##### 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 June 30, 2004 Commission file number 1-12193 ARDEN REALTY, INC.  Maryland
(State or other jurisdiction of incorporation or organization)
    
    95-4578533
(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 August 6, 2004 there were 65,508,421 shares of the registrants common
stock, $.01 par value, issued and outstanding.




---



ARDEN REALTY, INC.
FORM 10-Q
TABLE OF CONTENTS PAGE NO.PART I.
    
    FINANCIAL INFORMATIONItem 1.
    
    Financial StatementsConsolidated Balance Sheets as of June 30, 2004 (unaudited) and
December 31, 2003
    
    
    3Consolidated Statements of Income for the three and six months ended
June 30, 2004 and 2003 (unaudited)
    
    
    4Consolidated Statements of Cash Flows for the six months ended
June 30, 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
    
    
    28Item 4.
    
    Controls and Procedures
    
    
    29PART II.
    
    OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    30Item 2.
    
    Changes in Securities
    
    
    30Item 3.
    
    Defaults Upon Senior Securities
    
    
    30Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    30Item 5.
    
    Other Information
    
    
    30Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    30SIGNATURES
    
    
    31Exhibit 31.1Exhibit 32.1




---



##### Table of Contents



Part I. FINANCIAL INFORMATION 
 Item 1. Financial Statements Arden Realty, Inc. 
 Consolidated Balance Sheets
 (in thousands, except share amounts)
 June 30,
    
    December 31,2004
    
    2003(unaudited)AssetsInvestment in real estate:Land
    
    $
    467,325
    
    
    $
    467,216Buildings and improvements
    
    
    2,184,023
    
    
    
    2,122,216Tenant improvements and leasing commissions
    
    
    363,583
    
    
    
    345,6043,014,931
    
    
    
    2,935,036Less: accumulated depreciation and amortization
    
    
    (483,022
    )
    
    
    (455,261
    )2,531,909
    
    
    
    2,479,775Properties under development
    
    
    8,769
    
    
    
    75,627Land available for development
    
    
    23,749
    
    
    
    23,723Properties held for disposition, net
    
    
    8,053
    
    
    
    67,574Net investment in real estate
    
    
    2,572,480
    
    
    
    2,646,699Cash and cash equivalents
    
    
    9,924
    
    
    
    4,707Restricted cash
    
    
    13,655
    
    
    
    19,694Rent and other receivables, net of allowance of $3,310 and $4,041 at
June 30, 2004 and December 31, 2003, respectively
    
    
    5,522
    
    
    
    3,688Deferred rent, net of allowance of $1,782 and $2,216 at
June 30, 2004 and December 31, 2003, respectively
    
    
    43,853
    
    
    
    44,203Prepaid financing costs, expenses and other assets, net of accumulated
amortization of $11,811 and $13,781 at June 30, 2004 and December 31,
2003, respectively
    
    
    22,201
    
    
    
    22,442Total assets
    
    $
    2,667,635
    
    
    $
    2,741,433LiabilitiesMortgage loans payable
    
    $
    386,632
    
    
    $
    564,829Unsecured lines of credit
    
    
    282,000
    
    
    
    161,000Unsecured term loan
    
    
    125,000
    
    
    
    125,000Unsecured senior notes, net of discount
    
    
    497,349
    
    
    
    498,952Accounts payable and accrued expenses
    
    
    48,457
    
    
    
    54,317Security deposits
    
    
    23,089
    
    
    
    22,321Dividends payable
    
    
    33,083
    
    
    
    32,535Total liabilities
    
    
    1,395,610
    
    
    
    1,458,954Minority interest
    
    
    70,933
    
    
    
    72,194Stockholders EquityPreferred stock, $.01 par value, 20,000,000 shares authorized, none issued.
    
    
    
    
    
    
    Common stock, $.01 par value, 100,000,000 shares authorized, 65,508,421 and
64,425,450 issued and outstanding at June 30, 2004 and December 31,
2003, respectively
    
    
    656
    
    
    
    646Additional paid-in capital
    
    
    1,211,082
    
    
    
    1,225,192Deferred compensation
    
    
    (14,448
    )
    
    
    (14,952
    )Accumulated other comprehensive loss
    
    
    3,802
    
    
    
    (601
    )Total stockholders equity
    
    
    1,201,092
    
    
    
    1,210,285Total liabilities and stockholders equity
    
    $
    2,667,635
    
    
    $
    2,741,433
 See accompanying notes to consolidated financial statements. 3




---



##### Table of Contents



Arden Realty, Inc. 
 Consolidated Statements of Income
 (in thousands, except per share data)
 (unaudited)
 Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Property revenues
    
    $
    105,398
    
    
    $
    102,308
    
    
    $
    209,877
    
    
    $
    203,284Property operating expenses
    
    
    34,163
    
    
    
    32,631
    
    
    
    68,260
    
    
    
    63,97471,235
    
    
    
    69,677
    
    
    
    141,617
    
    
    
    139,310General and administrative expenses
    
    
    4,665
    
    
    
    3,981
    
    
    
    9,149
    
    
    
    7,571Interest expense
    
    
    21,184
    
    
    
    23,254
    
    
    
    44,497
    
    
    
    46,289Depreciation and amortization
    
    
    31,936
    
    
    
    29,487
    
    
    
    62,212
    
    
    
    57,895Interest and other loss (income)
    
    
    435
    
    
    
    (149
    )
    
    
    (331
    )
    
    
    (253
    )Income from continuing operations before
impairment on investment in securities and
minority interest
    
    
    13,015
    
    
    
    13,104
    
    
    
    26,090
    
    
    
    27,808Impairment on investment in securities
    
    
    (2,700
    )
    
    
    
    
    
    
    (2,700
    )
    
    
    Minority interest
    
    
    (1,307
    )
    
    
    (1,399
    )
    
    
    (2,689
    )
    
    
    (2,837
    )Income from continuing operations
    
    
    9,008
    
    
    
    11,705
    
    
    
    20,701
    
    
    
    24,971Discontinued operations, net of minority interest.
    
    
    (281
    )
    
    
    1,177
    
    
    
    458
    
    
    
    3,988Gain on sale of discontinued properties
    
    
    400
    
    
    
    6,021
    
    
    
    6,829
    
    
    
    5,382Net income
    
    $
    9,127
    
    
    $
    18,903
    
    
    $
    27,988
    
    
    $
    34,341Basic net income per common share:Income from continuing operations
    
    $
    0.14
    
    
    $
    0.19
    
    
    $
    0.32
    
    
    $
    0.39Income from discontinued operations
    
    
    0.00
    
    
    
    0.11
    
    
    
    0.11
    
    
    
    0.15Net income per common share  basic
    
    $
    0.14
    
    
    $
    0.30
    
    
    $
    0.43
    
    
    $
    0.54Weighted average number of common shares  basic
    
    
    65,464
    
    
    
    63,207
    
    
    
    65,139
    
    
    
    63,124Diluted net income per common share:Income from continuing operations
    
    $
    0.14
    
    
    $
    0.19
    
    
    $
    0.32
    
    
    $
    0.39Income from discontinued operations
    
    
    0.00
    
    
    
    0.11
    
    
    
    0.11
    
    
    
    0.15Net income per common share  diluted
    
    $
    0.14
    
    
    $
    0.30
    
    
    $
    0.43
    
    
    $
    0.54Weighted average number of common shares  diluted
    
    
    65,759
    
    
    
    63,436
    
    
    
    65,496
    
    
    
