UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549


FORM
10-K





[ X ]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934


For the
Fiscal Year Ended December 31, 2008


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 number 001-33262





MERUELO MADDUX PROPERTIES,
INC.


(Exact
name of registrant as specified in its charter)





Delaware
            20-5398955(State
      or other jurisdiction
              of
      incorporation or organization)
            (IRS
      Employer
              Identification
      No.)761
      Terminal Street, Building 1, Second Floor,
              Los
      Angeles, California
            90021(Address
      of principal executive offices)
            (Zip
      Code)





(213)
291-2800


(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
      registeredCommon
      stock, $0.01 par value
            
            The
      Nasdaq Global Market





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 [   ]  No [ X
]





Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Exchange 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 if disclosure of
delinquent filers pursuant to Item 405 of Regulation S-K is not contained
herein, and will not be contained, to the best of the registrant’s knowledge, in
definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form
10-K.  [  ]





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 the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.  Check one:





Large accelerated filer
[  ]                                                      Accelerated
filer  [X]





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 the
voting and non-voting common equity held by non-affiliates of the registrant was
approximately $92,722,594 based on the closing price on the NASDAQ Global Market
as of June 30, 2008.





Number of the registrant’s common stock
outstanding as of March 13, 2009: 88,076,987





DOCUMENTS
INCORPORATED BY REFERENCE





Portions of the registrant’s
definitive Proxy Statement with respect to its 2009 Annual Meeting of
Stockholders to be filed not later than 120 days after the end of the
registrant’s fiscal year are incorporated by reference into Part III hereof as
noted therein.







MERUELO
MADDUX PROPERTIES, INC.





INDEX


Item
                No.
              
              
              
              Form
      10-K
                Report
                PagePART
      I1.
              
              Business
      . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              31A.
              
              Risk
      Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              101B.
              
              Unresolved
      Staff Comments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . .
              
              
              252.
              
              Properties
      . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              263.
              
              Legal
      Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              304.
              
              Submission
      of Matters to a Vote of Security Holders . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . .
              
              
              31PART
      II5.
              
              Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              316.
              
              Selected
      Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . .
              
              
              347.
              
              Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
              
              
              377A.
              
              Quantitative
      and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . .
      . . . . . . . . . .
              
              
              608.
              
              Financial
      Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . .
      . . . .
              
              
              609.
              
              Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure
              
              
              609A.
              
              Controls
      and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . .
              
              
              609B.
              
              Other
      Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              61PART
      III10.
              
              Directors,
      Executive Officers and Corporate Governance . . . . . . . . . . . . . . .
      . . . . . . . . . . . .
              
              
              6211.
              
              Executive
      Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . .
              
              
              6212.
              
              Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters . . . . . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
              
              
              6213.
              
              Certain
      Relationships and Related Transactions, and Director Independence. . . . .
      . . . . . . .
              
              
              6214.
              
              Principal
      Accountant Fees and Services . . . . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . .
              
              
              62PART
      IV15.
              
              Exhibits
      and Financial Statement Schedules . . . . . . . . . . . . . . . . . . . .
      . . . . . . . . . . . . . . . . .
              
              
              63





Forward-Looking
Statements





This
report contains various “forward-looking statements” within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended.  We intend for such
forward-looking statements to be covered by the safe harbor provisions for
forward-looking statements contained in the Private Securities Litigation Reform
Act of 1995, and we include this statement for purposes of complying with these
safe harbor provisions.





Forward-looking
statements relate to expectations, beliefs, projections, future plans and
strategies, anticipated events or trends and similar expressions concerning
matters that are not historical facts. In some cases, you can identify
forward-looking statements by the use of forward-looking terminology such as
“believes,” “expects,” “may,” “will,” “would,” “could,” “should,” “seeks,”
“approximately,” “intends,” “plans,” “projects,” “estimates” or “anticipates” or
the negative of these words and phrases or similar words or phrases. Statements
regarding the following subjects may be impacted by a number of risks and
uncertainties:




•
            our
      ability to raise additional cash to provide the company with sufficient
      liquidity to continue as a going
concern;





•
            our
      ability to obtain new debt and equity capital and to obtain extensions of
      existing debt;





•
            our
      business and investment strategy;




•
            our
      projected results of operations;




•
            our
      proposed development and redevelopment of our projects and our uses of
      projects after such development or
  redevelopment;




•
            our
      ability to obtain land use
entitlements;




•
            our
      ability to maintain existing relationships with lenders and obtain future
      financing arrangements;




•
            our
      understanding of our competition and our ability to compete
      effectively;




•
            market
      and industry trends in the United
States;




•
            projected
      capital and operating expenditures (including projected redevelopment
      costs);




•
            state
      of the real estate industry, particularly with respect to commercial,
      residential and mixed-use projects;




•
            availability
      and creditworthiness of current and prospective
  tenants;




•
            interest
      rates; and




•
            lease
      rates and terms.




The
forward-looking statements are based on our beliefs, assumptions and
expectations of our future performance, taking into account all information
currently available to us. These beliefs, assumptions and expectations are
subject to risks and uncertainties and can change as a result of many possible
events or factors, not all of which are known to us. If a change occurs, our
business, financial condition, liquidity and results of operations may vary
materially from those expressed in our forward-looking statements. You should
carefully consider these risks before you make an investment decision with
respect to our common stock, along with the following factors that could cause
actual results to vary from our forward-looking statements:




•
            the
      factors referenced in this report, including those set forth under the
      sections captioned “Risk Factors” and “Management’s Discussion and
      Analysis of Financial Condition and Results of
  Operations”;





•
            availability,
      terms and deployment of capital;





•
            lack
      of debt or equity financing, the possible acceleration of defaulted debt
      and general volatility of the capital
markets;





•
            the
      possibility that the Company may file for bankruptcy protection, or that
      an involuntary petition for bankruptcy may be filed against the Company or
      its subsidiaries;





2


•      changes
in our business and investment strategy;




•
            availability
      of qualified personnel;




•
            perception
      of the commercial and residential subsegments of the real estate
      industry;




•
            changes
      in supply and demand dynamics within the commercial and residential
      subsegments of the real estate
industry;




•
            availability
      of purchasers of our projects;




•
            change
      in costs associated with development or redevelopment and repositioning of
      projects;




•
            changes
      in interest rates;




•
            changes
      in applicable laws and regulations (including land use entitlement
      processes);




•
            changes
      in political climates that may affect our proposed development and
      redevelopment projects;




•
            state
      of the general economy and the greater Los Angeles economy in which
      our projects are located;





•
            a
      taking of any of our rental properties or development projects by eminent
      domain; and





•
            the
      degree and nature of our
competition.




We cannot
guarantee future results, levels of activity, performance or achievements. You
should not place undue reliance on these forward-looking statements, which apply
only as of the date of this report. We do not intend and disclaim any duty or
obligation to update or revise any industry information or forward-looking
statements set forth in this report to reflect new information, future events or
otherwise.




Market
Data




Market
and industry data and forecasts used in this report have been obtained from
independent industry sources and from research reports prepared for other
purposes. Forecasts and other forward-looking information obtained from these
sources are subject to the same qualifications and uncertainties as other
forward-looking statements in this report.







PART
I





Item
1.                                Business





In
this report, unless the context suggests otherwise, references to “our company,”
“we,” “us” and “our” mean Meruelo Maddux Properties, Inc. and its
subsidiaries.





When
we refer to “urban infill,” we mean development of vacant land or redevelopment
of underused structures in built-up areas that have infrastructure and other
public services in place. When we refer to “stabilized properties,” we mean
completed development or redevelopment projects that have consistently commanded
market-rate rents and occupancies.




The
historical operations described in this report refer to the historical
operations of Meruelo Maddux Properties, Inc., entities contributed to Meruelo
Maddux Properties, Inc. and certain of their affiliates and predecessor
entities, which we refer to collectively as our predecessor business throughout
this report. We have generally described our operations in this report as if the
historical operations of our predecessor business were conducted by
us.





Overview




We are a self-managed, full-service
real estate company that develops, redevelops and owns commercial and
residential properties located in downtown Los Angeles and other densely
populated urban areas in California.  We focus on properties that have
alternate, more profitable uses achievable through major renovation,
redevelopment or development. Our projects are predominantly located in a
densely urban, multi-ethnic environment and involve numerous local entitlement,
property assemblage and physical challenges.




3


We are
committed to responsible property investing that has economic, environmental and
social benefits. Our development activities include urban infill projects that
are expected to meet the demands of urban communities and that utilize or
upgrade existing infrastructure instead of creating new infrastructure. Many of
our projects will locate businesses, customers and employees close to each other
and close to existing public transit systems.




We were
formed to succeed certain operations of the our predecessor, which was not a
legal entity but rather a combination of entities and operations whose owners
were Richard Meruelo, Maria Meruelo and John Charles Maddux and were
collectively doing business as Meruelo Maddux, an owner, developer and acquirer
of industrial, commercial and residential properties.  We were
incorporated in Delaware on July 5, 2006 in anticipation of our initial public
offering of common stock (our “IPO”), which was consummated on January 30, 2007
concurrently with the consummation of various formation
transactions.   The formation transactions and IPO were designed
to (i) allow us to acquire and continue the operations of our predecessor
business, (ii) pay down existing mortgage debt, (iii) payoff a
mezzanine loan facility from the State of California Public Employees’
Retirement System, or CalPERS, (iv) provide capital for future
acquisitions, (v) fund future development costs, and (vi) establish a
capital reserve for general corporate purposes. Prior to the formation
transactions our company (which was formed for the purposes of our IPO and is
not the predecessor) did not have any meaningful operating
activity.




We
commenced substantial operations upon completion of our IPO and sold to the
public 40,000,000 shares of our common stock at $10.00 per share. On
February 14, 2007, the underwriters of our IPO exercised their option to
purchase an additional 5,550,000 shares of our common stock at $10.00 per share.
Including the shares issued in the over-allotment option, we raised
approximately $425.7 million in proceeds in our IPO, after the underwriting
discount but before expenses related to the IPO. Our company’s operations are
predominantly carried on through, and its assets are owned through, Meruelo
Maddux Properties, L.P., which we refer to as our operating partnership. As of
December 31, 2008, we held a 99.6% interest in our operating
partnership.  The 0.4% of minority interests consists of 347,835 LTIP
units that have achieved parity with common units in our operating partnership.
We are also the sole general partner of our operating partnership.  We
are structured as a taxable corporation under Subchapter C of the Internal
Revenue Code of 1986, as amended (the “Code”).  As of December 31,
2008, the total number of shares of our common stock outstanding was
88,076,987.




As of
December 31, 2008, we own 28 rental projects and 19 projects held for real
estate development (one of which was subject to a lease with rights to purchase
and this option was terminated in the first quarter of 2009). Most of our
projects are located in or around the downtown area of Los Angeles, and all
of our projects are in Southern California.  Downtown Los Angeles
is commonly defined as an area of approximately 350 city blocks, or
approximately 2,500 acres, ringed by the U.S. Highway 101/Santa Ana Freeway on
the north, the Los Angeles River on the east, U.S. Interstate 10/Santa
Monica Freeway to the south and the State Highway 110/Pasadena Freeway to the
west. Downtown Los Angeles has attracted several billions of dollars in new
construction investment in the past nine years, according to the
Los Angeles Downtown Center Business Improvement District. With
approximately 80 acres of land in downtown Los Angeles, we believe we are
the largest non-government landowner in downtown Los Angeles. By
comparison, a 27-block area in the financial district of downtown Los Angeles,
often referred to as Bunker Hill, which contains the bulk of downtown’s class A
high-rise office buildings, major hotels and retail properties, is situated on
approximately 143 acres.




Incidental
to our ownership of one of our projects, we owned and operated a cold storage
business in an approximately 85,800 square foot facility.   We
ceased operating this business as of January 1, 2009.





Recent
Developments Related to Liquidity and Capital Resources




We are a
development company, and our primary objective is to maximize return on
investment through development and redevelopment activities, which activities
require significant amounts of capital.  We experience significant,
recurring cash shortfalls from (i) operating activities, (ii) recurring
investment activities such as carrying costs for interest payments, real estate
taxes and unfunded development expenditures and (iii) capital expenditures on
existing rental properties.  We would need to generate additional cash
of approximately $28.0 million annually to fund such shortfalls, before any
significant development and redevelopment activities other than the development
of our 717 West 9th Street project.







4


The
current economic recession and associated disruption in the debt and equity
capital markets have been extremely challenging for us.   They
have or may affect us in a number of ways, including by:




•
            making
      it very difficult for us to refinance our maturing indebtedness or to
      obtain financing to fund our planned development and
      redevelopment;




•
            making
      the terms of any available financing less attractive, resulting in lower
      loan-to-value ratios and loan-to-cost ratios, higher interest rates and
      generally less available debt capital, to the extent financing is
      available;




•
            leading
      us to suspend substantially all of our development projects other than our
      717 West 9th Street project and therefore expense previously capitalized
      carrying costs;




•
            increasing
      our projected development costs and therefore the amount of equity we are
      required to contribute to our
projects;




•
            moving
      sales and leasing revenue on our properties from earlier periods to later
      periods,  thereby delaying the reduction of associated negative
      cash flows and as a result reducing our liquidity more than
      anticipated;




•
            leading
      us to seek to sell several of our
assets;




•
            making
      it difficult for us to sell assets timely or on favorable terms because
      few buyers in the prevailing market have the financial position to
      consummate property acquisitions;




•
            leading
      us to seek to enter into joint venture agreements with respect to certain
      of our more capital intensive
projects;




•
            leading
      us to seek potentially dilutive debt or equity-linked capital or to issue
      additional equity at unattractive prices or in exchange for outstanding
      debt at dilutive exchange rates;




•
            leading
      us to refocus certain previously anticipated longer-term development
      projects to produce more near-term income through leasing the project and
      thereby reducing capital outflows through the redevelopment process and
      increasing near-term cash flow; and




•
            leading
      us to reduce our employee base.






We began
2009 with $4.5 million in unrestricted cash.  We require approximately
$1.8 million in cash monthly to satisfy principal and interest payments on 26
out of 30 of our loans that total $266.0 million.  This unrestricted
cash balance would cover approximately 2.5 months of these payments absent any
funds generated from asset sales. Though we have several properties currently in
escrow to be sold, we have not closed on any as of yet.




Consequently,
we have stopped making interest and principal payments on 26 of our 30 loans
totaling $266.0 million.  We continue to make interest payments on our
construction loan at 717 W. Ninth Street and on other three other loans that
have interest reserves.  As of March 13, 2009, we owe approximately
$2.8 million in accrued interest and another $0.8 million in principal
repayments and reserve funds.  On December 15, 2008, we did not make a
$4.0 million principal repayment on a $17.0 million land loan. The lender
subsequently agreed to defer the principal repayment.  On March 15,
2009, we will owe another $5.0 million in principal on this land
loan.  Additionally, we have not been able to extend or refinance
three other loans totaling $86.9 million that matured on February 28, 2009 and
March 1, 2009.




We are
currently seeking loan workout agreements with four depository lenders on loans
that total $177.8 million.  We are unsure as to what results will be
derived from such efforts, but we expect that we will continue to negotiate with
these four lenders.  We are also examining all
feasible strategic alternatives.  Potential strategic alternatives
include a voluntary bankruptcy filing under Chapter 11 of the U.S.
Bankruptcy code.




Please refer to “Management’s
Discussion and Analysis of Financial Condition and Results of Operations,” Part
II, Item 7 of this report below.





Post-IPO
Highlights





Since becoming a public company on
January 30, 2007, we have completed the following major activities:





Financing
Transactions





·
            We
      repaid all principal and interest outstanding under the revolving credit
      facility that was provided to our predecessor by
  CalPERS.





·
            We
      retired mortgage debt instruments secured by certain of the projects we
      acquired in our formation
transactions.





·
            We
      obtained a construction loan for $84.0 million for our 717 W 9th
      Street project.





·
            We
      extended the maturity dates of numerous loans throughout
    2008.





5


Acquisition
and Development Activities





·
            We
      completed construction on the residential portion of the Union Lofts
      project and began leasing the property in March 2008.  We are
      currently 50.0% leased as of March 10,
2009.





·
            We
      continued to make progress on the development of the 717 W 9th
      Street project.  The 214 unit luxury apartment tower has been
      topped out and the glass curtain wall has been completed.  The
      project is on schedule to be completed by the end of September 2009 and
      pre-leasing activities are anticipated to commence in the summer of
      2009.




·
            We
      successfully completed the following acquisitions or conversions of
      development projects to rental
projects:





Projects
              Acquisition
      or
                  Conversion
      Date
              
              Net
      Rentable Square
                  FootageWashington
      Produce Market (2640 Washington Blvd.)
              March
      7, 2007
              
              
              31,876230
      W. Avenue 26th
              April
      1, 2007
              
              
              67,6712000
      San Fernando Road
              April
      2, 2007
              
              
              119,381420
      Boyd Street
              June
      27, 2007
              
              
              47,8064th
      Street Center
              September
      30, 2007
              
              
              14,472Union
      Lofts
              July
      1, 2008
              
              
              81,609Barstow
      Produce Center
              July
      1, 2008
              
              
              261,750Santa
      Fe Plaza
              September
      1, 2008
              
              
              16,000Overland
      Terminal
              September
      3, 2008
              
              
              309,340Total
              
              
              
              949,905







·
            We
      successfully completed, acquired or placed in service the following
      parcels attached to current rental
projects:




Projects
                Date
      of Addition
                
                Square
                  FootageCrown
      Commerce Center
                January
      26, 2007
                
                
                18,500905
      E 8th
      Street
                March
      23, 2007
                
                
                3,597Center
      Village
                March
      27, 2007
                
                
                66,135620
      Gladys Avenue
                April
      13, 2007
                
                
                49,959Total
                
                
                
                138,191







Disposition
Activities





·
            We
      successfully completed the sales of the following projects ($ in
      thousands):




Projects
                Date
      of Sale
                
                Sales Price(1)Rental Projects2000
      San Fernando Road (2)
                August
      15, 2008
                
                $
                35,0001800
      E Washington Blvd
                September12,
      2008
                
                
                14,200Overland
      Terminal
                November
      14, 2008
                
                
                19,702Total
      Rental Projects
                
                
                $
                68,902Development Projects9901
      Alameda
                March
      31, 2008
                
                $
                31,200801
      E  7th
      Street
                November
      21, 2008
                
                
                9,500816
      Stanford (3)
                November
      7, 2008
                
                
                1,000Total
      Development Projects
                
                
                $
                41,700Total
      Projects Sold
                
                
                $
                110,602


(1)
            We
      recognized $14.2 million (net of income taxes) in gains upon the sales of
      these projects.  In addition, no impairment was ever recognized
      on any of these projects.


(2)
            We
      originally sold this project during the quarter ended June 30, 2008 for
      $28.7 million.  We retained an option to resell this project to
      another buyer which we did during the third quarter 2008 and as a result,
      we received an additional $5.0 million in net
  proceeds.


(3)
            Represents
      a separate building that is part of the 905 E 8th
      Street project.





6


History
of our Company and our Management Team




Through
our predecessor business, we have been investing in urban real estate since
1972, when Cuban immigrants Homero and Belinda Meruelo purchased their first
commercial building in downtown Los Angeles. Our current management team is
led by our co-founders Richard Meruelo, who serves as our Chief Executive
Officer and Chairman of our Board of Directors and who is the son of Homero and
Belinda Meruelo, and John Charles Maddux, who serves as our President and Chief
Operating Officer and a member of our Board of Directors. Mr. Meruelo and Mr.
Maddux both have more than 20 years of experience in identifying, acquiring,
entitling, financing, developing and redeveloping urban real estate. They have
worked together since 1987.




Our
Strategies




Our
business is focused on real estate development and redevelopment. The
substantial majority of our properties are not stabilized. Our strategy has
three primary components: investment, value creation and
operations.





Our
Investment Strategy




We invest
in sub-markets that are undergoing demographic, structural or economic changes,
where a significant portion of the properties and participants are historically
of a non-institutional nature, where the buildings are predominantly obsolete or
no longer relevant to the submarket’s changing profile, where we have
established strong working relationships with the city planners, community
redevelopment agencies and local political organizations and where the existing
transportation networks, particularly public transportation systems, are
nearby.




Our
Value Creation Strategies




Focus on the
Property Needs of Specific Industries and Premium Space Users.We seek to achieve rent
premiums by meeting the property needs of “premium space users” such as food
processing and food distribution companies, whose critical business functions
depend on the location, zoning, tenant improvements or utilities of the leased
space and whose needs frequently coincide with urban environments. The ability
to provide premium space users with facilities and services that maximize their
operating profits may allow a landlord to minimize leasing risk and charge rents
that, net of costs incurred to provide such facilities and services, exceed
rents that could be obtained from tenants that are relatively indifferent to
location or amenities. We will continue to identify premium space users in our
markets and work to understand and fulfill their evolving
requirements.




Focus on
Sub-Markets that are Transitioning from Large to Small Tenants. We
acquire, modernize and subdivide large, older single-tenant industrial and
mixed-use buildings. In many urban markets, large manufacturers and distributors
have relocated their businesses, often vacating such buildings for overseas or
suburban locations. Taking their place are small emerging businesses and
established companies that are de-centralizing their operations. We seek to
transform large, single-tenant buildings into workplaces for many small tenants
by re-using a large portion of the existing facility and creatively subdividing
the space at a relatively low cost. This approach should allow us to offer
competitively-priced space (as compared to rental rates for new buildings) in
convenient urban locations.




Aggregate Small,
Synergistic Tenants. In urban areas, the non-office tenant base includes
many small businesses. Grouping similar businesses together creates a
marketplace that offers convenience to product buyers and a steadier stream of
prospective customers to the businesses. These advantages may increase tenants’
business profits and stability and may justify a rental premium compared to
stand-alone locations. We seek sub-markets where there is an active, but
unorganized, critical mass of similar businesses that could benefit from
aggregation. We believe this strategy should allow us to generate higher rental
income from our small tenants.




Focus on
Residential Development in Appropriate Locations. We intend to develop
downtown residential projects on sites we own near transportation infrastructure
and demand generators such as office buildings, retail stores, restaurants, and
cultural and sports venues.  In the long run, we believe demand for
residential units in downtown Los Angeles will also grow. we believe that
our residential projects will offer desirable housing and provide us with
attractive returns on invested capital.




Coordinate
Residential and Industrial Development in Shifting Urban Markets. We
believe that much of the downtown Los Angeles industrial space is aging or
obsolete and not properly serving its industrial users. We seek properties
within historically industrial districts that are located in emerging housing
sub-markets. As active developers and operators of industrial/distribution
space, we believe we have greater ability to acquire such opportunities quickly
and at lower industrial/distribution pricing than residential-only developers.
We also seek the purchase of industrial/distribution properties in areas near
downtown but not in emerging residential markets. We see opportunities to better
serve industrial users we displace through residential redevelopment by
providing them with more suitable space in commercial projects of ours in such
near downtown areas. We believe coordinating residential and industrial
development in this manner facilitates our land assemblage.




7


Pursue
Opportunities Offered by Governmental Organizations. In the State of
California, the state government, regional agencies and local community
redevelopment agencies created under the California Community Redevelopment Law
control a large amount of surplus property in urban areas and have substantial
land use discretion. These organizations often must dispose of their surplus
property in a manner that encourages socially responsible development. We
believe that such organizations present some of the more compelling
opportunities in California urban areas because of the size or location of the
parcels they control or because the acquisition terms for such parcels may be
more favorable than typical private seller terms. We believe our management’s
advocacy of socially-minded solutions for urban real estate problems gives us a
competitive advantage to be selected by these government organizations, thereby
creating opportunities to acquire properties at attractive values.





Aggregate
Separate Parcels and Acquire Controlling Locations in Developing
Neighborhoods.In our markets, large,
contiguous development properties are infrequently for sale and, when available,
sell for prices that often reflect their potential value. We seek to acquire
smaller, separate real estate parcels over time with a view toward aggregating
those smaller parcels into one property that can accommodate a larger-scale
development project. To acquire the individual parcels and reduce our holding
costs, we sometimes purchase an option contract or sign a long-term purchase
agreement that gives us the right to acquire the land at a specific price on or
before a specified future date. We may also acquire a strategically sized or
configured parcel in a city block that would be instrumental in any material
redevelopment of the block, thereby deterring any substantial competing
development and creating an incentive for owners of adjacent parcels to
sell.





Our
Operating Strategies




Efficiently
Manage the Development and Operation of Our Projects. We employ a mixture
of project development management and asset management strategies. First, we
keep direct control over critical development functions in which we believe we
have valuable expertise and that require significant local knowledge, such as
identification and acquisition of projects and land use entitlement. Second,
because of the widely varying nature of our projects, we generally retain expert
third-party general contractors to manage the construction of our projects, and
we employ in-house project managers to supervise the construction management
process closely. Third, once a project is complete, we directly manage its
operation and leasing activities, or we retain third-party sales companies in
the case of for-sale projects. We will engage third-party leasing agents when
they have superior tenant relationships or knowledge of the sub-markets in which
our projects are located.




Seek Interim
Revenues from Properties. The public approval process for certain
projects may last two years or longer. During the assemblage or approval
process, we take steps to permit us to generate interim revenues and allow us to
terminate leases promptly or relocate tenants when we obtain the final
assemblage piece or approvals. We accomplish this by converting long-term leases
to month-to-month leases and seeking additional interim income from additional
sources, such as surface parking or by temporarily licensing space to
entertainment companies for on-location filming. In addition, because we have a
roster of month-to-month tenants who have shown a willingness to relocate at our
discretion, we have the flexibility to generate interim revenues by relocating
tenants from a property commencing redevelopment construction to another
property that is not currently being redeveloped.




Sell or
Recapitalize our Projects to Realize Value. We expect to dispose of or
recapitalize many of our projects from time to time once they reach what we
believe to be their maximum near-term value and redeploy some or all of our
equity and profits into other real estate investments that we believe have a
greater long-term potential for economic appreciation. We believe that we will
maximize our risk-adjusted returns with a policy of selling some of our projects
to realize capital appreciation and reinvesting the net proceeds in new
redevelopment projects, rather than redeveloping and retaining these projects to
realize increased rents over a long period.




Our
Underwriting Process




In
considering whether to acquire an available property, we first examine the
property’s current use and market value based on historical income from
operations, revenue and expense trends and likely future profitability based on
its current use. We then undertake an extensive due diligence review and analyze
current demand generators and the property’s competitive position. As
applicable, we review the property’s current tenants and leases.




8


Because
we are foremost a redeveloper and focus on creating value through converting
real estate to different uses, we critically examine possible uses of each
potential property. In addition to the net financial value of a new property
use, our financial models of these potential properties consider projected
returns to stockholders that reflect risk discounts and timelines that take into
account the factors described below. Key factors in our investment decision
include compatibility of the property’s future use with the general plan, zoning
and planning laws, regulations and policies of the municipality, including
current zoning; an estimate of our ability and the time needed to obtain
necessary entitlement; local political support or opposition to the proposed
use; whether we own or control adjacent parcels; whether we have the ability to
relocate current tenants to other projects in our portfolio; the profile and
availability of anticipated future tenants or purchasers; trends in the
property’s neighborhood, including ongoing or proposed redevelopment projects
and expected shifts in demographics and demand generators; and the availability
of debt financing for the project upon acceptable terms.




As we
evaluate potential residential developments, we underwrite such property on a
for-rent and on a for-sale basis. We decide to sell or rent the units in a
residential development based on market factors at the time and based on which
strategy will maximize the return to the company.





Competition




We
compete with other public and private real estate companies (including real
estate investment trusts, or REITs), public and private investment firms,
private real estate investors and lenders in acquiring and developing
properties. Many of these entities have greater resources than us or other
competitive advantages. We also face significant competition in leasing or
subleasing available properties to prospective tenants and in re-leasing space
to existing tenants.




Principal
factors of competition in our primary business of owning, acquiring, developing,
redeveloping and leasing properties are the quality and nature of properties,
leasing terms (including rent and other charges and allowances for tenant
improvements), attractiveness and convenience of location, the quality and
breadth of tenant services provided, and reputation of an owner and operator of
quality properties in the relevant market. Each of our projects is subject to
significant competition from other properties in the same general area.
Additionally, our ability to compete depends upon, among other factors,
availability and cost of capital, trends of the national and local economies,
investment alternatives, the financial condition and operating results of
current and prospective tenants, construction and renovation costs, taxes,
governmental regulations, legislation and population trends.




Insurance




Our
projects are covered by comprehensive liability, casualty and rental loss
insurance. We believe that the policy specifications and insured limits are
appropriate given the relative risk of loss, the cost of the coverage and
industry practice, and that our projects will be covered adequately by
insurance. Because it is expensive and not customary in the market, we do not
have earthquake or terrorism coverage for our projects. However, future lenders
may require that we obtain insurance to cover losses caused by terrorism and
earthquakes.




Employees




We
employed 101 full-time employees as of March 13, 2009. We believe that our
relations with our employees are good.  We recently terminated the
employment of several employees as a result of the current economic
environment.  We may elect to further reduce the number of our
employees.





Additional
Information





We have made available copies of the
charters of the committees of our Board of Directors, our code of ethics and
conduct, our corporate governance guidelines, our whistleblower policy and any
materials we file with the SEC on our website at www.meruelomaddux.com.  Copies
of these documents are available in print to any stockholder who requests
them.  Requests should be sent to Meruelo Maddux Properties, Inc., 761
Terminal Street, Building 1, Second Floor, Los Angeles, California,
Attention:  Corporate Secretary.  All filings we make with
the SEC are also available on our website.





All reports filed with the Securities
and Exchange Commission may also be read and copied at the SEC’s public
reference room at 100 F Street, N.E., Washington, D.C. 20549.  Further
information regarding the operation of the public reference room may be obtained
by calling 1-800-SEC-0330.  In addition, all of our filed reports can
be obtained at the SEC’s website at www.sec.gov.





9




Item
1A.                      Risk
Factors




Investment in our common stock
involves significant risks. If any of the risks discussed in this report occur,
our business, financial condition, liquidity and results of operations could be
materially and adversely affected. The risk factors set forth below are not the
only risks that may affect us. Additional risks and uncertainties not presently
known to us, or not identified below, may also materially affect our business,
financial condition, liquidity and results of operations. Some statements in
this report, including statements in the following risk factors, constitute
forward-looking statements. Please refer to the section entitled
“Forward-Looking Statements.”






Our
Current Operations, Debt Obligations and Development Plans




Our
independent auditors have expressed substantial doubt about our ability to
continue as a going concern, which may hinder our ability to obtain future
financing.




In their report dated March 13, 2009,
our independent auditors stated that our financial statements for the year ended
December 31, 2008 were prepared assuming that we would continue as a going
concern.  But they further stated that there is substantial doubt
about our ability to continue as a going concern because of recurring losses
from operations and a working capital deficiency.  In addition, it was
noted that the Company has not complied with certain covenants of loan
agreements with banks and expects that future debt violations will occur at
various dates in 2009 which will require waivers to be obtained from the lenders
in order for the debt not to be considered in default. We continue to experience
net operating losses and incur carrying costs on our development projects. Our
ability to continue as a going concern is subject to our ability to generate
positive cash flows from operations, reduce our carrying costs, cure loan
defaults, obtain necessary funding from outside sources including that generated
through extensions of existing loans and generate net cash proceeds from the
sale of non-core properties. There can be no assurances that such methods will
prove successful.





We may file for
bankruptcy protection, or an involuntary petition for bankruptcy may be filed
against us.





We have approximately $328.2 million in
indebtedness, of which $172.5 million matures in 2009.  We may not be
able to refinance or extend the maturities of our indebtedness as it
matures.  In addition, we have ceased making required payments and are
in default under approximately $266.0 million of our indebtedness.  If
we are unable to refinance or extend our indebtedness, or if such indebtedness
is accelerated due to our default, we will have insufficient liquidity to repay
such indebtedness, and our available cash flow will be inadequate to maintain
our operations. Under such circumstances, or if we believe such circumstances
are likely to occur, we may pursue various forms of negotiated restructurings of
our indebtedness, which may involve a recapitalization of our company and which
may be required to occur under court supervision pursuant to a voluntary
bankruptcy filing under Chapter 11 of the U.S. Bankruptcy Code. In
addition, under certain circumstances our creditors may file an involuntary
petition for relief under the Bankruptcy Code against us. Due to the possibility
of such circumstances, we have begun active planning for such potential
restructurings.





If we file for
bankruptcy protection, our business and operations will be subject to certain
risks





A bankruptcy filing by or against us,
our operating partnership and certain of our subsidiaries (each referred to as a
“filer”) would subject our business and operations to various risks, including
but not limited to, the following:





·
              A
      bankruptcy filing by or against a filer may adversely affect our business
      prospects and our ability to operate during the reorganization
      process.





·
              The
      coordination of a bankruptcy filing and operating under protection of the
      bankruptcy court would involve significant costs, including expenses of
      legal counsel and other professional
advisors.





·
              We
      may have difficulty continuing to obtain and maintain contracts necessary
      to continue our operations and at affordable rates with competitive
      terms.





·
              We
      may have difficulty maintaining existing and building new tenant
      relationships or pursuing our planned development
  projects.





·
              Transactions
      by filers outside the ordinary course of business would be subject to the
      prior approval of the court, which may limit our ability to respond timely
      to certain events or take advantage of certain
    opportunities.





·
              Filers
      may not be able to obtain court approval or such approval may be delayed
      with respect to motions made in the reorganization
  cases.


10


·
              We
      may be unable to retain and motivate key executives and associates through
      the process of reorganization, and we may have difficulty attracting new
      employees.





·
              We
      may be unable to maintain or obtain sufficient financing sources for
      operations or to fund any reorganization plan and meet future
      obligations.





·
              We
      may be unable to develop, prosecute, confirm and consummate one or more
      plans of reorganization that are acceptable to the bankruptcy court and
      our creditors, equity holders and other parties in
    interest.





·
              The
      value of our common stock could be reduced to zero as result of a
      bankruptcy filing.







We
may be in default under certain of our financing agreements as we have failed to
make required principal and interest payments.  Our lenders may
foreclose on the properties securing the loans, accelerate our loans or take
other adverse actions which would have a material adverse affect on our ability
to continue our business operations.




We have
not been able to extend or refinance three loans totaling $86.9 million that
recently matured.  As of March 13, 2009, we have not made the required
regular interest and principal payments of $3.6 million on 26 out of 30 of our
debt instruments totaling $266.0 million.  Accordingly, we may be in
default under these loans.  Some of these lenders may choose to
accelerate these loans and require us to either pay the outstanding loan amount,
including all accrued but unpaid fees and interest, or foreclose on the
properties securing the loans; provided that, regardless of any acceleration, we
may have a right under California law to reinstate these loans by paying past
due amounts and other fees and costs required by law or the respective loan
documents.If we
are not successful in negotiating with these lenders to prevent the foreclosure
of certain of our properties or the acceleration of certain of our indebtedness,
we may be forced to sell some of our properties on unfavorable terms to satisfy
our debt obligations.  If we are forced to repay debt earlier than we
expected or if our properties are foreclosed upon to satisfy certain outstanding
debt obligations, our ability to execute our development, acquisition and other
business plans and our ability to meet our current liquidity needs, and
therefore operate as a going concern, would be materially adversely
affected.


In addition, we may be in technical default under certain of our mortgages as a
result of corporate restructuring activities that occurred at the time of our
IPO. A significant number of the financing agreements we have entered into in
connection with the acquisition of our properties contain provisions prohibiting
a change of control of the borrower subsidiary and permitting the lenders under
such agreements to accelerate payment of the related debt in the event the
change of control provisions are triggered.  A number of these
provisions relating to aggregate indebtedness of $32.2 million were technically
triggered in connection with our formation transactions at the time of our IPO
due to the transfer of ownership of the borrower subsidiaries to the operating
partnership.  Of the $32.2 million of indebtedness, $12.5 million is
maturing in 2009 and is included in the total of $172.5 million of debt due in
2009, which we will need to repay or refinance.  Such lenders were
notified of our formation transaction and they have since accepted debt service
payments.  However, no assurances can be given that one or more of the
lenders under the affected financing agreements will not elect to accelerate
payment of the related indebtedness on the basis of the formation transaction,
particularly with respect to those loans that may also be accelerated on the
basis of default in repayment.  If we are forced to repay debt earlier
than we expected or if our properties are foreclosed upon to satisfy certain
outstanding debt obligations, our ability to execute our development,
acquisition and other business plans and our ability to meet our current
liquidity needs, and therefore operate as a going concern, would be materially
adversely affected.




We
currently generate insufficient revenue from operations to pay our contractual
obligations, and we will require significant amounts of cash to stabilize our
portfolio, build out our development projects and satisfy our contractual
obligations.




We are a development
company and must generate cash of approximately $28.0 million annually to fund
our cash shortfalls from (i) operating activities, (ii) recurring investment
activities such as carrying costs for interest payments, real estate taxes and
other unfunded development expenditures and (iii) capital expenditures on
existing rental properties.




Assuming no development of
any of our projects other than the project identified below, our cash
requirements for 2008 include but are not limited to: approximately $38.7
million to fund the ongoing construction and no acceleration of loans under
which we are in default of our 717 W. Ninth Street project, approximately $172.5
million to satisfy borrowings maturing in 2009, and approximately $3.5 million
of planned but uncommitted capital improvements to our operating
properties.




11




In addition, certain of our lenders
may have the ability to accelerate indebtedness of ours totaling $32.2 million,
$12.5 million of which is due in 2009 and is included in the $172.5 million of
principal identified above.




As a result of the foregoing needs
and our combined annual negative cash flow from operating activities and capital
and development expenditures, we will require substantial amounts of new capital
to meet our contractual obligations in 2009, before any discretionary
development.  Our primary expected sources of new capital are from the
extension of existing loan maturities and the sale of non-core
properties.  However, as noted in greater detail in the risk factor
below, current market conditions have made it more difficult for us to extend
loans or source new debt financings.  As previously mentioned, we are
currently in default on the majority of our outstanding
indebtedness.




Because of the equity and debt
capital market crisis and our liquidity needs, our previously disclosed
development and redevelopment plans and timelines have been adversely
impacted.  This impact will likely delay the point in time at which we
could achieve profitability from operations.  We have ceased all
significant development activities other than the development of our 717 W.
Ninth Street project and will continue to evaluate and adjust as appropriate our
development and redevelopment plans and timelines (both commencement and
completion dates) to correlate with adjustments in the availability of equity
and debt capital and other current and changing market conditions.  In
addition, we are pursuing or considering actions that would generate cash sooner
or delay or reduce our liquidity needs. These actions include selling certain of
our rental properties and development projects, including foregoing portions of
the approximately $3.5 million in uncommitted capital expenditures identified
above, refocusing projects to produce more near-term income that require less
capital, and entering into joint ventures in respect of our larger or more
capital intensive development projects.




These actions may reduce the
potential long-term cash flow or value we otherwise could have recognized from
our projects if we were able to execute on our development plans in place before
the credit market crisis.




We cannot assure you that we will be
able to obtain loan maturity extensions or additional financing or that we will
be able to obtain such on favorable terms or that we will be successful in
taking any of the actions that we are considering to generate cash alternatives
to borrowings or delay or reduce our liquidity needs.  If we are
unsuccessful in obtaining the capital we require on a timely basis, our business
will be significantly harmed and our ability to operate as a going concern may
be adversely affected.




Mortgage
debt obligations expose us to increased risk of property losses, and a
significant portion of our mortgage debt is recourse to us.




Incurring
mortgage and other secured debt obligations increase our risk of property losses
because defaults on indebtedness secured by properties may result in foreclosure
actions initiated by lenders and ultimately our loss of the property securing
any loans for which we are in default. As previously mentioned, we are currently
in default on the majority of our outstanding indebtedness. For tax purposes
generally, a foreclosure of any of our properties would be treated as a sale of
the property for a purchase price equal to the outstanding balance of the debt
secured by the mortgage. If the outstanding balance of the debt secured by the
mortgage exceeds our tax basis in the property, we would recognize taxable
income on foreclosure, but would not receive any cash proceeds.




In
addition, substantially all of our mortgage indebtedness is subject to
guarantees provided by us and other affiliated individuals.  As a
result, in the event we default on a note payable secured by our real estate
where we are a guarantor, we may remain liable to the lender for any difference
between the amounts of the indebtedness we owe the lender and the amount of the
successful bid at foreclosure, even if we lose our property collateral in a
foreclosure action by the lender.




Required
payments of principal and interest on borrowings may leave us with insufficient
cash to operate or develop our projects and may expose us to the risk of default
under our debt obligations.




We have borrowed and will be required
to continue to borrow significant amounts in order to continue to operate and in
connection with the development and redevelopment of our projects and any future
acquisitions of properties.  We may in the future be required to enter
into joint venture agreements, sell certain assets, access the capital markets,
or undertake a combination of the foregoing to finance our
operations.




12




Our present and future level of debt
and the limitations imposed on us by our present and future debt agreements,
including concessions that our lenders may extract from us in connection with
any refinancing or extension, could have significant adverse consequences,
including the following:




•
            we
      may be required to use a substantial portion of our cash flow from
      operations to pay principal and interest, which reduces the amount
      available for development;




•
            we
      may be at a competitive disadvantage compared to our competitors that have
      less debt;




•
            our
      cash flow may be insufficient to meet our required principal and interest
      payments;




•
            we
      may be unable to borrow additional funds as needed or on favorable
      terms;




•
            we
      may be unable to refinance our indebtedness at maturity, or upon
      acceleration upon an event of default, or may find that the refinancing
      terms may be less favorable than the terms of our original
      indebtedness;




•
            because
      a portion of our debt may bear interest at variable rates, an increase in
      interest rates could materially increase our interest
    expense;




•
            we
      may be forced to dispose of one or more of our projects, possibly on
      disadvantageous terms;




•
            we
      may experience increased vulnerability to economic and industry downturns,
      reducing our ability to respond to changing business and economic
      conditions;




•
            we
      may be restricted in our business activities and
    operations;




•
            we
      may violate restrictive covenants in our loan documents or otherwise
      default on our obligations, which would entitle the lenders or mortgagees
      to accelerate our debt obligations, collect additional fees and interest
      and foreclose on our projects that secure their loans and receive an
      assignment of lease payments; and




•
            our
      default under any mortgage loan or other debt with cross-default or
      cross-collateralization provisions, if we enter into such arrangements,
      could result in default on other indebtedness or result in the
      foreclosures of other projects we
own.




If the economic performance of any of
our projects declines or we fail to develop and stabilize our projects as
planned, our ability to service our debt could be adversely
affected.




