NHI-12/31/2013-10K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K
(Mark One)
[ x ]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the fiscal year ended December 31, 2013
 
 
[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the transition period from _____________ to _____________

Commission File Number 001-10822
National Health Investors, Inc.
(Exact name of registrant as specified in its charter)
Maryland
 
62-1470956
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
222 Robert Rose Drive, Murfreesboro, Tennessee
 
37129
(Address of principal executive offices)
 
(Zip Code)
(615) 890-9100
(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:
Title of each Class
 
Name of each exchange on which registered
Common stock, $.01 par value
 
New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [ x ] No [ ]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes [ ] No [ x ]

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [ x ] No [ ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files) Yes [ x ] No [ ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer          [ x ]
 
Accelerated filer                      [ ]
Non-accelerated filer            [ ]
 
Smaller reporting company     [ ]
(Do not check if a smaller reporting company)
 
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ x ]

The aggregate market value of shares of common stock held by non-affiliates on June 30, 2013 (based on the closing price of these shares on the New York Stock Exchange) was approximately $1,570,271,000. There were 33,051,176 shares of the registrant’s common stock outstanding as of February 14, 2014.

DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s definitive proxy statement for its 2014 annual meeting of stockholders are incorporated by reference into Part III, Items 10, 11, 12, 13, and 14 of this Form 10-K.


Table of Contents

 
Page
 
 
 
 
 
 
 
 
 
 


2
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PART I.

Forward Looking Statements

References throughout this document to NHI or the Company include National Health Investors, Inc., and its consolidated subsidiaries. In accordance with the Securities and Exchange Commission’s “Plain English” guidelines, this Annual Report on Form 10-K has been written in the first person. In this document, the words “we”, “our”, “ours” and “us” refer only to National Health Investors, Inc. and its consolidated subsidiaries and not any other person. Unless the context indicates otherwise, references herein to “the Company” include all of our consolidated subsidiaries.

This Annual Report on Form 10-K and other materials we have filed or may file with the Securities and Exchange Commission, as well as information included in oral statements made, or to be made, by our senior management contain certain “forward-looking” statements as that term is defined by the Private Securities Litigation Reform Act of 1995. All statements regarding our expected future financial position, results of operations, cash flows, funds from operations, continued performance improvements, ability to service and refinance our debt obligations, ability to finance growth opportunities, and similar statements including, without limitation, those containing words such as “may”, “will”, “believes”, “anticipates”, “expects”, “intends”, “estimates”, “plans”, and other similar expressions are forward-looking statements.

Forward-looking statements involve known and unknown risks and uncertainties that may cause our actual results in future periods to differ materially from those projected or contemplated in the forward-looking statements. Such risks and uncertainties include, among other things, the following risks described in more detail under the heading “Risk Factors” under Item 1A:

*
We depend on the operating success of our customers (facility operators) for collection of our revenues during this time of uncertain economic conditions in the U.S.;

*
We are exposed to the risk that our tenants and borrowers may become subject to bankruptcy or insolvency proceedings;

*
We are exposed to risks related to governmental regulations and payors, principally Medicare and Medicaid, and the effect that lower reimbursement rates will have on our tenants’ and borrowers’ business;

*
We are exposed to the risk that the cash flows of our tenants and borrowers will be adversely affected by increased liability claims and general and professional liability insurance costs;

*
We are exposed to risks related to environmental laws and the costs associated with the liability related to hazardous substances;

*
We are exposed to the risk that we may not be indemnified by our lessees and borrowers against future litigation;

*
We depend on the success of future acquisitions and investments;

*
We depend on the ability to reinvest cash in real estate investments in a timely manner and on acceptable terms;

*
We may need to incur more debt in the future, which may not be available on terms acceptable to the Company;

*
We are exposed to the risk that the illiquidity of real estate investments could impede our ability to respond to adverse changes in the performance of our properties;

*
We are exposed to risks associated with our investments in unconsolidated entities, including our lack of sole decision-making authority and our reliance on the financial condition of other interests;

*
We depend on revenues derived mainly from fixed rate investments in real estate assets, while our debt capital used to finance those investments is primarily at variable rates. This circumstance creates interest rate risk to the Company;

*
We have covenants related to our indebtedness which impose certain operational limitations and a breach of those covenants could materially adversely affect our financial condition and results of operations;

*
We are exposed to the risk that our assets may be subject to impairment charges;

*
We depend on the ability to continue to qualify as a real estate investment trust;


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*
We have ownership limits in our charter with respect to our common stock and other classes of capital stock which may delay, defer or prevent a transaction or a change of control that might involve a premium price for our common stock or might otherwise be in the best interests of our stockholders;

*
We are subject to certain provisions of Maryland law and our charter and bylaws that could hinder, delay or prevent a change in control transaction, even if the transaction involves a premium price for our common stock or our stockholders believe such transaction to be otherwise in their best interests.

See the notes to the annual audited consolidated financial statements, and “Business” and “Risk Factors” under Item 1 and Item 1A therein for a further discussion of these and of various governmental regulations and other operating factors relating to the healthcare industry and the risk factors inherent in them. You should carefully consider these risks before making any investment decisions in the Company. These risks and uncertainties are not the only ones we face. There may be additional risks that we do not presently know of or that we currently deem immaterial. If any of the risks actually occur, our business, financial condition, results of operations, or cash flows could be materially adversely affected. In that case, the trading price of our shares of stock could decline and you may lose part or all of your investment. Given these risks and uncertainties, we can give no assurance that these forward-looking statements will, in fact, occur and, therefore, caution investors not to place undue reliance on them.

ITEM 1. BUSINESS

General

National Health Investors, Inc., incorporated under the laws of Maryland in 1991, is a real estate investment trust ("REIT") which invests in income-producing health care properties primarily in the long-term care and senior housing industries. As of December 31, 2013, our portfolio consisted of real estate, mortgage and note investments and investments in the preferred stock and marketable securities of other REITs. We are a self-managed REIT investing in health care real estate or in the operations thereof through independent third-party managers that generate current income to be distributed to stockholders. We have pursued this mission by investing primarily in leased properties, loans and RIDEA transactions. These investments include senior housing (assisted living, independent living and senior living campuses), skilled nursing facilities, hospitals and medical office buildings, all of which are collectively referred to herein as "Health Care Facilities." We typically fund these investments through three sources of capital: (1) debt offerings, including bank lines of credit and ordinary term debt, (2) current cash flow, and (3) the sale of equity securities.

At December 31, 2013, our continuing operations consisted of investments in real estate and mortgage and other notes receivable involving 168 health care facilities located in 30 states. These investments involve 94 senior housing communities, 68 skilled nursing facilities, 4 hospitals, 2 medical office buildings and other notes receivable. These investments (excluding our corporate office of $882,000) consisted of properties with an original cost of approximately $1,421,120,000, rented under triple-net leases to 23 lessees, and $60,639,000 aggregate carrying value of mortgage and other notes receivable due from 15 borrowers.

All of our investments in real estate and mortgage loans secured by real estate are located within the United States. We are managed as one reporting unit, rather than multiple reporting units, for internal reporting purposes and for internal decision making. Therefore, we have concluded that we operate as a single segment. Information about revenues from our tenants and borrowers, a measure of our income, and total assets can be found in Item 8 of this Form 10-K.

Types of Health Care Facilities

Senior Housing Communities. As of December 31, 2013, our portfolio included 91 senior housing communities (“SHO”) leased to operators and mortgage loans secured by 3 SHOs. SHOs within our portfolio consist of assisted living facilities, independent living facilities, and senior living campuses which are more fully described below.

-
Assisted living facilities. As of December 31, 2013, our portfolio included 58 assisted living facilities (“ALF”) leased to operators and mortgage loans secured by 2 ALFs. ALFs are free-standing facilities that provide basic room and board functions for elderly residents. They may also provide assistance to elderly residents with activities of daily living such as bathing, grooming, memory care services and administering medication. On-site staff personnel are available to assist in minor medical needs on an as-needed basis. Operators of ALFs are typically paid from private sources without assistance from government. ALFs may be licensed and regulated in some states, but do not require the issuance of a Certificate of Need (“CON”) as required for skilled nursing facilities.

-
Independent living facilities. As of December 31, 2013, our portfolio included 28 independent living facilities (“ILF”) leased to operators. ILFs offer specially designed residential units for the active and ambulatory elderly and provide various

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ancillary services for their residents including restaurants, activity rooms and social areas. Services provided by ILF operators are generally paid from private sources without assistance from government programs. ILFs may be licensed and regulated in some states, but do not require the issuance of a CON as required for skilled nursing facilities.

-
Senior living campuses. As of December 31, 2013, our portfolio included 5 senior living campuses ("SLC") leased to operators and a mortgage loan secured by 1 SLC. SLCs are either freestanding or multi-site campuses that include skilled nursing beds combined with an ILF and/or an ALF that provide basic room and board functions for elderly residents. They may also provide assistance to elderly residents with activities of daily living such as bathing, grooming and administering medication. On-site staff personnel are available to assist in minor medical needs on an as-needed basis. Operators of SLCs are typically paid from private sources and from government programs such as Medicare and Medicaid for skilled nursing residents.

Skilled nursing facilities. As of December 31, 2013, our portfolio included 61 skilled nursing facilities (“SNF”) leased to operators and mortgage loans secured by 7 SNFs. SNFs provide some combination of skilled and intermediate nursing and rehabilitative care, including speech, physical and occupational therapy. The operators of the SNFs receive payment from a combination of private pay sources and government programs such as Medicaid and Medicare. SNFs are required to obtain state licenses and are highly regulated at the federal, state and local level. Most SNFs must obtain a CON from the state before opening or expanding such facilities. Some SNFs also include assisted living beds.

Medical office buildings. As of December 31, 2013, our portfolio included 2 medical office buildings (“MOB”) leased to operators. MOBs are specifically configured office buildings whose tenants are primarily physicians and other medical practitioners. MOBs differ from conventional office buildings due to the special requirements of the tenants. Each of our MOBs is leased to one lessee, and is either physically attached to or located on an acute care hospital campus. The lessee sub-leases individual office space to the physicians or other medical practitioners. The lessee is responsible to us for the lease obligations of the entire building, regardless of their ability to sub-lease the individual office space.

Hospitals. As of December 31, 2013, our portfolio included 3 hospitals (“HOSP”) leased to operators and a mortgage loan secured by 1 hospital. Hospitals provide a wide range of inpatient and outpatient services, including acute psychiatric and rehabilitation services, and are subject to extensive federal, state and local legislation and regulation. Hospitals undergo periodic inspections regarding standards of medical care, equipment and hygiene as a condition of licensure. Services provided by hospitals are generally paid for by a combination of private pay sources and government programs.

Nature of Investments

Our investments are typically structured as acquisitions of properties through purchase-leaseback transactions, acquisitions of properties from other real estate investors, mortgage loans or, in operations, through structures allowed by the REIT Investment Diversification Empowerment Act of 2007 (“RIDEA”). We have also provided construction loans for facilities for which we were already committed to provide long-term financing or for which the operator agreed to enter into a lease with us upon completion of the construction. The annual lease rates on our leases and the annual interest rates on our mortgage and construction loans ranged between 6.5% and 12% during 2013. We normally charge a commitment fee of 1% based on the purchase price of the property or the total principal amount of a mortgage or construction loan. We believe our lease and loan terms are competitive within our peer group. Typical characteristics of these transactions are as follows:

Leases. Our leases generally have an initial leasehold term of 10 to 15 years with one or more 5-year renewal options. The leases are "triple net leases" under which the tenant is responsible for the payment of all taxes, utilities, insurance premium costs, repairs and other charges relating to the ownership and operation of the Health Care Facilities, including required levels of capital expenditure each year. The tenant is obligated at its expense to keep all improvements, fixtures and other components of the Health Care Facilities covered by "all risk" insurance in an amount equal to at least the full replacement cost thereof, and to maintain specified minimal personal injury and property damage insurance, protecting us as well as the tenant. The leases also require the tenant to indemnify and hold us harmless from all claims resulting from the use and occupancy of each Health Care Facility by the tenant and related activities, and to indemnify us against all costs related to any release, discovery, clean-up and removal of hazardous substances or materials on, or other environmental responsibility with respect to each Health Care Facility.

Most of our existing leases contain annual escalators in rent payments. For financial statement purposes, rental income is recognized on a straight-line basis over the term of the lease. The acute care hospital and MOBs which we own and lease give the lessee an option to purchase the underlying property at the greater of i) our acquisition costs; ii) the then fair market value as established by independent appraisers or iii) the sum of the land costs, construction costs and any additional capital improvements made to the property by us. In addition, the acute care hospital and MOB leases contain a right of first refusal for the lessee if we receive an offer to buy the underlying leased property.

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Some of the obligations under the leases are guaranteed by the parent corporation of the lessee, if any, or affiliates or individual principals of the lessee. In some leases, the third party operator will also guarantee some portion of the lease obligations. Some obligations are backed further by other collateral such as security deposits, machinery, equipment, furnishings and other personal property.

We monitor our triple-net lessee tenant credit quality and identify any material changes by performing the following activities:

•
Obtaining financial statements on a monthly, quarterly and/or annual basis to assess the operational trends of our tenants and the financial position and capability of those tenants
•
Calculating the operating cash flow for each of our tenants
•
Calculating the lease service coverage ratio and other ratios pertinent to our tenants
•
Obtaining property-level occupancy rates for our tenants
•
Verifying the payment of taxes by our tenants
•
Obtaining certificates of insurance for each tenant
•
Obtaining financial statements of our lessee guarantors on an annual basis
•
Conducting a periodic inspection of our properties to ascertain proper maintenance, repair and upkeep
•
Monitoring those tenants with indications of continuing and material deteriorating credit quality through discussions with our executive management and Board of Directors

RIDEA Transactions. Our arrangement with Bickford Senior Living ("Bickford") is structured to be compliant with the provisions of RIDEA which permits NHI to receive rent payments through a triple-net lease between a property company and an operating company and gives NHI the opportunity to capture additional value on the improving performance of the operating company through distributions to a Taxable REIT Subsidiary ("TRS"). Accordingly, the TRS holds our 85% equity interest in an unconsolidated operating company, which we do not control, and provides an organizational structure that will allow the TRS to engage in a broad range of activities and share in revenues that would otherwise be non-qualifying income under the REIT gross income tests.

Construction loans. From time to time, we also provide construction loans that by their terms convert to mortgage loans upon the completion of the construction of the facility. We may also obtain a purchase option to acquire the facility at a future date and lease the facility back to the operator. The terms of such construction loans are for a period which commences upon the closing of such loans and terminates upon the earlier of (a) the completion of the construction of the applicable facility or (b) a specific date. During the term of the construction loan, funds are usually advanced pursuant to draw requests made by the borrower in accordance with the terms and conditions of the loan. Interest is typically assessed on these loans at rates equivalent to the eventual mortgage rate upon conversion. In addition to the security of the lien against the property, we will generally require additional security and collateral in the form of either payment and performance completion bonds or completion guarantees by the borrower's parent, affiliates of the borrower or one or more of the individuals who control the borrower.

