##### Table of Contents



(ARDEN REALTY, INC. LOGO)   Securities and Exchange Commission Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended March 31, 2004 Commission file number 1-12193 ARDEN REALTY, INC.  Maryland
    
    95-4578533(State or other jurisdiction of incorporation or organization)
    
    (I.R.S. Employer Identification No.)
 11601 Wilshire Boulevard,
4th Floor
Los Angeles, California 90025-1740
(Address and zip code of principal executive offices) Registrants telephone number, including area code: (310) 966-2600 Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [x]       No [  ] Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes
[x]       No [  ] As of May 5, 2004 there were 65,504,754 shares of the registrants common
stock, $.01 par value, issued and outstanding.




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ARDEN REALTY, INC.
FORM 10-Q
TABLE OF CONTENTS PAGE NO.PART I. FINANCIAL INFORMATIONItem 1. Financial StatementsConsolidated Balance Sheets as of March 31, 2004 (unaudited) and December 31, 2003
    
    
    3Consolidated Statements of Income for the three months ended March 31, 2004 and 2003 (unaudited)
    
    
    4Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003 (unaudited)
    
    
    5Notes to Consolidated Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    11Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    25Item 4. Controls and Procedures
    
    
    26PART II. OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    27Item 2. Changes in Securities
    
    
    27Item 3. Defaults Upon Senior Securities
    
    
    27Item 4. Submission of Matters to a Vote of Security Holders
    
    
    27Item 5. Other Information
    
    
    27Item 6. Exhibits and Reports on Form 8-K
    
    
    27SIGNATURES
    
    
    28Exhibit 31.1Exhibit 32.1




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Part I. FINANCIAL INFORMATION 
 Item 1. Financial Statements Arden Realty, Inc. 
 Consolidated Balance Sheets
 (in thousands, except share amounts)
 March 31,
    
    December 31,2004
    
    2003(unaudited)AssetsInvestment in real estate:Land
    
    $
    467,216
    
    
    $
    467,216Buildings and improvements
    
    
    2,123,691
    
    
    
    2,122,216Tenant improvements and leasing commissions
    
    
    347,075
    
    
    
    345,6042,937,982
    
    
    
    2,935,036Less: accumulated depreciation and amortization
    
    
    (465,799
    )
    
    
    (455,261
    )2,472,183
    
    
    
    2,479,775Properties under development
    
    
    77,778
    
    
    
    75,627Land available for development
    
    
    23,731
    
    
    
    23,723Properties held for disposition, net
    
    
    8,103
    
    
    
    67,574Net investment in real estate
    
    
    2,581,795
    
    
    
    2,646,699Cash and cash equivalents
    
    
    11,784
    
    
    
    4,707Restricted cash
    
    
    21,030
    
    
    
    19,694Rent and other receivables, net of allowance of $3,956 and $4,041 at
March 31, 2004 and December 31, 2003, respectively
    
    
    5,745
    
    
    
    3,688Deferred rent, net of allowance of $2,178 and $2,216 at
March 31, 2004 and December 31, 2003, respectively
    
    
    43,508
    
    
    
    44,203Prepaid financing costs, expenses and other assets, net of accumulated
amortization of $14,767 and $13,781 at March 31, 2004 and December 31,
2003, respectively
    
    
    20,984
    
    
    
    22,442Total assets
    
    $
    2,684,846
    
    
    $
    2,741,433LiabilitiesMortgage loans payable
    
    $
    563,377
    
    
    $
    564,829Unsecured lines of credit
    
    
    96,000
    
    
    
    161,000Unsecured term loan
    
    
    125,000
    
    
    
    125,000Unsecured senior notes, net of discount
    
    
    501,005
    
    
    
    498,952Accounts payable and accrued expenses
    
    
    60,633
    
    
    
    54,317Security deposits
    
    
    22,484
    
    
    
    22,321Dividends payable
    
    
    33,080
    
    
    
    32,535Total liabilities
    
    
    1,401,579
    
    
    
    1,458,954Minority interest
    
    
    71,546
    
    
    
    72,194Stockholders EquityPreferred stock, $.01 par value, 20,000,000 shares authorized, none issued
    
    
    
    
    
    
    Common stock, $.01 par value, 100,000,000 shares authorized, 65,504,754 and
64,425,450 issued and outstanding at March 31, 2004 and December 31,
2003, respectively
    
    
    656
    
    
    
    646Additional paid-in capital
    
    
    1,234,911
    
    
    
    1,225,192Deferred compensation
    
    
    (15,197
    )
    
    
    (14,952
    )Accumulated other comprehensive loss
    
    
    (8,649
    )
    
    
    (601
    )Total stockholders equity
    
    
    1,211,721
    
    
    
    1,210,285Total liabilities and stockholders equity
    
    $
    2,684,846
    
    
    $
    2,741,433
 See accompanying notes to consolidated financial statements. 3




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Arden Realty, Inc. 
 Consolidated Statements of Income
 (in thousands, except per share data)
 (unaudited)
 Three Months EndedMarch 31,2004
    
    2003Property revenues
    
    $
    104,479
    
    
    $
    100,976Property operating expenses
    
    
    34,097
    
    
    
    31,34370,382
    
    
    
    69,633General and administrative expenses
    
    
    4,484
    
    
    
    3,590Interest expense
    
    
    23,313
    
    
    
    23,035Depreciation and amortization
    
    
    30,276
    
    
    
    28,408Interest and other income, net
    
    
    (766
    )
    
    
    (104
    )Income from continuing operations before minority interest
    
    
    13,075
    
    
    
    14,704Minority interest
    
    
    (1,382
    )
    
    
    (1,438
    )Income from continuing operations
    
    
    11,693
    
    
    
    13,266Discontinued operations, net of minority interest
    
    
    739
    
    
    
    2,811Gain (loss) on sale of discontinued properties
    
    
    6,429
    
    
    
    (639
    )Net income
    
    $
    18,861
    
    
    $
    15,438Basic net income per common share:Income from continuing operations
    
    $
    0.18
    
    
    $
    0.21Income from discontinued operations
    
    
    0.11
    
    
    
    0.03Net income per common share- basic
    
    $
    0.29
    
    
    $
    0.24Weighted average number of common shares  basic
    
    
    64,813
    
    
    
    63,040Diluted net income per common share:Income from continuing operations
    
    $
    0.18
    
    
    $
    0.21Income from discontinued operations
    
    
    0.11
    
    
    
    0.03Net income per common share- diluted
    
    $
    0.29
    
    
    $
    0.24Weighted average number of common shares- diluted
    
    $
    65,228
    
    
    $
    63,126
 See accompanying notes to consolidated financial statements. 4




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Arden Realty, Inc. 
 Consolidated Statements of Cash Flows
 (in thousands)
 (unaudited)
 Three Months EndedMarch 31,2004
    
    2003Operating Activities:Net income
    
    $
    18,861
    
    
    $
    15,438Adjustments to reconcile net income to net cash
provided by operating activities:Minority interest, including discontinued operations
    
    
    1,568
    
    
    
    1,498(Gain) loss on sale of discontinued properties
    
    
    (6,429
    )
    
    
    639Depreciation and amortization, including discontinued operations
    
    
    30,332
    
    
    
    29,622Amortization of loan costs
    
    
    1,079
    
    
    
    946Non-cash compensation expense
    
    
    746
    
    
    
    389Changes in operating assets and liabilities:Rent and other receivables
    
    
    (2,057
    )
    
    
    (642
    )Deferred rent
    
    
    (1,637
    )
    
    
    (118
    )Prepaid financing costs, expenses and other assets
    
    
    (533
    )
    
    
    (1,494
    )Accounts payable and accrued expenses
    
    
    1,641
    
    
    
    3,280Security deposits
    
    
    271
    
    
    
    (128
    )Net cash provided by operating activities
    
    
    43,842
    
    
    
    49,430Investing Activities:Improvements to commercial properties
    
    
    (24,786
    )
    
    
    (19,482
    )Proceeds from sale of properties
    
    
    67,884
    
    
    
    31,943Net cash provided by investing activities
    
    
    43,098
    
    
    
    12,461Financing Activities:Repayments of mortgage loans
    
    
    (1,452
    )
    
    
    (749
    )Proceeds from unsecured lines of credit
    
    
    40,000
    
    
    
    36,500Repayments of unsecured lines of credit
    
    
    (105,000
    )
    
    
    (49,500
    )Proceeds from issuance of common stock
    
    
    22,391
    
    
    
    64Distributions to preferred operating partnership unit holders
    
    
    (1,078
    )
    
    
    (1,078
    )Increase in restricted cash
    
    
    (1,336
    )
    
    
    (3,090
    )Distributions to minority interests
    
    
    (853
    )
    
    
    (867
    )Dividends paid
    
    
    (32,535
    )
    
    
    (31,806
    )Net cash used in financing activities
    
    
    (79,863
    )
    
    
    (50,526
    )Net increase in cash and cash equivalents
    
    
    7,077
    
    
    
    11,365Cash and cash equivalents at beginning of period
    
    
    4,707
    
    
    
    4,063Cash and cash equivalents at end of period
    
    $
    11,784
    
    
    $
    15,428Supplemental Disclosure of Cash Flow Information:Cash paid during the period for interest, net of amounts capitalized
    
    $
    22,032
    
    
    $
    23,555
 See accompanying notes to consolidated financial statements. 5




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Arden Realty, Inc. 
 Notes to Consolidated Condensed Financial Statements
 March 31, 2004
 (unaudited)
 1. Description of Business The terms Arden Realty, us, we and our as used in this report
refer to Arden Realty, Inc. Through our controlling interest in Arden Realty
Limited Partnership, or the Operating Partnership, and our other subsidiaries,
we own, manage, lease, develop, renovate and acquire commercial office
properties located in Southern California. As of March 31, 2004, our portfolio
was comprised of 128 primarily suburban office properties, consisting of 210
buildings with approximately 18.6 million net rentable square feet, including
one development project with approximately 283,000 net rentable square feet
currently under lease-up. As of March 31, 2004, our operating portfolio was
88.7% occupied. The minority interests at March 31, 2004 consist of limited partnership
interests in the Operating Partnership of approximately 2.5%, exclusive of
ownership interests of the Operating Partnerships preferred unit holders. 2. Summary of Significant Accounting Policies Basis of Presentation The accompanying consolidated financial statements include the accounts of
Arden Realty, Inc., the Operating Partnership, and our subsidiaries. All
significant intercompany balances and transactions have been eliminated in
consolidation. We consolidate all entities for which we have controlling financial
interest as measured by a majority of the voting interest. For entities in
which the controlling financial interest is not clearly indicated by ownership
of a majority of the voting interest, we would consolidate those entities that
we control by agreement. We would also consolidate all variable interest
entities for which we were the primary beneficiary. Except for minority interests in the Operating Partnership, Arden Realty
and the Operating Partnership currently own 100% of all of our consolidated
subsidiaries and do not have any unconsolidated investments other than an
investment in the securities of a non-publicly traded company. This investment
represents approximately 2.9% of the total equity outstanding for this
particular company as of the date of this report. (See Note 4). Because we do
not control this company contractually nor exert significant influence over its
operating and financial policies, we account for this investment under the cost
method of accounting. Interim Financial Data The accompanying consolidated condensed financial statements should be
read in conjunction with our 2003 Annual Report on Form 10-K as filed with the
Securities and Exchange Commission. The accompanying financial information
reflects all adjustments, which are, in our opinion, of a normal recurring
nature and necessary for a fair presentation of our financial position, results
of operations and cash flows for the interim periods. Interim results of
operations are not necessarily indicative of the results to be expected for the
full year. Reclassifications Certain prior year amounts have been reclassified to conform with the
current period presentation. 3. Property Dispositions On February 4, 2004, we sold an approximate 133,000 square foot retail
property located in Riverside County for a sales price of approximately
$17.0 million. The terms of this sale included an approximate
$800,000 guarantee for the future rent and retenanting costs, if necessary, for
certain tenants in this property. In addition, we recorded a $400,000 environmental reserve related
to the future completion of an environmental review. We recognized this sale
net of the guarantee and environmental reserve and will record any subsequent
amounts recovered over the next twelve months. On March 16, 2004, we sold an approximate 162,000 square foot office
property located in Los Angeles County for a gross sales price of approximately
$52.5 million. The net proceeds from these dispositions were used to reduce the outstanding
balance on our Wells Fargo unsecured line of credit. 4. Non-Real Estate Investments Included
in our other assets balance at March 31, 2004 is a 2.7 million
passive investment in the securities of a non-publicly traded company formed in
2000 to provide distributed energy generation to commercial real estate owners.
On March 8, 2004, we received information from the company that they are
currently assessing their business and financing strategies. The ultimate
outcome of their analysis on the companys operations and the recoverability of
our investment is currently uncertain. No adjustments have been made in these
financial statements as a result of this uncertainty. 6