The
global financial crisis, and other events or circumstances beyond the control of
the Company, may adversely affect our industry, business, results of operations,
contractual commitments, and access to capital.




What began initially as a “subprime”
mortgage crisis has turned into an extraordinary United States and worldwide
structural economic and financial crisis coupled with the rapid decline of the
consumer economy. Recently, significant concerns over energy costs, geopolitical
issues, the availability and cost of credit, the United States mortgage market
and a declining real estate market in the United States have contributed to
increased volatility and diminished expectations for the economy and the markets
going forward.  These factors, combined with volatile oil prices, declining
business and consumer confidence and increased unemployment, have precipitated a
steep economic decline and fears of a deep and prolonged recession. 
Further, severe financial and structural strains on the banking and financial
systems have led to significant lack of trust and confidence in the global
credit and financial system.  Consumers and money managers have liquidated
equity investments and consumers and banks have held cash and other lower risk
investments, resulting in significant and, in some cases, catastrophic declines
in the equity capitalization of companies and unusual failures of financial
institutions.  Additionally, financial systems throughout the world are
undergoing severe structural changes with banks much less willing to lend
substantial amounts to other banks and borrowers.  This extraordinary level
of illiquidity has caused a significant decline in available credit from
financial institutions and other lenders and the unprecedented declines in the
market values of United States and foreign stock exchanges has led to
significantly higher cost of debt and equity capital.


The
United States and foreign governments have taken extraordinary actions in an
attempt to deal with the worldwide financial crisis and the severe decline in
the consumer driven economy.  These extraordinary actions, including the
merger of large financial institutions and significant investment in and
control by government bodies, has so far resulted in limited or no relief to the
credit markets, and there is no assurance that their actions will ultimately be
successful.  The resulting and ongoing lack of available credit, lack of
lending between financial institutions and other key lending sources (such as
life insurance companies and pension funds), lack of lending to borrowers
and further failures and consolidation of
financial institutions could materially and adversely affect our
tenants, key vendors and contractors, our ability to execute our development,
acquisition and other business plans and our ability to meet our current
liquidity needs, and therefore operate as a going concern.




13


Our
organizational documents contain no limitations on the amount of indebtedness we
may incur.




Our certificate of incorporation and
bylaws do not limit the amount of indebtedness that we or our operating
partnership may incur. In addition, we do not have a policy limiting the amount
of debt that we may incur.  Our management
and Board of Directors have discretion to increase the amount of our outstanding
debt at any time without approval by our stockholders. If we incur additional
indebtedness, we may experience increased difficulty in obtaining additional
financing based on our current portfolio, refinancing existing debt on favorable
terms or at all or repaying our outstanding indebtedness.  The terms
of any credit facility we may obtain in the future, or the terms of any
indebtedness we are able to refinance or extend, may require us to maintain
certain leverage ratios that may limit the amount of indebtedness that we may
incur or may contain covenants that limit our business and operational
flexibility. Failure to obtain additional financing could impede our ability to
grow and develop our business.




Almost
all of our projects are in the greater metropolitan Los Angeles area and
depend upon the Southern California economy, which exposes us to more
concentrated risk, including recession and other economic risks, than if our
projects were in several geographic regions.




Almost all of our projects are
located in the greater metropolitan Los Angeles area, and a substantial
majority of them are in downtown Los Angeles or nearby areas, which exposes
us to more concentrated economic risks than if we owned projects in several
geographic regions. Therefore, economic and other events that adversely affect
this narrow geographic region will have a direct negative effect on our business
and operations. We are susceptible to adverse developments in the Southern
California region, such as adverse developments in the local industrial,
commercial and residential real estate market, including market declines in real
estate values and oversupply of or reduced demand for such space.  We
are also susceptible to business layoffs or downsizing, industry slowdowns,
relocations of businesses, changing demographics, increased telecommuting,
terrorist attacks, earthquakes and other natural disasters, infrastructure
quality issues, California state budgetary constraints and priorities, increases
in real estate and other taxes, costs of complying with government regulations
or increased regulation and other factors. The California economy, in comparison
to other parts of the country, is negatively affected to a greater extent by
changes and downturns in certain industries, including the entertainment,
manufacturing, high technology and defense industries and in Pacific Rim trading
activities. Any adverse developments in the economy or real estate market in
Los Angeles or Southern California in general would adversely affect us. We
cannot assure you of the continued growth of the Southern California economy or
the national economy or our future growth rate.




Changing
market conditions, especially in the greater metropolitan Los Angeles area
may adversely impact our ability to sell or rent residential units at expected
prices or rents, or at all.




There will be a significant amount of
time before we can develop our residential projects and offer units available
for sale or rent. The market rental value of a unit in a proposed residential
project can vary significantly during this time due to changing market
conditions. Prices of residential units and sales and rental activities in the
Los Angeles market will have a large impact on our profitability because we
conduct substantially all of our business in this market. These prices or rents
could decline from time to time for market-specific reasons, including adverse
economic conditions due to, among other things, the failure or decline of key
industries and employers affecting the local, regional or national economies. If
market conditions were to deteriorate, we may need to sell or rent residential
units at lower prices or rates than we anticipate, or attempt to convert any
for-sale units to for-rent units, and may not be able to develop or complete
projects as proposed. We may also need to take write-downs of our unit
inventories and land holdings if market values decline. The Los Angeles
market continues to exhibit signs of decreasing consumer demand, and sales of
new and existing homes have declined. If the prices of residential units or
sales or rental activity decline in the key market in which we operate, our
costs may not decline at all or at the same rate and, as a result, our business,
results of operations and financial condition would be adversely
affected




New
developments, redevelopments and acquisitions may fail to perform as we
expect.




We focus our business on the
acquisition and redevelopment of commercial and residential projects. In
deciding whether to acquire, develop or redevelop a particular property, we make
assumptions regarding the expected future performance of that property. In
particular, we estimate the return on our investment based on expected sale or
resale value, or occupancy and rental rates, as applicable. If the property is
unable to achieve the expected resale price, or occupancy and rental rates, as
applicable, depending on our investment strategy for a particular property, it
may fail to perform as we expected in analyzing our investment. When we acquire
a property, we often reposition or redevelop that property with the goal of
increasing profitability. Our estimate of the costs of repositioning or
redeveloping an acquired property may prove inaccurate. Additionally, we may
acquire unimproved land properties not leased or not fully leased, and any cash
flow from existing operations may be insufficient to pay the operating expenses
and debt service associated with that property until the property is improved or
more fully leased.




14




The
development and redevelopment of projects are highly speculative activities, and
our success depends on our ability to redevelop a majority of our portfolio and
develop many new projects, which may make investing in our stock riskier than
investing in the stock of real estate companies that own stabilized properties
occupied by tenants with long-term leases.




As a primary part of our business, we
develop new projects and redevelop existing projects. We plan to develop or
redevelop a substantial majority of our portfolio. Many of our projects are
several years away from commencing. All of our projects are subject to national,
regional and local economic changes, and localized demographic and population
shifts, each of which could affect the demand for the specific types of real
estate improvements we anticipate building. In addition, the financial success
of each project depends on our ability to plan and execute the project and, in
many cases, on our success in securing adequate capital to fund the development
or redevelopment.




Before a project can generate any
revenues, material expenditures must be incurred to acquire land, obtain
governmental approvals and construct significant portions of project
infrastructure and sales facilities. It generally may require several years for
a development or redevelopment project, particularly a high-rise residential
project, to achieve cumulative positive cash flow. If we are unable to develop
and market our projects successfully and to generate positive cash flows from
these operations in a timely manner, it will have a material adverse effect on
us.




More specifically, in connection with
the development of new projects and the redevelopment of existing projects, we
will be subject to risks such as:




•
            deteriorating
      credit markets, which challenge our ability to obtain financing for our
      projects on favorable terms, or at
all;




•
            cyclical
      overbuilding;




•
            cost
      overruns, including increases in the cost of materials because of
      increased global demand (particularly in the price of steel, lumber,
      drywall, copper and concrete, which are significant components of
      construction costs);




•
            difficulties
      in obtaining or failures to obtain land use entitlements, occupancy and
      other government permits and
authorizations;




• delays because of a number of factors, including unforeseen
circumstances;




•
            changes
      in political views toward the proposed development, redevelopment or
      use;




•
            governmental
      restrictions on the nature or size of a
project;




•
            strikes,
      labor disputes or supply
disruptions;




•
            condemnation
      and taking of any of our projects by the government under eminent
      domain;




•
            shortages
      of qualified trade workers and building
  materials;




•
            development
      costs for projects not pursued to
completion;




•
            earthquakes,
      floods, mudslides, fires, bad weather and other acts of
    God;




•
            design
      and construction defects and unforeseen or underestimated environmental
      and engineering problems;




•
            contractor
      and subcontractor disputes and mechanics’ liens;
  and




•
            lack
      of income until leasing or sale.




Any or all of these risks could have
an adverse affect on our business, operations, cash flow and ability to increase
values for our stockholders. Real estate companies that own stabilized, fully
developed properties are substantially less affected by many of the specific
risks noted above including, but not limited to declining credit market
conditions, failure to obtain land use entitlements, design and development cost
overruns, construction delays, and contractor and subcontractor disputes.
Because these types of real estate companies are less susceptible to these
risks, investing in the stock of those companies may be less risky than buying
our stock.






15


We
face competition in the Southern California market, which may decrease or
prevent increases in the occupancy and rental rates of our projects, and may
decrease our profitability from sales of our projects.




Our projects are located in areas
that have other warehouse and industrial, commercial, residential and mixed-use
projects, both developed and undeveloped, which may be more attractive to
potential tenants or purchasers. Competition from other properties may adversely
affect our ability to lease or sell our projects and to increase sales prices or
the rentals charged on our leases. If our competitors offer space at rental
rates below current market rates, or below the rental rates we currently charge
our tenants, we may lose existing or potential tenants, and we may be pressured
to reduce our rental rates below those we currently charge or to offer more
substantial rent abatements, tenant improvements, early termination rights or
below-market renewal options in order to retain tenants when our tenants’ leases
expire. We also expect competition in the acquisition of existing properties and
the development of new projects. This competition could increase prices for
properties of the type that we would like to pursue. As a result, we may not be
able, or have the opportunity, to make suitable investments on favorable terms
in the future.




We compete in our markets with
numerous national, regional and local residential builders. This competition
with other builders could reduce the scope of our residential projects, or cause
us to accept reduced margins in order to maintain sales volume at particular
residential projects. Our residential projects will also compete with resales of
existing used or foreclosed homes and residential units, housing speculators and
available rental housing. Increased competitive conditions in the residential
resale or rental market in the region where we operate could decrease demand for
new residential units and increase cancellations of sales contracts in
backlog.




Many
of our redevelopment projects require municipal authorities to approve or change
land use entitlements, environmental certifications pursuant to the California
Environmental Quality Act and other permits to allow these projects to proceed
in certain areas so that our projects comply with the land use laws in
effect.




Nineteen of our projects are proposed
for redevelopment. Substantially all may require city and other governmental
authorities to approve or change land use entitlements, environmental
certifications pursuant to the California Environmental Quality Act and other
permits to allow our projects to proceed. Land use laws are complex and the
approval process is subject to delays, the discretion of individual governmental
bodies and the political process. There is no guarantee that land use
entitlements and other approvals needed for our projects to proceed will
ultimately be approved. If we fail to obtain any required land use approvals or
entitlements, it would harm our ability to complete certain redevelopment
projects.




We
may be unable to renew leases or find other lessees, and a majority of our
portfolio’s annualized base rents are set to expire before the end of
2009.




We are subject to the risks that,
upon expiration, leases may not be renewed, the space subject to such leases may
not be relet or the terms of renewal or reletting, including the cost of
required renovations, may be less favorable than expiring lease terms. As of
December 31, 2008, leases representing approximately 37.9% of the square footage
of our owned projects are month-to-month leases, and an additional approximately
45.8% of the square footage of our owned projects was available for lease
(including space available for lease at rental and development projects). In
addition, leases constituting a substantial portion of the annualized base rent
from our owned projects are scheduled to expire before the end of 2009. Leases
scheduled to expire before the end of 2009 and existing month-to-month leases,
when taken together, constitute approximately 76.7% of our owned portfolio’s
annualized base rent, or approximately $17.5million out of $22.8
million. If we are unable to promptly renew a significant number of expiring
leases or to promptly relet the space covered by such leases, or if the rental
rates upon renewal or reletting were significantly lower than the then current
rates, our business would be materially and adversely affected. Additionally, we
may incur significant costs to renew expiring leases or lease vacant space. Any
of these factors could cause a decline in our lease revenues, which would harm
our profitability. The lease for our largest tenant, American Apparel, expired
on December 31, 2008 and they are now considered a month-to-month
tenant.  As of March 13, 2009, American Apparel is a rent paying
tenant based on the terms of the expired lease and we are currently in the
process of negotiating a new lease with this tenant.  There are no
assurances that we will be successful in procuring a new lease with American
Apparel.




In
the future, we may offer for-sale residential units and potential customers may
be unwilling or unable to purchase our residential units at times when
mortgage-financing costs are high or during periods of challenging credit market
conditions.




The majority of the potential
customers for units in our residential projects that may be for sale in the
future will finance their purchases through third-party lenders. In general,
housing demand is adversely affected by increases in interest rates and by
decreases in the availability of mortgage financing as a result of declining
customer credit quality or other issues. Recently, the residential mortgage
market in the United States has experienced a variety of difficulties and
changed economic conditions that may adversely affect the ability of borrowers
to obtain mortgage financing.  Because of higher than expected rates
of delinquencies, many lending institutions have imposed more stringent loan
underwriting standards and less favorable loan contract terms and
conditions.  Because of these market conditions, demand for our units
may decrease as it may be more difficult for potential buyers of our residential
units to obtain the financing necessary to purchase a unit.






16


We
are subject to high taxes levied on California real estate, and any increases in
our property taxes, including through the repeal of laws that establish maximum
property tax rates, could adversely affect our business.




Each of our projects is subject to
real and personal property taxes. These taxes on our projects may increase as
tax rates change and as the projects are assessed or reassessed by taxing
authorities, and we will experience reassessments as a result of the
contribution of our projects to us in connection with our IPO and formation
transaction. In addition, owners of California property are subject to
particularly high taxes. If property taxes increase, our business would be
adversely affected.




Voters in the State of California
previously passed Proposition 13, which generally limits annual real estate tax
increases to 2% of assessed value per annum. From time to time, various groups
have proposed repealing Proposition 13, or providing for modifications such as a
“split roll tax,” whereby commercial property, for example, would be taxed at a
higher rate than residential property. Given the uncertainty, it is not possible
to quantify the risk to us of a tax increase or the resulting financial impact
of any increase, but any tax increase would reduce the amount of cash available
for new investment or distribution to stockholders.




We
may assume unknown liabilities in connection with the acquisition of
properties.




We have historically acquired real
estate that may be subject to existing liabilities, some of which may be unknown
at the time we acquired the property. Unknown liabilities might include
liabilities for cleanup or remediation of environmental conditions, claims of
tenants, vendors or other persons dealing with the entities prior to our
acquisition of the properties (that had not been asserted or threatened prior to
these acquisitions), tax liabilities and accrued but unpaid liabilities whether
incurred in the ordinary course of business or otherwise. Our recourse with
respect to such liabilities will be limited. The assumption of existing
liabilities in connection with the acquisition of our properties could have a
material adverse affect on our operations and our ability to develop or
redevelop such properties.




We
may have to seek legal remedies to remove existing tenants from projects that we
have planned for redevelopment, which would increase our investment costs,
decrease our profitability for those projects and delay completion of the
redevelopment.




The execution of our business
strategy depends on redevelopment and repositioning of some of our existing
projects. Current tenants of those projects may refuse to vacate the premises to
allow the redevelopment work to commence. Some tenants may have no legal right
to holdover. We take legal action where appropriate to remove holdover tenants
so that our projects proceed. Any negotiations or legal action with respect to
current tenants of redevelopment projects would increase our costs related to
the project and delay its completion.




We
may make errors in determining the creditworthiness of our current or
prospective tenants.




We expect that substantially all of
our leasing revenues will be derived from tenants who do not have publicly
available credit ratings and that a substantial majority of our leasing revenues
will be derived from tenants with very limited credit histories. For some of
these tenants, we expect to analyze the tenants’ credit by reviewing available
financial and other data. We may misinterpret or incorrectly analyze available
credit data. These mistakes may, in part, lead us to make investments we would
not have otherwise made and may ultimately result in losses on one or more of
our investments. Any tenant failures to make lease payments when due or tenant
bankruptcies could result in the termination of the tenant’s lease and,
particularly in the case of a large tenant, in material losses to
us.




We
depend on tenants, and their failure to pay rent could seriously harm our
business, operating results and financial condition.




Our results of operations and cash
flow would be adversely affected if tenants are unable to pay their rent or
otherwise meet their obligations to us. In the event of default by tenants, we
may experience delays and incur substantial costs in enforcing our rights as
landlord. In addition, at any time, a tenant of one of our projects may seek the
protection of bankruptcy laws, which could result in the rejection and
termination of such tenant’s lease. Upon a default, we may not be able to relet
the space at all or on terms that are as favorable to us as the defaulted lease.
We are an accrual basis taxpayer and will have to include in income and pay tax
on rent that has accrued even though it has not been paid by a tenant. In
addition, phantom income tax liability could result for our company to the
extent cash profits are reinvested or expended on non-deductible items such as
the payment of principal on debt. The inability to depend on tenants, their
default and an inability to relet the space on reasonable terms, if at all,
would adversely affect our operations and our cash flows.




17




Our
tenants may conduct activities at our projects that reduce the value of our
projects.




Because we have limited control over
the operations and activities of our tenants, they may conduct certain
activities that damage the space they lease at one of our projects or cause a
project to be viewed in a negative light. Under our lease documents, our ability
to control the activities of tenants is limited and, in the event our tenants
damage our projects, we may not be able to recoup losses from them, either due
to economic or contractual reasons. These activities could reduce the value of
the projects in which they lease space, which could reduce the value of our
investment, impair our ability to repay debt on the projects or render it more
difficult for us to sell the project or re-lease the space to a different
tenant, any of which would harm our operations and cash flows.






Our
Company and Management




Our
success depends on key personnel whose continued service is not
guaranteed.




We depend on the efforts and
expertise of our senior executive officers to manage our day-to-day operations
and strategic business direction. In addition, many of our senior executive
officers have strong industry reputations, which aid us in identifying
acquisition and borrowing opportunities, having such opportunities brought to
us, and negotiating with tenants and sellers of properties. The loss of the
services of these key personnel could diminish our relationships with lenders,
existing and prospective tenants, property sellers and industry personnel and
harm our business and our prospects.




All
management rights are vested in our Board of Directors, and our stockholders
have limited rights.




Our Board of Directors is responsible
for our management and strategic business direction, and our senior executive
officers are responsible for our day-to-day operations. Our major policies,
including our policies with respect to acquisitions, leasing, financing, growth,
operations, debt limitation and distributions, will be determined by our Board
of Directors. Our Board of Directors may amend or revise these and other
policies from time to time without a vote of our stockholders.




Our
Chairman and Chief Executive Officer, Richard Meruelo, has pledged his shares of
our common stock as collateral for a loan.


Our
Chairman and Chief Executive Officer, Richard Meruelo, has pledged his shares of
our common stock as collateral for a loan, the proceeds of which were utilized
by Mr. Meruelo to purchase 3,000,000 shares of our common stock in our initial
public offering at the public offering price.  Upon the occurrence of
an event of default, the lenders would be entitled to declare the loan
immediately due and payable and enforce on the collateral.  Mr.
Meruelo informed us that he previously reduced the principal balance of the loan
from the proceeds of the sale of personal real estate that is not a
company-owned asset, but that the loan has matured, and the lender has declared
a default for nonpayment of the remaining outstanding balance of the
loan.  Accordingly, the lender may elect to accelerate the loan and
enforce on the pledged shares, thereby transferring a controlling voting
interest in our company to another party or substantially depress our stock
price as a result of sales of the pledged shares.   See “—Risks
Related to Our Organization and Structure—Messrs. Meruelo and Maddux have a
controlling vote in certain matters as a result of their ownership interest in
us.” A copy of Mr. Meruelo’s loan agreement is available publicly as an exhibit
to a Schedule 13D Mr. Meruleo has filed with the SEC.




Risks
Related to Our Organization and Structure




We
did not obtain appraisals of our projects that were contributed to us by our
predecessor business in connection with our IPO, and the consideration given by
us in exchange for them was not negotiated at arm’s length and may have exceeded
their fair market value or the value that would have been determined by
third-party appraisals.




We acquired almost all of our current
projects pursuant to a contribution agreement and merger agreements with
entities owned and controlled by our founders. We did not obtain any third-party
appraisals of our projects, nor any independent third-party valuations or
fairness opinions in connection with our formation transactions. The terms of
the contribution agreement and merger agreements relating to our projects were
not negotiated on an arm’s length basis. The terms of these agreements and the
valuation methods used to determine the value of the projects were determined by
our management team, including Messrs. Meruelo and Maddux, who received total
consideration in the formation transactions of 39,652,757 shares of our common
stock, excluding shares that we have a contingent obligation to issue, and
$2.8 million in cash as a result of the contributions and mergers. As a
result, the consideration given by us in exchange for the entities owning our
projects in the formation transactions may have exceeded their fair market
value.




18




Messrs.
Meruelo and Maddux have a controlling vote in certain matters as a result of
their ownership interests in us.




Messrs. Meruelo and Maddux received
shares of our common stock in our formation transactions, acquired additional
shares in our IPO, and were issued a portion of the shares that we had a
contingent obligation to issue, that collectively constitute a majority of our
voting stock. Mr. Meruelo by himself indirectly holds 45.3% of our voting stock
(As noted above under “—Our Company and Management—Our Chairman and Chief
Executive Officer, Richard Meruelo, has pledged his shares of our common stock
as collateral for a loan,” Mr. Meruelo’s loan is in default.  The
lender may elect to enforce on the pledged shares and sell the shares to a
buyer, which buyer would then hold and be able to vote such
shares.).  Messrs. Meruelo and Maddux may have interests that differ
from those of our public stockholders and may accordingly vote as stockholders
in ways that may not be consistent with the interests of our public
stockholders. This voting control over certain matters, including decisions
relating to the election of our Board of Directors, may have the effect of
delaying, preventing or deterring a change of control of our company, or could
deprive our stockholders of an opportunity to receive a premium for their common
stock as part of a sale of our company.




We
may experience conflicts of interest with our directors and officers relating to
their duties owed both to us and to the limited partners of our operating
partnership, their ownership interests in our operating partnership and their
interests in properties that may compete for the same tenants as our
projects.




Our directors and officers may have
conflicting duties because, in their capacities as our directors and officers,
they have a duty to us and our stockholders and, in our capacity as general
partner of our operating partnership, they have a fiduciary duty to limited
partners. These conflicts of interest could lead to decisions that are not in
the best interest of our stockholders. Conflicts may arise when the interests of
our stockholders and the limited partners of the operating partnership diverge,
particularly in circumstances in which there may be an adverse tax consequence
to the limited partners, such as upon the sale of certain projects contributed
to our operating partnership or the repayment of indebtedness below certain
levels.




We may also experience conflicts of
interest with several members of our senior management team who have become
limited partners in our operating partnership through the receipt of LTIP units
granted under our 2007 Equity Incentive Plan.




Messrs. Meruelo and Maddux own
interests in projects that were not contributed to us. We may experience
conflicts of interest with these members of our senior management team to the
extent that these properties compete for the same tenants or customers as our
properties or divert their attention away from our business.




A change in
control may affect our ability to use our net operating loss
carryforwards.





If we have a change in control, as
defined in Section 382 of the Code, our ability to use our net operating
loss carryforwards to offset future cash taxes may be reduced or eliminated. The
significant stock activity we have recently experienced, the possibility of our
issuing additional equity (including in exchange for outstanding indebtedness)
to address our liquidity needs and the fact that Mr. Meruelo has pledged his
shares of stock in our company as collateral for a loan that is now in default
all increase the risk of this provision affecting us in the
future.




We
are subject to corporate income tax, which may reduce the amount of funds we
have to invest and to pay to you as dividends and we have substantial built-in
taxable income in our assets.




We are taxed as a regular C
corporation for federal income tax purposes. As a result, our taxable income is
subject to the federal corporate income tax, which is 35.0% currently. We are
also subject to state and local corporate income taxes. As a result of our
formation transactions, we have substantial built-in taxable income in our
assets. As of January 30, 2007, the estimated inherent gain in the assets
contributed to us in our formation transactions was
$429.4 million.  The federal, state and local taxes we will pay
on our earnings including the tax on the inherent gain (if and when we dispose
of those assets in a taxable transaction), will reduce any funds we may have to
invest or to pay to you as dividends.




We
are a holding company with no direct operations and rely on funds received from
our operating partnership to pay liabilities.




We are a holding company and conduct
all of our operations through our operating partnership. We do not have, apart
from our ownership of our operating partnership, any independent operations. We
rely on distributions from our operating partnership to meet our debt service
and other obligations, including tax liability on taxable income allocated to us
from our operating partnership (which might not make distributions to the
company equal to the tax on such allocated taxable income). As a result, we will
rely on distributions from our operating partnership to pay any dividends we
might declare on our common stock. The ability of subsidiaries of the operating
partnership to make distributions to the operating partnership, and the ability
of our operating partnership to make distributions to us in turn, will depend on
their operating results and on the terms of any loans that encumber the projects
owned by them. Such loans may contain lockbox arrangements, reserve
requirements, financial covenants and other provisions that restrict the
distribution of funds. In the event of a default under these loans, the
defaulting subsidiary would be prohibited from distributing cash.




19




In addition, because we are a holding
company, your claims as stockholders are structurally subordinated to all
existing and future liabilities and obligations (whether or not for borrowed
money) of our operating partnership and its subsidiaries. Therefore, in the
event of our bankruptcy, liquidation or reorganization, the assets of our
operating partnership and its subsidiaries will be able to satisfy the claims of
our stockholders only after all of our operating partnership’s and its
subsidiaries’ liabilities and obligations have been paid in full.  A
significant portion of the indebtedness of the subsidiaries of our operating
partnership is secured by real property.




As of March 13, 2009, we own an
estimated 99.6% interest in the operating partnership, which may, in connection
with our acquisition of additional properties or otherwise, issue additional
common units of limited partnership interest. Such issuances would reduce our
ownership in our operating partnership. Our stockholders will not directly own
common units of limited partnership interest of the operating partnership and do
not have any voting rights with respect to any such issuances or other
partnership level activities of the operating partnership.




Some
provisions of our certificate of incorporation and bylaws may deter takeover
attempts, which may limit the opportunity of our stockholders to sell their
shares at a favorable price.




Some of the provisions of our
certificate of incorporation and bylaws could make it more difficult for a third
party to acquire us, even if doing so might be beneficial to our stockholders by
providing them with the opportunity to sell their shares at a premium over the
then market price. Our certificate of incorporation and bylaws provide
that:




•
            vacancies
      on our Board of Directors may only be filled by the remaining
      directors;




•
            only
      the Board of Directors can change the number of
  directors;




•
            our
      directors may adopt, amend or repeal any of our
  bylaws;




•
            the
      affirmative vote of holders of a majority of the total votes eligible to
      be cast in the election of directors is required for stockholders to
      adopt, amend or repeal any of our
bylaws;




•
            there
      is no cumulative voting for
directors;




•
            our
      stockholders are not permitted to act by written consent;
    and




•
            stockholders
      must comply with advance notice procedures to make proposals to be brought
      before stockholder meetings, including nominations of persons for election
      to the Board of Directors.




In addition, our certificate of
incorporation authorizes the Board of Directors to issue up to 50 million shares
of preferred stock. The preferred stock may be issued in one or more series, the
terms of which will be determined at the time of issuance by our Board of
Directors without further action by the stockholders. These terms may include
voting rights, including the right to vote as a series on particular matters,
preferences as to dividends and liquidation, conversion rights, redemption
rights and sinking fund provisions. No shares of preferred stock are outstanding
as of the filing of this report. The issuance of any preferred stock, however,
could diminish the rights of holders of our common stock, and therefore could
reduce the value of our common stock. In addition, specific rights granted to
future holders of preferred stock could be used to restrict our ability to merge
with, or sell assets to, a third party. The ability of our Board of Directors to
issue preferred stock could make it more difficult, delay, discourage, prevent
or make it more costly to acquire or effect a change in control, thereby
preserving the current stockholders’ control of our comp




Finally, we are also subject to
Section 203 of the Delaware General Corporation Law, which, subject to
certain exceptions, prohibits a Delaware corporation from engaging in any
business combination with any interested stockholder for a period of three years
following the date that the stockholder became an interested
stockholder.




The provisions of our certificate of
incorporation and bylaws, described above, as well as Section 203 of the
Delaware General Corporation Law, could discourage potential acquisition
proposals, delay or prevent a change in control and prevent changes in our
management, even if these events would be in the best interest of our
stockholders.




Our
rights and the rights of our stockholders to take action against our directors
and officers are limited, which could limit your recourse in the event of
actions not in our stockholders’ best interests.




Our certificate of incorporation
authorizes us to indemnify our directors and officers for actions taken by them
in those capacities to the extent permitted by Delaware law.  Our
bylaws require us to indemnify each director or officer who has been successful,
on the merits or otherwise, in the defense of any proceeding to which he or she
is made a party by reason of his or her service to us.  We may also be
obligated to fund the defense costs incurred by our directors and
officers.   In addition, our certificate of incorporation limits
the liability of our directors and officers for money damages, except for
liability resulting from any breach of the duty of loyalty to the corporation or
its stockholders, acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of the law, or any transaction in
which an improper personal benefit was derived.  As a result, we and
our stockholders may have more limited rights against our directors and officers
than might otherwise exist.




20




Risks
Related to the Real Estate Industry




Our
real estate investments are relatively illiquid and their values may
decline.




Real estate investments are
relatively illiquid. Therefore, we are limited in our ability to reconfigure our
real estate portfolio in response to economic changes, including our current
liquidity crisis.  Our ability to sell these projects and the prices
we receive on their sale will be affected by the number of potential buyers, the
number of competing properties on the market and other national and local
economic and market conditions, as well as whether the project is leased and if
it is leased, the terms of the lease. Our ability to sell these projects may
also depend on changes in interest rates and in the availability, cost and terms
of debt financing as well as ongoing need for capital improvements, particularly
in older buildings.  In addition, the current state of the equity and
debt capital markets may force us to extend sales and leasing revenue from our
properties from earlier periods to subsequent periods thereby not eliminating
our negative cash flow as quickly as we anticipate.  Finally, our
current financial difficulties may encourage potential purchasers to offer less
attractive terms for our properties.  As a result, we may be unable to
sell our projects for an extended period of time without incurring a
loss.  We may be required to expend funds to correct defects or make
improvements before a project can be sold. We cannot assure you that we will
have funds available to correct those defects or to make those improvements and
as a result our ability to sell the property could be limited.




The
costs of compliance with or liabilities under environmental laws may harm our
business.




Our projects may be subject to
significant environmental liabilities. An owner of real property can face
strict, joint and several liability for environmental contamination created by
the presence or discharge of petroleum products or other hazardous or toxic
substances on the property. We may face liability regardless of:




•
            our
      knowledge of the contamination;




•
            the
      timing of the contamination;




•
            the
      cause of the contamination; or




•
            the
      party responsible for the contamination of the
  property.




There may be unknown or
underestimated environmental liabilities associated with our projects. Most of
our projects are on or are adjacent to or near other properties upon which
others, including former owners or operators or tenants of the properties, have
engaged in or may in the future engage in activities that may release petroleum
products or other hazardous or toxic substances. For instance, some of our
projects are at locations where former businesses conducted industrial and other
operations that involved the use, storage or the release of petroleum products
or other hazardous or toxic substances or generated hazardous waste. Naturally
occurring conditions, such as the presence of methane may also result in
environmental liabilities.  Certain projects have on-going assessment
and clean-up efforts or have not yet fully identified or quantified
environmental contamination or potential investigation or clean-up costs. The
presence of or contamination resulting from petroleum products, or other
hazardous or toxic substances on a project or the failure to properly remediate
them may cause a decline in the value of that property and may adversely affect
our ability to develop, sell or rent our projects, and we may incur substantial
remediation or increased development costs. In addition, persons exposed to
petroleum products or other hazardous or toxic substances at our projects may
sue us for personal injury damages.




We must also comply with a variety of
local, state and federal environmental statutes, ordinances, rules and
regulations affecting the development process, including with respect to
petroleum products or other hazardous or toxic substances, endangered species,
air quality, water supply, biology, archeology and other potential environmental
impacts or effects. These environmental laws sometimes result in delays, cause
us to incur additional costs, or severely restrict land development and building
activity in environmentally sensitive regions or areas. For example, the
presence of petroleum products or hazardous or toxic substances may limit a
project’s use or prevent us from selling residential units or for-sale
commercial units, and we may also be liable, under applicable laws and
regulations or as a result of lawsuits brought by governmental and private
parties, for liabilities relating to contamination on projects that we have sold
in the past.  Environmental laws are subject to changing
interpretations and amendments, and new laws are frequently
adopted.  We cannot predict the impact of any new or amended
environmental laws.




21


Our projects
may contain or develop harmful mold or contain asbestos or lead, which could
lead to liability for adverse health effects and costs of remediating the
problem.




When excessive moisture accumulates
in buildings or on building materials, mold growth may occur, particularly if
the moisture problem remains undiscovered or is not addressed over a period of
time. Some molds may produce airborne toxins or irritants. Concern about indoor
exposure to mold has been increasing, as exposure to mold may cause a variety of
adverse health effects and symptoms, including allergic or other reactions. As a
result, the presence of significant mold at any of our projects could require us
to undertake a costly remediation program to contain or remove the mold from the
affected project, which would reduce our operating results. In addition, the
presence of significant mold could expose us to liability from our tenants,
their guests, employees of ours or of our construction contractors,
purchasers of our projects and others if property damage or health concerns
arise.




Environmental laws also govern the
presence, maintenance, removal and disposal of certain building materials,
including asbestos and lead-based paint. For instance, laws may require that
owners or operators of certain buildings containing asbestos (1) properly
manage and maintain the asbestos, (2) notify and train those who may come
into contact with asbestos and (3) undertake special precautions, including
removal and disposal, or other abatement, if asbestos would be disturbed during
renovation or demolition of a building. In addition, lead-based paint must also
be managed, abated and disposed of according to the laws. Such laws may impose
civil and criminal fines and penalties on developers and building owners or
operators who fail to comply with these requirements. In addition, third parties
may seek recovery from owners or operators for personal injury associated with
exposure to hazardous substances, such as asbestos or lead.




Future
terrorist attacks in the United States, such as the attacks that occurred in New
York and Washington, D.C. on September 11, 2001, and other acts of
terrorism or war, whether in the United States or abroad, may result in
declining economic activity and reduced demand for our projects.




A decrease in demand would make it
difficult for us to renew or re-lease our projects at lease rates equal to or
above historical rates. Terrorist activities also could directly impact the
value of our projects through damage, destruction or loss. To the extent that
our tenants are impacted by future attacks, their businesses similarly could be
adversely affected, including their ability to continue to honor obligations
under their existing leases. These types of events also may adversely affect the
markets in which our securities trade. Any one of these events may cause a
decline in the demand for real estate, delay the time in which our new,
renovated or redeveloped projects reach stable occupancy, increase our operating
expenses due to increased physical security and insurance costs for our projects
and limit our access to capital or increase our cost of raising
capital.




We
may experience uninsured and underinsured losses.




We maintain comprehensive insurance
on each of our projects, including liability, fire and extended coverage, of the
type and amount we believe are customarily obtained in the industry. There are
no assurances that such coverage will continue to be available at reasonable
rates. Various types of catastrophic losses, like earthquakes, hurricanes and
floods, environmental or pollution damage and losses from terrorist activities,
may not be insurable or may not be economically insurable or may be subject to
insurance coverage limitations, such as large deductibles or co-payments. We do
not generally obtain terrorism, earthquake or flood insurance on our projects.
We sometimes, but not always, obtain environmental insurance.  Future
lenders may require such insurance, which would result in substantial additional
expense; and our failure to obtain such insurance could constitute a default
under loan agreements.




All of our projects are located in
Southern California, an area especially subject to earthquakes, and we do not
carry any earthquake insurance. Because most of our projects are located within
downtown Los Angeles, an earthquake there could materially damage, destroy
or impair our projects as well as the use by tenants of all of these projects or
harm our ability to develop, redevelop or sell affected projects and none of
these damages or increased costs would be covered by insurance. A catastrophic
earthquake centered in the downtown area of Los Angeles could harm our
business as a consequence of property damage sustained in the earthquake, the
negative impact thereof on the local economy, or both.




In the event of a substantial loss,
our insurance coverage may not be sufficient to cover the full current market
value or replacement cost of our lost investment. Should an uninsured loss or a
loss in excess of insured limits occur, we could lose all or a portion of the
capital we have invested in a project, as well as the anticipated future revenue
from that particular project. In that event, we might nevertheless remain
obligated for any mortgage debt or other financial obligations related to the
project. Inflation, changes in building codes and ordinances, environmental
considerations and other factors might also keep us from using insurance
proceeds to replace or renovate a project after it has been damaged or
destroyed. Under those circumstances, the insurance proceeds we receive might be
inadequate to restore our economic position on the damaged or destroyed project.
The insurance policies contain standard exclusions applicable to, inter alia, losses related to
pollution, asbestos, mold/fungus, earth movement and water. Also, some of the
policies have been issued by surplus lines insurers (i.e., insurers who are not
licensed by the State of California). Some rights and limitations applicable to
coverage under policies issued by insurers licensed by the State of California
are not applicable to coverage under policies issued by surplus lines insurers.
For example, a surplus lines insurer does not participate in any of the
insurance guarantee funds created under California law. Therefore, these funds
would not be available to pay any claims in the event a surplus lines insurer
becomes insolvent or is otherwise unable to pay a covered claim.






22


We
are subject to substantial legal and regulatory requirements including
compliance with fire, safety and other regulations regarding the development,
redevelopment and operation of our projects and the protection of the
environment, which may require us to make unanticipated expenditures, and some
regulations could prohibit or restrict some projects.




Our development and redevelopment
business is heavily regulated and subject to increasing local, state and federal
statutes, ordinances, rules and regulations concerning zoning, resource
protection, environmental impacts, building design, construction and similar
matters. These regulations often provide broad discretion to governmental
authorities that regulate these matters, which can result in unanticipated
delays or increases in the cost of a specified project or a number of projects
in particular markets. In addition, we are subject to laws and regulations
related to workers’ health and safety. We generally are required to obtain
permits, entitlements and approvals from local authorities to commence and
complete our development and construction projects. Such permits, entitlements
and approvals may, from time-to-time, be opposed or challenged by local
governments, neighboring property owners or other interested parties, adding
delays, costs and risks of non-approval to the process. In particular, we are
required to obtain the approval of numerous governmental authorities regulating
matters such as permitted land uses, levels of density, the installation of
utility services, zoning, building standards and environmental protection. Our
obligation to comply with the laws and regulations under which we operate, and
our obligation to ensure that our employees, subcontractors and other agents
comply with these laws and regulations, could delay our projects, cause us to
incur substantial costs and prohibit or restrict our proposed
projects.




Our business is conducted in
California, which is one of the most highly regulated and litigious states in
the country. Therefore, our potential exposure to losses and expenses due to new
laws, regulations or litigation may be greater than other real estate companies
with a less significant California presence.




In addition, our projects are subject
to various other federal, state and local regulatory requirements, such as state
and local fire and life safety requirements. Local regulations, including
municipal or local ordinances and zoning restrictions, may restrict the use of
our properties or otherwise affect our projects and may require us to obtain
approval from local officials or community standards organizations with respect
to our projects, including prior to undertaking renovations of any of our
existing projects or acquiring a new project. If we fail to comply with various
requirements, we might incur governmental fines or private damage awards. These
regulations may cause us to incur additional costs and may lead to significant
delays in our development projects, which could adversely affect us. In
addition, we do not know whether existing requirements will change or whether
future requirements will require us to make significant unanticipated
expenditures.




Compliance
with the Americans with Disabilities Act of 1990 may require us to make
unintended expenditures.




Under the Americans with Disabilities
Act of 1990, or ADA, all places of public accommodation are required to meet
certain federal requirements related to access and use by disabled persons.
These requirements became effective in 1992. The ADA and a number of additional
U.S. federal, state and local laws may require modifications to our
projects or restrict certain further renovations of the projects, with respect
to access thereto by disabled persons. Noncompliance with the ADA or these other
laws could result in the imposition of fines or an award of damages to private
litigants and an order to correct any non-complying feature, which may require
substantial capital expenditures. We have not conducted an audit or
investigation of all of our projects to determine our compliance, and we cannot
predict the ultimate cost of compliance with the ADA or other similar
legislation. If one or more of our projects is not in compliance with the ADA or
other similar legislation, then we would be required to incur additional costs
to bring the non-complying projects into compliance.




Risks
Related to the Market for our Common Stock




The
market price and trading volume of our common stock may be volatile, adversely
affecting our stockholders.




We consummated our IPO in January
2007.  Since that time, the market price of and trading volume in our
common stock has fluctuated and caused significant price variations to occur.
These price variations may continue and the price of our common stock may
continue to fall.  If the market price of our common stock declines,
you may be unable to resell your shares at or above your purchase price. We
cannot assure you that the market price of our common stock will not fluctuate
or decline significantly in the future. Some of the factors that could
negatively affect our share price or result in fluctuations in the price or
trading volume of our common stock include:






23


•
            actual
      or anticipated variations in our quarterly operating results or payment of
      dividends, or the lack thereof;




•
            changes
      in estimates of our earnings;




•
            general
      market and economic conditions;




•
            redemptions
      of common units of our operating
partnership;




•
            adverse
      market reaction to any increased indebtedness that we may incur or any
      deterioration in our ability to obtain financing at all or on attractive
      terms;




•
            future
      issuances of our common or preferred
stock;




•
            publication
      of research reports about us or the real estate
  industry;




•
            additions
      or departures of key management personnel;
or




•
            changes
      in market valuations of similar
companies.




The
closing price for our common stock on the Nasdaq Global Market has recently
remained below $1.00.  If the closing price of our common stock
continues to remain below $1.00, our stock may be delisted from the National
Global Market, which may reduce any liquidity in our stock and further depress
its market price.




