SERVICE PROPERTIES TRUST
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30,
|
|
|
2019
|
|
2018
|
Cash flows from operating activities:
|
|
|
|
|
Net income
|
|
$
|
274,643
|
|
|
$
|
294,594
|
|
Adjustments to reconcile net income to cash provided by operating activities:
|
|
|
|
|
Depreciation and amortization
|
|
301,721
|
|
|
300,308
|
|
Amortization of debt issuance costs and debt discounts and premiums as interest
|
|
7,829
|
|
|
7,607
|
|
Straight line rental income
|
|
7,368
|
|
|
(9,359
|
)
|
Security deposits replenished (utilized)
|
|
(10,052
|
)
|
|
7,687
|
|
Loss on early extinguishment of debt
|
|
8,451
|
|
|
160
|
|
Unrealized (gains) and losses on equity securities, net
|
|
43,761
|
|
|
(89,348
|
)
|
Equity in earnings of an investee
|
|
(617
|
)
|
|
(881
|
)
|
Gain on sale of real estate
|
|
(159,535
|
)
|
|
—
|
|
Other non-cash (income) expense, net
|
|
109
|
|
|
(2,226
|
)
|
Changes in assets and liabilities:
|
|
|
|
|
Due from related persons
|
|
3,609
|
|
|
(585
|
)
|
Other assets
|
|
(6,352
|
)
|
|
(8,627
|
)
|
Accounts payable and other liabilities
|
|
12,743
|
|
|
(21,259
|
)
|
Due to related persons
|
|
(51,148
|
)
|
|
(74,667
|
)
|
Net cash provided by operating activities
|
|
432,530
|
|
|
403,404
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
Real estate acquisitions and deposits
|
|
(2,659,186
|
)
|
|
(95,208
|
)
|
Real estate improvements
|
|
(71,024
|
)
|
|
(111,248
|
)
|
Hotel managers’ purchases with restricted cash
|
|
(143,692
|
)
|
|
(89,401
|
)
|
Hotel manager’s deposit of insurance proceeds into restricted cash
|
|
14,325
|
|
|
18,000
|
|
Net proceeds from sale of real estate
|
|
308,200
|
|
|
—
|
|
Net proceeds from sale of equity securities
|
|
93,892
|
|
|
—
|
|
Net cash used in investing activities
|
|
(2,457,485
|
)
|
|
(277,857
|
)
|
|
|
|
|
|
Cash flows from financing activities:
|
|
|
|
|
Proceeds from issuance of senior unsecured notes, after discounts and premiums
|
|
1,693,879
|
|
|
389,976
|
|
Borrowings under unsecured revolving credit facility
|
|
997,000
|
|
|
395,000
|
|
Repayments of unsecured revolving credit facility
|
|
(384,000
|
)
|
|
(650,000
|
)
|
Deferred financing costs
|
|
(21,869
|
)
|
|
(12,242
|
)
|
Repurchase of common shares
|
|
(794
|
)
|
|
(606
|
)
|
Distributions to common shareholders
|
|
(264,755
|
)
|
|
(259,678
|
)
|
Net cash provided by (used in) financing activities
|
|
2,019,461
|
|
|
(137,550
|
)
|
Decrease in cash and cash equivalents and restricted cash
|
|
(5,494
|
)
|
|
(12,003
|
)
|
Cash and cash equivalents and restricted cash at beginning of period
|
|
76,003
|
|
|
97,496
|
|
Cash and cash equivalents and restricted cash at end of period
|
|
$
|
70,509
|
|
|
$
|
85,493
|
|
|
|
|
|
|
Supplemental disclosure of cash and cash equivalents and restricted cash:
|
|
|
|
|
The following table provides a reconciliation of cash and cash equivalents and restricted cash reported within the condensed consolidated balance sheets to the amount shown in the condensed consolidated statements of cash flows:
|
Cash and cash equivalents
|
|
$
|
16,990
|
|
|
$
|
19,849
|
|
Restricted cash
|
|
53,519
|
|
|
65,644
|
|
Total cash and cash equivalents and restricted cash
|
|
$
|
70,509
|
|
|
$
|
85,493
|
|
|
|
|
|
|
Supplemental cash flow information:
|
|
|
|
|
Cash paid for interest
|
|
$
|
171,418
|
|
|
$
|
158,056
|
|
Cash paid for income taxes
|
|
2,614
|
|
|
2,804
|
|
The accompanying notes are an integral part of these condensed consolidated financial statements.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Note 1. Basis of Presentation
The accompanying condensed consolidated financial statements of Service Properties Trust (formerly known as Hospitality Properties Trust) and its subsidiaries, or SVC, we, our or us, are unaudited. Certain information and disclosures required by U.S. generally accepted accounting principles, or GAAP, for complete financial statements have been condensed or omitted. We believe the disclosures made are adequate to make the information presented not misleading. However, the accompanying condensed consolidated financial statements should be read in conjunction with the financial statements and notes contained in our Annual Report on Form 10-K for the year ended December 31, 2018, or our 2018 Annual Report. In the opinion of management, all adjustments, consisting of normal recurring accruals considered necessary for a fair statement of results for the interim period, have been included. These condensed consolidated financial statements include the accounts of SVC and our subsidiaries, all of which are 100% owned directly or indirectly by SVC. All intercompany transactions and balances with or among our consolidated subsidiaries have been eliminated. Our operating results for interim periods and those of our managers and tenants are not necessarily indicative of the results that may be expected for the full year. Reclassifications have been made to the prior year’s condensed consolidated financial statements to conform to the current year’s presentation.
The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect reported amounts. Actual results could differ from those estimates. Significant estimates in our condensed consolidated financial statements include the allowance for doubtful accounts, purchase price allocations, useful lives of fixed assets, impairment of real estate and the valuation of intangible assets.
We have determined that each of our wholly owned taxable REIT subsidiaries, or TRSs, is a variable interest entity, or VIE, as defined under the Consolidation Topic of the Financial Accounting Standards Board, or FASB, Accounting Standards Codification™. We have concluded that we must consolidate each of our wholly owned TRSs because we are the entity with the power to direct the activities that most significantly impact such VIEs’ performance and we have the obligation to absorb losses or the right to receive benefits from each VIE that could be significant to the VIE and are, therefore, the primary beneficiary of each VIE. The assets of our TRSs were $33,794 and $31,917 as of September 30, 2019 and December 31, 2018, respectively, and consist primarily of amounts due from and working capital advances to certain of our hotel managers. The liabilities of our TRSs were $148,017 and $148,459 as of September 30, 2019 and December 31, 2018, respectively, and consist primarily of security deposits they hold and amounts payable to certain of our hotel managers. The assets of our TRSs are available to satisfy our TRSs’ obligations and we have guaranteed certain obligations of our TRSs.
Note 2. New Accounting Pronouncements
In February 2016, the FASB issued Accounting Standards Update, or ASU, No. 2016-02, Leases. Additional guidance and targeted improvements to ASU No. 2016-02 were made through the issuance of supplemental ASUs in July 2018, December 2018 and March 2019, or collectively with ASU No. 2016-02, the Lease Standard. We adopted the Lease Standard on January 1, 2019. The Lease Standard sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract (i.e., lessees and lessors). The Lease Standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase of the leased asset by the lessee. This classification will determine whether the lease expense is recognized based on an effective interest method or on a straight line basis over the term of the lease. Upon adoption, we applied the package of practical expedients that allowed us not to reassess (i) whether any expired or existing contracts are or contain leases, (ii) lease classification for any expired or existing leases, (iii) initial direct costs for any expired or existing leases and (iv) the option to initially apply the Lease Standard at the adoption date and recognize a cumulative effect adjustment to the opening balance of retained earnings in the period of adoption, although we did not have such an adjustment. Additionally, our leases met the criteria not to separate non-lease components from the related lease component.
As a lessor. We are required to account for leases using an approach that is substantially equivalent to existing guidance for sales type leases, direct financing leases and operating leases. Adoption of the Lease Standard did not have a material impact in our condensed consolidated financial statements for our leases where we are the lessor.
As a lessee. We are required to record right of use assets and lease liabilities in our condensed consolidated balance sheets for leases with terms greater than 12 months, where we are the lessee. We recorded right of use assets and related lease liabilities of $77,010 upon implementation of the Lease Standard. Adoption of the Lease Standard did not have a material effect
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
in our condensed consolidated statements of comprehensive income or condensed consolidated statements of cash flows for our leases where we are the lessee.
