3. Real Estate and Lending Activities

Acquisitions

We acquired the following assets (in thousands):

	For the Nine Months Ended September 30,
	2018			2017
Assets Acquired
Land and land improvements	$	57,452		$	220,864
Building		467,164			928,687
Intangible lease assets — subject to amortization (weighted average useful life 27.8 years for 2018 and 27.2 years for 2017)		60,277			162,946
Net investments in direct financing leases		-			40,450
Other loans		336,458			-
Mortgage loans		-			700,000
Equity investments		245,267			100,000
Liabilities assumed		-			(878	)
Total assets acquired	$	1,166,618		$	2,152,069
Loans repaid		(525,426	)		-
Total net assets acquired	$	641,192		$	2,152,069

2018 Activity

Joint Venture Transaction

On August 31, 2018, we completed a joint venture arrangement with Primotop Holdings S.à.r.l. (“Primotop”) pursuant to which we contributed 71 of our post-acute hospitals in Germany, with an aggregate fair value of €1.635 billion, for a 50% interest, while Primotop contributed cash for its 50% interest in the joint venture. As part of the transaction, we received an aggregate amount of approximately €1.14 billion, from the proceeds of the cash contributed by Primotop and the secured debt financing placed on the joint venture’s real estate (as more fully discussed in Note 4), and we recognized an approximate €500 million gain on sale. Our interest in the joint venture is made up of a 50% equity investment valued at approximately €211 million (included in “Other assets” on the condensed consolidated balance sheets), which is being accounted for under the equity method of accounting, and a €290 million shareholder loan (with terms identical to Primotop’s shareholder loan).

Other Transactions

On August 31, 2018, we acquired an acute care facility in Pasco, Washington for $17.5 million. The property is leased to RCCH Healthcare Partners (“RCCH”), pursuant to the existing long-term master lease entered into with RCCH in April 2016.

On August 28, 2018, we acquired three inpatient rehabilitation hospitals in Germany for €17.3 million (including real estate transfer taxes). These hospitals are part of a four-hospital portfolio that we agreed to purchase for an aggregate amount of €23 million (including real estate transfer taxes). The final property is expected to close in the fourth quarter of 2018. The properties are leased to affiliates of Median Kliniken S.à.r.l. (“MEDIAN”), pursuant to a new 27-year master lease with annual escalators at the greater of 1% or 70% of the change in German consumer price index (“CPI”).

During the second and third quarters of 2018, we acquired the fee simple real estate of four general acute care hospitals, three of which are located in Massachusetts and one located in Texas, from Steward Health Care System LLC (“Steward”) in exchange for the reduction of $525.4 million of mortgage loans made to Steward in October 2016 and March 2018, along with additional cash consideration. These properties are being leased to Steward pursuant to the original master lease from October 2016 that had an initial 15-year term with three five-year extension options, plus CPI increases.

2017 Activity

Steward Transactions

On September 29, 2017, we acquired from IASIS Healthcare LLC (“IASIS”) a portfolio of ten acute care hospitals and one behavioral health facility, along with ancillary land and buildings, that are located in Arizona, Utah, Texas, and Arkansas. The portfolio is now operated by Steward, which separately completed its acquisition of IASIS on September 29, 2017. Our investment in the portfolio included the acquisition of eight acute care hospitals and one behavioral health facility for approximately $700 million, the origination of $700 million in mortgage loans on two acute care hospitals, and a $100 million minority equity contribution in Steward, for a combined investment of approximately $1.5 billion. The nine facilities acquired are being leased to Steward pursuant to the original long-term master lease agreement entered into in October 2016. The initial term, extension options, and interest rate of the mortgage loans are substantially similar to the initial term, renewal options, and lease rate of the master lease.

On May 1, 2017, we acquired eight hospitals previously affiliated with Community Health Systems, Inc. in Florida, Ohio, and Pennsylvania for an aggregate purchase price of $301.3 million. These facilities are leased to Steward, pursuant to the original long-term master lease entered into in October 2016.

MEDIAN Transactions

During the third quarter of 2017, we acquired two rehabilitation hospitals in Germany for an aggregate purchase price of €39.2 million, in addition to 11 rehabilitation hospitals in Germany that we acquired in the second quarter of 2017 for an aggregate purchase price of €127 million. These 13 properties are leased to MEDIAN, pursuant to a third master lease that has a fixed term ending in August 2043 with annual escalators at the greater of 1% or 70% of the change in German CPI. These acquisitions are the final properties of the portfolio of 20 properties in Germany that we agreed to acquire in July 2016 for €215.7 million, of which seven properties totaling €49.5 million closed in December 2016.

On June 22, 2017, we acquired an acute care hospital in Germany for a purchase price of €19.4 million. This property is leased to MEDIAN pursuant to the original master lease agreement effective in 2015 and expiring December 2042 with annual escalators at the greater of 1% or 70% of the change in German CPI.

On January 30, 2017, we acquired an inpatient rehabilitation hospital in Germany for €8.4 million. This acquisition was the final property to close as part of the six hospital portfolio that we agreed to acquire in September 2016 for an aggregate amount of €44.1 million. This property is leased to MEDIAN, pursuant to the original long-term master lease agreement reached with MEDIAN in 2015 and as described above.