    63,268
 See accompanying notes to consolidated financial statements. 4




---



##### Table of Contents



Arden Realty, Inc. 
 Consolidated Statements of Cash Flows
 (in thousands)
 (unaudited)
 Six Months EndedJune 30,2004
    
    2003Operating Activities:Net income
    
    $
    27,988
    
    
    $
    34,341Adjustments to reconcile net income to net cash
provided by operating activities:Minority interest, including discontinued operations
    
    
    2,877
    
    
    
    3,087Gain on sale of discontinued properties
    
    
    (6,829
    )
    
    
    (5,382
    )Impairment on investment in securities
    
    
    2,700
    
    
    
    Depreciation and amortization, including discontinued operations
    
    
    62,319
    
    
    
    59,670Amortization of loan costs
    
    
    2,083
    
    
    
    1,924Non-cash compensation expense
    
    
    1,531
    
    
    
    837Changes in operating assets and liabilities:Rent and other receivables
    
    
    (1,834
    )
    
    
    913Deferred rent
    
    
    (1,982
    )
    
    
    89Prepaid financing costs, expenses and other assets
    
    
    (2,205
    )
    
    
    (3,662
    )Accounts payable and accrued expenses
    
    
    (4,989
    )
    
    
    (3,682
    )Security deposits
    
    
    876
    
    
    
    512Net cash provided by operating activities
    
    
    82,535
    
    
    
    88,647Investing Activities:Improvements to commercial properties
    
    
    (47,367
    )
    
    
    (40,729
    )Proceeds from sale of properties
    
    
    68,284
    
    
    
    78,719Net cash provided by investing activities
    
    
    20,917
    
    
    
    37,990Financing Activities:Repayments of mortgage loans
    
    
    (178,197
    )
    
    
    (2,090
    )Proceeds from unsecured lines of credit
    
    
    244,000
    
    
    
    41,500Repayments of unsecured lines of credit
    
    
    (123,000
    )
    
    
    (92,087
    )Proceeds from issuance of common stock
    
    
    22,391
    
    
    
    5,298Distributions to preferred operating partnership unit holders
    
    
    (2,156
    )
    
    
    (2,156
    )Decrease (increase) in restricted cash
    
    
    6,039
    
    
    
    (211
    )Distributions to minority interests
    
    
    (1,697
    )
    
    
    (1,735
    )Dividends paid
    
    
    (65,615
    )
    
    
    (63,654
    )Net cash used in financing activities
    
    
    (98,235
    )
    
    
    (115,135
    )Net increase in cash and cash equivalents
    
    
    5,217
    
    
    
    11,502Cash and cash equivalents at beginning of period
    
    
    4,707
    
    
    
    4,063Cash and cash equivalents at end of period
    
    $
    9,924
    
    
    $
    15,565Supplemental Disclosure of Cash Flow Information:Cash paid during the period for interest, net of amounts capitalized
    
    $
    44,069
    
    
    $
    47,214
 See accompanying notes to consolidated financial statements. 5




---



##### Table of Contents



Arden Realty, Inc. 
 Notes to Consolidated Condensed Financial Statements
 June 30, 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 June 30, 2004, our portfolio
was comprised of 128 primarily suburban office properties, consisting of 210
buildings with approximately 18.8 million net rentable square feet. As of June
30, 2004, our operating portfolio was 89.6% occupied. The minority interests at June 30, 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 we do not have any unconsolidated investments other than a
$2.7 million investment in the securities of a non-publicly traded company (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 We recovered a $400,000 environmental reserve during the second quarter of
2004 relating to the approximate 133,000 square foot retail property located in
Riverside County which was sold in the first quarter of 2004. This amount has
been included in the gain on sale of discontinued properties line item in our
consolidated statements of income. 4. Non-Real Estate Investments During the three months ended June 30, 2004, an impairment of $2.7 million
was recognized in conjunction with our investment in the securities of a
non-publicly traded company that provides distributed energy generation to
commercial property owners. This impairment represents our entire investment in
this company. We recorded this impairment after analyzing information received from this
company over the past several months regarding their current business and
financial strategies which indicated to us that the recoverability of our
investment is doubtful. 6




---



##### Table of Contents



5. Outstanding Indebtedness A summary of our outstanding indebtedness as of June 30, 2004 and December
31, 2003 is as follows: Stated AnnualInterest Rate at
    
    
    
    
    
    Number ofJune 30,
    
    December 31,
    
    June 30,
    
    Rate
    
    PropertiesType of Debt
    
    2004
    
    2003
    
    2004
    
    Fixed/Floating
    
    Securing Loan
    
    Maturity(in thousands)Mortgage Loans Payable:Fixed RateMortgage Financing I(1)
    
    $
    
    
    
    $
    175,000
    
    
    
    
    %
    
    
    
    
    
    
    
    
    
    
    Mortgage Financing III(2)
    
    
    133,624
    
    
    
    134,544
    
    
    
    6.74
    %
    
    Fixed
    
    
    22
    
    
    
    4/08Mortgage Financing IV(2)
    
    
    109,229
    
    
    
    109,960
    
    
    
    6.61
    %
    
    Fixed
    
    
    12
    
    
    
    4/08Mortgage Financing V(2)
    
    
    104,723
    
    
    
    105,899
    
    
    
    6.94
    %
    
    Fixed
    
    
    12
    
    
    
    4/09Mortgage Financing VI(2)
    
    
    21,472
    
    
    
    21,578
    
    
    
    7.54
    %
    
    Fixed
    
    
    3
    
    
    
    4/09Activity Business Center(2)
    
    
    7,317
    
    
    
    7,394
    
    
    
    8.85
    %
    
    Fixed
    
    
    1
    
    
    
    5/06145 South Fairfax(2)
    
    
    3,891
    
    
    
    3,912
    
    
    
    8.93
    %
    
    Fixed
    
    
    1
    
    
    
    1/27Marin Corporate Center(2)
    
    
    2,656
    
    
    
    2,724
    
    
    
    9.00
    %
    
    Fixed
    
    
    1
    
    
    
    7/15Conejo Business Center(2)
    
    
    2,602
    
    
    
    2,669
    
    
    
    8.75
    %
    
    Fixed
    
    (Note 3)
    
    
    7/15Conejo Business Center(2)
    
    
    1,118
    
    
    
    1,149
    
    
    
    7.88
    %
    
    Fixed
    
    (Note 3)
    
    
    7/15386,632
    
    
    
    564,829Unsecured Lines of Credit:Floating RateWells Fargo - $310 mm(4)
    
    
    272,000
    
    
    
    158,000
    
    
    
    2.54
    %
    
    LIBOR + 0.90% (Notes 5,6)
    
    
    
    
    
    
    4/06City National Bank - $20 mm(4)
    
    
    10,000
    
    
    
    3,000
    
    
    
    2.13
    %
    
    (Note 7)
    
    
    
    
    
    
    8/04282,000
    
    
    
    161,000Unsecured Term Loan:Fixed RateWells Fargo - $125 mm(4)
    
    
    125,000
    
    
    
    125,000
    
    
    
    4.14
    %
    
    Fixed (Note 8)
    
    
    
    
    
    
    6/06Unsecured Senior Notes:Fixed Rate2005 Notes(9)
    
    
    199,923
    
    
    
    199,872
    
    
    
    8.88
    %
    
    Fixed
    
    
    
    
    
    
    3/052007 Notes(9)
    
    
    148,190
    
    
    
    149,907
    
    
    
    7.00
    %
    
    (Note 10)
    
    
    
    
    
    
    11/072010 Notes(9)
    
    
    49,765
    
    
    
    49,744
    
    
    
