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Section 1: 10-Q (10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the quarterly period ended September 30, 2019

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     .

Commission File No. 001-36739  

STORE CAPITAL CORPORATION

(Exact name of registrant as specified in its charter)

Maryland

 

45-2280254

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

8377 East Hartford Drive, Suite 100, Scottsdale, Arizona 85255

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (480) 256-1100

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  No 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes  No 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer 

Accelerated filer 

Non-accelerated filer 

Smaller reporting company 

Emerging growth company 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  

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

Securities registered pursuant to Section 12(b) of the Act:

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common Stock

STOR

New York Stock Exchange

As of October 30, 2019, there were 234,804,102 shares of the registrant’s $0.01 par value common stock outstanding.

TABLE OF CONTENTS

Part I. - FINANCIAL INFORMATION

Page

Item 1. Financial Statements

3

Condensed Consolidated Balance Sheets as of September 30, 2019 (unaudited) and
December 31, 2018

3

Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2019 and 2018 (unaudited)

4

Condensed Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2019 and 2018 (unaudited)

5

Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2019 and 2018 (unaudited)

6

Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2019 and 2018 (unaudited)

7

Notes to Condensed Consolidated Financial Statements (unaudited)

8

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

30

Item 3. Quantitative and Qualitative Disclosures About Market Risk

46

Item 4. Controls and Procedures

47

Part II. - OTHER INFORMATION

47

Item 1. Legal Proceedings

47

Item 1A. Risk Factors

48

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

48

Item 3. Defaults Upon Senior Securities

48

Item 4. Mine Safety Disclosures

48

Item 5. Other Information

48

Item 6. Exhibits

49

Signatures

49

2

2

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

STORE Capital Corporation

Condensed Consolidated Balance Sheets

(In thousands, except share and per share data)

 

September 30,

    

December 31,

 

 

2019

2018

 

 

(unaudited)

(audited)

 

Assets

Investments:

Real estate investments:

Land and improvements

$

2,490,943

$

2,280,280

Buildings and improvements

 

5,293,880

 

4,888,440

Intangible lease assets

 

76,241

 

85,148

Total real estate investments

 

7,861,064

 

7,253,868

Less accumulated depreciation and amortization

 

(694,153)

 

(585,913)

 

7,166,911

 

6,667,955

Real estate investments held for sale, net

 

15,857

 

Operating ground lease assets

24,493

Loans and financing receivables

 

473,175

 

351,202

Net investments

 

7,680,436

 

7,019,157

Cash and cash equivalents

 

27,553

 

27,511

Other assets, net

 

105,438

 

67,303

Total assets

$

7,813,427

$

7,113,971

Liabilities and stockholders’ equity

Liabilities:

Credit facility

$

$

135,000

Unsecured notes and term loans payable, net

1,262,044

916,720

Non-recourse debt obligations of consolidated special purpose entities, net

 

2,025,082

 

2,008,592

Dividends payable

82,181

72,954

Operating lease liabilities

30,042

Accrued expenses, deferred revenue and other liabilities

 

104,987

 

117,204

Total liabilities

 

3,504,336

 

3,250,470

Stockholders’ equity:

Common stock, $0.01 par value per share, 375,000,000 shares authorized, 234,804,102 and 221,071,838 shares issued and outstanding, respectively

 

2,348

 

2,211

Capital in excess of par value

 

4,586,521

 

4,129,082

Distributions in excess of retained earnings

 

(277,405)

 

(267,651)

Accumulated other comprehensive loss

 

(2,373)

 

(141)

Total stockholders’ equity

 

4,309,091

 

3,863,501

Total liabilities and stockholders’ equity

$

7,813,427

$

7,113,971

See accompanying notes.

3

STORE Capital Corporation

Condensed Consolidated Statements of Income

(unaudited)

(In thousands, except share and per share data)

Three Months Ended September 30,

Nine Months Ended September 30,

 

2019

2018

2019

2018

 

Revenues:

    

    

    

    

    

    

Rental revenues

$

157,965

$

129,778

$

462,920

$

374,091

Interest income on loans and financing receivables

 

9,594

 

6,867

 

24,066

 

18,667

Other income

 

4,275

 

360

 

5,273

 

1,294

Total revenues

 

171,834

 

137,005

 

492,259

 

394,052

Expenses:

Interest

 

39,325

 

31,833

 

116,822

 

93,097

Property costs

 

3,162

 

755

 

7,760

 

2,837

General and administrative

 

13,566

 

11,509

 

39,815

 

33,212

Depreciation and amortization

 

55,919

 

45,781

 

164,635

 

132,307

Provisions for impairment

7,341

9,951

2,608

Total expenses

 

119,313

 

89,878

 

338,983

 

264,061

Net gain on dispositions of real estate

 

59,290

 

1,261

 

72,395

 

30,852

Income from operations before income taxes

111,811

48,388

225,671

160,843

Income tax expense

 

193

 

163

 

533

 

457

Net income

$

111,618

$

48,225

$

225,138

$

160,386

Net income per share of common stock—basic and diluted

$

0.48

$

0.23

$

0.99

$

0.80

Weighted average common shares outstanding:

Basic

 

232,052,007

 

207,165,838

 

227,349,158

 

200,501,376

Diluted

 

232,645,531

 

207,932,531

 

227,882,523

 

201,039,328

See accompanying notes.