Future
offerings of debt securities, which would rank senior to our common stock upon
liquidation, and future offerings of equity securities (including any exchanges
of equity for outstanding indebtedness), which would dilute our existing
stockholders and may be senior to our common stock for the purposes of dividend
and liquidating distributions, may adversely affect the market price of our
common stock.




In the future, we may attempt to
increase our capital resources by making offerings of debt or additional
offerings of equity securities, including commercial paper, senior or
subordinated notes, convertible notes and series of preferred stock or common
stock, and including issuing equity securities in exchange for our outstanding
indebtedness. Upon liquidation, holders of our debt securities and shares of
preferred stock, if any, and lenders with respect to other borrowings will
receive a distribution of our available assets prior to the holders of our
common stock. Additional equity offerings may dilute the holdings of our
existing stockholders or reduce the market price of our common stock, or both.
Preferred stock, if issued, could have a preference on liquidating distributions
or a preference on dividend payments or both that could limit our ability to
make a dividend distribution to the holders of our common stock. Because our
decision to issue securities in any future offering will depend on market
conditions and other factors beyond our control, we cannot predict or estimate
the amount, timing or nature of our future offerings. Thus, holders of our
common stock bear the risk of our future offerings reducing the market price of
our common stock and diluting their stock holdings in us.




Future
sales of our common stock could have an adverse effect on our stock
price.




As of March 13, 2009, there are
approximately 88,076,987shares of our common
stock outstanding and 867,835 LTIP units in our operating partnership, which are
exchangeable into shares of our common stock on a one-to-one basis, outstanding.
We expect to issue an additional 20,000 LTIP units later in 2009. We cannot
predict whether future issuances of shares of our common stock or the
availability of shares for resale in the open market will decrease the market
price of our common stock. Our directors and officers are able to sell an
aggregate total of45,216,287 shares of our
common stock (excluding LTIP units), subject to restrictions imposed by federal
securities laws and subject to vesting provisions applicable to 10,000 of those
shares. Sales of substantial numbers of shares of our common stock in the public
market, or the perception that such sales might occur, could adversely affect
the market price of our common stock.  Mr. Meruelo has pledged
substantially all of his shares of our common stock as collateral for a loan,
and the loan is in default.  Accordingly, the lender may enforce on
the collateral and sell substantial amounts of our common stock.  We
may issue from time to time additional common stock or common units of our
operating partnership convertible into common stock in connection with the
acquisition of properties, and we may grant demand or piggyback registration
rights in connection with these issuances.




24


Item
1B.                      Unresolved
Staff Comments





On March 3, 2009, we received a comment
letter from the Securities and Exchange Commission, which was in follow up to a
response letter dated January 26, 2009 from the Company.  The comment
to be addressed shortly in a response letter is as follows:





FORM 10-K FOR THE YEAR ENDED
DECEMBER 31, 2007





Financial Statements and
Notes





Note 2 – Summary of
Significant Accounting Policies





Share-Based Compensation,
page F-11





1)
            We
      read your response to comment four.  It is unclear whether the
      illiquidity discount and the discount due to the risk related to the
      book-up requirement account for the expected volatility and the risk-free
      interest rate, respectively.  Please advise or alternately
      confirm that volatility and risk free interest rate are not considered
      substantive characteristics of your LTIP units.  Refer to
      paragraphs A11 and A18 of SFAS
123R.





Additionally,
we note your disclosure on page F-11 and in Note 12.  However, please
confirm that in future filings you will include a clear explanation of the types
of discounts taken and how they are necessary in assessing the value of your
LTIP units, the specific discount rates and other assumptions used in your
valuation model as required by paragraph 240(c) of SFAS 123R.





25


Item
      2.
            Properties





At
December 31, 2008, we own 28 rental projects and 19 development projects (one of
which was subject to an option that was terminated in the first quarter of
2009).  Most of the projects are located in or around the downtown
area of Los Angeles, and all of the projects are in Southern
California.





We have a
wide range of project types, including commercial and residential projects. We
believe these projects are well positioned in urban areas undergoing
demographic, structural and/or economic change and present the opportunity to
create value in otherwise obsolete or undervalued properties. Our projects were
selected by our management for the purpose of increasing our return on
investments while also having social benefits such as upgrading existing
infrastructure instead of building new infrastructure, as well as reducing
automobile reliance by locating businesses, customers and employees closer to
each other and to existing public transit systems. This emerging category of
urban infill development is called “Smart Growth” or “Transit Oriented
Development.” By definition, urban infill is the development of vacant land or
redevelopment of underused structures in built-up areas that have infrastructure
and other public services in place. We believe our projects in downtown Los
Angeles and our other projects are well positioned for Smart
Growth.




Our
projects were generally purchased for the purpose of developing, redeveloping,
renovating or repositioning them for what we consider to be a higher and better
use to maximize the return on investment, to create Smart Growth and to provide
the community with social benefits.  Our projects are in various
stages of development. Some of our projects are presently, in our view, at their
highest and best use and are currently operating as rental
projects.  Other projects are currently operating as rental projects,
but we have long-term redevelopment plans for those projects.  These
rental projects are not at what we consider being their highest and best use and
are classified according to their long-term use rather than the current type of
temporary operations.  In addition, we have projects that are
classified as development projects because they are currently under renovation,
or construction will be commencing shortly.  Incidental revenue is
earned at certain development projects where the construction period has not
begun.




Beginning
approximately two months before our estimated commencement of construction with
respect to a redevelopment project, we begin terminating in-place leases at the
project, whether month-to-month or otherwise, and finalize discussions with
tenants about relocating to another one of our projects. Prior to these lease
terminations, we discuss with tenants the redevelopment plans, and the steps
needed to modify existing leases to month-to-month leases and relocation
possibilities in anticipation of the redevelopment and related
construction.





In light of current and
changing credit market conditions and availability of capital, we are evaluating
and adjusting as appropriate our previously disclosed development and
redevelopment plans, timelines and costs.


26


Rental
Projects





Presented
below is our rental project portfolio as of December 31,
2008.  Projects at what we consider to be their highest and best use
are denoted with a footnote.





Rental
      Project
                  
                  #
      of Projects
                  
                  
                  Net
      Rentable Square Feet
                  
                  
                  %
                    Leased
                  
                  
                  Total
                    Annualized
                    Rents
      (1)
                  
                  
                  Annualized
                    Rent
                    $/RSF
      (2)Commercial
      Projects788
      S Alameda (3)
                  
                  
                  1
                  
                  
                  
                  33,984
                  
                  
                  
                  75.0
                  %
                  
                  $
                  1,017,195
                  
                  
                  $
                  39.91Washington
      Cold Storage (3)
                  
                  
                  1
                  
                  
                  
                  59,000
                  
                  
                  
                  100.0
                  %
                  
                  
                  1,320,000
                  
                  
                  
                  22.37500
      Mateo Street
                  
                  
                  1
                  
                  
                  
                  12,938
                  
                  
                  
                  100.0
                  %
                  
                  
                  122,400
                  
                  
                  
                  9.46Meruelo
      Wall Street (3)
                  
                  
                  1
                  
                  
                  
                  98,245
                  
                  
                  
                  94.9
                  %
                  
                  
                  1,924,044
                  
                  
                  
                  20.63Washington
      at Central
                  
                  
                  1
                  
                  
                  
                  5,479
                  
                  
                  
                  78.1
                  %
                  
                  
                  52,284
                  
                  
                  
                  12.22Southern
      California Institute of Architects (3)
                  
                  
                  1
                  
                  
                  
                  81,741
                  
                  
                  
                  100.0
                  %
                  
                  
                  1,212,000
                  
                  
                  
                  14.83Washington
      Produce Market (3)
                  
                  
                  1
                  
                  
                  
                  31,876
                  
                  
                  
                  79.3
                  %
                  
                  
                  510,285
                  
                  
                  
                  20.19905
      E 8th Street
                  
                  
                  1
                  
                  
                  
                  28,200
                  
                  
                  
                  40.4
                  %
                  
                  
                  129,600
                  
                  
                  
                  11.373rd and Omar Street
                  
                  
                  1
                  
                  
                  
                  23,297
                  
                  
                  
                  29.1
                  %
                  
                  
                  117,360
                  
                  
                  
                  17.311919
      Vineburn Avenue
                  
                  
                  1
                  
                  
                  
                  122,345
                  
                  
                  
                  100.0
                  %
                  
                  
                  506,520
                  
                  
                  
                  4.141500
      Griffith Avenue
                  
                  
                  1
                  
                  
                  
                  50,058
                  
                  
                  
                  100.0
                  %
                  
                  
                  448,217
                  
                  
                  
                  8.954th
      Street Center
                  
                  
                  1
                  
                  
                  
                  14,472
                  
                  
                  
                  53.2
                  %
                  
                  
                  98,400
                  
                  
                  
                  12.79Seventh
      Street Produce Market (3)
                  
                  
                  1
                  
                  
                  
                  122,120
                  
                  
                  
                  60.1
                  %
                  
                  
                  3,307,974
                  
                  
                  
                  45.07Alameda
      Square (3)
                  
                  
                  1
                  
                  
                  
                  1,463,696
                  
                  
                  
                  60.9
                  %
                  
                  
                  3,613,212
                  
                  
                  
                  4.05620
      Gladys Avenue
                  
                  
                  1
                  
                  
                  
                  57,354
                  
                  
                  
                  55.9
                  %
                  
                  
                  332,182
                  
                  
                  
                  10.371000
      E Cesar Chavez
                  
                  
                  1
                  
                  
                  
                  50,373
                  
                  
                  
                  16.8
                  %
                  
                  
                  58,200
                  
                  
                  
                  6.86306
      North Avenue 21 (4)
                  
                  
                  1
                  
                  
                  
                  80,712
                  
                  
                  
                  56.9
                  %
                  
                  
                  164,400
                  
                  
                  
                  3.58Crown
      Commerce Center (3)
                  
                  
                  1
                  
                  
                  
                  301,491
                  
                  
                  
                  93.9
                  %
                  
                  
                  1,877,955
                  
                  
                  
                  6.64420
      Boyd Street
                  
                  
                  1
                  
                  
                  
                  47,806
                  
                  
                  
                  61.8
                  %
                  
                  
                  370,529
                  
                  
                  
                  12.53230
      W Ave 26th
                  
                  
                  1
                  
                  
                  
                  67,671
                  
                  
                  
                  57.2
                  %
                  
                  
                  287,412
                  
                  
                  
                  7.425707
      S Alameda
                  
                  
                  1
                  
                  
                  
                  55,729
                  
                  
                  
                  55.7
                  %
                  
                  
                  109,977
                  
                  
                  
                  3.55Santa
      Fe Plaza
                  
                  
                  1
                  
                  
                  
                  16,000
                  
                  
                  
                  0.0
                  %
                  
                  
                  -
                  
                  
                  
                  -Barstow
      Produce Center
                  
                  
                  1
                  
                  
                  
                  261,750
                  
                  
                  
                  1.9
                  %
                  
                  
                  24,000
                  
                  
                  
                  4.801211
      E Washington Blvd
                  
                  
                  1
                  
                  
                  
                  108,000
                  
                  
                  
                  84.5
                  %
                  
                  
                  447,072
                  
                  
                  
                  4.90Total Commercial
      Projects
                  
                  
                  24
                  
                  
                  
                  3,194,337
                  
                  
                  
                  63.6
                  %
                  
                  
                  18,051,218
                  
                  
                  
                  8.89Residential
      ProjectsAmerican
      Apartments (3)
                  
                  
                  1
                  
                  
                  
                  13,550
                  
                  
                  
                  97.8
                  %
                  
                  
                  314,377
                  
                  
                  
                  23.73Union
      Lofts (3)
                  
                  
                  1
                  
                  
                  
                  81,609
                  
                  
                  
                  35.4
                  %
                  
                  
                  854,918
                  
                  
                  
                  29.62Southpark
      Tower - Phase 2 - J Restaurant
                  
                  See
      Note(5)
                  
                  
                  
                  11,829
                  
                  
                  
                  100.0
                  %
                  
                  
                  425,844
                  
                  
                  
                  37.08Center
      Village
                  
                  
                  1
                  
                  
                  
                  176,628
                  
                  
                  
                  100.0
                  %
                  
                  
                  343,200
                  
                  
                  
                  4.32Pomona
      West
                  
                  
                  1
                  
                  
                  
                  242,042
                  
                  
                  
                  0.0
                  %
                  
                  
                  -
                  
                  
                  
                  -Total Residential
      Projects
                  
                  
                  4
                  
                  
                  
                  525,658
                  
                  
                  
                  43.9
                  %
                  
                  
                  2,371,359
                  
                  
                  
                  10.28Total
      Rental Project Portfolio
                  
                  
                  28
                  
                  
                  
                  3,719,995
                  
                  
                  
                  60.8
                  %
                  
                  $
                  20,422,577
                  
                  
                  $
                  9.03





(1)
            Annualized
      rent represents the annualized monthly contractual rent under existing
      leases as of December 31, 2008.


(2)
            Annualized
      rent per rentable square foot (“RSF”) represents annualized rent as
      computed above, divided by the total square footage under lease as of the
      same date.


(3)
            Project
      is at what we consider its highest and best
use.


(4)
            This
      parcel is part of a larger project that will be redeveloped as part of the
      2131 Humboldt project discussed in the "Development
    Pipeline."


(5)
            This
      parcel is part of a larger project that will be redeveloped as part of the
      Southpark Tower project discussed in the "Development
      Pipeline."











27


Development
Projects





Presented
below is our development pipeline as of December 31, 2008.  In
addition, annualized incidental revenue is disclosed for certain projects as
construction has not yet commenced at these sites.  Development
projects are classified by their intended use (residential or commercial) after
construction is complete.


Development
      Project
                
                #
      of Projects
                
                
                Annualized
      Incidental Revenue per YearResidential
      ProjectsSouthpark
      Towers
                
                
                1
                
                
                $
                342,000Desmond
      Building
                
                
                1
                
                
                
                196,000Sky
      Arc
                
                
                1
                
                
                
                157,000Olive
      Street Towers
                
                
                1
                
                
                
                204,000Transamerica
      Lofts
                
                
                1
                
                
                
                60,000717
      W 9th
      Street
                
                
                1
                
                
                
                36,000Chinatown
      Towers
                
                
                1
                
                
                
                -Total
      Residential Projects
                
                
                7
                
                
                
                995,000Suspended Construction
      Projects(1)Ullman
      Tower One
                
                
                1
                
                
                
                365,000Ullman
      Tower Two
                
                
                1
                
                
                
                180,0002131
      Humboldt Street
                
                See Note (2)
                
                
                
                144,000Meruelo
      Baldwin Park
                
                
                1
                
                
                
                55,000Pomona
      East
                
                
                1
                
                
                
                -1828
      Oak Street (3)
                
                
                1
                
                
                
                -Camfield
      Retail Center
                
                
                1
                
                
                
                -Ceres
      Street Produce Center
                
                
                1
                
                
                
                -Vignes
      Village
                
                
                1
                
                
                
                -San
      Fernando Court
                
                
                1
                
                
                
                -Musica
      Latina Building
                
                
                1
                
                
                
                -Citrus
      Gardens
                
                
                1
                
                
                
                -Covina
      Gardens
                
                
                1
                
                
                
                -Total
      Suspended Construction Projects
                
                
                12
                
                
                
                744,000Total Development
      Pipeline
                
                
                19
                
                
                $
                1,739,000





(1)
            Because
      of the difficulty of obtaining construction financing and to preserve cash
      flow in this challenging economic environment, we suspended development of
      these projects on October 1, 2008. We likewise stopped capitalizing costs
      as of this date.  We have continued to group these assets as
      real estate held for development on the balance sheet.  On the
      statement of operations, we group incidental revenue as either rental
      revenue or other income. We also grouped expenses such as interest costs,
      property taxes and in-house development costs as interest expense,
      operating expenses or general and administrative expenses on the statement
      of operations.  We will continue to expense our costs until we
      renew our efforts to develop these
projects.


(2)Project
is currently considered a portion of the 306 N. Avenue 21 project and is counted
as a rental project.


(3)
            We
      have an option to purchase this project.  This option was
      terminated in the first quarter of
2009.





28


Tenants




The
following table sets forth information regarding the 10 largest tenants in our
portfolio of owned projects based on annualized base rent paid or payable as of
December 31, 2008. Our largest tenant, American Apparel, became a
month-to-month tenant upon the lease expiration date of December 31,
2008.  As of March 13, 2009, American Apparel is a rent paying tenant
based on the terms of the expired lease and we are currently in the process of
negotiating a new lease with this tenant.  There are no assurances
that we will be successful in securing this new lease.




Top
Ten Tenants in Our Portfolio of Owned Projects




Tenant
                            
                            Number of
                              Projects
                            
                            
                            Total
      Leased
                              Square Feet(1)
                            
                            
                            Percentage
      of Our
                              Portfolio’s Total Rentable
                              Square
      Feet(1)
                            
                            
                            Annualized
                              Base
                              Rent(2)
      (3)
                            
                            
                            Percentage
      of Our
                              Portfolio’s Annualized
                              Base
      Rent (3)American
      Apparel
                            
                            
                            1
                            
                            
                            
                            788,273
                            
                            
                            
                            18.4
                            %
                            
                            $
                            3,077,652
                            
                            
                            
                            13.5
                            %Prestige
      Parking
                            
                            
                            7
                            
                            
                            See Note (4)
                            
                            
                            
                            0.0
                            %
                            
                            
                            1,488,000
                            
                            
                            
                            6.5
                            %Southern
      California Institute of Architecture
                            
                            
                            1
                            
                            
                            
                            81,741
                            
                            
                            
                            1.9
                            %
                            
                            
                            1,369,356
                            
                            
                            
                            6.0
                            %Aztlan
      Cold Storage(5)
                            
                            
                            1
                            
                            
                            
                            59,000
                            
                            
                            
                            1.4
                            %
                            
                            
                            1,320,000
                            
                            
                            
                            5.8
                            %The
      Outdoor Recreation Group
                            
                            
                            1
                            
                            
                            
                            122,345
                            
                            
                            
                            2.9
                            %
                            
                            
                            506,521
                            
                            
                            
                            2.2
                            %AJSE/Santa
      Fe Fishing Inc
                            
                            
                            1
                            
                            
                            
                            87,404
                            
                            
                            
                            2.0
                            %
                            
                            
                            498,000
                            
                            
                            
                            2.2
                            %J
      Lounge Restaurant.
                            
                            
                            1
                            
                            
                            
                            11,829
                            
                            
                            
                            0.3
                            %
                            
                            
                            438,624
                            
                            
                            
                            1.9
                            %MXF
      Designs, Inc
                            
                            
                            1
                            
                            
                            
                            55,585
                            
                            
                            
                            1.3
                            %
                            
                            
                            424,380
                            
                            
                            
                            1.9
                            %United
      Pacific Studios............
                            
                            
                            1
                            
                            
                            
                            66,135
                            
                            
                            
                            1.5
                            %
                            
                            
                            420,240
                            
                            
                            
                            1.8
                            %Woodland
      Poultry Operations, Inc.
                            
                            
                            2
                            
                            
                            
                            24,694
                            
                            
                            
                            0.6
                            %
                            
                            
                            343,200
                            
                            
                            
                            1.5
                            %Total
                            
                            
                            
                            
                            
                            
                            1,297,006
                            
                            
                            
                            30.3
                            %
                            
                            $
                            9,885,973
                            
                            
                            
                            43.4
                            %





(1)
            Based
      on total square footage of 4,279,363, which is the total square footage of
      space leased or available or offered for lease at both rental and
      development projects and excludes substantial portions of square footage
      in the projects that are not available or offered for lease because of
      redevelopment or repositioning activities. Parking square footage is not
      included in the calculation.


(2)
            Because
      annualized base rent is not derived from historical results that were
      accounted for in accordance with accounting principles generally accepted
      in the Unites States, historical results differ from the annualized
      amounts.


(3)
            Annualized
      base rent includes parking revenue per tenant’s contracts.  The
      portfolio’s total annualized base rent includes parking revenue for this
      table only.


(4)
            Prestige
      Parking leases parking lots at seven projects totaling approximately
      285,000 square feet
of  land.


(5)
            Tenant
      has a new lease effective as of January 1, 2009 at reduced rental
      rates.


29


Lease
Expirations




The
following table sets forth a summary schedule of the lease expirations for
leases in place as of December 31, 2008 for each of the 10 calendar years
beginning January 1, 2009 at the projects we own and are currently leasing
space at, regardless of the project classification between rental and
development. The information set forth in the table assumes that tenants
exercise no renewal options or early termination rights.




Year
      of Lease Termination
                      
                      Number
                        of Leases
                        Expiring
                      
                      
                      Square Footage of
                        Expiring
      Leases
                      
                      
                      Percentage
      of
                        Total
                        Rentable
                        Square Feet(1)
                      
                      
                      Annualized
      Base
                        Rent of Expiring
                        Leases(2)
                      
                      
                      Percentage of Portfolio
                        Annualized Base RentMonth
      to Month
                      
                      
                      303
                      
                      
                      
                      1,620,285
                      
                      
                      
                      37.9
                      %
                      
                      $
                      15,636,801
                      
                      
                      
                      68.6
                      %2009
                      
                      
                      31
                      
                      
                      
                      233,515
                      
                      
                      
                      5.5
                      %
                      
                      
                      1,848,642
                      
                      
                      
                      8.1
                      %2010
                      
                      
                      23
                      
                      
                      
                      229,781
                      
                      
                      
                      5.4
                      %
                      
                      
                      2,490,769
                      
                      
                      
                      10.9
                      %2011
                      
                      
                      4
                      
                      
                      
                      154,278
                      
                      
                      
                      3.6
                      %
                      
                      
                      1,151,604
                      
                      
                      
                      5.1
                      %2012
                      
                      
                      1
                      
                      
                      
                      24,694
                      
                      
                      
                      0.5
                      %
                      
                      
                      343,200
                      
                      
                      
                      1.5
                      %2013
                      
                      
                      1
                      
                      
                      
                      59,000
                      
                      
                      
                      1.3
                      %
                      
                      
                      1,320,000
                      
                      
                      
                      5.8
                      %Thereafter
                      
                      
                      0
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Total
                      
                      
                      363
                      
                      
                      
                      2,321,553
                      
                      
                      
                      54.2
                      %
                      
                      $
                      22,791,016
                      
                      
                      
                      100.0
                      %





(1)
            Based
      on total square footage of 4,279,363, which is the total square footage of
      space leased or available or offered for lease at both rental and
      development projects and excludes substantial portions of square footage
      in the projects that are not available or offered for lease because of
      redevelopment or repositioning activities.  Parking square
      footage is not included in the
calculation.


(2)
            Based
      on annualized base rent paid or payable as of December 31, 2008. Because
      annualized base rent is not derived from historical results that were
      accounted for in accordance with U.S. generally accepted accounting
      principles, historical results differ from the annualized
      amounts.  Annualized base rent does not include parking
      income.




Item
3.                                Legal
Proceedings





From time
to time, we are party to various lawsuits, claims and other legal proceedings,
including those identified below, none of which we currently believe are
material. We intend to vigorously seek enforcement of our rights and defend
ourselves in each of these matters.





With
respect to our specific performance action related to Overland Terminal, the
judgment of specific performance we obtained in our favor at the trial court
level was affirmed on appeal and became final, and we acquired the property on
September 3, 2008 pursuant to the judgment.  As a result, this action
has been finally and fully concluded.  The project subsequently has
been sold to a third party.




With respect
to our specific performance action related to 9901 Alameda, we exercised our
rights under the judgment in our favor to purchase the property and thereafter
sold the property as contemplated, which sale closed on March 31,
2008.  All rights of appeal were waived by both parties in the
specific performance action, and this matter has therefore been finally and
fully concluded.




With respect
to our Pomona East project, our secured lender has commenced a nonjudicial
foreclosure proceeding by filing, on February 17, 2009, a notice of default and
election to sell in the real property records.




With respect
to our 788 S. Alameda project, our secured lender has commenced a judicial
foreclosure proceeding by filing an action on March 4, 2009 in the Superior
Court of the County of Los Angeles, and has additionally requested the
appointment of a receiver for this project.  A hearing regarding the
appointment of receiver is scheduled for March 30, 2009.





There are
other lawsuits, claims and legal proceedings that arise in the ordinary course
of our business, including tenant eviction proceedings and other tenant
disputes, and personal injury matters, none of which we currently believe are
material.  We intend to vigorously seek judicial enforcement of our
rights in these proceedings as well.


30





Item
4.                                Submission
of Matters to a Vote of Security Holders





There were no matters submitted to a
vote of our stockholders during the fourth quarter of the year ended December
31, 2008.





PART
II





Item
5.                                Market
for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities





Market
Information





Our common stock has been listed and is
traded on the Nasdaq Global Market under the symbol “MMPI” since January 26,
2007.  The following table presents the high and low sales prices for
our common stock as reported by the Nasdaq Global Market for the period from
January 26, 2007 to December 31, 2008.





High
                
                
                LowPeriod
      from January 26, 2007 to March 31, 2007
                
                $
                10.90
                
                
                $
                7.55Quarter
      Ended June 30, 2007
                
                
                8.83
                
                
                
                7.11Quarter
      Ended September 30, 2007
                
                
                8.29
                
                
                
                4.59Quarter
      Ended December 31, 2007
                
                
                6.70
                
                
                
                3.14Quarter
      Ended March 31, 2008
                
                
                5.80
                
                
                
                2.31Quarter
      Ended June 30, 2008
                
                
                3.28
                
                
                
                1.60Quarter
      Ended September 30, 2008
                
                
                2.62
                
                
                
                0.85Quarter
      Ended December 31, 2008
                
                
                1.30
                
                
                
                0.33





The per-share closing price for our
common stock, as reported by the Nasdaq Global Market on March 12, 2009, was
$0.08.





Holders
of Our Common Stock





As of March 13, 2009, there were
approximately 691 record holders of our common stock, including shares held
in “street name” by nominees who are record holders, but excluding employees
that received stock awards under our 2007 Equity Incentive Plan.





Dividends





We did not pay any cash dividends
during the years ended December 31, 2007 and December 31, 2008 and do not
anticipate paying any in the foreseeable future.


31


Recent
Sales of Unregistered Securities




On December 31, 2008,
pursuant to obligations we entered into in connection with our IPO and formation
transactions, and in consideration of services rendered or to be rendered to the
operating partnership, our operating partnership issued 20,000 LTIP units to
certain of our executive officers.




The LTIP units are
subject to forfeiture provisions that expire ratably on each of the first three
anniversaries of the date of grant. Forfeitability provisions generally will
expire on the death or disability of the officer or the termination of such
officer by us or the operating partnership without cause. The LTIP units were
issued in reliance on an exemption from registration under Section 4(2) of
the Securities Act of 1933 and Regulation D promulgated thereunder. We relied on
the exemption based on representations given by the recipients of the
securities.




LTIP units are a special
class of partnership interests in our operating partnership that initially have
a liquidation value of zero. LTIP units will receive the same quarterly per unit
profit distributions, if any, as common units of our operating partnership,
except for disposition proceeds distributed prior to the corresponding “LTIP
Equalization Date” for such LTIP units, as described below. Common units in our
operating partnership will receive a distribution amount per unit equal to the
dividend amount per share of our common stock. We have not declared or paid any
dividends to date. Upon a certain event that we refer to as the LTIP
Equalization Date, LTIP units may be converted, at the election of the holder,
into one common unit in our operating partnership (or cash, at the election of
our operating partnership). Common units in our operating partnership are
redeemable at the election of the holder for (i) cash equal to the then fair
market value of one share of our common stock, or (ii) at our option, one share
of our common stock.








32


Performance
Graph





The following graph compares the
cumulative total shareholder return on the Common Stock of Meruelo Maddux
Properties, Inc. from January 26, 2007 (the date upon which our Common Stock
began publicly trading) through December 31, 2008 with the cumulative total
return on the NASDAQ Composite index and an appropriate “peer group” index, the
Dow Jones Wilshire Real Estate Holding & Development Index (assuming the
investment of $100 in our Common Stock and in each of the indexes on January 26,
2007).










The
actual returns displayed in the graph above are as follows:





1/26/07
            3/31/07
            6/30/07
            9/30/07
            12/31/07
            3/31/08
            6/30/08
            9/30/08
            12/31/08Meruelo
      Maddux Properties
            100.00
            82.55
            76.98
            55.75
            37.74
            23.96
            20.57
            11.51
            11.70NASDAQ
      Composite
            100.00
            100.45
            107.54
            112.06
            109.18
            93.83
            94.79
            84.12
            63.61DJ
      Wilshire Real Estate Holding & Development
            100.00
            103.28
            100.71
            86.88
            72.08
            70.34
            60.51
            53.85
            28.67








33


Item
6.                                Selected
Financial Data





The following tables set forth selected
consolidated financial and operating data for our company and on a combined
historical basis for our predecessor business.  Our company (which was
formed for the purposes of our IPO and is not the predecessor) did not have any
material corporate activity before January 30, 2007, the date on which we
consummated our IPO.  Accordingly, information in the following tables
as of any date or for any period before January 30, 2007 reflects the financial
and operating data for our predecessor business.




The
following consolidated financial and other data for the year ended December 31,
2008 consists of information about our company.  The following summary
combined financial and other data for the year ended December 31, 2007 consists
of information about our predecessor business for the period from January 1,
2007 to January 29, 2007 and about our company for the period from January 30,
2007 to December 31, 2007.  The following summary combined financial
and other data for the years ended December 31, 2006, 2005 and 2004 reflect the
historical financial data of our predecessor business, which was not a legal
entity but a combination of multiple limited liability companies and
corporations previously owned by two affiliates of Mr. Meruelo and one
affiliate of Mr. Maddux. The data for the years ended December 31, 2008,
2007 and 2006 has been derived from audited financial statements contained
elsewhere in this report. The data for the years ended December 31, 2005 and
2004 has been derived from audited financial statements not contained in this
report. The audited historical combined financial statements include all
adjustments, consisting of normal recurring adjustments, which we consider
necessary for a fair presentation of our financial condition and the results of
operations as of such dates and for such periods under U.S. generally accepted
accounting principles.





The
following financial data should be read in conjunction with the “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and
the audited financial statements and related notes included elsewhere in this
Form 10-K.


34


Selected
Consolidated Financial and Other Data


(in
thousands)





The
      Company
                  
                  
                  The
      PredecessorYear
      ended December 31, 2008
                  
                  
                  Period
      from
                    January
      30, 2007 to
                    December
      31, 2007
                  
                  
                  Period
      from
                    January
      1, 2007 to
                    January
      29, 2007
                  
                  
                  Year
      ended December 31,2006
                  
                  
                  2005
                  
                  
                  2004Revenue:Rental
      income
                  
                  $
                  22,709
                  
                  
                  $
                  19,617
                  
                  
                  $
                  1,922
                  
                  
                  $
                  22,327
                  
                  
                  $
                  16,526
                  
                  
                  $
                  11,836Management
      fees
                  
                  
                  285
                  
                  
                  
                  260
                  
                  
                  
                  12
                  
                  
                  
                  285
                  
                  
                  
                  602
                  
                  
                  
                  142Interest
      income
                  
                  
                  839
                  
                  
                  
                  2,824
                  
                  
                  
                  205
                  
                  
                  
                  3,614
                  
                  
                  
                  2,942
                  
                  
                  
                  –Other
      income
                  
                  
                  351
                  
                  
                  
                  493
                  
                  
                  
                  28
                  
                  
                  
                  751
                  
                  
                  
                  794
                  
                  
                  
                  628Total
      Revenues
                  
                  
                  24,184
                  
                  
                  
                  23,194
                  
                  
                  
                  2,167
                  
                  
                  
                  26,977
                  
                  
                  
                  20,864
                  
                  
                  
                  12,606Expenses:Rental
      expenses
                  
                  
                  15,291
                  
                  
                  
                  12,097
                  
                  
                  
                  992
                  
                  
                  
                  10,097
                  
                  
                  
                  7,673
                  
                  
                  
                  5,089Interest
      expense
                  
                  
                  11,445
                  
                  
                  
                  8,630
                  
                  
                  
                  2,134
                  
                  
                  
                  25,015
                  
                  
                  
                  16,492
                  
                  
                  
                  6,188Depreciation
      and amortization
                  
                  
                  7,091
                  
                  
                  
                  5,390
                  
                  
                  
                  363
                  
                  
                  
                  3,960
                  
                  
                  
                  2,502
                  
                  
                  
                  1,987Impairment
      loss on real estate assets
                  
                  
                  142,295
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –General
      and administrative
                  
                  
                  9,524
                  
                  
                  
                  8,991
                  
                  
                  
                  628
                  
                  
                  
                  6,045
                  
                  
                  
                  4,222
                  
                  
                  
                  1,934Total
      Expenses
                  
                  
                  185,646
                  
                  
                  
                  35,108
                  
                  
                  
                  4,117
                  
                  
                  
                  45,117
                  
                  
                  
                  30,889
                  
                  
                  
                  15,198Loss
      from continuing operations before minority interests and income
      taxes
                  
                  
                  (161,462
                  )
                  
                  
                  (11,914
                  )
                  
                  
                  (1,950
                  )
                  
                  
                  (18,140
                  )
                  
                  
                  (10,025
                  )
                  
                  
                  (2,592
                  )Minority
      interests
                  
                  
                  (843
                  )
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –Benefit
      for income taxes
                  
                  
                  51,933
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –Loss
      from continuing operations
                  
                  
                  (110,372
                  )
                  
                  
                  (11,914
                  )
                  
                  
                  (1,950
                  )
                  
                  
                  (18,140
                  )
                  
                  
                  (10,025
                  )
                  
                  
                  (2,592
                  )Income
      (loss) from discontinued operations
                  
                  
                  163
                  
                  
                  
                  45
                  
                  
                  
                  (54
                  )
                  
                  
                  (252
                  )
                  
                  
                  –
                  
                  
                  
                  –Gain
      on sale of real estate
                  
                  
                  14,189
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  1,329
                  
                  
                  
                  –
                  
                  
                  
                  3,183Net
      income (loss) from discontinued operations
                  
                  
                  14,352
                  
                  
                  
                  45
                  
                  
                  
                  (54
                  )
                  
                  
                  1,077
                  
                  
                  
                  –
                  
                  
                  
                  3,183Net
      (loss) income
                  
                  $
                  (96,020
                  )
                  
                  $
                  (11,869
                  )
                  
                  $
                  (2,004
                  )
                  
                  $
                  (17,063
                  )
                  
                  $
                  (10,025
                  )
                  
                  $
                  591


35


Selected Consolidated Financial and
Other Data


(in
thousands)




The
      Company
                    
                    
                    The
      PredecessorYear
      ended December 31, 2008
                    
                    
                    Period
      from January 30, 2007 to December 31, 2007
                    
                    
                    Period
      from January 1, 2007 to January 29, 2007
                    
                    
                    Year
      ended December 31,2006
                    
                    
                    2005
                    
                    
                    2004Balance
      Sheet Data (at period end):Investments
      in real estate
                    
                    $
                    645,755
                    
                    
                    $
                    767,885
                    
                    
                    
                    N/A
                    
                    
                    $
                    494,809
                    
                    
                    $
                    407,649
                    
                    
                    $
                    122,190Total
      assets
                    
                    
                    681,769
                    
                    
                    
                    784,180
                    
                    
                    
                    N/A
                    
                    
                    
                    508,057
                    
                    
                    
                    427,352
                    
                    
                    
                    125,810CalPERS
      and mortgages notes
                    
                    
                    328,229
                    
                    
                    
                    307,394
                    
                    
                    
                    N/A
                    
                    
                    
                    492,643
                    
                    
                    
                    431,141
                    
                    
                    
                    109,406Total
      liabilities
                    
                    
                    342,022
                    
                    
                    
                    365,125
                    
                    
                    
                    N/A
                    
                    
                    
                    553,114
                    
                    
                    
                    449,733
                    
                    
                    
                    119,207Owners'
      equity (deficit)
                    
                    
                    339,244
                    
                    
                    
                    419,055
                    
                    
                    
                    N/A
                    
                    
                    
                    (45,057
                    )
                    
                    
                    (22,381
                    )
                    
                    
                    6,603Total
      liabilities and stockholders' / owners equity
                    
                    
                    681,769
                    
                    
                    
                    784,180
                    
                    
                    
                    N/A
                    
                    
                    
                    508,057
                    
                    
                    
                    427,352
                    
                    
                    
                    125,810Other
      Data:EBITDA
      (1)
                    
                    
                    24,561
                    
                    
                    
                    3,708
                    
                    
                    
                    575
                    
                    
                    
                    12,252
                    
                    
                    
                    8,969
                    
                    
                    
                    8,766Cash
      flows from (used in) :Operating
      activities
                    
                    
                    (8,216
                    )
                    
                    
                    (7,210
                    )
                    
                    
                    226
                    
                    
                    
                    (15,852
                    )
                    
                    
                    (17,169
                    )
                    
                    
                    (1,899
                    )Investing
      activities
                    
                    
                    (26,240
                    )
                    
                    
                    (217,015
                    )
                    
                    
                    (3,171
                    )
                    
                    
                    (62,261
                    )
                    
                    
                    (276,182
                    )
                    
                    
                    (56,110
                    )Financing
      activities
                    
                    
                    35,886
                    
                    
                    
                    226,268
                    
                    
                    
                    1,551
                    
                    
                    
                    70,999
                    
                    
                    
                    301,853
                    
                    
                    
                    58,815Reconciliation
      of EBITDA to Net (Loss) Income:Net
      (loss) income
                    
                    $
                    (96,020
                    )
                    
                    $
                    (11,869
                    )
                    
                    $
                    (2,004
                    )
                    
                    $
                    (17,063
                    )
                    
                    $
                    (10,025
                    )
                    
                    $
                    591Plus:Interest
      expense
                    
                    
                    12,206
                    
                    
                    
                    9,513
                    
                    
                    
                    2,205
                    
                    
                    
                    25,333
                    
                    
                    
                    16,492
                    
                    
                    
                    6,188Depreciation
      and amortization
                    
                    
                    7,568
                    
                    
                    
                    6,064
                    
                    
                    
                    374
                    
                    
                    
                    3,982
                    
                    
                    
                    2,502
                    
                    
                    
                    1,987Net
      tax benefit
                    
                    
                    (42,331
                    )
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Minority
      interests
                    
                    
                    843
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Impairment
      on real estate assets
                    
                    
                    142,295
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -EBITDA
                    
                    $
                    24,561
                    
                    
                    $
                    3,708
                    
                    
                    $
                    575
                    
                    
                    $
                    12,252
                    
                    
                    $
                    8,969
                    
                    
                    $
                    8,766





(1)
            EBITDA
      is defined as net income (loss) before interest, taxes, depreciation and
      amortization. We believe it is a useful financial performance measure for
      us and for our stockholders and is a complement to net income and other
      financial performance measures provided in accordance with generally
      accepted accounting principles in the United States of America, or GAAP.
      We use EBITDA to measure the financial performance of our operating
      properties because it excludes expenses such as depreciation and
      amortization, taxes and interest expense, which are not indicative of
      operating performance. By excluding interest expense, EBITDA measures our
      financial performance irrespective of our capital structure or how we
      finance our properties and operations. By excluding depreciation and
      amortization expense, which can vary from property to property based on a
      variety of factors unrelated to the properties’ financial performance, we
      can more accurately assess the financial performance of our properties.
      Under GAAP, real estate properties are recorded at historical cost at the
      time of acquisition and are depreciated on a straight line basis. By
      excluding depreciation and amortization, we believe EBITDA provides a
      basis for measuring the financial performance of properties unrelated to
      historical cost. However, because EBITDA excludes depreciation and
      amortization, it does not measure the capital we require to maintain or
      preserve our fixed assets. In addition, because EBITDA does not reflect
      interest expense, it does not take into account the total amount of
      interest we pay on outstanding debt nor does it show trends in interest
      costs due to changes in our borrowings or changes in interest rates.
      EBITDA, as calculated by us, may not be comparable to EBITDA reported by
      other companies that do not define EBITDA exactly as we define the term.
      Because we use EBITDA to evaluate our financial performance, we reconcile
      it to net income (loss), which is the most comparable financial measure
      calculated and presented in accordance with GAAP. EBITDA does not
      represent cash generated from operating activities determined in
      accordance with GAAP, and should not be considered as an alternative to
      operating income or net income determined in accordance with GAAP as an
      indicator of performance or as an alternative to cash flows from operating
      activities as an indicator of
liquidity.







36


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





The
following discussion relates to the consolidated and combined financial
statements of our company and our predecessor business and should be read in
conjunction with the financial statements and notes thereto appearing elsewhere
in this report. Statements included below that are not historical may be
forward-looking statements, including information concerning development timing
and investment amounts. See “Forward-Looking Statements.” These statements are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those anticipated. Although the information is based on
our current estimations, actual results could vary. You are cautioned not to
place undue reliance on this information. For a discussion of important risks
related to our business, and an investment in our common stock, see the
discussion under the caption “Risk Factors” above and under the caption “Factors
That May Influence Future Results of Operations” below. References in the
discussion below, unless the context suggests otherwise, “we,” “our,” “us” or
“our company” mean Meruelo Maddux Properties, Inc. and its
subsidiaries.




Overview
and Background




We are a
self-managed, full-service real estate company that develops, redevelops and
owns commercial and residential properties located in downtown Los Angeles and
other densely populated urban areas in California that are undergoing
demographic or economic changes. As of December 31, 2008, we own 46 projects and
lease with right to purchase one project.  We terminated the lease and
the option to purchase this project during the first quarter of
2009.




We were
formed to succeed certain operations of the Meruelo Maddux predecessor, which
was not a legal entity but rather a combination of entities and operations whose
owners were Richard Meruelo, Maria Meruelo and John Charles Maddux and were
collectively doing business as Meruelo Maddux, an owner, developer and acquirer
of industrial, commercial and residential properties.  We were
incorporated in Delaware on July 5, 2006 in anticipation of our initial public
offering of common stock (our “IPO”), which was consummated on January 30, 2007
concurrently with the consummation of various formation
transactions.   The formation transactions and IPO were designed
to (i) allow us to acquire and continue the operations of our predecessor
business, (ii) pay down existing mortgage debt, (iii) payoff a
mezzanine loan facility from the State of California Public Employees’
Retirement System, or CalPERS, (iv) provide capital for future
acquisitions, (v) fund future development costs, and (vi) establish a
capital reserve for general corporate purposes. Prior to the formation
transactions our company (which was formed for the purposes of our IPO and is
not the predecessor) did not have any meaningful operating
activity.  Accordingly, as a result of the formation transactions, our
consolidated financial statements are not comparable to the combined financial
statements of the predecessor.