See Note 8 for further information regarding our leases and the adoption of the Lease Standard.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires that entities use a new forward looking “expected loss” model that generally will result in the earlier recognition of allowance for credit losses. The measurement of expected credit losses is based upon historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. ASU No. 2016-13 will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. We are currently assessing the potential impact the adoption of ASU No. 2016-13 will have in our condensed consolidated financial statements. Lease related receivables are governed by the Lease Standards referred to above and are not subject to ASU No. 2016-13. We currently expect to adopt the standard using the modified retrospective approach.
Note 3. Revenue Recognition
We report hotel operating revenues for managed hotels in our condensed consolidated statements of comprehensive income. We generally recognize hotel operating revenues, consisting primarily of room and food and beverage sales, when goods and services are provided.
We report rental income for leased properties in our condensed consolidated statements of comprehensive income. We recognize rental income from operating leases on a straight line basis over the term of the lease agreements. We reduced rental income by $3,046 and $7,368 for the three and nine months ended September 30, 2019, respectively, and increased rental income by $3,136 and $9,359 for the three and nine months ended September 30, 2018, respectively, to record scheduled rent changes under certain of our leases, the deferred rent obligations payable to us under our leases with TravelCenters of America Inc., or TA, and the estimated future payments to us under our TA leases for the cost of removing underground storage tanks at our travel centers on a straight line basis. See Notes 8 and 10 for further information regarding our TA leases. Due from related persons includes $51,071 and $66,347 and other assets, net, includes $3,135 and $3,073 of straight line rent receivables at September 30, 2019 and December 31, 2018, respectively.
Certain of our lease agreements require additional percentage rent if gross revenues of our properties exceed certain thresholds defined in our lease agreements. We may determine percentage rent due to us under our leases monthly, quarterly or annually, depending on the specific lease terms, and recognize it when all contingencies are met and the rent is earned. We had deferred estimated percentage rent of $1,020 and $3,047 for the three and nine months ended September 30, 2019, respectively, and $978 and $2,762 for the three and nine months ended September 30, 2018, respectively.
We own all the FF&E reserve escrows for our hotels. We report deposits by our third-party tenants into the escrow accounts as FF&E reserve income. We do not report the amounts which are escrowed as reserves established for the regular refurbishment of our hotels, or FF&E reserves, for our managed hotels as FF&E reserve income.
Note 4. Weighted Average Common Shares
The following table provides a reconciliation of the weighted average number of common shares used in the calculation of basic and diluted earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30,
|
|
For the Nine Months Ended September 30,
|
|
|
2019
|
|
2018
|
|
2019
|
|
2018
|
|
|
(in thousands)
|
Weighted average common shares for basic earnings per share
|
|
164,321
|
|
|
164,232
|
|
|
164,294
|
|
|
164,212
|
|
Effect of dilutive securities: Unvested share awards
|
|
27
|
|
|
42
|
|
|
38
|
|
|
30
|
|
Weighted average common shares for diluted earnings per share
|
|
164,348
|
|
|
164,274
|
|
|
164,332
|
|
|
164,242
|
|
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Note 5. Shareholders' Equity
Share Awards
On June 13, 2019, in accordance with our Trustee compensation arrangements, we granted 3,000 of our common shares, valued at $24.67 per common share, the closing price of our common shares on The Nasdaq Stock Market LLC, or Nasdaq, on that day to each of our five Trustees as part of their annual compensation.
On September 18, 2019, we granted an aggregate of 140,100 of our common shares, valued at $25.03 per common share, the closing price of our common shares on Nasdaq on that day, to our officers and certain other employees of The RMR Group LLC, or RMR LLC, under our equity compensation plan.
Share Purchases
On April 5, 2019, we purchased an aggregate of 1,642 of our common shares for $26.64 per common share, the closing price of our common shares on Nasdaq on that day, from a former officer of RMR LLC in satisfaction of tax withholding and payment obligations in connection with the vesting of awards of our common shares.
On July 3, 2019, we purchased an aggregate of 5,041 of our common shares for $25.20 per common share, the closing price of our common shares on Nasdaq on that day, from our former officer and former employee of RMR LLC in satisfaction of tax withholding and payment obligations in connection with the vesting of awards of our common shares.
On September 25, 2019, we purchased an aggregate of 24,293 of our common shares for $25.64 per common share, the closing price of our common shares on that day, from our officers and certain employees of RMR LLC in satisfaction of tax withholding and payment obligations in connection with the vesting of awards of our common shares.
Distributions
On February 21, 2019, we paid a regular quarterly distribution to our common shareholders of record on January 28, 2019 of $0.53 per share, or $87,154. On May 16, 2019, we paid a regular quarterly distribution to our common shareholders of record on April 29, 2019 of $0.54 per share, or $88,798. On August 15, 2019, we paid a regular quarterly distribution to our common shareholders of record on July 29, 2019 of $0.54 per share, or $88,803. On October 17, 2019, we declared a regular quarterly distribution to our common shareholders of record on October 28, 2019 of $0.54 per share, or $88,865. We expect to pay this amount on or about November 14, 2019.
Cumulative Other Comprehensive Loss
Cumulative other comprehensive loss, as of September 30, 2019, represents our share of the comprehensive loss of Affiliates Insurance Company, or AIC. See Note 10 for further information regarding this investment.
Note 6. Indebtedness
Our principal debt obligations at September 30, 2019 were: (1) $790,000 of outstanding borrowings under our $1,000,000 unsecured revolving credit facility; (2) our $400,000 unsecured term loan; and (3) $5,350,000 aggregate outstanding principal amount of senior unsecured notes. Our revolving credit facility and our term loan are governed by a credit agreement with a syndicate of institutional lenders.
Our $1,000,000 revolving credit facility is available for general business purposes, including acquisitions. The maturity date of our revolving credit facility is July 15, 2022, and, subject to the payment of an extension fee and meeting certain other conditions, we have an option to extend the maturity date of the facility for two additional six-month periods. We can borrow, repay and reborrow funds available under our revolving credit facility until maturity, and no principal repayment is due until maturity. We are required to pay interest on borrowings under our revolving credit facility at the rate of LIBOR plus a premium, which was 100 basis points per annum as of September 30, 2019. We also pay a facility fee, which was 20 basis points per annum at September 30, 2019, on the total amount of lending commitments under our revolving credit facility. Both the interest rate premium and the facility fee are subject to adjustment based upon changes to our credit ratings. On October 1, 2019, the interest rate premium and the facility fee increased to 1.20% and 0.25%, respectively, as the result of our credit rating being lowered by a rating agency. As of September 30, 2019, the annual interest rate payable on borrowings under our revolving credit facility was 2.92%. The weighted average annual interest rate for borrowings under our revolving credit facility was
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
3.10% and 3.34% for the three and nine months ended September 30, 2019, respectively, and 2.97% and 3.00% for the three and nine months ended September 30, 2018, respectively. As of September 30, 2019, we had $790,000 outstanding and $210,000 available under our revolving credit facility. As of November 7, 2019, we had $700,000 outstanding and $300,000 available to borrow under our revolving credit facility.
Our $400,000 term loan, which matures on July 15, 2023, is prepayable without penalty at any time. We are required to pay interest on the amount outstanding under our term loan at the rate of LIBOR plus a premium, which was 110 basis points per annum as of September 30, 2019. The interest rate premium is subject to adjustment based on changes to our credit ratings. On October 1, 2019 the interest rate premium increased to 1.35% as a result of our credit rating being lowered by a rating agency. As of September 30, 2019, the annual interest rate for the amount outstanding under our term loan was 3.20%. The weighted average annual interest rate for borrowings under our term loan was 3.35% and 3.51% for the three and nine months ended September 30, 2019, respectively, and 3.19% and 3.02% for the three and nine months ended September 30, 2018, respectively.
Our credit agreement also includes a feature under which maximum aggregate borrowings may be increased to up to $2,300,000 on a combined basis in certain circumstances. Our credit agreement and our unsecured senior notes indentures and their supplements provide for acceleration of payment of all amounts outstanding upon the occurrence and continuation of certain events of default, such as, in the case of our credit agreement, a change of control of us, which includes RMR LLC ceasing to act as our business manager. Our credit agreement and our unsecured senior notes indentures and their supplements also contain covenants, including those that restrict our ability to incur debts or to make distributions under certain circumstances and generally require us to maintain certain financial ratios. We believe we were in compliance with the terms and conditions of our credit agreement and our unsecured senior notes indentures and their supplements at September 30, 2019.
On September 18, 2019, we issued $825,000 principal amount of our 4.35% unsecured senior notes due 2024, $450,000 principal amount of our 4.75% unsecured senior notes due 2026 and $425,000 principal amount of our 4.95% unsecured senior notes due 2029. The aggregate net proceeds from these offerings were $1,680,461, after underwriting discounts and other offering expenses.