    9.15
    %
    
    Fixed
    
    
    
    
    
    
    3/102010 Notes(9)
    
    
    99,471
    
    
    
    99,429
    
    
    
    8.50
    %
    
    Fixed
    
    
    
    
    
    
    11/10497,349
    
    
    
    498,952Total Debt
    
    $
    1,290,981
    
    
    $
    1,349,781
   (1)
    
    This mortgage financing was repaid in full on April 9, 2004 with proceeds
from recent asset dispositions and funds from our unsecured lines of
credit.(2)
    
    Requires monthly payments of principal and interest.(3)
    
    Both mortgage loans are secured by the Conejo Business Center property.(4)
    
    Requires monthly payments of interest only, with outstanding principal
balance due upon maturity.(5)
    
    This line of credit also has an annual 20 basis point facility fee on the
entire $310 million commitment amount. In June 2004, we amended this line
of credit to reduce the interest rate from LIBOR + 1.00% to LIBOR + 0.90%.(6)
    
    We have entered into interest rate swap agreements that fixed the
interest rate on $50 million of the outstanding balance on this line of
credit at 3.95% 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. In June 2004, we amended
this loan to reduce its effective interest rate by 20 basis points. After
this amendment and after taking into effect the interest rate swap
agreements for this loan, it will have an effective interest rate of
approximately 4.14% for the remainder of 2004, 4.55% in 2005 and 4.70% 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 6.20% as of June 30, 2004. 7




---



##### Table of Contents



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 June 30, 2004 are
classified as cash flow hedges with their fair value of approximately $3.8
million reported in accumulated other comprehensive income 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 $1.3
million reported in both the unsecured senior notes and accounts payable and
accrued expenses 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. On June 14, 2004, we declared a quarterly dividend of $0.505 per share to
stockholders of record on June 30, 2004. For the three months ended June 30,
2003, we declared a quarterly dividend of $0.505 per share. 8




---



##### Table of Contents



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 Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Revenue from Rental Operations:Scheduled cash rents
    
    $
    90,962
    
    
    $
    88,776
    
    
    $
    181,494
    
    
    $
    176,946Straight-line rents
    
    
    448
    
    
    
    114
    
    
    
    1,340
    
    
    
    493Tenant reimbursements
    
    
    4,850
    
    
    
    5,138
    
    
    
    9,603
    
    
    
    11,175Parking, net of expenses
    
    
    6,121
    
    
    
    5,525
    
    
    
    11,821
    
    
    
    10,648Other rental operations
    
    
    3,017
    
    
    
    2,755
    
    
    
    5,619
    
    
    
    4,022$
    105,398
    
    
    $
    102,308
    
    
    $
    209,877
    
    
    $
    203,284Property Expenses:Repairs and maintenance
    
    
    11,529
    
    
    
    10,671
    
    
    
    22,870
    
    
    
    20,709Utilities
    
    
    8,083
    
    
    
    7,934
    
    
    
    15,650
    
    
    
    15,817Real estate taxes
    
    
    7,875
    
    
    
    7,041
    
    
    
    15,896
    
    
    
    14,317Insurance
    
    
    1,994
    
    
    
    2,030
    
    
    
    4,055
    
    
    
    4,104Ground rent
    
    
    207
    
    
    
    322
    
    
    
    332
    
    
    
    364Administrative
    
    
    4,475
    
    
    
    4,633
    
    
    
    9,457
    
    
    
    8,66334,163
    
    
    
    32,631
    
    
    
    68,260
    
    
    
    63,974$
    71,235
    
    
    $
    69,677
    
    
    $
    141,617
    
    
    $
    139,310
 9. Income (Loss) 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, from general and administrative expenses to interest and
other income (loss) in our consolidated statements of income. Nextedge provides
energy consulting services to commercial real estate owners. The following is a
breakdown of the components of interest and other income (loss) for each of the
periods presented (in thousands): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net income (loss) from TRS
    
    $
    (517
    )
    
    $
    (229
    )
    
    $
    121
    
    
    $
    (257
    )Interest and other income
    
    
    82
    
    
    
    378
    
    
    
    210
    
    
    
    510$
    (435
    )
    
    $
    149
    
    
    $
    331
    
    
    $
    253
 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 June 30,
2004 and June 30, 2003, we expensed approximately $8,000 of stock option based
employee compensation costs. 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 Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net income available to common stockholders, as reported
    
    $
    9,127
    
    
    $
    18,903
    
    
    $
    27,988
    
    
    $
    34,341Stock based employee compensation costs for options granted
prior to 2003 assuming fair value method
    
    
    (77
    )
    
    
    (259
    )
    
    
    (154
    )
    
    
    (523
    )Net income available to common stockholders, as adjusted
    
    $
    9,050
    
    
    $
    18,644
    
    
    $
    27,834
    
    
    $
    33,818Earnings per share:Basic as reported
    
    $
    0.14
    
    
    $
    0.30
    
    
    $
    0.43
    
    
    $
    0.54Basic as adjusted
    
    $
    0.14
    
    
    $
    0.30
    
    
    $
    0.43
    
    
    $
    0.54Diluted as reported
    
    $
    0.14
    
    
    $
    0.30
    
    
    $
    0.43
    
    
    $
    0.54Diluted as adjusted
    
    $
    0.14
    
    
    $
    0.29
    
    
    $
    0.42
    
    
    $
    0.53
 9




---



##### Table of Contents



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 Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net income
    
    $
    9,127
    
    
    $
    18,903
    
    
    $
    27,988
    
    
    $
    34,341Other comprehensive income (loss):Unrealized derivative gain (loss) on cash flow hedges
    
    
    12,451
    
    
    
    (1,812
    )
    
    
    4,403
    
    
    
    (2,909
    )Comprehensive income
    
    $
    21,578
    
    
    $
    17,091
    
    
    $
    32,391
    
    
    $
    31,432
 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 June 30, 2004. 10




---



##### 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 13 to 34
years and who collectively have an average of 19 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 June 30, 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 18.8 million net rentable square
feet. As of June 30, 2004 and December 31, 2003, our operating portfolio was
89.6% and 90.4% 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 renovate existing or new properties or 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. Impact of 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. 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 likely, however, that if national and regional
economic conditions deteriorate they would directly affect 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 June 30, 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 our financial condition, revenues or expenses,
results of operations, liquidity, capital expenditures or capital resources. 11




---



##### 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 June 30, 2004 to the three months ended
June 30, 2003
(in thousands, except number of properties and percentages): Three Months EndedJune 30,
    
    
    
    
    
    Percent2004
    
    2003
    
    Change
    
    ChangeTotal Portfolio:Revenue from rental operations:Scheduled cash rents
    
    $
    90,962
    
    
    $
    88,776
    
    
    $
    2,186
    
    
    
    3
    %Straight-line rents
    
    
    448
    
    
    
    114
    
    
    
    334
    
    
    
    293Tenant reimbursements
    
    
    4,850
    
    
    
    5,138
    
    
    
    (288
    )
    
    
    (6
    )Parking, net of expense
    
    
    6,121
    
    
    
    5,525
    
    
    
    596
    
    
    
    11Other rental operations
    
    
    3,017
    
    
    
    2,755
    
    
    
    262
    
    
    
    10Total revenue from rental operations
    
    
    105,398
    
    
    
    102,308
    
    
    
    3,090
    
    
    
    3Property expenses:Repairs and maintenance
    
    
    11,529
    
    
    
    10,671
    
    
    
    858
    
    
    
    8Utilities
    
    
    8,083
    
    
    
    7,934
    
    
    
    149
    
    
    
