Risk Management and Use of Derivative Financial Instruments

Risk Management

In the normal course of our ongoing business operations, we encounter economic risk. There are four main components of economic risk that impact us: interest rate risk, credit risk, market risk, and foreign currency risk. We are primarily subject to interest rate risk on our interest-bearing assets and liabilities. Credit risk is the risk of default on our operations and our tenants’ inability or unwillingness to make contractually required payments. Market risk includes changes in the value of our properties and related loans, as well as changes in the value of our other investments due to changes in interest rates or other market factors. We own investments in Europe and Asia and are subject to risks associated with fluctuating foreign currency exchange rates.

Derivative Financial Instruments

When we use derivative instruments, it is generally to reduce our exposure to fluctuations in interest rates and foreign currency exchange rate movements. We have not entered into, and do not plan to enter into, financial instruments for trading or speculative purposes. In addition to derivative instruments that we entered into on our own behalf, we may also be a party to derivative instruments that are embedded in other contracts, and we may own common stock warrants, granted to us by lessees when structuring lease transactions, which are considered to be derivative instruments. The primary risks related to our use of derivative instruments include default by a counterparty to a hedging arrangement on its obligation and a downgrade in the credit quality of a counterparty to such an extent that our ability to sell or assign our side of the hedging transaction is impaired. While we seek to mitigate these risks by entering into hedging arrangements with counterparties that are large financial institutions that we deem to be creditworthy, it is possible that our hedging transactions, which are intended to limit losses, could adversely affect our earnings. Furthermore, if we terminate a hedging arrangement, we may be obligated to pay certain costs, such as transaction or breakage fees. We have established policies and procedures for risk assessment and the approval, reporting, and monitoring of derivative financial instrument activities.

We measure derivative instruments at fair value and record them as assets or liabilities, depending on our rights or obligations under the applicable derivative contract. Derivatives that are not designated as hedges must be adjusted to fair value through earnings. For a derivative designated, and that qualified, as a cash flow hedge, the effective portion of the change in fair value of the derivative is recognized in Other comprehensive income (loss) until the hedged item is recognized in earnings. For a derivative designated, and that qualified, as a net investment hedge, the effective portion of the change in the fair value and/or the net settlement of the derivative are reported in Other comprehensive income (loss) as part of the cumulative foreign currency translation adjustment. Amounts are reclassified out of Other comprehensive income (loss) into earnings when the hedged investment is either sold or substantially liquidated. The ineffective portion of the change in fair value of any derivative is immediately recognized in earnings.

The following table sets forth certain information regarding our derivative instruments (in thousands):



Derivatives Designated as Hedging Instruments		Asset Derivatives Fair Value at				Liability Derivatives Fair Value at
Derivatives Designated as Hedging Instruments	Balance Sheet Location	June 30, 2015		December 31, 2014		June 30, 2015			December 31, 2014
Foreign currency forward contracts	Other assets, net	$	40,650	$	24,051	$	—		$	—
Interest rate swaps	Other assets, net	141		71		—			—
Interest rate swaps	Accounts payable, accrued expenses and other liabilities	—		—		(11,780		)	(14,554		)
Derivatives Not Designated as Hedging Instruments
Foreign currency forward contracts	Other assets, net	9,525		5,120		—			—
Stock warrants	Other assets, net	1,914		1,848		—			—
Swaption	Other assets, net	540		505		—			—
Embedded credit derivatives	Other assets, net	85		499		—			—
Foreign currency forward contracts	Accounts payable, accrued expenses and other liabilities	—		—		(7,325		)	(2,904		)
Total derivatives		$	52,855	$	32,094	$	(19,105	)	$	(17,458	)

All derivative transactions with an individual counterparty are governed by a master International Swap and Derivatives Association agreement, which can be considered as a master netting arrangement; however, we report all our derivative instruments on a gross basis on our consolidated financial statements. At both June 30, 2015 and December 31, 2014, no cash collateral had been posted or received for any of our derivative positions.