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5. Outstanding Indebtedness A summary of our outstanding indebtedness as of March 31, 2004 and
December 31, 2003 is as follows: Stated AnnualInterest Rate at
    
    
    
    
    
    Number ofMarch 31,
    
    December 31,
    
    March 31,
    
    Rate
    
    PropertiesType of Debt
    
    2004
    
    2003
    
    2004
    
    Fixed/Floating
    
    Securing Loan
    
    Maturity(in thousands)Mortgage Loans Payable:Fixed RateMortgage Financing I(1),(2)
    
    $
    175,000
    
    
    $
    175,000
    
    
    
    7.52
    %
    
    Fixed
    
    
    18
    
    
    
    6/04Mortgage Financing III(3)
    
    
    134,159
    
    
    
    134,544
    
    
    
    6.74
    %
    
    Fixed
    
    
    22
    
    
    
    4/08Mortgage Financing IV(3)
    
    
    109,654
    
    
    
    109,960
    
    
    
    6.61
    %
    
    Fixed
    
    
    12
    
    
    
    4/08Mortgage Financing V(3)
    
    
    105,306
    
    
    
    105,899
    
    
    
    6.94
    %
    
    Fixed
    
    
    12
    
    
    
    4/09Mortgage Financing VI(3)
    
    
    21,533
    
    
    
    21,578
    
    
    
    7.54
    %
    
    Fixed
    
    
    3
    
    
    
    4/09Activity Business Center(3)
    
    
    7,364
    
    
    
    7,394
    
    
    
    8.85
    %
    
    Fixed
    
    
    1
    
    
    
    5/06145 South Fairfax(3)
    
    
    3,901
    
    
    
    3,912
    
    
    
    8.93
    %
    
    Fixed
    
    
    1
    
    
    
    1/27Marin Corporate Center(3)
    
    
    2,690
    
    
    
    2,724
    
    
    
    9.00
    %
    
    Fixed
    
    
    1
    
    
    
    7/15Conejo Business Center(3)
    
    
    2,636
    
    
    
    2,669
    
    
    
    8.75
    %
    
    Fixed
    
    (Note 4)
    
    
    7/15Conejo Business Center(3)
    
    
    1,134
    
    
    
    1,149
    
    
    
    7.88
    %
    
    Fixed
    
    (Note 4)
    
    
    7/15563,377
    
    
    
    564,829Unsecured Lines of Credit:Floating RateWells Fargo - $310 mm(1)
    
    
    86,000
    
    
    
    158,000
    
    
    
    3.25
    %
    
    LIBOR + 1.00% (Notes 5,6)
    
    
    
    
    
    
    4/06City National Bank - $20 mm(1)
    
    
    10,000
    
    
    
    3,000
    
    
    
    2.13
    %
    
    (Note 7)
    
    
    
    
    
    
    8/0496,000
    
    
    
    161,000Unsecured Term Loan:Fixed RateWells Fargo - $125 mm(1)
    
    
    125,000
    
    
    
    125,000
    
    
    
    4.14
    %
    
    Fixed (Note 8)
    
    
    
    
    
    
    6/06Unsecured Senior Notes:Fixed Rate2005 Notes(9)
    
    
    199,897
    
    
    
    199,872
    
    
    
    8.88
    %
    
    Fixed
    
    
    
    
    
    
    3/052007 Notes(9)
    
    
    151,903
    
    
    
    149,907
    
    
    
    7.00
    %
    
    (Note 10)
    
    
    
    
    
    
    11/072010 Notes(9)
    
    
    49,755
    
    
    
    49,744
    
    
    
    9.15
    %
    
    Fixed
    
    
    
    
    
    
    3/102010 Notes(9)
    
    
    99,450
    
    
    
    99,429
    
    
    
    8.50
    %
    
    Fixed
    
    
    
    
    
    
    11/10501,005
    
    
    
    498,952Total Debt
    
    $
    1,285,382
    
    
    $
    1,349,781
   (1)
    
    Requires monthly payments of interest only, with outstanding principal
balance due upon maturity.(2)
    
    This mortgage financing was repaid in full on April 9, 2004 with proceeds
from our unsecured lines of credit.(3)
    
    Requires monthly payments of principal and interest.(4)
    
    Both mortgage loans are secured by the Conejo Business Center property.(5)
    
    This line of credit also has an annual 20 basis point facility fee on the
entire $310 million commitment amount.(6)
    
    In 2002, we entered into interest rate swap agreements that fixed the
interest rate on $50 million of the outstanding balance on this line of
credit at 4.06% through April of 2006.(7)
    
    In December 2003, we expanded this line of credit to $20 million at an
interest rate of LIBOR + 1.00% or Prime Rate  1.875%.(8)
    
    In 2002, we entered into interest rate swap agreements that fixed the
interest rate on the entire balance of this loan at approximately 3.64% in
2003, 4.25% in 2004, 4.75% in 2005 and 4.90% in 2006.(9)
    
    Requires semi-annual interest payments only, with principal balance due
upon maturity.(10)
    
    During the fourth quarter of 2003, we entered into interest rate swap
agreements to float the interest rate on $100 million of the outstanding
balance of these notes at a rate of LIBOR + 3.1% through November of 2007.
Including these swap agreements, the effective interest rate on these
notes was approximately 5.32% as of March 31, 2004. 7




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6. Interest Rate Swap Agreements We have entered into interest rate swap agreements to effectively convert
floating rate debt into fixed rate debt, to convert fixed rate debt to floating
rate debt and to lock the current Treasury rate in anticipation of future debt
issuances. Net amounts received or paid
under these agreements are recognized as an adjustment to interest expense
when such amounts are incurred or earned. Our objective in using interest rate
swap agreements is to manage our exposure to interest rate movements. During 2002, such agreements were used to fix the floating interest rate
associated with $50 million of the Wells Fargo unsecured line of credit and the
entire $125 million balance of the unsecured term loan. Since June of 2003, we
have also entered into $150 million of forward-starting swaps that effectively
fixed the 10-year Treasury rate at an average rate of approximately 4.1% for
borrowings that are anticipated to occur in 2004 to refinance some of our
scheduled debt maturities. The forward-starting interest rate swaps were
entered into at current market rates and, therefore, had no initial cost. In October and November of 2003, we also entered into reverse interest
rate swap agreements to float $100 million of the fixed interest rate
associated with the 7.00% senior unsecured notes due in November of 2007.
Under these reverse swaps, we will receive interest at a fixed rate of 7.00%
and pay interest at a variable rate averaging six-month LIBOR in arrears plus
3.10%. The interest rate swaps mature at the same time the notes are due. These
swaps qualify as fair value hedges for accounting purposes. Net semi-annual
interest payments will be recognized as increases or decreases in interest
expense. The fair value of the interest rate swaps will be recognized on our
balance sheet and the carrying value of the senior unsecured notes will be
increased or decreased by an offsetting amount. Statement of Financial Accounting Standards No. 133, Accounting for
Derivative Instruments and Hedging Activities (SFAS 133), as amended and
interpreted, establishes accounting and reporting standards for derivative
instruments and for hedging activities. The accounting for changes in the fair
value of derivatives depends on the intended use of the derivative and the
resulting designation. Derivatives used to hedge the exposure to changes in
the fair value of an asset, liability, or firm commitment attributable to a
particular risk, are considered fair value hedges. Derivatives used to hedge
the exposure to variability in expected future cash flows, or other types of
forecasted transactions, are considered cash flow hedges. For derivatives designated as fair value hedges, changes in the fair value
of the derivative and the hedged item related to the hedged risk are recognized
in earnings. For derivatives designated as cash flow hedges, the effective
portion of changes in the fair value of the derivative is initially reported in
other comprehensive income (loss), outside of earnings and subsequently
recognized to earnings when the hedged transaction affects earnings. Under SFAS 133, our $175 million in floating-to-fixed swaps and our $150
million in forward-starting swaps outstanding as of March 31, 2004 are
classified as cash flow hedges with their fair value of approximately $8.6
million reported in accumulated other comprehensive loss on our balance sheet.
The estimated fair value of these interest rate swap agreements are dependent
on changes in market interest rates and other market factors that affect the
value of such agreements. Consequently, the estimated current fair value may
significantly change during the term of the agreements. Any estimated gain or
loss from these agreements will be amortized into earnings as we recognize the
interest expense for the underlying floating-rate loans at the fixed interest
rate provided under our agreements in the case of the fixed-to-floating swaps
or as part of interest expense for future borrowings in the case of the forward
starting swaps. If the underlying debt related to these swaps were to be repaid
prior to maturity, we would recognize into interest expense any unamortized
gain or loss at the time of such early repayment. Under SFAS 133, our $100 million in fixed-to-floating hedges are
classified as fair value hedges with their fair value of approximately $2.5
million reported in both the unsecured senior notes and prepaid financing
costs, expenses and other assets line items on our balance sheet. The
estimated fair value of these interest rate hedge agreements are dependent on
changes in market interest rates and other market factors that affect the value
of such agreements. Consequently, the estimated current fair value may
significantly change during the term of the agreements. Any estimated gain or
loss from these agreements will be amortized into earnings as we recognize the
interest expense for the underlying fixed-rate loan at the floating interest
rate provided under our agreements in the case of the floating-to-fixed hedges.
If the underlying debt related to these hedges were to be repaid prior to
maturity, we would recognize into interest expense any unamortized gain or loss
at the time of such early repayment. 7. Stockholders Equity and Minority Interests A common Operating Partnership unit, or common OP Unit, and a share of our
common stock have essentially the same economic characteristics as they share
equally in the total net income or loss and distributions of the Operating
Partnership. A common OP Unit may be redeemed for cash or, at the election of
the Operating Partnership, for shares of our common stock on a one-for-one
basis. Our minority interest balance includes $50 million of 8.625% Series B
Cumulative Redeemable Preferred Operating Partnership Units, or Preferred OP
Units. These Preferred OP Units were issued in September of 1999, are callable
by us after September 2004 and are exchangeable after ten years by the
holder into our 8.625% Series B Cumulative Redeemable Preferred Stock, on a
one-for-one basis. The Preferred OP Units and Series B Cumulative Redeemable
Preferred Stock have no stated maturity or mandatory redemption and are
subordinate to all debt. During the three months ended March 31, 2004, we issued a total of
1,023,304 common shares relating to exercises of stock options. 8