    2Real estate taxes
    
    
    7,875
    
    
    
    7,041
    
    
    
    834
    
    
    
    12Insurance
    
    
    1,994
    
    
    
    2,030
    
    
    
    (36
    )
    
    
    (2
    )Ground rent
    
    
    207
    
    
    
    322
    
    
    
    (115
    )
    
    
    (36
    )Administrative
    
    
    4,475
    
    
    
    4,633
    
    
    
    (158
    )
    
    
    (3
    )Total property expenses
    
    
    34,163
    
    
    
    32,631
    
    
    
    1,532
    
    
    
    5Property Operating Results (1)
    
    
    71,235
    
    
    
    69,677
    
    
    
    1,558
    
    
    
    2General and administrative
    
    
    4,665
    
    
    
    3,981
    
    
    
    684
    
    
    
    17Interest expense
    
    
    21,184
    
    
    
    23,254
    
    
    
    (2,070
    )
    
    
    (9
    )Depreciation and amortization
    
    
    31,936
    
    
    
    29,487
    
    
    
    2,449
    
    
    
    8Interest and other loss (income)
    
    
    435
    
    
    
    (149
    )
    
    
    584
    
    
    
    392Income from continuing operations before
impairment on investment in securities and
minority interest
    
    $
    13,015
    
    
    $
    13,104
    
    
    $
    (89
    )
    
    
    (1
    )%Discontinued operations, net of minority interest
    
    $
    (281
    )
    
    $
    1,177
    
    
    $
    (1,458
    )
    
    
    (124
    )%Number of Properties:Disposed of during period
    
    
    
    
    
    
    (5
    )Completed and placed in service during period
    
    
    1
    
    
    
    In service at end of period
    
    
    128
    
    
    
    130Net Rentable Square Feet:Disposed of during period
    
    
    
    
    
    
    (376
    )Completed and placed in service during period
    
    
    283
    
    
    
    In service at end of period
    
    
    18,785
    
    
    
    18,617Same Property Portfolio(2):Revenue from rental operations
    
    $
    103,167
    
    
    $
    102,189
    
    
    $
    978
    
    
    
    1
    %Property expenses
    
    
    33,296
    
    
    
    32,426
    
    
    
    870
    
    
    
    3$
    69,871
    
    
    $
    69,763
    
    
    $
    108
    
    
    
    
    %Straight-line rents
    
    $
    65
    
    
    $
    118
    
    
    $
    (53
    )
    
    
    (45
    )%Number of non-development properties
    
    
    126Number of buildings
    
    
    207Average occupancy
    
    
    89.1
    %
    
    
    88.9
    %Net rentable square feet
    
    
    18,299
   (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 12




---



##### Table of Contents



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.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 June 30,2004
    
    2003Net income
    
    $
    9,127
    
    
    $
    18,903Add:General and administrative expense
    
    
    4,665
    
    
    
    3,981Interest expense
    
    
    21,184
    
    
    
    23,254Depreciation and amortization
    
    
    31,936
    
    
    
    29,487Minority interest
    
    
    1,307
    
    
    
    1,399Interest and other loss
    
    
    435
    
    
    
    Discontinued operations, net of minority interest
    
    
    281
    
    
    
    Impairment on investment in securities
    
    
    2,700
    
    
    
    Less:Interest and other income
    
    
    
    
    
    
    (149
    )Gain on sale of discontinued properties
    
    
    (400
    )
    
    
    (6,021
    )Discontinued operations, net of minority interest
    
    
    
    
    
    
    (1,177
    )Property Operating Results
    
    $
    71,235
    
    
    $
    69,677
  (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 June 30, 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 2003 consisting of an office property in San Diego County and revenues
from our 6100 Center Drive development property in Los Angeles County which was
placed in service during the second quarter of 2004 and from scheduled rent
increases in our existing leases. The increase in revenue from rental operations for the same property
portfolio was primarily due to an approximate $600,000 increase in cash rents,
an approximate $450,000 increase in parking income and an approximate $350,000
increase in other rental operations, all of which were partially offset by an
approximate $400,000 decrease in tenant reimbursements. The increase in cash
rents was primarily related to scheduled rent increases in existing leases and
by the 0.2% increase in average occupancy for these properties. The increase in
parking income is primarily due to higher average occupancy in 2004 and special
event parking in 2004 in some of our buildings. The increase in other rental
operations was primarily related to higher lease termination fees and higher
after-hour utility recoveries in 2004. The decrease in tenant reimbursements
was primarily due to higher prior year reimbursement reconciliation billings in
2003. Property Expenses The increase in property expenses for the total portfolio was partially
due to the property acquired in December 2003 and the placement in service of
our 6100 Center Drive property in the second quarter of 2004. The increase in property expenses for the same property portfolio was
primarily due to an approximate $600,000 increase in repairs and maintenance
and an approximate $600,000 increase in real estate taxes, all of which were
partially offset by an approximate $200,000 decrease in property administrative
expense and an approximate $100,000 decrease in ground rent expense. Repairs
and maintenance increased primarily due to higher costs for contracted services
and the timing of certain projects. Real estate taxes increased 13




---



##### Table of Contents



primarily due
to refunds received on final reassessments in 2003 for certain properties.
Property administrative expenses primarily decreased due to start-up costs
associated with employee training programs implemented in 2003 and lower legal
expenses relating to unlawful detainers and tenant rent disputes in 2004.
Ground rent expense decreased primarily due to higher contingent ground rent
recorded in 2003 relating to one of our properties. General and Administrative General and administrative expenses as a percentage of total revenues were
approximately 4.4% for the three months ended June 30, 2004 compared to
approximately 3.8% for the same period in 2003. The approximate $700,000
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 decreased approximately $2.1 million, or 9%, for the
three months ended June 30, 2004 compared to the same period in 2003. This
decrease was primarily due to the paydown in the second quarter of 2004 of a
$175 million, 7.52% mortgage financing loan with disposition proceeds and funds
from our unsecured line of credit and the fixed to floating swaps entered into
on our unsecured senior notes in 2003, all of which were partially offset by
lower capitalized interest in 2004. Capitalized interest was lower in 2004 as
we stopped capitalizing interest on our 6100 Center Drive property in May 2003. Depreciation and Amortization Depreciation and amortization expense increased by approximately $2.4
million, or 8%, for the three months ended June 30, 2004 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 (Loss) 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 (loss) 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
second quarter of 2003 to conform to the 2004 presentation. Interest and other income (loss) decreased by approximately $600,000 for
the three months ended June 30, 2004 compared to the same period in 2003,
primarily due to operating losses from Nextedge. 14




---



##### Table of Contents



Comparison of the six months ended June 30, 2004 to the six months ended June 30, 2003
(in thousands, except number of properties and percentages): Six Months EndedJune 30,
    
    
    
    
    
    Percent2004
    
    2003
    
    Change
    
    ChangeTotal Portfolio:Revenue from rental operations:Scheduled cash rents
    
    $
    181,494
    
    
    $
    176,946
    
    
    $
    4,548
    
    
    
    3
    %Straight-line rents
    
    
    1,340
    
    
    
    493
    
    
    
    847
    
    
    
    172Tenant reimbursements
    
    
    9,603
    
    
    
    11,175
    
    
    
    (1,572
    )
    
    
    (14
    )Parking, net of expense
    
    
    11,821
    
    
    
    10,648
    
    
    
    1,173
    
    
    
    11Other rental operations
    
    
    5,619
    
    
    
    4,022
    
    
    
    1,597
    
    
    
    40Total revenue from rental operations
    
    
    209,877
    
    
    