Mortgage loans. We have first mortgage loans with maturities of at least 5 years from inception with varying amortization schedules from interest only to fully amortizing. Most of the loans are at a fixed interest rate; however, some interest rates increase based on scheduled fixed rate increases. In most cases, the owner of the facility is committed to make minimum annual capital expenditures for the purpose of maintaining or upgrading their respective facility. Additionally, most of our loans are collateralized by first mortgage liens and corporate or personal guarantees.

We have made mortgage loans to borrowers secured by a second deed-of-trust where there is a process in place for the borrower to obtain long-term financing, primarily with a U.S. government agency, and where the historical financial performance of the underlying health care facility meets our loan underwriting criteria. The interest rates on our second mortgage loans are currently 12% to 14.5% per annum.

Other notes receivable. We have provided a revolving credit facility to a borrower whose business is to provide bridge loans to owner-operators who are qualifying for long-term HUD financing secured by health care facilities. Our interest rate on the credit facility is 13.5%. We have provided loans to borrowers involved in the skilled nursing and senior housing industries who have pledged personal and business guarantees as security for the loans. The interest rates on these loans currently range from 12% to13.5%.

Investment in preferred stock and marketable securities of other healthcare REITs. We invest a portion of our funds in the preferred and common shares of other publicly-held REITs to ensure the substantial portion of our assets is invested for real estate purposes. As of December 31, 2013, our investments in preferred and common shares of publicly-held REITs had a carrying value of $50,782,000. Please refer to Notes 5 & 6 of our consolidated financial statements for further information.

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Competition and Market Conditions

We compete with other REITs, private equity funds and other investors (including, but not limited to, banks, insurance companies, and investment banks who market securities in mortgage funds) in the acquisition, leasing and financing of health care-related properties.

Operators of our Health Care Facilities compete on a local and regional basis with operators of facilities that provide comparable services. Operators compete for residents and/or patients and staff based on quality of care, reputation, physical appearance of facilities, services offered, family preference, physicians, staff and price. Competition is with independent operators as well as companies managing multiple facilities, some of which are substantially larger and have greater resources than the operators of our Health Care Facilities. Some of these facilities are operated for profit while others are owned by governmental agencies or tax exempt not-for-profit organizations.

The SNFs which either secure our mortgage loans or we lease to operators receive the majority of their revenues from Medicare, Medicaid and other government programs. From time to time, these facilities have experienced Medicare and Medicaid revenue reductions brought about by the enactment of legislation to reduce government costs. In particular, the establishment of a Medicare Prospective Payment System (“PPS”) for SNF services to replace the cost-based reimbursement system significantly reduced Medicare reimbursement to SNF providers. While Congress subsequently took steps to mitigate the impact of PPS on SNFs, other federal legislative policies have been adopted and continue to be proposed that would reduce Medicare and/or Medicaid payments to SNFs. State Medicaid funding is not expected to keep pace with inflation according to industry studies. Any changes in government reimbursement methodology that reduce reimbursement to levels that are insufficient to cover the operating costs of our borrowers and lessees could adversely impact us.

Senior housing communities generally rely on private-pay residents who may be negatively impacted in an economic downturn. The success of these facilities is often impacted by the existence of comparable, competing facilities in a local market.

Operator Diversification

The majority of our Health Care Facilities are operated by the owner or lessee. For the year ended December 31, 2013, approximately 38% of our portfolio revenue was from publicly-owned operators, 50% was from regional operators, 8% was from smaller operators and 4% from national chains which are privately owned. We consider the operator to be an important factor in determining the creditworthiness of the investment, and we generally have the right to approve any changes in operators.

For the year ended December 31, 2013, operators of facilities which provided more than 3% of our total revenues were (in alphabetical order): Bickford Senior Living; Emeritus Senior Living; Fundamental Long Term Care Holdings, LLC; Health Services Management, Inc.; Landmark Senior Living; Legend Healthcare, LLC; National HealthCare Corp.; Senior Living Management Corporation, LLC; SeniorHealth of Rutherford, LLC; SP Silverdale, LLC; and White Pine Senior Living.

Major Customers

We have two operators, National HealthCare Corporation (“NHC”) and Bickford Senior Living ("Bickford"), from whom we individually derive at least 10% of our income from operations. Beginning in December 2013, a third major operator, Holiday Acquisition Holdings LLC (“Holiday”), an affiliate of Holiday Retirement, has leased 25 independent living facilities from us which contractually obligates Holiday, in 2014 and going forward, to make lease payments which will aggregate to more than 25% of NHI revenues, based on our 2013 leases in place.

NHC. NHC is a publicly-held company and the lessee of our legacy properties. We lease 42 health care facilities to NHC comprised of 3 independent living facilities and 39 skilled nursing facilities (4 of which are subleased to other parties for whom the lease payments are guaranteed to us by NHC). These facilities are leased to NHC under the terms of an amended Master Lease Agreement dated October 17, 1991 ("the 1991 lease") which includes our 35 remaining legacy properties and a Master Lease Agreement dated August 30, 2013 ("the 2013 lease") which includes seven skilled nursing facilities acquired from ElderTrust of Florida, Inc. on August 31, 2013.

In December 2012 we extended the 1991 lease through December 2026. Under the terms of the lease, rent escalates by 4% of the increase, if any, in each facility’s revenue over a 2007 base year. We refer to this additional rent component as “percentage rent.” Similarly, the 2013 lease provides for percentage rent equal to 4% of the increase, if any, in each facility's annual revenue over a 2014 base year.


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Of our total revenue from continuing operations, $34,756,000 (29%), $33,056,000 (35%) and $32,619,000 (39%) in 2013, 2012 and 2011, respectively, were derived from the two lease agreements with NHC.

In August 2013 we sold six skilled nursing facilities to NHC for $21,000,000 in cash. To reflect this transaction, effective January 1, 2014, NHI’s annual base rent on the 1991 lease will be reduced by $2,950,000. At that time, our annual base rent from the 1991 and 2013 leases will become $34,200,000. Accordingly, the results of operation of the facilities sold were classified as discontinued operations for all periods presented in our Consolidated Statements of Income.

NHC owned 1,630,462 shares of our common stock at December 31, 2013. The chairman of our board of directors is also a director on NHC’s board.

Bickford. We own an 85% equity interest and an affiliate of Bickford owns a 15% equity interest in our consolidated subsidiary ("PropCo") which owns 29 assisted living/memory care facilities in 6 states and also has 1 facility under construction. The facilities are leased in a joint venture to an operating company, ("OpCo"), of which we also retain an 85% ownership interest, but do not control. The joint venture is structured to comply with the provisions of RIDEA.

On June 28, 2013, PropCo purchased 17 assisted living and memory care facilities which were managed by Bickford. The facilities total 750 units and are located in Illinois, Indiana, Iowa and Nebraska. Of these facilities, 14 were acquired from a subsidiary of Care Investment Trust, Inc. ("Care") for $124,549,000, consisting of $44,021,000 in cash and assumption of secured debt with a fair value of $80,528,000. As part of this transaction, we recognized all identifiable tangible assets and liabilities assumed at fair value at the date of acquisition (there were no identifiable intangible assets or liabilities assumed) and attributed $4,360,000 to the fair value of the land, $120,189,000 to the fair value of the buildings and improvements and expensed $63,000 in transaction costs at closing. The 14 newly-acquired facilities have been leased to OpCo for an initial term of 5 years at an aggregate annual lease amount of $9,750,000 plus annual fixed escalators commencing on July 1 of each succeeding year.

Concurrent with this acquisition, PropCo also completed a $12,910,000 purchase and leaseback of three assisted living facilities located in Iowa, Nebraska and Indiana totaling 107 units from affiliates of Bickford. PropCo's previous master lease with Bickford was amended to include these three properties and the annual lease amount was increased from $7,750,000 to $9,086,000, plus annual fixed escalators beginning January 1 of each succeeding year. All other significant terms of the existing master lease remain unchanged.

As described above, the current annual contractual rent from OpCo to PropCo is $18,836,000, plus fixed annual escalators. During the quarter ended December 31, 2013, PropCo completed major construction and received certificates of occupancy on two assisted living facilities which were under development. Under the terms of the current development lease agreement, NHI continues to receive rent of 9% on the total amount of development costs, including land, which totaled $17,796,000 at December 31, 2013.

Of our total revenue from continuing operations, $14,586,000 (12%), $5,164,000 (6%) and $4,235,000 (5%) were recorded as rental income from Bickford for the years ended December 31, 2013, 2012, and 2011, respectively.

Holiday. In December 2013 we acquired 25 independent living facilities from an affiliate of Holiday Retirement, for $491,000,000 plus transaction costs of $1,959,000. The total purchase price was allocated to the assets acquired based upon their relative fair values, preliminarily estimated as $21,700,000 to land, $471,259,000 to buildings and improvements. No intangibles were identified in the acquisition. Such allocations have not been finalized as we await conclusive asset valuations and, as such, the results of the allocation are preliminary and subject to adjustment. This portfolio is located in 12 states. We have leased this portfolio to a subsidiary of Holiday, who continues to operate the facilities pursuant to a management agreement with a Holiday-affiliated manager.

The master lease term of 17 years begins in December 2013 and provides for initial base rent of $31,915,000 plus annual escalators of 4.5% in the first 3 years and a minimum of 3.5% each year thereafter.














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Commitments and Contingencies

The following table summarizes information as of December 31, 2013 related to our outstanding commitments and contingencies which are more fully described in the notes to the consolidated financial statements.
 
Asset Class
 
Type
 
Total
 
Funded
 
Remaining
Commitments:
 
 
 
 
 
 
 
 
 
Bickford Senior Living
SHO
 
Development
 
$
9,000,000

 
$
(2,712,000
)
 
$
6,288,000

Chancellor Health Care
SHO
 
Development
 
$
8,000,000

 
$
—

 
$
8,000,000

Kentucky River Medical Center
Hospital
 
Renovation
 
$
8,000,000

 
$
(5,838,000
)
 
$
2,162,000

Santé Mesa
Hospital
 
Development
 
$
13,870,000

 
$
(11,870,000
)
 
$
2,000,000

Capital Funding Group
N/A
 
Revolving Credit
 
$
15,000,000

 
$
(15,000,000
)
 
$
—

 
 
 
 
 
 
 
 
 
 
Contingencies:
 
 
 
 
 
 
 
 
 
Discovery Senior Living
SHO
 
Lease Inducement
 
$
2,500,000

 
$
—

 
$
2,500,000

Santé Partners
SHO
 
Lease Inducement
 
$
2,000,000

 
$
—

 
$
2,000,000

Fundamental Long Term Care
SNF
 
Purchase Consideration
 
$
1,600,000

 
$
—

 
$
1,600,000

Helix Healthcare
Hospital
 
Purchase Consideration
 
$
1,000,000

 
$
—

 
$
1,000,000


Sources of Revenues

General. Our revenues are derived primarily from rental income, mortgage interest income and income from our other investments, substantially all of which are in the securities of other healthcare REITs. During 2013, rental income was $106,029,000 (90%), interest income from mortgages and other notes was $7,633,000 (6%) and income from our other investments was $4,166,000 (4%) of total revenue from continuing operations of $117,828,000. Our revenues depend on the operating success of our facility operators whose source and amount of revenues are determined by (i) the licensed beds or other capacity of the Health Care Facilities, (ii) the occupancy rate of the Health Care Facilities, (iii) the extent to which the services provided at each Health Care Facility are utilized by the patients, (iv) the mix of private pay, Medicare and Medicaid patients at the Health Care Facilities, and (v) the rates paid by private paying patients and by the Medicare and Medicaid programs.

Governmental and other concerns regarding health care costs have and may continue to result in significant reductions in payments to health care facilities, and there can be no assurance that future payment rates for either governmental or private health care plans will be sufficient to cover cost increases in providing services to patients. Any changes in reimbursement policies which reduce reimbursement to levels that are insufficient to cover the cost of providing patient care have had and could continue to have an adverse effect on revenues of our lessees and borrowers and thereby adversely affect those lessees' and borrowers' abilities to make their lease or debt payments to us. Failure of the lessees or borrowers to make their lease or debt payments would have a direct and material adverse impact on us.

Medicare and Medicaid. A significant portion of the revenue of our SNF lessees and borrowers is derived from government funded reimbursement programs, such as Medicare and Medicaid. Reimbursement under these programs is subject to periodic payment review and other audits by federal and state authorities. Medicare is uniform nationwide and reimburses skilled nursing centers under a Prospective Payment System (“PPS”) which is based on a predetermined, fixed amount. PPS was instituted as mandated by the Balanced Budget Act of 1997 and became effective July 1, 1998. PPS is an acuity based classification system that uses nursing and therapy indexes adjusted by geographical wage indexes to calculate per diem rates for each Medicare patient. Payment rates are updated annually and are generally adjusted each October when the federal fiscal year begins. The current acuity classification system is named Resource Utilization Groups IV (“RUGs IV”) and was effective October 1, 2010. PPS as implemented in 1998 had an adverse impact on the healthcare industry and our lessees’ and borrowers’ business by decreasing payments materially, which adversely impacted our business. Refinements in the form of temporary add-ons provided some relief until October 1, 2002. Since then, annual market basket (inflationary) increases have continued to improve payments; however, other federal legislative policies have been adopted and continue to be proposed that could reduce Medicare payments to nursing facilities. For example, in July 2011, the Centers for Medicare and Medicaid Services ("CMS") announced the Skilled Nursing Facilities – PPS final rule for fiscal year 2012 which cut Medicare payments to SNF operators by a net 11.1% beginning October 1, 2011. In July 2012, CMS announced the final rule for fiscal 2013 that increased Medicare payments to SNF operators by a net 1.8% for the fiscal year beginning October 1, 2012. On May 1, 2013, CMS released a proposed rule outlining a 1.4% increase in their Medicare reimbursement for fiscal 2014 beginning on October 1, 2013. The final rule for 2014 does not take into account the ongoing attempt by Congress to reduce the federal deficit by $1.5 trillion over the next decade as required by the Budget Control

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Act of 2011. The failure of Congress to agree on spending reductions to meet deficit goals would trigger automatic spending cuts of 2% to Medicare.

RUGs IV incorporates changes to PPS that significantly altered how SNFs are paid for rendering care. Some examples are as follows:

•
A shift to 66 payment categories from 53 payment categories;

•
Changes related to assessment reference dates and qualifiers that will significantly reduce utilization of rehabilitation and extensive service categories;

•
Modification to therapy services related to estimating treatments and utilization of concurrent therapy that will likely result in RUG classifications at much lower levels of therapy than previous results; and

•
Adjustments related to assistance with activities of daily living (ADLs) and an increased emphasis on ADL scores in the nursing case mix indices and related RUG payment rates.

