Finance Receivables

6 Months Ended

Jun. 30, 2020

Assets representing rights to receive money on demand or at fixed or determinable dates are referred to as finance receivables. Our finance receivables portfolio consists of our Net investments in direct financing leases (net of allowance for credit losses), loans receivable, and deferred acquisition fees. Operating leases are not included in finance receivables.

Net Investments in Direct Financing Leases

Net investments in direct financing leases is summarized as follows (in thousands):



	June 30, 2020			December 31, 2019
Lease payments receivable	$	547,795		$	686,149
Unguaranteed residual value	710,429			828,206
	1,258,224			1,514,355
Less: unearned income	(494,777		)	(617,806		)
Less: allowance for credit losses ^(a)	(10,817		)	—
	$	752,630		$	896,549

__________

(a)

In accordance with ASU 2016-13 (Note 2), we applied changes in loss reserves through a cumulative-effect adjustment to retained earnings totaling $14.8 million. During the six months ended June 30, 2020, we recorded a net allowance for credit losses of $1.9 million due to changes in expected economic conditions, which was included within Other gains and (losses) in our consolidated statements of income. In addition, during the six months ended June 30, 2020, we reduced the allowance for credit losses balance by $5.9 million, in connection with the reclassification of certain properties from Net investments in direct financing leases to Land, buildings and improvements subject to operating leases, as described below.

Interest income from direct financing leases, which was included in Lease revenues in the consolidated financial statements, was $18.8 million and $25.4 million for the three months ended June 30, 2020 and 2019, respectively, and $38.9 million and $52.0 million for the six months ended June 30, 2020 and 2019, respectively.

During the six months ended June 30, 2020, we reclassified 53 properties with an aggregate carrying value of $118.5 million from Net investments in direct financing leases to Land, buildings and improvements subject to operating leases in connection with changes in lease classifications due to modifications of the underlying leases (Note 4). During the six months ended June 30, 2020, we sold one property accounted for as a direct financing lease that had a net carrying value of $0.3 million. During the six months ended June 30, 2020, the U.S. dollar strengthened against the euro, resulting in a $6.3 million decrease in the carrying value of Net investments in direct financing leases from December 31, 2019 to June 30, 2020.

Loans Receivable

At December 31, 2019, we had two loans receivable related to a domestic investment with an aggregate carrying value of $47.7 million. In March 2020, one of these loans was partially repaid to us for $11.0 million. Our loans receivable are included in Other assets, net in the consolidated financial statements and had a carrying value of $36.7 million at June 30, 2020. Earnings from our loans receivable are included in Lease termination income and other in the consolidated financial statements, and totaled $1.7 million for the three months ended June 30, 2019, and $1.0 million and $3.4 million for the six months ended June 30, 2020 and 2019, respectively. We did not recognize income from our loans receivable during the three months ended June 30, 2020, since such income was deemed uncollectible as a result of COVID-19 (Note 2).

Credit Quality of Finance Receivables

We generally invest in facilities that we believe are critical to a tenant’s business and therefore have a lower risk of tenant default. At both June 30, 2020 and December 31, 2019, no material balances of our finance receivables were past due. Other than the lease modifications noted under Net Investments in Direct Financing Leases above, there were no material modifications of finance receivables during the six months ended June 30, 2020.

We evaluate the credit quality of our finance receivables utilizing an internal five-point credit rating scale, with one representing the highest credit quality and five representing the lowest. A credit quality of one through three indicates a range of investment grade to stable. A credit quality of four through five indicates a range of inclusion on the watch list to risk of default. The credit quality evaluation of our finance receivables is updated quarterly. We believe the credit quality of our deferred acquisition fees receivable falls under category one, as CPA:18 – Global is expected to have the available cash to make such payments (Note 3).

A summary of our finance receivables by internal credit quality rating, excluding our deferred acquisition fees receivable, is as follows (dollars in thousands):



	Number of Tenants / Obligors at		Carrying Value at
Internal Credit Quality Indicator	June 30, 2020	December 31, 2019	June 30, 2020		December 31, 2019
1 – 3	19	28	$	605,740	$	798,108
4	11	8	157,707		146,178
5	2	—	36,737		—
			$	800,184	$	944,286