4

STORE Capital Corporation

Condensed Consolidated Statements of Comprehensive Income

(unaudited)

(In thousands)

Three Months Ended September 30,

Nine Months Ended September 30,

 

2019

2018

2019

2018

 

Net income

    

$

111,618

    

$

48,225

    

$

225,138

    

$

160,386

Other comprehensive (loss) income:

Unrealized (losses) gains on cash flow hedges

 

(78)

 

296

 

(1,246)

 

6,538

Cash flow hedge gains reclassified to interest expense

 

(169)

 

(474)

 

(986)

 

(956)

Total other comprehensive (loss) income

 

(247)

 

(178)

 

(2,232)

 

5,582

Total comprehensive income

$

111,371

$

48,047

$

222,906

$

165,968

See accompanying notes.

5

STORE Capital Corporation

Condensed Consolidated Statements of Stockholders’ Equity

(unaudited)

(In thousands, except share and per share data)

Distributions

Accumulated

 

Capital in

in Excess of

Other

Total

 

Common Stock

Excess of

Retained

Comprehensive

Stockholders’

 

Shares

Par Value

Par Value

Earnings

(Loss) Income

Equity

 

Three Months Ended September 30, 2019

Balance at June 30, 2019

 

230,330,323

$

2,303

$

4,424,885

$

(306,573)

$

(2,126)

$

4,118,489

Net income

 

111,618

 

111,618

Other comprehensive loss

 

(247)

 

(247)

Issuance of common stock, net of costs of $2,532

 

4,442,863

44

158,623

 

158,667

Equity-based compensation

 

46,903

1

3,324

 

3,325

Shares repurchased under stock compensation plan

(15,987)

(311)

(232)

(543)

Common dividends declared ($0.35 per share) and dividend equivalents on restricted stock units

(82,218)

(82,218)

Balance at September 30, 2019

 

234,804,102

$

2,348

$

4,586,521

$

(277,405)

$

(2,373)

$

4,309,091

Nine Months Ended September 30, 2019

Balance at December 31, 2018

 

221,071,838

$

2,211

$

4,129,082

$

(267,651)

$

(141)

$

3,863,501

Net income

 

225,138

 

225,138

Other comprehensive loss

 

(2,232)

 

(2,232)

Issuance of common stock, net of costs of $7,244

 

13,448,509

134

452,546

 

452,680

Equity-based compensation

 

450,898

5

8,077

14

 

8,096

Shares repurchased under stock compensation plan

(167,143)

(2)

(3,184)

(1,846)

(5,032)

Common dividends declared ($1.01 per share) and dividend equivalents on restricted stock units

 

(233,060)

 

(233,060)

Balance at September 30, 2019

 

234,804,102

$

2,348

$

4,586,521

$

(277,405)

$

(2,373)

$

4,309,091

Distributions

Accumulated

 

Capital in

in Excess of

Other

Total

 

Common Stock

Excess of

Retained

Comprehensive

Stockholders’

 

Shares

Par Value

Par Value

Earnings

Income

Equity

 

Three Months Ended September 30, 2018

Balance at June 30, 2018

 

205,205,239

$

2,052

$

3,668,964

$

(228,487)

$

8,519

$

3,451,048

Net income

 

 

 

 

48,225

 

 

48,225

Other comprehensive loss

 

 

 

 

 

(178)

 

(178)

Issuance of common stock, net of costs of $3,017

 

6,651,049

 

67

 

187,169

 

 

 

187,236

Equity-based compensation

 

(1,058)

 

 

2,283

 

1

 

 

2,284

Shares repurchased under stock compensation plan

Common dividends declared ($0.33 per share)

(69,913)

(69,913)

Balance at September 30, 2018

 

211,855,230

$

2,119

$

3,858,416

$

(250,174)

$

8,341

$

3,618,702

Nine Months Ended September 30, 2018

Balance at December 31, 2017

 

193,766,854

$

1,938

$

3,381,090

$

(214,845)

$

2,759

$

3,170,942

Net income

 

 

 

 

160,386

 

 

160,386

Other comprehensive income

 

 

 

 

 

5,582

 

5,582

Issuance of common stock, net of costs of $7,857

 

17,908,951

 

179

 

473,387

 

 

 

473,566

Equity-based compensation

 

293,373

 

3

 

5,947

 

31

 

 

5,981

Shares repurchased under stock compensation plan

(113,948)

(1)

(2,008)

(826)

(2,835)

Common dividends declared ($0.95 per share)

(194,920)

(194,920)

Balance at September 30, 2018

 

211,855,230

$

2,119

$

3,858,416

$

(250,174)

$

8,341

$

3,618,702

See accompanying notes.