Medicaid is a joint federal and state program designed to provide medical assistance to “eligible needy persons.” Medicaid programs are operated by state agencies that adopt their own medical reimbursement methodology and standards. Payment rates and covered services vary from state to state. In many instances, revenues from Medicaid programs are insufficient to cover the actual costs incurred in providing care to those patients. State Medicaid plans subject to budget constraints are of particular concern to us given the repeal of the Boren Amendment by the Balanced Budget Act of 1997. The Boren Amendment provided fair reimbursement protection to nursing facilities. Changes in federal funding coupled with state budget problems have produced an uncertain environment. Industry studies predict the Medicaid crisis will continue with states’ required contribution to Medicare Part D and anticipated budget deficits. States will more than likely be unable to keep pace with nursing center inflation. States are under pressure to pursue other alternatives to long term care such as community and home-based services. Furthermore, several of the states in which we have investments have actively sought to reduce or slow the increase of Medicaid spending for nursing home care.

Medicare and Medicaid programs are highly regulated and subject to frequent and substantial changes resulting from legislation, adoption of rules and regulations and administrative and judicial interpretations of existing law. Moreover, as health care facilities have experienced increasing pressure from private payors attempting to control health care costs, reimbursement from private payors has in many cases effectively been reduced to levels approaching those of government payors. Healthcare reimbursement will likely continue to be of significant importance to federal and state authorities. We cannot make any assessment as to the ultimate timing or the effect that any future legislative reforms may have on our lessees’ and borrowers’ costs of doing business and on the amount of reimbursement by government and other third-party payors. There can be no assurance that future payment rates for either government or private payors will be sufficient to cover cost increases in providing services to patients. Any changes in reimbursement policies which reduce reimbursement to levels that are insufficient to cover the cost of providing patient care could adversely affect the operating revenues of our SNF and hospital lessees and borrowers, and thereby adversely affect their ability to make their lease or debt payments to us. Failure of our lessees and borrowers to make their scheduled lease and loan payments to us would have a direct and material adverse impact on us.

Government Regulation

Licensure and Certification. The health care industry is highly regulated by federal, state and local law and is directly affected by state and local licensing requirements, facility inspections, state and federal reimbursement policies, regulations concerning capital and other expenditures, certification requirements and other such laws, regulations and rules. Sanctions for failure to comply with these regulations and laws include (but are not limited to) loss of licensure, fines and loss of certification to participate in the Medicare and Medicaid programs, as well as potential criminal penalties. The failure of any lessee or borrower to comply with such laws, requirements and regulations could affect their ability to operate the facility or facilities and could adversely affect such lessee's or borrower's ability to make lease or debt payments to us.

In the past several years, due to rising health care costs, there has been an increased emphasis on detecting and eliminating fraud and abuse in the Medicare and Medicaid programs. Payment of any consideration in exchange for referral of Medicare and Medicaid patients is generally prohibited by federal statute, which subjects violators to severe penalties, including exclusion from the Medicare and Medicaid programs, fines and even prison sentences. In recent years, both federal and state governments have significantly increased investigation and enforcement activity to detect and punish wrongdoers. In addition, legislation has been adopted at both state and federal levels which severely restrict the ability of physicians to refer patients to entities in which they have a financial interest.


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It is anticipated that the trend toward increased investigation and enforcement activity in the area of fraud and abuse, as well as self-referral, will continue in future years. Certain of our investments are with lessees or borrowers which are partially or wholly owned by physicians. In the event that any lessee or borrower were to be found in violation of laws regarding fraud and abuse or self-referral, that lessee's or borrower's ability to operate the facility as a health care facility could be jeopardized, which could adversely affect the lessee's or borrower's ability to make lease or debt payments to us and thereby adversely affect us.

Certificates of Need. The SNFs and hospitals in which we invest are also generally subject to state statutes which may require regulatory approval in the form of a CON prior to the construction or expansion of facilities to accommodate new beds (or addition of new beds to existing facilities), the addition of services or certain capital expenditures. CON requirements are not uniform throughout the United States and are subject to change. We cannot predict the impact of regulatory changes with respect to CONs on the operations of our lessees and borrowers; however, in our primary market areas, a significant reduction in new construction of long-term care beds has occurred.

Investment Policies

Our investment objectives are (i) to provide consistent and growing current income for distribution to our stockholders through investments primarily in health care related facilities or in the operations thereof through independent third-party management, (ii) to provide the opportunity to realize capital growth resulting from appreciation, if any, in the residual value of our portfolio properties, and (iii) to preserve and protect stockholders' capital through a balance of diversity, flexibility and liquidity. There can be no assurance that these objectives will be realized. Our investment policies include making investments in real estate, mortgage and other notes receivable and securities of other publicly-held REITs.

As described in the notes to the consolidated financial statements, we funded or made commitments to fund new investments in real estate and loans during 2013 totaling $751,585,000, and we anticipate making additional investments in 2014 that meet our underwriting criteria. In making new investments, we consider such factors as (i) the geographic area and type of property, (ii) the location, construction quality, condition and design of the property, (iii) the current and anticipated cash flow and its adequacy to meet operational needs, and lease or mortgage obligations to provide a competitive income return to our investors, (iv) the growth, tax and regulatory environments of the communities in which the properties are located, (v) occupancy and demand for similar health care facilities in the same or nearby communities, (vi) the quality, experience and creditworthiness of the management operating the facilities located on the property and (vii) the mix of private and government-sponsored residents. There can be no assurances that investments meeting our standards regarding these attributes will be found or closed.

We will not, without the approval of a majority of the Board of Directors, enter into any joint venture relationships with or acquire from or sell to any director, officer or employee of NHI, or any affiliate thereof, as the case may be, any of our assets or other property.

The Board of Directors, without the approval of the stockholders, may alter our investment policies if it determines that such a change is in our best interests and our stockholders’ best interests. The methods of implementing our investment policies may vary as new investment and financing techniques are developed or for other reasons.

Future investments in health care related facilities or businesses may utilize borrowed funds when it is advisable in the opinion of the Board of Directors. We may negotiate lines of credit or arrange for other short or long-term borrowings from lenders. We may arrange for long-term borrowings from institutional investors or through public offerings. We have previously invested and may in the future invest in properties subject to existing loans or secured by mortgages, deeds of trust or similar liens with favorable terms or in mortgage investment pools.



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Executive Officers of the Company

The table below sets forth the name, position and age of each of our executive officers. Each executive officer is appointed by the Board of Directors, serves at its pleasure and holds office for a term of one year. There is no “family relationship” among any of the named executive officers or with any director. All information is given as of February 12, 2014:
Name
Position
Age
J. Justin Hutchens
President and Chief Executive Officer
39
Roger R. Hopkins
Chief Accounting Officer
52
Kristin S. Gaines
Chief Credit Officer
42

J. Justin Hutchens joined NHI in February 2009 as President and COO. Pursuant to a succession plan, in March 2011 he was appointed CEO. Prior to joining NHI, Mr. Hutchens acquired 15 years of senior care operations experience. His background includes multi-site management with assisted living and skilled nursing facilities (1997 - 2003). He has national operating experience (2003 -2009) as the Senior Vice-President and COO of Summerville Senior Living and Executive Vice-President and COO of Emeritus Senior Living (NYSE: ESC). Mr. Hutchens holds a Master of Science in Management from Regis University and a Bachelor of Science in Human Services from the University of Northern Colorado. He was awarded Executive Certificates in Measurement and Control of Organizational Performance from the University of Michigan, and Strategy and Innovation from the MIT Sloan School of Management.

Roger R. Hopkins joined NHI in 2006 and was named Chief Accounting Officer in December 2006. He has over 30 years of public accounting and financial management experience. Until 2006, he was a partner in the Tennessee regional accounting firm of Rodefer Moss & Co, PLLC. He was previously a senior manager in the Nashville, Tennessee office of Deloitte & Touche. Mr. Hopkins received a Bachelor of Science degree in Accounting from Tennessee Technological University in 1982 and is a Certified Public Accountant.

Kristin S. Gaines was appointed NHI’s Chief Credit Officer in February 2010. She joined NHI in 1998 as a Credit Analyst. During her tenure with NHI, Ms. Gaines has had a progressive career in the areas of finance and operations. Her experience has resulted in a breadth of expertise in underwriting, portfolio oversight and real estate finance. Ms. Gaines holds an MBA and a BBA in Accounting from Middle Tennessee State University.

We have a staff of 11, all serving in our corporate office in Murfreesboro, TN. Essential services such as internal auditing, tax compliance, information technology, legal services, and investor relations are outsourced to third-party professional firms.

Investor Information

We maintain a web site at www.nhireit.com. We publish to this web site our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and press releases. We have a policy of publishing these on the website within two (2) business days after public release or filing with the SEC.

We also maintain the following documents on our web site:

▪
The NHI Code of Ethics and Standards of Conduct. This has been adopted for all employees, officers and directors of the Company. The website will also disclose whether there have been any amendments or waivers to the Code of Ethics and Standards of Conduct. To date there have been none.

▪
Information on our “NHI Valuesline” which allows all interested parties unrestricted access to our Internal Auditor, executive officers and directors. The toll free number is 877-880-2974 and the communications may be made anonymously, if desired.

▪
The NHI Restated Audit Committee Charter.

▪
The NHI Compensation Committee Charter.

▪
The NHI Nomination and Corporate Governance Committee Charter.

We will furnish, free of charge, a copy of any of the above documents to any interested investor upon receipt of a written request.


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Our transfer agent is Computershare. Computershare will assist registered owners with the NHI Dividend Reinvestment plan, change of address, transfer of ownership, payment of dividends, replacement of lost checks or stock certificates. Computershare’s contact information is: Computershare Trust Company, N.A., P.O. Box 43078, Providence, RI 02940-3078. The toll free number is 800-942-5909 and the website is www.computershare.com.

The Annual Stockholders’ meeting will be held at noon local time on Friday, May 2, 2014 at our corporate office at 222 Robert Rose Drive, Murfreesboro, TN.

ITEM 1A. RISK FACTORS

We depend on the operating success of our customers (facility operators) for collection of our revenues during this time of uncertain economic conditions in the U.S.

Revenues to operators of our Health Care Facilities are primarily driven by occupancy, Medicare and Medicaid reimbursement and private pay rates. Revenues from government reimbursement have, and may continue to, come under pressure due to reimbursement cuts and from widely-publicized federal and state budget shortfalls and constraints. Overall weak economic conditions in the U.S. which affect housing sales, investment returns and personal incomes may adversely affect occupancy rates of ALFs that generally rely on private pay residents. Expenses for the Health Care Facilities are driven by the costs of labor, food, utilities, taxes, insurance and rent or debt service. Liability insurance and staffing costs continue to increase for our operators. To the extent any decrease in revenues and/or any increase in operating expenses results in a facility not generating enough cash to make scheduled payments to us, our revenues, net income and funds from operations would be adversely affected. Such events and circumstances would cause us to evaluate whether there was an impairment of the real estate or mortgage loan that should be charged to earnings. Such impairment would be measured as the amount by which the carrying amount of the asset exceeded its fair value. Consequently, we might be unable to maintain or increase our current dividend and the market price of our stock may decline.

We are exposed to the risk that our tenants and borrowers may not be able to meet the rent, principal and interest or other payments due us, which may result in an operator bankruptcy or insolvency, or that an operator might become subject to bankruptcy or insolvency proceedings for other reasons.

Although our operating lease agreements provide us the right to evict an operator, demand immediate payment of rent and exercise other remedies, and our mortgage loans provide us the right to terminate any funding obligations, demand immediate repayment of principal and unpaid interest, foreclose on the collateral and exercise other remedies, the bankruptcy laws afford certain rights to a party that has filed for bankruptcy or reorganization. An operator in bankruptcy may be able to limit or delay our ability to collect unpaid rent in the case of a lease or to receive unpaid principal and/or interest in the case of a mortgage loan and to exercise other rights and remedies. We may be required to fund certain expenses (e.g. real estate taxes, maintenance and capital improvements) to preserve the value of a facility, avoid the imposition of liens on a facility and/or transition a facility to a new operator. In some instances, we have terminated our lease with an operator and leased the facility to another operator. In some of those situations, we provided working capital loans to, and limited indemnification of, the new operator. If we cannot transition a leased facility to a new operator, we may take possession of that facility, which may expose us to certain successor liabilities. Should such events occur, our revenue and operating cash flow may be adversely affected.

We are exposed to risks related to governmental regulations and payors, principally Medicare and Medicaid, and the effect that lower reimbursement rates will have on our tenants’ and borrowers’ business.

Our operators’ businesses are affected by government reimbursement and private payor rates. To the extent that any of our Health Care Facilities receive a significant portion of its revenues from governmental payors, primarily Medicare and Medicaid, such revenues may be subject to statutory and regulatory changes, retroactive rate adjustments, recovery of program overpayments or set-offs, administrative rulings, policy interpretations, payment or other delays by fiscal intermediaries, government funding restrictions (at a program level or with respect to specific facilities) and interruption or delays in payments due to any ongoing governmental investigations and audits at such facilities. In recent years, governmental payors have frozen or reduced payments to health care providers due to budgetary pressures. Such reductions in Medicare reimbursement will have an adverse effect on the financial operations of our borrowers and lessees who operate SNFs. Changes in health care reimbursement will likely continue to be of paramount importance to federal and state authorities. We cannot make any assessment as to the ultimate timing or effect any future legislative reforms may have on the financial condition of the health care industry. There can be no assurance that adequate reimbursement levels will continue to be available for services provided by any facility operator, whether the facility receives reimbursement from Medicare, Medicaid or private payors. Significant limits on the scope of services reimbursed and on reimbursement rates and fees could have a material adverse effect on an operator’s liquidity, financial condition and results of operations, which could adversely affect the ability of an operator to meet its obligations to us. In addition, the replacement of an operator that has defaulted on its lease or loan could be delayed by the approval process of any federal, state or local agency necessary for the transfer of the facility or the replacement of the operator licensed to manage the facility.

We are exposed to the risk that the cash flows of our tenants and borrowers will be adversely affected by increased liability claims and general and professional liability insurance costs.

ALF and SNF operators have experienced substantial increases in both the number and size of patient care liability claims in recent years, particularly in the states of Texas and Florida. As a result, general and professional liability costs have increased and

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may continue to increase. Nationwide, long-term care liability insurance rates are increasing because of large jury awards in states like Texas and Florida. Both Texas and Florida have now adopted SNF liability laws that modify or limit tort damages. Despite some of these reforms, the long-term care industry overall continues to experience very high general and professional liability costs. Insurance companies have responded to this claims crisis by severely restricting their capacity to write long-term care general and professional liability policies. No assurance can be given that the climate for long-term care general and professional liability insurance will improve in any of the foregoing states or any other states where the facility operators conduct business. Insurance companies may continue to reduce or stop writing general and professional liability policies for ALFs and SNFs. Thus, general and professional liability insurance coverage may be restricted, very costly or not available, which may adversely affect the facility operators’ future operations, cash flows and financial condition and may have a material adverse effect on the facility operators’ ability to meet their obligations to us.

We are exposed to risks related to environmental laws and the costs associated with the liability related to hazardous substances.