    203,284
    
    
    
    6,593
    
    
    
    3Property expenses:Repairs and maintenance
    
    
    22,870
    
    
    
    20,709
    
    
    
    2,161
    
    
    
    10Utilities
    
    
    15,650
    
    
    
    15,817
    
    
    
    (167
    )
    
    
    (1
    )Real estate taxes
    
    
    15,896
    
    
    
    14,317
    
    
    
    1,579
    
    
    
    11Insurance
    
    
    4,055
    
    
    
    4,104
    
    
    
    (49
    )
    
    
    (1
    )Ground rent
    
    
    332
    
    
    
    364
    
    
    
    (32
    )
    
    
    (9
    )Administrative
    
    
    9,457
    
    
    
    8,663
    
    
    
    794
    
    
    
    9Total property expenses
    
    
    68,260
    
    
    
    63,974
    
    
    
    4,286
    
    
    
    7Property Operating Results (1)
    
    
    141,617
    
    
    
    139,310
    
    
    
    2,307
    
    
    
    2General and administrative
    
    
    9,149
    
    
    
    7,571
    
    
    
    1,578
    
    
    
    21Interest expense
    
    
    44,497
    
    
    
    46,289
    
    
    
    (1,792
    )
    
    
    (4
    )Depreciation and amortization
    
    
    62,212
    
    
    
    57,895
    
    
    
    4,317
    
    
    
    7Interest and other income
    
    
    (331
    )
    
    
    (253
    )
    
    
    (78
    )
    
    
    31Income from continuing operations before
impairment on investment in securities and
minority interest
    
    $
    26,090
    
    
    $
    27,808
    
    
    $
    (1,718
    )
    
    
    (6
    )%Discontinued operations, net of minority interest
    
    $
    458
    
    
    $
    3,988
    
    
    $
    (3,530
    )
    
    
    (89
    )%Number of Properties:Disposed of during period
    
    
    (2
    )
    
    
    (6
    )Completed and placed in service during period
    
    
    1
    
    
    
    In service at end of period
    
    
    128
    
    
    
    130Net Rentable Square Feet:Disposed of during period
    
    
    (295
    )
    
    
    (515
    )Completed and placed in service during period
    
    
    283
    
    
    
    In service at end of period
    
    
    18,785
    
    
    
    18,617Same Property Portfolio(2):Revenue from rental operations
    
    $
    205,230
    
    
    $
    202,836
    
    
    $
    2,394
    
    
    
    1
    %Property expenses
    
    
    66,525
    
    
    
    63,587
    
    
    
    2,938
    
    
    
    5$
    138,705
    
    
    $
    139,249
    
    
    $
    (544
    )
    
    
    
    %Straight-line rents
    
    $
    447
    
    
    $
    477
    
    
    $
    (30
    )
    
    
    (6
    )%Number of non-development properties
    
    
    126Number of buildings
    
    
    207Average occupancy
    
    
    89.6
    %
    
    
    89.2
    %Net rentable square feet
    
    
    18,299
   (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.Property Operating Results captures trends in occupancy rates, rental
rates and operating costs. However, Property Operating Results
excludes 15




---



##### Table of Contents



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): Six Months Ended June 30,2004
    
    2003Net income
    
    $
    27,988
    
    
    $
    34,341Add:General and administrative expense
    
    
    9,149
    
    
    
    7,571Interest expense
    
    
    44,497
    
    
    
    46,289Depreciation and amortization
    
    
    62,212
    
    
    
    57,895Minority interest
    
    
    2,689
    
    
    
    2,837Impairment on investment in securities
    
    
    2,700
    
    
    
    Less:Interest and other income
    
    
    (331
    )
    
    
    (253
    )Gain on sale of discontinued properties
    
    
    (6,829
    )
    
    
    (5,382
    )Discontinued operations, net of minority interest
    
    
    (458
    )
    
    
    (3,988
    )Property Operating Results
    
    $
    141,617
    
    
    $
    139,310
  (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 six months ended June 30, 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 property
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 2003 of an office property in San Diego County and revenues from our
6100 Center Drive development property which was placed in service during the
second quarter of 2004 and from scheduled rent increases in our existing leases
that were partially offset by the decline in average occupancy. The increase in revenue from rental operations for the same property
portfolio was primarily due to an approximate $2.0 million increase in other
rental operations, a $1.1 million increase in cash rents and an approximate
$900,000 increase in parking income, all of which were partially offset by an
approximate $1.7 million decrease in tenant reimbursements. The increase in
other rental operations was primarily related to higher lease termination fees
in 2004 and lower reserves for tenant receivables. The increase in parking
income is primarily due to higher average occupancy in 2004 and special event
parking in 2004 in some of our buildings. The increase in cash rents was
primarily related to scheduled rent increases in existing leases and by the
0.4% increase in average occupancy for these properties. The decrease in tenant
reimbursements was primarily due to higher prior year reimbursement
reconciliation billings in 2003. Property Expenses The increase in property expenses for the total portfolio was partially
due to the property acquired in December 2003 and placing our 6100 Center Drive
property in service in the second quarter of 2004. The increase in property expenses for the same property portfolio was
primarily due to an approximate $1.8 million increase in repairs and
maintenance, and an approximate $1.1 million increase in real estate taxes and
an approximate $650,000 increase in property administrative expenses, all of
which were partially offset by an approximate $500,000 decrease in utility
expenses. Repairs and maintenance increased primarily due to higher costs for
contracted services and the timing of certain projects. Real estate taxes
increased primarily due to the timing of final reassessments and property tax
refunds received in 2003 for certain properties. Property administrative
expenses increased due to higher personnel costs from annual merit increases
and other non-recurring separation costs, partially offset by start-up costs
associated with employee training programs implemented in 2003 and lower legal
expenses relating to unlawful detainers and tenant rent disputes in 2004.
Utility expenses decreased primarily due to lower usage in the first quarter of
2004 due primarily to the temporary decline in average occupancy in the first
quarter of 2004. 16




---



##### Table of Contents



General and Administrative General and administrative expenses as a percentage of total revenues were
approximately 4.3% for the six months ended June 30, 2004 compared to
approximately 3.6% for the same period in 2003. The approximate $1.6 million
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 and higher corporate governance costs in 2004. Interest Expense Interest expense decreased approximately $1.8 million, or 4%, for the six
months ended June 30, 2004 compared to the same period in 2003. This decrease
was primarily due to the paydown in the second quarter of 2004 of a $175
million, 7.52% mortgage financing loan with proceeds from our first quarter
2004 dispositions and funds from our unsecured line of credit in 2004 and the
fixed to floating swaps entered into on our unsecured senior notes in 2003, all
of which were partially offset by lower capitalized interest in 2004.
Capitalized interest was lower in 2004 as we stopped capitalizing interest on
our 6100 Center Drive property in May 2003. Depreciation and Amortization Depreciation and amortization expense increased by approximately $4.3
million, or 7%, for the six months ended June 30, 2004 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 second
quarter of 2003. LIQUIDITY AND CAPITAL RESOURCES Cash Flows Cash provided by operating activities decreased by approximately $6.1
million to $82.5 million for the six months ended June 30, 2004 compared to
$88.6 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 6100 Center Drive development property, which was placed in service during
the second quarter of 2004. Cash provided by investing activities decreased by approximately $17.1
million to $20.9 million for the six months ended June 30, 2004 compared to
$38.0 million for the same period in 2003. This decrease was primarily due to
fewer asset sales and lower disposition proceeds in 2004. Cash used in financing activities decreased by approximately $16.9 million
to $98.2 million for the six months ended June 30, 2004 compared to $115.1
million for the same period in 2003. This change was primarily due to higher
proceeds from issuances of common stock in 2004. 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 in August 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 June 30, 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. In June 2004, this line of credit was
amended to reduce the interest rates by approximately 10 to 15 basis points
depending on our secured debt rating and revise certain covenants. As a result
of this amendment, 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 + 0.65% and LIBOR + 1.15% (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 June 30, 2004,
$272 million was outstanding on this line of credit and $38 million was
available for additional borrowings. As of June 30, 2004, we had approximately $23.6 million in cash and cash
equivalents, including $13.7 million in restricted cash. Restricted cash
consisted of $9.7 million in interest bearing cash deposits required by four of
our mortgage loans payable and $4.0 million in cash impound accounts for real
estate taxes and insurance as required by several of our mortgage loans
payable. 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 17