We
commenced substantial operations upon completion of our IPO and sold to the
public 40,000,000 shares of our common stock at $10.00 per share. On
February 14, 2007, the underwriters of our IPO exercised their option to
purchase an additional 5,550,000 shares of our common stock at $10.00 per share.
Including the shares issued in the over-allotment option, we raised
approximately $425.7 million in proceeds in our IPO, after the underwriting
discount but before expenses related to the IPO. Our company’s operations are
predominantly carried on through, and its assets are owned through, Meruelo
Maddux Properties, L.P., which we refer to as our operating partnership. As of
December 31, 2008, we held a 99.6% interest in our operating
partnership.  The 0.4% of minority interests consists of 347,835 LTIP
units that have achieved parity with common units in our operating partnership.
The interest will become 99.0% if 520,000 additional LTIP units achieve
parity.  We are also the sole general partner of our operating
partnership.  We are structured as a taxable corporation under
Subchapter C of the Internal Revenue Code of 1986, as amended (the
“Code”).   As of December 31, 2008, we had 88,076,987 shares of
common stock outstanding.





In
addition, as of January 30, 2007, the operations of our company are carried on
primarily through Meruelo Maddux Properties, L.P. (the “operating partnership”).
Our company is the sole general partner in the operating partnership. Pursuant
to contribution agreements among us and the owners of our predecessor business,
we received a contribution of interests in real estate properties in exchange
for shares of common stock in our company, cash tax coverage payments and our
assumption of debt and other specified liabilities. Our predecessor business
combined 50 limited liability companies and three S-corporations with their
respective member/ownership interests. In connection with our IPO and our
formation transactions, we acquired entities that own, or that are party to
pending purchase and sale agreements, build-to-suit contracts, options to
purchase and leases in respect of 32 development and redevelopment projects and
22 rental projects.







37




We
experience significant, recurring cash shortfalls from (i) operating activities,
(ii) recurring investment activities such as carrying costs for interest
payments, real estate taxes and unfunded development expenditures and (iii)
capital expenditures on existing rental properties.  Moreover, the
current economic recession and associated disruption in the debt and equity
capital markets have been extremely challenging for us and have made it
difficult for us to refinance our maturing indebtedness or to generate liquidity
by selling assets. As of December 31, 2008, we had $4.5 million in unrestricted
cash.




We lack
the necessary cash flow or liquidity to continue making required monthly
payments on our loans or to repay our maturing loans.  We have stopped
making interest and principal payments on, and may be declared in default under,
26 of our 30 loans totaling $266.0 million.  We continue to make
interest payments on our construction loan at 717 W. Ninth Street and on other
three other loans that have interest reserves.  In addition, on
December 15, 2008, we did not make a $4.0 million principal repayment on a $17.0
million land loan. The lender subsequently agreed to defer the principal
repayment.  On March 15, 2009, we will owe another $5.0 million in
principal on this land loan.  Additionally, we have not paid or been
able to extend or refinance three other loans totaling $86.9 million that
matured on February 28, 2009 and March 1, 2009.




We are
currently seeking loan workout agreements with four depository lenders on loans
that total $177.8 million.  We are unsure as to what results will be
derived from such efforts and are exploring various restructuring options with
our professional advisors.




Additionally,
we received a “going concern” opinion from our independent auditors with respect
to our financials included this report.  There may be substantial
doubt about our ability to continue as a going concern because of cash
shortfalls from rental and development operations, a need for loan
restructurings and the related difficulties in obtaining loan extensions and the
timing and magnitude of non-core asset sales.




In
addition to seeking loan workouts we have reduced our employee base and have
suspended all substantial development efforts, except for the funded development
activity at our 717 W. Ninth St. project. We are also
examining all feasible strategic alternatives.  Potential
strategic alternatives include a voluntary bankruptcy filing under Chapter
11 of the U.S. Bankruptcy code.  It is also possible that an
involuntary petition for bankruptcy may be filed against us.





As of
December 31, 2008, we have 99.6% ownership interests in each of the entities
(which have ownership, leasehold or acquisition rights in respect of the
projects indicated in parentheses) as summarized below.




Rental
Properties:




•
            788
      South Alameda, LLC (788 S. Alameda)




•
            Merco
      Group — 3185 E. Washington Boulevard, LLC (Washington Cold
      Storage)




•
            Meruelo
      Maddux — 500 Mateo Street, LLC (500 Mateo
  Street)




•
            Alameda
      Produce Market, Inc. (Alameda Square & Seventh Street Produce
      Market)




•
            Meruelo
      Wall Street, LLC (Meruelo Wall
Street)




•
            Merco
      Group — 620 Gladys Avenue, LLC (620 Gladys
  Avenue)




•
            Meruelo
      Maddux Properties — 1919 Vineburn Street, LLC (1919 Vineburn Avenue)




•
            Merco
      Group — 1500 Griffith Avenue, LLC (1500 Griffith
  Avenue)




•
            Santa
      Fe Commerce Center, Inc. (Crown Commerce
Center)




•
            905
      8th
      Street, LLC (905 E. 8th
      Street)




38


•
            Merco
      Group — 1211 E. Washington Boulevard, LLC (1211 E. Washington
      Blvd. & Washington at Central
Retail)




•
            Meruelo
      Maddux — 3rd &
      Omar Street, LLC (3rd &
      Omar Street)




•
            Merco
      Group, LLC (Sky Arc—Development Project and Southern California Institute
      of Architects—Operating Project)




•
            Santa
      Fe & Washington Market, Inc. (American
  Apartments)




•
            Merco
      Group — 2001-2021 West Mission Boulevard, LLC (Pomona East and Pomona
      West)




•
            Meruelo
      Farms, LLC (Center Village)





•
            Meruelo
      Maddux Properties — 306-330 N. Avenue 21, LLC (2131 Humboldt
      Street)




•
            Merco
      Group — 5707 S. Alameda, LLC (5707 S.
Alameda)




•
            Meruelo Maddux
      — 1000 E. Cesar Chavez, LLC (1000 E. Cesar
  Chavez)





•
            Merco
      Group — Little J, LLC (TransAmerica Lofts – Operating Project and
      Southpark Towers – Development
Project)





•
            Meruelo
      Maddux — 420 Boyd Street, LLC (420 Boyd
Street)





•
            Meruelo
      Maddux — 230 W. Avenue 26, LLC (230 W. Ave. 26th)





•
            2640
      Washington Boulevard, LLC (Washington Produce
  Market)





•
            Meruelo
      Maddux — 2415 E. Washington Blvd., LLC (Crown Commerce
    Center)





•
            Merco
      Group — 2529 Santa Fe Avenue, LLC (Santa Fe
  Plaza)





•
            Meruelo
      Maddux Properties — 2951 Lenwood Road, LLC (Barstow Produce
      Center)





•
            Meruelo
      Maddux Properties — 760 S. Hill Street, LLC (The Union
    Lofts)




Real
Estate Held for Development:




•
            Meruelo
      Maddux — 555 Central Avenue, LLC (American
Fish)




•
            Meruelo
      Maddux Properties — 2131 Humboldt Street, LLC (2131 Humboldt
      Street)





•
            Merco
      Group — Ceres Street Produce, LLC (Ceres Street Produce
      Market)





•
            Merco
      Group — 1225 E. Washington Boulevard, LLC (Crown Commerce
      Center)




•
            1828
      Oak Street, LLC (1828 Oak Street)




•
            Merco
      Group — 4th
      Street Center, LLC (4th
      Street Center)





•
            Merco
      Group — 425 West 11th
      Street, LLC (Desmond Building)




•
            Merco
      Group — 1308 S. Orchard, LLC (Musica Latina
  Building)




•
            Merco
      Group — 801 E. 7th
      Street, LLC (801 E. 7th
      Street)





•
            Merco
      Group — 2035 Camfield Avenue, LLC (Camfield Retail Center and Gold’s
      Gym & Storage)





39


•
            Merco
      Group — 2040 Camfield Avenue, LLC (Camfield Retail Center and Gold’s
      Gym & Storage)





•
            Meruelo
      Maddux — 845 S. Flower Street, LLC (717 W. Ninth
  Street)




•
            Meruelo
      Maddux — 915-949 S. Hill Street, LLC (Ullman Tower
  One)




•
            Meruelo
      Maddux — 817-825 S. Hill Street, LLC (Ullman Tower
  Two)




•
            Merco
      Group — Southpark, LLC (Southpark Towers, TransAmerica Lofts &
      Olive Street Towers)




•
            Meruelo
      Maddux — 336 W. 11th
      Street, LLC (Southpark Towers)




•
            Meruelo
      Chinatown, LLC (Meruelo Chinatown
Village)




•
            Meruelo
      Baldwin Park, LLC (Meruelo Baldwin
Park)




•
            Meruelo
      Maddux Properties — 1060 N. Vignes, LLC (Vignes
  Village)




•
            Meruelo
      Maddux Properties — 1009 North Citrus Avenue, Covina, LLC (Citrus
      Gardens)




•
            Merco
      Group — 146 E. Front Street, LLC (Covina
  Gardens)




•
            Meruelo
      Maddux Properties — 12385 San Fernando Road, LLC (San Fernando
      Court)




Other Entities:




•
            Meruelo
      Maddux Construction, Inc.




•
            Meruelo
      Maddux California Future Fund, LLC





•
            MMP
      Ventures, LLC





•
            Meruelo
      Maddux Properties, LP





•
            Meruelo
      Maddux Management, LLC





•
            Alameda
      North Parking, LLC





•
            Funes
      Architecture, LLC





•
            Santa
      Fe Commerce Center, Inc.





Significant
Financing Transactions




The State
of California Public Employee’s Retirement System, or CalPERS, had been a
substantial investor in our predecessor business. In February 2005, CalPERS had
provided our predecessor business with capital in the form of a revolving credit
facility in the principal amount of approximately $150.0 million. We used a
portion of the net proceeds of our IPO to pay all amounts outstanding under the
CalPERS facility, including $34.2 million in accrued interest, and terminated
the facility. We further reduced interest expense by repaying approximately
$109.9 million of net principal mortgage debt secured by our
projects.





During
the year ended December 31, 2008, we entered into an $84.0 million construction
loan facility with an affiliate of Canyon Capital Realty Advisors LLC located in
Los Angeles, California to provide for the completion of the construction of our
class A, high-rise apartment project located at 717 W. Ninth
Street.  This flexible or bridge construction loan is for an initial
18-month term with five extension options of six months each for a total
possible term of 48 months.  The interest rate of this loan is fixed
at 12.0% per annum through final maturity.  The commitment fee was
1.5% of the total loan amount for the initial 18-month
term.  Extension fees are 0.5% of the commitment for the first three
extensions, 1.0% for the fourth extension and 1.5% for the fifth
extension.  The loan may be repaid in full at anytime within the
initial term for a prepayment penalty that provides for the lender to earn a
minimum of 12 months of interest on the loan funds advanced.  After
the initial term, the loan may be repaid in full with no prepayment
penalty.




40


Revenue
Base




As of
December 31, 2008 and 2007, we had 28 and 27 projects, respectively, that
were classified as rental properties. We receive revenue primarily from rental
income (including tenant reimbursements) from commercial and industrial
properties, which is included as rental income in the financial statements of
our company and our predecessor business. We also generate a small amount
ofmanagement fee
revenue by providing property management, leasing and development services to
properties that are owned by affiliates. However, our business plan is
distinctive in that we focus on urban infill development and on finding
different, more profitable uses for existing urban properties. Such properties
may have substantial vacancies or unstable occupancies or require major
renovation for a new use. Because we are foremost a redeveloper and the large
majority of our projects are not complete, we do not believe that the results of
our current leasing operations are indicative of the inherent value of our
existing portfolio.





Recent
Developments





On
January 28, 2009, we drew down the second tranche of $42.0 million of our 717 W
9th
Street loan.  The loan balance is now $84.0 million.




Subsequent
to year-end, we have resolved the two outstanding purchase obligations discussed
earlier in this report.   On January 5, 2009, we terminated our lease
and option rights at our American Fish project in exchange for a portion of the
sales proceeds.  As of February 17, 2009, we have terminated the purchase
obligation for 1828 Oak Street.




As
previously mentioned, we may be in default as we have not been able to extend or
refinance any of the approximately $86.9 million in loans that matured in the
first quarter of 2009 and we did not make a scheduled $5.0 million principal
paydown due on a land loan in the first quarter of 2009.  We also
recently stopped making our regular monthly interest and principal payments on
26 of our 30 loans.  As a result, two of our secured lenders have
commenced foreclosure proceedings.  With respect to our Pomona East
project, our secured lender has commenced a nonjudicial foreclosure proceeding
by filing, on February 17, 2009, a notice of default and election to sell in the
real property records.  With respect to our 788 S. Alameda project,
our secured lender has commenced a judicial foreclosure proceeding by filing an
action on March 4, 2009 in the Superior Court of the County of Los Angeles, and
has additionally requested the appointment of a receiver for this
project.  A hearing regarding the appointment of receiver is scheduled
for March 30, 2009.





Critical
Accounting Policies




Our
discussion and analysis of the financial condition and results of operations of
our company and our predecessor are based upon the consolidated and combined
financial statements, and schedules which have been prepared in accordance with
U.S. generally accepted accounting principles, or GAAP. The preparation of
financial statements in conformity with GAAP requires management to make
estimates and assumptions in certain circumstances that affect the reported
amounts of assets and liabilities at the date of the financial statements and
the reported amount of revenues and expenses in the reporting period. Actual
amounts may differ from those estimates and assumptions. We have provided a
summary of our significant accounting policies in Note 3 to the consolidated and
combined financial statements included elsewhere in this report. We have
summarized below those accounting policies that require material subjective or
complex judgments and have the most significant impact on our financial
condition and results of operations. We evaluate these estimates on an ongoing
basis, based upon information currently available and on various assumptions
that we believe are reasonable as of that date.




41


Real
Estate Held for Development




Real
estate held for development includes land and buildings (at cost) we intend to
or have begun developing.   We start to capitalize costs to real
estate held for development as we take steps required to prepare the property
for its intended use. Project costs associated with the development and
construction of a real estate project, including land, entitlement and building
improvement costs, are capitalized as construction in progress. In addition,
interest, loan fees, real estate taxes, general and administrative expenses that
are directly associated with the development are also capitalized in the period
in which they are incurred. We reduce these capitalized costs for incidental
revenue generated from tenant leases, parking income and movie
shoots.  If we temporarily suspend development activities which we had
previously commenced, we cease capitalizing costs.  We will continue
to expense these costs until we renew our development
activities.  Once the real estate project is completed and the project
is ready for its intended use, the costs capitalized to construction in progress
and the land and building costs associated with the completed project are
transferred to rental properties on the consolidated balance sheet as the
historical cost of the project.





Rental
Properties




Rental
properties, including land, building improvements and capitalized leasing
commissions, are stated at cost, less accumulated depreciation. We are required
to make subjective assessments as to the useful lives of our assets for purposes
of determining the amount of depreciation to record on an annual basis with
respect to our buildings and building improvements. These assessments are
primarily based upon our decision to either develop or operate a property. For
example, if we determine that we will be developing a property and the building
will be replaced upon commencement of construction, the estimated useful life
will be the time from the date of purchase to the estimated date of demolition.
Upon completion of the development, buildings and building improvements are
depreciated over estimated useful lives ranging from 2 to 39 years. Tenant
improvements are depreciated over the term of the respective tenant leases.
Capitalized lease commissions are amortized over the term of the related
leases.




Costs
related to the acquisition and improvement of the rental properties are
capitalized, while expenses for repairs and maintenance are charged to
operations as incurred. In certain cases, certain expenses such as property
taxes, utilities and repair and maintenance costs are chargeable to the tenants
as provided in their lease agreements. Such reimbursements are recorded as
rental income in the consolidated and combined statements of operations. Costs
related to terminated deal costs are expensed when we cease due diligence and
related acquisition efforts.




The acquisition of real estate
properties is accounted for in accordance with SFAS No. 141, Business Combinations(“SFAS
141”)whereby the
value of real estate acquired is allocated between land, buildings and
improvements, acquired leasing commissions and tenant coordination costs, and to
acquired above- and below-market leases and tenant relationships. The fair value
of tangible assets is determined on an “as-if-vacant” basis based upon
comparable sales and other relevant information obtained in connection with the
acquisition of the property. The estimated fair value of acquired in-place
at-market leases are the costs we would have incurred to lease property to the
occupancy level of the property at the date of acquisition. Such estimate
includes the fair value of leasing commissions and legal costs that would be
incurred to lease the property to this occupancy level. Additionally, we
evaluate the time period over which such occupancy level would be achieved and
include an estimate of the net operating costs (primarily real estate taxes,
insurance and utilities) incurred during the lease-up period, which generally
ranges up to eight to nine months. These allocations have a direct impact on our
results of operations as allocations between land, buildings and improvements
because, if we were to allocate more value to land, there would be no
depreciation with respect to such amount. If we were to allocate more value to
the buildings as opposed to allocating the value of tenant leases, this amount
would be recognized as an expense over a much longer period of time, since the
amounts allocated to buildings are depreciated over the estimated lives of the
buildings whereas amounts allocated to tenant leases are amortized over the
terms of the leases.




Revenue
Recognition




Revenue
is recognized in accordance with Staff Accounting Bulletin No. 104 of the
Securities and Exchange Commission, Revenue Recognition (“SAB
104”), as amended. SAB 104 requires that four basic criteria must be met before
revenue can be recognized: persuasive evidence of an arrangement exists; the
delivery has occurred or services rendered; the fee is fixed and determinable;
and collectibility is reasonably assured. All leases are classified as operating
leases and minimum rents are recognized on lease terms exceeding one year on a
straight-line basis over the term of the respective leases. The excess of rents
recognized over amounts contractually due pursuant to the underlying leases is
included in accounts receivable in the consolidated and combined balance sheets.
Recoveries from tenants for common area maintenance expenses, real estate
property taxes and other recoverable operating expenses are recognized as
revenue in the period the associated costs are incurred. In addition, the
company records a capital asset for leasehold improvements constructed by us
that are reimbursed by tenants, with the offsetting amount recorded to deferred
revenue which is included in accrued expenses and other liabilities. The
deferred revenue is amortized as additional rental revenue over the life of the
related lease.




42


We
maintain an allowance for estimated losses that may result from the inability of
tenants to make required lease payments. If a tenant fails to make contractual
payments beyond any allowance, we may recognize bad debt expense in future
periods equal to the amount of unpaid rent and deferred rent.




Rental
revenue from month-to-month leases or leases with no scheduled rent increases or
other adjustments is recognized on a monthly basis when earned.




Lease
termination fees are recorded when the related leases are canceled and our
company has no continuing obligation to provide services to such former tenants.
Lease termination fees are included in rental revenues and were not material for
the years ended December 31, 2008, 2007 and 2006.




We
recognize gains on sales of real estate pursuant to the provisions of SFAS
No. 66, Accounting for Sales of Real Estate. The specific timing of a sale
is measured against various criteria in SFAS No. 66 related to the terms of
the transaction and any continuing involvement in the form of management or
financial assistance associated with the property. If the sales criteria are not
met, we defer gain recognition and accounts for the continued operations of the
property by applying the finance, installment or cost recovery methods, as
appropriate, until the sales criteria are met.




Evaluation
of Asset Impairment




We
evaluate a property for potential impairment when events or changes in
circumstances indicate that the current book value of the property may not be
recoverable pursuant to SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets. In the event that these periodic
assessments result in a determination that the carrying amount of a property
exceeds the sum of the undiscounted cash flows (excluding interest) that are
expected to result from the use and eventual disposition of the property, we
would recognize an impairment loss to the extent the carrying amount exceeded
the estimated fair value of the property. Estimates of expected future net cash
flows are inherently uncertain and are based on assumptions dependent upon
future and current market conditions and events that affect the ultimate value
of the property. These estimates require us to make assumptions relating to,
among other things, future rental rates, tenant allowances, operating
expenditures, property taxes, capital improvements, occupancy levels, and the
estimated proceeds generated from the future sale of the property.  We
recognized impairment on several rental and development projects due to the
market value assessments of the fair value.  In addition, we
recognized impairment on several development projects after carefully evaluating
our options and making the strategic business decision to no longer pursue our
purchase of these projects.  As such, we recognized impairments on
purchase deposits (that may be subject to future recovery) and capitalized costs
related to these projects.  As a result, we recognized $142.3 million
of impairment losses on real estate during the year ended December 31,
2008.  No impairment was recognized during the years ended December
31, 2007 and 2006.




Factors
That May Influence Future Results of Operations




The
following is a summary of the more significant factors we believe may affect our
results of operations. For a more detailed discussion, see the information under
the caption “Risk Factors” elsewhere in this report.




Effect
of Debt and Equity Capital Market Disruptions





Our
primary objective is to maximize return on investment through development and
redevelopment activities, and these activities require significant amounts of
capital.  The current disruption in the debt and equity capital
markets has made it more difficult for us to obtain debt
financing.  It has also caused us to evaluate additional sources of
capital and cash flow. This disruption has or may affect us in a number of ways,
including by:




43


•
            making
      it more difficult or impossible for us to obtain extension of loan
      maturities and/or new financing on attractive terms, resulting in lower
      loan-to-value ratios and loan-to-cost ratios, higher interest rates and
      generally less available debt capital and causing us to default on
      principal and interest payments;




•
            causing
      us to consider various means to restructure our debt and to engage in
      other forms of corporate
reorganization;




•
            leading
      us to postpone the payments of property taxes and other payables and
      deferring capital expenditures;




•
            creating
      the need to evaluate and adjust as appropriate our previously disclosed
      development and redevelopment plans and timelines (both commencement and
      completion dates) to correlate with adjustments in the availability of
      capital and other current and changing market
  conditions;




•
            increasing
      our projected development costs and the percentage and therefore amount of
      equity we are required to contribute to our
  projects;




•
            moving
      sales and leasing revenue from our properties from earlier periods to
      later periods, thereby delaying the reduction of associated negative cash
      flows and as a result reducing our liquidity more than
      anticipated;




•
            leading
      us to decide to sell certain assets that we believe have reached near-term
      maximum value or which are not central to our development or redevelopment
      plans, or which are otherwise in the best interests of the company to
      sell;




•
            leading
      us to enter into joint venture agreements with respect to certain of our
      more capital intensive projects;




•
            leading
      us to seek potentially dilutive debt or equity-linked capital available to
      public companies and




•
            leading
      us to refocus certain previously anticipated longer-term development
      projects to produce more near-term income through leasing the project and
      thereby reducing capital outflows through the redevelopment process and
      increasing near-term cash flow.




Development
and Redevelopment Activities




While we
have suspended much of our development activities, if the economy and the debt
and equity capital markets improve, we believe that our development and
redevelopment activities present growth opportunities for us over the next
several years. We continually evaluate the size, timing and scope of our
development and redevelopment initiatives and, as necessary, sales activity to
reflect the economic conditions and the real estate fundamentals that exist.
However, development and redevelopment of our projects is highly speculative and
subject to timing, budgeting and other risks, including cyclical over-building
or over-investing within certain real estate submarkets and changing political
situations that may interfere with our proposed uses of projects. In particular,
we are subject to increases in the costs of materials (especially in the price
of steel, lumber, dry wall, copper and concrete, which are significant
components of construction costs) caused by changing market conditions,
including increased global demand. We are also affected by changes in laws and
regulations (including the land use entitlement processes), particularly in the
City of Los Angeles, fiscal policies and zoning ordinances and the related costs
of compliance with laws, their regulations and policies.  Increases in
interest rates will increase our borrowing costs and our overall development or
redevelopment costs for a project. In addition, customers may be unwilling or
unable to purchase our for-sale residential units at times when
mortgage-financing costs are high or as borrower credit quality
declines.  Finally, changes in availability of capital will affect our
ability to develop our projects, including timing and the type and extent of
development. The occurrence of one or more of these events could adversely
affect our financial condition, results of operations and cash
flows.




Rental
Revenue




The
amount of net rental income generated by our rental properties depends
principally on our ability to maintain the occupancy rates of currently leased
space and to lease currently available space as well as space in newly developed
or redeveloped properties and space available from unscheduled lease
terminations. The amount of rental income we generate also depends on our
ability to maintain or increase rental rates. We operate in the greater Los
Angeles area and, accordingly, market conditions in this area have a significant
impact on our results of operations.








44


The
amount of rental income is also significantly impacted by our ability to attract
and retain large tenants in our properties.  Our top 10 tenants
comprise 43.4% of our annualized base rental revenues as of December 31,
2008.  In addition, our largest tenant is American Apparel, who leases
788,273 square feet of industrial space as of December 31, 2008. This lease
represents 13.5% of our annualized base rental revenue for the year ended
December 31, 2008 and expired on December 31, 2008. American Apparel,
as of March 13, 2009, is a rent paying tenant based on the terms of the expired
lease and we are currently in the process of negotiating a new lease with this
tenant.  There are no assurances that we will be successful in
securing this new lease.  No other tenant comprises more than 10.0% of
our portfolio’s total rentable square feet or annualized base rental
revenues.





Scheduled
Lease Expirations




Our
ability to re-lease space subject to expiring leases will impact our results of
operations and is affected by economic and competitive conditions in our markets
as well as the desirability of our individual properties. As of December 31,
2008, approximately 2.0 million square feet, or 45.8% of the square footage held
for lease, of our portfolio of wholly-owned rental and development projects was
available for lease. To allow for flexibility in our redevelopment strategy, we
generally seek to execute month-to-month leases with tenants in our properties
that have not yet been developed to what we consider to be their highest and
best use. As of December 31, 2008, month-to-month leases represent approximately
68.6% of the annualized base rent of our portfolio of owned projects. The
following table sets forth a summary schedule of lease expirations for leases in
place at our owned projects as of December 31, 2008:




Year
      of Lease Termination
                      
                      Number
                        of Leases
                        Expiring
                      
                      
                      Square Footage of
                        Expiring
      Leases
                      
                      
                      Percentage
      of
                        Total
                        Rentable
                        Square Feet(1)
                      
                      
                      Annualized
      Base
                        Rent of Expiring
                        Leases(2)
                      
                      
                      Percentage of Portfolio
                        Annualized Base RentMonth
      to Month
                      
                      
                      303
                      
                      
                      
                      1,620,285
                      
                      
                      
                      37.9
                      %
                      
                      $
                      15,636,801
                      
                      
                      
                      68.6
                      %2009
                      
                      
                      31
                      
                      
                      
                      233,515
                      
                      
                      
                      5.5
                      %
                      
                      
                      1,848,642
                      
                      
                      
                      8.1
                      %2010
                      
                      
                      23
                      
                      
                      
                      229,781
                      
                      
                      
                      5.4
                      %
                      
                      
                      2,490,769
                      
                      
                      
                      10.9
                      %2011
                      
                      
                      4
                      
                      
                      
                      154,278
                      
                      
                      
                      3.6
                      %
                      
                      
                      1,151,604
                      
                      
                      
                      5.1
                      %2012
                      
                      
                      1
                      
                      
                      
                      24,694
                      
                      
                      
                      0.5
                      %
                      
                      
                      343,200
                      
                      
                      
                      1.5
                      %2013
                      
                      
                      1
                      
                      
                      
                      59,000
                      
                      
                      
                      1.3
                      %
                      
                      
                      1,320,000
                      
                      
                      
                      5.8
                      %Thereafter
                      
                      
                      0
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Total
                      
                      
                      363
                      
                      
                      
                      2,321,553
                      
                      
                      
                      54.2
                      %
                      
                      $
                      22,791,016
                      
                      
                      
                      100.0
                      %





(1)
            Based
      on total square footage of 4,279,363 which is the total square footage of
      space leased or available or offered for lease at both rental and
      development projects and excludes substantial portions of square footage
      in the projects that are not available or offered for lease because of
      redevelopment or repositioning activities.  Parking square
      footage is not included in the
calculation.


(2)
            Based
      on annualized base rent paid or payable as of December 31, 2008. Because
      annualized base rent is not derived from historical results that were
      accounted for in accordance with U.S. generally accepted accounting
      principles, historical results differ from the annualized
      amounts.  Annualized base rent does not include parking
      income.




45


Results
of Operations




Executive
Summary




For the
year ended December 31, 2008, we recorded a net loss of $96.0
million.  This result was derived in large part from the decision to
take $117.4 million of non-cash impairment charges in the fourth quarter of 2008
against the net book values of certain properties, which is in addition to the
$24.9 million of impairment charges taken during the first three quarters of the
year. The decision to take these significant non-cash impairment charges in 2008
was to adjust the net book values to current estimated market valuations related
to certain non-core assets that we are considering selling in
2009.  These non-cash impairments were offset by a corresponding $51.9
million in benefits for income taxes.




In
addition, effective October 1, 2008, we suspended development activities at 13
development projects due to difficult market conditions including difficulty in
obtaining construction financing and the need to preserve cash flow in this
challenging economic environment. As a result of the suspension of development,
we ceased capitalization of certain incidental revenues and carrying costs such
as interest expense, real estate taxes and insurance.  As of October
1, 2008, these incidental revenues and expenses associated with carrying costs
were expensed through the income statement.  The assets are still
classified as real estate held for development even though these costs are no
longer being capitalized.  The increases in the rental and interest
expenses in 2008 over the previous year were due in large part to this change in
accounting methodology.




In spite
of a difficult market conditions in 2008, we managed to increase total
annualized rents at December 31, 2008 over total annualized rents at December
31, 2007.  We had noteworthy rental increases at the Washington
Produce Market, Crown Commerce Center and 230 W Ave 26th
projects.  These gains were offset in part by rental income decreases
at the 4th Street
Center, 620 Gladys Avenue, Meruelo Wall Street, 905 E 8th Street
and 5707 S Alameda projects. Rental income for the year ended December 31, 2008
totaled $22.7 million.




In the
near term, we expect to incur net cash outflows of approximately $7.0 million
per quarter, including carrying costs of our development projects excluding 717
W. Ninth Street, which has a construction loan in place sufficient to cover
estimated future construction expenditures.




Balance
Sheet Management




During
2008, we collected our affiliate note receivable and issued additional shares of
common stock as we received $14.2 million in cash proceeds from the conclusion
of the Taylor Yard matter.  We obtained the first tranche of $42.0
million of our $84.0 million construction loan for our 717 W. Ninth Street
project.  The funding of this construction loan was the primary reason
for the increases in our notes payable secured by real estate and in our
restricted cash.  We also sold properties and retired the related
mortgage debt which partially offset the increase in our notes payable secured
by real estate. During 2008, rental properties decreased by $8.3 million from
the sales of 2000 San Fernando Road and 1800 E. Washington Blvd. and asset
impairment, partially offset by the reclassification of three development
projects to rental properties.  Real estate held for development
decreased by $113.8 million due to the reclassification of the three properties
cited above and asset impairments, partially offset by continuing development at
717 W Ninth Street.  In 2008, our deferred tax liability decreased
from $41.1 million to zero due to our pretax losses.




Overview
of year-over-year comparisons





Year-over-year
comparisons are challenging given the non-recurring nature of the use of our
2007 IPO proceeds for the acquisition of a majority of our projects and the
one-time pay down of a substantial amount of debt.  In addition,
during 2008 we completed and placed several development projects into service
which has affected the comparability of rental income as well as rental expenses
between the applicable periods. We also suspended development on 13 projects as
of October 1, 2008. We stopped capitalizing costs on these projects as of this
date and began expensing these costs. In 2008, we had asset impairments, gains
on sale of real estate, benefit for income taxes and minority interests. In
2007, there were no corresponding impairments on real estate assets, gains on
sale of assets, benefit for income taxes or minority interests.





46


The IPO
significantly affected our results for 2007 (which included one month of our
predecessor’s operations) as compared to 2008. On and after January 30, 2007, we
used IPO proceeds to pay down existing mortgage debt and to pay off the CalPERS
mezzanine loan facility incurred by our predecessor business. This has
substantially reduced interest expense since this date as the prior period
reflects a full month of interest on a substantially higher level of debt. We
also used IPO proceeds to acquire eight properties, three of which are
identified in this report as rental properties, and acquired four parcels
attached to existing rental properties and placed them in service upon
purchase.  These acquisitions resulted in increases in depreciation
and amortization expense during 2008.  In addition, we had IPO
proceeds invested in a money market account in 2007, but those proceeds have
been used for various acquisitions and debt repayment; thus resulting in less
interest income in the current year.




In addition, we
experienced several significant changes in our accounting as a result of our IPO
that affect the comparability of our results. These changes include certain
purchase accounting adjustments recorded under SFAS No. 141, Business Combinations,for
the fair value of real estate, which affect depreciation and amortization
expense. In addition, the adjustments increasing the fair value of the real
estate subsequently increased our deferred income tax liabilities and paid in
capital.




Acquisition
and development activities





The
comparability of our results of operations is significantly affected by our
development and acquisition activities in 2008 and 2007.  At December
31, 2007, we owned interests in 27 rental projects and 28 projects held as real
estate for development.  At December 31, 2008, we owned interests in
28 rental projects and 19 projects held as real estate for development (this
count includes 1828 Oak Street, which we decided not to purchase in the first
quarter of 2009).   Our rental project count changes are due to
the transfer of four projects from development to the rental portfolio and the
sale of our projects at 2000 San Fernando Road, Overland Terminal, and 1800 E.
Washington Blvd., which were included at December 31, 2007.  Our
development project count change is due to the four projects placed into
service, our sale of 801 E 7th Street,
our strategic business decision not to pursue the project acquisitions of 3000
E. Washington Blvd., Gold’s Gym, and Wall Street Market, and the consolidation
of our project at 5500 Flotilla into Camfield Retail Center.  The
results of our projects at 2000 San Fernando Road, Overland Terminal and 1800 E.
Washington Blvd. for all periods presented are shown in discontinued operations
in accordance with SFAS 144.





47


Between
January 1, 2007 and December 31, 2008, we acquired or placed in service the
following nine rental projects.





Projects
              Acquisition
      or
                  Conversion
      Date
              
              Net
      Rentable Square
                  FootageWashington
      Produce Market (2640 Washington Blvd.)
              March
      7, 2007
              
              
              31,876230
      W. Avenue 26th
              April
      1, 2007
              
              
              67,6712000
      San Fernando Road
              April
      2, 2007
              
              
              119,381420
      Boyd Street
              June
      27, 2007
              
              
              47,8064th
      Street Center
              September
      30, 2007
              
              
              14,472Union
      Lofts
              July
      1, 2008
              
              
              81,609Barstow
      Produce Center
              July
      1, 2008
              
              
              261,750Santa
      Fe Plaza
              September
      1, 2008
              
              
              16,000Overland
      Terminal
              September
      3, 2008
              
              
              309,340Total
              
              
              
              949,905





In
addition, between January 1, 2007 and December 31, 2008, we acquired or placed
in service additional parcels attached to the following current rental
projects.


Projects
                Date
      of Addition
                
                Additional
      Square
                  FootageCrown
      Commerce Center
                January
      26, 2007
                
                
                18,500905
      E 8th
      Street
                March
      23, 2007
                
                
                3,597Center
      Village
                March
      27, 2007
                
                
                66,135620
      Gladys Avenue
                April
      13, 2007
                
                
                49,959Total
                
                
                
                138,191





In
addition, during the year ended December 31, 2008, we sold the following rental
projects ($ in thousands).


Projects
                Date
      of Sale
                
                Sales
      Price2000
      San Fernando Road (1)
                August
      15, 2008
                
                $
                35,0001800
      E Washington Blvd
                September
      12, 2008
                
                
                14,200Overland
      Terminal
                November
      14, 2008
                
                
                19,702Total
                
                
                $
                68,902





(1)
            We
      originally sold this project during the quarter ended June 30, 2008 for
      $28.7 million.  We retained an option to resell this project to
      another buyer which we did during the third quarter 2008 and as a result,
      we received an additional $5.0 million in net
  proceeds.





48




Comparison
of the year ended December 31, 2008 to year ended December 31, 2007




The
following table reflects our consolidated and combined statements of operations
for the years ended December 31, 2008 and 2007 (in thousands):




Year
      Ended December 31,2008
                
                
                2007
      (1)
                
                
                Increase
      (Decrease)Revenues:Rental
      income
                
                $
                22,709
                
                
                $
                21,539
                
                
                $
                1,170
                
                
                
                5.4
                %Management
      fees
                
                
                285
                
                
                
                272
                
                
                
                13
                
                
                
                4.8
                %Interest
      income
                
                
                839
                
                
                
                3,029
                
                
                
                (2,190
                )
                
                
                -72.3
                %Other
      income
                
                
                351
                
                
                
                521
                
                
                
                (170
                )
                
                
                -32.6
                %Total
      revenues
                
                
                24,184
                
                
                
                25,361
                
                
                
                (1,177
                )
                
                
                -4.6
                %Expenses:Rental
      expenses
                
                
                15,291
                
                
                
                13,089
                
                
                
                2,202
                
                
                
                16.8
                %Interest
      expense
                
                
                11,445
                
                
                
                10,764
                
                
                
                681
                
                
                
                6.3
                %Depreciation
      and amortization
                
                
                7,091
                
                
                
                5,753
                
                
                
                1,338
                
                
                
                23.3
                %Impairment
      on real estate assets
                
                
                142,295
                
                
                
                -
                
                
                
                142,295
                
                
                
                (2
                )General
      and administrative
                
                
                9,524
                
                
                
                9,619
                
                
                
                (95
                )
                
                
                -1.0
                %Total
      expenses
                
                
                185,646
                
                
                
                39,225
                
                
                
                146,421
                
                
                
                373.3
                %Loss
      from continuing operations before minority interests and income
      taxes
                
                
                (161,462
                )
                
                
                (13,864
                )
                
                
                (147,598
                )
                
                
                -1,064.6
                %Minority
      interests
                
                
                (843
                )
                
                
                -
                
                
                
                (843
                )
                
                
                (2
                )Benefit
      for income taxes
                
                
                51,933
                
                
                
                -
                
                
                
                51,933
                
                
                
                (2
                )Loss
      from continuing operations
                
                
                (110,372
                )
                
                
                (13,864
                )
                
                
                (96,508
                )
                
                
                -696.1
                %Discontinued
      operationsIncome
      (loss) from discontinued operations
                
                
                163
                
                
                
                (9
                )
                
                
                172
                
                
                
                (2
                )Gain
      on sale of real estate
                
                
                14,189
                
                
                
                -
                
                
                
                14,189
                
                
                
                (2
                )Income
      (loss) from discontinued operations
                
                
                14,352
                
                
                
                (9
                )
                
                
                14,361
                
                
                
                (2
                )Net
      loss
                
                $
                (96,020
                )
                
                $
                (13,873
                )
                
                $
                (82,147
                )
                
                
                -592.1
                %





(1)
            For
      purposes of comparison, 2007 amounts include the predecessor results for
      the period from January 1, 2007 to January 29, 2007 and our company
      results for the period from January 30, 2007 to December 31,
      2007.


(2)
            The
      calculated percentages are not
meaningful.




Rental
income.  Rental income increased by $1.2 million, or 5.4%, to
$22.7 million for the year ended December 31, 2008 compared to $21.5 million for
the year ended December 31, 2007.  An increase of $0.2 million is
attributable to property tax recoveries collected and billed in the current year
that was not billed in the prior year.  In addition, an increase of
$1.1 million is attributable to rental operations at projects acquired or placed
into service during 2008, which had partial or no operations in the prior
year.  The increase is partially offset by rental income declines due
to decreased revenues at the 4th Street Center, 620 Gladys Avenue and Meruelo
Wall Street projects.




Management
fees.  Management fees, which consist of fees earned for
management of properties outside of the company and management fees from the
parents of Richard Meruelo, remained flat during the year ended December 31,
2008 compared to the year ended December 31, 2007.




Interest
income.  Interest income decreased by $2.2 million, or 72.3%,
to $0.8 million for the year ended December 31, 2008 compared to $3.0 million
for the year ended December 31, 2007.  The decrease is primarily due
to the IPO proceeds invested in interest bearing accounts in the prior
year.  We used the IPO proceeds throughout 2007 to pay down mortgage
debt and to acquire additional projects.  The decrease is partially
offset by interest income earned on our restricted cash reserve that was set
aside for our 717 W. Ninth Street construction loan.




Other
income.  Other income, which primarily consists of termination
income and leasing space to businesses in the entertainment industry for
filming, decreased $0.2 million, or 32.6%, to $0.35 million for the year ended
December 31, 2008 compared to $0.52 million for the year ended December 31,
2007.  The decrease is primarily due to $0.16 million of operations
income earned through our operation of the Coffee Beanery during the year ended
December 31, 2007.  We closed the Coffee Beanery in March
2008.




49





Rental
expenses.  Rental expenses increased by $2.2 million, or 16.8%,
to $15.3 million for the year ended December 31, 2008 compared to $13.1million
for the year ended December 31, 2007. The increase is primarily attributable to
$1.0 million in additional receivables written off due to tenants claiming
hardship due to the economic downturn during the year ended December 31,
2008.  In addition, beginning October 1, 2008, we suspended
development at numerous development projects and are now expensing costs such as
property taxes and insurance that was previously capitalized.  The
increase is also attributable to the operation of rental properties placed in
service during 2007 and 2008 that had limited or no operations during the year
ended December 31, 2007.




Interest
expense.  Interest expense increased by $0.7 million or 6.3% to
$11.4 million for the year ended December 31, 2008 compared to $10.8 million for
the year ended December 31, 2007. The increase is due to our suspension of
development at numerous projects on October 1, 2008.  We previously
capitalized the $1.5 million of the quarterly interest expense related to these
projects.  In addition, the principal balance of our consolidated debt
increasing by approximately $20.8 million throughout the last twelve
months.  This is offset by the decrease in our weighted average
interest rate at December 31, 2008 which was 7.14% compared to 7.47% at December
31, 2007.




Depreciation and amortization
expense.  Depreciation and amortization expense increased by
$1.3 million, or 23.3%, to $7.1 million for the year ended December 31, 2008
compared to $5.8 million for the year ended December 31, 2008. This increase is
primarily due to increased real estate values as a result of property
acquisitions and our completion of development projects and placing them into
service.




Impairment on real estate
assets.  Impairment on real estate assets increased by $142.3
million for the year ended December 31, 2008 compared to the year ended December
31, 2007, due to the recognition of $98.8 million of impairment on various
development projects and $43.5 million of impairment on various rental projects.
The majority of the impairment has been recognized due to market value
assessments of our projects.  However, due to our strategic business
decision to no longer pursue several acquisitions we forfeited deposits of $10.3
million.  There were no corresponding impairments on real estate
assets during the comparable period in 2007.