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On February 27, 2004, we issued a total of 38,000 restricted stock awards
to several key executive officers and employees. Holders of these shares have
full voting rights and will receive any dividends but are prohibited from
selling or transferring unvested shares. The fair market value on the date of
the grant for these restricted shares was $31.60. These restricted shares vest
equally over three years. On March 18, 2004, we declared a quarterly dividend of $0.505 per share to
stockholders of record on March 31, 2004. For the three months ended March 31,
2003, we declared a quarterly dividend of $0.505 per share. 8. Revenue from Rental Operations and Property Expenses Revenue from rental operations and property expenses for properties held
for use are summarized as follows (in thousands): Three Months EndedMarch 31,2004
    
    2003Revenue from Rental Operations:Scheduled cash rents
    
    $
    90,532
    
    
    $
    88,170Straight-line rents
    
    
    892
    
    
    
    379Tenant reimbursements
    
    
    4,753
    
    
    
    6,037Parking, net of expenses
    
    
    5,700
    
    
    
    5,123Other rental operations
    
    
    2,602
    
    
    
    1,267104,479
    
    
    
    100,976Property Expenses:Repairs and maintenance
    
    
    11,341
    
    
    
    10,038Utilities
    
    
    7,567
    
    
    
    7,883Real estate taxes
    
    
    8,021
    
    
    
    7,276Insurance
    
    
    2,061
    
    
    
    2,074Ground rent
    
    
    125
    
    
    
    42Administrative
    
    
    4,982
    
    
    
    4,03034,097
    
    
    
    31,343$
    70,382
    
    
    $
    69,633
 9. Income from Taxable REIT Subsidiary Beginning in the first quarter of 2004, we have reclassified for financial
presentation purposes the operating results of Nextedge, our taxable REIT
subsidiary, or TRS, in our consolidated statements of income from general and
administrative expenses to interest and other income, net. Nextedge provides
energy consulting services to commercial real estate owners. The following is a
breakdown of the components of interest and other income, net, for each of the
periods presented (in thousands): Three Months EndedMarch 31,2004
    
    2003Net income (loss) from TRS
    
    $
    638
    
    
    $
    (28
    )Interest and other income
    
    
    128
    
    
    
    132$
    766
    
    
    $
    104
 10. Stock Option Plan Beginning on January 1, 2003, we adopted the provisions of SFAS No. 148,
Accounting for Stock-Based Compensation  Transition and Disclosure under
which we began expensing the costs of new stock options granted to employees in
2003 in accordance with SFAS No. 123, Accounting for Stock-Based
Compensation. We used the Black-Scholes option valuation model to estimate the
fair value of the stock options granted. During the three months ended March 31
2004 and March 31, 2003, we expensed approximately $8,000 of stock option based
employee compensation costs. 9




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The following table reflects pro forma net income and earnings per share
had we elected to expense all options granted prior to 2003 assuming the fair
value method and using the Black-Scholes option valuation model (in thousands,
except per share amounts): Three Months EndedMarch 31,2004
    
    2003Net income available to common stockholders, as reported
    
    $
    18,861
    
    
    $
    15,438Stock based employee compensation costs for options granted
prior to 2003 assuming fair value method
    
    
    (77
    )
    
    
    (264
    )Net income available to common stockholders, as adjusted
    
    $
    18,784
    
    
    $
    15,174Earnings per share:Basic as reported
    
    $
    0.29
    
    
    $
    0.24Basic as adjusted
    
    $
    0.29
    
    
    $
    0.24Diluted as reported
    
    $
    0.29
    
    
    $
    0.24Diluted as adjusted
    
    $
    0.29
    
    
    $
    0.24
 11. Comprehensive Income Comprehensive income represents net income, plus the results of certain
non-shareholders equity changes not reflected in the Consolidated Statements
of Income. The components of comprehensive income are as follows (in
thousands): Three Months EndedMarch 31,2004
    
    2003Net income
    
    $
    18,861
    
    
    $
    15,438Other comprehensive loss:Unrealized derivative loss on cash flow hedges
    
    
    (8,048
    )
    
    
    (1,097
    )Comprehensive income
    
    $
    10,813
    
    
    $
    14,341
 12. Commitments and Contingencies We are presently subject to various lawsuits, claims and proceedings
arising in the ordinary course of business, none of which if determined
unfavorably to us is expected to have a material adverse effect on our cash
flows, financial condition or results of operations. There were no material
changes in our legal proceedings during the three months ended March 31, 2004. 10




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations Overview The following discussion relates to our unaudited consolidated financial
statements included herein, which should be read in conjunction with the
financial statements and related notes thereto included elsewhere in this Form
10-Q and in our 2003 Annual Report onForm 10-K. This form 10-Q, including the documents incorporated herein by reference,
contains forward-looking statements within the meaning of Section 27A of the
Securities Act and Section 21E of the Exchange Act pertaining to, among other
things, our future results of operations, cash available for distribution,
acquisitions, lease renewals, property development, property renovation,
capital requirements and general business, industry and economic conditions
applicable to us. Also, documents we subsequently file with the SEC and
incorporated herein by reference will contain forward-looking statements.
Actual results could differ materially from those projected in the
forward-looking statements as a result of the risk factors set forth below and
the matters set forth or incorporated in this form 10-Q generally. We caution
you, however, that this list of factors may not be exhaustive, particularly
with respect to future filings. We are a self-administered and self-managed real estate investment trust
that owns, manages, leases, develops, renovates and acquires commercial
properties located in Southern California. We are managed by 7 senior executive
officers who have experience in the real estate industry ranging from 12 to 34
years and who collectively have an average of 18 years experience. We perform
all property and development management, accounting, finance and
acquisition/disposition activities and a majority of our leasing transactions
with our staff of approximately 300 employees. As of March 31, 2004, we were Southern Californias largest publicly
traded office landlord as measured by total net rentable square feet owned. As
of that date, our portfolio was comprised of 128 primarily suburban office
properties, consisting of 210 buildings with approximately 18.6 million net
rentable square feet, including one development project with approximately
283,000 net rentable square feet currently under lease-up. As of March 31, 2004
and March 31, 2003, our operating portfolio was 88.7% and 89.7% occupied,
respectively. Business Strategy Our primary business strategy is to actively manage our portfolio to seek
to achieve gains in rental rates and occupancy, control operating expenses and
maximize income from ancillary operations and services. When market conditions
permit, we may also selectively develop or acquire new properties that add
value and fit strategically into our portfolio. We may also sell existing
properties and place the proceeds into investments we believe will generate
higher long-term value. We continue to seek to build a tenant base of smaller, diverse companies
that limits our exposure to any single tenant or industry. Smaller tenants
typically translate into shorter-term leases. Shorter-term leases provide
greater opportunity for renewing a substantial portion of our portfolio at
higher rental rates each year during strong markets, but create challenges to
maintain occupancy and rates when markets weaken. The average term of our
leases is 4 to 5 years, resulting in approximately 15% to 20% of our leases
expiring annually. We closely monitor our operating expenses and capital expenditures to
sustain or improve operating margins and dividend coverage. We may defer
discretionary operating expenses and capital expenditures until market
conditions improve. Current Economic Climate Our short and long-term liquidity, ability to refinance existing
indebtedness, ability to issue long-term debt and equity securities at
favorable rates and our dividend policy are significantly impacted by the
operating results of our properties, all of which are located in Southern
California. Our ability to lease available space and increase rates when
leases expire is largely dependent on the demand for office space in the
markets where our properties are located. We believe current uncertainty over
the national and Southern California economic environment is exerting downward
pressures on the demand for Southern California commercial office space. We are
experiencing continued downward pressures on occupancy and rental rates and
upward pressures on leasing costs due to several factors, including, among
others, the following:  
    
    Non-farm job growth in Southern California, which we believe to be a
leading indicator of office demand, was negative in 2003 and in the
first three months of 2004 and is largely dependent on improved economic
activity;
    
    Rental rates decreased in 2003 and are expected to decrease further
in 2004 due to the state of the local economy and competition from other
office landlords;
    
    Tenant concessions for new and renewal leases have increased in some
submarkets in 2003 and are expected to further increase in 2004 due to
competition from other office landlords;
    
    Some tenants are under-utilizing their existing space and can therefore expand internally before they need new space;
    
    Sublease space is impacting vacancy and rental rates in some submarkets; and
    
    Over-building has increased vacancy rates in some submarkets. 11




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According to published reports, overall market rental rates in Southern
California increased about 1% during the three months ended March 31, 2004.
Given the current trends, including the expected continued occupancy pressures
and aggressive pricing from competing office landlords and sublease space,
we expect market rates will remain flat to down by approximately 1% in
the second quarter of 2004. Although concessions declined during the three
months ended March 31, 2004, we expect concessions in either free rent or
higher tenant improvement allowances to continue until market vacancies decline
to a level where landlords regain pricing power. The timing and extent of future changes in the national and local economy
and their effects on our properties and results of operations are difficult to
accurately predict. It is possible, however, that these national and regional
issues may more directly affect us and our operating results in the future,
making it more difficult for us to lease and renew available space, to increase
or maintain rental rates as leases expire and to collect amounts due from our
tenants. For additional information, see Risk Factors  Further declines in
the economic activity of Southern California will adversely affect our
operating results,  The financial condition and solvency of our tenants may
reduce our cash flow, and  Rising energy costs and power outages in
California may have an adverse effect on our operations and revenue, in our
2003 Annual Report on Form 10-K. Critical Accounting Policies Refer to our 2003 Annual Report on Form 10-K for a discussion of our
critical accounting policies, which include, among other things, revenue
recognition, allowance for doubtful accounts and depreciation. There have been
no material changes to these policies in 2004. Off-Balance Sheet Arrangements As of March 31, 2004, there are no off-balance sheet transactions,
arrangements or obligations (including contingent obligations) that have, or
are reasonably likely to have a current or future material effect on our
financial condition, changes in the financial condition, revenues or expenses,
results of operations, liquidity, capital expenditures or capital resources. 12




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##### Table of Contents



RESULTS OF OPERATIONS Our financial position and operating results primarily relate to our
portfolio of commercial properties and income derived from those properties.
Therefore, the comparability of financial data from period to period will be
affected by the timing of property developments, acquisitions and dispositions. Comparison of the three months ended March 31, 2004 to the three months ended March 31, 2003
(in thousands, except number of properties and percentages): Three Months EndedMarch 31,Percent2004
    
    2003
    
    Change
    
    ChangeTotal Portfolio:Revenue from rental operations:Scheduled cash rents
    
    $
    90,532
    
    
    $
    88,170
    
    
    $
    2,362
    
    
    
    3
    %Straight-line rents
    
    
    892
    
    
    
    379
    
    
    
    513
    
    
    
    135Tenant reimbursements
    
    
    4,753
    
    
    
    6,037
    
    
    
    (1,284
    )
    
    
    (21
    )Parking, net of expense
    
    
    5,700
    
    
    
    5,123
    
    
    
    577
    
    
    
    11Other rental operations
    
    
    2,602
    
    
    
    1,267
    
    
    
    1,335
    
    
    