Under various federal and state laws, owners or operators of real property may be required to respond to the release of hazardous substances on the property and may be held liable for property damage, personal injuries or penalties that result from environmental contamination. These laws also expose us to the possibility that we may become liable to reimburse the government for damages and costs it incurs in connection with the contamination. Generally, such liability attaches to a person based on the person’s relationship to the property. Our tenants or borrowers are primarily responsible for the condition of the property and since we are a passive landlord, we do not “participate in the management” of any property in which we have an interest. Moreover, we review environmental site assessment of the properties that we own or encumber prior to taking an interest in them. Those assessments are designed to meet the “all appropriate inquiry” standard, which qualifies us for the innocent purchaser defense if environmental liabilities arise. Based upon such assessments, we do not believe that any of our properties are subject to material environmental contamination. However, environmental liabilities, including mold, may be present in our properties and we may incur costs to remediate contamination, which could have a material adverse effect on our business or financial condition.

We are exposed to the risk that we may not be indemnified by our lessees and borrowers against future litigation.

Our leases require that the lessee name us as an additional insured party on the tenant’s insurance policy in regard to claims made for professional liability or personal injury. The leases also require the tenant to indemnify and hold us harmless for all claims resulting from the occupancy and use of each Health Care Facility. We cannot give any assurance that these protective measures will completely eliminate any risk to us related to future litigation, the costs of which could have a material adverse impact on us.

We depend on the success of future acquisitions and investments.

We are exposed to the risk that our future acquisitions may not prove to be successful. We could encounter unanticipated difficulties and expenditures relating to any acquired properties, including contingent liabilities, and newly acquired properties might require significant management attention that would otherwise be devoted to our existing business. If we agree to provide construction funding to an operator and the project is not completed, we may need to take steps to ensure completion of the project or we could lose the property. Moreover, if we issue equity securities or incur additional debt, or both, to finance future acquisitions, it may reduce our per share financial results. These costs may negatively affect our results of operations.

We depend on the ability to reinvest cash in real estate investments in a timely manner and on acceptable terms.

From time to time, we will have cash available from (1) the proceeds of sales of our securities, (2) principal payments on our notes receivable and (3) the sale of properties, including non-elective dispositions, under the terms of master leases or similar financial support arrangements. We must reinvest these proceeds, on a timely basis, in health care investments or in qualified short-term investments. We compete for real estate investments with a broad variety of potential investors. This competition for attractive investments may negatively affect our ability to make timely investments on terms acceptable to us. Delays in acquiring properties may negatively impact revenues and the amount of distributions to stockholders.

We may need to incur more debt in the future, which may not be available on terms acceptable to the Company.

We operate with a policy of incurring debt when, in the opinion of our Board of Directors, it is advisable. Currently, we believe that our current liquidity, availability under our unsecured credit facility, and our capacity to service additional debt will enable us to meet our obligations, including dividends, and continue to make investments in healthcare real estate. While we currently have a very low debt ratio, in the future, we may increase our borrowings. We may incur additional debt by borrowing under our unsecured credit facility, mortgaging properties we own and/or issuing debt securities in a public offering or in a private transaction.

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We believe we will be able to raise additional debt and equity capital at reasonable costs to refinance our credit facility at or prior to its maturity. Our ability to raise reasonably priced capital is not guaranteed; we may be unable to raise reasonably priced capital because of reasons related to our business or for reasons beyond our control, such as market conditions. If our access to capital becomes limited, it could have an impact on our ability to refinance our debt obligations, fund dividend payments, acquire properties and fund acquisition activities.

We have covenants related to our indebtedness which impose certain operational limitations and a breach of those covenants could materially adversely affect our financial condition and results of operations.

The terms of our current indebtedness as well as debt instruments that the Company may enter into in the future are subject to customary financial and operational covenants. Among other things, these provisions require us to maintain certain financial ratios and minimum net worth and impose certain limits on our ability to incur indebtedness, create liens and make investments or acquisitions. Our continued ability to incur debt and operate our business is subject to compliance with these covenants, which limit operational flexibility. Breaches of these covenants could result in a default under applicable debt instruments, even if payment obligations are satisfied. Financial and other covenants that limit our operational flexibility, as well as defaults resulting from a breach of any of these covenants in our debt instruments, could have a material adverse effect on our financial condition and results of operations.

We are exposed to the risk that the illiquidity of real estate investments could impede our ability to respond to adverse changes in the performance of our properties.

Real estate investments are relatively illiquid and, therefore, our ability to quickly sell or exchange any of our properties in response to changes in economic and other conditions may be limited. All of our properties are "special purpose" properties that cannot be readily converted to general residential, retail or office use. Health Care Facilities that participate in Medicare or Medicaid must meet extensive program requirements, including physical plant and operational requirements, which are revised from time to time. Transfers of operations of Health Care Facilities are subject to regulatory approvals not required for transfers of other types of commercial operations and other types of real estate. Thus, if the operation of any of our properties becomes unprofitable due to competition, age of improvements or other factors such that our lessee or borrower becomes unable to meet its obligations on the lease or mortgage loan, the liquidation value of the property may be less than the net book value or the amount owed on any related mortgage loan, because the property may not be readily adaptable to other uses. The sale of the property or the replacement of an operator that has defaulted on its lease or loan could also be delayed by the approval process of any federal, state or local agency necessary for the transfer of the property or the replacement of the operator with a new operator licensed to manage the facility. No assurances can be given that we will recognize full value for any property that we are required to sell for liquidity reasons. Should such events occur, our results of operations and cash flows could be adversely affected.

We are exposed to risks associated with our investments in unconsolidated entities, including our lack of sole decision-making authority and our reliance on the financial condition of other interests.

Our investments in unconsolidated entities could be adversely affected by our lack of sole decision-making authority regarding major decisions, our reliance on the financial condition of other interests, any disputes that may arise between us and other partners, and our exposure to potential losses from the actions of partners. Risks of dealing with parties outside NHI include limitations on unilateral major decisions opposed by other interests, the prospect of divergent goals of ownership including the likelihood of disputes regarding management, ownership or disposition of a property, or limitations on the transfer of our interests without the consent of our partners. Risks of the unconsolidated entity extend to areas in which the financial health of our partners may impact our plans. Our partners might become bankrupt or fail to fund their share of required capital contributions, which may hinder significant action in the entity. We may disagree with our partners about decisions affecting a property or the entity itself, which could result in litigation or arbitration that increases our expenses, distracts our officers and directors and disrupts the day-to-day operations of the property, including by delaying important decisions until the dispute is resolved; and finally, we may suffer losses as a result of actions taken by our partners with respect to our investments.

We depend on revenues derived mainly from fixed rate investments in real estate assets, while our debt capital used to finance those investments is primarily at variable rates. This circumstance creates interest rate risk to the Company.

Our business model assumes that we can earn a spread between the returns earned from our investments in real estate as compared to our cost of capital, including debt and/or equity. Current interest rates on our debt are at historically low levels, and, as a result, the spread and our profitability on our investments have been at high levels. We are exposed to interest rate risk in the potential for a narrowing of our spread and profitability if interest rates increase in the future. Certain of our debt obligations are floating rate obligations with interest rates that vary with the movement of LIBOR or other indexes. Our revenues are derived mainly from fixed rate investments in real estate assets. Although our leases generally contain escalating rent clauses that provide

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a partial hedge against interest rate fluctuations, if interest rates rise, our interest costs for our existing floating rate debt and any new debt we incur would also increase. This increasing cost of debt could reduce our profitability by increasing the cost of financing our existing portfolio and our investment activity. Rising interest rates could limit our ability to refinance existing debt upon maturity or cause us to pay higher rates upon refinancing. We manage a portion of our exposure to interest rate risk by accessing debt with staggered maturities and through the use of derivative instruments, primarily interest rate swap agreements with major financial institutions. Increased interest rates may also negatively affect the market price of our common stock and increase the cost of new equity capital.

We are exposed to the risk that our assets may be subject to impairment charges.

We periodically, but not less than quarterly, evaluate our real estate investments and other assets for impairment indicators. The judgment regarding the existence of impairment indicators is based on factors such as market conditions, operator performance and legal structure. If we determine that a significant impairment has occurred, we would be required to make an adjustment to the net carrying value of the asset, which could have a material adverse effect on our reported results of operations in the period in which the impairment charge occurs.

We depend on the ability to continue to qualify as a REIT.

We intend to operate as a REIT under the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”) and believe we have and will continue to operate in such a manner. Since REIT qualification requires us to meet a number of complex requirements, it is possible that we may fail to fulfill them, and if we do, our earnings will be reduced by the amount of federal taxes owed. A reduction in our earnings would affect the amount we could distribute to our stockholders.

We have ownership limits in our charter with respect to our common stock and other classes of capital stock which may delay, defer or prevent a transaction or a change of control that might involve a premium price for our common stock or might otherwise be in the best interests of our stockholders.

Our charter, subject to certain exceptions, contains restrictions on the ownership and transfer of our common stock and preferred stock that are intended to assist us in preserving our qualification as a REIT. Our charter, provides that any transfer that would cause NHI to be beneficially owned by fewer than 100 persons or would cause NHI to be “closely held” under the Internal Revenue Code would be void, which, subject to certain exceptions, results in no person or entity being allowed to own, actually or constructively, more than 9.9% of the outstanding shares of our stock. Our Board of Directors, in its sole discretion, may exempt a proposed transferee from the ownership limit and such an exemption has been granted through Excepted Holder Agreements to members of the Carl E. Adams family. Based on the Excepted Holder Agreements currently outstanding, the individual ownership limit for all other stockholders is approximately 7.5%. Our charter gives our Board of Directors broad powers to prohibit and rescind any attempted transfer in violation of the ownership limits. These ownership limits may delay, defer or prevent a transaction or a change of control that might involve a premium price for our common stock or might otherwise be in the best interests of our stockholders.

We are subject to certain provisions of Maryland law and our charter and bylaws that could hinder, delay or prevent a change in control transaction, even if the transaction involves a premium price for our common stock or our stockholders believe such transaction to be otherwise in their best interests.

The Maryland Business Combination Act provides that, unless exempted, a Maryland corporation may not engage in business combinations, including mergers, dispositions of 10% or more of its assets, issuances of shares of stock and other specified transactions with an "interested stockholder" or an affiliate of an interested stockholder for five years after the most recent date on which the interested stockholder became an interested stockholder, and thereafter, unless specified criteria are met. An interested stockholder is generally a person owning or controlling, directly or indirectly, 10% or more of the voting power of the outstanding stock of a Maryland corporation. Unless our Board of Directors takes action to exempt us, generally or with respect to certain transactions, from this statute in the future, the Maryland Business Combination Act will be applicable to business combinations between us and other persons. The Company’s Charter and Bylaws also contain certain provisions that could have the effect of making it more difficult for a third party to acquire, or discouraging a third party from attempting to acquire, control of the Company. Such provisions could limit the price that certain investors might be willing to pay in the future for the common stock. These provisions include a staggered board of directors, blank check preferred stock, and the application of Maryland corporate law provisions on business combinations and control shares. The foregoing matters may, together or separately, have the effect of discouraging or making more difficult an acquisition or change of control of the Company.




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Other risks.

See the notes to the consolidated financial statements, “Business” under Item 1 and “Legal Proceedings” under Item 3 herein for a discussion of various governmental regulations and operating factors relating to the health care industry and other factors and the risks inherent in them. You should carefully consider each of the foregoing risks before making any investment decisions in the Company. These risks and uncertainties are not the only ones facing us. There may be additional risks that we do not presently know of or that we currently deem immaterial. If any of the risks actually occur, our business, financial condition or results of operations could be materially adversely affected. In that case, the trading price of our shares of stock could decline, and you may lose all or part of your investment. Given these risks and uncertainties, we can give no assurance that these forward-looking statements will, in fact, occur and, therefore, caution investors not to place undue reliance on them.

ITEM 1B. UNRESOLVED STAFF COMMENTS.

None.


17
Table of Contents

ITEM 2. PROPERTIES OWNED OR ASSOCIATED WITH MORTGAGE LOAN INVESTMENTS AS OF DECEMBER 31, 2013

SKILLED NURSING
 
 
Lease (L)/
Licensed

Center
City
State
Mortgage (M)
Beds

NHC HealthCare, Anniston
Anniston
AL
L
151

NHC HealthCare, Moulton
Moulton
AL
L
136

Sunbridge Estrella Care & Rehabilitation
Avondale
AZ
L
161

Ayers Health & Rehabilitation Center
Trenton
FL
L
120

Bayonet Point Health & Rehabilitation Center
Hudson
FL
L
180

Bear Creek Nursing Center
Hudson
FL
L
120

Brooksville Healthcare Center
Brooksville
FL
L
180

Cypress Cove Care Center
Crystal River
FL
L
120

Heather Hill Healthcare Center
New Port Richey
FL
L
120

Parkway Health & Rehabilitation Center
Stuart
FL
L
177

Royal Oak Nursing Center
Dade City
FL
L
120

The Health Center of Merritt Island
Merritt Island
FL
L
180

The Health Center of Plant City
Plant City
FL
L
180

Grangeville Health and Rehabilitation Center
Grangeville
ID
L
60

NHC HealthCare, Glasgow
Glasgow
KY
L
206

Buckley HealthCare Center
Greenfield
MA
L
120

Holyoke Health Care Center
Holyoke
MA
L
102

John Adams HealthCare Center
Quincy
MA
L
71

Longmeadow of Taunton
Taunton
MA
L
100

NHC Healthcare, Desloge
Desloge
MO
L
120

NHC Healthcare, Joplin
Joplin
MO
L
126

NHC Healthcare, Kennett
Kennett
MO
L
170

NHC Healthcare, Maryland Heights
Maryland Heights
MO
L
220

NHC HealthCare, St. Charles
St. Charles
MO
L
120

Maple Leaf HealthCare Center
Manchester
NH
L
114

Villa Crest HealthCare Center
Manchester
NH
L
165

Epsom Manor HealthCare Center
Epsom
NH
L
108

NHC Healthcare, Anderson
Anderson
SC
L
290

NHC Healthcare, Greenwood
Greenwood
SC
L
152

NHC HealthCare, Laurens
Laurens
SC
L
176

UniHealth Post-Acute Care-Orangeburg
Orangeburg
SC
L
88

NHC Healthcare, Athens
Athens
TN
L
98

NHC Healthcare, Chattanooga
Chattanooga
TN
L
207

NHC HealthCare, Dickson
Dickson
TN
L
211

NHC HealthCare, Franklin
Franklin
TN
L
80

NHC Healthcare, Hendersonville
Hendersonville
TN
L
122

NHC Healthcare, Johnson City
Johnson City
TN
L
160

NHC Healthcare, Lewisburg
Lewisburg
TN
L
102

NHC HealthCare, McMinnville
McMinnville
TN
L
150

NHC HealthCare, Milan
Milan
TN
L
122

NHC Healthcare, Oakwood
Lewisburg
TN
L
60

NHC HealthCare, Pulaski
Pulaski
TN
L
102

NHC Healthcare, Scott
Lawrenceburg
TN
L
62

NHC HealthCare, Sequatchie
Dunlap
TN
L
120

NHC HealthCare, Smithville
Smithville
TN
L
120


18
Table of Contents

SKILLED NURSING
 
 
Lease (L)/
Licensed

Center
City
State
Mortgage (M)
Beds

NHC Healthcare, Somerville
Somerville
TN
L
84

NHC Healthcare, Sparta
Sparta
TN
L
120

Canton Oaks
Canton
TX
L
120

Corinth Rehabilitation Suites
Corinth
TX
L
134

Heritage Place
Mesquite
TX
L
149

Legend Healthcare & Rehabilitation
Paris
TX
L
120

Legend Oaks Healthcare & Rehabilitation Center (East)
Houston
TX
L
125

Legend Oaks Healthcare & Rehabilitation Center (Northwest)
Houston
TX
L
125

Legend Oaks Healthcare & Rehabilitation Center
San Antonio
TX
L
125

Legend Oaks Healthcare & Rehabilitation Center - Ennis
Ennis
TX
L
124

Legend Healthcare & Rehabilitation
Greenville
TX
L
125

Legend Oaks Healthcare & Rehabilitation Center
Houston
TX
L
124

Legend Oaks Healthcare & Rehabilitation Center
Houston
TX
L
125

Legend Oaks Healthcare & Rehabilitation Center
Kyle
TX
L
126

Park Place Care Center
Georgetown
TX
M
164

Winterhaven Healthcare Center
Houston
TX
L
160

Heritage Hall - Brookneal
Brookneal
VA
M
60

Heritage Hall - Grundy
Grundy
VA
M
120

Heritage Hall - Laurel Meadows
Laurel Fork
VA
M
60

Heritage Hall - Virginia Beach
Virginia Beach
VA
M
90

Heritage Hall - Front Royal
Front Royal
VA
M
60

Heritage Hall - Lexington
East Lexington
VA
M
60

NHC HealthCare, Bristol
Bristol
VA
L
120

 
 