General and administrative
expenses.General and administrative expenses remained flat
for the year ended December 31, 2008 compared to the year ended December 31,
2007.




Minority
interests.  Minority interests decreased by $0.8 million for
the year ended December 31, 2008 compared to the year ended December 31, 2007,
due to the equalization event that occurred in March 2008.  In
accordance with the terms of our partnership agreement, all then outstanding
LTIP units achieved parity with the common units in our operating partnership
and a $1.4 million special allocation of the profits was
recognized.  In addition, $0.6 million of the net loss was allocated
to the LTIP unit holders.  There were no corresponding equalization
events during the comparable period in 2007.




Benefit for income
taxes.  Benefit for income taxes increased by $51.9 million for
the year ended December 31, 2008 compared to the year ended December 31, 2007,
due to the recognition of a $9.6 million deferred tax expense due to the various
gain on sales of projects throughout the year.  In addition, we
reversed the $41.1 million deferred tax liability that was reflected on our
balance sheet that would not be used as a result of the $142.3 million
impairment losses recognized on our projects throughout the year.  In
connection with the IPO formation transactions, we accounted for these projects
as a purchase in accordance with SFAS 141. There was no corresponding benefit
for income taxes during the comparable period in 2007.




Income (loss) from discontinued
operations.Income from discontinued operations increased by
$0.2 million for the year ended December 31, 2008 compared to the year ended
December 31, 2007.  Income (loss) from discontinued operations
includes income and expenses from the projects we sold at 1800 E. Washington
Blvd. and 2000 San Fernando Road, net of income taxes.  As we obtained
interim financing on our 2000 San Fernando Road project on May 27, 2008, income
ceased on that date (we incurred a few expenses after the interim financing
date).  In the prior year, the project at 2000 San Fernando Road
recorded income of $0.3 million, whereas in the current year, it generated net
income of $0.5 million primarily due to an increase in the rents in October
2007.  In addition, our project at 1800 E. Washington Blvd. incurred a
net loss of $0.05 million for the year ended December 31, 2008 compared to the
loss of $0.4 million incurred during the year ended December 31,
2007.  These increases are offset by the $0.2 million loss incurred on
Overland Terminal for the months we operated it as a rental project in
2008.  In 2007, Overland Terminal was a development project with all
costs being capitalized.




50


Gain on sale of real
estate.  Gain on sale of real estate increased by $14.2 million
for the year ended December 31, 2008 compared to the year ended December 31,
2007, due to the sales of five projects (9901 Alameda, 2000 San Fernando Road,
Overland Terminal, 801 E 7th Street
and 1800 E. Washington Blvd.) and one parking lot (816 Stanford) during the year
ended December 31, 2008. Our three largest gains were recorded on the sales of
2000 San Fernando Road, 9901 Alameda and 1800 E. Washington Blvd. which had
gains of $14.2 million, $6.7 million, and $1.7 million,
respectively.  In addition, we recorded a combined gain of $0.7
million from the sales of Overland Terminal, 801 E 7th Street
and 816 Stanford.  All sales generated cash proceeds net of the
mortgage debt held on the projects and closing costs.  All gain on
sales are presented net of $9.6 million of income tax expense.  There
were no corresponding sales during the comparable period in 2007.





Comparison
of the year ended December 31, 2007 to year ended December 31, 2006




The
following table reflects our consolidated and combined statements of operations
for the years ended December 31, 2007 and 2006 (in thousands):




Year
      Ended December 31,2007
      (1)
                
                
                2006
      (2)
                
                
                Increase
      (Decrease)Revenues:Rental
      income
                
                $
                21,539
                
                
                $
                22,327
                
                
                $
                (788
                )
                
                
                -3.5
                %Management
      fees
                
                
                272
                
                
                
                285
                
                
                
                (13
                )
                
                
                4.6
                %Interest
      income
                
                
                3,029
                
                
                
                3,614
                
                
                
                (585
                )
                
                
                -16.2
                %Other
      income
                
                
                521
                
                
                
                751
                
                
                
                (230
                )
                
                
                -30.6
                %Total
      revenues
                
                
                25,361
                
                
                
                26,977
                
                
                
                (1,616
                )
                
                
                -6.0
                %Expenses:Rental
      expenses
                
                
                13,089
                
                
                
                10,097
                
                
                
                2,992
                
                
                
                29.6
                %Interest
      expense
                
                
                10,764
                
                
                
                25,015
                
                
                
                (14,251
                )
                
                
                -57.0
                %Depreciation
      and amortization
                
                
                5,753
                
                
                
                3,960
                
                
                
                1,793
                
                
                
                45.3
                %General
      and administrative
                
                
                9,619
                
                
                
                6,045
                
                
                
                3,574
                
                
                
                59.1
                %Total
      expenses
                
                
                39,225
                
                
                
                45,117
                
                
                
                (5,892
                )
                
                
                -13.1
                %Loss
      from continuing operations
                
                
                (13,864
                )
                
                
                (18,140
                )
                
                
                4,276
                
                
                
                23.6
                %Discontinued
      operationsLoss
      from discontinued operations
                
                
                (9
                )
                
                
                (252
                )
                
                
                243
                
                
                
                -96.4
                %Gain
      on sale of real estate
                
                
                -
                
                
                
                1,329
                
                
                
                (1,329
                )
                
                
                (2
                )Income
      (loss) from discontinued operations
                
                
                (9
                )
                
                
                1,077
                
                
                
                (1,086
                )
                
                
                -100.8
                %Net
      loss
                
                $
                (13,873
                )
                
                $
                (17,063
                )
                
                $
                3,190
                
                
                
                18.7
                %





(1)
            For
      purposes of comparison, 2007 amounts include the predecessor results for
      the period from January 1, 2007 to January 29, 2007 and our company
      results for the period from January 30, 2007 to December 31,
      2007.


(2)
            Includes
      the predecessor results for the
year.


(3)
            The
      calculated percentages are not
meaningful.




Rental
income.Rental income
decreasedby $0.8million, or3.5%, to $21.5 million for the yearendedDecember 31, 2007 compared to $22.3 million for the year ended
December 31, 2006.The decrease is primarily
due torental declines at
Pomona Village and Seventh Street Produce Marketof $3.2 million, which include the Rockwell Collins
lease expiration atPomona
Village and occupancy decreases at the Seventh Street Produce Market that are a
result of health department actions.  These declines are offset by
an increase of
$0.6million is attributable to rental
operations atthe J
restaurant and788 S.
Alameda,which had limited or no operation in
the prior year. We also had increased rental income fromotherpropertiesof $1.8 million.




51


Management fees. Management
fees decreased by $0.01 million, or 4.6%, to $0.27 million for the year ended
December 31, 2007 compared to $0.28 million for the year ended December 31,
2006. The decrease is due to the reduction in fees applicable to the Taylor
Yards property. We reduced management fees on June 30, 2006 due to the
condemnation proceedings and the fact that developing activities ceased
partially offset by an increase in construction services to affiliated entities
during 2007.




Interest income. Interest
income decreased by $0.6 million, or 16.2%, to $3.0 million for the year ended
December 31, 2007 compared to $3.6 million for the year ended December 31, 2006.
An increase of $2.2 million is attributable to interest income from investing
the funds from our IPO offset by a decrease in the interest income from
affiliate note receivable of $2.8 million, which is due to a decrease in the
interest rate from 18.0% to 4.77% pursuant to an agreement with the affiliated
parties.




Other
income.  Other income, which is primarily composed of leasing
our space to businesses in the entertainment industry for filming, decreased by
$0.2 million, or 30.6%, to $0.5 million for the year ended December 31, 2007
compared to $0.7 million for the year ended December 31, 2006. The decrease is
attributable to fewer filming contracts in the current year compared to the
prior year.





Rental expenses. Rental
expenses increased by $3.0 million, or 29.6%, to $13.1 million for the year
ended December 31, 2007 compared to $10.1 million for the year ended December
31, 2006. The increase of $1.3 million is attributable to the operation of
rental properties placed in service during 2006 or 2007 and which had limited or
no operations during the year ended December 31, 2006. In addition, as a result
of the Rockwell Collins triple net lease expiration at Pomona Village, rental
expenses increased by approximately $0.5 million.  Finally, we began
accruing for estimated property tax contingencies resulting from our formation
transactions.




Interest expense. Interest
expense decreased by $14.3 million, or 57.0%, to $10.8 million for year ended
December 31, 2007 compared to $25.0 million for the year ended December 31,
2006. The decrease is due to the payoff of the CalPERS credit facility and other
mortgage debt instruments from our IPO proceeds and the cessation of
amortization of loan costs associated with the CalPERS note.




Depreciation and amortization
expense. Depreciation and amortization expense increased by $1.8 million,
or 45.3%, to $5.8 million for the year ended December 31, 2007 compared to $4.0
million for the year ended December 31, 2006. This increase is primarily due to
increased real estate values as a result of property acquisitions and the
purchase of additional interests in the current portfolio. In addition, during
the current year, we reclassified certain amounts between land and building and
improvements, which resulted in increased depreciation expense.  See
Note 5 of the “Notes to the Consolidated and Combined Financial Statements” in
Item 15 of this report for more information.




General and administrative expenses.General and administrative expenses increased by $3.6 million, or 59.1%,
to $9.6 million for the year ended December 31, 2007 compared to $6.0 million
for the year ended December 31, 2006 as a result of our IPO in the current
year.  Since the IPO, we have added staff and infrastructure to
accommodate the requirements of becoming a public company, which resulted in
increased compensation and administrative costs such as director fees, director
and officer insurance, investor relations fees and transfer agent
costs.  We have also incurred significantly higher consulting and
professional fees associated with corporate governance and compliance with SEC
regulations (i.e. Sarbanes-Oxley, audit fees).  In addition, we
implemented the 2007 Equity Incentive Plan, which resulted in stock compensation
expense, which was not present in the prior period.




Income (loss) from discontinued
operations.Loss from discontinued operations decreased by
$0.2 million for the year ended December 31, 2007 compared to the year ended
December 31, 2006.  Income (loss) from discontinued operations
includes income and expenses from the projects we sold at 1800 E. Washington
Blvd. and 2000 San Fernando Road.  During the year ended December 31,
2007, the project at 2000 San Fernando Road recorded income of $0.3 million,
whereas it had no income in 2006 because we purchased the project in April
2007.   In addition, our project at 1800 E. Washington Blvd.
incurred a net loss of $0.4 million and $0.3 million during the years ended
December 31, 2007 and 2006, respectively.




Gain on sale of real estate.
Gain on sale of real estate decreased by $1.3 million for the year December 31,
2007 compared to the year ended December 31, 2006, due to the sale of Leonis
Cold Storage to an unrelated third party in May 2006. There were no sales during
2007.





52


Liquidity
and Capital Resources




We are a
development company and experience significant, recurring cash shortfalls from
(i) operating activities, (ii) recurring investment activities such as carrying
costs for interest payments, real estate taxes and unfunded development
expenditures and (iii) capital expenditures on existing rental
properties.  We would need to generate an additional $28.0 million in
cash annually to cover such shortfalls, before any significant development
activities other than the funded development of our 717 W Ninth Street
project.




We also
require significant capital to satisfy development commitments, to pay
indebtedness maturing over the next year and to pursue discretionary
developments. In this very difficult debt and equity capital market environment,
we cannot borrow money with reasonable terms on our unencumbered development
projects.  Moreover, many of our existing lenders want their loans to
be repaid.




One way
to generate liquidity in this challenging credit climate and real estate market
is to sell assets. Hence, we are actively marketing many of our projects.
However, selling in this environment is difficult.




Accordingly
we are discussing various options with many of our lenders. We have stopped
making interest payments on most of our loans, and, as a result, we may be
declared in default and the loans may be accelerated. As of March 13, 2009, we
owe approximately $2.8 million in accrued interest. On December 15, 2008, we
failed to make a $4.0 million principal repayment and later obtained the
lender’s verbal approval to defer the payment. As of March 13, 2009, we have not
repaid or been able to extend or refinance any of the approximately $86.9
million in loans that matured in the first quarter of 2009 or make a scheduled
principal paydown of $5.0 million due in the first quarter of 2009.




On our
consolidated statements of cash flows, we classify cash flows into operating
activities, investing activities and financing activities.  Our
operating activities reflect the operating cash flow performance of our rental
properties and our suspended development projects. These activities consist of
total revenue, offset by rental expenses, interest expense, general and
administrative expenses and the impact of changes in assets and
liabilities.  Changes in assets and liabilities fluctuate from month
to month but tend to be negligible over time.  Excluding the impact of
changes in assets and liabilities, we expect in the near term to use cash in
excess of revenues of approximately $4.8 million per quarter for operating
activities. To preserve cash flow in this challenging economic environment, we
suspended 13 development projects with a book value of approximately $143.3
million. As of October 1, 2008, we stopped capitalizing these costs and began
reflecting the revenue and expense activities on our statement of
operations.




The
carrying costs of our continuing development projects are reflected in investing
activities.  As of December 31, 2008, our book value of real estate
held for development was approximately $347.9 million, of which $204.6 million
related to continuing development projects.  We have a construction
loan in place to fund the development commitments for our 717 W. Ninth Street
project.  For other continuing development projects, we must find
other sources to fund our carrying costs.  In the near term, we expect
we will have net cash outflows associated with these development projects of
approximately $2.2 million per quarter.  Carrying costs consist
primarily of interest, property taxes and development staff salaries, all of
which are capitalized.  Thus, in the near term, we expect to have net
cash outflows of approximately $7.0 million per quarter or $28.0 annually from
our combined rental properties and development projects, excluding 717 W. Ninth
Street, which has a construction loan in place.




As of
December 31, 2008, we had cash and cash equivalents of approximately $4.5
million.




The
following table sets forth certain information with respect to our outstanding
indebtedness as of December 31, 2008 (in thousands):




Principal
                  Balance
                
                
                Weighted
      Average Interest Rate
                
                
                Current
                  Principal
      DueFixed
      rate mortgage debt
                
                $
                138,904
                
                
                
                8.53
                %
                
                $
                59,356Variable
      rate mortgage debt
                
                
                189,325
                
                
                
                6.13
                %
                
                
                113,162Total
      consolidated debt
                
                $
                328,229
                
                
                
                7.14
                %
                
                $
                172,518







53




The
following table sets forth additional information with respect to our
outstanding indebtedness as of December 31, 2008 (in thousands):




Project Name
                            
                            Interest
                              Rate
                            
                            Maturity
                              Date(1)
                            
                            Principal
                            
                            
                            Annual Debt
      Service(2)
                            
                            
                            Balance at
                              MaturitySeventh
      Street Produce Market/Alameda Square(3)
                            
                            
                            6.75
                            %
                            2/28/2009
                            
                            $
                            48,946
                            
                            
                            $
                            5,569
                            
                            
                            $
                            48,552717
      W 9th
      Street(3)
                            
                            
                            12.0
                            %
                            1/31/2010
                            
                            
                            42,000
                            
                            
                            
                            5,110
                            
                            
                            
                            42,000Santa
      Fe Commerce Center
                            
                            
                            7.48
                            %
                            9/5/2011
                            
                            
                            10,182
                            
                            
                            
                            1,181
                            
                            
                            
                            9,725Seventh
      Street Produce Market/Alameda Square(3)
                            
                            
                            8.00
                            %
                            2/28/2009
                            
                            
                            9,861
                            
                            
                            
                            935
                            
                            
                            
                            9,8243185
      E Washington Blvd
                            
                            
                            6.93
                            %
                            4/13/2016
                            
                            
                            9,555
                            
                            
                            
                            818
                            
                            
                            
                            8,4362131
      Humboldt Street
                            
                            
                            6.50
                            %
                            1/1/2011
                            
                            
                            7,000
                            
                            
                            
                            455
                            
                            
                            
                            7,000420
      Boyd Street(3)
                            
                            
                            7.49
                            %
                            6/15/2012
                            
                            
                            5,950
                            
                            
                            
                            542
                            
                            
                            
                            5,6551500
      Griffith Ave
                            
                            
                            7.00
                            %
                            1/24/2013
                            
                            
                            3,000
                            
                            
                            
                            210
                            
                            
                            
                            3,000905
      8th Street
                            
                            
                            7.50
                            %
                            1/15/2009
                            
                            
                            1,950
                            
                            
                            
                            146
                            
                            
                            
                            1,950500
      Mateo Street
                            
                            
                            7.00
                            %
                            3/1/2011
                            
                            
                            460
                            
                            
                            
                            205
                            
                            
                            
                            55TOTAL
      FIXED RATE DEBT
                            
                            
                            
                            
                            
                            
                            
                            138,904
                            
                            
                            
                            15,171
                            
                            
                            
                            136,197Union
      Lofts Mini Permanent Loan(3)
                            
                            1-Month
      LIBOR plus 1.65%
                            
                            3/1/2009
                            
                            
                            28,108
                            
                            
                            
                            595
                            
                            
                            
                            28,108Meruelo
      Wall Street
                            
                            Prime
      plus 2.0%
                            
                            11/5/2011
                            
                            
                            20,878
                            
                            
                            
                            1,716
                            
                            
                            
                            19,788Southpark
      Towers(3)
                            
                            Prime
                            
                            7/14/2009
                            
                            
                            20,000
                            
                            
                            
                            659
                            
                            
                            
                            20,000Sky
      Arc (3)
                            
                            Prime
      plus 2.0%
                            
                            6/15/2009
                            
                            
                            17,000
                            
                            
                            
                            1,422
                            
                            
                            
                            6,500Southern
      California Institute of Architecture(3)
                            
                            Prime
      plus .25%
                            
                            8/1/2011
                            
                            
                            10,114
                            
                            
                            
                            961
                            
                            
                            
                            9,846Barstow
      Produce Center Construction Loan(3)
                            
                            Prime
      plus .75%
                            
                            1/9/2013
                            
                            
                            8,999
                            
                            
                            
                            573
                            
                            
                            
                            8,077Ullman
      Tower One(3)
                            
                            Prime
      plus 1.0%
                            
                            6/1/2009
                            
                            
                            8,885
                            
                            
                            
                            751
                            
                            
                            
                            9,225Pomona
      Park Village(3)
                            
                            Prime
      plus 7.0%
                            
                            6/26/2011
                            
                            
                            8,800
                            
                            
                            
                            1,191
                            
                            
                            
                            8,8001875
      W Mission Blvd
                            
                            6-Month
      Libor plus 6.25%
                            
                            4/1/2009
                            
                            
                            8,480
                            
                            
                            
                            1,229
                            
                            
                            
                            8,404788
      S. Alameda St.(3)
                            
                            Prime
      plus 0.5%
                            
                            4/1/2013
                            
                            
                            7,165
                            
                            
                            
                            539
                            
                            
                            
                            6,484Center
      Village
                            
                            Prime
      plus 1.0%
                            
                            10/1/2009
                            
                            
                            6,985
                            
                            
                            
                            641
                            
                            
                            
                            6,9064th
      Street Center and 1500 Griffith St(3)
                            
                            Prime
      plus 1.0%
                            
                            8/1/2009
                            
                            
                            6,397
                            
                            
                            
                            389
                            
                            
                            
                            6,397Barstow
      Produce Center Construction Loan(3)
                            
                            Prime
      plus 1.0%
                            
                            1/9/2010
                            
                            
                            6,190
                            
                            
                            
                            405
                            
                            
                            
                            6,0372640
      Washington Boulevard(3)
                            
                            Prime
      plus .50%
                            
                            12/5/2012
                            
                            
                            6,072
                            
                            
                            
                            575
                            
                            
                            
                            5,6841919
      Vineburn Street
                            
                            Prime
      plus 1.0%
                            
                            7/1/2009
                            
                            
                            5,473
                            
                            
                            
                            526
                            
                            
                            
                            5,432620
      Gladys Avenue(3)
                            
                            Prime
                            
                            10/1/2009
                            
                            
                            5,383
                            
                            
                            
                            492
                            
                            
                            
                            5,348Desmond
      Building(3)
                            
                            Prime
      plus 1.0%
                            
                            5/1/2009
                            
                            
                            5,340
                            
                            
                            
                            230
                            
                            
                            
                            5,340Meruelo
      Farms(3)
                            
                            Prime
                            
                            11/7/2010
                            
                            
                            3,350
                            
                            
                            
                            110
                            
                            
                            
                            3,350Santa
      Fe Plaza (3)
                            
                            6-Month
      US Treasury plus 2.875%
                            
                            10/1/2017
                            
                            
                            3,137
                            
                            
                            
                            269
                            
                            
                            
                            2,7583rd
      & Omar Street(3)
                            
                            Prime
      plus .25%
                            
                            8/15/2010
                            
                            
                            2,569
                            
                            
                            
                            202
                            
                            
                            
                            2,450TOTAL
      VARIABLE RATE DEBT
                            
                            
                            
                            
                            
                            
                            
                            189,325
                            
                            
                            
                            13,475
                            
                            
                            
                            174,934TOTAL
      CONSOLIDATED DEBT
                            
                            
                            
                            
                            
                            
                            $
                            328,229
                            
                            
                            $
                            28,646
                            
                            
                            $
                            311,131





(1)
            Maturity
      date represents the date on which the principal amount is due and payable,
      assuming no payments have been made in advance of the maturity
      date.


(2)
            Annual
      debt service includes payments made for principal and
      interest.  Variable rate interest is calculated based on the
      respective rate as of December 31, 2008.  The six-month LIBOR
      was 1.75%, the six-month Treasury rate was 0.27%, the one-month LIBOR was
      0.44% and the Prime rate was 3.25%


(3)
            The
      Company is a guarantor for this
loan.







As of
December 31, 2008, using our notes payable secured by real estate and our total
assets from our consolidated balance sheet, our debt-to-total assets ratio is
48.1%.   Our weighted average interest rate decreased from 7.47%
as of December 31, 2007 to 7.14% as of December 31, 2008.




We have
stopped making interest and principal payments on, and may be declared in
default under, 26 of our 30 loans totaling $266.0 million. We continue to make
payments on our construction loan at 717 W. Ninth Street and other three other
loans that have interest reserves. As of March 13, 2009, we owe approximately
$2.8 million in accrued interest and another $0.8 million in principal
repayments and reserve funds. On December 15, 2008, we failed to make a required
$4.0 million principal repayment on a $17.0 million land loan. The lender
subsequently agreed to defer the principal repayment. On March 15, 2009, we owe
another $5.0 million in principal on this land loan. We have not been able to
extend or refinance three other loans totaling $86.9 million that matured on
February 28, 2009 or March 1, 2009. We have twelve loans that mature within the
next twelve months with an aggregate principal balance of $170.8 million (in
addition to $1.7 million of principal amortization on other long-term
loans).  The status of these loans is as follows:




54


§
            Two
      loans totaling approximately $58.8 million matured on February 28, 2009
      and are collectively secured by Seventh Street Produce Market and Alameda
      Square.  Our largest lease with American Apparel expired on
      December 31, 2008. During 2008, we earned lease revenue and parking income
      of approximately $3.1 million from this tenant. During 2009, American
      Apparel continues to make lease payments. Lease negotiations are ongoing
      and we do not expect the tenant to vacate the space. Because the tenant
      has not renewed its lease, it has complicated our loan negotiations. As of
      March 13, 2009, we have not made two months of interest and principal
      payments and continue to seek a loan workout agreement from this lender.
      The lender has not formally demanded payment. We expect the lender will
      continue to negotiate with us but we are not assured of
    this.




§
            One
      loan with a balance of approximately $28.1 million matured on March 1,
      2009 and is secured by our Union Lofts project and cash collateral of
      approximately $6.6 million.  We are in the process of leasing up
      this project and expect to stabilize this project by December of 2009. We
      are in discussion with our lender to extend this loan until the project is
      stabilized. We hope to obtain a takeout loan on this project once the
      project is stabilized. As of March 13, 2009, we have not made two months
      of interest payments and continue to seek a loan workout agreement from
      this lender. The lender has not formally demanded payment. We expect the
      lender will continue to negotiate with us, but we are not assured of
      this.





§
            One
      land loan with a balance of approximately $17.0 million, which is in
      default as we did not make a $4.0 million principal payment in December of
      2008, has remaining maturities of $5.0 million and $8.0 million on March
      15, 2009 and June 14, 2009 respectively. This loan is secured by land at
      our Sky Arc development project. As of March 13, 2009, we have not made
      two months of interest payments. Although the lender has verbally agreed
      to a deferral on the principal maturing in December 2008, we have not yet
      received written notice. We likewise are not in a financial position to
      make the principal repayment of $5.0 million on March 15, 2009. We
      continue to seek a loan workout agreement from this lender and have not
      yet reached a satisfactory
conclusion.




§
            Three
      loans totaling approximately $22.7 million, of which one loan of $8.9
      million is secured by land at our Ullman Tower One project, mature in the
      second quarter of 2009.  We continue to seek a loan workout
      agreement in regard to the Ullman land loan and one other loan of $5.3
      million included in the $22.7 million
amount.




§
            Three
      loans totaling approximately $31.9 million, of which one loan of $20.0
      million is secured by land at our South Park Towers projects, mature in
      the third quarter of 2009. We continue to seek a loan workout agreement in
      regard to the South Park land loan and one other loan of $5.5 million
      included in the $31.9 million
amount.




§
            Two
      loans totaling approximately $12.3 million mature in the fourth quarter of
      2009. We continue to seek a loan workout agreement in regard to both of
      these loans.




§
            Overall,
      we are seeking loan workout agreements on $177.8 million in
      loans.





The debt
and equity capital market crisis has made it more difficult for us to obtain
debt financing on favorable terms or at all.  Lenders are frequently
lending at lower loan to value ratios, are taking longer to make lending
decisions and are generally applying more stringent underwriting standards. As a
result, some lenders have required us to make principal debt reductions as a
condition of renewing or extending our notes. In this tight credit environment,
it is also very difficult to obtain loans solely secured by land. In addition,
many of our existing lenders are maintaining high floor rates, so that we do not
always benefit from reduction in the prime rate on our variable rate debt. In
addition, some lenders have required other security for their notes in the form
of restricted cash or other properties. Given that we have an approximately
$28.0 million annual shortfall in our combined operating and development
activities and the turmoil in the credit markets especially for development
financing, we must obtain significant loan concessions from our lenders to
survive.





We also
hope to generate liquidity from the sale of certain non-core
properties.





55




In
summary, our liquidity requirements for the next twelve months consist primarily
of the following:




·
            Approximately
      $172.5 million to satisfy principal amortization and the twelve loans
      maturing during the next year.




·
            Approximately
      $38.7 million in development commitments relating to our 717 W Ninth
      Street project.




·
            Approximately
      $28.0 million to fund our near term cash flow needs of our rental
      properties and development
projects.




·
            Approximately
      $3.5 million of discretionary capital improvements to our rental
      properties primarily related to new
leases.




Our
potential cash sources to fund our liquidity requirements for the year consist
of the following:




·
            Refinancing,
      repaying out of sale proceeds or obtaining loan concessions from lenders
      of approximately $172.5 million in debt maturing during the next
      year.




·
            Selling
      certain non-core properties.




·
            Using
      reserve funds of approximately $38.7 million to fund the remaining
      commitment relating to our 717 W. Ninth Street
  project.




·
            Obtaining
      borrowings secured by our unencumbered or under-encumbered
      properties.




·
            Improving
      net operating income from our rental properties, including by revising
      certain of our development plans to convert development projects into
      smaller scale income-producing projects that will generate revenue
      sooner.




In
addition, as disclosed elsewhere in this report, we are actively pursuing
additional cash sources and considering actions that would delay or reduce our
liquidity needs.  We are examining all feasible strategic
alternatives.  Potential strategic alternatives include a voluntary
bankruptcy filing under Chapter 11 of the U.S. Bankruptcy Code.




Based on
the foregoing and the additional actions we are considering, we are not assured
that we will have sufficient capital to satisfy our liquidity needs over the
next 12 months.  In this regard, we observe that we received a “going
concern” opinion from our independent auditors.  See our auditors’
letter included in the financial pages to this report and Note 2 to our
financial statements therein.





Contractual
Obligations




The
following table provides information with respect to our contractual obligations
at December 31, 2008, including the maturities (not including extensions) and
scheduled principal and interest payments of our secured debt and provides
information about the minimum commitments due in connection with our
construction costs and purchase obligations.


56





Payments due
      by periodLess than
                            1 year(1)
                          
                          
                          1-3
      years
                          
                          
                          3-5
      years
                          
                          
                          More
      than
                            5 years
                          
                          
                          TotalContractual Obligation at December 31,
      2008Notes
      payable secured by real estate
                          
                          $
                          172,518
                          
                          
                          $
                          114,054
                          
                          
                          $
                          29,915
                          
                          
                          $
                          11,742
                          
                          
                          $
                          328,229Interest
      payments on notes payable(2)
                          
                          
                          17,056
                          
                          
                          
                          13,881
                          
                          
                          
                          3,366
                          
                          
                          
                          2,196
                          
                          
                          
                          36,499Construction
      obligations (3)
                          
                          
                          38,668
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          38,668$
                          228,242
                          
                          
                          $
                          127,935
                          
                          
                          $
                          33,281
                          
                          
                          $
                          13,938
                          
                          
                          $
                          403,396(1)These
      amounts include all payments due in calendar 2009.
                            
                            (2)Computes
      interest on variable rate debt using the respective interest rates in
      place as of December 31, 2008.As of December 31,
      2008, the six-month LIBOR was 1.75%, the
      one-month      LIBOR was 0.44%, the six-month
      Treasury rate was 0.27% and the Prime rate was 3.25%.
                            
                            (3)Based
      upon executed contracts with general contractors as of December 31,
      2008. We have a construction loan in place to cover these
      costs.








Off-Balance
Sheet Arrangements




At
December 31, 2008, we did not have any guarantee contracts, retained or
contingent interests in transferred assets, obligations under derivative
instruments, obligations arising out of variable interests in unconsolidated
entities, or other off-balance sheet arrangements.




Cash
Flows




Comparison
of the year ended December 31, 2008 to the year ended December 31,
2007




Cash and
cash equivalents were $4.5 million as of December 31, 2008 and $3.0 million as
of December 31, 2007. For purposes of comparison, the following discussion
regarding 2007 amounts include the predecessor results for the period from
January 1, 2007 to January 29, 2007 and our company results for the period from
January 30, 2007 to December 31, 2007.




Net cash
used in operating activities increased by $1.2 million to $8.2 million for the
year ended December 31, 2008 compared to $7.0 million for the year ended
December 31, 2007.  The increase is primarily due to costs on
development projects.




Net cash
used in investing activities decreased by $194.0 million to $26.2 million for
the year ended December 31, 2008 compared to $220.2 million for the year ended
December 31, 2007.  With the net proceeds received from our IPO during
the year ended December 31, 2007, we repaid $32.6 million in deferred interest
on the CalPERS credit facility and acquired additional real estate for $103.5
million.  During the year ended December 31, 2008, we had no CalPERS
credit facility obligations and acquired less real estate than in the previous
year.  In fact, the two projects we acquired (9901 Alameda and
Overland Terminal) were subsequently sold immediately, generating $6.8 million
and $2.8 million of net proceeds, respectively.  In addition, we also
sold our projects at 2000 San Fernando Road, 1800 E. Washington Blvd., 801 E
7th
Street, and a building at 816 Stanford for a total of $59.7
million.  There were no sales in the prior period.  The
sales are offset by increased restricted cash balances required by our new
loans, primarily our construction loan for our 717 W 9th Street
project.




Net cash
provided by financing activities decreased by $192.0 million to $35.9 million
for the year ended December 31, 2008, compared to $227.9 million for the year
ended December 31, 2007.  The decrease is primarily attributable to
the $455.5 million of proceeds received from our IPO in the prior year partially
offset by the prior year repayment of the $150.0 million CalPERS credit facility
and offering costs and expenses related to our offering of $36.2
million.  In addition, we received $14.2 million from the repayment of
the affiliate notes receivable due to the Taylor Yards litigation settlement
during the year ended December 31, 2008 with no comparable activity in the prior
period.




57


Comparison
of the year ended December 31, 2007 to the year ended December 31,
2006




Cash and
cash equivalents were $3.0 million as of December 31, 2007 and $2.4 million as
of December 31, 2006.  For purposes of comparison, the following
discussion regarding 2007 amounts include the predecessor results for the period
from January 1, 2007 to January 29, 2007 and our company results for the period
from January 30, 2007 to December 31, 2007.




Net cash
used in operating activities decreased by $8.9 million to $7.0 million for the
year ended December 31, 2007 compared to $15.9 million for the year ended
December 31, 2006.  The decrease is primarily due to lower interest
costs paid, which is a direct result of our repayment of debt with the net
proceeds of our IPO.




Net cash
used in investing activities increased by $157.9 million to $220.2 million for
the year ended December 31, 2007 compared to $62.3 million for the year ended
December 31, 2006.  As a result of the net proceeds received from our
IPO, we repaid $32.6 million in deferred interest on the CalPERS credit facility
and acquired additional real estate of $66.4 million.  In addition, we
actively continued our planned construction of our development properties,
primarily Union Lofts and 717 W 9th Street,
which resulted in an increase of $49.7 million in costs over the prior
year.




Net cash
provided by financing activities increased by $156.8 million to $227.8 million
for year ended December 31, 2007 compared to $71.0 million for the year ended
December 31, 2006.  The increase is primarily attributable to the
$455.5 million of proceeds received from our IPO partially offset by the
repayment of the $150.0 million CalPERS credit facility, the net payments on
notes payable secured by real estate of $35.2 million and costs and expenses
related to our offering of $36.2 million.





Impact
of Inflation, Changing Prices and Economic Conditions




Residential
projects


The
market value of a unit in a proposed residential project can vary significantly
due to changing market conditions, and there may be a significant amount of time
before we can develop our residential projects and offer units available for
sale or rent.




Commercial
projects


Some of
our commercial leases provide for fixed base rent increases and operating
expense reimbursements.  We believe that inflationary increases may be
at least partially offset by these contractual rent increases and expense
reimbursements.





Total
portfolio


Prices of
residential units and sales and commercial rental activities in the Los Angeles
market have a large impact on our profitability because we conduct substantially
all of our business in this market. These prices or rents could decline from
time to time for market-specific reasons, including adverse economic conditions
due to, among other things, the failure or decline of key industries and
employers affecting the local, regional or national economies. If the prices of
residential units or sales or commercial rental activity decline in the key
market in which we operate, our business, results of operations and financial
condition would be materially adversely affected.





Recent
Accounting Pronouncements




In June
2006, the FASB issued FASB Interpretation No. 48,Accounting for Uncertainty in
Income Taxes (FIN 48), to create a single model to address accounting for
uncertainty in tax positions. FIN 48 clarifies the accounting for income taxes,
by prescribing a minimum recognition threshold a tax position is required to
meet before being recognized in the financial statements. FIN 48 also provides
guidance on derecognition, measurement, classification, interest and penalties,
accounting in interim periods, disclosure and transition. We adopted FIN 48 on
January 1, 2007. Based on our evaluation, we have concluded that there are
no significant uncertain tax positions requiring recognition in our financial
statements at December 31, 2008 and 2007.




58


In
September 2006, the FASB issued Statement of Financial Accounting Standard No.
157,Fair Value
Measurements (“SFAS 157”). SFAS 157 provides guidance for using fair
value to measure assets and liabilities. This statement clarifies the principle
that fair value should be based on the assumptions that market participants
would use when pricing the asset or liability. SFAS 157 establishes a fair value
hierarchy, giving the highest priority to quoted prices in active markets and
the lowest priority to unobservable data. SFAS 157 applies whenever other
standards require assets or liabilities to be measured at fair value. This
statement is effective in fiscal years beginning after November 15, 2007.
In February 2008, the FASB issued FASB Staff Position SFAS 157-1, Application of FASB Statement No.
157 to FASB Statement 13 and Other Accounting Pronouncements that Address Fair
Value Measurements for Purposes of Lease Classification or Measurement Under
Statement 13 (“FSP SFAS 157-1”).  FSP FAS 157-1 defers the
effective date of SFAS 157 for all non-financial assets and non-financial
liabilities, except for those that are recognized or disclosed at fair value in
the financial statements on a recurring basis to fiscal years beginning after
November 15, 2008.  FSP SFAS 157-1 also excludes certain leasing
transactions accounted for under Statement of Financial Accounting Standards No.
13, Accounting for
Leases from the scope of SFAS 157.The implementation of SFAS
No. 157 for financial assets and liabilities, effective January 1,
2008, did not have a significant impact on our consolidated financial position
and results of operations.




In
February 2007, the FASB issued Statement of Financial Accounting Standard No.
159, The Fair Value Option for
Financial Assets and Financial Liabilities Including an Amendment of FASB
Statement No. 115 (“SFAS 159”).  This standard permits entities
to choose to measure many financial instruments and certain other items at fair
value and is effective for the first fiscal year beginning after November 15,
2007.  Effective January 1, 2008, we adopted SFAS 159 on a prospective
basis.  The adoption of SFAS 159 did not have a significant impact on
our consolidated financial statements as we did not elect to apply the fair
value option for any of our eligible financial instruments or other items on the
January 1, 2008 effective date.





In
December 2007, the FASB issued Statement of Financial Accounting Standard No.
141 (Revised 2007), Business Combinations (“SFAS
141R”).  SFAS 141R will significantly change the accounting for
business combinations.  Under SFAS 141R, an acquiring entity will be
required to recognize all the assets acquired and liabilities assumed in a
transaction at the acquisition-date fair value with limited
exceptions.  SFAS 141R also includes a substantial number of new
disclosure requirements.  SFAS 141R applies prospectively to business
combinations occurring in any reporting period beginning on or after December
15, 2008.  We are currently evaluating the effect the adoption
of SFAS 141R will have on our consolidated financial position and results
of operations.





In
December 2007, the FASB issued FAS No. 160,Non-controlling Interests in
Consolidated Financial Statements-an Amendment of Accounting Research Bulletin
No. 51 (“SFAS 160”).  SFAS 160 establishes new accounting and
reporting standards for a non-controlling interest in a subsidiary and for the
deconsolidation of a subsidiary.  Specifically, this statement
requires the recognition of a non-controlling interest (minority interest) as
equity in the consolidated financial statements separate from the parent’s
equity.  The amount of net income attributable to the non-controlling
interest will be included in consolidated net income on the face of the income
statement.  SFAS 160 clarifies that changes in a parent’s ownership
interest in a subsidiary that do not result in deconsolidation are equity
transactions if the parent retains its controlling financial
interest.  In addition, this statement requires that a parent
recognize a gain or loss in net income when a subsidiary is
deconsolidated.  Such gain or loss will be measured using the fair
value of the non-controlling equity investment on the deconsolidation
date.  SFAS 160 also includes expanded disclosure requirements
regarding the interests of the parent and its non-controlling
interest.  SFAS 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after December 15, 2008, which for us
means January 1, 2009.  We do not expect the adoption of SFAS 160 to
have a significant effect on our consolidated financial statements.





In May
2008, the FASB issued Statement of Financial Accounting Standard No. 162, The Hierarchy of Generally Accepted
Accounting Principle (“SFAS 162”).  SFAS 162 identified the
sources of accounting principles and the framework for selecting the principles
to be used in the preparation of financial statements of nongovernmental
entities that are presented in conformity with GAAP.  It is effective
60 days following the SEC’s approval of the Public Company Accounting Oversight
Board amendments to AU Section 411, The Meaning of Present Fairly in
Conformity with Generally Accepted Accounting Principles.  We
do not expect the adoption of SFAS 162 to have a significant effect on our
consolidated financial statements.





59


Item
7A.                      Quantitative
and Qualitative Disclosures About Market Risk





Quantitative
and Qualitative Disclosures About Market Risk




We are
exposed to market risks related to fluctuations in interest rates on mortgage
loans and other forms of debt financing. For fixed rate debt, changes in
interest rates generally affect the fair value of the debt instrument, but not
our earnings or cash flows. Conversely, for variable rate debt, changes in
interest rates generally do not impact the fair value of the debt instrument,
but may affect our future earnings and cash flows.




The
following tables set forth our debt obligations outstanding and their maturities
as of December 31, 2008 (in thousands):





Principal
      due by year2009
              
              
              2010
              
              
              2011
              
              
              2012
              
              
              2013
              
              
              Thereafter
              
              
              TotalFixed
      rate debt instruments
              
              $
              59,356
              
              
              $
              44,548
              
              
              $
              17,201
              
              
              $
              5,855
              
              
              $
              3,152
              
              
              $
              8,792
              
              
              $
              138,904Variable
      rate debt instruments
              
              
              113,162
              
              
              
              12,912
              
              
              
              39,393
              
              
              
              6,238
              
              
              
              14,670
              
              
              
              2,950
              
              
              
              189,325Total
      Debt
              
              $
              172,518
              
              
              $
              57,460
              
              
              $
              56,594
              
              
              $
              12,093
              
              
              $
              17,822
              
              
              $
              11,742
              
              
              $
              328,229




We
calculate the fair value of our notes payable based on a currently available
market rate; assuming the loans are outstanding through maturity and considering
the collateral.  In determining the current market rate for fixed rate
debt, a market spread is added to the quoted yields on federal government
treasury securities with similar maturity dates to debt.  As of December
31, 2008 and 2007, the aggregate fair value of our secured notes payable was
approximately $328.1 million and $308.7 million,
respectively.





As of
December 31, 2008, we had approximately $189.3 million in variable rate
financing outstanding, which represented approximately 57.7% of consolidated
total indebtedness. If interest rates were to increase by 75 basis points, or
approximately 10% of our weighted average rate, the combined increase in
interest expense and capitalized interest would decrease our cash flows by
approximately $1.4 million annually.




Item
8.                           Financial
Statements and Supplementary Data





The required response under this Item
is submitted in a separate section of this Report. See Listing to the Financial
Statements at Item 15 on page F-1.





Item
9.                          Changes
in and Disagreements With Accountants on Accounting and Financial
Disclosure





None.





Item
9A.                      Controls
and Procedures





Evaluation
of Disclosure Controls and Procedures





We maintain disclosure controls and
procedures to ensure that material information relating to us, including our
consolidated subsidiaries, is made known to the officers who certify our
financial reports and to the members of senior management and the Board of
Directors.




Based on
management’s evaluation as of December 31, 2008, our principal executive officer
and principal financial officer have concluded that our disclosure controls and
procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Securities
Exchange Act of 1934) are effective to ensure that the information required to
be disclosed by us in the reports that we file or submit under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported within the
time periods specified in SEC rules and forms.