6

STORE Capital Corporation

Condensed Consolidated Statements of Cash Flows

(unaudited)

(In thousands)

Nine Months Ended September 30,

 

2019

2018

 

Operating activities

    

    

    

Net income

$

225,138

$

160,386

Adjustments to net income:

Depreciation and amortization

 

164,635

132,307

Amortization of deferred financing costs and other noncash interest expense

 

6,452

5,971

Amortization of equity-based compensation

 

8,083

5,949

Provisions for impairment

9,951

2,608

Net gain on dispositions of real estate

 

(72,395)

(30,852)

Loss (gain) on defeasance/extinguishment of debt

735

(814)

Noncash revenue and other

 

(1,455)

949

Payments (made) received in settlement of cash flow hedges

(6,735)

4,288

Changes in operating assets and liabilities:

Other assets

(3,868)

(3,100)

Accrued expenses, deferred revenue and other liabilities

 

5,133

5,381

Net cash provided by operating activities

 

335,674

 

283,073

Investing activities

Acquisition of and additions to real estate

 

(1,020,961)

(1,053,730)

Investment in loans and financing receivables

 

(143,885)

(87,109)

Collections of principal on loans and financing receivables

 

6,820

3,457

Proceeds from dispositions of real estate

 

409,939

167,533

Net cash used in investing activities

 

(748,087)

 

(969,849)

Financing activities

Borrowings under credit facility

 

521,100

709,000

Repayments under credit facility

 

(656,100)

(640,000)

Borrowings under unsecured notes and term loans payable

347,410

348,303

Borrowings under non-recourse debt obligations of consolidated special purpose entities

 

41,690

Repayments under non-recourse debt obligations of consolidated special purpose entities

 

(28,930)

(25,974)

Financing and defeasance costs paid

 

(4,627)

(5,908)

Proceeds from the issuance of common stock

 

459,924

481,424

Stock issuance costs paid

(7,282)

(7,795)

Shares repurchased under stock compensation plans

(5,032)

(2,835)

Dividends paid

(224,975)

(185,660)

Net cash provided by financing activities

 

443,178

 

670,555

Net increase (decrease) in cash, cash equivalents and restricted cash

 

30,765

 

(16,221)

Cash, cash equivalents and restricted cash, beginning of period

 

43,017

 

49,178

Cash, cash equivalents and restricted cash, end of period

$

73,782

$

32,957

Reconciliation of cash, cash equivalents and restricted cash:

Cash and cash equivalents

$

27,553

$

25,598

Restricted cash included in other assets

46,229

7,359

Total cash, cash equivalents and restricted cash

$

73,782

$

32,957

Supplemental disclosure of noncash investing and financing activities:

Accrued tenant improvements included in real estate investments

$

20,522

$

39,188

Net real estate assets surrendered to lender

12,573

Acquisition of collateral property securing a mortgage note receivable

13,574

Non-recourse debt obligation assumed by purchaser of real estate

20,845

Non-recourse debt forgiven by lender in exchange for collateral assets

12,874

Accrued financing and stock issuance costs

322

1,363

Supplemental disclosure of cash flow information:

Cash paid during the period for interest, net of amounts capitalized

$

108,295

$

82,339

Cash paid during the period for income and franchise taxes

2,114

1,785

See accompanying notes.

7

STORE Capital Corporation

Notes to Condensed Consolidated Financial Statements

September 30, 2019

1. Organization

STORE Capital Corporation (STORE Capital or the Company) was incorporated under the laws of Maryland on May 17, 2011 to acquire single-tenant operational real estate to be leased on a long-term, net basis to companies that operate across a wide variety of industries within the service, retail and manufacturing sectors of the United States economy. From time to time, it also provides mortgage financing to its customers.

On November 21, 2014, the Company completed the initial public offering of its common stock. The shares began trading on the New York Stock Exchange on November 18, 2014 under the ticker symbol “STOR”.

STORE Capital has made an election to qualify, and believes it is operating in a manner to continue to qualify, as a real estate investment trust (REIT) for federal income tax purposes beginning with its initial taxable year ended December 31, 2011. As a REIT, it will generally not be subject to federal income taxes to the extent that it distributes all of its taxable income to its stockholders and meets other specific requirements.

2. Summary of Significant Accounting Principles

Basis of Accounting and Principles of Consolidation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and the rules and regulations of the U.S. Securities and Exchange Commission (SEC). In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The results of interim periods are not necessarily indicative of the results for the entire year. Certain information and note disclosures, normally included in financial statements prepared in accordance with GAAP, have been condensed or omitted from these statements and, accordingly, these statements should be read in conjunction with the Company’s audited consolidated financial statements as filed with the SEC in its Annual Report on Form 10-K for the fiscal year ended December 31, 2018.

These condensed consolidated statements include the accounts of STORE Capital and its subsidiaries, which are wholly owned and controlled by the Company through its voting interest. One of the Company’s wholly owned subsidiaries, STORE Capital Advisors, LLC, provides all of the general and administrative services for the day-to-day operations of the consolidated group, including property acquisition and lease origination, real estate portfolio management and marketing, accounting and treasury services. The remaining subsidiaries were formed to acquire and hold real estate investments or to facilitate non-recourse secured borrowing activities. Generally, the initial operations of the real estate subsidiaries are funded by an interest-bearing intercompany loan from STORE Capital, and such intercompany loan is repaid when the subsidiary issues long-term debt secured by its properties. All intercompany account balances and transactions have been eliminated in consolidation.

