REAL ESTATE

As of September 30, 2018, we owned 219 health care real estate properties located in 33 states and consisting of 143 senior housing communities (“SHO”), 71 skilled nursing facilities (“SNF”), 3 hospitals and 2 medical office buildings. Our senior housing communities include assisted living facilities, senior living campuses, independent living facilities, and entrance-fee communities. These investments (excluding our corporate office of $2,471,000) consisted of properties with an original cost of approximately $2,804,918,000 rented under triple-net leases to 29 lessees.

We acquired the following real estate properties during the nine months ended September 30, 2018 (in thousands):



Operator	Date	Properties	Asset Class	Amount
The Ensign Group	January/May 2018	3	SNF	$	43,404
Bickford Senior Living	April 2018	5	SHO	69,750
Comfort Care Senior Living	May 2018	2	SHO	17,140
				$	130,294

Ensign

On January 12, 2018, NHI acquired from a developer a 121-bed skilled nursing facility in Waxahachie, Texas for a cash investment of $14,404,000, and in May, we acquired from another developer two 132-bed skilled nursing facilities in Garland and Fort Worth, Texas for a cash investment totaling $29,000,000. Additional consideration of $1,275,000 for the Waxahachie property and $1,250,000 for each of Garland and Ft. Worth were contributed by the lessee, The Ensign Group (“Ensign”). We have capitalized the tenant contributions as a component of the cost of the facilities and have recorded the contributions as deferred revenue, which we are amortizing to revenue over the term of the master lease to which these properties have now been added. The remaining term of the master lease extends through April 2031, plus renewal options. The blended initial lease rate is set at 8.1%, subject to annual escalators based on prevailing inflation rates. The acquisitions were accounted for as an asset purchase and fulfill our commitment to acquire and lease to Ensign four skilled nursing facilities in New Braunfels, Waxahachie, Garland and Fort Worth, Texas.

Comfort Care

On May 31, 2018, NHI acquired two assisted living facilities comprising a total of 106 units in Bridgeport and Saginaw, Michigan for a cash investment of $17,140,000, inclusive of $100,000 in closing costs. We leased the facilities to affiliates of Comfort Care Senior Living (“Comfort Care”) at an initial lease rate of 7.25% with annual escalators adjusted for prevailing inflation rates, subject to a floor and ceiling of 2% and 3%, respectively. The lease provides for an initial six-month cash escrow. With the acquisition, NHI also obtained fair value-based purchase options for two newly constructed facilities operated by Comfort Care, with the purchase option windows to open upon stabilization. The acquisition was accounted for as an asset purchase.

Our relationship to Comfort Care consists of our leasehold interests and purchase options and is considered a variable interest, analogous to a financing arrangement. Comfort Care is structured to limit liability for potential damage claims, is capitalized for that purpose and is considered a VIE within the definition set forth in Note 1.

Affiliates of East Lake Capital Management

In documents we have previously filed with and furnished to the SEC, we have used the shorthand “East Lake” to refer to the East Lake Capital Management affiliated entities for whom we act as landlord. These entities consist of EL FW Intermediary I, LLC (for the Freshwater/Watermark continuing care retirement communities) and SH Regency Leasing, LLC (for the three assisted living facilities in Tennessee, Indiana and North Carolina referred to as “Regency”).

Our relationship with the affiliates of East Lake Capital Management (“Affiliates”) consists of our leasehold interests and is considered a variable interest, analogous to a financing arrangement. The Affiliates are structured to limit liability for potential damage claims, are capitalized for that purpose and are considered VIEs within the definition set forth in Note 1. See Note 6 for a discussion of the litigation between East Lake and NHI and the status of our lease with the affiliated entities.

Major Tenants

Bickford

On April 30, 2018, we acquired an assisted living/memory-care portfolio in Ohio and Pennsylvania totaling 320 units and comprised of five facilities, one of which is subject to a ground lease with remaining term, including extensions, of 50 years. The purchase price was $69,750,000, inclusive of $500,000 in closing costs and a $1,750,000 commitment for specified capital improvements which will be added to the lease base upon funding. This portfolio is in a separate master lease with Bickford Senior Living (“Bickford”) which provides for a lease rate of 6.85%, with annual fixed escalators over a term of 15 years plus renewal options, subject to a fair market value rent reset feature available to NHI between years three and five. We accounted for the acquisition as an asset purchase.

As of September 30, 2018, our Bickford portfolio consists of leases with lease expiration dates as follows (in thousands):



	Lease Expiration
	Sep/Oct 2019			June 2023		Sept 2027		May 2031		Apr 2033		Total
Number of Properties	10			13		4		20		5		52
2018 Contractual Rent	$	9,264		$	11,133	$	1,515	$	19,872	$	3,105	$	44,889
Straight Line Rent Adjustment	(617		)	588		221		3,813		607		4,612
	$	8,647		$	11,721	$	1,736	$	23,685	$	3,712	$	49,501

Of our total revenues, $12,937,000 (17%) and $10,897,000 (15%) were recognized as rental income from Bickford for the three months ended September 30, 2018 and 2017,respectively, including $1,169,000 and $1,600,000 in straight-line rent income, respectively. Of our total revenues, $36,792,000 (17%) and $30,170,000 (15%) were recognized as rental income from Bickford for the nine months ended September 30, 2018 and 2017, respectively, including $3,541,000 and $3,416,000 in straight-line rent income, respectively.