60


Management’s
Report on Internal Control over Financial Reporting





As defined in SEC Rules 13a-15(f) and
15d-15(f), internal control over financial reporting is a process designed by,
or under the supervision of, our principal executive officer and principal
financial officer, and effected by our Board of Directors, management and other
personnel to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles.  Internal
control over financial reporting includes policies and procedures that i)
pertain to the maintenance of records that, in reasonable detail accurately and
fairly reflect our transactions and assets, ii) provide reasonable assurance
that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that
our receipts and expenditures are being made only in accordance with
authorizations of management and directors; and iii) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition,
use or disposition of assets that could have a material effect on the
consolidated financial statements.





Our management is responsible for
establishing and maintaining adequate internal control over financial
reporting.  We have used the framework set forth in the Internal Control – Integrated
Framework issued by the Committee of Sponsoring Organizations (“COSO”) of
the Treadway Commission to assess our internal control over financial
reporting.  Our internal control over financial reporting is supported
by written policies and procedures and by an appropriate segregation of
responsibilities and duties.  Based on our evaluation, which included
participation by our principal executive and principal financial officers,
conducted using the guidance set forth by COSO, our management has concluded
that as of December 31, 2008, our internal control over financial reporting was
effective in providing reasonable assurance regarding the reliability of
financial reporting and the preparation of our financial statements for external
purposes in accordance with generally accepted accounting
principles.  The attestation report of Ernst & Young LLP, our
independent registered public accounting firm, regarding internal control over
financial reporting is included below under the caption “Report of Independent
Registered Public Accounting Firm on Internal Control over Financial
Reporting.”





Changes
in Internal Control over Financial Reporting





There have been no significant changes
that occurred during the fourth quarter of the year covered by this report in
our internal control over financial reporting identified in connection with the
evaluation referenced above that has materially affected, or is reasonably
likely to materially affect, our internal control over financial
reporting.





Item
9B.                      Other
Information.





Not applicable.


61


PART
III





Item
10.                                Directors,
Executive Officers and Corporate Governance





The information required by Item 10 is
incorporated by reference to our definitive Proxy Statement for our 2009 annual
stockholders’ meeting.





Item
11.                                Executive
Compensation





The information required by Item 11 is
incorporated by reference to our definitive Proxy Statement for our 2009 annual
stockholders’ meeting.





Item
      12.
            Security Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters





The information required by Item 12 is
incorporated by reference to our definitive Proxy Statement for our 2009 annual
stockholders’ meeting.





Item
13.                               Certain
Relationships and Related Transactions, and Director Independence





The information required by Item 13 is
incorporated by reference to our definitive Proxy Statement for our 2009 annual
stockholders’ meeting.





Item
14.                              Principal
Accountant Fees and Services





The information required by Item 14 is
incorporated by reference to our definitive Proxy Statement for our 2009 annual
stockholders’ meeting.


62


PART IV





Item
15.                                Exhibits
and Financial Statement Schedules





The
following documents are filed as part of this Annual Report on Form 10-K and
begin at page F-1:





(a)           1.           Financial
Statements




Meruelo
      Maddux Properties, Inc. and Subsidiary (the “Company”) and Meruelo Maddux
      Properties (the “Predecessor”):Report
      of Independent Registered Public Accounting FirmConsolidated
      Balance Sheets of the Company as of December 31, 2008 and
    2007Consolidated
      Statements of Operations of the Company for Year Ended December 31, 2008
      and the Period from January 30, 2007 through December 31, 2007 and
      Combined Statements of Operations of the Predecessor for the Period from
      January 1, 2007 through January 29, 2007 and for the Year Ended December
      31, 2006.Consolidated
      Statements of Stockholders’ Equity (Deficit) of the Company for the Year
      Ended December 31, 2008 and the Period from January 30, 2007 through
      December 31, 2007 and the Combined Statements of Owners’ Equity (Deficit)
      of the Predecessor for the Period from January 1, 2007 through January 29,
      2007 and the Year ended December 31, 2006.Consolidated
      Statements of Cash Flow of the Company for the Year Ended December 31,
      2008 and the Period from January 30, 2007 through December 31, 2007 and
      the Combined Statements of Cash Flow of the Predecessor for the Period
      from January 1, 2007 through January 29, 2007 and for the Year Ended
      December 31, 2006.Notes
      to Consolidated and Combined Financial Statements





2.
            Financial
      Statement Schedules





Schedule
III – Consolidated Real Estate and Accumulated Depreciation





All other
schedules for which provision is made in Regulation S-X are either not required
to be included herein under the related instructions or are inapplicable or the
related information is included in the footnotes to the applicable financial
statement and, therefore, have been omitted.


63


3.
            Exhibits


Exhibit
              Number
            
            Description
      of Exhibit3.1
            
            Form
      of Amended and Restated Certificate of Incorporation (1)3.2
            
            Form
      of Bylaws (1)4
            
            Form
      of Common Stock Certificate  (1)10.1
            
            Form
      of Amended and Restated Agreement of Limited Partnership of Meruelo Maddux
      Properties, L.P.(1)10.2
            
            2007
      Equity Incentive Plan* (1)10.3
            
            Form
      of LTIP Unit Agreement* (1)10.4
            
            Form
      of Restricted Stock Agreement* (1)10.5
            
            Form
      of Employment Agreement with Mr. Meruelo* (1)10.6
            
            Form
      of Employment Agreement with Mr. Maddux* (1)10.7
            
            Form
      of Employment Agreement with Mr. Beckemeyer* (1)10.8
            
            Form
      of Employment Agreement with Mr. Skaggs* (1)10.9
            
            Form
      of Employment Agreement with Mr. McGonagle* (1)10.10
            
            Form
      of Employment Agreement with Mr. Nielsen* (1)10.11
            
            Form
      of Employment Agreement with Mr. Echemendia* (1)10.12
            
            Form
      of Employment Agreement with Mr. Murray* (2)10.13
            
            Contribution
      Agreement dated September 19, 2006, by and among Meruelo Maddux
      Properties, Inc., Meruelo Maddux Properties, L.P., Richard Meruelo, as
      Trustee of the Richard Meruelo Living Trust U/D/T dated September 15,
      1989, Merco Group – Roosevelt Building, LLC, and Sunstone Bella Vista, LLC
      (1)10.14
            
            Merger
      Agreement dated September 19, 2006, by and among Meruelo Maddux
      Properties, Inc., Santa Fe & Washington Market, Inc., Santa Fe &
      Washington Market, LLC, and Richard Meruelo, as Trustee of the Richard
      Meruelo Living Trust U/D/T dated September 15, 1989 (1)10.15
            
            Merger
      Agreement dated September 19, 2006, by and among Meruelo Maddux
      Properties, Inc., Alameda Produce Market, Inc., Alameda Produce Market,
      LLC, Richard Meruelo, as Trustee of the Richard Meruelo Living Trust U/D/T
      dated September 15, 1989 (1)10.16
            
            Form
      of Indemnification Agreement between Meruelo Maddux Properties, Inc. and
      its directors and officers (1)10.17
            
            Form
      of Registration Rights Agreement (1)10.18
            
            Form
      of Non-Competition Agreement with Messrs. Meruelo and Maddux (1)10.19
            
            First
      Amendment to Contribution Agreement dated as of September 19, 2006,
      by and among Meruelo Maddux Properties, Inc., Meruelo Maddux Properties,
      L.P., Richard Meruelo, as Trustee of the Richard Meruelo Living Trust
      U/D/T dated September 15, 1989, Merco Group – Roosevelt
      Building, LLC, and Sunstone Bella Vista, LLC (1)10.20
            
            First
      Amendment to Merger Agreement dated as of September 19, 2006, by and
      among Meruelo Maddux Properties, Inc., Alameda Produce Market, Inc.,
      Alameda Produce Market, LLC, and Richard Meruelo, as Trustee of the
      Richard Meruelo Living Trust U/D/T dated September 15, 1989 (1)


64


3.Exhibits,
continued





Exhibit
              Number
            
            Description
      of Exhibit10.21
            
            Loan
      Agreement, dated as of July 31, 2008, by and among Meruelo Maddux – 845 S
      Flower Street, LLC and Canpartners Realty Holding Company IV
      LLC (3)10.22
            
            Form
      of Note by Meruelo Maddux – 845 S. Flower Street, LLC in favor of
      Canpartners Realty Holding Company IV LLC (3)21
            
            List
      of subsidiaries23
            
            Consent
      of Ernst & Young LLP, Independent Registered Public Accounting
      Firm24.1
            
            Power
      of Attorney (included in Part IV of this Annual Report on Form
      10-K)31.1
            
            Certification
      of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200231.2
            
            Certification
      of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200232.1
            
            Certification
      of Chief Executive Officer pursuant to 18 U.S.C. 1350, as created by
      Section 906 of the Sarbanes-Oxley Act of 200232.2
            
            Certification
      of Chief Financial Officer pursuant to 18 U.S.C. 1350, as created by
      Section 906 of the Sarbanes-Oxley Act of 2002*
            
            Represents
      management contract or compensatory plan or agreement(1)
            
            Previously
      filed as an exhibit to the Registrant’s Registration Statement on Form
      S-11 (No. 333-137457) and incorporated herein by
  reference.(2)
            
            Previously
      filed as an exhibit to the Registrant’s Current Report on Form 8-K on May
      14, 2008 and incorporated herein by reference.(3)
            
            Previously
      filed as an exhibit to the Registrant’s Current Report on Form 8-K on
      August 4, 2008 and incorporated herein by
  reference.


65


SIGNATURES





Pursuant to the requirements of Section
13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.




MERUELO MADDUX PROPERTIES,
      INC.Date:
      March 13, 2009
              By:
              /s/ Richard
      MerueloRichard
      MerueloChief
      Executive Officer and Chairman of the Board of Directors




KNOW ALL MEN BY THESE PRESENTS, that
we, the undersigned officers of Meruelo Maddux Properties, Inc., hereby
severally constitute Richard Meruelo, John Charles Maddux and Andrew Murray, and
each of them singly, our true and lawful attorneys with full power to them, and
each of them singly, to sign for us and in our names in the capacities indicated
below, the Form 10-K filed herewith and any and all amendments to said Form
10-K, and generally to do all such things in our names and in our capacities as
officers and directors to enable Meruelo Maddux Properties, Inc. to comply with
the provisions of the Securities Exchange Act of 1934, as amended and all
requirements of the Securities and Exchange Commission, hereby ratifying and
confirming our signatures as they may be signed by our said attorneys, or any of
them, to said Form 10-K and any and all amendments thereto.





Pursuant to the requirements of the
Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and dates
indicated.





Date                                                                           Signature





March
      13, 2009
            /s/ Richard Meruelo
              Richard
      Meruelo
            Chief
      Executive Officer (Principal Executive Officer) and Chairman of the Board
      of DirectorsMarch
      13, 2009
            /s/ John Charles Maddux
              John
      Charles Maddux
            DirectorMarch
      13, 2009
            /s/ Lynn Beckemeyer
              Lynn
      Beckemeyer
            DirectorMarch
      13, 2009
            /s/ John B. Hansen
              John
      B. Hansen
            DirectorMarch
      13, 2009
            /s/ Philip S. Payne
              Philip
      S. Payne
            DirectorMarch
      13, 2009
            /s/ Richard Garcia Polanco
              Richard
      Garcia Polanco
            DirectorMarch
      13, 2009
            /s/ Anthony A. Williams
              Anthony
      A. Williams
            DirectorMarch
      13, 2009
            /s/ Andrew Murray
              Andrew
      Murray
            Chief
      Financial Officer (Principal Financial Officer and Principal Accounting
      Officer)





66


INDEX
TO FINANCIAL STATEMENTS





Meruelo
      Maddux Properties, Inc. and Subsidiaries and Meruelo Maddux Properties
      Predecessor:
                
                PageReport
      of Independent Registered Public Accounting Firm on Internal Control over
      Financial Reporting
                
                
                F-2Report
      of Independent Registered Public Accounting Firm
                
                
                F-3Consolidated
      Balance Sheets of the Company as of December 31, 2008 and
      2007...................................
                
                
                F-4Consolidated
      Statements of Operations of the Company for the Year Ended December 31,
      2008 and the Period from January 30, 2007 through December 31, 2007 and
      Combined Statements of Operations of the Predecessor for the Period from
      January 1, 2007 through January 29, 2007 and for the Year Ended December
      31, 2006...........................................................................................................................
                
                
                F-5Consolidated
      Statements of Stockholders’ Equity (Deficit) of the Company for the Year
      Ended December 31, 2008 and the Period from January 30, 2007 through
      December 31, 2007 and the Combined Statements of Owners’ Equity (Deficit)
      of the Predecessor for the Period from January 1, 2007 through January 29,
      2007 and the Years ended December 31, 2006
                
                
                F-6Consolidated
      Statements of Cash Flow of the Company for Year Ended December 31, 2008
      and the Period from January 30, 2007 through December 31, 2007 and the
      Combined Statements of Cash Flow of the Predecessor for the Period from
      January 1, 2007 through January 29, 2007 and for the Year Ended December
      31, 2006...........................................................................................................................
                
                
                F-7Notes
      to Consolidated and Combined Financial
      Statements..............................................................
                
                
                F-8Schedule
      III – Consolidated Real Estate and Accumulated
Depreciation
                
                
                F-29











REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


ON INTERNAL CONTROL OVER FINANCIAL
REPORTING


The Board
of Directors and Stockholders


Meruelo
Maddux Properties, Inc.





We have
audited Meruelo Maddux Properties, Inc.’s internal control over financial
reporting as of December 31, 2008, based on criteria established in
Internal Control — Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the COSO criteria). Meruelo
Maddux Properties, Inc.’s management is responsible for maintaining effective
internal control over financial reporting, and for its assessment of the
effectiveness of internal control over financial reporting included in the
accompanying Report of Management on Meruelo Maddux Properties, Inc.’s Internal
Control Over Financial Reporting. Our responsibility is to express an opinion on
the company’s internal control over financial reporting based on our
audit.





We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.





A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain
to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the
financial statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.





In our
opinion, Meruelo Maddux Properties, Inc. maintained, in all material respects,
effective internal control over financial reporting as of December 31,
2008, based on the COSO criteria.





We have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of Meruelo
Maddux Properties, Inc. as of December 31, 2008 and December 31, 2007,
and the related consolidated statements of operations, stockholders’ equity
(deficit), and cash flows for the year ended December 31, 2008 and period from
January 30, 2007 through December 31, 2007, and  the combined
statements of operations, owners’ equity (deficit), and cash flows for the
period from January 1, 2007 through January 29, 2007 of Meruelo Maddux
Properties predecessor (the “predecessor”), as defined in Note 1, and for the
year ended December 31, 2006 (representing the predecessor), and our report
dated March 13, 2009 expressed an unqualified opinion thereon that included an
explanatory paragraph regarding Meruelo Maddux Properties Inc.’s ability to
continue as a going concern.







/s/  Ernst &
      Young LLP




Los
Angeles, California


March 13,
2009


F-2





REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM


The Board
of Directors and Stockholders


Meruelo
Maddux Properties, Inc.





We have
audited the accompanying consolidated balance sheets of Meruelo Maddux
Properties, Inc. (the “Company”) as of December 31, 2008 and
December 31, 2007, and the related consolidated statements of operations,
stockholders’ equity (deficit), and cash flows for the year ended December 31,
2008 and the period from January 30, 2007 through December 31, 2007,
and the combined statements of operations, owners’ equity (deficit), and
cash flows for the period from January 1, 2007 through January 29, 2007 of
Meruelo Maddux Properties predecessor (the “predecessor”), as defined in Note 1,
and for the year ended December 31, 2006 (representing the predecessor).
Our audits also included the financial statement schedule listed in the index at
Item 15(a)(2). These consolidated and combined financial statements and
schedule are the responsibility of the Company’s management. Our responsibility
is to express an opinion on these financial statements and schedule based on our
audits.




We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Meruelo Maddux
Properties, Inc. at December 31, 2008 and December 31, 2007, and the
consolidated results of its operations and its cash flows for the year ended
December 31, 2008 and the period from January 30, 2007 through December 31,
2007, and the combined results of operations and cash flows for the period
from January 1, 2007 through January 29, 2007 (representing the predecessor),
and for the year ended December 31, 2006 (representing the predecessor) in
conformity with U.S. generally accepted accounting principles. Also, in our
opinion, the related financial statement schedule, when considered in relation
to the basic financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), Meruelo Maddux Properties, Inc.’s internal
control over financial reporting as of December 31, 2008, based on criteria
established in Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission and our report dated
March 13, 2009 expressed an unqualified opinion thereon.





The
accompanying financial statements have been prepared assuming that Meruelo
Maddux Properties, Inc. will continue as a going concern. As more fully
described in Note 2 to the financial statements, the Company has recurring
losses from operations and has a working capital deficiency. In addition, the
Company has not complied with certain covenants of loan agreements with banks
and expects that future debt violations will occur at various dates in 2009
which will require waivers to be obtained from the lenders in order for the debt
not to be considered in default. These conditions raise substantial doubt about
the Company’s ability to continue as a going concern. Management’s plans in
regard to these matters are also described in Note 2. The 2008 financial
statements do not include any adjustments to reflect the possible future effects
on the recoverability and classification of assets or the amounts and
classification of liabilities that may result from the outcome of this
uncertainty.







/s/  Ernst &
      Young LLP




Los
Angeles, California


March 13,
2009





F-3


MERUELO
MADDUX PROPERTIES, INC.





CONSOLIDATED
BALANCE SHEETS


(In
thousands, except share data)




December
      31, 2008
                    
                    
                    December
      31, 2007AssetsCash
      and cash equivalents
                    
                    $
                    4,460
                    
                    
                    $
                    3,030Restricted
      cash
                    
                    
                    27,220
                    
                    
                    
                    7,104Accounts
      receivable, net of allowance for doubtful accounts
      of    $0.6 million in 2008 and $0.5 million in
      2007
                    
                    
                    1,246
                    
                    
                    
                    2,610Rental
      properties, net
                    
                    
                    297,809
                    
                    
                    
                    306,096Real
      estate held for development
                    
                    
                    347,946
                    
                    
                    
                    461,789Other
      assets, net
                    
                    
                    3,088
                    
                    
                    
                    3,551Total
      Assets
                    
                    $
                    681,769
                    
                    
                    $
                    784,180Liabilities
      and Stockholders’ EquityAccounts
      payable
                    
                    $
                    1,660
                    
                    
                    $
                    8,585Accrued
      expenses and other liabilities
                    
                    
                    12,133
                    
                    
                    
                    8,045Notes
      payable secured by real estate
                    
                    
                    328,229
                    
                    
                    
                    307,394Deferred
      taxes, net
                    
                    
                    –
                    
                    
                    
                    41,101Total
      liabilities
                    
                    $
                    342,022
                    
                    
                    $
                    365,125Commitments
      and contingenciesMinority
      interests
                    
                    
                    503
                    
                    
                    
                    –Common
      stock, $.01 par value, 200,000,000 shares authorized, 88,076,987 and
      85,837,900 shares issued and outstanding as of December 31, 2008 and 2007,
      respectively
                    
                    
                    881
                    
                    
                    
                    858Additional
      paid in capital
                    
                    
                    446,252
                    
                    
                    
                    444,280Affiliate
      notes receivable
                    
                    
                    –
                    
                    
                    
                    (14,214
                    )Retained
      earnings (deficit)
                    
                    
                    (107,889
                    )
                    
                    
                    (11,869
                    )Total
      stockholders' equity
                    
                    
                    339,244
                    
                    
                    
                    419,055Total
      liabilities and stockholders' equity
                    
                    $
                    681,769
                    
                    
                    $
                    784,180





F-4


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





CONSOLIDATED
AND COMBINED STATEMENTS OF OPERATIONS


(In
thousands, except share data)





Meruelo
      Maddux Properties, Inc.
                
                
                PredecessorYear
      Ended
                  December
      31, 2008
                
                
                Period
      Jan 30, 2007 through Dec 31, 2007
                
                
                Period
      Jan 1, 2007 through Jan 29, 2007
                
                
                Year
      Ended
                  December
      31, 2006RevenuesRental
      income
                
                $
                22,709
                
                
                $
                19,617
                
                
                $
                1,922
                
                
                $
                22,327Management
      fees
                
                
                285
                
                
                
                260
                
                
                
                12
                
                
                
                285Interest
      income
                
                
                839
                
                
                
                2,824
                
                
                
                205
                
                
                
                3,614Other
      income
                
                
                351
                
                
                
                493
                
                
                
                28
                
                
                
                751Total
      Revenues
                
                
                24,184
                
                
                
                23,194
                
                
                
                2,167
                
                
                
                26,977ExpensesRental
      expenses
                
                
                15,291
                
                
                
                12,097
                
                
                
                992
                
                
                
                10,097Interest
      expense
                
                
                11,445
                
                
                
                8,630
                
                
                
                2,134
                
                
                
                25,015Depreciation
      and amortization
                
                
                7,091
                
                
                
                5,390
                
                
                
                363
                
                
                
                3,960Impairment
      loss on real estate assets
                
                
                142,295
                
                
                
                -
                
                
                
                -
                
                
                
                -General
      and administrative
                
                
                9,524
                
                
                
                8,991
                
                
                
                628
                
                
                
                6,045Total
      Expenses
                
                
                185,646
                
                
                
                35,108
                
                
                
                4,117
                
                
                
                45,117Loss
      from continuing operations before minority interests and income
      taxes
                
                
                (161,462
                )
                
                
                (11,914
                )
                
                
                (1,950
                )
                
                
                (18,140
                )Minority
      interests
                
                
                (843
                )
                
                
                -
                
                
                
                -
                
                
                
                -Benefit
      (provision) for income taxes
                
                
                51,933
                
                
                
                -
                
                
                
                -
                
                
                
                -Loss
      from continuing operations
                
                
                (110,372
                )
                
                
                (11,914
                )
                
                
                (1,950
                )
                
                
                (18,140
                )Income
      (loss) from discontinued operations
                
                
                163
                
                
                
                45
                
                
                
                (54
                )
                
                
                (252
                )Gain
      on sale of real estate
                
                
                14,189
                
                
                
                -
                
                
                
                -
                
                
                
                1,329Income
      (loss) from discontinued operations
                
                
                14,352
                
                
                
                45
                
                
                
                (54
                )
                
                
                1,077Net
      loss
                
                $
                (96,020
                )
                
                $
                (11,869
                )
                
                $
                (2,004
                )
                
                $
                (17,063
                )Basic
      and diluted loss per share:Loss
      from continuing operations
                
                $
                (1.27
                )
                
                $
                (0.14
                )
                
                
                N/A
                
                
                
                N/AIncome
      (loss) from discontinued operations
                
                
                0.16
                
                
                
                0.00
                
                
                
                N/A
                
                
                
                N/ANet
      loss
                
                $
                (1.11
                )
                
                $
                (0.14
                )
                
                
                N/A
                
                
                
                N/AWeighted
      average common shares outstanding - basic and diluted
                
                
                86,866,699
                
                
                
                85,218,110
                
                
                
                N/A
                
                
                
                N/A


See
accompanying notes to the consolidated and combined financial
statements.


F-5


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





CONSOLIDATED
AND COMBINED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT)


(In
thousands, except share data)





Number
      of Shares
                
                
                Common
      Stock
                
                
                Additional
      Paid-in Capital
                
                
                Affiliate
      Notes Receivable
                
                
                Retained
      Earnings
                
                
                TotalThe
      PredecessorBalance
      at January 1, 2006
                
                
                -
                
                
                $
                4
                
                
                $
                11,662
                
                
                $
                (19,059
                )
                
                $
                (14,988
                )
                
                $
                (22,381
                )Contributions
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Distributions
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Affiliate
      Notes Receivable, net
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (5,614
                )
                
                
                -
                
                
                
                (5,614
                )Net
      loss
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (17,063
                )
                
                
                (17,063
                )Balance
      at December 31, 2006
                
                
                -
                
                
                
                4
                
                
                
                11,662
                
                
                
                (24,673
                )
                
                
                (32,051
                )
                
                
                (45,058
                )Contributions
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Distributions
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Affiliate
      Notes Receivable, net
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (693
                )
                
                
                -
                
                
                
                (693
                )Net
      loss
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (2,004
                )
                
                
                (2,004
                )Balance
      at January 29, 2007
                
                
                -
                
                
                
                4
                
                
                
                11,662
                
                
                
                (25,366
                )
                
                
                (34,055
                )
                
                
                (47,755
                )The
      CompanyReclassify
      Predecessor common stock and owners' deficit
                
                
                -
                
                
                
                (4
                )
                
                
                11,462
                
                
                
                -
                
                
                
                34,055
                
                
                
                45,513Net
      proceeds from sale of common stock
                
                
                85,202,957
                
                
                
                852
                
                
                
                418,444
                
                
                
                -
                
                
                
                -
                
                
                
                419,296Issuance
      of unvested restricted common stock
                
                
                359,736
                
                
                
                3
                
                
                
                3,594
                
                
                
                -
                
                
                
                -
                
                
                
                3,597Issuance
      of contingent shares
                
                
                275,207
                
                
                
                3
                
                
                
                (2,755
                )
                
                
                2,752
                
                
                
                -
                
                
                
                -Repayment
      of Affiliate Notes Receivable, net
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                8,400
                
                
                
                -
                
                
                
                8,400LTIP
      and restricted stock compensation
                
                
                -
                
                
                
                -
                
                
                
                1,873
                
                
                
                -
                
                
                
                -
                
                
                
                1,873Net
      loss
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (11,869
                )
                
                
                (11,869
                )Balance
      at December 31, 2007
                
                
                85,837,900
                
                
                
                858
                
                
                
                444,280
                
                
                
                (14,214
                )
                
                
                (11,869
                )
                
                
                419,055Issuance
      of contingent shares
                
                
                2,261,423
                
                
                
                23
                
                
                
                (23
                )
                
                
                -
                
                
                
                -
                
                
                
                -Forfeiture
      of unvested restricted common stock, net
                
                
                (22,336
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -LTIP
      and restricted stock compensation
                
                
                -
                
                
                
                -
                
                
                
                1,995
                
                
                
                -
                
                
                
                -
                
                
                
                1,995Repayment
      of Affiliate Notes Receivable, net
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                14,214
                
                
                
                -
                
                
                
                14,214Net
      loss
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (96,020
                )
                
                
                (96,020
                )Balance
      at December 31, 2008
                
                
                88,076,987
                
                
                $
                881
                
                
                $
                446,252
                
                
                $
                -
                
                
                $
                (107,889
                )
                
                $
                339,244







See
accompanying notes to the consolidated and combined financial
statements.


F-6


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





CONSOLIDATED
AND COMBINED STATEMENTS OF CASH FLOW


(In
thousands)





Year
      Ended
                    Dec
      31, 2008
                  
                  
                  Period
      Jan 30, 2007
                    thru
      Dec 31, 2007
                  
                  
                  Period
      Jan 1, 2007
                    thru
      Jan 29, 2007
                  
                  
                  Year
      Ended
                    Dec
      31, 2006Cash
      flows from operating activities:Net
      loss
                  
                  $
                  (96,020
                  )
                  
                  $
                  (11,869
                  )
                  
                  $
                  (2,004
                  )
                  
                  $
                  (17,063
                  )Adjustments
      to reconcile net income (loss) to net cash(used
      in) provided by operating activities:Minority
      interests
                  
                  
                  843
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Gain
      on sale of real estate
                  
                  
                  (14,189
                  )
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  (1,329
                  )Impairment
      loss on real estate assets
                  
                  
                  142,295
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Benefit
      for income taxes
                  
                  
                  (51,933
                  )
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Depreciation
      and amortization
                  
                  
                  7,377
                  
                  
                  
                  6,064
                  
                  
                  
                  374
                  
                  
                  
                  3,982Stock-based
      compensation expense
                  
                  
                  1,995
                  
                  
                  
                  1,873
                  
                  
                  
                  -
                  
                  
                  
                  -Interest
      income on affiliate notes receivable
                  
                  
                  (359
                  )
                  
                  
                  (626
                  )
                  
                  
                  (205
                  )
                  
                  
                  (3,614
                  )Amortization
      of deferred loan costs
                  
                  
                  379
                  
                  
                  
                  333
                  
                  
                  
                  75
                  
                  
                  
                  1,090Excess
      tax benefit from stock-based compensation
                  
                  
                  (818
                  )
                  
                  
                  (749
                  )
                  
                  
                  -
                  
                  
                  
                  -Changes
      in assets and liabilities:Accounts
      receivable
                  
                  
                  1,165
                  
                  
                  
                  (1,374
                  )
                  
                  
                  167
                  
                  
                  
                  (434
                  )Other
      assets
                  
                  
                  (709
                  )
                  
                  
                  (255
                  )
                  
                  
                  126
                  
                  
                  
                  (885
                  )Accounts
      payable
                  
                  
                  (263
                  )
                  
                  
                  (3,063
                  )
                  
                  
                  1,398
                  
                  
                  
                  1,483Accrued
      expenses and other liabilities
                  
                  
                  2,021
                  
                  
                  
                  2,374
                  
                  
                  
                  295
                  
                  
                  
                  918Net
      cash (used in) provided by operating activities
                  
                  
                  (8,216
                  )
                  
                  
                  (7,292
                  )
                  
                  
                  226
                  
                  
                  
                  (15,852
                  )Cash
      flows from investing activities:Acquisition
      of real estate
                  
                  
                  (39,231
                  )
                  
                  
                  (101,607
                  )
                  
                  
                  (1,875
                  )
                  
                  
                  (37,059
                  )Expenditures
      for improvements to real estate
                  
                  
                  (77,495
                  )
                  
                  
                  (74,924
                  )
                  
                  
                  (4,368
                  )
                  
                  
                  (29,575
                  )Proceeds
      from sale of real estate
                  
                  
                  110,602
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  5,476Payment
      of deferred interest on notes payable to CalPERS
                  
                  
                  -
                  
                  
                  
                  (32,635
                  )
                  
                  
                  -
                  
                  
                  
                  -Change
      in restricted cash
                  
                  
                  (20,116
                  )
                  
                  
                  (5,057
                  )
                  
                  
                  280
                  
                  
                  
                  (1,103
                  )Net
      cash used in investing activities
                  
                  
                  (26,240
                  )
                  
                  
                  (214,223
                  )
                  
                  
                  (5,963
                  )
                  
                  
                  (62,261
                  )Cash
      flows from financing activities:Proceeds
      from equity offering
                  
                  
                  -
                  
                  
                  
                  455,500
                  
                  
                  
                  -
                  
                  
                  
                  -Payment
      of offering costs
                  
                  
                  -
                  
                  
                  
                  (35,985
                  )
                  
                  
                  (273
                  )
                  
                  
                  -Distribution
      to predecessor
                  
                  
                  -
                  
                  
                  
                  (2,752
                  )
                  
                  
                  -
                  
                  
                  
                  -Investment
      in affiliate notes receivable
                  
                  
                  14,573
                  
                  
                  
                  625
                  
                  
                  
                  (487
                  )
                  
                  
                  9,153Payments
      to LTIP unitholders
                  
                  
                  (340
                  )
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Proceeds
      from (payments of) amounts due to affiliates
                  
                  
                  -
                  
                  
                  
                  (5,628
                  )
                  
                  
                  1,401
                  
                  
                  
                  3,162Proceeds
      from notes payable
                  
                  
                  118,575
                  
                  
                  
                  112,063
                  
                  
                  
                  3,702
                  
                  
                  
                  155,716Principal
      payments on notes payable
                  
                  
                  (97,740
                  )
                  
                  
                  (151,014
                  )
                  
                  
                  -
                  
                  
                  
                  (97,032
                  )Repayment
      of CalPERS note payable
                  
                  
                  -
                  
                  
                  
                  (150,000
                  )
                  
                  
                  -
                  
                  
                  
                  -Excess
      tax benefit from stock-based compensation
                  
                  
                  818
                  
                  
                  
                  749
                  
                  
                  
                  -
                  
                  
                  
                  -Net
      cash provided by financing activities
                  
                  
                  35,886
                  
                  
                  
                  223,558
                  
                  
                  
                  4,343
                  
                  
                  
                  70,999Net
      increase (decrease) in cash and cash equivalents
                  
                  
                  1,430
                  
                  
                  
                  2,043
                  
                  
                  
                  (1,394
                  )
                  
                  
                  (7,114
                  )Cash
      and cash equivalents at beginning of period
                  
                  
                  3,030
                  
                  
                  
                  987
                  
                  
                  
                  2,381
                  
                  
                  
                  9,495Cash
      and cash equivalents at end of period
                  
                  $
                  4,460
                  
                  
                  $
                  3,030
                  
                  
                  $
                  987
                  
                  
                  $
                  2,381Supplemental
      disclosure of cash flow information:Cash
      paid for interest, net of amounts capitalized
                  
                  
                  10,780
                  
                  
                  
                  40,939
                  
                  
                  
                  2,130
                  
                  
                  
                  15,938Supplemental
      disclosure of noncash investing and financing activities:Accrual
      for real estate improvements and purchases included in real estate held
      for development
                  
                  
                  1,488
                  
                  
                  
                  9,640
                  
                  
                  
                  40,619
                  
                  
                  
                  38,660Fair
      market value of rental properties acquired from minority interests of
      predecessor
                  
                  
                  -
                  
                  
                  
                  (25,657
                  )
                  
                  
                  -
                  
                  
                  
                  -Fair
      market value of real estate held for development acquired from minority
      interests of predecessor
                  
                  
                  -
                  
                  
                  
                  (64,479
                  )
                  
                  
                  -
                  
                  
                  
                  -Decrease
      in affiliate notes receivable due to Taylor Yards bond
    release
                  
                  
                  -
                  
                  
                  
                  8,400
                  
                  
                  
                  -
                  
                  
                  
                  -Accounts
      receivable from minority interests of predecessor included in additional
      paid in capital
                  
                  
                  -
                  
                  
                  
                  700
                  
                  
                  
                  -
                  
                  
                  
                  -Unamortized
      predecessor loan costs included in additional paid in
    capital
                  
                  
                  -
                  
                  
                  
                  2,425
                  
                  
                  
                  -
                  
                  
                  
                  -Recognition
      of deferred revenue related to affiliate note receivable
                  
                  
                  -
                  
                  
                  
                  2,752
                  
                  
                  
                  -
                  
                  
                  
                  -Deferred
      tax adjustment related to rental properties
                  
                  
                  -
                  
                  
                  
                  8,954
                  
                  
                  
                  -
                  
                  
                  
                  -Deferred
      tax adjustment related to real estate held for development
                  
                  
                  -
                  
                  
                  
                  (13,099
                  )
                  
                  
                  -
                  
                  
                  
                  -


See
accompanying notes to the consolidated and combined financial
statements.


F-7


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS





December 31,
2008





1.
ORGANIZATION AND DESCRIPTION OF THE BUSINESS




In
this report, unless the context suggests otherwise, references to “our company,”
“we,” “us” and “our” mean Meruelo Maddux Properties, Inc. and its
subsidiaries.




We were
formed to succeed certain operations of the Meruelo Maddux predecessor,
referenced herein as our “predecessor” or our “predecessor business”, which was
not a legal entity but rather a combination of entities and operations whose
owners were Richard Meruelo, Maria Meruelo and John Charles Maddux and were
collectively doing business as Meruelo Maddux, an owner, developer and acquirer
of industrial, commercial and residential properties.  We were
incorporated in Delaware on July 5, 2006 in anticipation of our initial public
offering of common stock (our “IPO”), which was consummated on January 30, 2007
concurrently with the consummation of various formation
transactions.   The formation transactions and IPO were designed
to (i) allow us to acquire and continue the operations of our predecessor
business, (ii) pay down existing mortgage debt, (iii) payoff a
mezzanine loan facility from the State of California Public Employees’
Retirement System, or CalPERS, (iv) provide capital for future
acquisitions, (v) fund future development costs, and (vi) establish a
capital reserve for general corporate purposes. Prior to the formation
transactions our company (which was formed for the purposes of our IPO and is
not the predecessor) did not have any meaningful operating
activity.  Accordingly, as a result of the formation transactions, our
consolidated financial statements are not comparable to the combined financial
statements of the predecessor.




We
commenced substantial operations upon completion our IPO and sold to the public
40,000,000 shares of our common stock at $10.00 per share. On February 14,
2007, the underwriters of our IPO exercised their option to purchase an
additional 5,550,000 shares of our common stock at $10.00 per share. Including
the shares issued in the over-allotment option, we raised approximately $425.7
million in proceeds in our IPO, after the underwriting discount but before
expenses related to the IPO. Our company’s operations are predominantly carried
on through, and its assets are owned though, Meruelo Maddux Properties, L.P.,
which we refer to as our operating partnership. As of December 31, 2008, we held
a 99.6% interest in our operating partnership. We are structured as a taxable
corporation under Subchapter C of the Internal Revenue Code of 1986, as amended
(the “Code”).  As of December 31, 2008, the total number of shares of
our common stock outstanding was 88,076,987.




We are a self-managed, full-service
real estate company that develops, redevelops and owns commercial and
residential properties located in downtown Los Angeles and other densely
populated urban areas in California.  We focus on properties that have
alternate, more profitable uses achievable through major renovation,
redevelopment or development. Our projects are predominantly located in a
densely urban, multi-ethnic environment and involve numerous local entitlement,
property assemblage and physical challenges.




We are
committed to responsible property investing that has economic, environmental and
social benefits. Our development activities include urban infill projects that
are expected to meet the demands of urban communities and that utilize or
upgrade existing infrastructure instead of creating new infrastructure. Many of
our projects will locate businesses, customers and employees close to each other
and close to existing public transit systems.




As of
December 31, 2008, we own 28 rental projects and 19 projects held for real
estate development (one of which is subject to a lease with an option to
purchase and was terminated in the first quarter of 2009). Most of our projects
are located in or around the downtown area of Los Angeles, and all of our
projects are in Southern California.  Prior to our IPO and related
formation transactions, the predecessor business owned substantially 100% of the
combined interests (whether ownership, lease or purchase right interests) in our
projects through limited liability companies and
S-corporations.


F-8


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)


2.
GOING CONCERN





The
accompanying financial statements have been prepared assuming the Company will
continue as a going concern, which contemplates the realization of assets and
the satisfaction of liabilities in the normal course of business. The financial
statements do not include any adjustments relating to the recoverability and
classification of recorded asset amounts and the amount and classification of
liabilities that might be necessary should the Company be unable to continue as
a going concern. As further discussed in Note 9, “Notes Payable Secured by Real
Estate,” we have failed to repay three loans that recently matured totaling
$86.9 million. We also have stopped making regular interest and principal
payments on 26 of our loans, which include the three loans just mentioned,
totaling $266.0 million. As of March 12, 2009, we owe approximately $3.6 million
in additional accrued interest and principal. On December 15, 2008, we failed to
make a required $4.0 million principal repayment on a $17.0 million land loan.
Later the lender verbally agreed to defer the principal repayment. Another $5.0
million in principal matures on March 15, 2009 on this land loan. We presently
are not in a financial position to make this or other interest and principal
payments.





We are a
development company and experience significant, recurring cash shortfalls from
(i) operating activities, (ii) recurring investment activities such as our
carrying costs for interest payments, real estate taxes and other unfunded
development expenditures, and (iii) capital expenditures on existing rental
projects.  We would need to generate additional cash of approximately
$28.0 million annually to cover such shortfalls, before any significant
development or redevelopment activities other than the development of our 717 W
9th
Street project.





We are
attempting to generate liquidity by selling certain of our properties. However,
selling in the current market environment is difficult as there are few buyers
with the financial wherewithal to consummate a transaction. We expect, but are
not assured, that there is adequate equity so that the sale of our properties
will generate sufficient cash to pay off the existing secured debt. We may also
generate liquidity from obtaining debt on our unencumbered properties. We are
negotiating with four of our depository lenders and are seeking loan workout
agreements on $177.8 million in loans. We may be in default on $266.0 million in
loans; however, our lenders, with two exceptions representing an $8.5 million
loan and a $7.2 million loan, have not yet formally demanded payment or
commenced foreclosure actions. Our future financial performance and ability to
continue as a going concern will be largely affected by our lenders willingness
to agree to loan workout terms and our ability to sell properties in this
market. There can be no assurance that our plans to ensure continuation as a
going concern will be successful. Under such circumstances, we may pursue
various forms of negotiated restructurings of our indebtedness, which may
include a recapitalization of our Company, including under court supervision
pursuant to a voluntary (or involuntary) bankruptcy filing under Chapter 11 of
the U.S. Bankruptcy Code.  These factors, along with the general
economy, credit markets, and other factors, many of which are beyond our
control, will impact our results of operations and raise substantial doubt about
our ability to continue as a going concern.





F-9


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





3.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES




Basis
of Presentation




The
accompanying financial statements of Meruelo Maddux Properties, Inc. are
presented on a consolidated basis and include all of the accounts of our
company, our operating partnership and the subsidiaries of our operating
partnership, all of which we control. The exchange of entities or interests held
by Richard Meruelo in our formation transactions was accounted for as a
reorganization of entities under common control and, accordingly, related assets
and liabilities were reflected at their historical cost basis. The acquisition
of the interests held by John Charles Maddux in our formation transactions was
accounted for as a purchase and, accordingly, the related assets and liabilities
were reflected at their fair market value. Our predecessor business was a
combination of entities whose controlling interest was owned by Richard Meruelo
and non-controlling interest was owned by John Charles Maddux. The accompanying
combined financial statements represent the historical financial statements of
our predecessor. All significant intercompany balances and transactions have
been eliminated in the consolidated or combined financial
statements.




Cash
and Cash Equivalents




Cash and
cash equivalents consist of highly liquid investments with original maturities
of three months or less when acquired.




Restricted
Cash




Restricted
cash consists of interest reserves, additional collateral and tax impounds
required under the related loan agreements.  In addition, restricted
cash includes a construction reserve, which may be drawn upon for construction
expenses related to our 717 W. Ninth Street project.




Accounts
receivable




Accounts
receivable includes current receivable and other deferred rents receivables
carried net of the allowance for doubtful accounts.  Our company
maintains an allowance for doubtful accounts that may result from the inability
of tenants to make required payments. We specifically analyze accounts
receivable and historical bad debt, tenant creditworthiness and current economic
trends when evaluating the adequacy of the allowance for doubtful accounts. In
addition, if a tenant fails to make contractual payments beyond any allowance,
we may recognize bad debt expense in future periods equal to the amount of
unpaid rent and deferred rent.