In connection with our acquisition of a 767-property net lease portfolio from Spirit MTA REIT, a Maryland real estate investment trust, or REIT, (NYSE: SMTA), or SMTA, located in 45 states, or the SMTA Transaction, a syndicate of lenders committed to provide us with a one year unsecured term loan facility, under which we would be able to borrow up to $2,000,000. We terminated these commitments in September 2019 and recorded a loss on early extinguishment of debt of $8,451 during the three months ended September 30, 2019 to write off unamortized issuance costs. See Note 7 for further information about the SMTA Transaction.
Note 7. Real Estate Properties
At September 30, 2019, we owned 328 hotels with 51,086 rooms or suites and 946 service-oriented retail properties with approximately 17.6 million square feet that are primarily subject to “triple net” leases, or net leases where the tenant is generally responsible for payment of operating expenses and capital expenditures of the property during the lease term. Our properties had an aggregate undepreciated carrying value of $11,905,525, including $604,989 classified as held for sale as of September 30, 2019.
During the nine months ended September 30, 2019, we funded $123,190 for improvements to certain of our properties which, pursuant to the terms of our management and lease agreements with our managers and tenants, resulted in increases in our contractual annual minimum returns and rents of $9,097. See Note 8 for further information about our management and lease agreements and our fundings of improvements to certain of our properties.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Acquisitions
We completed the SMTA Transaction and acquired two hotels and a land parcel during the nine months ended September 30, 2019. We accounted for these transactions as acquisitions of assets. Our allocation of the purchase price of each of these acquisitions based on the estimated fair value of the acquired assets is presented in the table below.
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquisition Date
|
|
Location
|
|
Purchase Price
|
|
Land
|
|
Land Improvements
|
|
Building and Improvements
|
|
Furniture, Fixtures and Equipment
|
|
Held for Sale
|
|
Intangible Assets / Liabilities, net
|
2/22/2019
|
|
Washington, D.C. (1)
|
|
$
|
143,742
|
|
|
$
|
44,972
|
|
|
$
|
151
|
|
|
$
|
93,412
|
|
|
$
|
5,207
|
|
|
$
|
—
|
|
|
$
|
—
|
|
5/7/2019
|
|
Milwaukee, WI (2)
|
|
30,235
|
|
|
3,442
|
|
|
1,053
|
|
|
25,132
|
|
|
608
|
|
|
—
|
|
|
—
|
|
8/1/2019
|
|
Southington, CT (3)
|
|
66
|
|
|
66
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
9/20/2019
|
|
Various (4)
|
|
2,482,382
|
|
|
388,057
|
|
|
—
|
|
|
1,201,922
|
|
|
—
|
|
|
604,989
|
|
|
287,414
|
|
|
|
|
|
$
|
2,656,425
|
|
|
$
|
436,537
|
|
|
$
|
1,204
|
|
|
$
|
1,320,466
|
|
|
$
|
5,815
|
|
|
$
|
604,989
|
|
|
$
|
287,414
|
|
|
|
(1)
|
On February 22, 2019, we acquired the 335 room Hotel Palomar located in Washington, D.C. for a purchase price of $143,742, including capitalized acquisition costs of $2,292. We added this Kimpton® branded hotel to our management agreement with InterContinental Hotels Group, plc, or IHG. See Note 8 for further information regarding our management agreement with IHG for 102 hotels, or our IHG agreement.
|
|
|
(2)
|
On May 7, 2019, we acquired the 198 room Crowne Plaza Milwaukee West hotel in Milwaukee, WI for a purchase price of $30,235, including capitalized acquisition costs of $235. We added this Crowne Plaza® branded hotel to our management agreement with IHG. See Note 8 for further information regarding our IHG agreement.
|
|
|
(3)
|
On August 1, 2019, we acquired a land parcel adjacent to our travel center located in Southington, CT for a purchase price of $66, including capitalized acquisition costs of $6. This land parcel has been added to the TA lease for that travel center.
|
|
|
(4)
|
On September 20, 2019, we completed the SMTA Transaction for total consideration of $2,482,382. See below for further information regarding the SMTA Transaction. As of September 30, 2019, 148 assets included in the SMTA Transaction with a carrying value of $604,989 were classified as held for sale.
|
On September 20, 2019, we completed the SMTA Transaction as a result of which, we acquired 767 net lease service-oriented retail properties with 12.4 million rentable square feet. The aggregate transaction value of the SMTA Transaction was $2,482,382, including $2,384,577 in cash consideration, $82,069 of prepayment penalties related to SMTA’s extinguishment of the mortgage debt on the portfolio and $15,736 of other capitalized acquisition costs. The properties included in the portfolio are net leased to 279 tenants operating in 23 distinct industries and 163 brands that include quick service and casual dining restaurants, movie theaters, health and fitness, automotive parts and services and other service-oriented and necessity-based industries across 45 states. We financed the SMTA Transaction with borrowings under our revolving credit facility and with cash on hand, including net proceeds from our public offerings of senior unsecured notes, as described further in Note 6. As of September 30, 2019, we had $5,900 of unspent leasing-related obligations assumed as a part of the SMTA Transaction.
On October 9, 2019, we acquired the 261-room Kimpton Palomar Hotel located in Chicago, IL for a purchase price of $55,000, excluding acquisition related costs. We added this Kimpton® branded hotel to our management agreement with IHG.
Dispositions
In January 2019, in a series of transactions, we sold 20 travel centers in 15 states to TA for $308,200. We recorded a gain of $159,535 in the first quarter of 2019 as a result of these sales. See Notes 8 and 10 for further information regarding these transactions, our relationship and agreements with TA.
On October 11, 2019, we entered an agreement to sell 126 net lease properties we acquired in the SMTA Transaction with approximately 2.4 million square feet in 26 states with an aggregate of $34,300 of annual minimum rents as of September 30, 2019 for an aggregate sales price of $438,000, excluding closing costs. We expect this sale to be completed prior to December 31, 2019.
On October 22, 2019, we sold a net lease property we acquired in the SMTA Transaction in Hermantown, MN with 103,631 square feet with annual minimum rent of $913 as of September 30, 2019 for $6,250, excluding closing costs.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
On October 29, 2019, we sold a net lease office property we acquired in the SMTA Transaction in Las Vegas, NV with 138,558 square feet with annual minimum rent of $3,561 as of September 30, 2019 for $57,000, excluding closing costs.
Note 8. Management Agreements and Leases
As of September 30, 2019, we owned 328 hotels which were included in eight operating agreements and 946 service orientated retail properties net leased to 279 tenants. We do not operate any of our properties.
Hotel agreements
As of September 30, 2019, 326 of our hotels were leased to our TRSs and managed by independent hotel operating companies and two hotels were leased to third parties. As of September 30, 2019, our hotel properties were managed by or leased to separate subsidiaries of Marriott International, Inc., or Marriott, IHG, Sonesta International Hotels Corporation, or Sonesta, Wyndham Hotels & Resorts, Inc., or Wyndham, Hyatt Hotels Corporation, or Hyatt, and Radisson Hospitality, Inc., or Radisson, under eight agreements. These hotel agreements have initial terms expiring between 2019 and 2038. Each of these agreements is for between one and 102 of our hotels. In general, the agreements contain renewal options for all, but not less than all, of the affected properties included in each agreement, and the renewal terms range between 20 to 60 years. Most of these agreements require the third party manager or tenant to: (1) make payments to us of minimum returns or minimum rents; (2) deposit a percentage of total hotel sales into FF&E reserves; and (3) for our managed hotels, make payments to our TRSs of additional returns to the extent of available cash flows after payment of operating expenses, funding of the FF&E reserves, payment of our minimum returns, payment of certain management fees and replenishment of security deposits or guarantees. Some of our managers or tenants or their affiliates have provided deposits or guarantees to secure their obligations to pay us.
Marriott No. 1 agreement. Our management agreement with Marriott for 53 hotels, or our Marriott No. 1 agreement, provides that, as of September 30, 2019, we are to be paid an annual minimum return of $71,714 to the extent that gross revenues of the hotels, after payment of hotel operating expenses and funding of the FF&E reserve, are sufficient to do so. Marriott’s base and incentive management fees are only earned after we receive our minimum returns. We realized minimum returns of $17,908 and $17,335 during the three months ended September 30, 2019 and 2018, respectively, and minimum returns of $53,467 and $51,954 during the nine months ended September 30, 2019 and 2018, respectively, under this agreement. We also realized additional returns of $1,985 and $3,560 during the three and nine months ended September 30, 2019, respectively, and $2,584 and $5,113 during the three and nine months ended September 30, 2018, respectively, which represent our share of hotel cash flows in excess of the minimum returns due to us for these periods. We do not have any security deposits or guarantees for our minimum returns from the 53 hotels included in our Marriott No. 1 agreement. Accordingly, the minimum returns we receive from these hotels managed by Marriott are limited to the hotels’ available cash flows after payment of operating expenses and funding of the FF&E reserve.