    105Total revenue from rental operations
    
    
    104,479
    
    
    
    100,976
    
    
    
    3,503
    
    
    
    3Property expenses:Repairs and maintenance
    
    
    11,341
    
    
    
    10,038
    
    
    
    1,303
    
    
    
    13Utilities
    
    
    7,567
    
    
    
    7,883
    
    
    
    (316
    )
    
    
    (4
    )Real estate taxes
    
    
    8,021
    
    
    
    7,276
    
    
    
    745
    
    
    
    10Insurance
    
    
    2,061
    
    
    
    2,074
    
    
    
    (13
    )
    
    
    (1
    )Ground rent
    
    
    125
    
    
    
    42
    
    
    
    83
    
    
    
    198Administrative
    
    
    4,982
    
    
    
    4,030
    
    
    
    952
    
    
    
    24Total property expenses
    
    
    34,097
    
    
    
    31,343
    
    
    
    2,754
    
    
    
    9Property Operating Results(1)
    
    
    70,382
    
    
    
    69,633
    
    
    
    749
    
    
    
    1General and administrative
    
    
    4,484
    
    
    
    3,590
    
    
    
    894
    
    
    
    25Interest expense
    
    
    23,313
    
    
    
    23,035
    
    
    
    278
    
    
    
    1Depreciation and amortization
    
    
    30,276
    
    
    
    28,408
    
    
    
    1,868
    
    
    
    7Interest and other income, net
    
    
    (766
    )
    
    
    (104
    )
    
    
    662
    
    
    
    637Income from continuing operations before
minority interest
    
    $
    13,075
    
    
    $
    14,704
    
    
    $
    (1,629
    )
    
    
    (11
    )%Discontinued operations, net of minority interest
    
    $
    739
    
    
    $
    2,811
    
    
    $
    (2,072
    )
    
    
    (74
    )%Number of Properties:Disposed of during period
    
    
    (2
    )
    
    
    (1
    )In service at end of period
    
    
    127
    
    
    
    135Net Rentable Square Feet:Disposed of during period
    
    
    (295
    )
    
    
    (140
    )In service at end of period
    
    
    18,341
    
    
    
    18,992Same Store Portfolio(2):Revenue from rental operations
    
    $
    102,141
    
    
    $
    100,897
    
    
    $
    1,244
    
    
    
    1
    %Property expenses
    
    
    33,310
    
    
    
    31,216
    
    
    
    2,094
    
    
    
    7$
    68,831
    
    
    $
    69,681
    
    
    $
    (850
    )
    
    
    (1
    )%Straight-line rents
    
    $
    396
    
    
    $
    357
    
    
    $
    39
    
    
    
    11
    %Number of non-development properties
    
    
    126
    
    
    
    126Average occupancy
    
    
    89.4
    %
    
    
    89.8
    %Net rentable square feet
    
    
    18,239
    
    
    
    18,239
   (1)
    
    Property Operating Results is commonly used by investors to
evaluate the performance of REITs, to determine trends in earnings
and to compute the fair value of properties as it is not affected
by (1) the cost of funds of the property owner or (2) the impact of
depreciation and amortization expenses as well as gains or losses
from the sale of operating real estate assets that are included in
net income computed in accordance with Generally Accepted
Accounting Principles, or GAAP. The first factor is commonly
eliminated from net income because it is specific to the particular
financing capabilities and constraints of the owner. The second
factor is commonly eliminated because it may not accurately
represent the actual change in value in real estate properties that
results from use or changes in market conditions. We believe that
eliminating these costs from net income gives investors an
additional measure of operating performance that, when used as an
adjunct to net income computed in accordance with GAAP, can be a
useful measure of our operating results. 13




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##### Table of Contents



Property Operating Results captures trends in occupancy rates, rental
rates and operating costs. However, Property Operating Results
excludes
general and administrative costs, interest expense, interest income,
depreciation and amortization expense and gains or losses from the sale of
properties,
changes in value in our real estate properties that result from use or
permanent impairment to carrying costs as stipulated by GAAP, the level of
capital
expenditures and leasing costs necessary to maintain the operating
performance of our properties, all of which are significant economic costs.
Therefore, Property Operating Results may fail to capture significant
trends which limits its usefulness.Property Operating Results is a non-GAAP measure of performance.
Property Operating Results is not a substitute for net income as
computed in accordance with GAAP. It excludes significant expense
components such as depreciation and amortization expense and financing
costs. This measure should be analyzed in conjunction with net income
and cash flow from operating activities as computed in accordance with
GAAP. Other companies may use different methods for calculating
Property Operating Results or similarly entitled measures and,
accordingly, our Property Operating Results may not be comparable to
similarly entitled measures reported by other companies that do not
define the measure exactly as we do.The following is a reconciliation of net income computed in accordance
with GAAP to Property Operating Results (in thousands): Three Months Ended March 31,2004
    
    2003Net income
    
    $
    18,861
    
    
    $
    15,438Add:General and administrative expense
    
    
    4,484
    
    
    
    3,590Interest expense
    
    
    23,313
    
    
    
    23,035Depreciation and amortization
    
    
    30,276
    
    
    
    28,408Minority interest
    
    
    1,382
    
    
    
    1,438Loss on sale of discontinued properties
    
    
    
    
    
    
    639Less:Interest and other income, net
    
    
    (766
    )
    
    
    (104
    )Gain on sale of discontinued properties
    
    
    (6,429
    )
    
    
    Discontinued operations, net of minority interest
    
    
    (739
    )
    
    
    (2,811
    )Property Operating Results
    
    $
    70,382
    
    
    $
    69,633
  (2)
    
    Consists of non-development properties classified as part of
continuing operations and owned for the entirety of the periods
presented. VARIANCES FOR RESULTS OF OPERATIONS Our Property Operating Results for the three months ended March 31, 2004
compared to the same period in 2003 were primarily affected by our
acquisitions, dispositions and development activities since January 1, 2003. As a result of these changes within our portfolio of properties since
January 1, 2003, we do not believe the Property Operating Results presented
above are comparable from period to period. Therefore, in the table above, we
have also presented the Property Operating Results for our same store
portfolio. Revenue from Rental Operations The increase in revenue from rental operations for the total portfolio was
primarily due to the approximate 101,000 square foot acquisition we made in
December of 2003, consisting of an office property in San Diego County and
revenues from our 6100 Center Drive development property as it reaches
stabilization and from scheduled rent bumps in our existing leases that were
partially offset by the decline in average occupancy. The increase in revenue from rental operations for the same store
portfolio was primarily due to an approximate $1.7 million increase in other
rental operations, a $500,000 increase in parking income and a $300,000
increase in cash rents, all of which were partially offset by a $1.3 million
decrease in tenant reimbursements. The increase in other rental operations was
primarily related to higher lease termination fees in 2004 as well as lower
reserves for tenant receivables as a result of a reduced level of defaults. The
increase in parking income is primarily due to an increase in demand for
monthly parking spaces in 2004 in some of our buildings. The increase in cash
rents was primarily related to scheduled rent increases in existing leases that
were partially offset by the 0.4% decrease in average occupancy for these
properties. The decrease in tenant reimbursements was primarily due to 2002
reconciliation adjustments recognized in the first quarter of 2003 and the 0.4%
decrease in average occupancy in 2004. Property Expenses The increase in property expenses for the total portfolio was partially
due to the property acquired in December 2003 and the stabilization of our 6100
Center Drive development property. The increase in property expenses for the same store portfolio was
primarily due to an approximate $1.2 million increase in repairs and
maintenance, a $900,000 increase in property administrative expense and a
$500,000 increase in real estate taxes, all of which were partially offset by
an approximate $500,000 decrease in utilities expense. Repairs and maintenance
increased primarily due to higher contractual costs for engineering and other
contract services as well as the timing of certain projects. Property
administrative expense increased primarily due to higher personnel costs from
annual merit increases and employee non-recurring separation costs while real
estate taxes increased due to the timing of final reassessments and property
tax refunds received in the first quarter of 2003 for certain properties.
Utilities expense decreased due to lower usage in the first quarter of 2004 due
in part to the decline in average occupancy. 14




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##### Table of Contents



General and Administrative General and administrative expenses as a percentage of total revenues were
approximately 4.2% for the three months ended March 31, 2004 as compared to
approximately 3.4% for the same period in 2003. The $900,000 increase in
general and administrative expenses was primarily related to higher personnel
costs associated with annual merit increases and non-cash compensation expense
associated with restricted stock grants issued in 2004 and 2003 as well as
higher corporate governance costs in 2004. Interest Expense Interest expense increased approximately $300,000, or 1%, during the three
months ended March 31, 2004 as compared to the same period in 2003. This
increase was primarily due to lower capitalized interest in 2004, partially
offset by lower outstanding debt balances in 2004 as a result of paydowns of
our unsecured lines of credit with proceeds from dispositions. Capitalized
interest was lower in 2004 as we stopped capitalizing interest on our 6100
Center Drive development property in May 2003. Depreciation and Amortization Depreciation and amortization expense increased by approximately $1.9
million, or 7%, during the three months ended March 31, 2004 as compared to the
same period in 2003, primarily due to depreciation related to a property
acquired in December 2003 and depreciation related to capital expenditures,
tenant improvements and leasing commissions placed in service subsequent to the
first quarter of 2003. Interest and Other Income, net Beginning January 1, 2004, we reclassified the operating results of
Nextedge, our taxable REIT subsidiary, or TRS, that provides energy consulting
services to commercial real estate owners from general and administrative
expenses into the interest and other income line item to more clearly present
our general and administrative costs as well as the operating results of
Nextedge. We also reclassified the operating results of our TRS in the first
quarter of 2003 to conform to the 2004 presentation. Interest and other income, net increased by approximately $700,000 for the
three months ended March 31, 2004 as compared to the same period in 2003,
primarily due to net income recognized by Nextedge from a consulting and
installation project completed during the first quarter of 2004. LIQUIDITY AND CAPITAL RESOURCES Cash Flows Cash provided by operating activities decreased by approximately $5.6
million to $43.8 million for the three months ended March 31, 2004 as compared
to $49.4 million for the same period in 2003. This decrease was primarily due
to the loss of operating cash flows from ten properties sold since the
beginning of 2003 as part of our capital recycling program, partially offset by
the increased cash flows from a property acquired in the fourth quarter of 2003
and our development property currently being stabilized. Cash provided by investing activities increased by approximately $30.6
million to $43.1 million for the three months ended March 31, 2004 as compared
to $12.5 million for the same period in 2003. This increase was primarily due
to the proceeds from two properties sold in the first quarter of 2004 versus
only one property sold in the first quarter of 2003. Cash used in financing activities increased by approximately $29.4 million
to $79.9 million for the three months ended March 31, 2004 as compared to $50.5
million for the same period in 2003. This increase was primarily due to higher
net repayments in 2004 on our unsecured lines of credit from proceeds generated
from our capital recycling program. Available Borrowings, Cash Balance and Capital Resources Our Operating Partnership has an unsecured line of credit with a total
commitment of $20 million from City National Bank. This line of credit accrues
interest at LIBOR + 1.00% or the City National Bank Prime Rate less 0.875% and
is scheduled to mature on August 1, 2004. Proceeds from this line of credit are
used, among other things, to provide funds for tenant improvements and capital
expenditures and provide for working capital and other corporate purposes. As
of March 31, 2004, there was $10 million outstanding on this line of credit and
$10 million was available for additional borrowings. Our Operating Partnership also has an unsecured line of credit with a
group of banks led by Wells Fargo. This line of credit provides for borrowings
up to $310 million with an option to increase the amount to $350 million and
bears interest at a rate ranging between LIBOR + 0.80% and LIBOR + 1.25%
(including an annual facility fee ranging from 0.15% to 0.40% based on the
aggregate amount of the line of credit) depending on the Operating
Partnerships unsecured debt rating. This line of credit matures in April 2006.
In addition, as long as the Operating Partnership maintains an unsecured debt
rating of BBB-/Baa3 or better, the agreement contains a competitive bid option,
whereby the lenders may bid on the interest rate to be charged for up to $150
million of the unsecured line of credit. The Operating Partnership also has
the option to convert the interest rate on this line of credit to the higher of
Wells Fargos prime rate or the Federal Funds rate plus 0.5%. As of March 31,
2004, $86 million was outstanding on this line of credit and $224 million was
available for additional borrowings. As of March 31, 2004, we had approximately $32.8 million in cash and cash
equivalents, including $21.0 million in restricted cash. Restricted cash
consisted of $13.7 million in interest bearing cash deposits required by five
of our mortgage loans payable and
$7.3 million in cash impound accounts for real estate taxes and insurance as
required by several of our mortgage loans payable. 15




