Note 7—Fair Value Measurements

 

Accounting standards require certain assets and liabilities be reported at fair value in the financial statements and provides a framework for establishing that fair value. The framework for determining fair value is based on a hierarchy that prioritizes the valuation techniques and inputs used to measure fair value.

 

In general, fair values determined by Level 1 inputs use quoted prices in active markets for identical assets or liabilities that the Trust has the ability to access. Fair values determined by Level 2 inputs use other inputs that are observable, either directly or indirectly. These Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

 

Level 3 inputs are unobservable inputs, including inputs that are available in situations where there is little, if any, market activity for the related asset. These level 3 fair value measurements are based primarily on management’s own estimates using pricing models, discounted cash flow methodologies, or similar techniques taking into account the characteristics of the asset. In instances where inputs used to measure fair value fall into different levels of the fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest level input that is significant to the valuation. The assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each asset or liability.

 

We measure our interest rate swaps at fair value on a recurring basis. The fair value of ($0.4) million and $(0.6) million as of December 31, 2013 and 2012, respectively, is based on primarily level 2 inputs described above.

 

The derivative instrument (Note 8) consists solely of an interest rate swap that is not traded on an exchange and is recorded at fair value based on a variety of observable inputs including contractual terms, interest rate curves, yield curves, measure of volatility, and correlations of such inputs. We obtained an estimate of fair value of the swaps from the counterparties. The Trust then tested the fair value against a fair value determined by a third party.  The fair values resulting from the separate calculations were not significantly different.

 

Both direct and indirect observable inputs may be used to determine the fair value of the positions classified as Level 2 assets and liabilities. As a result, the unrealized gains and losses for these asset and liabilities presented above may include changes in fair value that were attributable to both direct and indirect observable inputs. Changes in fair value of the interest rate swaps totaled $(0.2) million, $(0.1) million and $0.3 million for 2013, 2012 and 2011, respectively, and are included in the consolidated and combined statement of operations.

 

The Trust also has assets that under certain conditions are subject to measurement at fair value on a non-recurring basis. This generally includes assets subject to impairments. There were no such assets measured at fair value as of December 31, 2013.

 

The following table sets forth by level within the fair value hierarchy of our assets and liabilities that were accounted for on a nonrecurring basis as of December 31, 2012 (in thousands).

 

		Nonrecurring Fair Value Measurements At Report Date using:
		Fair Value as of December 31, 2012			Quoted Prices in Active Markets for Identical Assets (Level 1)			Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)			Total Gains (Losses) for the Year Ended December 31, 2012
Medical office buildings		$	3,589		$	—		$	—		$	3,589		$	(615	)
Land		1,210			—			—			1,210			(232		)
Property under development		675			—			—			675			(90		)
		$	5,474		$	—		$	—		$	5,474		$	(937	)

 

The impairment of the medical office buildings referenced above primarily resulted from declines in current and projected operating results and cash flows of the properties.

 

The following table summarizes the quantitative inputs and assumptions used for items categorized in Level 3 for the fair value hierarchy as of December 31, 2012. There were no changes in the quantitative inputs and assumptions used for items categorized in Level 3 for the fair hierarchy as of December 31, 2013. The disclosure below excludes information on unobservable inputs that are non-quantitative such as unadjusted prices from recent transactions or third party valuations.

 

Asset Category		Fair value at December 31, 2012			Valuation Techniques		Unobservable Inputs		Ranges
Investment in real estate properties		$	4,799		Discounted cash flow		Discount rate		10.7-13.5%
							Capitalization rate		7.7-10.5%
							Vacancy rate		9.41-17.8%
Property under development		$	675		Market comparable/ Discounted cash flow		Capitalization rate		9-10%

 

The carrying amounts of cash and cash equivalents, tenant receivables, payables, and accrued interest are reasonable estimates of fair value because of the short maturities of these instruments. Fair values for notes payable are estimates based on rates currently prevailing for similar instruments of similar maturities.

 

The following table presents the fair value of other financial instruments (in thousands). The swaps are measured at fair value on a recurring basis.

 

		December 31, 2013						December 31, 2012
		(unaudited)
		Carrying Amount			Fair Value			Carrying Amount			Fair Value
Cash		$	56,478		$	56,478		$	2,614		$	2,614
Debt		$	42,821		$	44,130		$	84,489		$	86,982
Interest rate swaps—Liabilities		$	397		$	397		$	643		$	643