Certain of the Company’s wholly owned consolidated subsidiaries were formed as special purpose entities. Each special purpose entity is a separate legal entity and is the sole owner of its assets and liabilities. The assets of the special purpose entities are not available to pay or otherwise satisfy obligations to the creditors of any owner or affiliate of the special purpose entity. At September 30, 2019 and December 31, 2018, these special purpose entities held assets totaling $6.7 billion and $6.1 billion, respectively, and had third-party liabilities totaling $2.1 billion. These assets and liabilities are included in the accompanying condensed consolidated balance sheets.

8

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses during the reporting period. Although management believes its estimates are reasonable, actual results could differ from those estimates.

Segment Reporting

The Financial Accounting Standards Board’s (FASB) Accounting Standards Codification (ASC) Topic 280, Segment Reporting, established standards for the manner in which enterprises report information about operating segments. The Company views its operations as one reportable segment.

Investment Portfolio

STORE Capital invests in real estate assets through three primary transaction types as summarized below. Effective January 1, 2019, the Company adopted Accounting Standards Update (ASU) 2016-02, Leases (Topic 842)(ASC Topic 842) which had an impact on certain accounting related to the Company’s investment portfolio.

Real Estate Investments – investments are generally made through sale-leaseback transactions in which the Company acquires the real estate from the owner-operators and then leases the real estate back to them through long-term leases which are generally classified as operating leases; the operators become the Company’s long-term tenants (its customers). Certain of the lease contracts that are associated with a sale-leaseback transaction may contain terms, such as a tenant purchase option, which will result in the transaction being accounted for as a financing arrangement due to the adoption of ASC Topic 842 rather than as an investment in real estate subject to an operating lease.
Mortgage Loans Receivable – investments are made by issuing mortgage loans to the owner-operators of the real estate that serve as the collateral for the loans and the operators become long-term borrowers and customers of the Company. On occasion, the Company may also make other types of loans to its customers, such as equipment loans.
Hybrid Real Estate Investments – investments are made through modified sale-leaseback transactions, where the Company acquires land from the owner-operators, leases the land back through long-term leases and simultaneously issues mortgage loans to the operators secured by the buildings and improvements on the land. Prior to 2019, these hybrid real estate investment transactions were generally accounted for as direct financing leases. Subsequent to the adoption of ASC Topic 842, new or modified hybrid real estate transactions are expected to be accounted for as operating leases of the land and mortgage loans on the buildings and improvements.

Accounting for Real Estate Investments

Classification and Cost

STORE Capital records the acquisition of real estate properties at cost, including acquisition and closing costs. The Company allocates the cost of real estate properties to the tangible and intangible assets and liabilities acquired based on their estimated relative fair values. Intangible assets and liabilities acquired may include the value of existing in-place leases, above-market or below-market lease value of in-place leases and ground lease-related intangibles, as applicable. Management uses multiple sources to estimate fair value, including independent appraisals and information obtained about each property as a result of its pre-acquisition due diligence and its marketing and leasing activities. Certain of the Company’s lease contracts allow its tenants the option, at their election, to purchase the leased property from the Company at a specified time or times (generally at the greater of the then-fair market value or the Company’s cost, as defined in the lease contracts). Subsequent to the adoption of ASC Topic 842, for real estate assets acquired through a sale-leaseback transaction and subject to a lease contract which contains a purchase option, the Company will

9

account for such acquisition as a financing arrangement and record the investment in loans and financing receivables on the condensed consolidated balance sheet.

In-place lease intangibles are valued based on management’s estimates of lost rent and carrying costs during the time it would take to locate a tenant if the property were vacant, considering current market conditions and costs to execute similar leases. In estimating lost rent and carrying costs, management considers market rents, real estate taxes, insurance, costs to execute similar leases (including leasing commissions) and other related costs. The value assigned to in-place leases is amortized on a straight-line basis as a component of depreciation and amortization expense typically over the remaining term of the related leases.

The fair value of any above-market or below-market lease is estimated based on the present value of the difference between the contractual amounts to be paid pursuant to the in-place lease and management’s estimate of current market lease rates for the property, measured over a period equal to the remaining term of the lease. Capitalized above-market lease intangibles are amortized over the remaining term of the respective leases as a decrease to rental revenue. Below-market lease intangibles are amortized as an increase in rental revenue over the remaining term of the respective leases plus the fixed-rate renewal periods on those leases, if any. Should a lease terminate early, the unamortized portion of any related lease intangible is immediately recognized in operations.

The Company’s real estate portfolio is depreciated using the straight-line method over the estimated remaining useful life of the properties, which generally ranges from 30 to 40 years for buildings and is generally 15 years for land improvements. Properties classified as held for sale are recorded at the lower of their carrying value or their fair value, less anticipated closing costs. Any properties classified as held for sale are not depreciated.