---



##### Table of Contents



swaps mature at the same time the notes are due. In June 2004, we amended our $125 million unsecured term loan with Wells
Fargo to reduce its effective interest rate by 20 basis points. This loan was
scheduled to increase from LIBOR + 1.25% to LIBOR + 1.45% in June 2004. In
2002, we entered into interest rate swap agreements that fixed the interest
rate on the entire balance of this loan. As a result of the amendment and
taking into effect the interest rate swap agreements for this loan, it will
have an effective interest rate of approximately 4.14% for the remainder of
2004, 4.55% in 2005 and 4.70% in 2006. 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 No properties were disposed of during the three months ended June 30,
2004. Debt Summary Following is a summary of scheduled principal payments for our total debt
outstanding as of June 30, 2004 (in thousands): Year
    
    Amount2004
    
    $
    13,4612005
    
    
    207,4702006
    
    
    411,859
    (1)2007
    
    
    157,1662008
    
    
    230,9852009
    
    
    112,5502010
    
    
    150,5652011
    
    
    7102012
    
    
    7682013
    
    
    845Thereafter
    
    
    4,602Total
    
    $
    1,290,981
   (1)
    
    Includes $272 million outstanding on our Wells Fargo unsecured line of
credit. 18




---



##### Table of Contents



Following is certain other information related to our outstanding
indebtedness as of June 30, 2004: Unsecured and Secured Debt: Weighted
    
    WeightedAverage
    
    AverageBalance
    
    Percent
    
    Interest Rate (1)
    
    Maturity (in years)(000s)Unsecured Debt
    
    $
    904,349
    
    
    
    70
    %
    
    
    6.09
    %
    
    
    2.5Secured Debt
    
    
    386,632
    
    
    
    30
    
    
    
    7.15
    
    
    
    4.4Total Debt
    
    $
    1,290,981
    
    
    
    100
    %
    
    
    6.40
    %
    
    
    3.1
 Floating and Fixed Rate Debt: Weighted
    
    WeightedAverage
    
    AverageBalance
    
    Percent
    
    Interest Rate (1)
    
    Maturity (in years)(000s)Floating Rate Debt(2)
    
    $
    332,000
    
    
    
    26
    %
    
    
    3.72
    %
    
    
    2.2Fixed Debt(3)
    
    
    958,981
    
    
    
    74
    
    
    
    7.33
    
    
    
    3.4Total Debt
    
    $
    1,290,981
    
    
    
    100
    %
    
    
    6.40
    %
    
    
    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 June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Total interest incurred
    
    $
    21,382
    
    
    $
    24,169
    
    
    $
    44,851
    
    
    $
    48,439Amount capitalized
    
    
    (198
    )
    
    
    (915
    )
    
    
    (354
    )
    
    
    (2,150
    )Amount expensed
    
    $
    21,184
    
    
    $
    23,254
    
    
    $
    44,497
    
    
    $
    46,289
 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. 19




---



##### Table of Contents



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. 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 Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net cash provided by operating activities
    
    $
    38,693
    
    
    $
    39,217
    
    
    $
    82,535
    
    
    $
    88,647Add:Interest expense
    
    
    21,184
    
    
    
    23,254
    
    
    
    44,497
    
    
    
    46,289Less:Amortization of loan costs and fees
    
    
    (1,004
    )
    
    
    (978
    )
    
    
    (2,083
    )
    
    
    (1,924
    )Amortization of deferred compensation
    
    
    (785
    )
    
    
    (448
    )
    
    
    (1,531
    )
    
    
    (837
    )Changes in operating assets and liabilities:Rent and other receivables
    
    
    (223
    )
    
    
    (1,555
    )
    
    
    1,834
    
    
    
    (913
    )Deferred rent
    
    
    345
    
    
    
    (207
    )
    
    
    1,982
    
    
    
    (89
    )Prepaid financing costs, expenses and other assets
    
    
    1,672
    
    
    
    2,168
    
    
    
    2,205
    
    
    
    3,662Accounts payable and accrued expenses
    
    
    6,630
    
    
    
    6,962
    
    
    
    4,989
    
    
    
    3,682Security deposits
    
    
    (605
    )
    
    
    (640
    )
    
    
    (876
    )
    
    
    (512
    )Consolidated Income Available for Debt Service
    
    $
    65,907
    
    
    $
    67,773
    
    
    $
    133,552
    
    
    $
    138,005
 Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net Income
    
    $
    9,127
    
    
    $
    18,903
    
    
    $
    27,988
    
    
    $
    34,341Add:Interest expense
    
    
    21,184
    
    
    
    23,254
    
    
    
    44,497
    
    
    
    46,289Depreciation and amortization
    
    
    31,936
    
    
    
    29,487
    
    
    
    62,212
    
    
    
    57,895Minority interest
    
    
    1,307
    
    
    
    1,399
    
    
    
    2,689
    
    
    
    2,837Minority interest from discontinued operations
    
    
    2
    
    
    
    190
    
    
    
    188
    
    
    
    250Depreciation from discontinued operations
    
    
    51
    
    
    
    561
    
    
    
    107
    
    
    
    1,775Impairment on investment in securities
    
    
    2,700
    
    
    
    
    
    
    
    2,700
    
    
    
    Less:Gain on sale of discontinued properties
    
    
    (400
    )
    
    
    (6,021
    )
    
    
    (6,829
    )
    
    
    (5,382
    )Consolidated Income Available for Debt Service
    
    $
    65,907
    
    
    $
    67,773
    
    
    $
    133,552
    
    
    $
    138,005
 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 June 30, 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 21% 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. 20




---



##### Table of Contents



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. 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 June 30, 2004 (in thousands, except percentage and
covenant ratio data): Net investment in real estate
    
    $
    2,572,480Cash and cash equivalents
    
    
    9,924Restricted cash
    
    
    13,655Accumulated depreciation and amortization
    
    
    483,022Total Gross Assets
    
    $
    3,079,081Gross Value of Unencumbered Assets
    
    $
    2,107,737Mortgage loans payable(1)
    
    $
    386,632Unsecured lines of credit
    
    
    282,000Unsecured term loan
    
    
    125,000Unsecured senior notes, net of discount
    
    
    497,349Total Outstanding Debt
    
    $
    1,290,981Consolidated Income Available for Debt Service(2)
    
    $
    268,084Interest incurred(2)
    
    $
    92,675Loan fee amortization(2)
    
    
    (3,747
    )Debt Service(2)
    
    $
    88,928
 Covenant Ratios
    
    Test
    
    ActualRatio of Consolidated Income Available for Debt Service to Debt
Service
    
    Greater than 1.5
    
    
    3.0Ratio of Consolidated Income Available for Debt Service to interest
expense(3)
    
