevard, Suite 243 Nashville, Tennessee 37205 Attention: Drew Healy Telephone: (615) 345-0209 Facsimile: (205) 488-3320
LIBOR Lending Office: Same as Above Whitney Bank dba Hancock Bank $5,882,352.94 4.7058823520% 12 Cadillac Drive, Suite 180 Brentwood, Tennessee 37207 Attention: Brian Wille Telephone: (615) 823-1866 Facsimile: (615) 373-3990
LIBOR Lending Office: Same as Above Pinnacle Bank $3,823,529.41 3.0588235280% 150 Third Avenue S., Suite 800 Nashville, Tennessee 37203 Attention: Allison Jones Telephone: (615) 743-6051 Facsimile: (615) 743-6151 LIBOR Lending Office: Same as Above CapStar Bank $3,529,411.76 2.8235294080% 201 4th Avenue North, Suite 950 Nashville, Tennessee 37219 Attention: Mark D. Mattson Telephone: (615) 732-6414 Facsimile: (615) 732-6415
Schedule 1.1 – Page 6 110012211\V-6
Term Loan A Commitment Term Loan A Commitment Percentage Name and Address
LIBOR Lending Office: Same as Above Renasant Bank $2,941,176.47 2.3529411760% 1820 West End Avenue Nashville, Tennessee 37203 Attention: Craig Gardella Telephone: (615) 234-1625 Facsimile: (615) 340-3027 LIBOR Lending Office: Same as Above
TOTAL $125,000,000.00 100%
* Percentages may not add to 100% due to rounding.
Schedule 1.1 – Page 7 110012211\V-6
LENDERS AND COMMITMENTS
TERM LOAN B COMMITMENT
Name and Address Term Loan B Term Loan B Commitment Commitment Percentage
TOTAL $00.00 N/A
Schedule 1.1 – Page 8 110012211\V-6
LENDERS AND COMMITMENTS
TOTAL COMMITMENT
Total Commitment Name Total Commitment Percentage
KeyBank National Association $40,000,000.23 13.3333334100%
JPMorgan Chase Bank, N.A. $40,000,000.23 13.3333334100%
CitiBank, N.A. $39,999,999.53 13.3333331767%
Capital One, National Association $35,294,117.65 11.7647058833%
Fifth Third Bank $24,705,882.35 8.2352941167%
Citizens Bank, N.A. $21,176,470.59 7.0588235300%
Raymond James Bank, N.A. $21,176,470.59 7.0588235300%
Royal Bank of Canada $21,176,470.59 7.0588235300%
Cadence Bank, N.A. $17,647,058.82 5.8823529400%
Whitney Bank dba Hancock Bank $14,117,647.06 4.7058823533%
Pinnacle Bank $9,176,470.59 3.0588235300%
CapStar Bank $8,470,588.24 2.8235294133%
Renasant Bank $7,058,823.53 2.3529411767%
TOTAL $300,000,000.00 100% *Percentages may not add to 100% due to rounding.
Schedule 1.1 – Page 9 110012211\V-6
SCHEDULE 2.9
PERMITTED USES OF LOANS
Projected Facility Funding Events for MedEquities Realty Trust, Inc.
Maximum Amount
Haven Healthcare construction mortgage note receivable remaining funding $4,666,584.00
Fundamental Mountain’s Edge Hospital remaining funding for expansion $5,675,163.00
Total $10,341,747.00
Schedule 1.1 – Page 10 110012211\V-6
EXHIBIT A
REVOLVING CREDIT LOAN BALANCES
Name Revolving Credit Loan Balance
KeyBank National Association $20,506,666.78
JPMorgan Chase Bank, N.A. $20,506,666.78
CitiBank, N.A. $20,506,666.43
Capital One, National Association $18,094,117.65
Fifth Third Bank $12,665,882.35
Citizens Bank, N.A. $10,856,470.59
Raymond James Bank, N.A. $10,856,470.59
Royal Bank of Canada $10,856,470.59
Cadence Bank, N.A. $9,047,058.82
Whitney Bank dba Hancock Bank $7,237,647.06
Pinnacle Bank $4,704,470.59
CapStar Bank $4,342,588.24
Renasant Bank $3,618,823.53
TOTAL $153,800,000.00
Schedule 2.9 – Page 1 110012211\V-6
(Back To Top)
Section 5: EX-21.1 (EX-21.1)
Exhibit 21.1 SUBSIDIARIES OF MEDEQUITIES REALTY TRUST, INC.