 
 
 
ASSISTED LIVING
 
 
 
 
Regency Pointe Retirement Community
Rainbow City
AL
L
120

The Place at Gilbert
Gilbert
AZ
L
40

The Place at Glendale
Glendale
AZ
L
38

The Place at Tanque Verde
Tucson
AZ
L
42

The Place at Tucson
Tucson
AZ
L
60

Brentwood at Fore Ranch
Ocala
FL
M
120

Indigo Palms at Maitland
Maitland
FL
L
116

Savannah Court of Bartow
Bartow
FL
L
30

Savannah Court of St. Cloud
St. Cloud
FL
L
30

Savannah Court of Lakeland
Lakeland
FL
L
30

Savannah Court at Lake Oconee
Greensboro
GA
L
64

Bickford of Ames*
Ames
IA
L
37

Bickford of Burlington*
Burlington
IA
L
44

Bickford of Cedar Falls
Cedar Falls
IA
L
42

Bickford of Clinton
Clinton
IA
L
37

Bickford of Ft. Dodge*
Ft. Dodge
IA
L
38

Bickford of Iowa City
Iowa City
IA
L
37

Bickford of Marshalltown*
Marshalltown
IA
L
38

Bickford of Muscatine*
Muscatine
IA
L
45

Bickford of Urbandale*
Urbandale
IA
L
61

Indianhead Estates
Weiser
ID
L
25

Bickford of Bourbonnais*
Bourbonnais
IL
L
65

Bickford of Moline*
Moline
IL
L
28


19
Table of Contents

ASSISTED LIVING
 
 
Lease (L)/
Licensed

Center
City
State
Mortgage (M)
Beds

Bickford of Peoria
Peoria
IL
L
32

Bickford of Quincy*
Quincy
IL
L
46

Bickford of Rockford*
Rockford
IL
L
65

Bickford of Springfield*
Springfield
IL
L
67

Bickford of Carmel**
Carmel
IN
L
60

Bickford of Crawfordsville*
Crawfordsville
IN
L
28

Bickford of Crown Point
Crown Point
IN
L
60

Bickford of Greenwood
Greenwood
IN
L
60

Bickford of Lafayette
LaFayette
IN
L
28

Bickford of Wabash
Wabash
IN
L
28

Bickford of Mission Springs
Mission
KS
L
91

Bickford of Overland Park
Overland Park
KS
L
79

West Monroe Arbors
West Monroe
LA
L
59

Bossier Arbors
Bossier City
LA
L
60

Bastrop Arbors
Bastrop
LA
L
38

Minden Arbors
Minden
LA
L
26

The Woodlands Assisted Living
Baltimore
MD
L
70

Bickford of Battle Creek
Battle Creek
MI
L
46

Bickford of Lansing
Lansing
MI
L
46

Bickford of Midland
Midland
MI
L
46

Bickford of Saginaw
Saginaw
MI
L
46

Traditions
Owatonna
MN
M
70

Gracewood Champlin
Champlin
MN
L
30

Gracewood Hugo
Hugo
MN
L
24

Gracewood Maplewood
Maplewood
MN
L
42

Gracewood North Branch
North Branch
MN
L
30

Bickford of Grand Island
Grand Island
NE
L
37

Bickford of Lincoln*
Lincoln
NE
L
44

Bickford of Omaha Hickory*
Omaha
NE
L
37

Halcyon Village
Marysville
OH
L
76

Dorian Place
Ontario
OR
L
44

Wellsprings
Ontario
OR
L
32

The Place at Conway
Conway
SC
L
52

The Place at Gallatin
Gallatin
TN
L
49

The Place at Kingsport
Kingsport
TN
L
49

The Place at Tullahoma
Tullahoma
TN
L
49

Charleston House
Beaver Dam
WI
L
120

 
 
 
 
 
INDEPENDENT LIVING
 
 
 
 
Apple Blossom Independent Senior Living Community
Rogers
AR
L
119

Butterfield Place Independent Senior Living Community
Fort Smith
AR
L
117

Bay Park Independent Senior Living Community
Pinole
CA
L
98

Bridgecreek Independent Senior Living Community
West Covina
CA
L
108

Camelot Independent Senior Living Community
Hemet
CA
L
136

Fig Garden Independent Senior Living Community
Fresno
CA
L
103

Hampshire Independent Senior Living Community
Merced
CA
L
115

Mistywood Independent Senior Living Community
Roseville
CA
L
117

Standiford Place Independent Senior Living Community
Modesto
CA
L
121


20
Table of Contents

INDEPENDENT LIVING
 
 
 
 
Center
City
State
Mortgage (M)
Beds

Standiford Place Independent Senior Living Community
Modesto
CA
L
121

Iris Place Independent Senior Living Community
Athens
GA
L
142

Riverplace Independent Senior Living Community
Columbus
GA
L
114

River's Edge Independent Senior Living Community
Savannah
GA
L
121

Chateau De Boise Independent Senior Living Community
Boise
ID
L
97

Arbor Glen Independent Senior Living Community
Fort Wayne
IN
L
120

Nouveau Marc Independent Senior Living Community
Kenner
LA
L
113

Lake St. Charles Retirement Center
St. Charles
MO
L
180

Yardley Commons Independent Senior Living Community
Voorhees
NJ
L
107

Worthington Independent Senior Living Community
Gahanna
OH
L
117

Silver Arrow Estates Independent Senior Living Community
Broken Arrow
OK
L
126

Astor House Independent Senior Living Community
Newberg
OR
L
121

Eagle Crest Independent Senior Living Community
Myrtle Beach
SC
L
120

Westminster Independent Senior Living Community
Greenville
SC
L
117

Colonial Hill Retirement Center
Johnson City
TN
L
63

Parkwood Retirement Apartments
Chattanooga
TN
L
30

Bedford Independent Senior Living Community
Vancouver
WA
L
103

Garden Club Independent Senior Living Community
Bellevue
WA
L
105

Kamlu Retirement Inn Independent Senior Living Community
Vancouver
WA
L
83

Orchard Park Independent Senior Living Community
Yakima
WA
L
101

 
 
 
 
 
SENIOR LIVING CAMPUS
 
 
 
 
Linda Valley Care Center
Loma Linda
CA
L
181

Savannah Court of Maitland
Maitland
FL
L
151

Savannah Court of Palm Beaches
W. Palm Beach
FL
L
144

Sunbridge Retirement & Rehab for Nampa
Nampa
ID
L
183

East Cascade Retirement Community
Madras
OR
M
76

Sante Silverdale
Silverdale
WA
L
138

 
 
 
 
 
HOSPITALS
 
 
 
 
Santé Mesa
Mesa
AZ
M
70

Alvarado Parkway Institute
La Mesa
CA
L
66

Kentucky River Hospital
Jackson
KY
L
55

TrustPoint Hospital (Polaris)
Murfreesboro
TN
L
60

 
 
 
 
 
MEDICAL OFFICE
 
 
 
Sq. Ft.

North Okaloosa
Crestview
FL
L
27,017

Pasadena Bayshore
Pasadena
TX
L
61,500

 
 
 
 
 
Corporate Office
Murfreesboro
TN
N/A
7,000

 
 
 
 
 
* These properties are encumbered by a mortgage with an outstanding balance of $80,080,000 at December 31, 2013.
** Under construction



21
Table of Contents

10-YEAR LEASE EXPIRATIONS

The following table provides additional information on our leases which are scheduled to expire based on the maturity date contained in the most recent lease agreement or extension.  We expect that, prior to maturity, we will negotiate new terms of a lease to either the current tenant or another qualified operator.
 
 
 
 
 
 
 
 
Annualized

 
Percentage of

 
 
Leases
 
Rentable
 
Number
 
Gross Rent**

 
Annualized

Year
 
 Expiring
 
Square Feet*
 
 of Units/Beds
 
 (in thousands)

 
 Gross Rent

2014
 
1
 
—
 
60
 
$
306

 
.19
%
2015
 
—
 
—
 
—
 
—

 
—
%
2016
 
4
 
—
 
604
 
4,154

 
2.60
%
2017
 
23
 
—
 
1,665
 
17,070

 
10.70
%
2018
 
16
 
61,500
 
731
 
11,595

 
7.27
%
2019
 
—
 
—
 
—
 
—

 
—
%
2020
 
6
 
27,017
 
224
 
2,876

 
1.80
%
2021
 
2
 
—
 
344
 
1,904

 
1.19
%
2022
 
4
 
—
 
156
 
3,672

 
2.30
%
2023
 
2
 
—
 
254
 
2,968

 
1.86
%
Thereafter
 
99
 
—
 
11,085
 
114,978

 
72.08
%
*Rentable Square Feet represents total square footage in two MOB investments.
**Annualized Gross Rent refers to the amount of lease revenue that our portfolio would generate if all leases were in effect for the twelve-month calendar year, regardless of the commencement date, maturity date, or renewals.

ITEM 3. LEGAL PROCEEDINGS

Our Health Care Facilities are subject to claims and suits in the ordinary course of business. Our lessees and borrowers have indemnified, and are obligated to continue to indemnify us, against all liabilities arising from the operation of the Health Care Facilities, and are further obligated to indemnify us against environmental or title problems affecting the real estate underlying such facilities. While there may be lawsuits pending against certain of the owners and/or lessees of the Health Care Facilities, management believes that the ultimate resolution of all such pending proceedings will have no material adverse effect on our financial condition, results of operations or cash flows.

ITEM 4. MINE SAFETY DISCLOSURES

Not Applicable


22
Table of Contents

PART II.

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

The Company’s charter contains certain provisions which are designed to ensure that the Company’s status as a REIT is protected for federal income tax purposes. One of these provisions provides that any transfer that would cause NHI to be beneficially owned by fewer than 100 persons or would cause NHI to be “closely held” under the IRS Code would be void, which, subject to certain exceptions, results in no stockholder being allowed to own, either directly or indirectly pursuant to certain tax attribution rules, more than 9.9% of the Company’s stock. In 1991, the Board created an exception to this ownership limitation for Dr. Carl E. Adams, his spouse, Jennie Mae Adams, and their lineal descendants. Effective May 12, 2008, we entered into Excepted Holder Agreements with W. Andrew Adams and certain members of his family. These written agreements are intended to restate and replace the parties’ prior verbal agreement. Based on the Excepted Holder Agreements currently outstanding, the individual ownership limit for all other stockholders is approximately 7.5%. Our charter gives our Board of Directors broad powers to prohibit and rescind any attempted transfer in violation of the ownership limits. These agreements were entered into in connection with the Company’s announcement in 2008 of a stock purchase program pursuant to which the Company subsequently purchased 194,100 shares of its common stock in the public market from its stockholders.

A separate agreement was entered into with each of the spouse and children of Dr. Carl E. Adams and others within Mr. W. Andrew Adams’ family. We needed to enter into such an agreement with each family member because of the complicated ownership attribution rules under the Internal Revenue Code. The agreement permits the Excepted Holders to own stock in excess of 9.9% up to the limit specifically provided in the individual agreement and not lose rights with respect to such shares. However, if the stockholder’s stock ownership exceeds the limit, then such shares in excess of the limit become “Excess Stock” and lose voting rights and entitlement to receive dividends. The Excess Stock classification remains in place until the stockholder no longer exceeds the threshold limit specified in the Agreement. The purpose of these agreements is to ensure that the Company does not violate the prohibition against a REIT being closely held.

W. Andrew Adams’ Excess Holder Agreement also provides that he will not own shares of stock in any tenant of the Company if such ownership would cause the Company to constructively own more than a 9.9% interest in such tenant. Again, this prohibition is designed to protect the Company’s status as a REIT for tax purposes.

In order to qualify for the beneficial tax treatment accorded to a REIT, we must make distributions to holders of our common stock equal on an annual basis to at least 90% of our REIT taxable income (excluding net capital gains), as defined in the Internal Revenue Code. Cash available for distribution to our stockholders is primarily derived from interest payments received on our notes and from rental payments received under our leases. All distributions will be made by us at the discretion of the Board of Directors and will depend on our cash flow and earnings, our financial condition, bank covenants contained in our financing documents and such other factors as the Board of Directors deems relevant. Our REIT taxable income is calculated without reference to our cash flow. Therefore, under certain circumstances, we may not have received cash sufficient to pay our required distributions.

Our common stock is traded on the New York Stock Exchange under the symbol “NHI”. As of February 7, 2014, there were approximately 831 holders of record of shares and approximately 28,800 beneficial owners of shares.

High and low stock prices of our common stock on the New York Stock Exchange and dividends declared for the last two years were:
 
 
2013
 
2012
 
 
Sales Price
 
Cash Dividends Declared
 
Sales Price
 
Cash Dividends Declared
Quarter Ended
 
High
 
Low
 
 
High
 
Low
 
March 31
 
$
67.18

 
$
57.24

 
$.695
 
$
51.29

 
$
43.37

 
$.65
June 30
 
72.99

 
56.20

 
.735
 
51.63

 
47.16

 
.65
September 30
 
65.94

 
53.01

 
.735
 
54.81

 
51.00

 
.67
December 31
 
64.00

 
56.00

 
.735
 
57.30

 
51.00

 
.891
1Includes a special dividend of $0.22 per share

The closing price of our stock on February 13, 2014 was $62.09.