Rental
Properties, net




Rental
properties, including land, building improvements and capitalized leasing
commissions, are stated at cost, less accumulated depreciation. We are required
to make subjective assessments as to the useful lives of our assets for purposes
of determining the amount of depreciation to record on an annual basis with
respect to our buildings and building improvements. These assessments are
primarily based upon our decision to either develop or operate a property. For
example, if we determine that we will be developing a property and the building
will be replaced upon commencement of construction, the estimated useful life
will be the time from the date of purchase to the estimated date of demolition.
Upon completion of the assessment, buildings and building improvements are
depreciated over estimated useful lives ranging from 2 to 39 years. Tenant
improvements are depreciated over the term of the respective tenant leases.
Capitalized lease commissions are amortized over the term of the related
leases.





Costs
related to the acquisition and improvement of the rental properties are
capitalized, while expenses for repairs and maintenance are charged to
operations as incurred. Certain expenses such as property taxes, utilities and
repair and maintenance costs are chargeable to the tenants as provided in their
lease agreements. Such reimbursements are recorded as rental income in the
consolidated and combined statements of operations. Costs related to terminated
deal costs are expensed when we cease due diligence and related acquisition
efforts.




F-10


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





The
acquisition of real estate properties is accounted for in accordance with SFAS
No. 141,Business
Combinations whereby the value of real estate acquired is allocated
between land, buildings and improvements, acquired leasing commissions and
tenant coordination costs, and to acquire above- and below-market leases and
tenant relationships. The fair value of tangible assets is determined on an
“as-if-vacant” basis based upon comparable sales and other relevant information
obtained in connection with the acquisition of the property. The estimated fair
value of acquired in-place at-market leases are the costs we would have incurred
to lease property to the occupancy level of the property at the date of
acquisition. Such estimate includes the fair value of leasing commissions and
legal costs that would be incurred to lease the property to this occupancy
level. Additionally, we evaluate the time period over which such occupancy level
would be achieved and include an estimate of the net operating costs (primarily
real estate taxes, insurance and utilities) incurred during the lease-up period,
which generally ranges up to 8-9 months. These allocations have a direct impact
on our results of operations as allocations between land, buildings and
improvements because, if we were to allocate more value to land, there would be
no depreciation with respect to such amount. If we were to allocate more value
to the buildings as opposed to allocating the value of tenant leases, this
amount would be recognized as an expense over a much longer period of time,
since the amounts allocated to buildings are depreciated over the estimated
lives of the buildings whereas amounts allocated to tenant leases are amortized
over the terms of the leases.




Real
Estate Held for Development




Real
estate held for development includes land and buildings (at cost) we intend to
or have begun developing. Upon commencement of development, project costs
associated with the construction of a real estate project are capitalized as
construction in progress. In addition, interest, loan fees, real estate taxes,
general and administrative expenses that are directly associated with the
development are also capitalized in the period in which they are incurred. Once
the real estate project is completed, the costs capitalized to construction in
progress and the land and building costs associated with the completed project
are transferred to rental properties on the consolidated balance sheet as the
historical cost of the project.  We have suspended development of
several projects in our portfolio and are currently expensing interest, real
estate taxes and general and administrative costs associated with these
projects.




Real
Estate Held for Sale or Disposition




We
account for properties held for disposition or properties that are sold during
the period in accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets(“SFAS 144”). An asset is classified as an
asset held for disposition when it meets the requirements of SFAS 144,
which include, among other criteria, the approval of the sale of the asset, the
asset has been marketed for sale and we expect that the sale will likely occur
within the next 12 months. Upon classification of an asset as held for
disposition, the net book value of the asset, excluding long-term debt, is
included in discontinued operations for all periods presented.  We did
not have any properties classified as held for sale as of December 31, 2008 and
2007.




Impairment
of Long-Lived Assets




Management
assesses whether there has been impairment in the value of its long-lived assets
whenever events or changes in circumstances indicate the carrying amount of an
asset may not be recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount to the undiscounted future cash
flows expected to be generated by the asset. If the current carrying value
exceeds the estimated undiscounted cash flows, impairment is recorded equal to
the difference between the asset’s current carrying value and its fair value
based on the discounted estimated future cash flows. Assets to be disposed of
are reported at the lower of the carrying amount or fair value, less costs to
sell. Based on such periodic assessments performed throughout the year, we
recognized impairment on several rental and development projects due to the
market value assessments of the fair value.  In addition, we
recognized impairment on several development projects after carefully evaluating
our options and making the strategic business decision to no longer pursue our
purchase of these projects.  As such, we recognized impairments on
purchase deposits and capitalized costs related to these projects.  We
recognized $142.3 million of impairment losses on real estate during the year
ended December 31, 2008.  No impairment was recognized during the
years ended December 31, 2007 and 2006.


F-11


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)




Deferred
Loan Costs




Costs
incurred in issuing secured notes payable are capitalized. Deferred loan costs
are included in other assets in the balance sheets. The deferred loan costs are
amortized to interest expense over the life of the related loan. Any unamortized
amounts upon early repayment of secured notes payable are written off to
amortization expense in the period of repayment. Unamortized amounts on loans
repaid in connection with the formation transactions were written off against
additional paid in capital.  We have reclassified to interest expense
deferred loan cost amortization of $1.1 million for the year ended December 31,
2006, to conform to our 2008 and 2007 presentation, which includes $0.5 million
and $0.4 million of deferred loan cost amortization in interest expense,
respectively.




Revenue
Recognition




Revenue
is recognized in accordance with Staff Accounting Bulletin No. 104 of the
Securities and Exchange Commission, Revenue Recognition(SAB 104), as amended. SAB 104 requires that four basic
criteria must be met before revenue can be recognized: persuasive evidence of an
arrangement exists; the delivery has occurred or services rendered; the fee is
fixed and determinable; and collectibility is reasonably assured. All leases are
classified as operating leases and minimum rents are recognized on lease terms
exceeding one year on a straight-line basis over the term of the respective
leases. The impact of the straight line rent adjustment increased revenue by
$0.1 million, $0.5 million and $0.0 million for the years ended December 31,
2008, 2007 and 2006, respectively.  The excess of rents recognized
over amounts contractually due pursuant to the underlying leases is included in
accounts receivable in the consolidated or combined balance sheets. Recoveries
from tenants for common area maintenance expenses, real estate property taxes
and other recoverable operating expenses are recognized as revenue in the period
the associated costs are incurred. Accordingly, we recognized recovery revenue
of $0.8 million, $0.9 million and $1.0 million for the years ended December 31,
2008, 2007 and 2006, respectively.  In addition, the company records a
capital asset for leasehold improvements constructed by us that are reimbursed
by tenants, with the offsetting amount recorded to deferred revenue which is
included in accrued expenses and other liabilities. The deferred revenue is
amortized as additional rental revenue over the life of the related
lease.




Rental
revenue from month-to-month leases or leases with no scheduled rent increases or
other adjustments is recognized on a monthly basis when earned.





Lease
termination fees are recorded when the related leases are canceled and the
company has no continuing obligation to provide services to such former tenants.
Lease termination fees are included in rental revenues and were not material for
the years ended December 31, 2008, 2007 and 2006.




We
recognize gains on sales of real estate pursuant to the provisions of SFAS
No. 66, Accounting for
Sales of Real Estate (“SFAS 66”). The specific timing of a sale is
measured against various criteria in SFAS 66 related to the terms of the
transaction and any continuing involvement in the form of management or
financial assistance associated with the property. If the sales criteria are not
met the company defers gain recognition and accounts for the continued
operations of the property by applying the finance, installment or cost recovery
methods, as appropriate, until the sales criteria are met.  During the
year ended December 31, 2008, we sold six projects and recognized $14.2 million
in gain on sale of real estate, net of income taxes.  There were no
gains on sale of real estate recognized during the years ended December 31,
2007.  We sold one project and recognized a gain on sale of $1.3
million in 2006.




Income
Taxes




We are
subject to federal income taxes in the United States, the State of California
and local jurisdictions in which we operate. We account for income taxes
according to Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes
(“SFAS 109”). SFAS 109 requires the recognition of deferred tax assets, net
of applicable reserves, related to net operating loss carryforwards and certain
temporary differences. The standard requires recognition of a future tax benefit
to the extent that realization of such benefit is more likely than not.
Otherwise, a valuation allowance is applied.


F-12


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)




Segment
Disclosure




SFAS
No. 131, Disclosures
about Segments of an Enterprise and Related Information, established
standards for disclosure about operating segments and related disclosures about
products and services, geographic areas and major customers. Our company
currently operates in one business segment: the acquisition, development,
ownership, and management of commercial real estate (whether office, commercial,
or residential). Additionally, our company operates in one geographic area:
California.




The
products and services offered include rental of office, commercial, and
residential space to tenants, parking and other tenant services.




Fair
Value of Financial Instruments





Our estimates of the fair value
of financial instruments at December 31, 2008 and 2007, respectively, were
determined using available market information and appropriate valuation
methods.  Considerable judgment is necessary to interpret market data and
develop estimated fair value.  The use of different market assumptions or
estimation methods may have a material effect on the estimated fair value
amounts.





The carrying
amounts for cash and cash equivalents, restricted cash, accounts receivable,
other assets, accounts payable, accrued expenses and other liabilities
approximate fair value because of the short-term nature of these
instruments.




We calculate
the fair value of our notes payable based on a currently available market rate;
assuming the loans are outstanding through maturity and considering the
collateral.  In determining the current market rate for fixed rate debt, a
market spread is added to the quoted yields on federal government treasury
securities with similar maturity dates to debt.  At December 31, 2008 and
2007, the aggregate fair value of our secured notes payable is estimated to be
approximately equal to $328.1 million and $308.7 million,
respectively.




Equity Offering
Costs




Underwriting commissions
and costs and expenses from our January 30, 2007 IPO are reflected as a
reduction to additional paid-in-capital.




Earnings
(loss) per Share




Basic earnings (loss) per
share are calculated by dividing the net income (loss) available to common
shareholders by the weighted average number of shares outstanding during the
period. Dilutive earnings (loss) per share are calculated by dividing the net
income (loss) available to common shareholders by the weighted average number of
shares outstanding during the period plus the dilutive securities computed by
using the treasury stock method.  The dilutive securities include the
unvested restricted stock and long-term incentive plan units (“LTIP units”)
granted, assuming vesting and share conversion (for LTIP units). The effect of
the vesting of unvested restricted stock and LTIP units that have been granted
is not dilutive for the year ended December 31, 2008 and for the period from
January 30 through December 31, 2007.  Thus, these units have not
been included in any earnings (loss) per share calculations.





Share-Based
Compensation




We have awarded
stock-based compensation to employees and members of our Board of Directors in
the form of restricted shares and LTIP units. These awards are accounted for
under FAS No. 123R (revised 2004), Share-Based Payment(FAS 123R). This pronouncement requires that we estimate the fair
value of the awards and recognize this value over the requisite vesting period.
Accordingly, restricted shares are accounted for based on their fair market
value at the date of grant and amortized over the vesting period. We used a
third-party consultant to estimate the fair value of our LTIP units (assumptions
discussed in Note 14 Equity
Incentive Plan). The fair value is based on the market value of our
common shares on the date of the grant and a discount for post-vesting
probabilities and other restrictions.


F-13


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)







Estimates
Used in the Preparation of Financial Statements




The
preparation of financial statements, in conformity with U.S. generally-accepted
accounting principles, requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities, 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.
Included as part of management’s estimates and assumptions is our ability to
continue as a going concern which takes into account certain significant
conditions and events, including our ability to repay or refinance short-term
debt and to obtain appropriate entitlements to proceed with planned development
activities. Additionally, management’s plans include estimates and assumptions
which may be impacted by changes in economic conditions, including interest
rates, construction costs and real estate values. Actual results could
significantly differ from those estimates.




4.
MINORITY INTERESTS




Minority
interests relate to the interests in our operating partnership that are not
owned by our company.  In conjunction with the formation of our
company, our operating partnership issued LTIP units to certain executives. LTIP
units are a special class of partnership interest in our operating
partnership.  Initially, LTIP units do not have full parity with
common units in our operating partnership with respect to allocation of profits
or losses and distributions of disposition proceeds, are not redeemable for
shares of our common stock and have a liquidation value of zero.  Upon
the occurrence of certain events in accordance with the terms of our operating
partnership agreement, the LTIP units will achieve parity (equalization) with
common units in our operating partnership, will be entitled to a non-recurring
special allocation of income (losses) for the specific equalization event, and
thereafter will share in profits and losses of the operating partnership equal
to their effective ownership interest (0.4% at December 31, 2008).




On March
31, 2008, an equalization event occurred and in accordance with the terms of our
partnership agreement, all 347,835 outstanding LTIP units at the time achieved
parity with common units in our operating partnership and upon completion of the
vesting requirements more fully described in Note 14 below, all units will be
redeemable for cash, or at our election, shares of our common stock on a
one-for-one basis.





5.
RENTAL PROPERTIES






Rental
properties consist of the following:




December
      31, 2008
                  
                  
                  December 31,
      2007Rental
      properties
                  
                  (in
      thousands)Land
                  
                  $
                  144,778
                  
                  
                  $
                  187,281Building
      and improvements
                  
                  
                  178,203
                  
                  
                  
                  138,440322,981
                  
                  
                  
                  325,721Less:
      Accumulated depreciation
                  
                  
                  (25,172
                  )
                  
                  
                  (19,625
                  )$
                  297,809
                  
                  
                  $
                  306,096




We have
28 rental properties as of December 31, 2008, and 27 as of December 31,
2007, all which are located in Southern California. During the second
quarter of 2007, we reclassified certain amounts between land and building and
improvements, which did not have a material impact to the consolidated financial
statements for the 2007, or the previously reported combined financial
statements for fiscal year 2006.  Depreciation expense on buildings
and building improvements (including discontinued operations) was
approximately $6.7 million, $5.7 million and $3.3 million for the years ended
December 31, 2008, 2007 and 2006, respectively.




F-14


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





6.
REAL ESTATE HELD FOR DEVELOPMENT






Real
estate held for development consists of the following:




December
      31, 2008
                  
                  
                  December 31,
      2007Real
      estate held for development
                  
                  (in
      thousands)Land
                  
                  $
                  263,155
                  
                  
                  $
                  280,039Building
      and improvements
                  
                  
                  1,783
                  
                  
                  
                  14,560Construction
      in process
                  
                  
                  83,008
                  
                  
                  
                  167,190$
                  347,946
                  
                  
                  $
                  461,789





As of
December 31, 2008 and 2007, we owned 19 and 28 properties held for real estate
development respectively. At December 31, 2007, construction in process includes
costs related to ongoing build-to-suit construction agreements and other
acquisition deposits totaling $12.7 million (See Note 16). We no longer
have any such outstanding costs as of December 31, 2008.  Interest
incurred for the years ended December 31, 2008, 2007, and 2006 was approximately
$24.7 million, $25.7 million and $57.8 million, of which $13.2 million, $15.3
million and $33.6 million was capitalized, respectively.





7.
OTHER ASSETS




Other
assets consist of the following:





December 31,
      2008
                  
                  
                  December 31,2007Other
      assets
                  
                  (in
      thousands)Deferred
      loan costs
                  
                  $
                  2,829
                  
                  
                  $
                  1,921Intangible
      assets – in-place leases
                  
                  
                  1,209
                  
                  
                  
                  1,209Machinery
      and equipment
                  
                  
                  2,459
                  
                  
                  
                  2,191Deposits
      and prepaid expenses
                  
                  
                  997
                  
                  
                  
                  1,088Other
                  
                  
                  —
                  
                  
                  
                  2817,494
                  
                  
                  
                  6,690Accumulated
      amortization and depreciation
                  
                  
                  (4,406
                  )
                  
                  
                  (3,139
                  )$
                  3,088
                  
                  
                  $
                  3,551





8.
ACCRUED EXPENSES AND OTHER LIABILITIES





Accrued
expenses and other liabilities consist of the following:





December
      31, 2008
                
                
                December 31,
      2007(in
      thousands)Accrued
      property taxes
                
                $
                6,104
                
                
                $
                1,349Accrued
      interest – mortgage debt
                
                
                1,975
                
                
                
                1,769Tenant
      security deposits
                
                
                1,878
                
                
                
                2,016Other
                
                
                2,176
                
                
                
                2,911$
                12,133
                
                
                $
                8,045





F-15


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





9.
NOTES PAYABLE SECURED BY REAL ESTATE:





PROJECT
      NAME
                        
                        Interest
      Rate
                        
                        Maturity
      Date
                        
                        Balance
                        
                        
                        Balance12/31/2008
                        
                        
                        12/31/2007Fixed
      rate mortgage notes:Seventh
      Street Produce Market/Alameda Square (10)
                        
                        
                        6.75
                        %
                        February
      28, 2009(1)
                        
                        $
                        48,946
                        
                        
                        $
                        50,445717
      W. Ninth Street (10)
                        
                        
                        12.00
                        %
                        January
      31, 2010
                        
                        
                        42,000
                        (2)
                        
                        
                        -Crown
      Commerce Center
                        
                        
                        7.48
                        %
                        September
      5, 2011
                        
                        
                        10,182
                        
                        
                        
                        10,314Seventh
      Street Produce Market/Alameda Square(10)
                        
                        
                        8.00
                        %
                        February
      28, 2009(1)
                        
                        
                        9,861
                        
                        
                        
                        9,989Washington
      Cold Storage
                        
                        
                        6.93
                        %
                        April
      13, 2016
                        
                        
                        9,555
                        
                        
                        
                        9,7072131
      Humboldt Street
                        
                        
                        6.50
                        %
                        January
      1, 2011
                        
                        
                        7,000
                        
                        
                        
                        7,000420
      Boyd Street(10)
                        
                        
                        7.49
                        %
                        June
      15, 2012
                        
                        
                        5,950
                        
                        
                        
                        5,9501500
      Griffith Avenue
                        
                        
                        7.00
                        %
                        January
      24, 2013
                        
                        
                        3,000
                        
                        
                        
                        3,000905
      E. 8th Street
                        
                        
                        7.50
                        %
                        January
      15, 2009(3)
                        
                        
                        1,950
                        
                        
                        
                        1,950500
      Mateo Street
                        
                        
                        7.00
                        %
                        March
      1, 2011
                        
                        
                        460
                        
                        
                        
                        640Meruelo
      Wall Street (4)
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        20,7211800
      E. Washington Blvd. (5),
      (6)
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        9,100Santa
      Fe Plaza(5)
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        3,165Total
      Fixed Rate Mortgage Notes
                        
                        
                        
                        
                        
                        
                        $
                        138,904
                        
                        
                        $
                        131,981Variable
      rate mortgage notes:Union
      Lofts Mini Permanent Loan(10)
                        
                        1-Month
      LIBOR plus 1.65%
                        
                        March
      1, 2009(7)
                        
                        $
                        28,108
                        
                        
                        $
                        25,721Meruelo
      Wall Street
                        
                        Prime
      plus 2.0%
                        
                        November
      5, 2011
                        
                        
                        20,878
                        
                        
                        
                        -South
      Park Towers (8),
      (10)
                        
                        Prime
      Rate
                        
                        July
      14, 2009
                        
                        
                        20,000
                        
                        
                        
                        25,000Sky
      Arc(10)
                        
                        Prime
      plus 2.0%
                        
                        June
      15, 2009
                        
                        
                        17,000
                        
                        
                        
                        19,000Southern
      California Institute of Architecture(10)
                        
                        Prime
      plus .25%
                        
                        August
      1, 2011
                        
                        
                        10,114
                        
                        
                        
                        10,197Barstow
      Produce Center Construction Loan(10)
                        
                        Prime
      plus .75%
                        
                        January
      9, 2013
                        
                        
                        8,999
                        
                        
                        
                        9,030Ullman
      Tower One (10)
                        
                        Prime
      plus 1.0%
                        
                        June
      1, 2009
                        
                        
                        8,885
                        
                        
                        
                        -Pomona
      Park Village(10)
                        
                        Prime
      plus 7.0%
                        
                        June
      26, 2011
                        
                        
                        8,800
                        
                        
                        
                        -1875
      W. Mission Blvd.
                        
                        6-Month
      Libor plus 6.25%
                        
                        April
      1, 2009
                        
                        
                        8,480
                        
                        
                        
                        8,665788
      S. Alameda Street(10)
                        
                        Prime
      plus .50%
                        
                        April
      1, 2013
                        
                        
                        7,165
                        
                        
                        
                        -Center
      Village
                        
                        Prime
      plus 1.0%
                        
                        October
      1, 2009
                        
                        
                        6,985
                        
                        
                        
                        7,0004th
      Street Center and 1500 Griffith Ave. (9)
      (10)
                        
                        Prime
      plus 1.0%
                        
                        August
      1, 2009
                        
                        
                        6,397
                        
                        
                        
                        6,397Barstow
      Produce Center Construction Loan(10)
                        
                        Prime
      plus 1.0%
                        
                        January
      9, 2010
                        
                        
                        6,190
                        
                        
                        
                        6,180Washington
      Produce Market(10)
                        
                        Prime
      plus 0.5%
                        
                        December
      5, 2012
                        
                        
                        6,072
                        
                        
                        
                        6,1501919
      Vineburn Avenue
                        
                        Prime
      plus 1.0%
                        
                        July
      1, 2009
                        
                        
                        5,473
                        
                        
                        
                        5,500620
      Gladys Avenue(10)
                        
                        Prime
      Rate
                        
                        October
      1, 2009
                        
                        
                        5,383
                        
                        
                        
                        5,157Desmond
      Building (10)
                        
                        Prime
      plus 1.0%
                        
                        May
      1, 2009
                        
                        
                        5,340
                        
                        
                        
                        5,340Meruelo
      Farms(10)
                        
                        Prime
      Rate
                        
                        November
      7, 2010
                        
                        
                        3,350
                        
                        
                        
                        3,350Santa
      Fe Plaza(10)
                        
                        6
      month US Treasury plus 2.88%
                        
                        October
      1, 2017
                        
                        
                        3,137
                        
                        
                        
                        -3rd
      & Omar(10)
                        
                        Prime
      plus .25%
                        
                        August
      15, 2010
                        
                        
                        2,569
                        
                        
                        
                        2,5992000
      San Fernando Road (6)
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        13,474Ullman
      Tower One
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        11,275801
      E 7th
      Street (6)
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        4,4002415
      Washington Blvd.
                        
                        
                        
                        
                        
                        
                        
                        -
                        
                        
                        
                        978Total
      Variable Rate Mortgage Notes
                        
                        
                        
                        
                        
                        
                        $
                        189,325
                        
                        
                        $
                        175,413GRAND
      TOTAL
                        
                        
                        
                        
                        
                        
                        $
                        328,229
                        
                        
                        $
                        307,394





(1)
            Loans
      matured and we have not repaid the principal balance.  We are
      currently in negotiations with the
lender.


(2)
            Represents
      a construction loan that may be drawn up to $84.0 million.  Five
      6-month extensions are available at our option.  As of January
      28, 2009, the loan was drawn to $84.0
million.


(3)
            Lender
      has agreed to extend this loan for an additional year to January 15,
      2010.


(4)
            We
      extended this loan with a new variable rate loan with a three year
      term.


(5)
            Effective
      May 1, 2008, the interest rate on these loans became
    variable.


(6)
            Loan
      repaid upon sale of the property.


(7)
            Loan
      matured and we have not repaid the principal balance.  We are
      currently in negotiations with the
lender.


(8)
            A
      portion of the Southpark Towers project is collateral for up to $4.2
      million of the debt that also encumbers our 620 Gladys Avenue
      project.  Additionally,
      another     portion of the Southpark Towers
      project is collateral for the debt that also encumbers our Sky Arc
      project.  Although the cross-collateralized debt encumbers more
      than one property, for convenience, it not reflected herein as debt for
      Southpark Towers, but only as debt for 620 Gladys Avenue and Sky Arc,
      respectively.


(9)
            We
      repaid the original loan on Ullman Tower Two with a new loan for the same
      amount secured by 4th
      Street Center and 1500 Griffith
Avenue.


(10)
            The
      Company is the guarantor for this
loan.





F-16


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)








9.
NOTES PAYABLE SECURED BY REAL ESTATE (Continued)





As of
December 31, 2008, principal payments due for mortgage notes are as
follows:




2009
                
                $
                172,5182010
                
                
                57,4602011
                
                
                56,5942012
                
                
                12,0932013
                
                
                17,822Thereafter
                
                
                11,742$
                328,229




As of
December 31, 2008 and 2007, the Prime rate was 3.25% and 7.25%,
respectively.  In addition, we have three loans that are calculated
using the one-month LIBOR rate, the six-month LIBOR rate and the six-month
Treasury rate, respectively.  The LIBOR rates in place at December 31,
2008 for the LIBOR based loans were 0.44% and 1.75%,
respectively.  The six-month Treasury rate in place at December 31,
2008 was 0.27%.  The LIBOR rates in place at December 31, 2007 for the
LIBOR based loans were 4.85% and 5.23%, respectively.  We did not have
a loan based on the six-month Treasury rate at December 31, 2007.  The
weighted average interest rate of our debt was 7.14% and 7.47% at December 31,
2008 and 2007, respectively.





At
December 31, 2008 and 2007, the carrying value of the real estate securing the
fixed and variable rate mortgages was approximately $593.2 million and $502.8
million, respectively.




Several
of the mortgage notes for properties held for development have an interest
reserve with the respective lender. These reserves generally cover the estimated
interest carrying costs during the mortgage term. As interest accrues it is
added to the note balance up to the amount of the interest reserve. At December
31, 2008 and December 31, 2007, there was approximately $7.2 million and $0.5
million, respectively, in the various interest reserve accounts.




We have
twelve loans that mature within the next twelve months with a principal balance
of $170.8 million.  As of March 13, 2009, we may be in default as we
have not been able to extend or refinance any of the approximately $86.9 million
in loans that matured in the first quarter of 2009 and we did not make a
scheduled $5.0 million principal paydown due on a land loan in the first quarter
of 2009.  We also recently stopped making our regular monthly interest
and principal payments on 26 of our 30 loans.  As of March 13, 2009,
we owe $3.6 million in accrued interest and principal on these
loans.  The status of the twelve loans maturing within the next twelve
months is as follows:




§
            Two
      loans totaling $58.8 million, which are secured by our largest revenue
      generating project and the corporate headquarters matured in the first
      quarter of 2009, may be in default.  We continue to seek a loan
      workout agreement with the lender on the two
  loans.




§
            One
      additional loan for $28.1 million, which is secured by our Union Lofts
      apartment project matured in the first quarter of 2009, may be in
      default.  We continue to seek a loan workout agreement with the
      lender on this loan.




§
            One
      land loan for $17.0 million, which has $5.0 million and $12.0 million in
      principal due during the first and second quarter of 2009, respectively,
      may be in default. We continue to seek a loan workout agreement with the
      lender on this loan.




§
            Three
      loans totaling $22.7 million mature in the second quarter of
      2009.  We continue to seek loan workout agreements with the
      lenders on a loan of $8.9 million and a loan of $5.3 million included
      here.




§
            Three
      loans totaling $31.9 million mature in the third quarter of 2009. We
      continue to seek loan workout agreements with the lenders on a $20.0
      million loan and a $5.5 million loan included
  here.




§
            Two
      loans totaling $12.3 million mature in the fourth quarter of 2009. We
      continue to seek a loan workout agreement in regard to both of these
      loans.




§
            Overall,
      we are seeking loan workout agreements of $177.8 million of
      loans.




§
            Three
      of the aforementioned loans that mature in June and July 2009 are land
      loans totaling $45.9 million.


F-17


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





9.
NOTES PAYABLE SECURED BY REAL ESTATE (Continued)





A
significant portion of the indebtedness represented by our notes payable secured
by real estate is subject to guarantees we have entered into in favor of our
lenders as noted in footnote 10 to the Notes Payable table.  Some of
the indebtedness is also guaranteed by our Chairman and Chief Executive Officer,
Richard Meruelo, John Maddux, and the parents of Richard Meruelo.  In
connection with the IPO transaction, the Company indemnified Richard Meruelo and
John Maddux in connection with such guarantees.





10.
DISCONTINUED OPERATIONS




On May
27, 2008, we completed the interim financing or initial sale of the 2000 San
Fernando Road project to a related party as discussed later in Note
17.  On August 15, 2008, the related party completed a subsequent
resale of the property to a third party buyer, which completed our involvement
in the project.  This satisfied the remaining criterion that must be
met in SFAS 66 in order to record the gain on sale of the project.  As
such, we recorded a $14.2 million gain on sale related to the
project.  In accordance with SFAS 144, the results of operations for
2000 San Fernando Road are reflected in the consolidated statement of operations
as discontinued operations for all periods presented.  In addition,
the total assets and liabilities of the 2000 San Fernando Road project as of
December 31, 2007 were $19.8 million and $19.4 million, respectively, and were
comprised primarily of rental property real estate and note payable secured by
real estate.





On
September 3, 2008, we completed the sale of our project at 1800 E. Washington
Blvd. to a third party for $14.2 million.  We used the net proceeds to
repay the $9.1 million mortgage loan secured by the project and recorded a $1.7
million gain on sale.  The results of operations for 1800 E.
Washington Blvd. are reflected in the consolidated statement of operations as
discontinued operations for all periods presented.  In addition, total
assets and liabilities of the 1800 E. Washington Blvd. project as of December
31, 2007 were $12.1 million and $12.7 million, respectively, and were comprised
primarily of rental property real estate and note payable secured by real
estate.





On
November 14, 2008, we completed the sale of our project at Overland Terminal to
a third party for $19.7 million.  We used the net proceeds to repay
the $15.0 million mortgage loan secured by the project and recorded a $0.2
million gain on sale.  The results of operations for Overland Terminal
are reflected in the consolidated statement of operations as discontinued
operations for all periods presented.  In addition, the total assets
of the Overland Terminal project as of December 31, 2007 were $3.6 million and
were comprised primarily of purchase deposits that were classified as real
estate held for development.  No liabilities were associated with this
project as of December 31, 2007.





In
addition to the rental projects sold, we also completed the sales of several
development sites to third parties for $41.7 million.  These projects
include 9901 Alameda ($31.2 million), 801 E 7th Street
($9.5 million) and 801 Stanford ($1.0 million).  As these were
development projects, no income or expense is included in income (loss) from
discontinued operations other than the gain on sales.





The
following table summarizes the income and expense components that comprise
income (loss) from discontinued operations of the company for the year ended
December 31, 2008 and the period from January 30, 2007 to December 31, 2007 and
the predecessor for the period from January 1, 2007 to January 29, 2007 and the
year ended December 31, 2006 (in thousands):





Year
      Ended
                  
                  
                  Period
      from January 30,
                  
                  
                  Period
      from January 1,
                  
                  
                  Year
      EndedDecember
      31, 2008
                  
                  
                  to
      December 31, 2007
                  
                  
                  to
      January 29, 2007
                  
                  
                  December
      31, 2006Revenue:Rental
      income
                  
                  $
                  2,073
                  
                  
                  $
                  2,029
                  
                  
                  $
                  36
                  
                  
                  $
                  95Total
      Revenue
                  
                  
                  2,073
                  
                  
                  
                  2,029
                  
                  
                  
                  36
                  
                  
                  
                  95Expenses:Rental
      expenses
                  
                  
                  715
                  
                  
                  
                  426
                  
                  
                  
                  7
                  
                  
                  
                  7Interest
      expense
                  
                  
                  593
                  
                  
                  
                  882
                  
                  
                  
                  72
                  
                  
                  
                  318Income
      tax expense
                  
                  
                  112
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Depreciation
      and amortization
                  
                  
                  478
                  
                  
                  
                  674
                  
                  
                  
                  11
                  
                  
                  
                  22General
      and administrative
                  
                  
                  12
                  
                  
                  
                  2
                  
                  
                  
                  -
                  
                  
                  
                  -Total
      Expenses
                  
                  
                  1,910
                  
                  
                  
                  1,984
                  
                  
                  
                  90
                  
                  
                  
                  347Total
      Income (Loss) from Discontinued Operations
                  
                  
                  163
                  
                  
                  
                  45
                  
                  
                  
                  (54
                  )
                  
                  
                  (252
                  )




F-18


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





11.
RENTAL INCOME





Rental
income consists of fixed minimum rents, contingent rents and reimbursements from
tenants of common area maintenance expenses and real estate taxes under
noncancelable operating lease agreements.




Minimum
future rental receipts, excluding any reimbursement of expenses or contingent
rents, due to us for the years succeeding December 31, 2008, are as follows
(in thousands):





2009
                
                $
                6,7422010
                
                
                5,0222011
                
                
                3,0372012
                
                
                2,1042013
                
                
                709Thereafter
                
                
                -$
                17,614





12.
IMPAIRMENT LOSS ON REAL ESTATE ASSETS





Based on
periodic market assessments performed by comparing the book value of our assets
to similar assets on the market adjusted for other factors such as
capitalization rates, financing options, location and age of the project
throughout the year ended December 31, 2008, we recognized impairment on eight
rental projects totaling $59.9 million and twelve development projects totaling
$72.0 million.  In addition, we recognized impairment on three
development projects after carefully evaluating our options and making the
strategic business decision to no longer pursue our purchase of these
projects.  As such, we recognized impairments on $10.3 million in
purchase deposits and capitalized costs related to these projects.  No
impairment losses were recognized during the years ended December 31, 2007 and
2006.





F-19


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)








13.
LOSS PER SHARE




The
following is a summary of the elements used in calculating basic and diluted
loss per share (in thousands except for share data):





For
      the Year Ended
                  December
      31, 2008
                
                
                Period
                  January 30, 2007
                  to
      December 31, 2007Loss
      from continuing operations before minority interests and income
      taxes
                
                $
                (161,462
                )
                
                $
                (11,914
                )Minority
      interests
                
                
                (843
                )
                
                
                —Benefit
      (provision) for income taxes
                
                
                51,933
                
                
                
                —Loss
      from continuing operations
                
                $
                (110,372
                )
                
                $
                (11,914
                )Income
      (loss) from discontinued operations
                
                
                163
                
                
                
                45Gain
      on sale of real estate
                
                
                14,189
                
                
                
                —Net
      income (loss) attributable to common shareholders
                
                $
                (96,020
                )
                
                $
                (11,869
                )Weighted
      average common shares outstanding – basic
                
                
                86,866,699
                
                
                
                85,218,110Weighted
      average common shares outstanding – diluted
                
                
                86,866,699
                
                
                
                85,218,110Net
      income (loss) per share - basic
                
                $
                (1.11
                )
                
                $
                (0.14
                )Net
      income (loss) per share - diluted
                
                $
                (1.11
                )
                
                $
                (0.14
                )





For all
time periods presented, the potentially dilutive shares were not included in the
loss per share calculation as their effect is anti-dilutive.  For the
year ended December 31, 2008, the potentially dilutive shares that were not
included consist of 224,904 unvested shares of restricted stock and 402,835 LTIP
units granted to employees and directors of the Company. For the period ended
December 31, 2007, the potentially dilutive shares that were not included
consist of 359,736 unvested shares of restricted stock and 347,835 LTIP units
granted to employees and directors of the Company.







14.
EQUITY INCENTIVE PLAN




On
January 30, 2007, we adopted an equity incentive plan. The purpose of the
2007 Equity Incentive Plan is to provide us with the flexibility to use
restricted stock, LTIP units and other awards as part of an overall compensation
package to provide compensation to attract and retain qualified personnel. The
LTIP units are interests in the operating partnership that, upon the allocation
of profits from the operating partnership over time, may be converted into the
operating partnership’s common units (a “Partnership Common Unit”) and
consequently, become redeemable by the holder on a one-for-one basis for cash
equal to the value of a share of our common stock or, at the Company’s election,
a share of the Company’s common stock. We have initially reserved 2,277,500
shares of our common stock for the issuance of awards under our equity incentive
plan. From the initial reservation, there remain 1,072,265 unissued shares of
our common stock under our equity incentive plan. The number of shares reserved
under our equity incentive plan is also subject to adjustment in the event of a
stock split, stock dividend or other change in our capitalization. Generally,
shares that are forfeited or canceled from awards under our equity incentive
plan will be available for future awards.


F-20


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





14.
EQUITY INCENTIVE PLAN (Continued)




Restricted Stock




On
January 30, 2007, pursuant to our equity incentive plan, the Company
awarded 314,436 shares of restricted stock to non-executive employees. An
additional 103,300 shares of restricted stock were issued subsequently through
December 31, 2008. Restricted stock issued to non-executive employees vests
one-third on each of the first, second and third anniversary dates of the grant.
Also on January 30, 2007, an initial grant of 10,000 shares of restricted stock
was issued to non-employee directors, which vest on the second annual meeting of
the shareholders following the year of grant, subject to the director’s
continued service through the day immediately preceding such meeting. During the
period from January 30, 2007 through December 31, 2008, 90,336 shares of
non-executive employee restricted stock were forfeited and 112,496 shares of
employee restricted stock vested.




As of
December 31, 2008, there was approximately $1.2 million of total unrecognized
compensation cost related to the non-vested portion of restricted stock under
the equity incentive plan. The cost is expected to be recognized over a weighted
average period of 1.1years. The fair value of the unvested restricted shares
outstanding as of December 31, 2008 was approximately $2.2
million.  The compensation cost related to restricted stock recognized
during the years ended December 31, 2008 and 2007 was $1.1 million each per
year.





RRestricted
      Stock
                  
                  Number of Restricted
                    Stock
      Shares
                  
                  
                  Weighted Average
                    Issuance
      Date
                    Fair
      ValueOutstanding
      at January 1, 2008
                  
                  
                  359,736
                  
                  
                  $
                  10.09Issued
                  
                  
                  22,500
                  
                  
                  
                  2.74Vested
                  
                  
                  (112,496
                  )
                  
                  
                  3.87Forfeited
                  
                  
                  (44,836
                  )
                  
                  
                  6.90Outstanding
      at December 31, 2008
                  
                  
                  224,904
                  
                  
                  $
                  9.94




Long-term
Incentive Units




Under our
equity incentive plan, our operating partnership issued to certain executives an
aggregate of 327,835 LTIP units on January 30, 2007. These LTIP units are
subject to a two-year restriction period during which the LTIP units and the
Partnership Common units (into which the LTIP units are convertible) are
prohibited from being redeemed or transferred, and vest over three years subject
to certain continuing employment requirements.  On December 31, 2008
and 2007, our operating partnership issued certain executives an aggregate of
40,000 LTIP units pursuant to their employment agreements (an aggregate 20,000
LTIP units per year).  On May 8, 2008, we hired Andrew Murray to serve
as Chief Financial Officer of the Company effective May 23, 2008.  Mr.
Murray is entitled to receive up to 200,000 LTIP units upon the achievement of
certain performance milestones and 300,000 LTIP units upon the passage of time
pursuant to his employment agreement.




During
the period from January 30, 2007 through December 31, 2007, compensation
expense related to LTIP units was approximately $0.8 million.  During
the year ended December 31, 2008, compensation expense related to LTIP units was
approximately $0.9 million.  As of December 31, 2008, there was
approximately $1.4 million of total unrecognized compensation cost related to
the LTIP units under the equity incentive plan.




LTIP
      Units
                  
                  Number
      of Units
                  
                  
                  Weighted
      Average Grant
                    Date
      Fair ValueOutstanding
      at January 1, 2008
                  
                  
                  347,835
                  
                  
                  $
                  7.43Granted
                  
                  
                  55,000
                  
                  
                  
                  1.20Redeemed
                  
                  
                  —
                  
                  
                  
                  —Outstanding
      at December 31, 2008
                  
                  
                  402,835
                  
                  
                  $
                  6.66





F-21


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





14.
EQUITY INCENTIVE PLAN (Continued)




Assumptions
used to Value Long-term Incentive Units





We
engaged a third party consultant to assist the Company with an analysis to value
the LTIP units issued at the IPO date to our executives and the LTIP units
issued in May 2008 to Andrew Murray.





For the
units issued at the IPO, our analysis indirectly applied the market approach of
asset valuation to our LTIP units and utilized the weighted average market value
of the Company’s common stock of $10.63 on the date of the grant as the starting
point for the discounted market value analysis.   Next, a
discount was applied due to the lack of marketability, or illiquidity, of the
LTIP units as the LTIPs cannot be redeemed or transferred for two years from the
grant, or valuation date. With respect to illiquidity or lack of marketability,
various restricted stock studies reporting the discounts observed on restricted
stock of similar companies that also have publicly traded stock were cited. Also
considered was a published marketability analysis that computes discounts for
securities whose volatilities are most similar to real estate company stocks,
which was 20 percent. From this information, an illiquidity discount of 20
percent for the LTIP units was utilized for valuation purposes.





A second
discount due to the risk related to the book-up requirement of the LTIP units
was also made.  To determine the uncertainty of a book-up event or
post-vesting probabilities, the third-party consultant made inquiries of
management as to the probabilities of a book-up event over time. Also reviewed
was the partnership agreement of the Company’s operating partnership for events
that would trigger a book-up event.  With this information it was
determined that the expected timing, or delay, for the book-up event was
approximately two years.  The methodology was based on “when” the
book-up requirement would be met, not “if”, thus the expected volatility of 20
percent was a relevant factor in this discount calculation as
well.  Overall, the uncertainty of the book-up timing was estimated to
add approximately 7.5 percent to the discount factor.





Thus, the
combined discount was 27.5 percent and, when applied to the starting grant date
common share price of $10.63, each LTIP unit issued at the IPO was valued at
$7.71.  In addition, the LTIP units issued at the end of 2007 were
issued with the same 27.5 percent discount as no significant changes were
noted.





For the
300,000 employment based LTIP units granted to Andrew Murray, the same approach
was used in the valuation of the LTIP units issued at the IPO, except that the
market value of the Company’s common stock of $1.96 on the date of the grant was
used as the starting point for the discounted market value
analysis.   Considering current market conditions and estimates,
an illiquidity discount of 30 percent based on the illiquidity of the units and
review of a marketability analysis that computes discounts for securities with a
volatility similar to ours, which was estimated to be 55 percent over the next
three years.  A second discount due to the risk related to the book-up
requirement of the LTIP units was not taken as it was determined that within the
valuation considerations of SFAS 123(R), the fair value of the LTIP units would
not be materially affected by the restriction.  Thus, the applicable
discount was 30 percent and, when applied to the starting grant date common
share price of $1.96, each LTIP unit was valued at $1.37.