We funded $15,778 and $1,769 for capital improvements to certain of the hotels included in our Marriott No. 1 agreement during the nine months ended September 30, 2019 and 2018, respectively, which resulted in increases in our contractual annual minimum returns of $1,578 and $177, respectively.
Marriott No. 234 agreement. Our management agreement with Marriott for 68 hotels, or our Marriott No. 234 agreement, provides that, as of September 30, 2019, we are to be paid an annual minimum return of $109,024. We realized minimum returns of $27,256 and $26,772 during the three months ended September 30, 2019 and 2018, respectively, and $81,206 and $80,199 during the nine months ended September 30, 2019 and 2018, respectively, under this agreement. Pursuant to our Marriott No. 234 agreement, Marriott has provided us with a security deposit to cover minimum return payment shortfalls, if any. Under this agreement, this security deposit may be replenished and increased up to $64,700 from a share of hotel cash flows in excess of the minimum returns due to us. Marriott’s base and incentive management fees are only earned after we receive our minimum returns. During the nine months ended September 30, 2019, our available security deposit was replenished by $3,910 from a share of hotel cash flows in excess of the minimum returns due to us during the period. The available balance of this security deposit was $36,621 as of September 30, 2019. Pursuant to our Marriott No. 234 agreement, Marriott has also provided us with a limited guaranty which expires in 2019 for shortfalls up to 90% of our minimum returns, if and after the available security deposit has been depleted. The available balance of the guaranty was $30,672 as of September 30, 2019.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
We funded $18,600 and $6,355 for capital improvements to certain of the hotels included in our Marriott No. 234 agreement during the nine months ended September 30, 2019 and 2018, respectively, which resulted in increases in our contractual annual minimum returns of $1,674 and $572, respectively.
Marriott No. 5 agreement. We lease one hotel in Kauai, HI to Marriott which requires that, as of September 30, 2019, we are paid annual minimum rents of $10,518. This lease is guaranteed by Marriott and we realized $2,630 and $2,580 of rent for this hotel during the three months ended September 30, 2019 and 2018, respectively, and $7,889 and $7,740 during the nine months ended September 30, 2019 and 2018, respectively. The guaranty provided by Marriott with respect to this leased hotel is unlimited. Marriott has four renewal options for 15 years each. On August 31, 2016, Marriott notified us that it will not exercise its renewal option at the expiration of the current lease term ending on December 31, 2019.
IHG agreement. Our IHG agreement provides that, as of September 30, 2019, we are to be paid annual minimum returns and rents of $207,411. We realized minimum returns and rents of $51,853 and $47,630 during the three months ended September 30, 2019 and 2018, respectively, and $153,053 and $142,316 during the nine months ended September 30, 2019 and 2018, respectively, under this agreement. We also realized additional returns under this agreement of $6,653 and $8,373 during the three and nine months ended September 30, 2018 from our share of hotel cash flows in excess of the minimum returns and rents due to us for that period. We did not realize any additional returns during either the three or nine months ended September 30, 2019.
Pursuant to our IHG agreement, IHG has provided us with a security deposit to cover minimum payment shortfalls, if any. Under this agreement, IHG is required to maintain a minimum security deposit of $37,000 and this security deposit may be replenished and increased up to $100,000 from a share of future cash flows from the hotels in excess of our minimum returns and rents. During the nine months ended September 30, 2019, we reduced the available security deposit by $14,259 to cover shortfalls in hotel cash flows available to pay the minimum returns and rents due to us for the period. The available balance of this security deposit was $85,741 as of September 30, 2019.
We did not fund any capital improvements to our IHG hotels during each of the nine months ended September 30, 2019 and 2018.
Sonesta agreement. As of September 30, 2019, Sonesta managed 12 of our full service hotels and 39 of our limited service hotels pursuant to management agreements for each of the hotels, which we refer to collectively as our Sonesta agreement, and a pooling agreement, which combines those management agreements for purposes of calculating gross revenues, payment of hotel operating expenses, payment of fees and distributions and minimum returns due to us.
Our Sonesta agreement provides that we are paid a fixed annual minimum return equal to 8% of our invested capital, as defined therein, if gross revenues of the hotels, after payment of hotel operating expenses and management and related fees (other than Sonesta’s incentive fee, if applicable), are sufficient to do so. Our fixed annual minimum return under our Sonesta agreement was $131,229 as of September 30, 2019. Our Sonesta agreement further provides that we are paid an additional return based upon operating profits, as defined therein, after payment of Sonesta’s incentive fee, if applicable. We realized returns of $15,629 and $21,732 during the three months ended September 30, 2019 and 2018, respectively, and $57,794 and $61,606 during the nine months ended September 30, 2019, and 2018, respectively, under our Sonesta agreement. We do not have any security deposits or guarantees for our Sonesta hotels. Accordingly, the returns we receive from our Sonesta hotels are limited to the hotels’ available cash flows after payment of operating expenses, including management and related fees.
Pursuant to our Sonesta agreement, we incurred management, reservation and system fees and reimbursement costs for certain guest loyalty, marketing program and third party reservation transmission fees of $9,313 and $9,437 for the three months ended September 30, 2019 and 2018, respectively, and $28,016 and $26,245 for the nine months ended September 30, 2019 and 2018, respectively. In addition, we incurred procurement and construction supervision fees of $928 and $713 for the three months ended September 30, 2019 and 2018, respectively, and $1,914 and $1,907 for the nine months ended September 30, 2019 and 2018, respectively, pursuant to our Sonesta agreement. These amounts are included in hotel operating expenses or have been capitalized, as appropriate, in our condensed consolidated financial statements.
Our Sonesta agreement does not require FF&E escrow deposits, but does require us to fund capital expenditures at our Sonesta hotels. We funded $67,495 and $64,032 for renovations and other capital improvements to certain hotels included in our Sonesta agreement during the nine months ended September 30, 2019 and 2018, respectively, which resulted in increases in our contractual annual minimum returns of $4,140 and $3,948, respectively. The annual minimum returns due to us under our Sonesta agreement increase by 8% of the capital expenditure amounts we fund in excess of threshold amounts, as defined
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
therein. We owed Sonesta $14,879 and $6,735 for capital expenditure and other reimbursements at September 30, 2019 and 2018, respectively. Amounts due from Sonesta are included in due from related persons and amounts owed to Sonesta are included in due to related persons in our condensed consolidated balance sheets.
See Note 10 for further information regarding our relationship, agreements and transactions with Sonesta.
Wyndham agreements. Our management agreement with Wyndham for 22 hotels, or our Wyndham agreement, provides that, as of September 30, 2019, we are to be paid annual minimum returns of $27,973. Pursuant to our Wyndham agreement, Wyndham has provided us with a guaranty, which was limited to $35,656, subject to an annual payment limit of $17,828, and expires on July 28, 2020. This guaranty was depleted during 2017 and remained depleted as of September 30, 2019. This guaranty may be replenished from a share of future cash flows from these hotels in excess of our minimum returns. To avoid default, Wyndham was required to pay 85% of the minimum returns due to us. We realized returns of $5,944 and $5,869 during the three months ended September 30, 2019 and 2018, respectively, and $17,780 and $17,588 during the nine months ended September 30, 2019 and 2018, respectively, which represents 85% of the minimum returns due for the period, under this agreement.
Our Wyndham agreement requires FF&E escrow deposits equal to 5% of total hotel sales for all hotels included in the agreement subject to available cash flows after payment of our minimum return. No FF&E escrow deposits were made during the nine months ended September 30, 2019. We funded $2,283 and $1,449 for capital improvements to certain of the hotels included in our Wyndham agreement during the nine months ended September 30, 2019 and 2018, respectively, which resulted in increases in our contractual annual minimum returns of $183 and $116, respectively.
In October 2019, we amended our agreement with Wyndham whereby the term of the management agreement will expire on September 30, 2020 unless sooner terminated with respect to any hotels that are sold or rebranded. Under the amendment, Wyndham will pay us all cash flows of the hotels after payment of hotel operating costs. Wyndham will not be entitled to any base management fees for the remainder of the agreement term.