Revenue Recognition

STORE Capital leases real estate to its tenants under long-term net leases that are predominantly classified as operating leases. The Company’s leases generally provide for rent escalations throughout the lease terms. For leases that provide for specific contractual escalations, rental revenue is recognized on a straight-line basis so as to produce a constant periodic rent over the term of the lease. Accordingly, straight-line operating lease receivables, calculated as the aggregate difference between the rental revenue recognized on a straight-line basis and scheduled rents, represent unbilled rent receivables that the Company will receive only if the tenants make all rent payments required through the expiration of the leases; these receivables are included in other assets, net on the condensed consolidated balance sheets. Prior to 2019, the Company provided for an estimated reserve for uncollectible straight-line operating lease receivables based on management’s assessment of the risks inherent in those lease contracts, giving consideration to industry default rates for long-term receivables. At December 31, 2018, there was $25.7 million of straight-line operating lease receivables, net of an allowance of $4.3 million. Subsequent to the adoption of ASC Topic 842 in 2019, the Company reviews its straight-line operating lease receivables for collectibility on a contract by contract basis and any amounts not considered substantially collectible are written off against rental revenues. The Company had $26.5 million of straight-line operating lease receivables at September 30, 2019. Leases that have contingent rent escalators indexed to future increases in the Consumer Price Index (CPI) may adjust over a one-year period or over multiple-year periods. Generally, these escalators increase rent at the lesser of (a) 1 to 1.25 times the increase in the CPI over a specified period or (b) a fixed percentage. Because of the volatility and uncertainty with respect to future changes in the CPI, the Company’s inability to determine the extent to which any specific future change in the CPI is probable at each rent adjustment date during the entire term of these leases and the Company’s view that the multiplier does not represent a significant leverage factor, increases in rental revenue from leases with this type of escalator are recognized only after the changes in the rental rates have actually occurred.

In addition to base rental revenue, certain leases also have contingent rentals that are based on a percentage of the tenant’s gross sales; the Company recognizes contingent rental revenue when the threshold upon which the contingent lease payment is based is actually reached. Approximately 2.5% of the Company’s investment portfolio is subject to leases that provide for contingent rent based on a percentage of the tenant’s gross sales; historically, contingent rent recognized has generally been less than 0.1% of rental revenues.

10

The Company reviews its operating lease receivables for collectibility on a regular basis, taking into consideration changes in factors such as the tenant’s payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area where the property is located. In the event that the collectibility of a receivable with respect to any tenant is not probable, a direct write-off of the receivable is made and any future rental revenue is recognized only when the tenant makes a rental payment.

Direct costs incremental to successful lease origination, offset by any lease origination fees received, are deferred and amortized over the related lease term as an adjustment to rental revenue. The Company periodically commits to fund the construction of new properties for its customers; rental revenue collected during the construction period is deferred and amortized over the remaining lease term when the construction project is complete. Substantially all of the Company’s leases are triple net, which means that the lessees are directly responsible for the payment of all property operating expenses, including property taxes, maintenance and insurance. For a few lease contracts, the Company collects property taxes from its customers and remits those taxes to governmental authorities. Subsequent to the adoption of ASC Topic 842, these property tax payments are presented on a gross basis as part of both rental revenues and property costs in the condensed consolidated statements of income.

Impairment

STORE Capital reviews its real estate investments and related lease intangibles periodically for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable through operations. Events or changes in circumstances may also include an expectation to sell certain assets in accordance with the Company’s long-term strategic plans. Management considers factors such as expected future undiscounted cash flows, estimated residual value, market trends (such as the effects of leasing demand and competition) and other factors, including bona fide purchase offers received from third parties, in making this assessment. These factors are classified as Level 3 inputs within the fair value hierarchy, discussed in Fair Value Measurements below. An asset is considered impaired if the carrying value of the asset exceeds its estimated undiscounted cash flows and the impairment is calculated as the amount by which the carrying value of the asset exceeds its estimated fair value. Estimating future cash flows is highly subjective and such estimates could differ materially from actual results.

During the nine months ended September 30, 2019, the Company recognized an aggregate provision for the impairment of real estate of $9.9 million, of which $2.6 million was recognized in the first quarter and $7.3 million was recognized during the third quarter. The estimated fair value of the impaired real estate assets at September 30, 2019 was $12.4 million. The estimated fair value of the impaired real estate assets at the time of impairment on March 31, 2019 was $10.0 million. No impairment of real estate was recognized during either the three or nine months ended September 30, 2018.

Accounting for Loans Receivable

Classification and Cost

STORE Capital holds its loans receivable, which are primarily mortgage loans secured by real estate, for long-term investment. Loans receivable are carried at amortized cost, including related unamortized discounts or premiums, if any.

Revenue Recognition

The Company recognizes interest income on loans receivable using the effective-interest method applied on a loan-by-loan basis. Direct costs associated with originating loans are offset against any related fees received and the balance, along with any premium or discount, is deferred and amortized as an adjustment to interest income over the term of the related loan receivable using the effective-interest method. A loan receivable is placed on nonaccrual status when the loan has become more than 60 days past due, or earlier if management determines that full recovery of the contractually specified payments of principal and interest is doubtful. While on nonaccrual status, interest income is recognized only when received. As of September 30, 2019 and December 31, 2018, the Company had loans receivable with an aggregate outstanding principal balance of $3.0 million and $8.5 million, respectively, on nonaccrual status.

11

Impairment and Provision for Loan Losses

The Company periodically evaluates the collectibility of its loans receivable, including accrued interest, by analyzing the underlying property-level economics and trends, collateral value and quality and other relevant factors in determining the adequacy of its allowance for loan losses. A loan is determined to be impaired when, in management’s judgment based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Specific allowances for loan losses are provided for impaired loans on an individual loan basis in the amount by which the carrying value exceeds the estimated fair value of the underlying collateral less disposition costs. At both September 30, 2019 and December 31, 2018, there was $2.5 million of allowance for loan losses.