    Greater than 2.0
    
    
    3.2Ratio of Consolidated Income Available for Debt Service to fixed
charges (4)
    
    Greater than 1.75
    
    
    2.3Total Outstanding Debt/Total Gross Assets
    
    Less than 60%
    
    
    42
    %Secured Debt/Total Gross Assets
    
    Less than 40%
    
    
    13
    %Gross Value of Unencumbered Assets/Unsecured Debt
    
    Greater than 150%
    
    
    233
    %
   (1)
    
    Represents 9 secured loans that are secured by 53 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)
    
    Interest expense consists of interest expense plus capitalized interest
and less amortization of loan fees and discounts.(4)
    
    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. 21




---



##### Table of Contents



Funds from Operations The following table reflects the calculation of our funds from operations
for the three and six months ended June 30, 2004 and 2003 (in thousands): Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003Funds From Operations:(1)Net income
    
    $
    9,127
    
    
    $
    18,903
    
    
    $
    27,988
    
    
    $
    34,341Depreciation and minority interest from
discontinued operations
    
    
    53
    
    
    
    751
    
    
    
    295
    
    
    
    2,025Gain on sale of discontinued properties
    
    
    (400
    )
    
    
    (6,021
    )
    
    
    (6,829
    )
    
    
    (5,382
    )Depreciation and amortization
    
    
    31,936
    
    
    
    29,487
    
    
    
    62,212
    
    
    
    57,895Minority interest
    
    
    1,307
    
    
    
    1,399
    
    
    
    2,689
    
    
    
    2,837Distribution on Preferred Operating
Partnership Units
    
    
    (1,078
    )
    
    
    (1,078
    )
    
    
    (2,156
    )
    
    
    (2,156
    )Funds From Operations(2).
    
    $
    40,945
    
    
    $
    43,441
    
    
    $
    84,199
    
    
    $
    89,560Weighted average common shares and
Operating Partnership units outstanding 
Diluted
    
    
    67,430
    
    
    
    65,132
    
    
    
    67,173
    
    
    
    64,976
   (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 $785,000 and $448,000 in non-cash compensation expense for
the three months ended June 30, 2004 and 2003, respectively, and
approximately $1.5 million and $837,000 in non-cash compensation
expense for the six months ended June 30, 2004 and 2003,
respectively. 22




---



##### Table of Contents



Portfolio and Lease Information The following tables set forth certain information regarding our
properties as of June 30, 2004. PORTFOLIO SUMMARY  Property Operating Results(1)Three Months Ended
    
    Six Months EndedJune 30, 2004
    
    June 30, 2004Number of
    
    Number of
    
    Approximate Net
    
    (in thousands and
    
    (in thousands andProperties
    
    Buildings
    
    Rentable (Sq. Ft.)
    
    unaudited)
    
    unaudited)Location
    
    Total
    
    % of Total
    
    Total
    
    % of Total
    
    Total
    
    % of Total
    
    Total
    
    % of Total
    
    Total
    
    % of TotalLos Angeles CountyWest(2)
    
    
    30
    
    
    
    23
    %
    
    
    32
    
    
    
    15
    %
    
    
    5,051,880
    
    
    
    27
    %
    
    $
    26,313
    
    
    
    37
    %
    
    $
    53,164
    
    
    
    37
    %North
    
    
    27
    
    
    
    21
    %
    
    
    43
    
    
    
    21
    %
    
    
    3,172,622
    
    
    
    17
    %
    
    
    10,929
    
    
    
    15
    %
    
    
    21,260
    
    
    
    15
    %South
    
    
    16
    
    
    
    13
    %
    
    
    21
    
    
    
    10
    %
    
    
    3,085,689
    
    
    
    16
    %
    
    
    9,911
    
    
    
    14
    %
    
    
    19,415
    
    
    
    14
    %Subtotal
    
    
    73
    
    
    
    57
    %
    
    
    96
    
    
    
    46
    %
    
    
    11,310,191
    
    
    
    60
    %
    
    
    47,153
    
    
    
    66
    %
    
    
    93,839
    
    
    
    66
    %Orange County
    
    
    23
    
    
    
    18
    %
    
    
    55
    
    
    
    26
    %
    
    
    3,609,394
    
    
    
    19
    %
    
    
    11,190
    
    
    
    16
    %
    
    
    22,866
    
    
    
    16
    %San Diego County
    
    
    26
    
    
    
    20
    %
    
    
    41
    
    
    
    19
    %
    
    
    2,971,482
    
    
    
    16
    %
    
    
    10,400
    
    
    
    14
    %
    
    
    19,889
    
    
    
    14
    %Ventura/Kern Counties
    
    
    6
    
    
    
    5
    %
    
    
    17
    
    
    
    8
    %
    
    
    794,574
    
    
    
    4
    %
    
    
    2,510
    
    
    
    4
    %
    
    
    5,018
    
    
    
    4
    %Subtotal
    
    
    128
    
    
    
    100
    %
    
    
    209
    
    
    
    99
    %
    
    
    18,685,641
    
    
    
    99
    %
    
    $
    71,253
    
    
    
    100
    %
    
    $
    141,612
    
    
    
    100
    %Renovation
Building(3)
    
    
    
    
    
    
    
    
    
    
    1
    
    
    
    1
    %
    
    
    99,119
    
    
    
    1
    %
    
    
    (18
    )
    
    
    
    
    
    
    5
    
    
    
    Total
    
    
    128
    
    
    
    100
    %
    
    
    210
    
    
    
    100
    %
    
    
    18,784,760
    
    
    
    100
    %
    
    $
    71,235
    
    
    
    100
    %
    
    $
    141,617
    
    
    
    100
    %
   (1)
    
    Excludes the operating results of two properties sold during 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 and year
to date operating results.(2)
    
    Includes a retail property with approximately 37,000 net rentable
square feet.(3)
    
    Comprised of one building in a business park containing a total of
four buildings. After completion of the renovation, the total square
footage of this building will expand to 130,000 square feet. PORTFOLIO OCCUPANCY AND IN-PLACE RENTS  Annualized Base RentPer Leased Square Foot(1)Percent
    
    Percent
    
    Portfolio
    
    Full ServiceLocation
    
    Occupied
    
    Leased
    
    Total
    
    Gross Leases(2)Los Angeles CountyWest
    
    
    91.8
    %
    
    
    94.3
    %
    
    $
    27.89
    
    
    $
    27.90North
    
    
    90.1
    %
    
    
    91.3
    %
    
    
    21.94
    
    
    
    22.75South
    
    
    86.4
    %
    
    
    88.7
    %
    
    
    19.04
    
    
    
    20.10Subtotal/Weighted Average
    
    
    89.8
    %
    
    
    91.9
    %
    
    $
    23.90
    
    
    $
    24.62Orange County
    
    
    88.2
    %
    
    
    89.7
    %
    
    
    18.82
    
    
    
    22.10San Diego County
    
    
    88.8
    %
    
    
    90.5
    %
    
    
    19.43
    
    
    
    23.87Ventura/Kern Counties
    
    
    95.7
    %
    
    
    96.5
    %
    
    
    18.84
    
    
    
    19.40Subtotal/Weighted Average
    
    
    89.6
    %
    
    
    91.5
    %
    
    $
    22.01
    
    
    $
    23.91Renovation Building
    
    
    
    
    
    
    100.0
    %
    
    
    17.40
    
    
    
    Total/Weighted Average
    
    
    89.0
    %
    
    
    91.5
    %
    
    $
    21.97
    
    
    $
    23.91
   (1)
    