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We entered into $150 million of forward-starting swaps during 2003 to
effectively fix the 10-year Treasury rate at an average rate of approximately
4.1% for borrowings that are anticipated to occur in 2004 to refinance some of
our scheduled debt maturities. The forward-starting interest rate swaps were
entered into at current market rates and, therefore, had no initial cost. In October and November of 2003, we also entered into reverse interest
rate swap agreements to float $100 million of the fixed interest rate
associated with the 7.00% senior unsecured notes due in November of 2007.
Under these reverse swaps, we will receive interest at a fixed rate of 7.00%
and pay interest at a variable rate averaging six-month LIBOR in arrears plus
3.10%. These interest rate swaps mature at the same time the notes are due. We expect to continue meeting our short-term liquidity and capital
requirements generally through net cash provided by
operating activities and proceeds from our unsecured lines of credit. We
believe the foregoing sources of liquidity will be sufficient to fund our
short-term liquidity needs over the next twelve months, including recurring
non-revenue enhancing capital expenditures, tenant improvements and leasing
commissions. We expect to meet our long-term liquidity and capital requirements such as
scheduled principal repayments, development costs, property acquisitions, if
any, and other non-recurring capital expenditures through net cash provided by
operations, refinancing of existing indebtedness and the issuance of long-term
debt and equity securities. Capital Recycling Program On February 4, 2004, we sold an approximate 133,000 square foot retail
property located in Riverside County for a sales price of approximately
$17.0 million. The terms of this sale included an approximate $800,000 guarantee
for the future rent and retenanting costs, if necessary, for certain tenants in
this property. In addition, we recorded a $400,000 environmental reserve
related to the future completion of an environmental review. We recognized this
sale net of the guarantee and environmental reserve and will record any
subsequent amounts recovered over the next twelve months. On March 16, 2004, we sold an approximate 162,000 square foot office
property located in Los Angeles County for a gross sales price of approximately
$52.5 million. The net proceeds from these dispositions were used to reduce the
outstanding balance on our Wells Fargo unsecured line of credit. Debt Summary Following is a summary of scheduled principal payments for our total debt
outstanding as of March 31, 2004 (in thousands): Year
    
    Amount2004
    
    $
    190,110
    (1)2005
    
    
    207,4702006
    
    
    225,859
    (2)2007
    
    
    160,9182008
    
    
    230,9852009
    
    
    112,5502010
    
    
    150,5652011
    
    
    7102012
    
    
    7682013
    
    
    845Thereafter
    
    
    4,602Total
    
    $
    1,285,382
   (1)
    
    Includes the $175 million Mortgage Financing 1 loan which was repaid in
full on April 9, 2004 with proceeds from our unsecured lines of credit.(2)
    
    Includes $86 million outstanding on our Wells Fargo unsecured line of
credit. Following is certain other information related to our outstanding
indebtedness as of March 31, 2004: Unsecured and Secured Debt: Weighted
    
    WeightedAverage
    
    AverageBalance
    
    Percent
    
    Interest Rate(1)
    
    Maturity (in years)(000s)Unsecured Debt
    
    $
    722,005
    
    
    
    56
    %
    
    
    7.00
    %
    
    
    2.9Secured Debt
    
    
    563,377
    
    
    
    44
    
    
    
    7.37
    
    
    
    3.2Total Debt
    
    $
    1,285,382
    
    
    
    100
    %
    
    
    7.16
    %
    
    
    3.1
 16




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##### Table of Contents



Floating and Fixed Rate Debt: Weighted
    
    WeightedAverage
    
    AverageBalance
    
    Percent
    
    Interest Rate(1)
    
    Maturity (in years)(000s)Floating Rate Debt(2)
    
    $
    146,000
    
    
    
    11
    %
    
    
    4.69
    %
    
    
    3.0Fixed Debt(3)
    
    
    1,139,382
    
    
    
    89
    
    
    
    7.48
    
    
    
    3.1Total Debt
    
    $
    1,285,382
    
    
    
    100
    %
    
    
    7.16
    %
    
    
    3.1
   (1)
    
    Includes amortization of prepaid financing costs.(2)
    
    Includes $100 million of fixed rate debt that has been converted to
floating rate through interest rate swap agreements.(3)
    
    Includes $175 million of floating rate debt that has been fixed through
interest rate swap agreements. Total interest incurred and the amount capitalized was as follows (in
thousands): Three Months Ended March 31,2004
    
    2003Total interest incurred
    
    $
    23,469
    
    
    $
    24,270Amount capitalized
    
    
    (156
    )
    
    
    (1,235
    )Amount expensed
    
    $
    23,313
    
    
    $
    23,035
 Consolidated Income Available for Debt Service and Compliance with Principal Financial Covenants Consolidated Income Available for Debt Service is a non-GAAP measurement
of our performance and liquidity. Consolidated Income Available for Debt
Service is presented below because this data is used by investors and our
management as a supplemental measure to (a) evaluate our operating performance
and compare it to other real estate companies, (b) determine trends in
earnings, (c) determine our ability to service debt and (d) determine our
ability to fund future capital expenditure requirements. As discussed more
fully below, Consolidated Income Available for Debt Service is also used in
several financial covenants we are required to satisfy each quarter under the
terms of our principal debt agreements. Consolidated Income Available for Debt Service permits investors and
management to view income from our operations on an unleveraged basis before
the effects of non-cash depreciation and amortization expense. By excluding
interest expense, Consolidated Income Available for Debt Service measures our
operating performance independent of our capital structure and indebtedness
and, therefore, allows for a more meaningful comparison of our operating
performance between quarters as well as annual periods and to compare our
operating performance to that of other companies, and to more readily identify
and evaluate trends in earnings. The usefulness of Consolidated Income Available for Debt Service is
limited because it does not reflect interest expense, taxes, gains or losses on
sales of property, losses on valuations of derivatives, asset impairment
losses, cumulative effect of a change in accounting principle, extraordinary
items as defined by GAAP and depreciation and amortization costs. These costs
have been or may in the future be incurred by us, each of which affects or
could effect our operating performance and ability to finance our investments
at competitive borrowing costs, successfully maintain our REIT status, and
acquire and dispose of real estate properties at favorable prices to us. Some
of these costs also reflect changes in value in our properties that result from
use or changes in market conditions and the level of capital expenditures and
leasing costs necessary to maintain the operating performance of our
properties. Due to the significance of the net income components excluded from
Consolidated Income Available for Debt Service, this measure should not be
considered an alternative to (and should be considered in conjunction with) net
income, cash flow from operations, and other performance or liquidity measures
prescribed by GAAP. This measure should also be analyzed in conjunction with
discussions elsewhere in Managements Discussion and Analysis of Financial
Condition and Results of Operations regarding the items eliminated in the
calculation of Consolidated Income Available for Debt Service. The reader is cautioned that Consolidated Income Available for Debt
Service, as calculated by us, may not be comparable to similar measures
reported by other companies (under names such as or similar to Consolidated
Income Available for Debt Service, EBITDA or adjusted EBITDA) that do not
define this measure exactly the same as we do. 17




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##### Table of Contents



The following is a reconciliation of net cash provided by operating
activities and net income computed in accordance with GAAP to Consolidated
Income Available for Debt Service (in thousands): Three Months EndedMarch 31,2004
    
    2003Net cash provided by operating activities
    
    $
    43,842
    
    
    $
    49,430Add:Interest expense
    
    
    23,313
    
    
    
    23,035Less:Amortization of loan costs and fees
    
    
    (1,079
    )
    
    
    (946
    )Amortization of deferred compensation
    
    
    (746
    )
    
    
    (389
    )Changes in operating assets and liabilities:Rent and other receivables
    
    
    2,057
    
    
    
    642Deferred rent
    
    
    1,637
    
    
    
    118Prepaid financing costs, expenses and other assets
    
    
    533
    
    
    
    1,494Accounts payable and accrued expenses
    
    
    (1,641
    )
    
    
    (3,280
    )Security deposits
    
    
    (271
    )
    
    
    128Consolidated Income Available for Debt Service
    
    $
    67,645
    
    
    $
    70,232
 Three Months EndedMarch 31,2004
    
    2003Net Income
    
    $
    18,861
    
    
    $
    15,438Add:Interest expense
    
    
    23,313
    
    
    
    23,035Depreciation and amortization
    
    
    30,276
    
    
    
    28,408Minority interest
    
    
    1,382
    
    
    
    1,438Minority interest from discontinued operations
    
    
    186
    
    
    
    60Depreciation from discontinued operations
    
    
    56
    
    
    
    1,214Loss on sale of discontinued properties
    
    
    
    
    
    
    639Less:Gain on sale of discontinued properties
    
    
    (6,429
    )
    
    
    Consolidated Income Available for Debt Service
    
    $
    67,645
    
    
    $
    70,232
 Consolidated Income Available for Debt Service is also presented because
it is used in ratios contained in the principal financial covenants of the
Indenture governing our publicly traded senior unsecured notes and our Credit
Agreement with a syndicate of banks led by Wells Fargo. As of March 31, 2004,
our senior unsecured notes represented approximately 39% of our total
outstanding debt and amounts outstanding under our Wells Fargo unsecured line
of credit represented approximately 7% of our total outstanding debt. The
Consolidated Income Available for Debt Service ratios and the other ratios
reported below are part of financial covenants we are required to satisfy each
fiscal quarter. We believe information about these ratios is useful to (1)
confirm that we are in compliance with the financial covenants of our principal
loan agreements, (2) evaluate our ability to service our debt, (3) evaluate our
ability to fund future capital expenditures, and (4) compare our ratios to
other real estate companies, including other REITs, that present the same
ratios. If we were to fail to satisfy these financial covenants, we would be in
default under the terms of the Indenture for the senior unsecured notes and/or
the Wells Fargo Credit Agreement. A default under those agreements could
accelerate the obligation to repay such debt and could cause us to be in
default under our other debt agreements. Depending on the circumstances
surrounding such acceleration, we might not be able to repay the debt on terms
that are favorable to us, or at all, which could have a material adverse affect
on our financial condition and our ability to raise capital in the future. The reader is cautioned that these ratios, as calculated by us, may not be
comparable to similarly entitled ratios reported by other companies that do not
calculate these ratios exactly the same as we do. These ratios should not be
considered as alternatives to the ratio of earnings to fixed charges. 18