Accounting for Direct Financing Receivables

Direct financing receivables include hybrid real estate investment transactions completed prior to 2019. The Company recorded the direct financing receivables at their net investment, determined as the aggregate minimum lease payments and the estimated residual value of the leased property less unearned income. The unearned income is recognized over the life of the related contracts so as to produce a constant rate of return on the net investment in the asset. Subsequent to the adoption of ASC Topic 842, existing direct financing receivables will continue to be accounted for in the same manner, unless the underlying contracts are modified.

Accounting for Operating Ground Lease Assets

As part of certain real estate investment transactions, the Company may enter into long-term operating ground leases as a lessee. As a result of the adoption of ASC Topic 842, the Company is required to recognize an operating ground lease (or right-of-use) asset and related operating lease liability for each of these operating ground leases. Operating ground lease assets and operating lease liabilities are recognized based on the present value of the lease payments. The Company uses its estimated incremental borrowing rate, which is the estimated rate at which the Company could borrow on a collateralized basis with similar payments over a similar term, in determining the present value of the lease payments.

Many of these operating lease contracts include options for the Company to extend the lease; the option periods are included in the minimum lease term only if it is reasonably likely the Company will exercise the option(s). Rental expense for the operating ground lease contracts is recognized in property costs on a straight-line basis over the lease term. Some of the contracts have contingent rent escalators indexed to future increases in the CPI and a few contracts have contingent rentals that are based on a percentage of the gross sales of the property; these payments are recognized in expense as incurred. The payment obligations under these contracts are typically the responsibility of the tenants operating on the properties, in accordance with the Company’s leases with the respective tenants. As a result, the Company also recognizes sublease rental revenue on a straight-line basis over the term of the Company’s sublease with the tenant; the sublease income is included in rental revenues.

Cash and Cash Equivalents

Cash and cash equivalents include cash and highly liquid investment securities with maturities at acquisition of three months or less. The Company invests cash primarily in money-market funds of a major financial institution, consisting predominantly of U.S. Government obligations.

Restricted Cash

Restricted cash may include reserve account deposits held by lenders, including deposits required to be used for future investment in real estate assets, escrow deposits and cash proceeds from the sale of assets held by a qualified intermediary to facilitate tax-deferred exchange transactions under Section 1031 of the Internal Revenue Code. The Company had $46.2 million and $15.5 million of restricted cash at September 30, 2019 and December 31, 2018, respectively, which were included in other assets, net, on the condensed consolidated balance sheets.

12

Deferred Costs

Financing costs related to the issuance of the Company’s long-term debt are deferred and amortized as an increase to interest expense over the term of the related debt instrument using the effective-interest method and are reported as a reduction of the related debt balance on the condensed consolidated balance sheets. Deferred financing costs related to the establishment of the Company's credit facility are deferred and amortized to interest expense over the term of the credit facility and are included in other assets, net, on the condensed consolidated balance sheets.

Derivative Instruments and Hedging Activities

The Company may enter into derivative contracts as part of its overall financing strategy to manage the Company’s exposure to changes in interest rates associated with current and/or future debt issuances. The Company does not use derivatives for trading or speculative purposes. The use of derivative financial instruments carries certain risks, including the risk that the counterparties to these contractual arrangements are not able to perform under the agreements. To mitigate this risk, the Company enters into derivative financial instruments only with counterparties with high credit ratings and with major financial institutions with which the Company may also have other financial relationships. The Company does not anticipate that any of the counterparties will fail to meet their obligations.

The Company records its derivatives on the balance sheet at fair value. All derivatives subject to a master netting arrangement in accordance with the associated master International Swap and Derivatives Association agreement have been presented on a net basis by counterparty portfolio for purposes of balance sheet presentation and related disclosures.  The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Hedge accounting generally provides for the matching of the earnings effect of the hedged forecasted transactions in a cash flow hedge. The changes in the fair value of derivatives designated and that qualify as cash flow hedges are recorded in accumulated other comprehensive income (loss). Amounts reported in accumulated other comprehensive income (loss) related to cash flow hedges are reclassified to operations as an adjustment to interest expense as interest payments are made on the hedged debt transaction.

As of September 30, 2019, the Company had one interest rate floor and two interest rate swap agreements in place. The two interest rate swaps and related interest rate floor transaction have an aggregate notional amount of $100 million and were designated as a cash flow hedge of the Company’s $100 million variable-rate bank term loan due in 2021 (Note 4). In December 2018, the Company entered into two treasury lock agreements which were designated as cash flow hedges associated with the expected public offering of the senior unsecured notes issued by the Company at the end of February 2019 (Note 4). The agreements were settled in accordance with their terms in February 2019 and the Company made an aggregate payment of $6.7 million to the counterparties which was recognized as a deferred loss in accumulated other comprehensive loss.