The following tables present the impact of our derivative instruments in the consolidated financial statements (in thousands):



	Amount of Gain (Loss) Recognized on Derivatives in Other Comprehensive Loss (Effective Portion)
	Three Months Ended June 30,						Six Months Ended June 30,
Derivatives in Cash Flow Hedging Relationships	2015			2014			2015		2014
Foreign currency forward contracts	$	(7,601	)	$	400		$	16,604	$	(409	)
Interest rate swaps	3,518			(2,502		)	2,067		(4,421		)
Interest rate cap ^(a)	—			355			—		687
Foreign currency collars	—			(83		)	—		(199		)

Derivatives in Net Investment Hedging Relationships ^(b)
Foreign currency forward contracts	198			—			386		—

Derivatives Formerly in Net Investment Hedging Relationships ^(c)
Foreign currency forward contracts	—			257			—		318
Total	$	(3,885	)	$	(1,573	)	$	19,057	$	(4,024	)



		Amount of Gain (Loss) Reclassified from Other Comprehensive Loss into Income (Effective Portion)
Derivatives in Cash Flow Hedging Relationships	Location of Gain (Loss) Reclassified to Income	Three Months Ended June 30,						Six Months Ended June 30,
Derivatives in Cash Flow Hedging Relationships	Location of Gain (Loss) Reclassified to Income	2015			2014			2015			2014
Interest rate swaps	Interest expense	$	(1,847	)	$	(2,217	)	$	(4,131	)	$	(3,932	)
Foreign currency forward contracts	Other income and (expenses)	1,237			89			4,365			(100		)
Interest rate cap	Interest expense	—			(355		)	—			(687		)
Foreign currency collars	Other income and (expenses)	—			118			—			194
Total		$	(610	)	$	(2,365	)	$	234		$	(4,525	)

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(a)	Includes gains attributable to a noncontrolling interest of $0.2 million and $0.3 million for the three and six months ended June 30, 2014, respectively.


(b)	The effective portion of the change in fair value and the settlement of these contracts are reported in the foreign currency translation adjustment section of Other comprehensive income (loss) until the underlying investment is sold, at which time we reclassify the gain or loss to earnings.

(c)

In September 2014, a new forward contract was executed to offset this existing forward contract, which has not yet reached its maturity. As a result of this transaction, this existing forward contract was de-designated as a hedging instrument. However, the effective portion of the change in fair value (through the date of de-designation) and the settlement of this contract are reported in the foreign currency translation adjustment section of Other comprehensive income (loss) until the underlying investment is sold, at which time we will reclassify the gain or loss to earnings.

Amounts reported in Other comprehensive income (loss) related to interest rate swaps will be reclassified to Interest expense as interest payments are made on our variable-rate debt. Amounts reported in Other comprehensive income (loss) related to foreign currency derivative contracts will be reclassified to Other income and (expenses) when the hedged foreign currency contracts are settled. At June 30, 2015, we estimated that an additional $6.5 million and $7.2 million will be reclassified as interest expense and as other expenses, respectively, during the next 12 months.

The following table presents the impact of our derivative instruments in the consolidated financial statements (in thousands):



		Amount of Gain (Loss) on Derivatives Recognized in Income
Derivatives Not in Cash Flow Hedging Relationships	Location of Gain (Loss) Recognized in Income	Three Months Ended June 30,						Six Months Ended June 30,
Derivatives Not in Cash Flow Hedging Relationships	Location of Gain (Loss) Recognized in Income	2015			2014			2015			2014
Stock warrants	Other income and (expenses)	$	231		$	(66	)	$	66		$	(66	)
Swaption	Other income and (expenses)	127			(172		)	35			(430		)
Embedded credit derivatives	Other income and (expenses)	25			163			262			281
Foreign currency forward contracts	Other income and (expenses)	(12		)	(56		)	(16		)	(118		)

Derivatives in Cash Flow Hedging Relationships
Interest rate swaps ^(a)	Interest expense	88			53			172			124
Total		$	459		$	(78	)	$	519		$	(209	)

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(a)	Relates to the ineffective portion of the hedging relationship.

See below for information regarding why we enter into our derivative instruments and concerning derivative instruments owned by unconsolidated investments, which are excluded from the tables above.

Interest Rate Swaps and Swaption

We are exposed to the impact of interest rate changes primarily through our borrowing activities. To limit this exposure, we attempt to obtain mortgage financing on a long-term, fixed-rate basis. However, from time to time, we or our investment partners have obtained, and may in the future obtain, variable-rate, non-recourse mortgage loans and, as a result, we have entered into, and may continue to enter into, interest rate swap agreements or swaptions with counterparties. Interest rate swaps, which effectively convert the variable-rate debt service obligations of a loan to a fixed rate, are agreements in which one party exchanges a stream of interest payments for a counterparty’s stream of cash flow over a specific period. The face amount on which the swaps are based is not exchanged. A swaption gives us the right but not the obligation to enter into an interest rate swap, of which the terms and conditions are set on the trade date, on a specified date in the future. Our objective in using these derivatives is to limit our exposure to interest rate movements.