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##### Table of Contents



The following table summarizes the principal ratios contained in the
financial covenants of our senior unsecured notes and Wells Fargo unsecured
line of credit as of March 31, 2004 (in thousands, except percentage and
covenant ratio data): Net investment in real estate
    
    $
    2,581,795Cash and cash equivalents
    
    
    11,784Restricted cash
    
    
    21,030Accumulated depreciation and amortization
    
    
    465,799Total Gross Assets
    
    $
    3,080,408Gross Value of Unencumbered Assets
    
    $
    1,734,956Mortgage loans payable(1)
    
    $
    563,377Unsecured lines of credit
    
    
    96,000Unsecured term loan
    
    
    125,000Unsecured senior notes, net of discount
    
    
    501,005Total Outstanding Debt
    
    $
    1,285,382Consolidated Income Available for Debt Service(2)
    
    $
    269,950Interest incurred(2)
    
    $
    95,462Loan fee amortization(2)
    
    
    (3,722
    )Debt Service(2)
    
    $
    91,740
 Covenant Ratios
    
    Test
    
    ActualRatio of Consolidated Income Available for Debt Service to Debt Service
    
    Greater than 1.5
    
    
    2.9Ratio of Consolidated Income Available for Debt Service to interest expense
    
    Greater than 2.0
    
    
    3.0Ratio of Consolidated Income Available for Debt Service to fixed charges(3)
    
    Greater than 1.75
    
    
    2.2Total Outstanding Debt/Total Gross Assets
    
    Less than 60%
    
    
    42
    %Secured Debt/Total Gross Assets
    
    Less than 40%
    
    
    18
    %Gross Value of Unencumbered Assets/Unsecured Debt
    
    Greater than 150%
    
    
    240
    %
   (1)
    
    Represents 10 secured loans that are secured by 71 properties in our
portfolio.(2)
    
    Represents amounts for the most recent four consecutive quarters. Loan
fee amortization excludes discount amortization on senior unsecured notes.(3)
    
    Fixed charges consist of interest costs, whether expensed or
capitalized, principal payments on all debt, an amount equal to $0.3125
per quarter multiplied
by the weighted average gross leaseable square feet of the portfolio at
the end of the period and preferred unit distributions. 19




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##### Table of Contents



Funds from Operations The following table reflects the calculation of our funds from operations
for the three months ended March 31, 2004 and 2003 (in thousands): Three Months Ended March 31,2004
    
    2003Funds From Operations:(1)Net income
    
    $
    18,861
    
    
    $
    15,438Depreciation and minority interest from
discontinued operations
    
    
    242
    
    
    
    1,274(Gain) loss on sale of discontinued properties
    
    
    (6,429
    )
    
    
    639Depreciation and amortization
    
    
    30,276
    
    
    
    28,408Minority interest
    
    
    1,382
    
    
    
    1,438Distribution on Preferred Operating
Partnership Units
    
    
    (1,078
    )
    
    
    (1,078
    )Funds From Operations(2)
    
    $
    43,254
    
    
    $
    46,119Weighted average common shares and Operating
Partnership units outstanding  Diluted
    
    
    66,910
    
    
    
    64,843
   (1)
    
    We believe that funds from operations, or FFO, is a useful
supplemental measure of our operating performance. We compute FFO in
accordance with standards established by the White Paper on FFO
approved by the Board of Governors of the National Association of
Real Estate Investment Trusts, or NAREIT, in April 2002. The White
Paper defines FFO as net income or loss computed in accordance with
generally accepted accounting principles, or GAAP, excluding
extraordinary items, as defined by GAAP, and gains and losses from
sales of depreciable operating property plus real estate-related
depreciation and amortization and after adjustments for
unconsolidated partnerships and joint ventures.We believe that FFO, by excluding depreciation costs, the gains or
losses from the sale of operating real estate properties and the
extraordinary items as defined by GAAP, provides an additional
perspective on our operating results. However, because these excluded
items have a real economic effect, FFO is a limited measure of
performance.FFO captures trends in occupancy rates, rental rates and operating
costs. FFO excludes depreciation and amortization costs and it does not
capture the changes in value in our properties that result from use or
changes in market conditions or the level of capital expenditures and
leasing costs necessary to maintain the operating performance of our
properties, all of which are significant economic costs. Therefore, its
ability to measure performance is limited.Because FFO excludes significant economic components of net income
determined in accordance with GAAP, FFO should be used as an adjunct to
net income and not as an alternative to net income. FFO should also not
be used as an indicator of our financial performance, or as a substitute
for cash flow from operating activities determined in accordance with
GAAP or as a measure of our liquidity. FFO is not by itself indicative
of funds available to fund our cash needs, including our ability to pay
dividends or service our debt.FFO is used by investors to compare our performance with other REITs.
Other REITs may use different methods for calculating FFO and,
accordingly, our FFO may not be comparable to other REITs.(2)
    
    Includes $746,000 and $389,000 in non-cash compensation expense for
the three months ended March 31, 2004 and 2003, respectively. 20




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##### Table of Contents



Portfolio and Lease Information The following tables set forth certain information regarding our
properties as of March 31, 2004. PORTFOLIO SUMMARY
As of March 31, 2004 Property OperatingResults(1)Number of
    
    Number of
    
    Approximate Net
    
    Three Months EndedLocation
    
    Properties
    
    Buildings
    
    Rentable (Sq. Ft.)
    
    March 31, 2004(in thousands andunaudited)Total
    
    % of Total
    
    Total
    
    % of Total
    
    Total
    
    % of Total
    
    Total
    
    % of TotalLos Angeles CountyWest(2)
    
    
    29
    
    
    
    23
    %
    
    
    31
    
    
    
    15
    %
    
    
    4,720,354
    
    
    
    26
    %
    
    $
    26,851
    
    
    
    38
    %North
    
    
    27
    
    
    
    21
    %
    
    
    43
    
    
    
    21
    %
    
    
    3,149,186
    
    
    
    17
    %
    
    
    10,331
    
    
    
    15
    %South
    
    
    16
    
    
    
    13
    %
    
    
    21
    
    
    
    10
    %
    
    
    3,057,925
    
    
    
    17
    %
    
    
    9,504
    
    
    
    13
    %Subtotal
    
    
    72
    
    
    
    57
    %
    
    
    95
    
    
    
    46
    %
    
    
    10,927,465
    
    
    
    60
    %
    
    
    46,686
    
    
    
    66
    %Orange County
    
    
    23
    
    
    
    18
    %
    
    
    56
    
    
    
    27
    %
    
    
    3,676,119
    
    
    
    20
    %
    
    
    11,699
    
    
    
    17
    %San Diego County
    
    
    26
    
    
    
    20
    %
    
    
    41
    
    
    
    19
    %
    
    
    2,958,628
    
    
    
    16
    %
    
    
    9,489
    
    
    
    13
    %Ventura/Kern Counties
    
    
    6
    
    
    
    5
    %
    
    
    17
    
    
    
    8
    %
    
    
    778,363
    
    
    
    4
    %
    
    
    2,508
    
    
    
    4
    %Total
    
    
    127
    (3)
    
    
    100
    %
    
    
    209
    (3)
    
    
    100
    %
    
    
    18,340,575
    (3)
    
    
    100
    %
    
    $
    70,382
    
    
    
    100
    %
   (1)
    
    Excludes the operating results of two properties sold in the first
quarter of 2004 and one property currently classified as held for
disposition. The operating results for these properties are reported
as part of discontinued operations in our quarterly operating
results.(2)
    
    Includes a retail property with approximately 37,000 net rentable
square feet.(3)
    
    Including one development property currently under lease-up, our
total portfolio consists of 128 properties with 210 buildings and
approximately 18.6 million rentable square feet. PORTFOLIO OCCUPANCY AND IN-PLACE RENTS
As of March 31, 2004 Percent
    
    Percent
    
    Annualized Base RentLocation
    
    Occupied
    
    Leased
    
    Per Leased Square Foot(1)Portfolio
    
    Full ServiceTotal
    
    Gross Leases(2)Los Angeles CountyWest
    
    
    91.2
    %(3)
    
    
    94.6
    %(3)
    
    $
    27.84
    
    
    $
    27.85North
    
    
    88.3
    %
    
    
    90.0
    %
    
    
    21.79
    
    
    
    22.73South
    
    
    86.3
    %
    
    
    88.3
    %
    
    
    19.03
    
    
    
    20.11Subtotal
    
    
    89.0
    %
    
    
    91.5
    %
    
    $
    23.75
    
    
    $
    24.51Orange County
    
    
    90.3
    %
    
    
    91.1
    %
    
    
    18.72
    
    
    
    21.78San Diego County
    
    
    83.5
    %
    
    
    89.3
    %
    
    
    19.40
    
    
    
    23.92Ventura/Kern Counties.
    
    
    97.0
    %
    
    
    97.7
    %
    
    
    18.89
    
    
    
    19.36Total/Weighted Average
    
    
    88.7
    %
    
    
    91.4
    %
    
    $
    21.83
    
    
    $
    23.75
   (1)
    
    Based on monthly contractual base rent under existing leases as of
March 31, 2004, multiplied by 12 and divided by leased net rentable
square feet; for those leases where rent has not yet commenced or
which are in a free rent period, the first month in which rent is to
be received is used to determine annualized base rent.(2)
    
    Excludes 33 properties and approximately 3.6 million square feet
under triple net and modified gross leases.(3)
    
    Excludes a 283,000 net rentable square foot development property
under lease-up that is currently 88% leased and 66% occupied as of
April 27, 2004. 21




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##### Table of Contents



TEN LARGEST TENANTS
As of March 31, 2004 Weighted
    
    Percentage of
    
    Percentage ofAverage
    
    Aggregate
    
    AggregateRemaining
    
    Portfolio
    
    Portfolio
    
    
    
    
    
    AnnualizedNumber of
    
    Lease Term
    
    Leased
    
    Annualized
    
    Net Rentable
    
    Base RentTenant
    
    Locations
    
    in Months
    
    Square Feet
    
    Base Rent(1)
    
    Square Feet
    
    (in thousands)State of California
    
    
    22
    
    
    
    47
    
    
    
    2.27
    %
    
    
    2.23
    %
    
    
    381,044
    
    
    $
    8,161Vivendi Universal
    
    
    2
    
    
    
    73
    
    
    
    1.38
    %
    
    
    2.18
    %
    
    
    231,681
    
    
    
    7,980University of Phoenix
    
    
    5
    
    
    
    43
    
    
    
    0.98
    %
    
    
    0.97
    %
    
    
    163,556
    
    
    
    3,546Ceridian Corporation
    
    
    2
    
    
    
    73
    
    
    
    0.91
    %
    
    
    0.96
    %
    
    
    152,071
    
    
    
    3,507Atlantic Richfield
    
    
    1
    
    
    
    30
    
    
    
    0.86
    %
    
    
    0.84
    %
    
    
    143,885
    
    
    
    3,061Haight, Brown & Bonesteel, LLP
    
    
    1
    
    
    
    88
    
    
    
    0.37
    %
    
    
    0.73
    %
    
    
    61,399
    
    
    
    2,689State Compensation Insurance Fund
    
    
    1
    
    
    
    48
    
    
    
    0.68
    %
    
    
    0.72
    %
    
    
    113,513
    
    
    