Name State or Jurisdiction of Organization MedEquities Realty Operating Partnership, LP Delaware MedEquities OP GP, LLC Delaware MedEquities Realty TRS, LLC Delaware MRT of Spartanburg SC – SNF, LLC Delaware MRT of Las Vegas NV – LTACH, LLC Delaware MRT of Las Vegas NV – ACH, LLC Delaware MRT of Kentfield CA – LTACH, LLC Delaware MRT of Amarillo TX – 1st Mortgage IRF, LLC Delaware MRT of Springfield MA – 1st Mortgage ACH, LLC Delaware MRT of Brownsville TX – MOB, LLC Delaware MRT of Lakeway TX – ACH, LLC Delaware MRT of Fort Worth TX – SNF, LLC Delaware MRT of La Mesa CA – SNF, LLC Delaware MRT of National City CA – SNF I, LLC Delaware MRT of National City CA – SNF II, LLC Delaware MRT of Upland CA – SNF/ALF, LLC Delaware MRT of San Diego CA – SNF, LLC Delaware MRT of San Antonio TX – SNF I, LLC Delaware MRT of San Antonio TX – SNF II, LLC Delaware MRT of Graham TX – SNF, LLC Delaware MRT of Kemp TX – SNF, LLC Delaware MRT of Kerens TX – SNF, LLC Delaware MRT of Brownwood TX – SNF, LLC Delaware MRT of El Paso TX – SNF, LLC Delaware MRT of Kaufman TX – SNF, LLC Delaware MRT of Longview TX – SNF, LLC Delaware MRT of Mt. Pleasant TX – SNF, LLC Delaware MRT of Houston, TX- East Freeway ACH, LLC Delaware MRT of Tolland CT- SNF, LLC Delaware MRT of Nevada – ATF, LLC Delaware MRT of Texas- ATF, LLC Delaware MRT of Brookville IN – SNF, LLC Delaware MRT of Liberty IN – SNF, LLC Delaware MRT of Webster TX – IMF, LLC Delaware MRT of Andersonville TN – PRTF, LLC Delaware MRT of Clarksville IN – IRF, LLC Delaware Lakeway Realty, LLC Delaware MRT of Boise ID– IPH, LLC Delaware MRT of Lakeway TX– MOB Unit 3B, LLC Delaware MRT of New Albany IN– IRF, LLC Delaware MRT of Stockton CA– IRF, LLC Delaware MRT of Huntington IN– SNF, LLC Delaware MRT of New Port Richey FL– MCC, LLC Delaware MRT LTACH Mortgage LLC Delaware MRT of Dallas TX – Adora Midtown, LLC Delaware
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Section 6: EX-23.1 (EX-23.1)
Exhibit 23.1
Consent of Independent Registered Public Accounting Firm
The Board of Directors MedEquities Realty Trust, Inc.:
We consent to the incorporation by reference in the registration statements (No. 333-220757 and No. 333-206519) on Form S-3 and the registration statements (No. 333-217890 and No. 333-214014) on Form S-8 of MedEquities Realty Trust, Inc. of our report dated February 25, 2019, with respect to the consolidated balance sheets of MedEquities Realty Trust, Inc. as of December 31, 2018 and 2017, and the related consolidated statements of operations, comprehensive income, equity, and cash flows for each of the years in the three-year period ended December 31, 2018, and the related notes and financial statement Schedule III, real estate and accumulated depreciation, and Schedule IV, mortgage loans receivable on real estate, (collectively, the “consolidated financial statements”), which report appears in the December 31, 2018 annual report on Form 10-K of MedEquities Realty Trust, Inc.
/s/ KPMG LLP Atlanta, Georgia February 25, 2019
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Section 7: EX-31.1 (EX-31.1)
Exhibit 31.1
CERTIFICATION PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, John W. McRoberts, certify that:
1. I have reviewed this annual report on Form 10-K of the registrant, MedEquities Realty Trust, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: February 25, 2019 By: /s/ John W. McRoberts John W. McRoberts Chief Executive Officer
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Section 8: EX-31.2 (EX-31.2)
Exhibit 31.2
CERTIFICATION PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Jeffery C. Walraven, certify that:
1. I have reviewed this annual report on Form 10-K of the registrant, MedEquities Realty Trust, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: February 25, 2019 By: /s/ Jeffery C. Walraven Jeffery C. Walraven Executive Vice President and Chief Financial Officer
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Section 9: EX-32.1 (EX-32.1)
Exhibit 32.1
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Each of the undersigned hereby certifies, for the purposes of 18 U.S.C. Section 1350, as added by Section 906 of the Sarbanes-Oxley Act of 2002, that, to the undersigned’s best knowledge and belief, the Annual Report on Form 10-K of MedEquities Realty Trust, Inc. (“Company”) for the year ended December 31, 2018 as filed with the Securities and Exchange Commission on the date hereof (the “Report”):
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
Date: February 25, 2019 By: /s/ John W. McRoberts John W. McRoberts Chief Executive Officer
By: /s/ Jeffery C. Walraven Jeffery C. Walraven Executive Vice President and Chief Financial Officer
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