23
Table of Contents

We currently maintain two equity compensation plans: the 2005 Stock Option, Restricted Stock and Stock Appreciation Rights Plan (“the 2005 Plan”) and the 2012 Stock Incentive Plan ("the 2012 Plan"). These plans have been approved by our stockholders. The following table provides information as of December 31, 2013 about our common stock that may be issued upon grants of restricted stock and the exercise of options under our existing equity compensation plans.

 
 
Number of securities to be issued upon exercise of outstanding options, warrants and rights
 
Weighted-average exercise price of outstanding options, warrants and rights
 
Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in the first column)
Equity compensation plans approved
 
 
 
 
 
 
by security holders
 
516,674
 
$59.20
 
1,160,6351
1These shares remain available for grant under the 2005 Plan and the 2012 Plan.

The following graph demonstrates the performance of the cumulative total return to the stockholders of our common stock during the previous five years in comparison to the cumulative total return on the FTSE NAREIT All REITs Index and the Standard & Poor’s 500 Stock Index. The FTSE NAREIT All REITs Index is comprised of all tax-qualified REITs that are listed on the New York Stock Exchange, the American Stock Exchange or the NASDAQ National Market List. The FTSE NAREIT All REITs Index is not free float adjusted, and constituents are not required to meet minimum size and liquidity criteria.

 
2008
2009
2010
2011
2012
2013
NHI
$100.00
$146.23
$188.96
$195.14
$265.04
$275.75
NAREIT
$100.00
$127.46
$128.74
$129.81
$155.90
$160.89
S&P 500
$100.00
$126.46
$145.50
$148.57
$172.34
$228.16


24
Table of Contents

ITEM 6. SELECTED FINANCIAL DATA.

The following table represents our financial information for the five years ended December 31, 2013. This financial information has been derived from our historical financial statements including those for the most recent three years included elsewhere in this Annual Report on Form 10-K and should be read in conjunction with those consolidated financial statements, accompanying footnotes and Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7. Prior period financial information has been reclassified for presentation of operations discontinued in 2013 as described in the notes to the consolidated financial statements. These reclassifications had no impact on previously reported net income.

(in thousands, except share and per share amounts)
 
Years Ended December 31,
STATEMENT OF INCOME DATA:
2013
 
2012
 
2011
 
2010
 
2009
Revenues
$
117,828

 
$
93,317

 
$
83,739

 
$
79,423

 
$
65,211

 
 
 
 
 
 
 
 
 
 
Income from continuing operations
79,498

 
72,834

 
69,817

 
58,729

 
53,682

Discontinued operations:
 
 
 
 
 
 
 
 
 
Income from operations - discontinued
5,426

 
6,098

 
7,967

 
8,688

 
10,548

Gain on sales of real estate
22,258

 
11,966

 
3,348

 
2,004

 
—

Net income
107,182

 
90,898

 
81,132

 
69,421

 
64,230

Net income attributable to noncontrolling interest
(999
)
 
(167
)
 
—

 
—

 
—

Net income attributable to common stockholders
$
106,183

 
$
90,731

 
$
81,132

 
$
69,421

 
$
64,230

 
 
 
 
 
 
 
 
 
 
PER SHARE DATA:
 
 
 
 
 
 
 
 
 
Basic earnings per common share:
 
 
 
 
 
 
 
 
 
Income from continuing operations
$
2.77

 
$
2.61

 
$
2.52

 
$
2.12

 
$
1.95

Discontinued operations
.97

 
.65

 
.41

 
.39

 
.38

Net income attributable to common stockholders
$
3.74

 
$
3.26

 
$
2.93

 
$
2.51

 
$
2.33

 
 
 
 
 
 
 
 
 
 
Diluted earnings per common share:
 
 
 
 
 
 
 
 
 
Income from continuing operations
$
2.77

 
$
2.61

 
$
2.51

 
$
2.12

 
$
1.94

Discontinued operations
.97

 
.65

 
.41

 
.38

 
.38

Net income attributable to common stockholders
$
3.74

 
$
3.26

 
$
2.92

 
$
2.50

 
$
2.32

 
 
 
 
 
 
 
 
 
 
OTHER DATA:
 
 
 
 
 
 
 
 
 
Common shares outstanding
33,051,176

 
27,857,217

 
27,751,208

 
27,689,392

 
27,629,505

Weighted average common shares:
 
 
 
 
 
 
 
 
 
Basic
28,362,398

 
27,811,813

 
27,719,096

 
27,664,482

 
27,586,338

Diluted
28,397,702

 
27,838,720

 
27,792,592

 
27,732,959

 
27,618,300

 
 
 
 
 
 
 
 
 
 
Regular dividends declared per common share
$
2.90

 
$
2.64

 
$
2.495

 
$
2.36

 
$
2.20

Special dividends declared per common share
$
—

 
$
.22

 
$
.22

 
$
—

 
$
.10

 
 
 
 
 
 
 
 
 
 
BALANCE SHEET DATA: (at year end)
 
 
 
 
 
 
 
 
 
Mortgages and other notes receivable, net
$
60,639

 
$
84,250

 
$
78,672

 
$
75,465

 
$
94,588

Real estate properties, net
$
1,247,740

 
$
535,390

 
$
394,795

 
$
327,654

 
$
223,861

Preferred stock and marketable securities
$
50,782

 
$
51,016

 
$
49,496

 
$
60,608

 
$
59,454

Assets held for sale, net
$
—

 
$
1,611

 
$
29,381

 
$
36,853

 
$
33,420

Total assets
$
1,455,820

 
$
705,981

 
$
579,563

 
$
509,341

 
$
459,360

Debt
$
617,080

 
$
203,250

 
$
97,300

 
$
37,765

 
$
—

Total equity
$
777,160

 
$
468,047

 
$
443,485

 
$
442,500

 
$
434,612



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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion and analysis is based primarily on the consolidated financial statements of National Health Investors, Inc. for the periods presented and should be read together with the notes thereto contained in this Annual Report on Form 10-K. Other important factors are identified in “Item 1. Business” and “Item 1A. Risk Factors” above.

Executive Overview

National Health Investors, Inc., incorporated under the laws of Maryland in 1991, is a real estate investment trust ("REIT") which invests in income-producing health care properties primarily in the long-term care and senior housing industries. As of December 31, 2013, our portfolio consisted of real estate, mortgage and note investments and other investments in the preferred stock and marketable securities of other REITs. We are a self-managed REIT investing in health care real estate or in the operations thereof through independent third-party managers that generate current income to be distributed to stockholders. We have pursued this mission by investing primarily in leased properties, loans and RIDEA transactions. These investments include senior housing, skilled nursing facilities, hospitals and medical office buildings, all of which are collectively referred to herein as "Health Care Facilities." Senior housing includes assisted living facilities, senior living campuses, and independent living facilities. We typically fund these investments through three sources of capital: (1) debt offerings, including bank lines of credit and ordinary term debt, (2) current cash flow, and (3) the sale of equity securities.

Portfolio

At December 31, 2013, our continuing operations were comprised of investments in real estate and mortgage and other notes receivable in 168 health care facilities located in 30 states consisting of 94 senior housing communities, 68 skilled nursing facilities, 4 hospitals, 2 medical office buildings and other notes receivable. These investments (excluding our corporate office of $882,000) consisted of properties with an original cost of approximately $1,421,120,000, rented under triple-net leases to 23 lessees, and $60,639,000 aggregate carrying value of mortgage and other notes receivable due from 15 borrowers.


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The following tables summarize our investments in real estate and mortgage and other notes receivable as of December 31, 2013 (dollars in thousands):

Real Estate Properties
Properties

 
Beds/Sq. Ft.*

 
Revenue

 
Assisted Living
58

 
2,857

 
$
29,559

 
Senior Living Campus
5

 
797

 
6,827

 
Independent Living
28

 
3,114

 
2,329

 
Senior Housing Communities
91

 
6,768

 
38,715

 
Skilled Nursing Facilities
61

 
8,174

 
59,058

 
Hospitals
3

 
181

 
7,171

 
Medical Office Buildings
2

 
88,517

*
1,085

 
 
Total Real Estate Properties
157

 
 
 
$
106,029

 
 
 
 
 
 
 
 
Mortgage and Other Notes Receivable
 
 
 
 
 
 
Assisted Living
2

 
190

 
$
732

 
Senior Living Campus
1

 
76

 
115

 
Senior Housing Communities
3

 
266

 
847

 
Skilled Nursing Facilities
7

 
594

 
2,777

 
Hospital
1

 
70

 
1,203

 
Other Notes Receivable
—

 
—

 
2,781

 
 
Total Mortgage and Other Notes Receivable
11

 


 
$
7,608

 
 
Total Portfolio
168

 
 
 
$
113,637


Portfolio Summary
Properties

 
Investment %

 
Revenue
 
Real Estate Properties
157

 
93.3
%
 
$
106,029

 
Mortgage and Other Notes Receivable
11

 
6.7
%
 
7,608

 
 
Total Portfolio
168

 
100.0
%
 
$
113,637

 
 
 
 
 
 
 
 
Summary of Facilities by Type
 
 
 
 
 
 
Assisted Living
60

 
26.7
%
 
$
30,290

 
Independent Living
28

 
2.0
%
 
2,329

 
Senior Living Campus
6

 
6.1
%
 
6,942

 
Senior Housing Communities
94

 
34.8
%
 
39,561

 
Skilled Nursing Facilities
68

 
54.4
%
 
61,835

 
Hospitals
4

 
7.4
%
 
8,375

 
Medical Office Buildings
2

 
1.0
%
 
1,085

 
Other
—

 
2.4
%
 
2,781

 
 
Total Real Estate Portfolio
168

 
100.0
%
 
$
113,637

 
 
 
 
 
 
 
 
Portfolio by Operator Type
 
 
 
 
 
 
Public
53

 
37.8
%
 
$
43,013

 
National Chain (Privately-Owned)
29

 
4.4
%
 
4,941

 
Regional
75

 
50.0
%
 
56,838

 
Small
11

 
7.8
%
 
8,870

 
 
Total Real Estate Portfolio
168

 
100.0
%
 
$
113,662


For the year ended December 31, 2013, operators of facilities which provided more than 3% of our total revenues were (in alphabetical order): Bickford Senior Living; Emeritus Senior Living; Fundamental Long Term Care Holdings; Health Services Management; Landmark Senior Living; Legend Healthcare; National HealthCare Corp.; SeniorHealth of Rutherford; Senior Living Management Corporation; SP Silverdale; and White Pine Senior Living.

As of December 31, 2013, our average effective annualized rental income was $7,623 per bed for SNFs, $13,183 per unit for ALFs, $14,279 per unit for ILFs, $39,619 per bed for hospitals, and $12 per square foot for MOBs.


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We invest a portion of our funds in the preferred and common shares of other publicly-held healthcare REITs to ensure a substantial portion of our assets are invested for real estate purposes. At December 31, 2013, such investments had a carrying value of $50,782,000.

Areas of Focus

We are evaluating and will potentially make additional investments during 2014 while we continue to monitor and improve our existing properties. We seek tenants who will become mission-oriented partners in relationships where our business goals are aligned. This approach fuels steady, and thus, enduring growth for NHI and our tenants. While deal flow among the largest in our peer group may be slowing, there are smaller portfolio assets in secondary markets with prospective yields that justify our attention. Our investment focus, regardless of asset type, is on high quality opportunities-- defined by us to mean (a) the tenant has a track record of successful operations, (b) the tenant has the necessary credit to meet it's lease obligation to us; and (c) the facility is in good physical condition and (d) is positioned in a local market that offers the potential to achieve excellent financial results.

As we make new investments, we expect to maintain a relatively low level of debt compared to the value of our assets and relative to our peers in the industry. Approximately 52% of our revenue from continuing operations has come from operators of our skilled nursing facilities that receive a significant portion of their revenue from governmental payors, primarily Medicare and Medicaid. Such revenues are subject annually to statutory and regulatory changes, and in recent years, have been reduced due to federal and state budgetary pressures. As a result, in 2009, we began to diversify our portfolio by directing a significant portion of our investments into properties which do not rely primarily on Medicare and Medicaid reimbursement, but rather on private pay sources. While we will occasionally acquire skilled nursing facilities in good physical condition with a proven operator and strong local market fundamentals, our current investment focus is on acquiring senior housing assets (including assisted living and memory care facilities, independent living facilities and senior living campuses).

With the acquisition of the 25 independent living properties from Holiday in December 2013, discussed in further detail under Investment Highlights, less than 40% of our contractual revenue for 2014 is expected to come from skilled nursing facilities. With this acquisition, we have further diversified across asset types and have achieved a concentration of revenue from large national tenants who are recognized leaders in their industries. Bickford Senior Living is our largest assisted living/memory care tenant, Holiday Acquisition Holdings is our largest independent living tenant and National HealthCare Corporation is our largest skilled nursing tenant, as measured by annual contractual lease revenue from these tenants as a percentage of total revenue from continuing operations.

If longer term borrowing rates increase as anticipated, there will be pressure on the spread between our cost of capital and the returns we earn. We expect that pressure to be partially mitigated by market forces that lead to an increase in lease rates. We expect our cost of capital will increase as a result of our plan to transition some of our short term revolving borrowings into debt instruments with longer maturities and increased overall interest rates. Managing risk involves trade-offs with the competing goal of maximizing short-term profitability. Our intention is to strike an appropriate balance between these competing interests within the context of our investor profile.

We are continuing to explore additional funding resources including bank term loans, convertible debt, debt private placement and secured government agency financing.

We manage our business with a goal of increasing the regular annual dividends paid to shareholders. Our Board of Directors approves a regular quarterly dividend which is reflective of expected taxable income on a recurring basis. Our transactions that are infrequent and non-recurring that generate additional taxable income have been distributed to shareholders in the form of special dividends. Taxable income is determined in accordance with the Internal Revenue Code and differs from net income for financial statements purposes determined in accordance with U.S. generally accepted accounting principles. Our goal of increasing annual dividends requires a careful balance between identification of high-quality lease and mortgage assets in which to invest and the cost of our capital with which to fund such investments. We consider the competing interests of short and long-term debt (interest rates, maturities and other terms) versus the higher cost of new equity. We accept some level of risk associated with leveraging our investments. We intend to continue to make new investments that meet our underwriting criteria and where we believe the spreads over our cost of capital will generate sufficient returns to our shareholders.








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Our regular and special dividends for the last four years are as follows:
 
2013
 
2012
 
2011
 
2010
Regular
$
2.90

 
$
2.64

 
$
2.50

 
$
2.36

Special
$
—

 
$
0.22

1 
$
0.22

 
$
—

 
$
2.90

 
$
2.86

 
$
2.72

 
$
2.36

 
 
 
 
 
 
 


1 Paid to shareholders of record in January 2013

Our increased investments in healthcare real estate beginning in 2009 have been partially accomplished by our ability to effectively leverage our balance sheet. However, we continue to maintain a relatively low leverage balance sheet compared with the value of our assets and with many in our peer group. We believe that our fixed charge coverage ratio, which is the ratio of Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization, including amounts in discontinued operations, excluding real estate asset impairments and gains on dispositions) to fixed charges (interest expense and principal payments on debt), and the ratio of consolidated debt to Adjusted EBITDA are meaningful measures of our ability to service our debt. We use these two measures as a useful basis to compare the strength of our balance sheet with those in our peer group.