We lease 48 vacation units in one of our hotels to a subsidiary of Wyndham Destinations, Inc. (NYSE: WYND), or Destinations, which requires that, as of September 30, 2019, we are paid annual minimum rents of $1,493. The guaranty provided by Destinations with respect to the Destinations lease for part of one hotel is unlimited. We recognized the contractual rents of $454 during both the three months ended September 30, 2019 and 2018 and $1,361 during each of the nine months ended September 30, 2019 and 2018 under our Destinations lease agreement. Rental income for the three months ended September 30, 2019 and 2018 for this lease includes $80 and $91, respectively, and $241 and $273 for the nine months ended September 30, 2019 and 2018, respectively, of adjustments necessary to record rent on a straight line basis.
On November 1, 2019, we rebranded two full-service hotels previously managed by Wyndham (Chicago, IL and Irvine, CA) to the Sonesta brands under a short term agreement with Sonesta that expires on December 31, 2020. We have amended the lease of the 48 vacation units at the Chicago hotel to Destinations so the term of the lease expires on March 31, 2020, at which time Destinations will vacate the leased space.
Hyatt agreement. Our management agreement with Hyatt for 22 hotels, or our Hyatt agreement, provides that, as of September 30, 2019, we are to be paid an annual minimum return of $22,037. We realized minimum returns of $5,509 during each of the three months ended September 30, 2019 and 2018 and minimum returns of $16,528 during each of the nine months ended September 30, 2019 and 2018 under this agreement. Pursuant to our Hyatt agreement, Hyatt has provided us with a guaranty, which is limited to $50,000. During the nine months ended September 30, 2019, the hotels under this agreement generated cash flows that were less than the minimum returns due to us for the period, and Hyatt made $569 of guaranty payments to cover the shortfall. The available balance of the guaranty was $21,346 as of September 30, 2019.
Radisson agreement. Our management agreement with Radisson for nine hotels, or our Radisson agreement, provides that, as of September 30, 2019, we are to be paid an annual minimum return of $20,442. We realized minimum returns of $5,099 and $4,730 during the three months ended September 30, 2019 and 2018, respectively, and $14,945 and $11,453 during the nine months ended September 30, 2019 and 2018, respectively, under this agreement. Pursuant to our Radisson agreement, Radisson has provided us with a limited guaranty which, as a result of capital improvement amounts funded by us during the nine months ended September 30, 2019, as described below, was increased $1,523 to a total of $47,523. During the nine months ended September 30, 2019, the hotels under this agreement generated cash flows that were less than the minimum returns due to us for the period, and Radisson made $93 of guaranty payments to cover the shortfall. The available balance of the guaranty was $42,466 as of September 30, 2019.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
We funded $19,034 for capital improvements at certain of the hotels included in our Radisson agreement during the nine months ended September 30, 2019, which resulted in increases in our contractual annual minimum returns of $1,523. We did not fund any capital improvements to the hotels included in our Radisson agreement during the nine months ended September 30, 2018.
Net lease portfolio
As of September 30, 2019, we owned 946 net lease service-oriented retail properties with 17.6 million square feet with annual minimum rent of $418,635 with a weighted (by annual minimum rents) average lease term of 11.3 years. The portfolio was 98% leased by 279 tenants operating under 163 brands in 23 distinct industries. As of September 30, 2019, 148 properties we acquired in the SMTA Transaction with 3.2 million square feet with annual minimum rent of $43,081 and a carrying value of $604,989 were classified as held for sale.
TA Leases
In January 2019, we entered agreements with TA, pursuant to which:
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•
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In January 2019, we sold to TA 20 travel center properties, which TA previously leased from us, for a total purchase price of $308,200.
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•
|
Upon completing these sales, these travel center properties were removed from the TA leases and TA’s annual minimum rent payable to us decreased by $43,148.
|
|
|
•
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Commencing on April 1, 2019, TA paid us the first of 16 quarterly installments of approximately $4,400 each (an aggregate of $70,458) to fully satisfy and discharge its $150,000 deferred rent obligation to us that otherwise would have become due in five installments between 2024 and 2030. TA paid to us $4,400 and $8,800 in respect of such obligation for the three and nine months ended September 30, 2019, respectively.
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•
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Commencing with the year ending December 31, 2020, TA will be obligated to pay to us an additional amount of percentage rent equal to one-half percent (0.5%) of the excess of its annual non-fuel revenues at leased sites over the non-fuel revenues for each respective site for the year ending December 31, 2019.
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|
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•
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The term of each TA lease was extended by three years.
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•
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Certain of the travel center properties that we did not sell to TA and that TA continued to lease from us were reallocated among the TA leases.
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See Note 7 for further information regarding the effects of certain of our property dispositions on our leases with TA.
TA is our largest tenant. As of September 30, 2019, we leased to TA a total of 179 travel centers under five leases that expire between 2029 and 2035 and require annual minimum returns of $246,088 which represents approximately 24.1% of our total annual minimum rents as of September 30, 2019.
We recognized rental income from TA of $62,537 and $74,797 for the three months ended September 30, 2019 and 2018, respectively, and $188,227 and $223,458 for the nine months ended September 30, 2019 and 2018, respectively. We reduced rental income by $3,390 and $7,880 for the three and nine months ended September 30, 2019, respectively, and increased rental income by $3,037 and $9,066 for the three and nine months ended September 30, 2018, respectively, to record the deferred rent obligations under our TA leases and the estimated future payments to us by TA for the cost of removing underground storage tanks on a straight line basis. As of September 30, 2019 and December 31, 2018, we had receivables for current rent amounts owed to us by TA and straight line rent adjustments of $72,587 and $91,212, respectively. These amounts are included in due from related persons in our condensed consolidated balance sheets.
On October 14, 2019, we and TA amended the five TA Leases, pursuant to which, among other things, certain of the 179 travel center properties that we lease to TA were reallocated among the TA Leases. As part of these amendments, we removed TA’s outstanding deferred rent obligations from the lease we refer to as our TA Lease No. 5 agreement for 35 travel centers, which expires in June 2035, and reallocated that amount to our other four TA leases. These amendments were entered into as part of our exploration of possible secured debt and joint venture financing with respect to the 35 properties subject to this lease.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Our TA leases do not require FF&E escrow deposits. However, TA is required to maintain the leased travel centers, including structural and non-structural components.
Under our TA leases, TA may request that we fund capital improvements in return for increases in TA’s annual minimum rent equal to 8.5% of the amounts funded. We did not fund any capital improvements to our properties that we leased to TA during the nine months ended September 30, 2019. We funded $44,653 of capital improvements to our properties that we leased to TA for the nine months ended September 30, 2018. As a result, TA’s annual minimum rent payable to us increased by $3,795.
In addition to the rental income that we recognized during the three months ended September 30, 2019 and 2018 as described above, our TA leases require TA to pay us percentage rent based upon increases in certain sales. We determine percentage rent due under our TA leases annually and recognize any resulting amount as rental income when all contingencies are met. We had aggregate deferred percentage rent under our TA leases of $1,020 and $934 for the three months ended September 30, 2019 and 2018, respectively, and $3,047 and $2,630 for the nine months ended September 30, 2019 and 2018, respectively.
See Note 10 for further information regarding our relationship with TA.
Other net lease agreements
We recognized rental income from the net lease properties we acquired under the SMTA Transaction of $5,485 for both the three and nine months ended September 30, 2019. We increased rental income by $258 for the three and nine months ended September 30, 2019 to record scheduled rent changes under certain of our leases on a straight line basis.
Additional lease information (as lessor). As of September 30, 2019, our leases with parties other than our TRSs provide for contractual minimum rents to be paid to us during the remaining current terms as follows:
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2019
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$
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184,600
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2020
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440,093
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2021
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436,348
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2022
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428,645
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2023
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412,430
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Thereafter
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3,260,594
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Total
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$
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5,162,710
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Additional lease information (as lessee). As of January 1, 2019, 14 of our hotels and one of our net lease portfolio locations were subject to ground leases where we are the lessee. In addition, our hotel operators enter various leases on our behalf in the normal course of business at our hotels, or our hotel operating leases. We calculated right of use assets and lease liabilities as the present value of the remaining lease payment obligations for our operating leases, which include the ground leases and hotel operating leases, over the remaining lease term using our estimated incremental borrowing rate. The right of use assets and related lease liabilities are included within other assets, net and accounts payable and other liabilities, respectively, in our condensed consolidated balance sheets.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
At September 30, 2019, our right of use assets and related lease liabilities totaled $75,746 and $76,224, respectively, which represented our future obligations under our operating lease agreements. Our operating leases require minimum fixed rent payments, percentage rent payments based on a percentage of hotel revenues in excess of certain thresholds, or rent payments equal to the greater of a minimum fixed rent or percentage rent. Rental expense related to our operating leases of $3,601 and $10,594 for the three and nine months ended September 30, 2019, respectively, is included in hotel operating expenses within our condensed consolidated statements of comprehensive income. As of September 30, 2019, our operating leases provide for contractual minimum rent payments to third parties during the remaining lease terms, as follows:
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2019
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$
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1,841
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2020
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6,910
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2021
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6,229
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2022
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5,691
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2023
|
5,564
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Thereafter
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145,374
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Total lease payments
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171,609
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Less: imputed interest
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(95,385
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)
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Present value of lease liabilities (1)
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$
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76,224
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|
|
|
(1)
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The weighted average discount rate used to calculate the lease liability and the weighted average remaining term for our ground leases (assuming all extension options) and our hotel operating leases are approximately 5.45% and 31 years (range of 12 to 68 years) and 5.47% and 30 years (range of 1 month to 54 years), respectively.