Other Transactions

On June 1, 2017, we acquired the real estate assets of Ohio Valley Medical Center, a 218-bed acute care hospital located in Wheeling, West Virginia, and the East Ohio Regional Hospital, a 139-bed acute care hospital in Martins Ferry, Ohio, from Ohio Valley Health Services, a not-for-profit entity in West Virginia, for an aggregate purchase price of approximately $40 million. We simultaneously leased the facilities to Alecto Healthcare Services LLC (“Alecto”), pursuant to a lease with a 15-year initial term with 2% annual minimum rent increases and three 5-year extension options. The facilities are cross-defaulted and cross-collateralized with our other hospitals operated by Alecto. With these acquisitions, we also obtained a 20% interest in the operator of these facilities.

On May 1, 2017, we acquired the real estate of St. Joseph Regional Medical Center, a 145-bed acute care hospital in Lewiston, Idaho for $87.5 million. This facility is leased to RCCH, pursuant to the existing long-term master lease entered into with RCCH in April 2016.

From the respective acquisition dates, the properties acquired in 2017 contributed $16.7 million of revenue and $12.7 million of income (excluding related acquisition expenses and taxes) for the three months ended September 30, 2017, and $25.1 million of revenue and $18.8 million of income (excluding related acquisition expenses and taxes) for the nine months ended September 30, 2017. In addition, we expensed $5.4 million and $15.6 million of acquisition-related costs on these 2017 acquisitions for the three and nine months ended September 30, 2017, respectively.

Development Activities

During the first nine months of 2018, we completed the construction on Ernest Flagstaff. This $25.5 million inpatient rehabilitation facility located in Flagstaff, Arizona opened on March 1, 2018 and is being leased to Ernest pursuant to a stand-alone lease, with terms similar to the original master lease.

See table below for a status update on our current development projects (in thousands):

Property	Commitment		Costs Incurred as of September 30, 2018		Estimated Rent Commencement Date
Circle Health (Birmingham, England)	$	44,228	$	24,113	1Q 2019
Circle Health Rehabilitation (Birmingham, England)		21,973		5,304	3Q 2019
Surgery Partners (Idaho Falls, Idaho)		113,468		30,379	1Q 2020
	$	179,669	$	59,796

Disposals

2018 Activity

On August 31, 2018, we completed the previously described joint venture arrangement with Primotop, in which we contributed the real estate of 71 of our post-acute hospitals in Germany, with a fair value of approximately €1.635 billion, resulting in a gain of approximately €500 million. See “Acquisitions” in this Note 3 for further details on this transaction.

On August 31, 2018, we sold a general acute care hospital located in Houston, Texas that was leased and operated by North Cypress for $148 million. The transaction resulted in a gain on sale of $102.4 million, which was partially offset by a net $2.5 million non-cash charge to revenue to write-off related straight-line rent receivables.

On June 4, 2018, we sold three long-term acute care hospitals located in California, Texas, and Oregon, that were leased and operated by Vibra Healthcare, LLC (“Vibra”), which included our equity investment in operations of the Texas facility. Total proceeds from the transaction were $53.3 million in cash, a mortgage loan in the amount of $18.3 million, and a $1.5 million working capital loan. The transaction resulted in a gain on real estate of $24.2 million, which was partially offset by a $5.1 million non-cash charge to revenue to write-off related straight-line rent receivables.

On March 1, 2018, we sold the real estate of St. Joseph Medical Center in Houston, Texas, for approximately $148 million to Steward. In return, we received a mortgage loan equal to the purchase price, with such loan secured by the underlying real estate. The mortgage loan had terms consistent with the other mortgage loans in the Steward portfolio. This transaction resulted in a gain of $1.5 million, offset by a $1.7 million non-cash charge to revenue to write-off related straight-line rent receivables on this property.

2017 Activity

On March 31, 2017, we sold the EASTAR Health System real estate located in Muskogee, Oklahoma, which was leased to RCCH. Total proceeds from this transaction were approximately $64 million, resulting in a gain of $7.4 million, partially offset by a $0.6 million non-cash charge to revenue to write-off related straight-line rent receivables on this property.

Summary of Operations for Disposed Assets in 2018

The properties sold during 2018 do not meet the definition of discontinued operations. However, the following represents the operating results from these properties (excluding the St. Joseph sale in March 2018) for the periods presented (in thousands):

	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2018			2017			2018			2017
Revenues(1)	$	20,115		$	35,846		$	88,838		$	95,320
Real estate depreciation and amortization(2)		(237	)		(8,786	)		(15,849	)		(23,092	)
Property-related expenses		(265	)		(388	)		(531	)		(394	)
Other(3)		692,362			(3,303	)		715,246			(11,211	)
Income from real estate dispositions, net	$	711,975		$	23,369		$	787,704		$	60,623

(1)

Includes $2.5 million and $7.6 million of straight-line rent and other write-offs associated with the disposal transactions for the three and nine months ended September 30, 2018, respectively.