The interest rate swaps and swaption that our consolidated subsidiaries had outstanding at June 30, 2015 are summarized as follows (currency in thousands):



Interest Rate Derivatives	Number of Instruments	Notional Amount		Fair Value at June 30, 2015 ^(a)
Designated as Cash Flow Hedging Instruments
Interest rate swaps	13	233,019	USD	$	(6,316	)
Interest rate swaps	7	190,629	EUR	(5,323		)
Not Designated as Hedging Instrument
Swaption	1	13,230	USD	540
				$	(11,099	)

____________


(a)	Fair value amount is based on the exchange rate of the euro at June 30, 2015, as applicable.

The interest rate swap that one of our unconsolidated jointly-owned investments had outstanding at June 30, 2015, which was designated as a cash flow hedge, is summarized as follows (currency in thousands):



Interest Rate Derivative	Ownership Interest in Investee at June 30, 2015	Number of Instruments	Notional Amount		Fair Value at June 30, 2015 ^(a)
Interest rate swap	85%	1	11,402	EUR	$	(468	)

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(a)	Fair value amount is based on the exchange rate of the euro at June 30, 2015.

Foreign Currency Contracts

We are exposed to foreign currency exchange rate movements, primarily in the euro and, to a lesser extent, the British pound sterling, the Japanese yen, the Norwegian krone, and the Indian rupee. We manage foreign currency exchange rate movements by generally placing our debt service obligation on an investment in the same currency as the tenant’s rental obligation to us. This reduces our overall exposure to the net cash flow from that investment. However, we are subject to foreign currency exchange rate movements to the extent that there is a difference in the timing and amount of the rental obligation and the debt service. Realized and unrealized gains and losses recognized in earnings related to foreign currency transactions are included in Other income and (expenses) in the consolidated financial statements.

In order to hedge certain of our foreign currency cash flow exposures, we enter into foreign currency forward contracts and collars. A foreign currency forward contract is a commitment to deliver a certain amount of currency at a certain price on a specific date in the future. By entering into forward contracts and holding them to maturity, we are locked into a future currency exchange rate for the term of the contract. A foreign currency collar consists of a written call option and a purchased put option to sell the foreign currency. These instruments lock the range in which the foreign currency exchange rate may fluctuate.

The following table presents the foreign currency derivative contracts we had outstanding and their designations at June 30, 2015 (currency in thousands):



Foreign Currency Derivatives	Number of Instruments	Notional Amount		Fair Value at June 30, 2015 ^(a)
Designated as Cash Flow Hedging Instruments
Foreign currency forward contracts	88	176,175	EUR	$	35,980
Foreign currency forward contracts	17	12,239	NOK	100
Not Designated as Hedging Instruments
Foreign currency forward contracts	2	90,000	EUR	2,200
Designated as Net Investment Hedging Instruments
Foreign currency forward contracts	11	1,077,804	JPY	4,505
Foreign currency forward contracts	5	7,996	NOK	65
				$	42,850

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(a)	Fair value amounts are based on the exchange rate of the euro, the Norwegian krone, or the Japanese yen, as applicable, at June 30, 2015.

Credit Risk-Related Contingent Features

We measure our credit exposure on a counterparty basis as the net positive aggregate estimated fair value of our derivatives, net of any collateral received. No collateral was received as of June 30, 2015. At June 30, 2015, our total credit exposure was $41.4 million and the maximum exposure to any single counterparty was $19.1 million.

Some of the agreements we have with our derivative counterparties contain certain credit contingent provisions that could result in a declaration of default against us regarding our derivative obligations if we either default or are capable of being declared in default on certain of our indebtedness. At June 30, 2015, we had not been declared in default on any of our derivative obligations. The estimated fair value of our derivatives that were in a net liability position was $19.9 million and $18.5 million at June 30, 2015 and December 31, 2014, respectively, which included accrued interest and any adjustment for nonperformance risk. If we had breached any of these provisions at June 30, 2015 or December 31, 2014, we could have been required to settle our obligations under these agreements at their aggregate termination value of $20.4 million and $19.1 million, respectively.

Information about Significant Tenants

For the six months ended June 30, 2015, the following tenants represented 5% or more of total lease revenues:


•	The New York Times Company (9%);


•	Metro Cash & Carry Italia S.p.A. (8%);


•	Agrokor d.d. (7%);


•	KBR, Inc. (7%); and


•	General Parts Inc., Golden State Supply LLC, Straus-Frank Enterprises LLC, General Parts Distribution LLC, and Worldpac Inc. (6% in the aggregate).