Senior Living

As of September 30, 2018, we leased nine retirement communities totaling 1,970 units to Senior Living Communities, LLC (“Senior Living”). The 15-year master lease, which began in December 2014, contains two 5-year renewal options and provides for an annual escalator of 4% effective January 1, 2018 and 3% thereafter.

Of our total revenues, $11,469,000 (15%) and $11,431,000 (16%) in rental income were derived from Senior Living for the three months ended September 30, 2018 and 2017, respectively, including $1,359,000 and $1,746,000 in straight-line rent income, respectively. Of our total revenues, $34,374,000 (16%) and $34,293,000 (17%) in rental income were derived from Senior Living for the nine months ended September 30, 2018 and 2017, respectively, including $4,076,000 and $5,238,000 in straight-line rent income, respectively.

Holiday

As of September 30, 2018, we leased 25 independent living facilities to an affiliate of Holiday Retirement (“Holiday”). The 17-year master lease, which began in December 2013, currently provides for a minimum annual escalator of 3.5% through the end of the lease term.

Of our total revenues, $10,954,000 (15%) and $10,954,000 (15%) were derived from Holiday for the three months ended September 30, 2018 and 2017, respectively, including $1,530,000 and $1,849,000 in straight-line rent income, respectively. Of our total revenues, $32,863,000 (15%) and $32,863,000 (16%) were derived from Holiday for the nine months ended September 30, 2018 and 2017, respectively, including $4,591,000 and $5,547,000 in straight-line rent income, respectively. Our tenant operates the facilities pursuant to a management agreement with a Holiday-affiliated manager. As of September 30, 2018, our straight-line rent receivable from Holiday is $43,614,000.

See Note 12 for a discussion of our agreement with Holiday, finalized on November 5, 2018, to modify our existing master lease.

NHC

As of September 30, 2018, we leased 42 facilities under two master leases to National HealthCare Corporation (“NHC”), a publicly-held company and the lessee of our legacy properties. The facilities leased to NHC consist 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 originally 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 7 skilled nursing facilities acquired from a third party.

The 1991 lease has been amended to extend the lease expiration to December 31, 2026. There are two additional 5-year renewal options, each at fair rental value of such leased property as negotiated between the parties and determined without including the value attributable to any improvements to the leased property voluntarily made by NHC at its expense. Under the terms of the 1991 lease, the base annual rental is $30,750,000 and rent escalates by 4% of the increase, if any, in each facility’s revenue over a 2007 base year. The 2013 lease provides for a base annual rental of $3,450,000 and has a lease expiration of August 2028. Under the terms of the 2013 lease, rent escalates 4% of the increase, if any, in each facility’s revenue over the 2014 base year. For both the 1991 lease and the 2013 lease, we refer to this additional rent component as “percentage rent.” During the last three years of the 2013 lease, NHC will have the option to purchase the facilities for $49,000,000.

The following table summarizes the percentage rent income from NHC (in thousands):



	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2018		2017		2018		2017
Current year	$	853	$	782	$	2,558	$	2,345
Prior year final certification¹	—		—		285		194
Total percentage rent income	$	853	$	782	$	2,843	$	2,539

¹For 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.

Of our total revenues, $9,389,000 (13%) and $9,318,000 (13%) were derived from NHC for the three months ended September 30, 2018 and 2017, respectively. Of our total revenues, $28,453,000 (13%) and $28,149,000 (14%) were derived from NHC for the nine months ended September 30, 2018 and 2017, respectively.

The chairman of our board of directors is also a director on NHC’s board of directors. As of September 30, 2018, NHC owned 1,630,462 shares of our common stock.

Other Portfolio Activity

Tenant Transition

We have identified a single-property lease with a tenant in Wisconsin as non-performing. In accordance with our revenue recognition policies, we will recognize future rental income from the lease in the period in which cash is received, approximately $362,000 of which is in arrears at September 30, 2018. Additionally, we are transitioning the lease to a new tenant. As a consequence of this determination, the related straight-line receivable is uncollectible, and, in June 2018, we wrote off the balance of $1,436,000 pertaining to this tenant and included this amount in loan and realty losses for the nine months ended September 30, 2018.

Tenant Non-Compliance

In October 2017, we issued a letter of forbearance to one of our tenants for a default on our lease terms involving mandated lease coverage ratios and working capital. Lease revenues from the tenant and its affiliates comprise less than 4% of our rental income, and the related straight-line rent receivable was approximately $4,332,000 at September 30, 2018. The tenant has maintained its status as current on all rent payments to NHI, and we have made no rent concessions.

Further, we have determined that another of our tenants is in material non-compliance with provisions of our lease regarding mandated coverage ratios and working capital. Lease revenues from the tenant comprise less than 2% of our rental income, and the related straight-line rent receivable was approximately $1,365,000 at September 30, 2018. The tenant has continued to be current on its rent payments to NHI, and we have made no rent concessions.

The defaults mentioned above typically give rise to considerations regarding the impairment or recoverability of the related assets, and we give additional attention to the nature of the defaults’ underlying causes. As of September 30, 2018, our assessment of likely undiscounted cash flows, calculated at the lowest level for which identifiable asset-specific cash flows are largely independent, reveals no impairment on the underlying real estate for either of the non-compliant operations discussed above.