Fair Value Measurement

The Company estimates the fair value of financial and non-financial assets and liabilities based on the framework established in fair value accounting guidance. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). The hierarchy described below prioritizes inputs to the valuation techniques used in measuring the fair value of assets and liabilities. This hierarchy maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring the most observable inputs to be used when available. The hierarchy is broken down into three levels based on the reliability of inputs as follows:

Level 1—Quoted market prices in active markets for identical assets and liabilities that the Company has the ability to access.

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Level 2—Significant inputs that are observable, either directly or indirectly. These types of inputs would include quoted prices for similar assets or liabilities in active markets, quoted prices for identical assets in inactive markets and market-corroborated inputs.
Level 3—Inputs that are unobservable and significant to the overall fair value measurement of the assets or liabilities. These types of inputs include the Company’s own assumptions.

Share-based Compensation

Directors and key employees of the Company have been granted long-term incentive awards, including restricted stock awards (RSAs) and restricted stock unit awards (RSUs), which provide such directors and employees with equity interests as an incentive to remain in the Company’s service and to align their interests with those of the Company’s stockholders.

The Company estimates the fair value of RSAs based on the closing price per share of the common stock on the date of grant and recognizes that amount in general and administrative expense ratably over the vesting period at the greater of the amount amortized on a straight-line basis or the amount vested. During the nine months ended September 30, 2019, the Company granted RSAs representing 131,158 shares of restricted common stock to its directors and key employees. During the same period, RSAs representing 162,315 shares of restricted stock vested and RSAs representing 7,038 shares were forfeited. In connection with the vesting of RSAs, the Company repurchased 47,104 shares as a result of participant elections to surrender common shares to the Company to satisfy statutory tax withholding obligations under the Company’s equity-based compensation plans. As of September 30, 2019, the Company had 292,806 shares of restricted common stock outstanding.

The Company’s RSUs granted in 2015 through 2017 contain both a market condition and a service condition and RSUs granted in 2018 and 2019 contain both a market condition and a performance condition as well as a service condition. The Company values the RSUs with a market condition using a Monte Carlo simulation model and values the RSUs with a performance condition based on the fair value of the awards expected to be earned and recognizes those amounts in general and administrative expense on a tranche by tranche basis ratably over the vesting periods. During the nine months ended September 30, 2019, the Company awarded 628,909 RSUs to its executive officers. During the same period, 37,222 RSUs vested and 156,977 RSUs were forfeited. In connection with the vesting of 326,778 RSUs (of which 289,556 vested on December 31, 2018), the Company repurchased 120,039 shares during the nine months ended September 30, 2019 as a result of participant elections to surrender common shares to the Company to satisfy statutory tax withholding obligations under the Company’s equity-based compensation plan. As of September 30, 2019, there were 1,450,571 RSUs outstanding.

Income Taxes

As a REIT, the Company generally will not be subject to federal income tax. It is still subject, however, to state and local income taxes and to federal income and excise tax on its undistributed income. STORE Investment Corporation is the Company’s wholly owned taxable REIT subsidiary (TRS) created to engage in non-qualifying REIT activities. The TRS is subject to federal, state and local income taxes.

Management of the Company determines whether any tax positions taken or expected to be taken meet the “more-likely-than-not” threshold of being sustained by the applicable federal, state or local tax authority. Certain state tax returns filed for 2015 and tax returns filed for 2016 through 2018 are subject to examination by these jurisdictions. As of September 30, 2019 and December 31, 2018, management concluded that there is no tax liability relating to uncertain income tax positions. The Company’s policy is to recognize interest related to any underpayment of income taxes as interest expense and to recognize any penalties as general and administrative expenses. There was no accrual for interest or penalties at September 30, 2019 or December 31, 2018.

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Net Income Per Common Share

Net income per common share has been computed pursuant to the guidance in the FASB ASC Topic 260, Earnings Per Share. The guidance requires the classification of the Company’s unvested restricted common shares, which contain rights to receive non-forfeitable dividends, as participating securities requiring the two-class method of computing net income per common share. The following table is a reconciliation of the numerator and denominator used in the computation of basic and diluted net income per common share (dollars in thousands):

Three Months Ended September 30,

Nine Months Ended September 30,

 

2019

2018

2019

2018

 

Numerator:

    

    

    

    

    

    

    

    

Net income

$

111,618

$

48,225

$

225,138

$

160,386

Less: earnings attributable to unvested restricted shares

 

(139)

 

(109)

 

(316)

 

(289)

Net income used in basic and diluted income per share

$

111,479

$

48,116

$

224,822

$

160,097

Denominator:

Weighted average common shares outstanding

 

232,342,323

 

207,498,560

 

227,647,353

 

200,849,404

Less: Weighted average number of shares of unvested restricted stock

 

(290,316)

 

(332,722)

(298,195)

 

(348,028)

Weighted average shares outstanding used in basic income per share

 

232,052,007

 

207,165,838

 

227,349,158

 

200,501,376

Effects of dilutive securities:

Add: Treasury stock method impact of potentially dilutive securities (a)

 

593,524

 

766,693

 

533,365

 

537,952

Weighted average shares outstanding used in diluted income per share

 

232,645,531

 

207,932,531

 

227,882,523

 

201,039,328

(a)For the three months ended September 30, 2019 and 2018, excludes 112,784 shares and 110,592 shares, respectively, and for the nine months ended September 30, 2019 and 2018, excludes 111,802 shares and 99,495 shares, respectively, related to unvested restricted shares as the effect would have been antidilutive.