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As of September 30, 2019, 15 of our net lease properties are on land we leased partially or entirely from unrelated third parties. We are not required to record right of use assets and lease liabilities for these properties as we are not the primary obligor under the leases. The average remaining term of these 15 ground leases was 14 years (range of two to 31 years) with rents averaging $419 per year.
Generally, payments of ground lease obligations are made by our managers or tenants. However, if a manager or tenant did not perform obligations under a ground lease or did not renew any ground lease, we might have to perform obligations under the ground lease or renew the ground lease in order to protect our investment in the affected property.
Guarantees and security deposits generally. When we reduce the amounts of the security deposits we hold for any of our operating agreements for payment deficiencies, it does not result in additional cash flows to us of the deficiency amounts, but reduces the refunds due to the respective tenants or managers who have provided us with these security deposits upon expiration of the applicable operating agreement. The security deposits are non-interest bearing and are not held in escrow. Under these agreements, any amount of the security deposits which are applied to payment deficits may be replenished from a share of future cash flows from the applicable hotel operations pursuant to the terms of the applicable agreements.
Certain of our managed hotel portfolios had net operating results that were, in the aggregate, $19,631 and $9,216 less than the minimum returns due to us for the three months ended September 30, 2019 and 2018, respectively, and $54,112 and $31,030 less than the minimum returns due to us for the nine months ended September 30, 2019 and 2018, respectively. When managers of these hotels are required to fund the shortfalls under the terms of our management agreements or their guarantees, we reflect such fundings (including security deposit applications) in our condensed consolidated statements of comprehensive income as a reduction of hotel operating expenses. We reduced hotel operating expenses by $3,630 and $299 for the three months ended September 30, 2019 and 2018, respectively, and $17,166 and $2,377 for the nine months ended September 30, 2019 and 2018, respectively. We had shortfalls at certain of our managed hotel portfolios not funded by the managers of these hotels under the terms of our management agreements of $17,758 and $9,818 for the three months ended September 30, 2019 and 2018, respectively, and $41,555 and $28,653 for the nine months ended September 30, 2019 and 2018, respectively, which represent the unguaranteed portions of our minimum returns from our Sonesta and Wyndham agreements.
Certain of our managed hotel portfolios had net operating results that were, in the aggregate, $9,076 and $21,321 more than the minimum returns due to us for the three months ended September 30, 2019 and 2018, respectively, and $16,966 and $47,901 more than the minimum returns due to us for the nine months ended September 30, 2019 and 2018, respectively. Certain of our guarantees and our security deposits may be replenished by a share of future cash flows from the applicable hotel
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
operations in excess of the minimum returns due to us pursuant to the terms of the respective agreements. When our guarantees and security deposits are replenished by cash flows from hotel operations, we reflect such replenishments in our condensed consolidated statements of comprehensive income as an increase to hotel operating expenses. We had $3,631 and $5,204 of guaranty and security deposit replenishments for the three months ended September 30, 2019 and 2018, respectively, and $3,910 and $14,299 of guaranty and security deposit replenishments for the nine months ended September 30, 2019 and 2018, respectively.
Note 9. Business and Property Management Agreements with RMR LLC
We have no employees. The personnel and various services we require to operate our business are provided to us by RMR LLC. We have two agreements with RMR LLC to provide management services to us: (1) a business management agreement, which relates to our business generally; and (2) a property management agreement, which currently relates to our property level operations of the office building component of one of our hotels for the periods presented and, beginning on September 20, 2019, also includes the 767 properties we acquired pursuant to the SMTA Transaction.
Pursuant to our business management agreement, we recognized net business management fees of $9,919 and $10,430 for the three months ended September 30, 2019 and 2018, respectively, and $29,307 and $30,048 for the nine months ended September 30, 2019 and 2018, respectively. Based on our common share total return, as defined in our business management agreement, as of September 30, 2019, no incentive fees are included in the net business management fees we recognized for the three and nine months ended September 30, 2019. The actual amount of annual incentive fees for 2019, if any, will be based on our common share total return, as defined in our business management agreement, for the three year period ending December 31, 2019, and will be payable in 2020. The net business management fees we recognized for the three and nine months ended September 30, 2018 did not include any estimated incentive fees. In January 2019, we paid RMR LLC an incentive fee of $53,635 for 2018. We include business management fee amounts in general and administrative expenses in our condensed consolidated statements of comprehensive income.
Pursuant to our property management agreement with RMR LLC, we recognized property management fees of $163 and $18 for the three months ended September 30, 2019 and 2018, respectively, and $201 and $43 for the nine months ended September 30, 2019 and 2018, respectively. These amounts are included in other operating expenses in our condensed consolidated statements of comprehensive income.
We are generally responsible for all our operating expenses, including certain expenses incurred or arranged by RMR LLC on our behalf. We are generally not responsible for payment of RMR LLC’s employment, office or administrative expenses incurred to provide management services to us, except for the employment and related expenses of RMR LLC employees assigned to work exclusively or partly at the properties that are subject to the property management agreement, our share of the wages, benefits and other related costs of RMR LLC’s centralized accounting personnel, our share of RMR LLC’s costs for providing our internal audit function, and as otherwise agreed. We reimbursed RMR LLC $136 and $106 for these expenses and costs for the three months ended September 30, 2019 and 2018, respectively, and $478 and $340 for the nine months ended September 30, 2019 and 2018, respectively. We included these amounts in other operating expenses and selling, general and administrative expenses, as applicable, in our condensed consolidated statements of comprehensive income.
Note 10. Related Person Transactions
We have relationships and historical and continuing transactions with TA, Sonesta, RMR LLC, The RMR Group Inc., or RMR Inc., AIC and others related to them, including other companies to which RMR LLC or its subsidiaries provide management services and some of which have trustees, directors or officers who are also our Trustees or officers.
TA. TA is our largest tenant and property operator, leasing 26.6% of our gross carrying value of real estate properties as of September 30, 2019. We lease 179 of our travel centers to TA under the TA leases. We are also TA’s largest shareholder; as of September 30, 2019, we owned 684,000 common shares of TA, representing approximately 8.5% of TA’s outstanding common shares. RMR LLC provides management services to both us and TA, and Adam D. Portnoy, the Chair of our Board of Trustees and one of our Managing Trustees, also serves as the chair of the board of directors and as a managing director of TA. As of September 30, 2019, RMR LLC owned 298,538 common shares of TA, representing approximately 3.7% of TA’s outstanding common shares. Share amounts as of September 30, 2019 reflect a one-for-five reverse stock split completed by TA on August 1, 2019. See Note 8 for further information regarding our relationships, agreements and transactions with TA and Note 13 for further information regarding our investment in TA.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Sonesta. Sonesta is a private company owned in part by Adam Portnoy. Mr. Portnoy, our other Managing Trustee, President and Chief Executive Officer, and our Secretary are directors of Sonesta. As of September 30, 2019, Sonesta managed 51 of our hotels pursuant to management and pooling agreements. See Note 8 for further information regarding our relationships, agreements and transactions with Sonesta.
Our Manager, RMR LLC. We have two agreements with RMR LLC to provide management services to us. See Note 9 for further information regarding our management agreements with RMR LLC.
See Note 5 for information relating to the annual share awards we made in September 2019 to our officers and certain other employees of RMR LLC and common shares we purchased from our current and former officers and certain other employees of RMR LLC in satisfaction of tax withholding and payment obligations in connection with the vesting of awards of our common shares to them. We include amounts recognized as expense for share awards to RMR LLC employees in general and administrative expenses in our condensed consolidated statements of comprehensive income.
RMR Inc. RMR LLC is a majority owned subsidiary of RMR Inc. and RMR Inc. is the managing member of RMR LLC. Adam Portnoy is the sole trustee, an officer and the controlling shareholder of ABP Trust, which is the controlling shareholder of RMR Inc., a managing director and the president and chief executive officer of RMR Inc. and an officer and employee of RMR LLC. John G. Murray, our other Managing Trustee and our President and Chief Executive Officer, also serves as an officer and employee of RMR LLC, and each of our other officers is also an officer and employee of RMR LLC, including Ethan S. Bornstein, the brother-in-law of Adam Portnoy.