For the
200,000 performance-based LTIP units granted to Andrew Murray, a Monte Carlo
method was used to estimate the value of these units.  The model
estimated the value after 100,000 trials by simulating, in a risk-neutral
framework using the 3-year risk-free rate of 2.73% and expected volatility of
55%, the Company’s stock price and calculating the present value of each tranche
of Mr. Murray’s performance-based LTIP units if and when they are granted over
the three-year term of Mr. Murray’s employment agreement.  After
calculating the present value of each tranche with the model, the same discount
factor of 30 percent for the lack of marketability was applied.  Thus,
each tranche of 40,000 units was valued as follows.





Stock
      Price Threshold
                
                
                Issuance
      Date
                  Fair
      ValueTranche
      1
                
                $
                10
                
                
                $
                0.21Tranche
      2
                
                
                11
                
                
                
                0.18Tranche
      3
                
                
                12
                
                
                
                0.15Tranche
      4
                
                
                13
                
                
                
                0.13Tranche
      5
                
                
                14
                
                
                
                0.11





F-22


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





14.
EQUITY INCENTIVE PLAN (Continued)





In the
Company’s view, the models used met all three criteria required by SFAS 123(R),
paragraph A8.  The valuation technique applied was applied in a manner
consistent with the fair value measurement objective and was based on
established principles of financial economic theory and generally applied in
that field.  In addition, it reflected all substantive characteristics
of the instrument as it reflected the market price of a common share discounted
for the lack of marketability and the risk related to the book-up
requirement.





15.  QUARTERLY
FINANCIAL DATA (Unaudited)





Presented below is a summary of our
consolidated and our Predecessor’s combined quarterly financial data for the
years ended December 31, 2008 and 2007 (in thousands except per share
data).





Consolidated
      Financial StatementsQuarter
      EndedMarch
      31, 2008
                
                
                June
      30, 2008
                
                
                September
      30, 2008
                
                
                December
      31, 2008Total
      revenue
                
                $
                6,003
                
                
                $
                6,159
                
                
                $
                6,004
                
                
                $
                6,018Loss
      from continuing operations before minority interest and income
      taxes
                
                
                (13,712
                )
                
                
                (7,285
                )
                
                
                (15,519
                )
                
                
                (124,946
                )Loss
      from continuing operations
                
                
                (11,343
                )
                
                
                (6,478
                )
                
                
                (15,520
                )
                
                
                (77,031
                )Income
      (loss) from discontinued operations
                
                
                7,304
                
                
                
                70
                
                
                
                15,697
                
                
                
                (8,719
                )Net
      (loss) income
                
                
                (4,039
                )
                
                
                (6,408
                )
                
                
                177
                
                
                
                (85,750
                )Net
      (loss) income per share - basic
                
                
                (0.05
                )
                
                
                (0.07
                )
                
                
                0.00
                
                
                
                (0.98
                )Net
      (loss) income per share - diluted
                
                
                (0.05
                )
                
                
                (0.07
                )
                
                
                0.00
                
                
                
                (0.98
                )Weighted
      average shares outstanding - basic
                
                
                85,746,786
                
                
                
                86,422,172
                
                
                
                86,931,457
                
                
                
                87,852,200Weighted
      average shares outstanding - diluted
                
                
                85,746,786
                
                
                
                86,422,172
                
                
                
                88,031,465
                
                
                
                87,852,200








Predecessor
                
                
                Consolidated
      Financial StatementsPeriod
      from January 1, 2007 to January 29, 2007
                
                
                Period
      from January 30, 2007 to March 31, 2007
                
                
                Quarter
      Ended June 30, 2007
                
                
                Quarter
      Ended September 30, 2007
                
                
                Quarter
      Ended December 31, 2007Total
      revenue
                
                $
                2,167
                
                
                $
                4,882
                
                
                $
                6,184
                
                
                $
                6,327
                
                
                $
                5,801Loss
      from continuing operations
                
                
                (1,950
                )
                
                
                (1,434
                )
                
                
                (3,651
                )
                
                
                (3,549
                )
                
                
                (3,280
                )(Loss)
      income from discontinued operations
                
                
                (54
                )
                
                
                (109
                )
                
                
                32
                
                
                
                (521
                )
                
                
                643Net
      loss
                
                
                (2,004
                )
                
                
                (1,543
                )
                
                
                (3,619
                )
                
                
                (4,070
                )
                
                
                (2,637
                )Loss
      per share – basic and diluted
                
                
                N/A
                
                
                
                (0.02
                )
                
                
                (0.04
                )
                
                
                (0.05
                )
                
                
                (0.03
                )Weighted
      average shares outstanding – basic and diluted
                
                
                N/A
                
                
                
                84,045,736
                
                
                
                85,478,164
                
                
                
                85,478,164
                
                
                
                85,478,164





The quarterly
financial information does not equal the amounts reported on our quarterly
reports on Form 10-Q due to certain reclassifications of revenues and expenses
to discontinued operations, in accordance with SFAS 144 (See Note
10).





F-23


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





16.
COMMITMENTS AND CONTINGENCIES





We previously had a
build-to-suit arrangement with Dynamic Builders that would allow us to identify
a property for development and Dynamic Builders would acquire the property and
construct the improvements according to our specifications. Pursuant to this
arrangement, our aggregate purchase prices upon project completion totaled
approximately $88.9 million of which $12.4 million had been paid in deposits and
included in real estate held for development as of December 31,
2007.  During 2008, we carefully evaluated our options and made the
strategic business decision to no longer pursue both outstanding property
purchases which comprised the $88.9 million in aggregate purchase prices from
Dynamic Builders. We forfeited our $12.4 million in purchase deposits and wrote
off the amount to impairment on real estate assets.  As of December
31, 2008, the Company is not pursuing any new agreements with Dynamic Builders
under this arrangement.




As of
December 31, 2007, we were subject to an aggregate of approximately $9.0 million
in purchase obligations to acquire two other development projects (American Fish
and 1828 Oak Street).   During 2008, we paid an additional $0.5
million in deposits for the American Fish project.  Subsequent to
December 31, 2008, we terminated our lease and option rights at our American
Fish project in exchange for a portion of the sales proceeds.  As of
February 17, 2009, we have terminated the purchase obligation for the 1828 Oak
Street project.




As of
December 31, 2007, we had a purchase contract with the parents of Richard
Meruelo to acquire an industrial project known as Overland Terminal for $17.0
million.  On September 3, 2008, we completed the purchase of this project
for the contracted amount.  Concurrent with our purchase of this
project, we entered into an agreement to sell this project to a third
party.  The third party agreed to purchase the project from us for
$19.7 million and the transaction closed in November 2008.




As of
December 31, 2007, we had a $0.15 million irrevocable standby letter of credit
outstanding to guarantee our obligations related to environmental remediation
activities at our Vignes Village project.  The beneficiary could draw upon
the letter of credit in the event of contractual default by us relating to the
obligation.  The letter of credit had a maturity date of June 2008, which
we did not extend as we have completed the environmental remediation and
satisfied our obligations.





In
connection with our purchase of a portion of the Southpark Towers project, we
agreed to construct a parking structure containing parking spaces for the
benefit of an adjacent project not owned by us.  We have not yet
commenced construction of this structure.  Pursuant to the terms of
the agreement, monetary damages may apply for each day after July 1, 2008
that construction is not complete, subject to certain
conditions.  Additionally, the seller of such portion or its assignee
may have rights to reclaim such portion of the project, subject to the debt
thereon, if construction of the parking structure has not commenced by
October 1, 2008, subject to certain conditions.  We are currently
providing a portion of the Southpark Towers project as temporary surface parking
for the adjacent project not owned by us until such time that the parking
structure is completed.




Our
commitments and contingencies include the usual obligations of real estate
owners, operators and developers incurred in the normal course of business. In
the opinion of management, the resolution of these matters is not expected to
have a significant impact on our consolidated financial position or results of
operations. We maintain cash at insured financial institutions. The combined
account balances at each institution periodically exceed FDIC insurance coverage
and, as a result, there is a concentration of credit risk related to amounts in
excess of FDIC insurance coverage.  Management believes that the risk
is not significant.





17.
RELATED-PARTY TRANSACTIONS




As of
December 31, 2008 and December 31, 2007, we did not owe Richard Meruelo or
entities affiliated with him any funds.  As of December 31, 2007, we
were contingently owed approximately $14.2 million pursuant to an affiliates
note receivable pursuant to an arrangement with two of our affiliates indirectly
owned by Messrs. Richard Meruelo and John Charles Maddux.  We were not
owed this amount as of December 31, 2008 because we received the proceeds during
the year.  As discussed in greater detail below, this arrangement does
not involve any borrowing by the two affiliates from us.  Rather, the
arrangement is akin to an “earnout,” pursuant to which we may issue common stock
to the affiliates.





In our formation
transactions in connection with our IPO, we acquired a contingent note
receivable held by our predecessor business. The obligor on the contingent note
receivable is an entity owned by the two affiliates described above. We refer to
this obligor as the “Taylor Yards entity.” The Taylor Yards entity in turn owns
a property that we refer to as the “Taylor Yards property.” The contingent note
receivable evidences amounts drawn under our predecessor business’ credit
facility provided by CalPERS, which amounts were loaned to the Taylor Yards
entity by our predecessor business to acquire the Taylor Yards
property.




F-24


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





17.
RELATED-PARTY TRANSACTIONS (continued)




The
Taylor Yards entity and the Taylor Yards property were not contributed to us as
part of our formation transactions because the Taylor Yards property was subject
to condemnation proceedings by the Los Angeles Unified School District. However,
the amount of consideration we delivered in our formation transactions for our
initial projects to the two affiliates of Messrs. Meruelo and Maddux was
effectively reduced by an amount equivalent to the contingent note
receivable.





Pursuant
to the arrangement, we agreed that, if and when amounts owing under the
contingent note receivable are paid and are no longer subject to litigation
risk, we would issue to affiliates of Messrs. Meruelo and Maddux a total number
of shares of common stock having a value equal to such payments (valuing the
common stock for this purpose at the per share price in our IPO), plus pay their
interest at the “applicable federal rate” in effect from the date of the IPO
closing through the date of the stock issuance. On February 14, 2007, in
consideration of payments made under the contingent note receivable, we issued a
total of 275,207 shares pursuant to the contingent issuance arrangement. In
addition, on March 10, 2008, we issued 840,000 shares to affiliates of Messrs.
Meruelo and Maddux that we had a contingent obligation to issue based on amounts
that were previously paid to our company by the Taylor Yards entity and that
have since become no longer subject to litigation risk.  As a result
of such litigation risk being removed, the company has no contingent or other
obligation to return such amounts received.  Any further payment of
the contingent note receivable and any further contingent issuance of stock
depends on the amount of the condemnation proceeds for the Taylor Yards
property.  On July 28, 2008, we issued 1,421,423 additional shares to
Messrs. Meruelo and Maddux because we received $14.2 million in consideration
for the contingent notes receivable and the litigation risk was
removed.  We have no additional obligation to issue shares to those
two affiliates.




The
contingent note receivable originally carried the same interest rate, repayment
terms and maturity date as the CalPERS credit facility. The net proceeds from
our IPO were used to pay off the CalPERS credit facility on January 30,
2007, including amounts drawn in connection with the contingent note receivable.
In connection with the CalPERS pay off, we reduced the interest rate on the
contingent note receivable to 4.77%. As of December 31, 2007, the
contingent note receivable from affiliates has been included as a reduction of
owners’ equity (deficit) in the consolidated balance sheet.




Following
our IPO, we continued to provide legal services to the Taylor Yards entity under
a services agreement with the Taylor Yards entity effective as of January 30,
2007. This agreement ended in July 2008 with the settlement of the litigation.
Fees generated under the agreement for the year ended December 31, 2008
totaled $24,500.   Fees generated under the agreement for the
period January 30, 2007 thru December 31, 2007 totaled $38,500. Any other
services provided to Richard Meruelo or entities affiliated with him are billed
directly to Mr. Meruelo and included in management fees in the consolidated
statements of operations.





We
provide property management, leasing and development services to properties that
are owned by a related party, namely Homero and Belinda Meruelo, the parents of
Richard Meruelo. Management fees generated for the years ended December 31,
2008, 2007 and 2006 totaled $0.2 million, $0.2 million and $0.2 million
respectively. Because of the nature and extent of transactions with affiliates,
the accompanying consolidated financial statements may or may not be indicative
of the condition that would have existed or the results of operations that would
have occurred if our predecessor business had operated without such
affiliates.





On May
27, 2008, we completed the first part of an interim financing of our operating
project at 2000 San Fernando Road (Fedex) to a related party, namely an entity
controlled by the parents of Richard Meruelo.  As part of this interim
financing of this project, we sold this project to this related party for
approximately $28.4 million subject to a subsequent resale
agreement.  As part of this resale agreement, we participated 100% in
the subsequent sale proceeds in excess of the original sales price net of
transaction costs plus an imputed 14.0% annual cost of carry to the related
party when this property was subsequently resold.  We treated this
transaction as a financing transaction and deferred a gain of $9.0 million
during the quarter ended June 30, 2008.  On August 15, 2008, the
related party resold the project to a third party buyer for $35.0 million. We
received approximately $5.2 million of net proceeds pursuant the resale
agreement in August 2008.  We also recognized the full $14.2 million
gain on the sale related to this project in our consolidated financial
statements and recorded $1.1 million in interest and transaction costs paid to
the related party.


F-25


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)


18.
INCOME TAXES




Our
operations are carried on through the operating partnership and its
subsidiaries. The operating partnership is not subject to income tax, and all of
the taxable income, gains, losses, deductions and credits are passed through to
its partners. We are responsible for our share of taxable income or loss of the
operating partnership allocated to us in accordance with the operating
partnership’s Agreement of Limited Partnership. As of December 31, 2008 and
2007, we held a 99.6% capital interest in the operating
partnership.  For the year ended December 31, 2008 and for the period
from January 30, 2007 through December 31, 2007, we were allocated 99.6% and
100%, respectively, of the losses from the operating partnership for financial
reporting purposes.





Prior to
the IPO, the Predecessor was organized and operated as a series of limited
liability companies, partnerships and S corporations for income tax
purposes.  Accordingly, its members, rather than the Predecessor, were
subject to federal and state income taxes on their respective share of the
Predecessor’s taxable income.  Accordingly, there was no provision for
income taxes recorded for the periods prior to January 30, 2007 for the
Predecessor.  We recorded a deferred tax liability of $41.1 million in
connection with the IPO mainly attributable to differences in the basis of
assets acquired in the transaction for financial reporting and tax reporting
purposes.





The
differences between the total income tax (provision) or benefit from continuing
operations for financial statement purposes and income taxes computed using the
federal income tax rate of 35% for the periods ended December 31 were as
follows:




Continuing Operations
                  
                  2008
                  
                  
                  2007Federal
      tax benefit on pretax loss at statutory rates
                  
                  $
                  56,745
                  
                  
                  
                  35.00
                  %
                  
                  $
                  4,154
                  
                  
                  
                  35.00
                  %State
      tax, net of federal benefit
                  
                  
                  9,253
                  
                  
                  
                  5.71
                  %
                  
                  
                  676
                  
                  
                  
                  5.70
                  %Permanent
      items
                  
                  
                  (402
                  )
                  
                  
                  (0.25
                  )%
                  
                  
                  (34
                  )
                  
                  
                  (0.29
                  )%Valuation
      allowance
                  
                  
                  (13,663
                  )
                  
                  
                  (8.43
                  )%
                  
                  
                  (4,796
                  )
                  
                  
                  (40.41
                  )%Benefit
      (provision) for income taxes
                  
                  
                  51,933
                  
                  
                  
                  32.03
                  %
                  
                  
                  -
                  
                  
                  
                  0.0
                  %Discontinued OperationsIncome
      tax on income from discontinued operations
                  
                  $
                  (112
                  )
                  
                  
                  (40.75
                  )%
                  
                  
                  N/A
                  
                  
                  
                  N/AIncome
      tax on gain on sale of assets
                  
                  
                  (9,490
                  )
                  
                  
                  (40.75
                  )%
                  
                  
                  N/A
                  
                  
                  
                  N/AProvision
      for income taxes – discontinued operations
                  
                  
                  (9,602
                  )
                  
                  
                  (40.75
                  )%
                  
                  
                  N/A
                  
                  
                  
                  N/ANet
      tax benefit (provision)
                  
                  
                  42,331
                  
                  
                  
                  30.55
                  %
                  
                  
                  N/A
                  
                  
                  
                  N/A




Deferred
income taxes reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting and income
tax purposes.  The significant components of deferred tax assets and
liabilities at December 31, 2008 and 2007 consist of the following (in
thousands):







Deferred tax assets:
                
                2008
                
                
                2007NOL
      carryforwards
                
                $
                18,094
                
                
                $
                7,473State
      taxes
                
                
                -
                
                
                
                2,737Allowance
      accounts
                
                
                237
                
                
                
                121Deferred
      compensation
                
                
                411
                
                
                
                748Other
                
                
                109
                
                
                
                -Prepaid
      rent
                
                
                76
                
                
                
                6818,927
                
                
                
                11,147Less:
      valuation allowance
                
                
                (18,459
                )
                
                
                (4,796
                )Net
      deferred tax assets
                
                
                468
                
                
                
                6,351Deferred tax liabilities:Property
      and equipment basis
                
                $
                (360
                )
                
                $
                (43,517
                )Capitalized
      interest
                
                
                -
                
                
                
                (3,225
                )Deferred
      rent
                
                
                (108
                )
                
                
                (203
                )Other
                
                
                -
                
                
                
                (507
                )Total
      deferred tax liabilities
                
                
                (468
                )
                
                
                (47,452
                )Net
      deferred tax asset (liability)
                
                $
                -
                
                
                $
                (41,101
                )


F-26


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)


18.
INCOME TAXES (Continued)




As of December 31, 2008, we had total
net operating loss carryforwards for federal and state income tax purposes of
approximately $44.4 million and $44.3 million, respectively. The federal and
state loss carryforwards begin to expire in 2027 and 2017,
respectively.  Under Section 382 of the Internal Revenue Code, the
utilization of the net operating loss carryforwards may be limited or lost if a
cumulative change in ownership of more than 50% occurs within a three-year
period.  We have also established a valuation allowance of $18.5
million to reduce deferred tax assets to the amounts considered realizable at
December 31, 2008.




In June
2006, the FASB issued FASB Interpretation No. 48,Accounting for Uncertainty in
Income Taxes (FIN 48), to create a single model to address accounting for
uncertainty in tax positions. FIN 48 clarifies the accounting for income taxes,
by prescribing a minimum recognition threshold a tax position is required to
meet before being recognized in the financial statements. FIN 48 also provides
guidance on derecognition, measurement, classification, interest and penalties,
accounting in interim periods, disclosure and transition. We adopted FIN 48 on
January 1, 2007. Based on our evaluation, we have concluded that there are
no significant uncertain tax positions requiring recognition in our financial
statements at December 31, 2008 and 2007.




19.  TENANT
CONCENTRATIONS




The
tenants in our commercial properties for rent consist largely of wholesalers and
manufacturers.  A significant portion of our and the Predecessor’s
rental revenues were generated from our largest tenant, American
Apparel.  American Apparel became a month-to-month tenant upon the
expiration date of its lease of December 31, 2008.  As of March 13,
2009, American Apparel is a rent paying tenant based on the terms of the expired
lease and we are currently in the process of negotiating a new lease with this
tenant.  There are no assurances that we will be successful in
securing this new lease. The revenue recognized related to this tenant was
greater than 10% of consolidated and combined rental revenue for the years ended
December 31, 2008, 2007 and 2006 was as follows (in thousands):







2008
              
              
              2007
              
              
              2006American
      Apparel
              
              $
              2,823
              
              
              $
              2,882
              
              
              $
              2,691







20.
RECENT ACCOUNTING PRONOUNCEMENTS




In
September 2006, the FASB issued Statement of Financial Accounting Standard No.
157,Fair Value
Measurements (“SFAS 157”). SFAS 157 provides guidance for using fair
value to measure assets and liabilities. This statement clarifies the principle
that fair value should be based on the assumptions that market participants
would use when pricing the asset or liability. SFAS 157 establishes a fair value
hierarchy, giving the highest priority to quoted prices in active markets and
the lowest priority to unobservable data. SFAS 157 applies whenever other
standards require assets or liabilities to be measured at fair value. This
statement is effective in fiscal years beginning after November 15, 2007.
In February 2008, the FASB issued FASB Staff Position SFAS 157-1, Application of FASB Statement No.
157 to FASB Statement 13 and Other Accounting Pronouncements that Address Fair
Value Measurements for Purposes of Lease Classification or Measurement Under
Statement 13 (“FSP SFAS 157-1”).  FSP FAS 157-1 defers the
effective date of SFAS 157 for all non-financial assets and non-financial
liabilities, except for those that are recognized or disclosed at fair value in
the financial statements on a recurring basis to fiscal years beginning after
November 15, 2008.  FSP SFAS 157-1 also excludes certain leasing
transactions accounted for under Statement of Financial Accounting Standards No.
13, Accounting for
Leases from the scope of SFAS 157.The implementation of SFAS
No. 157 for financial assets and liabilities, effective January 1,
2008, did not have a significant impact on our consolidated financial position
and results of operations.


F-27


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





NOTES
TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS


(Continued)





20.
RECENT ACCOUNTING PRONOUNCEMENTS (Continued)





In February 2007, the FASB
issued Statement of Financial Accounting Standard No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities Including an Amendment of FASB Statement No.
115 (“SFAS 159”).  This standard permits entities to choose to
measure many financial instruments and certain other items at fair value and is
effective for the first fiscal year beginning after November 15,
2007.  Effective January 1, 2008, we adopted SFAS 159 on a prospective
basis.  The adoption of SFAS 159 did not have a significant impact on
our consolidated financial statements as we did not elect to apply the fair
value option for any of our eligible financial instruments or other items on the
January 1, 2008 effective date.





In
December 2007, the FASB issued Statement of Financial Accounting Standard No.
141 (Revised 2007), Business Combinations (“SFAS
141R”).  SFAS 141R will significantly change the accounting for
business combinations.  Under SFAS 141R, an acquiring entity will be
required to recognize all the assets acquired and liabilities assumed in a
transaction at the acquisition-date fair value with limited
exceptions.  SFAS 141R also includes a substantial number of new
disclosure requirements.  SFAS 141R applies prospectively to business
combinations occurring in any reporting period beginning on or after December
15, 2008.  The adoption of SFAS 141R is not expected to have a
significant impact on our consolidated financial position and results of
operations.





In
December 2007, the FASB issued FAS No. 160,Non-controlling Interests in
Consolidated Financial Statements-an Amendment of Accounting Research Bulletin
No. 51 (“SFAS 160”).  SFAS 160 establishes new accounting and
reporting standards for a non-controlling interest in a subsidiary and for the
deconsolidation of a subsidiary.  Specifically, this statement
requires the recognition of a non-controlling interest (minority interest) as
equity in the consolidated financial statements separate from the parent’s
equity.  The amount of net income attributable to the non-controlling
interest will be included in consolidated net income on the face of the income
statement.  SFAS 160 clarifies that changes in a parent’s ownership
interest in a subsidiary that do not result in deconsolidation are equity
transactions if the parent retains its controlling financial
interest.  In addition, this statement requires that a parent
recognize a gain or loss in net income when a subsidiary is
deconsolidated.  Such gain or loss will be measured using the fair
value of the non-controlling equity investment on the deconsolidation
date.  SFAS 160 also includes expanded disclosure requirements
regarding the interests of the parent and its non-controlling
interest.  SFAS 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after December 15, 2008, which for us
means January 1, 2009.  We do not expect the adoption of SFAS 160 to
have a significant effect on our consolidated financial statements.





In May
2008, the FASB issued Statement of Financial Accounting Standard No. 162, The Hierarchy of Generally Accepted
Accounting Principle (“SFAS 162”).  SFAS 162 identified the
sources of accounting principles and the framework for selecting the principles
to be used in the preparation of financial statements of nongovernmental
entities that are presented in conformity with GAAP.  It is effective
60 days following the SEC’s approval of the Public Company Accounting Oversight
Board amendments to AU Section 411, The Meaning of Present Fairly in
Conformity with Generally Accepted Accounting Principles.  We
do not expect the adoption of SFAS 162 to have a significant effect on our
consolidated financial statements.








21.
SUBSEQUENT EVENTS (Unaudited)





On January 28, 2009, we drew down the
second tranche of $42.0 million of our 717 W 9th Street
loan.  The loan balance is now $84.0 million.




Subsequent
to year-end, we have resolved the two outstanding purchase obligations discussed
earlier in this report.   On January 5, 2009, we terminated our lease
and option rights at our American Fish project in exchange for a portion of the
sales proceeds.  As of February 17, 2009, we have terminated the purchase
obligation for the 1828 Oak Street project.





As
previously mentioned, we may be in default as we have not been able to extend or
refinance any of the approximately $86.9 million in loans that matured in the
first quarter of 2009 and we did not make a scheduled $5.0 million principal
paydown due on a land loan in the first quarter of 2009.  We also
recently stopped making our regular monthly interest and principal payments on
26 of our 30 loans.  As a result, two of our secured lenders have
commenced foreclosure proceedings.  With respect to our Pomona East
project, our secured lender has commenced a nonjudicial foreclosure proceeding
by filing, on February 17, 2009, a notice of default and election to sell in the
real property records.  With respect to our 788 S. Alameda project,
our secured lender has commenced a judicial foreclosure proceeding by filing an
action on March 4, 2009 in the Superior Court of the County of Los Angeles, and
has additionally requested the appointment of a receiver for this
project.  A hearing regarding the appointment of receiver is scheduled
for March 30, 2009.


F-28


MERUELO
MADDUX PROPERTIES, INC.





SCHEDULE
III





CONSOLIDATED
REAL ESTATE AND ACCUMULATED DEPRECIATION


AS
OF DECEMBER 31, 2008 (in thousands)





Initial
      Cost (1)
                
                
                Cost
      Capitalized (Expensed) Subsequent to Original Acquisition
                
                
                Gross
      Carrying Amount at December 31, 2008Project/Property
      Name
                
                Encumbrances
      at December 31, 2008
                
                
                Land
                
                
                Building
      & Improvements
                
                
                Land
                
                
                Building
      & Improvements
                
                
                Land
                
                
                Building
      & Improvements
                
                
                Total
                
                
                Accumulated
      Depreciation at December 31, 2008
                
                
                Year
      Built / Renovated
                
                Year
                  Acquired(2)Center
      Village
                
                
                10,335
                
                
                
                16,370
                
                
                
                989
                
                
                
                6,509
                
                
                
                74
                
                
                
                22,879
                
                
                
                1,063
                
                
                
                23,942
                
                
                
                556
                
                
                1937
                
                2005717
      W. Ninth Street(3)
                
                
                42,000
                
                
                
                21,106
                
                
                
                309
                
                
                
                -
                
                
                
                45,215
                
                
                
                21,106
                
                
                
                45,524
                
                
                
                66,630
                
                
                
                -
                
                
                
                -
                
                20051500
      Griffith Avenue
                
                
                6,198
                
                
                
                6,857
                
                
                
                4,888
                
                
                
                -
                
                
                
                15
                
                
                
                6,857
                
                
                
                4,903
                
                
                
                11,760
                
                
                
                482
                
                
                1978
                
                2005Barstow
      Produce Center(3)
                
                
                15,189
                
                
                
                2,598
                
                
                
                5,398
                
                
                
                (598
                )
                
                
                (1,140
                )
                
                
                2,000
                
                
                
                4,258
                
                
                
                6,258
                
                
                
                258
                
                
                1974
                
                2005Pomona
      Park Village/Pomona Retail(3)
                
                
                17,280
                
                
                
                38,349
                
                
                
                2,804
                
                
                
                (8,582
                )
                
                
                5,196
                
                
                
                29,767
                
                
                
                8,000
                
                
                
                37,767
                
                
                
                1,989
                
                
                1985
                
                2005The
      Union Lofts(3)
                
                
                28,108
                
                
                
                1,914
                
                
                
                8,843
                
                
                
                -
                
                
                
                15,553
                
                
                
                1,914
                
                
                
                24,396
                
                
                
                26,310
                
                
                
                905
                
                
                
                1928/2008
                
                2005Washington
      Cold Storage
                
                
                9,555
                
                
                
                3,122
                
                
                
                9,110
                
                
                
                -
                
                
                
                38
                
                
                
                3,122
                
                
                
                9,148
                
                
                
                12,270
                
                
                
                623
                
                
                2006
                
                2006Washington
      Produce Market
                
                
                6,072
                
                
                
                126
                
                
                
                -
                
                
                
                3,196
                
                
                
                6,264
                
                
                
                3,322
                
                
                
                6,264
                
                
                
                9,586
                
                
                
                320
                
                
                2007
                
                2007Citrus
      Gardens
                
                
                -
                
                
                
                4,124
                
                
                
                -
                
                
                
                2,856
                
                
                
                -
                
                
                
                6,980
                
                
                
                -
                
                
                
                6,980
                
                
                
                -
                
                
                
                -
                
                2005Covina
      Gardens (3)
                
                
                -
                
                
                
                1,801
                
                
                
                -
                
                
                
                (801
                )
                
                
                -
                
                
                
                1,000
                
                
                
                -
                
                
                
                1,000
                
                
                
                -
                
                
                1970
                
                2004San
      Fernando Court
                
                
                -
                
                
                
                9,520
                
                
                
                -
                
                
                
                111
                
                
                
                369
                
                
                
                9,631
                
                
                
                369
                
                
                
                10,000
                
                
                
                -
                
                
                
                -
                
                2005Southern
      California Institute of Architects
                
                
                10,114
                
                
                
                3,164
                
                
                
                12,146
                
                
                
                -
                
                
                
                -
                
                
                
                3,164
                
                
                
                12,146
                
                
                
                15,310
                
                
                
                799
                
                
                1907
                
                2004Sky
      Arc
                
                
                17,000
                
                
                
                27,269
                
                
                
                -
                
                
                
                14,944
                
                
                
                -
                
                
                
                42,213
                
                
                
                -
                
                
                
                42,213
                
                
                
                -
                
                
                
                -
                
                2004Meruelo
      Baldwin Park
                
                
                -
                
                
                
                6,321
                
                
                
                86
                
                
                
                2,220
                
                
                
                -
                
                
                
                8,541
                
                
                
                86
                
                
                
                8,627
                
                
                
                -
                
                
                
                -
                
                2007Meruelo
      Wall Street
                
                
                20,878
                
                
                
                17,738
                
                
                
                13,937
                
                
                
                -
                
                
                
                137
                
                
                
                17,738
                
                
                
                14,074
                
                
                
                31,812
                
                
                
                1,787
                
                
                2000
                
                20045707
      S Alameda (3)
                
                
                -
                
                
                
                3,568
                
                
                
                -
                
                
                
                230
                
                
                
                668
                
                
                
                3,798
                
                
                
                668
                
                
                
                4,466
                
                
                
                66
                
                
                1944
                
                2005Vignes
      Village(3)
                
                
                -
                
                
                
                11,071
                
                
                
                -
                
                
                
                (771
                )
                
                
                -
                
                
                
                10,300
                
                
                
                -
                
                
                
                10,300
                
                
                
                -
                
                
                
                -
                
                20051211
      E Washington Blvd/Washington at Central
                
                
                -
                
                
                
                2,508
                
                
                
                4,881
                
                
                
                -
                
                
                
                43
                
                
                
                2,508
                
                
                
                4,924
                
                
                
                7,432
                
                
                
                473
                
                
                1951
                
                20054th
      Street Center
                
                
                3,198
                
                
                
                6,035
                
                
                
                53
                
                
                
                -
                
                
                
                1,060
                
                
                
                6,035
                
                
                
                1,113
                
                
                
                7,148
                
                
                
                36
                
                
                1919
                
                2005Desmond
      Building
                
                
                5,340
                
                
                
                13,786
                
                
                
                -
                
                
                
                4,942
                
                
                
                -
                
                
                
                18,728
                
                
                
                -
                
                
                
                18,728
                
                
                
                -
                
                
                1917
                
                2005620
      Gladys Ave
                
                
                5,383
                
                
                
                3,148
                
                
                
                145
                
                
                
                10,008
                
                
                
                455
                
                
                
                13,156
                
                
                
                600
                
                
                
                13,756
                
                
                
                464
                
                
                1986
                
                2005801
      E 7th
      Street parking lot(4)
                
                
                -
                
                
                
                6,496
                
                
                
                1,504
                
                
                
                (6,091
                )
                
                
                (1,504
                )
                
                
                405
                
                
                
                -
                
                
                
                405
                
                
                
                -
                
                
                2004
                
                2003Ceres
      Street Produce Center(3)
                
                
                -
                
                
                
                2,122
                
                
                
                -
                
                
                
                165
                
                
                
                -
                
                
                
                2,287
                
                
                
                -
                
                
                
                2,287
                
                
                
                -
                
                
                1977
                
                20051000
      E Cesar Chavez
                
                
                -
                
                
                
                4,563
                
                
                
                1,025
                
                
                
                -
                
                
                
                759
                
                
                
                4,563
                
                
                
                1,784
                
                
                
                6,347
                
                
                
                149
                
                
                1960
                
                2005230
      W Ave 26th
                
                
                -
                
                
                
                3,646
                
                
                
                2,008
                
                
                
                649
                
                
                
                437
                
                
                
                4,295
                
                
                
                2,445
                
                
                
                6,740
                
                
                
                187
                
                
                1945
                
                20051919
      Vineburn Avenue(3)
                
                
                5,473
                
                
                
                4,388
                
                
                
                3,616
                
                
                
                (254
                )
                
                
                17
                
                
                
                4,134
                
                
                
                3,633
                
                
                
                7,767
                
                
                
                279
                
                
                1984
                
                20052131
      Humboldt Street (306 N Ave 21)
                
                
                -
                
                
                
                3,049
                
                
                
                249
                
                
                
                (663
                )
                
                
                14
                
                
                
                2,386
                
                
                
                263
                
                
                
                2,649
                
                
                
                207
                
                
                1946
                
                2005Olive
      Street Towers
                
                
                -
                
                
                
                13,039
                
                
                
                -
                
                
                
                1,946
                
                
                
                -
                
                
                
                14,985
                
                
                
                -
                
                
                
                14,985
                
                
                
                -
                
                
                
                -
                
                2005500
      Mateo Street
                
                
                460
                
                
                
                1,728
                
                
                
                530
                
                
                
                -
                
                
                
                -
                
                
                
                1,728
                
                
                
                530
                
                
                
                2,258
                
                
                
                40
                
                
                1953
                
                2006420
      Boyd Street
                
                
                5,950
                
                
                
                7,988
                
                
                
                612
                
                
                
                -
                
                
                
                -
                
                
                
                7,988
                
                
                
                612
                
                
                
                8,600
                
                
                
                306
                
                
                
                1922/1990
                
                20073rd
      & Omar Street
                
                
                2,569
                
                
                
                4,338
                
                
                
                375
                
                
                
                -
                
                
                
                15
                
                
                
                4,338
                
                
                
                390
                
                
                
                4,728
                
                
                
                33
                
                
                1958
                
                20052131
      Humboldt Street(3)
                
                
                7,000
                
                
                
                19,609
                
                
                
                -
                
                
                
                (4,558
                )
                
                
                -
                
                
                
                15,051
                
                
                
                -
                
                
                
                15,051
                
                
                
                -
                
                
                1990
                
                2005Ullman
      Tower One
                
                
                8,885
                
                
                
                25,141
                
                
                
                -
                
                
                
                6,321
                
                
                
                -
                
                
                
                31,462
                
                
                
                -
                
                
                
                31,462
                
                
                
                -
                
                
                
                -
                
                2005South
      Park Towers
                
                
                20,000
                
                
                
                47,292
                
                
                
                -
                
                
                
                22,398
                
                
                
                -
                
                
                
                69,690
                
                
                
                -
                
                
                
                69,690
                
                
                
                -
                
                
                
                -
                
                2005TransAmerica
      Lofts
                
                
                -
                
                
                
                5,458
                
                
                
                -
                
                
                
                1,663
                
                
                
                1,626
                
                
                
                7,121
                
                
                
                1,626
                
                
                
                8,747
                
                
                
                820
                
                
                1970
                
                2004Ullman
      Tower Two
                
                
                -
                
                
                
                14,923
                
                
                
                -
                
                
                
                3,350
                
                
                
                -
                
                
                
                18,273
                
                
                
                -
                
                
                
                18,273
                
                
                
                -
                
                
                
                -
                
                2005788
      S Alameda
                
                
                7,165
                
                
                
                2,799
                
                
                
                -
                
                
                
                10
                
                
                
                6,043
                
                
                
                2,809
                
                
                
                6,043
                
                
                
                8,852
                
                
                
                436
                
                
                2006
                
                2003Meruelo
      Chinatown Towers
                
                
                -
                
                
                
                5,273
                
                
                
                -
                
                
                
                2,465
                
                
                
                -
                
                
                
                7,738
                
                
                
                -
                
                
                
                7,738
                
                
                
                -
                
                
                
                -
                
                2003Alameda
      Square
                
                
                30,580
                
                
                
                4,491
                
                
                
                13,729
                
                
                
                -
                
                
                
                6,172
                
                
                
                4,491
                
                
                
                19,901
                
                
                
                24,392
                
                
                
                5,704
                
                
                1923
                
                1998Seventh
      Street Produce Market
                
                
                28,228
                
                
                
                2,702
                
                
                
                12,646
                
                
                
                -
                
                
                
                9,332
                
                
                
                2,702
                
                
                
                21,978
                
                
                
                24,680
                
                
                
                5,208
                
                
                1923
                
                1998Crown
      Commerce Center
                
                
                10,182
                
                
                
                4,274
                
                
                
                10,380
                
                
                
                549
                
                
                
                (661
                )
                
                
                4,822
                
                
                
                9,719
                
                
                
                14,541
                
                
                
                2,505
                
                
                1988
                
                2000American
      Apartments
                
                
                -
                
                
                
                506
                
                
                
                1,002
                
                
                
                -
                
                
                
                (284
                )
                
                
                506
                
                
                
                718
                
                
                
                1,224
                
                
                
                191
                
                
                1906
                
                1999905
      E 8th Street(3)
      (5)
                
                
                1,950
                
                
                
                893
                
                
                
                1,768
                
                
                
                (223
                )
                
                
                1,894
                
                
                
                670
                
                
                
                3,662
                
                
                
                4,332
                
                
                
                331
                
                
                2004
                
                2003Musica
      Latina Building(3)
                
                
                -
                
                
                
                618
                
                
                
                -
                
                
                
                710
                
                
                
                -
                
                
                
                1,328
                
                
                
                -
                
                
                
                1,328
                
                
                
                -
                
                
                1926
                
                1990American
      Fish (3)
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                326
                
                
                
                -
                
                
                
                326
                
                
                
                -
                
                
                
                326
                
                
                
                -
                
                
                1981
                
                -Santa
      Fe Plaza
                
                
                3,137
                
                
                
                4,027
                
                
                
                1,742
                
                
                
                -
                
                
                
                962
                
                
                
                4,027
                
                
                
                2,703
                
                
                
                6,730
                
                
                
                18
                
                
                2007
                
                20071828
      Oak Street(3),
      (6)
                
                
                -
                
                
                
                181
                
                
                
                -
                
                
                
                (181
                )
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                1925
                
                -Camfield
      Retail Center(3)
                
                
                -
                
                
                
                5,500
                
                
                
                -
                
                
                
                (1,000
                )
                
                
                -
                
                
                
                4,500
                
                
                
                -
                
                
                
                4,500
                
                
                
                -
                
                
                
                -
                
                2007328,229
                
                
                
                395,539
                
                
                
                114,775
                
                
                
                61,846
                
                
                
                98,769
                
                
                
                457,384
                
                
                
                213,543
                
                
                
                670,927
                
                
                
                25,172





(1)
            Includes
      non-cash purchase accounting adjustments made as a result of the
      IPO.


(2)
            The
      indicated year in this column is the first year in which an acquisition of
      a parcel constituting part of the entity’s project closed, if the closing
      occurred on or before December 31, 2008. If no closing occurred on or
      before December 31, 2008, no year is indicated in this column. However, in
      many cases, parcels were placed under option or other purchase arrangement
      before the indicated year as part of the land assemblage process, often
      several years before the closing. In such cases, the parcels were held, or
      are currently held, subject to the purchase rights and acquired, or will
      be acquired, upon later exercise of the
rights.


(3)
            Includes
      impairment loss.


(4)
            We
      sold most of this project.  However, we have the parking lot
      remaining.


(5)
            We
      sold 816 Stanford, a building attached to this
  project.


(6)
            We
      anticipate forfeiting our deposit on this
  project.





F-29


MERUELO
MADDUX PROPERTIES, INC. AND MERUELO MADDUX PROPERTIES PREDECESSOR





SCHEDULE
III





CONSOLIDATED
AND COMBINED REAL ESTATE AND ACCUMULATED DEPRECIATION (Continued, in
thousands)




The
following table reconciles the historical cost of our and the Predecessor’s
investments in real estate from January 1, 2006 through December 31,
2008:




Years
      Ended December 31,2008
                
                
                2007
                
                
                2006Real
      Estate AssetsBalance,
      beginning of period
                
                $
                787,510
                
                
                $
                508,968
                
                
                $
                418,501Non-cash
      purchase accounting adjustments (1)
                
                
                1,230
                
                
                
                94,281
                
                
                
                —Non-cash
      impairment losses
                
                
                (142,295
                )
                
                
                —
                
                
                
                —Additions
      – property acquisitions
                
                
                39,231
                
                
                
                100,237
                
                
                
                37,059–
      improvements (2)
                
                
                70,861
                
                
                
                84,024
                
                
                
                58,884Deductions
      – property dispositions
                
                
                (85,610
                )
                
                
                —
                
                
                
                (5,476
                )Balance,
      end of period
                
                $
                670,927
                
                
                $
                787,510
                
                
                $
                508,968Accumulated
      DepreciationBalance,
      beginning of period
                
                $
                19,625
                
                
                $
                14,159
                
                
                $
                10,852Additions
      – depreciation
                
                
                6,740
                
                
                
                5,662
                
                
                
                3,307Deductions
      – disposals
                
                
                (1,193
                )
                
                
                (196
                )
                
                
                —Balance,
      end of period
                
                $
                25,172
                
                
                $
                19,625
                
                
                $
                14,159





(1)
            Represents
      purchase accounting adjustments made to the asset base due to the
      IPO.


(2)
            Includes
      non-cash accruals for capital
items.




Depreciation
of real estate assets reflected in the statements of operations is calculated
over the


estimated
      original lives of the assets as
follows:




Building
      and improvements
            39
      yearsTenant
      improvements
            Term of respective
      leaseTenant
      origination costs
            Term
      of respective lease







F-30