Recent Accounting Pronouncements

From time to time, new accounting pronouncements are issued by the FASB or the SEC. The Company adopts the new pronouncements as of the specified effective date. When permitted, the Company may elect to early adopt the new pronouncements. Unless otherwise discussed, these new accounting pronouncements include technical corrections to existing guidance or introduce new guidance related to specialized industries or entities and, therefore, will have minimal, if any, impact on the Company’s financial position, results of operations or cash flows upon adoption.

In February 2016, the FASB issued ASC Topic 842 to amend the accounting for leases. The new standard requires lessees and lessors to classify leases as either finance or operating leases and for lessees to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months.  The standard also eliminates current real estate-specific provisions and changes the guidance on sale-leaseback transactions, initial direct costs, lease modifications, recognition of a lease-related receivables allowance and lease executory costs for all entities.

The Company adopted ASC Topic 842 on January 1, 2019, using the modified retrospective approach in accordance with the provisions of ASU 2018-11, Leases (Topic 842), Targeted Improvements. As such, the Company’s financial statements only reflect the impact of ASC Topic 842 for the current reporting period. There was no impact to beginning retained earnings at the time of adoption and, therefore, no cumulative-effect adjustment was recorded. Upon adoption the Company elected to use certain practical expedients including:

a package of practical expedients allowing the Company to not reassess the classification of existing lease contracts, whether existing or expired contracts contain a lease or whether a portion of initial direct costs for existing leases should have been expensed.

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a practical expedient allowing the Company to not evaluate land easements that existed prior to or at the time of adoption, as leases in accordance with Topic 842.

The new standard requires that lessors expense, on an as-incurred basis, certain initial direct costs that are not incremental in obtaining a lease. Although there have been changes in the manner in which initial direct costs are recorded, the amount recorded has remained materially consistent. While primarily a lessor, the Company is also a lessee under several operating ground lease contracts and under its corporate office lease. Upon adoption of ASC Topic 842, the Company recorded a right-of-use asset and a lease liability of approximately $24.9 million and $25.5 million, respectively, in relation to these leases. For most of the operating ground leases, the sublessees, or the Company’s tenants, are responsible for making payment directly to the ground lessors. Prior to the new standard, these amounts were presented on a net basis; however, such amounts are now presented on a gross basis in the consolidated statements of income as both rental revenue and property costs. ASC Topic 842 also requires the Company to assess the probability of collecting substantially all of its rental revenue and make direct adjustments to rental revenue for operating lease receivables that are not believed to be collectible. As such, the Company will no longer recognize an allowance for doubtful accounts. The new standard had no impact on the Company’s cash flows.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which changes how entities measure credit losses for most financial assets. This guidance requires an entity to estimate its lifetime “expected credit loss” and record an allowance that, when deducted from the amortized cost basis of the financial asset, presents the net amount expected to be collected on the financial asset. Under the new standard, the Company expects to record allowances that are not required under current GAAP. In November 2018, the FASB issued ASU 2018-19, Codification Improvements to Topic 326, Financial Instruments – Credit Losses, which clarified that receivables arising from operating leases are within the scope of the leasing standard (ASC Topic 842) discussed above. This new standard will be adopted by the Company on January 1, 2020.  The Company has investments in loans, certain leases that are accounted for as loans and direct financing receivables which will be directly impacted by the new guidance. The adoption is not expected to materially impact the consolidated financial statements. The Company is continuing to evaluate the final impact this new standard will have on its consolidated financial statements as well as its internal control framework.

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3. Investments

At September 30, 2019, STORE Capital had investments in 2,417 property locations representing 2,368 owned properties (of which 17 are accounted for as financing arrangements and 57 are accounted for as direct financing receivables), 21 properties where all the related land is subject to an operating ground lease and 28 properties which secure mortgage loans. The gross investment portfolio totaled $8.4 billion at September 30, 2019 and consisted of the gross acquisition cost of the real estate investments totaling $7.9 billion, loans and financing receivables with an aggregate carrying amount of $473.2 million and operating ground lease assets totaling $24.5 million. As of September 30, 2019, approximately 33% of these investments are assets of consolidated special purpose entity subsidiaries and are pledged as collateral under the non-recourse obligations of these special purpose entities (Note 4).

The gross dollar amount of the Company’s investments includes the investment in land, buildings, improvements and lease intangibles related to real estate investments as well as the carrying amount of the loans and financing receivables and operating ground lease assets. During the nine months ended September 30, 2019, the Company had the following gross real estate and other investment activity (dollars in thousands):

    

Number of

    

Dollar

 

Investment

Amount of

 

Locations

Investments

 

Gross investments, December 31, 2018

 

2,255

$

7,605,070

Acquisition of and additions to real estate (a)

 

232

1,022,515

Investment in loans and financing receivables

 

18

143,885

Sales of real estate

 

(80)

(382,610)

Principal collections on loans and financing receivables (b)

(8)

(20,395)

Operating ground lease assets, net (c)

24,493

Provisions for impairment

(9,951)

Other

(6,507)

&#