On July 1, 2019, we sold all the shares of class A common stock of RMR Inc. that we owned in an underwritten public offering at a price to the public of $40.00 per share pursuant to an underwriting agreement among us, RMR Inc., certain other REITs managed by RMR LLC that also sold their class A common stock of RMR Inc. in the offering, and the underwriters named therein. We received net proceeds of $93,568 from this sale, after deducting the underwriting discounts, commissions and other costs.
AIC. We, ABP Trust, TA and four other companies to which RMR LLC provides management services currently own AIC, an Indiana insurance company, in equal amounts. We and the other AIC shareholders historically participated in a combined property insurance program arranged and reinsured in part by AIC. The policies under that program expired on September 30, 2019, and we and the other AIC shareholders elected not to renew the AIC property insurance program; we have instead purchased standalone property insurance coverage with unrelated third party insurance providers.
As of September 30, 2019 and December 31, 2018, our investment in AIC had a carrying value of $9,347 and $8,639, respectively. These amounts are included in other assets in our condensed consolidated balance sheets. We recognized income of $83 and $830 for the three months ended September 30, 2019 and 2018, respectively, and $617 and $881 for the nine months ended September 30, 2019 and 2018, respectively, related to our investment in AIC, which amounts are presented as equity in earnings of an investee in our condensed consolidated statements of comprehensive income. Our other comprehensive income (loss) includes our proportionate part of unrealized gains (losses) on fixed income securities that are owned by AIC related to our investment in AIC.
AIC is in the process of dissolving. In connection with its dissolution, we expect to receive a capital distribution in the fourth quarter of 2019.
For further information about these and certain other such relationships and certain other related person transactions, refer to our 2018 Annual Report.
Note 11. Income Taxes
We have elected to be taxed as a REIT under the United States Internal Revenue Code of 1986, as amended, or the IRC, and, as such, are generally not subject to federal and most state income taxation on our operating income provided we distribute our taxable income to our shareholders and meet certain organization and operating requirements. We are subject to income tax in Canada, Puerto Rico and certain states despite our qualification for taxation as a REIT. Further, we lease our managed hotels to our wholly owned TRSs that, unlike most of our subsidiaries, file a separate consolidated tax return and are subject to federal, state and foreign income taxes. Our consolidated income tax provision includes the income tax provision related to the
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
operations of our TRSs and certain state and foreign income taxes incurred by us despite our qualification for taxation as a REIT.
During the three and nine months ended September 30, 2019, we recognized income tax expense of $467 and $1,266, respectively, which includes $229 and $447, respectively of foreign taxes and $238 and $819, respectively of state taxes. During the three and nine months ended September 30, 2018, we recognized income tax expense of $707 and $1,949, respectively, which includes $291 and $631, respectively, of foreign taxes and $416 and $1,318, respectively, of state taxes.
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Note 12. Segment Information
We aggregate our hotels and net lease portfolio into two reportable segments, hotel investments and net lease investments (previously named travel centers), based on their similar operating and economic characteristics.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30, 2019
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Revenues:
|
|
|
|
|
|
|
|
|
Hotel operating revenues
|
|
$
|
525,290
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
525,290
|
|
Rental income
|
|
5,565
|
|
|
68,054
|
|
|
—
|
|
|
73,619
|
|
FF&E reserve income
|
|
863
|
|
|
—
|
|
|
—
|
|
|
863
|
|
Total revenues
|
|
531,718
|
|
|
68,054
|
|
|
—
|
|
|
599,772
|
|
|
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Hotel operating expenses
|
|
377,895
|
|
|
—
|
|
|
—
|
|
|
377,895
|
|
Other operating expenses
|
|
369
|
|
|
1,338
|
|
|
—
|
|
|
1,707
|
|
Depreciation and amortization
|
|
66,929
|
|
|
36,231
|
|
|
—
|
|
|
103,160
|
|
General and administrative
|
|
—
|
|
|
—
|
|
|
12,464
|
|
|
12,464
|
|
Total expenses
|
|
445,193
|
|
|
37,569
|
|
|
12,464
|
|
|
495,226
|
|
|
|
|
|
|
|
|
|
|
Dividend income
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Unrealized losses on equity securities
|
|
—
|
|
|
—
|
|
|
(3,950
|
)
|
|
(3,950
|
)
|
Interest income
|
|
177
|
|
|
—
|
|
|
511
|
|
|
688
|
|
Interest expense
|
|
—
|
|
|
—
|
|
|
(52,375
|
)
|
|
(52,375
|
)
|
Loss on early extinguishment of debt
|
|
—
|
|
|
—
|
|
|
(8,451
|
)
|
|
(8,451
|
)
|
Income (loss) before income taxes and equity in earnings of an investee
|
|
86,702
|
|
|
30,485
|
|
|
(76,729
|
)
|
|
40,458
|
|
Income tax expense
|
|
—
|
|
|
—
|
|
|
(467
|
)
|
|
(467
|
)
|
Equity in earnings of an investee
|
|
—
|
|
|
—
|
|
|
83
|
|
|
83
|
|
Net income (loss)
|
|
$
|
86,702
|
|
|
$
|
30,485
|
|
|
$
|
(77,113
|
)
|
|
$
|
40,074
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30, 2019
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Revenues:
|
|
|
|
|
|
|
|
|
Hotel operating revenues
|
|
$
|
1,521,368
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,521,368
|
|
Rental income
|
|
16,700
|
|
|
193,809
|
|
|
—
|
|
|
210,509
|
|
FF&E reserve income
|
|
3,365
|
|
|
—
|
|
|
—
|
|
|
3,365
|
|
Total revenues
|
|
1,541,433
|
|
|
193,809
|
|
|
—
|
|
|
1,735,242
|
|
|
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Hotel operating expenses
|
|
1,076,011
|
|
|
—
|
|
|
—
|
|
|
1,076,011
|
|
Other operating expenses
|
|
1,101
|
|
|
3,318
|
|
|
—
|
|
|
4,419
|
|
Depreciation and amortization
|
|
200,533
|
|
|
101,188
|
|
|
—
|
|
|
301,721
|
|
General and administrative
|
|
—
|
|
|
—
|
|
|
36,906
|
|
|
36,906
|
|
Total expenses
|
|
1,277,645
|
|
|
104,506
|
|
|
36,906
|
|
|
1,419,057
|
|
|
|
|
|
|
|
|
|
|
Gain on sale of real estate
|
|
—
|
|
|
159,535
|
|
|
—
|
|
|
159,535
|
|
Dividend income
|
|
—
|
|
|
—
|
|
|
1,752
|
|
|
1,752
|
|
Unrealized losses on equity securities
|
|
—
|
|
|
—
|
|
|
(43,761
|
)
|
|
(43,761
|
)
|
Interest income
|
|
603
|
|
|
—
|
|
|
1,171
|
|
|
1,774
|
|
Interest expense
|
|
—
|
|
|
—
|
|
|
(151,742
|
)
|
|
(151,742
|
)
|
Loss on early extinguishment of debt
|
|
—
|
|
|
—
|
|
|
(8,451
|
)
|
|
(8,451
|
)
|
Income (loss) before income taxes and equity in earnings of an investee
|
|
264,391
|
|
|
248,838
|
|
|
(237,937
|
)
|
|
275,292
|
|
Income tax expense
|
|
—
|
|
|
—
|
|
|
(1,266
|
)
|
|
(1,266
|
)
|
Equity in earnings of an investee
|
|
—
|
|
|
—
|
|
|
617
|
|
|
617
|
|
Net income (loss)
|
|
$
|
264,391
|
|
|
$
|
248,838
|
|
|
$
|
(238,586
|
)
|
|
$
|
274,643
|
|
|
|
|
|
|
|
|
|
|
|
|
As of September 30, 2019
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Total assets
|
|
$
|
4,823,114
|
|
|
$
|
4,642,072
|
|
|
$
|
50,317
|
|
|
$
|
9,515,503
|
|
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30, 2018
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Revenues:
|
|
|
|
|
|
|
|
|
Hotel operating revenues
|
|
$
|
520,618
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
520,618
|
|
Rental income
|
|
6,404
|
|
|
74,918
|
|
|
—
|
|
|
81,322
|
|
FF&E reserve income
|
|
1,213
|
|
|
—
|
|
|
—
|
|
|
1,213
|
|
Total revenues
|
|
528,235
|
|
|
74,918
|
|
|
—
|
|
|
603,153
|
|
|
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Hotel operating expenses
|
|
365,526
|
|
|
—
|
|
|
—
|
|
|
365,526
|
|
Other operating expenses
|
|
427
|
|
|
1,041
|
|
|
—
|
|
|
1,468
|
|
Depreciation and amortization
|
|
64,415
|
|
|
36,592
|
|
|
—
|
|
|
101,007
|
|
General and administrative
|
|
—
|
|
|
—
|
|
|
13,425
|
|
|
13,425
|
|
Total expenses
|
|
430,368
|
|
|
37,633
|
|
|
13,425
|
|
|
481,426
|
|
|
|
|
|
|
|
|
|
|
Dividend income
|
|
—
|
|
|
—
|
|
|
626
|
|
|
626
|
|
Unrealized gains and losses on equity securities, net
|
|
—
|
|
|
—
|
|
|
43,453
|
|
|
43,453
|
|
Interest income
|
|
314
|
|
|
—
|
|
|
164
|
|
|
478
|
|
Interest expense
|
|
—
|
|
|
—
|
|
|
(49,308
|
)
|
|
(49,308
|
)
|
Loss on early extinguishment of debt
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Income (loss) before income taxes and equity in earnings of an investee
|
|
98,181
|
|
|
37,285
|
|
|
(18,490
|
)
|
|
116,976
|
|
Income tax expense
|
|
—
|
|
|
—
|
|
|
(707
|
)
|
|
(707
|
)
|
Equity in earnings of an investee
|
|
—
|
|
|
—
|
|
|
830
|
|
|
830
|
|
Net income (loss)
|
|
$
|
98,181
|
|
|
$
|
37,285
|
|
|
$
|
(18,367
|
)
|
|
$
|
117,099
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30, 2018
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Revenues:
|
|
|
|
|
|
|
|
|
Hotel operating revenues
|
|
$
|
1,494,283
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,494,283
|
|
Rental income
|
|
21,827
|
|
|
223,716
|
|
|
—
|
|
|
245,543
|
|
FF&E reserve income
|
|
3,911
|
|
|
—
|
|
|
—
|
|
|
3,911
|
|
Total revenues
|
|
1,520,021
|
|
|
223,716
|
|
|
—
|
|
|
1,743,737
|
|
|
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Hotel operating expenses
|
|
1,052,121
|
|
|
—
|
|
|
—
|
|
|
1,052,121
|
|
Other operating expenses
|
|
1,231
|
|
|
2,705
|
|
|
—
|
|
|
3,936
|
|
Depreciation and amortization
|
|
189,814
|
|
|
110,494
|
|
|
—
|
|
|
300,308
|
|
General and administrative
|
|
—
|
|
|
—
|
|
|
38,280
|
|
|
38,280
|
|
Total expenses
|
|
1,243,166
|
|
|
113,199
|
|
|
38,280
|
|
|
1,394,645