We calculate our fixed charge coverage ratio as approximately 12:1 for the year ended December 31, 2013 (see page 47 for a discussion of Adjusted EBITDA and a reconciliation to our net income). On an annualized basis, our consolidated debt-to-Adjusted EBITDA ratio is 5:1.

Annual dividend growth, a low leverage balance sheet, a portfolio of diversified, high-quality assets, and prioritizing business relationships with experienced tenants and borrowers continue to be the key drivers of our business plan.

According to a 2011 estimate by the U.S. Department of Health and Human Services, the number of Americans 65 and older is expected to grow 36% between 2010 and 2020, compared to a 9% growth rate for the general population. An increase in this age demographic is expected to increase the demand for senior housing properties of all types in the coming decades.

There is increasing demand for private-pay senior housing properties in countries outside the U.S. We will consider real estate and note investments with U.S. entities who seek to expand their senior housing operations into countries where local-market demand is sufficiently demonstrated. We have a current investment of $1,500,000 in such ventures.

We expect to fund any new investments in real estate and mortgage notes in 2014 using our liquid investments and debt financing unless the size of an acquisition leads us to consider issuing equity securities to fund some or all of such acquisition in order to maintain a relatively low level of debt in comparison to the value of our assets.

Critical Accounting Policies

We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. These accounting principles require us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and cause our reported net income to vary significantly from period to period. If actual experience differs from the assumptions and other considerations used in estimating amounts reflected in our consolidated financial statements, the resulting changes could have a material adverse effect on our consolidated results of operations, liquidity and/or financial condition.

We consider an accounting estimate or assumption critical if:

1.
the nature of the estimates or assumptions is material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to change; and
2.
the impact of the estimates and assumptions on financial condition or operating performance is material.








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Our significant accounting policies and the associated estimates, judgments and the issues which impact these estimates are as follows:

Valuations and Impairments

The majority of our tenants and borrowers are in the long-term health care industry (SNFs and ALFs) where SNFs derive their revenues primarily from Medicare, Medicaid and other government programs. Amounts paid under these government programs are subject to legislative and government budget constraints. From time to time, there may be material changes in government reimbursement. In the past, SNFs have experienced material reductions in government reimbursement.

The long-term health care industry has also experienced a dramatic increase in professional liability claims and in the cost of insurance to cover such claims. These factors combined to cause a number of bankruptcy filings, bankruptcy court rulings and court judgments affecting our lessees and borrowers. In prior years, we have determined that impairment of certain of our investments had occurred as a result of these events.

We evaluate the recoverability of the carrying values of our properties on a property-by-property basis. On a quarterly basis, we review our properties for recoverability when events or circumstances, including significant physical changes in the property, significant adverse changes in general economic conditions and significant deteriorations of the underlying cash flows of the property, indicate that the carrying amount of the property may not be recoverable. The need to recognize an impairment charge is based on estimated undiscounted future cash flows from a property compared to the carrying value of that property. If recognition of an impairment charge is necessary, it is measured as the amount by which the carrying amount of the property exceeds the fair value of the property.

For notes receivable, we evaluate the estimated collectibility of contractual loan payments and general economic conditions on an instrument-by-instrument basis. On a quarterly basis, we review our notes receivable for ability to realize on such notes when events or circumstances, including the non-receipt of contractual principal and interest payments, significant deteriorations of the financial condition of the borrower and significant adverse changes in general economic conditions, indicate that the carrying amount of the note receivable may not be recoverable. If necessary, impairment is measured as the amount by which the carrying amount exceeds the fair value as measured by the discounted cash flows expected to be received under the note receivable or, if foreclosure is probable, the fair value of the collateral securing the note receivable.

We evaluate our marketable equity securities for other-than-temporary impairments. An impairment of a marketable equity security would be considered “other-than-temporary” unless we have the ability and intent to hold the investment for a period of time sufficient for a forecasted market price recovery up to (or beyond) the cost of the investment and evidence indicates the cost of the investment is recoverable within a reasonable period of time.

The initial carrying value of investments in unconsolidated entities is based on the amount paid to purchase the interest or the estimated fair value of the assets prior to our acquisition of interests in the entity. An aggregate basis difference between the cost of our equity method investee and the amount of underlying equity in its net assets is primarily attributable to goodwill, which is not amortized. We evaluate for impairment our equity method investments and related goodwill based upon a comparison of the estimated fair value of the investments to their carrying value. When we determine a decline in the estimated fair value of such an investment below its carrying value is other than temporary, an impairment is recorded. No impairments to the carrying value of our equity method investee have been recorded for any period presented.

While we believe that the carrying amounts of our properties and arrangement with Bickford are recoverable and our notes receivable, marketable securities and other investments are realizable, it is possible that future events could require us to make significant adjustments or revisions to these estimates.

The determination of the fair value and whether a shortfall in operating revenues or the existence of operating losses is indicative of a loss in value that is other than temporary involves significant judgment. Our estimates consider all available evidence including, as appropriate, the present value of the expected future cash flows discounted at market rates, general economic conditions and trends, the duration of the fair value deficiency, and any other relevant factors. While we believe our assumptions are reasonable, changes in these assumptions may have a material impact on our financial results.

Revenue Recognition

We collect interest and rent from our customers. Generally, our policy is to recognize revenues on an accrual basis as earned. However, there are certain of our customers, for whom we have determined, based on insufficient historical collections and the lack of expected future collections, that revenue for interest or rent is not probable of collection until received. For these

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investments, our policy is to recognize interest or rental income when assured, which we consider to be the period the amounts are collected. We identify investments as nonperforming if a required payment is not received within 30 days of the date it is due. This policy could cause our revenues to vary significantly from period to period. Revenue from minimum lease payments under our leases is recognized on a straight-line basis to the extent that future lease payments are considered collectible. Lease payments that depend on a factor directly related to future use of the property, such as an increase in annual revenues over base year revenues, are considered to be contingent rentals, are included in rental income when they are determinable and earned, and are excluded from future minimum lease payments.

REIT Qualification

As part of the process of preparing our consolidated financial statements, significant management judgment is required to evaluate our compliance with REIT requirements. Our determinations are based on interpretation of tax laws, and our conclusions may have an impact on the income tax expense recognized. We believe that we have operated our business so as to qualify as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the “Code”), and we intend to continue to operate in such a manner, but no assurance can be given that we will be able to qualify at all times. Effective October 1, 2012, we began to record income tax expense or benefit with respect to our subsidiary which will be taxed as a Taxable REIT Subsidiary ("TRS") under provisions similar to those applicable to regular corporations. Aside from such income taxes that may be applicable to the taxable income in our TRS, we will not be subject to U.S. federal income tax, provided that we continue to qualify as a REIT and make distributions to stockholders equal to or in excess of our taxable income. This treatment substantially eliminates the “double taxation” (at the corporate and stockholder levels) that typically applies to corporate dividends. Our failure to continue to qualify under the applicable REIT qualification rules and regulations would cause us to owe state and federal income taxes and would have a material adverse impact on our financial position, results of operations and cash flows.

Principles of Consolidation

The consolidated financial statements include our accounts, the accounts of our wholly-owned subsidiaries and the accounts of joint ventures in which we own a majority voting interest with the ability to control operations and where no substantive participating rights or substantive kick-out rights have been granted to the noncontrolling interests. In addition, we consolidate a legal entity deemed to be a variable interest entity ("VIE") in which we are determined to be the primary beneficiary. All material inter-company transactions and balances have been eliminated in consolidation.

We apply Financial Accounting Standards Board ("FASB") guidance for our arrangements with variable interest entities ("VIEs") which requires us to identify entities for which control is achieved through means other than voting rights and to determine which business enterprise is the primary beneficiary of the VIE. A VIE is broadly defined as an entity with one or more of the following characteristics: (a) the total equity investment at risk is insufficient to finance the entity's activities without additional subordinated financial support; (b) as a group, the holders of the equity investment at risk lack (i) the ability to make decisions about the entity's activities through voting or similar rights, (ii) the obligation to absorb the expected losses of the entity, or (iii) the right to receive the expected residual returns of the entity; or (c) the equity investors have voting rights that are not proportional to their economic interests, and substantially all of the entity's activities either involve, or are conducted on behalf of, an investor that has disproportionately few voting rights. We consolidate investments in VIEs when we are determined to be the primary beneficiary of the VIE. We may change our assessment of a VIE due to events such as modifications of contractual arrangements that affect the characteristics or adequacy of the entity's equity investments at risk and the disposal of all or a portion of an interest held by the primary beneficiary.

Real Estate Properties

Real property developed by us is recorded at cost, including the capitalization of interest during construction. The cost of real property investments acquired is allocated to net tangible and identifiable intangible assets based on their respective fair values. Tangible assets primarily consist of land, buildings and improvements. The remaining purchase price is allocated among identifiable intangible assets, if any.

We make estimates as part of our allocation of the purchase price of acquisitions to the various components of the acquisition based upon the relative fair value of each component. The most significant components of our allocations are typically the allocation of fair value to land, equipment, buildings and other improvements, and intangible assets, if any. Our estimates of the values of these components will affect the amount of depreciation and amortization we record over the estimated useful life of the property acquired or the remaining lease term.




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Investment Highlights

Since January 1, 2013 we have made or announced the following real estate investments (dollars in thousands):
 
Properties
 
Asset Class
 
Amount
Lease Investments
 
 
 
 
 
Holiday Acquisition Holdings LLC
25
 
Senior Housing
 
$
492,959

Bickford Senior Living/RIDEA Structure
17
 
Senior Housing
 
137,459

National Healthcare Corporation
7
 
Skilled Nursing
 
37,417

Fundamental Long Term Care Holdings, LLC
2
 
Skilled Nursing
 
27,750

Chancellor Healthcare
2
 
Senior Housing
 
17,000

Emeritus Senior Living
1
 
Senior Housing
 
15,300

Discovery Senior Living
1
 
Senior Housing
 
12,000

Note Investments
 
 
 
 
 
Bickford Senior Living
1
 
Senior Housing
 
9,200

Discovery Senior Living
1
 
Senior Housing
 
2,500

 
 
 
 
 
$
751,585


We have two operators, National HealthCare Corporation (“NHC”) and Bickford Senior Living ("Bickford"), from whom we individually derive at least 10% of our income from operations. Beginning in December 2013, a third major operator, Holiday Acquisition Holdings LLC (“Holiday”), has leased 25 independent living facilities from us which contractually obligates Holiday, in 2014 and going forward, to make lease payments which will aggregate to more than 25% of NHI revenues, based on our 2013 leases in place.

Holiday

In December 2013 we acquired 25 independent living facilities from Holiday, an affiliate of Holiday Retirement, for $491,000,000 plus transaction costs of $1,959,000. The total purchase price was allocated to the assets acquired based upon their relative fair values, preliminarily estimated as $21,700,000 to land, $471,259,000 to buildings and improvements. No intangibles were identified in the acquisition. Such allocations have not been finalized as we await conclusive asset valuations and, as such, the results of the allocation are preliminary and subject to adjustment. This portfolio is located in 12 states. We have leased this portfolio to a subsidiary of Holiday, who continues to operate the facilities pursuant to a management agreement with a Holiday-affiliated manager.

The master lease term of 17 years began in December 2013 and provides for initial cash rent of $31,915,000 plus annual escalators of 4.5% in the first 3 years and a minimum of 3.5% each year thereafter. Holiday will be our largest tenant in 2014, with anticipated lease revenues in excess of 25% of our total revenues. Holiday's obligations to us under the master lease are guaranteed by its indirect parent, Holiday AL Holdings, LP.

We funded this acquisition with proceeds of a $250,000,000 term loan and proceeds from a public offering of 5,175,000 shares of our common stock at $57 per share. The net proceeds from the offering were approximately $282,542,000, after deducting $12,500,000 in underwriting discounts, commissions and other offering expenses.

Bickford

As of December 31, 2013, we owned an 85% equity interest and an affiliate of Bickford owned a 15% equity interest in our consolidated subsidiary ("PropCo") which owns 29 assisted living/memory care facilities and also has 1 facility under construction. The facilities are leased to an operating company, ("OpCo"), in which we also share an 85/15 ownership interest with an affiliate of Bickford, who controls the entity. Our joint venture is structured to comply with the provisions of RIDEA.

On June 28, 2013, PropCo purchased 17 assisted living and memory care facilities which were managed by Bickford. The facilities total 750 units and are located in Illinois, Indiana, Iowa and Nebraska. Of these facilities, 14 were acquired from a subsidiary of Care Investment Trust, Inc. ("Care") for $124,549,000, consisting of $44,021,000 in cash and assumption of secured debt with a fair value of $80,528,000. As part of this transaction, we recognized all identifiable tangible assets and liabilities assumed at fair value at the date of acquisition (there were no identifiable intangible assets or liabilities assumed) and attributed $4,360,000 to the fair value of the land, $120,189,000 to the fair value of the buildings and improvements and expensed $63,000

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in transaction costs at closing. The 14 newly-acquired facilities have been leased to OpCo for an initial term of 5 years at an aggregate annual lease amount of $9,750,000 plus annual fixed escalators commencing on July 1 of each succeeding year.

Concurrent with this acquisition, PropCo also completed a $12,910,000 purchase and leaseback of three assisted living facilities located in Iowa, Nebraska and Indiana totaling 107 units from affiliates of Bickford. The acquisition was accounted for as an asset purchase. PropCo's previous master lease with Bickford was amended to include these three properties and the annual lease amount was increased from $7,750,000 to $9,086,000, plus annual fixed escalators beginning January 1 of each succeeding year. All other significant terms of the existing master lease remain unchanged.

As described above, the current annual contractual rent from OpCo to PropCo is $18,836,000, plus fixed annual escalators. During the quarter ended December 31, 2013, PropCo completed major construction and received certificates of occupancy on two assisted living facilities which were under development. Under the terms of the current development lease agreement, NHI continues to receive rent of 9% on the total amount of development costs, including land, which totaled $17,796,000 as of December 31, 2013. Of these costs, $15,084,000 relate to the facilities for which occupancy certificates have been received.

Of our total revenue from continuing operations, $14,586,000 (12%), $5,164,000 (6%) and $4,235,000 (5%) were recorded as rental income from Bickford for the years ended December 31, 2013, 2012, and 2011, respectively.

As of December 31, 2013, the carrying value of our investment in the operating company, OpCo, was $9,494,000. The excess of the original purchase price over the fair value of identified tangible assets at acquisition of $8,986,000 is treated as implied goodwill and is subject to periodic review for impairment in conjunction with our equity method investment as a whole.

With PropCo’s acquisition of additional Bickford properties in June 2013, an assignment was entered into whereby the operations of the 17 newly acquired facilities were conveyed by an affiliate of Bickford to OpCo. The transaction mandated the effective cut-off of operating revenues and expenses and the settlement of operating assets and liabilities at the acquisition date. Specified remaining net tangible assets were assigned to OpCo at the transferor's carryover basis resulting in an adjustment, through NHI's capital in excess of par value to our equity method investment in OpCo, of $817,000.