    2,656Westfield Corporation
    
    
    1
    
    
    
    97
    
    
    
    0.58
    %
    
    
    0.72
    %
    
    
    97,142
    
    
    
    2,626Boeing
    
    
    2
    
    
    
    19
    
    
    
    1.62
    %
    
    
    0.70
    %
    
    
    272,013
    
    
    
    2,565Salomon Smith Barney
    
    
    5
    
    
    
    44
    
    
    
    0.45
    %
    
    
    0.65
    %
    
    
    75,194
    
    
    
    2,368Total/Weighted Average(2)
    
    
    42
    
    
    
    51
    
    
    
    10.10
    %
    
    
    10.70
    %
    
    
    1,691,498
    
    
    $
    39,159
   (1)
    
    Annualized base rent is calculated as monthly contractual base rent
under existing leases as of March 31, 2004 multiplied by 12; for
those leases where rent has not yet commenced or which are in a free
rent period, the first month in which rent is to be received is used
to determine annualized base rent.(2)
    
    The weighted average calculation is based on net rentable square
footage leased by each tenant. LEASING ACTIVITY Three Months EndedMarch 31, 2004Net Absorption (square feet)
    
    
    (270,195
    )Gross New Leasing Activity (square feet)
    
    
    597,230Retention Rate
    
    
    54.4
    %Cash Rent Growth(1):Expiring Rate
    
    $
    23.12New / Renewed Rate
    
    $
    20.51Decrease
    
    
    (11.3
    )%GAAP Rent Growth(2):Expiring Rate
    
    $
    22.29New / Renewed Rate
    
    $
    22.19Decrease
    
    
    (0.4
    )%Weighted Average Lease Term in Months
    
    
    48Tenant Improvements and Commissions (per square foot):New(3)
    
    $
    20.34Renewal
    
    $
    7.85Capital Expenditures (per square foot):Recurring
    
    $
    0.07Non-recurring
    
    $
    0.03
   (1)
    
    Represents the difference between initial market rents on new and
renewed leases as compared to the expiring cash rents on the same
space.(2)
    
    Represents estimated cash rent growth adjusted for straight-line
rents.(3)
    
    Excludes development space. 22




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##### Table of Contents



PORTFOLIO DIVERSIFICATION
As of March 31, 2004 Percentage ofOccupied
    
    TotalNAICS
    
    Square
    
    OccupiedNorth American Industrial Classification System Description
    
    Code
    
    Feet
    
    PortfolioProfessional, Scientific, and Technical Services
    
    
    541
    
    
    
    4,230,166
    
    
    
    26.04
    %Finance and Insurance
    
    
    521-525
    
    
    
    2,638,793
    
    
    
    16.25
    %Information
    
    
    511-519
    
    
    
    1,714,889
    
    
    
    10.56
    %Manufacturing
    
    
    311-339
    
    
    
    1,361,066
    
    
    
    8.38
    %Health Care and Social Assistance
    
    
    621-624
    
    
    
    1,087,379
    
    
    
    6.69
    %Administrative and Support and Waste Management and Remediation Services
    
    
    561-562
    
    
    
    730,177
    
    
    
    4.50
    %Public Administration
    
    
    921-928
    
    
    
    737,833
    
    
    
    4.54
    %Educational Services
    
    
    611
    
    
    
    686,744
    
    
    
    4.23
    %Real Estate, Rental and Leasing
    
    
    531-533
    
    
    
    811,035
    
    
    
    4.99
    %Wholesale Trade
    
    
    423-425
    
    
    
    551,309
    
    
    
    3.39
    %Transportation and Warehousing
    
    
    481-493
    
    
    
    395,776
    
    
    
    2.44
    %Arts, Entertainment, and Recreation
    
    
    711-713
    
    
    
    317,788
    
    
    
    1.96
    %Construction
    
    
    236-238
    
    
    
    284,455
    
    
    
    1.75
    %Accommodation and Food Services
    
    
    721-722
    
    
    
    177,529
    
    
    
    1.09
    %Other Services (except Public Administration)
    
    
    811-814
    
    
    
    262,357
    
    
    
    1.62
    %Retail Trade
    
    
    441-454
    
    
    
    110,943
    
    
    
    0.68
    %Mining
    
    
    211-213
    
    
    
    70,641
    
    
    
    0.43
    %Management of Companies and Enterprises
    
    
    551
    
    
    
    29,741
    
    
    
    0.18
    %Utilities
    
    
    221
    
    
    
    8,975
    
    
    
    0.06
    %Agriculture, Forestry, Fishing and Hunting
    
    
    111-115
    
    
    
    6,065
    
    
    
    0.04
    %Other  Uncategorized
    
    
    
    
    
    
    29,015
    
    
    
    0.18
    %16,242,676
    
    
    
    100
    %
 23




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##### Table of Contents



LEASE EXPIRATIONS - ANNUAL
As of March 31, 2004 2009 and2004
    
    2005
    
    2006
    
    2007
    
    2008
    
    ThereafterLos Angeles County:West
    
    Expiring SF(1)
    
    
    398,141
    
    
    
    674,324
    
    
    
    518,602
    
    
    
    601,133
    
    
    
    511,844
    
    
    
    1,689,767% of Leased SF(2)
    
    
    2.38
    %
    
    
    4.03
    %
    
    
    3.09
    %
    
    
    3.59
    %
    
    
    3.05
    %
    
    
    10.08
    %Rent per SF(3)
    
    $
    28.41
    
    
    $
    28.86
    
    
    $
    28.94
    
    
    $
    28.91
    
    
    $
    30.21
    
    
    $
    32.89North
    
    Expiring SF(1)
    
    
    414,515
    
    
    
    404,441
    
    
    
    428,133
    
    
    
    458,041
    
    
    
    596,062
    
    
    
    504,110% of Leased SF(2)
    
    
    2.47
    %
    
    
    2.41
    %
    
    
    2.56
    %
    
    
    2.73
    %
    
    
    3.56
    %
    
    
    3.01
    %Rent per SF(3)
    
    $
    21.17
    
    
    $
    23.17
    
    
    $
    24.22
    
    
    $
    22.61
    
    
    $
    24.61
    
    
    $
    22.35South
    
    Expiring SF(1)
    
    
    296,285
    
    
    
    743,713
    
    
    
    319,654
    
    
    
    243,098
    
    
    
    408,052
    
    
    
    673,331% of Leased SF(2)
    
    
    1.77
    %
    
    
    4.44
    %
    
    
    1.91
    %
    
    
    1.45
    %
    
    
    2.44
    %
    
    
    4.02
    %Rent per SF(3)
    
    $
    19.16
    
    
    $
    15.79
    
    
    $
    22.48
    
    
    $
    22.93
    
    
    $
    21.78
    
    
    $
    22.10Subtotal 
Los Angeles County
    
    Expiring SF(1)
    
    
    1,108,941
    
    
    
    1,822,478
    
    
    
    1,266,389
    
    
    
    1,302,272
    
    
    
    1,515,958
    
    
    
    2,867,208% of Leased SF(2)
    
    
    6.62
    %
    
    
    10.88
    %
    
    
    7.56
    %
    
    
    7.77
    %
    
    
    9.05
    %
    
    
    17.11
    %Rent per SF(3)
    
    $
    23.23
    
    
    $
    22.26
    
    
    $
    25.71
    
    
    $
    25.58
    
    
    $
    25.74
    
    
    $
    28.51Orange County
    
    Expiring SF(1)
    
    
    453,018
    
    
    
    612,580
    
    
    
    791,568
    
    
    
    563,351
    
    
    
    282,407
    
    
    
    555,855% of Leased SF(2)
    
    
    2.70
    %
    
    
    3.65
    %
    
    
    4.72
    %
    
    
    3.36
    %
    
    
    1.69
    %
    
    
    3.32
    %Rent per SF(3)
    
    $
    16.87
    
    
    $
    20.62
    
    
    $
    20.15
    
    
    $
    18.59
    
    
    $
    20.56
    
    
    $
    23.54San Diego County
    
    Expiring SF(1)
    
    
    284,218
    
    
    
    591,729
    
    
    
    427,391
    
    
    
    235,538
    
    
    
    249,858
    
    
    
    778,475% of Leased SF(2)
    
    
    1.70
    %
    
    
    3.53
    %
    
    
    2.55
    %
    
    
    1.41
    %
    
    
    1.49
    %
    
    
    4.65
    %Rent per SF(3)
    
    $
    20.10
    
    
    $
    19.02
    
    
    $
    23.49
    
    
    $
    22.90
    
    
    $
    25.22
    
    
    $
    23.01All Others
    
    Expiring SF(1)
    
    
    135,188
    
    
    
    166,966
    
    
    
    181,951
    
    
    
    50,642
    
    
    
    74,604
    
    
    
    139,783% of Leased SF(2)
    
    
    0.81
    %
    
    
    1.00
    %
    
    
    1.09
    %
    
    
    0.30
    %
    
    
    0.44
    %
    
    
    0.83
    %Rent per SF(3)
    
    $
    18.66
    
    
    $
    20.10
    
    
    $
    20.58
    
    
    $
    19.77
    
    
    $
    21.48
    
    
    $
    18.58Total Portfolio
    
    Expiring SF(1)
    
    
    1,981,365
    
    
    
    3,193,753
    
    
    
    2,667,299
    
    
    
    2,151,803
    
    
    
    2,122,827
    
    
    
    4,341,321% of Leased SF(2)
    
    
    11.83
    %
    
    
    19.06
    %
    
    
    15.92
    %
    
    
    12.84
    %
    
    
    12.67
    %
    
    
    25.91
    %Rent per SF(3)
    
    $
    21.02
    
    
    $
    21.23
    
    
    $
    23.35
    
    
    $
    23.32
    
    
    $
    24.84
    
    
    $
    26.56
   (1)
    
    Represents the rentable square footage of expiring leases. For
2004, represents expirations from April 1, 2004 through December 31,
2004, not including month-to-month tenants.(2)
    
    Percentage of total rentable square footage expiring during the
period.(3)
    
    Represents annualized ending cash rents of expiring leases. LEASE EXPIRATIONS - NEXT FOUR QUARTERS
As of March 31, 2004 Q2-04
    
    Q3-04
    
    Q4-04
    
    Q1-05Los Angeles County:West
    
    Expiring SF(1)
    
    
    65,338
    
    
    
    162,536
    
    
    
    170,267
    
    
    
    124,650% of Leased SF(2)
    
    
    0.39
    %
    
    
    0.97
    %
    
    
    1.02
    %
    
    
    0.75
    %Rent per SF(3)
    
    $
    26.99
    
    
    $
    27.59
    
    
    $
    29.73
    
    
    $
    28.49North
    
    Expiring SF(1)
    
    
    61,396
    
    
    
    121,169
    
    
    
    231,950
    
    
    
    62,365% of Leased SF(2)
    
    
    0.36
    %
    
    
    0.72
    %
    
    
    1.39
    %
    
    
    0.37
    %Rent per SF(3)
    
    $
    23.74
    
    
    $
    23.22
    
    
    $
    19.43
    
    
    $
    23.22South
    
    Expiring SF(1)
    
    
    91,826
    
    
    
    138,327
    
    
    
    66,132
    
    
    
    109,358% of Leased SF(2)
    
    
    0.55
    %
    
    
    0.83
    %
    
    
    0.39
    %
    
    
    0.65
    %Rent per SF(3)
    