|
|
|
|
|
|
|
|
|
|
|
Dividend income
|
|
—
|
|
|
—
|
|
|
1,878
|
|
|
1,878
|
|
Unrealized gains and losses on equity securities, net
|
|
—
|
|
|
—
|
|
|
89,348
|
|
|
89,348
|
|
Interest income
|
|
717
|
|
|
—
|
|
|
376
|
|
|
1,093
|
|
Interest expense
|
|
—
|
|
|
—
|
|
|
(145,589
|
)
|
|
(145,589
|
)
|
Loss on early extinguishment of debt
|
|
—
|
|
|
—
|
|
|
(160
|
)
|
|
(160
|
)
|
Income (loss) before income taxes and equity in earnings of an investee
|
|
277,572
|
|
|
110,517
|
|
|
(92,427
|
)
|
|
295,662
|
|
Income tax expense
|
|
—
|
|
|
—
|
|
|
(1,949
|
)
|
|
(1,949
|
)
|
Equity in earnings of an investee
|
|
—
|
|
|
—
|
|
|
881
|
|
|
881
|
|
Net income (loss)
|
|
$
|
277,572
|
|
|
$
|
110,517
|
|
|
$
|
(93,495
|
)
|
|
$
|
294,594
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2018
|
|
|
Hotels
|
|
Net Lease
|
|
Corporate
|
|
Consolidated
|
Total assets
|
|
$
|
4,586,709
|
|
|
$
|
2,398,118
|
|
|
$
|
192,252
|
|
|
$
|
7,177,079
|
|
SERVICE PROPERTIES TRUST
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except share data)
(Unaudited)
Note 13. Fair Value of Assets and Liabilities
The table below presents certain of our assets and liabilities carried at fair value at September 30, 2019, categorized by the level of inputs, as defined in the fair value hierarchy under GAAP, used in the valuation of each asset or liability.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value at Reporting Date Using
|
|
|
|
|
Quoted Prices in
|
|
|
|
|
|
|
|
|
Active Markets for
|
|
Significant Other
|
|
Significant
|
|
|
Carrying Value at
|
|
Identical Assets
|
|
Observable Inputs
|
|
Unobservable Inputs
|
Description
|
|
September 30, 2019
|
|
(Level 1)
|
|
(Level 2)
|
|
(Level 3)
|
Recurring Fair Value Measurement Assets:
|
|
|
|
|
|
|
Investment in TA (1)
|
|
$
|
8,430
|
|
|
$
|
8,430
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Non-recurring Fair Value Measurement Assets:
|
|
|
|
|
|
|
Assets of properties held for sale (2)
|
|
$
|
607,636
|
|
|
$
|
—
|
|
|
$
|
518,300
|
|
|
$
|
89,336
|
|
|
|
(1)
|
Our 684,000 common shares of TA, which are included in other assets in our condensed consolidated balance sheets, are reported at fair value which is based on quoted market prices (Level 1 inputs). Our historical cost basis for these shares is $17,407 as of September 30, 2019. During the three and nine months ended September 30, 2019, we recorded unrealized losses of $3,950 and $4,429, respectively, and during the three and nine months ended September 30, 2018, we recorded unrealized gains of $7,524 and $5,472, respectively, to adjust the carrying value of our investment in TA shares to its fair value.
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(2)
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As of September 30, 2019, we owned 148 net lease properties located in 26 states classified as held for sale of $604,989, which is net of estimated costs to sell of $2,647. We have recorded 136 of these properties at their estimated fair value of $518,300 based on negotiated selling prices with third party buyers (Level 2 inputs as defined in the fair value hierarchy under GAAP). The remaining 12 of these properties are recorded at their estimated fair value of $89,336 based on information derived from third party appraisals (Level 3 inputs as defined in the fair value hierarchy under GAAP).
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In addition to the investment securities included in the table above, our financial instruments include our cash and cash equivalents, restricted cash, rents receivable, revolving credit facility, term loan, senior notes and security deposits. At September 30, 2019 and December 31, 2018, the fair values of these additional financial instruments approximated their carrying values in our condensed consolidated balance sheets due to their short term nature or floating interest rates, except as follows:
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September 30, 2019
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December 31, 2018
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Carrying
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Fair
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Carrying
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Fair
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Value (1)
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Value
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Value (1)
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Value
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Senior Unsecured Notes, due 2021 at 4.25%
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$
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398,019
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$
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405,594
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$
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396,938
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$
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404,582
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Senior Unsecured Notes, due 2022 at 5.00%
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496,518
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524,058
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495,609
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510,658
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Senior Unsecured Notes, due 2023 at 4.50%
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499,391
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515,003
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499,268
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503,295
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Senior Unsecured Notes, due 2024 at 4.65%
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348,193
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360,395
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347,890
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349,741
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Senior Unsecured Notes, due 2024 at 4.35%
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817,713
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836,026
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—
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—
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Senior Unsecured Notes, due 2025 at 4.50%
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346,259
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355,420
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345,743
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341,114
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Senior Unsecured Notes, due 2026 at 5.25%
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342,801
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363,979
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341,955
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354,060
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Senior Unsecured Notes, due 2026 at 4.75%
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445,756
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453,076
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—
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—
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Senior Unsecured Notes, due 2027 at 4.95%
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394,460
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406,718
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393,893
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391,660
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Senior Unsecured Notes, due 2028 at 3.95%
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390,472
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379,724
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389,610
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361,232
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Senior Unsecured Notes, due 2029 at 4.95%
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417,112
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406,604
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—
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—
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Senior Unsecured Notes, due 2030 at 4.375%
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388,239
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383,118
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387,389
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367,110
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Total financial liabilities
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$
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5,284,933
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$
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5,389,715
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$
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3,598,295
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$
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3,583,452
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(1)
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Carrying value includes unamortized discounts and premiums and issuance costs.
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At September 30, 2019 and December 31, 2018, we estimated the fair values of our senior notes using an average of the bid and ask price of our then outstanding issuances of senior notes (Level 2 inputs).