Unaudited summarized income statements for OpCo are presented below (in thousands):
 
Year Ended December 31,
 
2013
 
2012
Revenues
$
42,636

 
$
6,335

 
 
 
 
Operating expenses, including management fees
27,419

 
4,329

Lease expenses
14,579

 
1,937

Depreciation and amortization
256

 
16

Net Income
$
382

 
$
53


NHI has an exclusive right to Bickford's future acquisitions, development projects and refinancing transactions. At December 31, 2013, PropCo had purchased land and begun construction on one assisted living/memory care facility having a maximum cost of $9,000,000. Our costs incurred to date, including land, were $2,712,000.

In July 2013, we extended a $9,200,000 loan to Bickford to fund a portion of their acquisition of six senior housing communities consisting of 342 units. The loan is guaranteed by principals of Bickford and has a two-year maturity plus a one-year extension option with 12% annual interest. As a result of this transaction and existing agreements governing the nature of our relationship with Bickford, PropCo has acquired a $97,000,000 purchase option on the properties which is exercisable over the term of the loan.

NHC

Of our total revenue from continuing operations, $34,756,000 (29%), $33,056,000 (35%) and $32,619,000 (39%) in 2013, 2012 and 2011, respectively, were derived from NHC, a publicly-held company and the lessee of our legacy properties. As of December 31, 2013, we leased 42 health care facilities to NHC consisting of 3 independent living facilities and 39 skilled nursing facilities (4 of which are subleased to other parties for whom the lease payments are guaranteed to us by NHC). These facilities are leased to NHC under the terms an amended Master Lease Agreement dated October 17, 1991 ("the 1991 lease") which includes

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our 35 remaining legacy properties and a Master Lease Agreement dated August 30, 2013 ("the 2013 lease"), discussed below, which includes seven skilled nursing facilities acquired from ElderTrust on August 31, 2013.

In December 2012, we entered into an extension of the 1991 lease through December 2026. Under the terms of the lease, rent escalates by 4% of the increase, if any, in each facility’s revenue over a 2007 base year. We refer to this additional rent component as “percentage rent.”
The following table summarizes the percentage rent received and recognized from NHC (in thousands):
 
Year Ended December 31,
 
2013
 
2012
 
2011
Current year
$
2,275

 
$
1,530

 
$
1,530

Prior year final certification1
746

 
997

 
560

Total percentage rent
$
3,021

 
$
2,527

 
$
2,090

1 For purposes of the percentage rent calculation described in the Master Lease Agreement, NHC’s annual revenue by facility for a given year is certified to NHI by March 31st of the following year.

As previously disclosed, in December 2012, NHI entered into an agreement with NHC to sell six skilled nursing facilities for $21,000,000 in cash. The properties had a carrying value of $1,611,000. The sale was completed on August 31, 2013, and resulted in a gain for financial statement purposes of $19,370,000 after transaction costs of $19,000. We plan to defer recognition of the tax gain on the sale of these facilities by utilizing the like-kind exchange rules under Section 1031 of the Internal Revenue Code. The results of operation of the facilities sold were classified as discontinued operations for all periods presented in our Consolidated Statements of Income. To reflect this transaction, effective January 1, 2014, NHI’s annual base rent will be reduced by $2,950,000.

On August 30, 2013, we acquired seven skilled nursing facilities (and one vacant assisted living facility) in Massachusetts and New Hampshire from our former not-for-profit borrower ElderTrust of Florida, Inc. (“ElderTrust”) for consideration of $37,417,000, consisting of $23,676,000 in cash, inclusive of closing costs, and the cancellation of notes receivable from ElderTrust with a principal balance of $13,741,000. Beginning September 1, 2013, the facilities were placed under a new triple net lease to the current manager, NHC, for an initial period of 15 years commencing with a lease amount of $350,000 for the remainder of 2013. In 2014, the lease provides for a base annual rental of $3,450,000. Under the terms of the lease, rent escalates 4% of the increase in each facility's revenue over the 2014 base year. Because ElderTrust was the owner and operator of the facilities, we accounted for the transaction as an asset acquisition. During the last three years of the lease, NHC will have the option to purchase the facilities for $49,000,000.

Fundamental

In April 2013, we completed the purchase of two skilled nursing facilities located in Canton and Corinth, Texas for a purchase price of $26,150,000 in cash, plus consideration related to the Corinth facility of $1,600,000 conditional upon the achievement of certain operating metrics, which continued to be probable as of December 31, 2013. The facilities, which total 254 beds, have been leased to affiliates of Fundamental Long Term Care Holdings, LLC (“Fundamental”) for an initial term of 10 years at a lease rate of 9% plus annual fixed escalators. The lease includes three 5-year renewal options at the terms which exist upon renewal.

In October 2013, we agreed to sell three older skilled nursing facilities to affiliates of our current tenant, Fundamental, for $18,500,000. The properties had a carrying value of $17,068,000. We plan to defer recognition of the tax gain on the sale of these facilities by utilizing the like-kind exchange rules under Section 1031 of the internal Revenue Code. Our lease revenue from these facilities was $3,316,000, $3,231,000, and $3,067,000 for the years ended December 31, 2013, 2012, and 2011, respectively. We completed this sale on December 31, 2013. Pursuant to the purchase option, rents associated with the remaining properties will be fixed at $250,000 per month, without escalation, through the first renewal term in February 2016. Subsequent to the sale of the Arlington, Richardson and Canton facilities, Fundamental leases four facilities from NHI.

Chancellor

In October 2013, we completed a $9,000,000 acquisition of a 63-unit senior housing community in Baltimore, Maryland, and leased the facility to Chancellor Health Care, LLC for an initial term of seven years, plus renewal options. The lease rate in the first year will be 8% plus a fixed annual escalator. Because the facility was owner-occupied, we accounted for the acquisition as an asset purchase. We also committed to provide up to $500,000 for renovations and improvements.

Additionally, we have committed $7,500,000 to build a 46-unit free-standing assisted living and memory care community, expanding our Linda Valley senior living campus in Loma Linda, California. The initial lease term is for 15 years at an annual

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rate of 9% plus a fixed annual escalator. NHI purchased the Linda Valley campus in 2012 and leased it to Chancellor Health Care, who has been operating the campus since 1993.

Emeritus

In July 2013 we completed a $15,300,000 acquisition of The Inn at Halcyon Village in Marysville, Ohio ("Halcyon"). The 76-unit assisted living and memory care community is leased to Emeritus Senior Living for an initial term of 15 years with options to extend. Rent in the first year of the lease will be $1,140,000. Annual fixed escalators begin in the third lease year.
Discovery

In September 2013, we completed a $12,000,000 acquisition of Regency Pointe Retirement Community in Rainbow City, Alabama. The 120-unit senior housing community is leased to Discovery Senior Living ("Discovery") for an initial term of 15 years with three 5-year renewal options. Rent in the first year of the lease is $942,000 plus annual fixed escalators. As a lease inducement, upon obtaining certain operating metrics, Discovery will be eligible over years two, three and four of the lease for contingent payments totaling up to $2,500,000 which, if paid, we will amortize as an adjustment to rental income over the remaining lease term. At acquisition, the likelihood that we would incur the contingent payments was considered reasonably possible but not probable. Accordingly, no provision for these payments is reflected in the consolidated financial statements.

In October 2013, we provided a $2,500,000 second mortgage loan to an affiliate of Discovery for the construction of a 120-unit senior housing community in Naples, Florida. Construction began in the fourth quarter of 2013. The loan is guaranteed by principals of Discovery and has a five-year maturity with monthly payments of interest at a 12% annual rate.

Other Lease Activity

Our leases are typically structured as "triple net leases" on single-tenant properties having an initial leasehold term of 10 to 15 years with one or more 5-year renewal options. As such, there may be reporting periods in which we experience few, if any, lease renewals or expirations. During the year ended December 31, 2013, we had 1 expiring lease which was renewed with the existing tenant on substantially similar lease terms.

In October 2013, our current tenant, Weatherly Associates, LLC, exercised their option to purchase our Weatherly, PA senior housing facility for $5,315,000. The property had a carrying value of $3,591,000 resulting in a gain for financial statement purposes. We plan to defer recognition of the tax gain on the sale of this facility by utilizing the like-kind exchange rules under Section 1031 of the Internal Revenue Code. Our lease revenue from the facility was $353,000, $403,000, and $403,000 for the years ended December 31, 2013, 2012, and 2011, respectively.

Real Estate and Mortgage Write-downs

Our borrowers and tenants experience periods of significant financial pressures and difficulties similar to other health care providers. Governments at both the federal and state levels have enacted legislation to lower, or at least slow, the growth in payments to health care providers. Furthermore, the cost of professional liability insurance has increased significantly during this same period.

Since inception, a number of our facility operators and mortgage loan borrowers have undergone bankruptcy. Others have been forced to surrender properties to us in lieu of foreclosure or, for certain periods, have failed to make timely payments on their obligations to us.

We believe that the carrying amounts of our real estate properties are recoverable and that mortgage notes receivable are realizable and supported by the value of the underlying collateral. However, it is possible that future events could require us to make significant adjustments to these carrying amounts.

Potential Effects of Medicare Reimbursement

Our tenants who operate skilled nursing facilities receive a significant portion of their revenues from governmental payors, primarily Medicare (federal) and Medicaid (states). Changes in reimbursement rates and limits on the scope of services reimbursed to skilled nursing facilities could have a material impact on the operators' liquidity and financial condition. On May 1, 2013, the Centers for Medicare & Medicaid Services ("CMS") released a proposed rule outlining a 1.4% increase in their Medicare reimbursement for fiscal 2014 beginning on October 1, 2013. We currently estimate that our borrowers and lessees will be able to withstand this nominal Medicare increase due to their credit quality, profitability and their debt or lease coverage ratios, although no assurances can be given as to what the ultimate effect that similar Medicare increases on an annual basis would have on each of our borrowers and lessees. According to industry studies, state Medicaid funding is not expected to keep pace with inflation. Federal legislative policies have been adopted and continue to be proposed that would reduce Medicare and/or Medicaid payments to skilled nursing facilities. Accordingly, for the near-term, we are treating as cautionary the Federal Government’s recent re-commitment, after debating a ‘chained CPI’ indexing, to fully index Social Security to inflation. In this cautious approach, any near-term acquisitions of skilled nursing facilities are planned on a selective basis, with emphasis on operator quality and newer construction.


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As discussed in the notes to the consolidated financial statements, former not-for-profit borrowers, SeniorTrust and ElderTrust, appointed receivers to effect the sale of their assets and the winding up of those entities. These two mortgage borrowers were adversely impacted by previous Medicare rate adjustments due to their payor mix, their current payment coverage ratios and limited net equity. The impact of net reductions in Medicare reimbursement had an adverse effect on the value of the underlying real estate assets. In March 2013, the financial condition of SeniorTrust reflected their declining net operating income over the previous twelve months and indicated a further adverse change in the estimated value of the collateral for our notes receivable at that time. As a result, we recorded an impairment on this former note receivable of $4,037,000 based on such estimated value.

Litigation Settlement
In April 2013, we entered into a settlement agreement concerning litigation with the two borrowers mentioned above, ElderTrust and SeniorTrust. As described earlier, we agreed to purchase the seven skilled nursing facilities which served as collateral for the note from ElderTrust. The purchase was completed on August 30, 2013. Additionally, we agreed to a full settlement of our notes receivable from SeniorTrust for $15,000,000 in cash. Our notes from SeniorTrust were paid in full on June 28, 2013.

At the time of the settlement agreement, our annualized interest-only cash flows from SeniorTrust and ElderTrust totaled approximately $1,980,000. With an additional net investment of $8,676,000, our estimated annualized cash flows beginning in 2014, before any rent escalation, will be $3,450,000.

The table below illustrates the projected effect of the settlement on annualized cash flows and return on investment (in thousands):
 
Before Settlement
 
After Settlement
 
Difference
SeniorTrust
$
15,000

 
$
—

 
$
(15,000
)
ElderTrust
13,741

 
37,417

 
23,676

Total Investment
$
28,741

 
$
37,417

 
$
8,676

 
 
 
 
 
 
Estimated Annualized Cash Flow
$
1,980

 
$
3,450

 
$
1,470

Estimated Annualized Cash Flow as % of Total Investment
6.9
%
 
9.2
%
 
16.9
%

The above analysis focuses entirely upon cash flow and investment return without considering qualitative portfolio improvements inherent in transitioning from a mortgage note to a triple net lease. Additionally, the above analysis does not consider the effect of future rent escalations or the future cost of borrowings used to acquire the seven ElderTrust properties.

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Results of Operations

The significant items affecting revenues and expenses are described below (in thousands):
 
Years ended December 31,
 
Period Change
 
2013
 
2012
 
$
 
%
Revenues:
 
 
 
 
 
 
 
Rental income
 
 
 
 
 
 
 
ALFs leased to Bickford Senior Living
$
14,219

 
$
4,646

 
$
9,573

 
NM

SNFs leased to Fundamental Long Term Care
3,494

 
1,777

 
1,717

 
96.6
 %
Hospital leased to Polaris
2,140

 
528

 
1,612

 
NM

ALF leased to Landmark Senior Living
1,579

 
35

 
1,544

 
NM

SLC leased to Santé Partners
2,114

 
744

 
1,370

 
NM

SLC leased to Chancellor Health Care
1,207

 
276

 
931

 
NM

SNFs leased to NHC
33,974

 
33,056

 
918

 
2.8
 %
SNFs leased to Legend Healthcare
11,918

 
11,099

 
819

 
7.4
 %
Other new and existing leases
28,913

 
25,539

 
3,374

 
13.2
 %
 
99,558

 
77,700

 
21,858

 
28.1
 %
Straight-line rent adjustments, new and existing leases
6,471

 
3,782

 
2,689

 
71.1
 %
Total Rental Income
106,029

 
81,482

 
24,547

 
30.1
 %
Interest income from mortgage and other notes
 
 
 
 
 
 
 
Capital Funding Group
2,062

 
626

 
1,436

 
NM

Bickford Senior Living
531

 
8

 
523

 
NM

ElderTrust
644

 
1,068

 
(424
)
 
(39.7
)%
SeniorTrust
475

 
999

 
(524
)
 
(52.5
)%
Bell Oden
—

 
853

 
(853
)
 
NM

Other new and existing mortgages
3,921

 
3,872

 
49

 
1.3
 %
Total Interest Income from Mortgage and Other Notes
7,633

 
7,426

 
207

 
2.8
 %
Investment income and other
4,166

 
4,409

 
(243
)
 
(5.5
)%
Total Revenue
117,828

 
93,317

 
24,511

 
26.3
 %
Expenses:
 
 
 
 
 
 
 
Depreciation
 
 
 
 
 
 
 
ALFs leased to Bickford Senior Living
4,229

 
1,344

 
2,885

 
NM

ALF leased to Landmark Senior Living
581

 
—

 
581

 
NM

SLC leased to Santé Partners
679

 
226

 
453

 
NM

Hospital leased to Polaris
440