    $
    18.36
    
    
    $
    18.82
    
    
    $
    21.00
    
    
    $
    17.67Subtotal 
Los Angeles County
    
    Expiring SF(1)
    
    
    218,560
    
    
    
    422,032
    
    
    
    468,349
    
    
    
    296,373% of Leased SF(2)
    
    
    1.30
    %
    
    
    2.52
    %
    
    
    2.80
    %
    
    
    1.77
    %Rent per SF(3)
    
    $
    22.45
    
    
    $
    23.46
    
    
    $
    23.39
    
    
    $
    23.39Orange County
    
    Expiring SF(1)
    
    
    100,416
    
    
    
    127,374
    
    
    
    225,228
    
    
    
    148,446% of Leased SF(2)
    
    
    0.60
    %
    
    
    0.76
    %
    
    
    1.34
    %
    
    
    0.89
    %Rent per SF(3)
    
    $
    20.68
    
    
    $
    19.39
    
    
    $
    13.76
    
    
    $
    18.94San Diego County
    
    Expiring SF(1)
    
    
    74,280
    
    
    
    117,518
    
    
    
    92,420
    
    
    
    144,966% of Leased SF(2)
    
    
    0.44
    %
    
    
    0.70
    %
    
    
    0.56
    %
    
    
    0.86
    %Rent per SF(3)
    
    $
    20.99
    
    
    $
    24.37
    
    
    $
    13.94
    
    
    $
    21.90All Others
    
    Expiring SF(1)
    
    
    10,257
    
    
    
    27,275
    
    
    
    97,656
    
    
    
    44,137% of Leased SF(2)
    
    
    0.07
    %
    
    
    0.16
    %
    
    
    0.58
    %
    
    
    0.26
    %Rent per SF(3)
    
    $
    18.20
    
    
    $
    19.33
    
    
    $
    18.53
    
    
    $
    19.67Total Portfolio
    
    Expiring SF(1)
    
    
    403,513
    
    
    
    694,199
    
    
    
    883,653
    
    
    
    633,922% of Leased SF(2)
    
    
    2.41
    %
    
    
    4.14
    %
    
    
    5.28
    %
    
    
    3.78
    %Rent per SF(3)
    
    $
    21.64
    
    
    $
    22.70
    
    
    $
    19.41
    
    
    $
    21.75
   (1)
    
    Represents the square footage of expiring leases, not including
month-to-month tenants.(2)
    
    Percentage of total rentable square footage expiring during the
period.(3)
    
    Represents annualized ending cash rents of expiring leases. 24




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##### Table of Contents



DEVELOPMENT SUMMARY
As of March 31, 2004 EstimatedYear 1StabilizedCosts
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Cash Property
    
    Estimated
    
    EstimatedIncurred
    
    Estimated
    
    Percent
    
    Shell
    
    Estimated
    
    Operating
    
    Year 1
    
    Year 1Square
    
    To Date
    
    Total Cost(1)
    
    Leased at
    
    Completion
    
    Stabilization
    
    Results
    
    Annual
    
    AnnualProperty
    
    Feet
    
    (in thousands)
    
    (in thousands)
    
    4/27/04
    
    Date
    
    Date
    
    (in thousands)
    
    Cash Yield
    
    GAAP Yield(2)Howard Hughes Center:6100 Center Drive
    
    
    283,000
    
    
    $
    77,778
    
    
    $
    81,500
    
    
    
    88
    %
    
    2nd Qtr 2002
    
    2nd Qtr 2004
    
    $
    6,450
    
    
    
    7.9
    %
    
    
    8.9
    %
   (1)
    
    Estimated total cost includes purchase and closing costs, capital
expenditures, tenant improvements, leasing commissions and carrying
costs during development, as well as an allocation of land and master
plan costs. We have entitlements to construct an additional
approximately 475,000 net rentable square feet of office space and
have two parcels entitled for hotel developments for up to 600 hotel
rooms at the Howard Hughes Center.(2)
    
    Estimated Year 1 Annual GAAP Yield includes an adjustment for
straight-line rents. In addition to the property above, we have preliminary architectural
designs completed for additional build-to-suit projects at the Howard Hughes
Center totaling approximately 475,000 net rentable square feet of office space.
We also have construction entitlements at the Howard Hughes Center for up to
600 hotel rooms. Build-to-suit projects consist of properties constructed to
the tenants specifications in return for the tenants long-term commitment to
the property. We do not intend to commence construction on any additional
build-to-suit or multi-tenant projects at the Howard Hughes Center until development plans and
budgets are finalized with terms
allowing us to achieve yields commensurate with the projects development risk. In addition to our development at the Howard Hughes Center, we have
completed preliminary designs and are marketing an approximate 170,000 square
foot build-to-suit office building at our Long Beach Airport Business Park.
Also, as part of our Gateway Towers acquisition in August 2002, we acquired a
5-acre developable land parcel in Torrance, California that we intend to market
for a build-to-suit office building. We currently do not intend to commence
construction on these projects until build-to-suit tenant leases are signed
with terms allowing us to achieve yields commensurate with the projects
development risk. We expect to finance our development activities over the next 24 months
through net cash provided by operating activities, proceeds from asset sales,
proceeds from our unsecured lines of credit or other secured borrowings. 
 Item 3. Quantitative and Qualitative Disclosure about Market Risk Market risk is the exposure or loss resulting from changes in interest
rates, foreign currency exchange rates, commodity prices and equity prices.
The primary market risk to which we are exposed is interest rate risk, which is
sensitive to many factors, including governmental monetary and tax policies,
domestic and international economic and political considerations and other
factors that are beyond our control. Interest Rate Risk In order to modify and manage the interest characteristics of our
outstanding debt and limit the effects of interest rates on our operations, we
use a variety of financial instruments, including interest rate swaps, caps,
floors and other interest rate exchange contracts. The use of these types of
instruments to hedge our exposure to changes in interest rates carries
additional risks such as counter-party credit risk. We do not enter into any
transactions for speculative or trading purposes. During 2002, we entered into
interest rate swap agreements fixing the interest rates on variable debt with
notional amounts totaling $175.0 million. During 2003, we entered into $150
million of forward-starting swap agreements fixing the 10-year Treasury rate
for borrowings that are anticipated to occur in 2004 to refinance some of our
scheduled debt maturities. In October and November of 2003, we also entered
into reverse interest rate swap agreements to float $100 million of the fixed
interest rate associated with the 7.00% senior unsecured notes due in November
2007. Some of our future earnings, cash flows and fair values relating to
financial instruments are dependent upon prevailing market rates of interest,
such as LIBOR. Based on interest rates and outstanding balances as of March
31, 2004, a 1% increase in interest rates on our $146.0 million of floating
rate debt would decrease annual future earnings and cash flows by approximately
$1.5 million and would not have an impact on the fair value of the floating
rate debt. Conversely, a 1% decrease in interest rates on our $146.0 million
of floating rate debt would increase annual future earnings and cash flows by
approximately $1.5 million and would not have an impact on the fair value of
the floating rate debt. The weighted average interest rate on our floating
debt as of March 31, 2004 was 4.69%. Our fixed rate debt totaled $1,139.4 million as of March 31, 2004 with a
weighted average interest rate of 7.48% and a total fair value of approximately
$1,210.7 million. A 1% decrease in interest rates would increase the fair
value of our fixed rate debt by approximately $32.8 million and would not have
an impact on future earnings and cash flows. A 1% increase in interest rates
would decrease the fair value of our fixed rated debt by approximately $31.3
million and would not have an impact on future earnings and cash flows. These amounts are determined by considering the impact of hypothetical
interest rates on our borrowing cost. These analyses do not consider the
effects of the reduced level of overall economic activity that could exist in
that environment. Further, in the event of a change of this magnitude, we
would consider taking actions to further mitigate our exposure to the change.
Due to the uncertainty of the specific actions that would be taken and their
possible effects, however, this sensitivity analysis assumes no changes in our
capital structure. 25




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##### Table of Contents



Item 4. Controls and Procedures We maintain disclosure controls and procedures that are designed to ensure
that information required to be disclosed in our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the SECs rules and forms, and that such information is accumulated and
communicated to our management, including our Chief Executive Officer and our
Chief Financial Officer, as appropriate, to allow timely decisions regarding
required disclosure. In designing and evaluating the disclosure controls and
procedures, our management was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures. Our disclosure
controls and procedures are designed to provide a reasonable level of assurance
of reaching our desired disclosure control objectives. Also, we have an
investment in an unconsolidated entity. Because we do not control or manage
this entity, our disclosure controls and procedures with respect to such entity
is necessarily substantially more limited than those we maintain with respect
to our consolidated subsidiaries. As required by SEC Rule 13a-15(b), we carried out an evaluation, under the
supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures as of the end of
the first quarter of 2004 covered by this report. Based on the foregoing, our
Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures were effective and were operating at the
reasonable assurance level. There has been no change in our internal controls over financial reporting
during our most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, our internal controls over financial
reporting. 26




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##### Table of Contents



Part II OTHER INFORMATION 
 Item 1. Legal Proceedings We are presently subject to various lawsuits, claims and proceedings
arising in the ordinary course of business, none of which if determined
unfavorably to us is expected to have a material adverse effect on our cash
flows, financial condition or results of operations. There were no material
changes in our legal proceedings during the three months ended March 31, 2004. 
 Item 2. Changes in Securities  None 
 Item 3. Defaults Upon Senior Securities  None 
 Item 4. Submission of Matters to a Vote of Security Holders  None 
 Item 5. Other Information  None 
 Item 6. Exhibits and Reports on Form 8-K  (a)
    
    Exhibits 10.46*
    
    Second Amended and Restated Agreement of Limited Partnership of Arden Realty Limited
Partnership, dated September 7, 1999, filed as an exhibit to Arden Realtys quarterly
report on Form 10-Q filed with the Commission on November 15, 1999.10.47*
    
    Admission of New Partners and Amendment to Limited Partnership Agreement entered into
as of the 20th day of December, 2000, by and between Arden Realty Limited
Partnership and the persons identified as the New Partners therein, filed as an
exhibit to Arden Realty Limited Partnerships annual report on Form 10-K filed with
the Commission on March 30, 2001.10.48*
    
    Second Amendment to Limited Partnership Agreement entered into as of September 13,
2003, by Arden Realty Limited Partnership, filed as an exhibit to Arden Realty
Limited Partnerships quarterly report on Form 10-Q filed with the Commission on
November 13, 2003.31.1
    
    Officers certifications pursuant to Rule 13a14(a) or Rule 15d14(a).32.1
    
    Officers certifications pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.(1)
   (*)
    
    Incorporated by reference.(1)
    
    In accordance with SEC Release No. 33-8212, the following
exhibit is being furnished, and is not being filed as part of this
Report or as a separate disclosure document, and is not being
incorporated by reference into any Securities Act of 1933
registration statement.  (b)
    
    Reports on Form 8-K On February 5, 2004, we filed a report on Form 8-K (Item 12) relating to
our financial information for the quarter ended December 31, 2003 as presented
in a press release dated February 4, 2004 attached to the report. 27




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##### Table of Contents



SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. ARDEN REALTY, INC.Date: May 7, 2004
    
    By:
    
    /s/ Andrew J. SobelAndrew J. SobelExecutive Vice President - Strategic Planning
and OperationsDate: May 7, 2004
    
    By:
    
    /s/ Richard S. DavisRichard S. DavisSenior Vice President and
Chief Financial Officer
 28