(2)

Lower in 2018 as we stopped depreciation on properties once deemed held for sale, such as with the 71 properties on June 30, 2018.

(3)

Includes $695.2 million of gains on sale for the three months ended September 30, 2018 and $719.4 million for the nine months ended September 30, 2018.

Leasing Operations

At September 30, 2018, leases on 14 Ernest facilities, ten Prime Healthcare Services, Inc. (“Prime”) facilities, and two Alecto facilities are accounted for as direct financing leases (“DFLs”). The components of our net investment in DFLs consisted of the following (in thousands):

	As of September 30, 2018			As of December 31, 2017
Minimum lease payments receivable	$	2,190,840		$	2,294,081
Estimated residual values		434,769			448,339
Less: Unearned income		(1,934,712	)		(2,043,693	)
Net investment in direct financing leases	$	690,897		$	698,727

On March 15, 2018, we entered into a new lease agreement of our long-term acute care facility in Boise, Idaho with a joint venture formed by Vibra and Ernest. The new lease has an initial 15-year fixed term (ending March 2033) with three extension options of five years each. With this transaction, we incurred a non-cash charge of $1.5 million to write-off DFL unbilled interest associated with the previous lease to Ernest on this property.

Adeptus Health – Transition Properties

As noted in previous filings, we have 16 properties transitioning away from Adeptus Health in stages over a two year period as part of Adeptus Health’s confirmed plan of reorganization under Chapter 11 of the Bankruptcy Code. Through October 1, 2018, Adeptus Health vacated and stopped making rent payments on 15 properties. As a result of the shortening of our lease term on these properties, we recorded a $4 million charge to accelerate the amortization of the straight-line rent receivables in the first nine months of 2018. The final property will be transitioned away from Adeptus Health on October 1, 2019.

In August and early October 2018, we re-leased three of the vacant facilities in the Houston market and five in the San Antonio market, respectively, at rates consistent with that of the previous Adeptus Health lease. At September 30, 2018, our investment in the remaining eight transition facilities (that have not been re-leased) approximates less than 1% of our total assets. Although we expect to re-tenant and/or sell the remaining eight facilities in the near future, we lowered the carrying value of the seven remaining vacant facilities by $18 million to fair value in the three months ended September 30, 2018, based on market data received during the 2018 third quarter.

Gilbert and Florence Facilities

In the first quarter of 2018, we terminated the lease at our Gilbert and Florence, Arizona facilities due to the tenant not meeting its rent obligations pursuant to the lease. As a result of the lease terminating, we recorded a charge of $1.1 million to reserve against the straight-line rent receivables in February 2018. On April 25, 2018, this former tenant filed for involuntary bankruptcy. At September 30, 2018, all outstanding receivables were completely reserved. Although no assurances can be made that we will not have any impairment charges in the future, we believe our investment in the Gilbert and Florence facilities of $37.5 million or 0.4% of total assets at September 30, 2018, is fully recoverable.

Alecto Healthcare facilities

At September 30, 2018, we own four acute care facilities that are leased to Alecto and have a mortgage loan on a fifth property. Our total investment in these properties is approximately 1% of our total assets. Through October 2018, Alecto is current on its rent and interest obligations to us. However, we have seen continued softening in their markets through the 2018 third quarter, which could impact their ability to meet future obligations to us. Thus, in the 2018 third quarter, we lowered the carrying value of the four owned properties by $30 million to fair value.

Loans

The following is a summary of our loans (in thousands):

	As of September 30, 2018		As of December 31, 2017
Mortgage loans	$	1,428,069	$	1,778,316
Acquisition loans		117,376		118,448
Working capital and other loans		365,077		31,761
	$	1,910,522	$	1,928,525

The decrease in mortgage loans relates to the use of four Steward mortgage loans to fund our acquisition of the related fee simple real estate of the four facilities during 2018, while the increase to working capital and other loans primarily relates to our €290 million shareholder loan to the joint venture with Primotop – see “Acquisitions” in this Note 3 for further information. At September 30, 2018, acquisition loans includes $113.3 million in loans to Ernest; however, as described in Note 10, the full Ernest acquisition loan balance was repaid on October 4, 2018.

Concentrations of Credit Risk

We monitor concentration risk in several ways due to the nature of our real estate assets that are vital to the communities in which they are located and given our history of being able to replace inefficient operators of our facilities if needed, with more effective operators:

Facility concentration – At September 30, 2018, we had no investment of any single property greater than 4% of our total assets, which is consistent with December 31, 2017.

Operator concentration – For the nine months ended September 30, 2018, revenue from Steward, Prime, MEDIAN, and Ernest represented 37%, 16%, 16% and 9%, respectively. In comparison, these operators represented 23%, 19%, 15% and 11%, respectively, for the first nine months of 2017.

Geographic concentration – At September 30, 2018, investments in the U.S. and Europe represented approximately 80% and 20%, respectively, of our total assets, which is consistent with December 31, 2017.

Facility type concentration – For the nine months ended September 30, 2018, approximately 72% of our revenues are from our general acute care facilities, while rehabilitation and long-term acute care facilities make up 24% and 4%, respectively. These percentages are similar to those for the first nine months of 2017.