    Based on monthly contractual base rent under existing leases as of
June 30, 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 34 properties and approximately 3.7 million square feet
under triple net and modified gross leases. 23




---



##### Table of Contents



TEN LARGEST TENANTS  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
    
    
    
    44
    
    
    
    2.22
    %
    
    
    2.16
    %
    
    
    379,686
    
    
    $
    8,115Vivendi Universal
    
    
    2
    
    
    
    70
    
    
    
    1.36
    %
    
    
    2.12
    %
    
    
    231,681
    
    
    
    7,980University of Phoenix
    
    
    6
    
    
    
    48
    
    
    
    0.97
    %
    
    
    0.99
    %
    
    
    166,195
    
    
    
    3,719Ceridian Corporation
    
    
    2
    
    
    
    70
    
    
    
    0.89
    %
    
    
    0.96
    %
    
    
    152,071
    
    
    
    3,619Atlantic Richfield
    
    
    1
    
    
    
    27
    
    
    
    0.84
    %
    
    
    0.92
    %
    
    
    143,885
    
    
    
    3,453Pepperdine University
    
    
    1
    
    
    
    173
    
    
    
    0.66
    %
    
    
    0.84
    %
    
    
    113,488
    
    
    
    3,173Haight, Brown & Bonesteel, LLP
    
    
    2
    
    
    
    83
    
    
    
    0.37
    %
    
    
    0.73
    %
    
    
    63,262
    
    
    
    2,737Westfield Corporation
    
    
    1
    
    
    
    106
    
    
    
    0.57
    %
    
    
    0.72
    %
    
    
    96,876
    
    
    
    2,714State Compensation Insurance Fund
    
    
    1
    
    
    
    45
    
    
    
    0.67
    %
    
    
    0.71
    %
    
    
    113,513
    
    
    
    2,656Walt Disney Pictures and Television
    
    
    1
    
    
    
    49
    
    
    
    0.67
    %
    
    
    0.69
    %
    
    
    114,922
    
    
    
    2,588Total/Weighted Average(2)
    
    
    39
    
    
    
    64
    
    
    
    9.22
    %
    
    
    10.84
    %
    
    
    1,575,579
    
    
    $
    40,754
   (1)
    
    Annualized base rent is calculated as monthly contractual base rent
under existing leases as of June 30, 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. 24




---



##### Table of Contents



LEASING ACTIVITY Three Months Ended
    
    Six Months EndedJune 30, 2004
    
    June 30, 2004Net Absorption (square feet)
    
    
    262,247
    
    
    
    (7,948
    )Gross New Leasing Activity (square feet)
    
    
    422,126
    
    
    
    1,019,356Gross Renewal Leasing Activity (square feet)
    
    
    600,948
    
    
    
    1,458,393Retention Rate
    
    
    65.7
    %
    
    
    59.1
    %Cash Rent Growth(1):Expiring Rate
    
    $
    22.81
    
    
    $
    22.97New / Renewed Rate
    
    $
    21.03
    
    
    $
    20.77Decrease
    
    
    (8
    )%
    
    
    (10
    )%GAAP Rent Growth(2):Expiring Rate
    
    $
    21.98
    
    
    $
    22.14New / Renewed Rate
    
    $
    22.36
    
    
    $
    22.28Increase
    
    
    2
    %
    
    
    1
    %Weighted Average Lease Term in Months  New
    
    
    52
    
    
    
    55Weighted Average Lease Term in Months  Renewal
    
    
    42
    
    
    
    41Tenant Improvements and Commissions (per square foot):New(3)
    
    $
    21.83
    
    
    $
    20.97Renewal
    
    $
    10.39
    
    
    $
    8.91Capital Expenditures (per square foot):Recurring
    
    $
    0.06
    
    
    $
    0.13Non-recurring
    
    $
    0.01
    
    
    $
    0.04
   (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 cash rent growth adjusted for straight-line rents.(3)
    
    Excludes development/renovation space. 25




---



##### Table of Contents



PORTFOLIO DIVERSIFICATION  Percentage ofOccupied
    
    TotalNAICS
    
    Square
    
    OccupiedNorth American Industrial Classification System Description
    
    Code
    
    Feet
    
    PortfolioProfessional, Scientific, and Technical Services
    
    
    541
    
    
    
    4,355,879
    
    
    
    26.01
    %Finance and Insurance
    
    
    521-525
    
    
    
    2,841,077
    
    
    
    16.97
    %Information
    
    
    511-519
    
    
    
    1,720,032
    
    
    
    10.27
    %Manufacturing
    
    
    311-339
    
    
    
    1,341,723
    
    
    
    8.01
    %Health Care and Social Assistance
    
    
    621-624
    
    
    
    1,168,085
    
    
    
    6.97
    %Administrative and Support and Waste Management and Remediation Services
    
    
    561-562
    
    
    
    751,234
    
    
    
    4.49
    %Public Administration
    
    
    921-928
    
    
    
    736,069
    
    
    
    4.40
    %Educational Services
    
    
    611
    
    
    
    748,680
    
    
    
    4.47
    %Real Estate, Rental and Leasing
    
    
    531-533
    
    
    
    710,730
    
    
    
    4.24
    %Wholesale Trade
    
    
    423-425
    
    
    
    553,723
    
    
    
    3.31
    %Transportation and Warehousing
    
    
    481-493
    
    
    
    394,249
    
    
    
    2.35
    %Arts, Entertainment, and Recreation
    
    
    711-713
    
    
    
    313,778
    
    
    
    1.87
    %Construction
    
    
    236-238
    
    
    
    287,980
    
    
    
    1.72
    %Other Services (except Public Administration)
    
    
    811-814
    
    
    
    287,851
    
    
    
    1.72
    %Accommodation and Food Services
    
    
    721-722
    
    
    
    171,792
    
    
    
    1.03
    %Retail Trade
    
    
    441-454
    
    
    
    121,673
    
    
    
    0.73
    %Mining
    
    
    211-213
    
    
    
    58,392
    
    
    
    0.35
    %Management of Companies and Enterprises
    
    
    551
    
    
    
    28,305
    
    
    
    0.17
    %Utilities
    
    
    221
    
    
    
    8,975
    
    
    
    0.05
    %Agriculture, Forestry, Fishing and Hunting
    
    
    111-115
    
    
    
    6,261
    
    
    
    0.04
    %Other  Uncategorized
    
    
    
    
    
    
    138,911
    
    
    
    0.83
    %16,745,399
    
    
    
    100.00
    %
 26




---



##### Table of Contents



LEASE EXPIRATIONS  ANNUAL  2009 and2004
    
    2005
    
    2006
    
    2007
    
    2008
    
    ThereafterLos Angeles County:West
    
    Expiring SF (1)
    
    
    287,598
    
    
    
    633,370
    
    
    
    542,349
    
    
    
    615,436
    
    
    
    523,235
    
    
    
    2,126,458% of Leased SF(2)
    
    
    1.68
    %
    
    
    3.71
    %
    
    
    3.18
    %
    
    
    3.60
    %
    
    
    3.06
    %
    
    
    12.45
    %Rent per SF (3)
    
    $
    29.04
    
    
    $
    28.11
    
    
    $
    28.65
    
    
    $
    29.06
    
    
    $
    30.14
    
    
    $
    33.11North
    
    Expiring SF (1)
    
    
    308,349
    
    
    
    458,499
    
    
    
    453,394
    
    
    
    477,906
    
    
    
    603,566
    
    
    
    567,628% of Leased SF(2)
    
    
    1.81
    %
    
    
    2.68
    %
    
    
    2.65
    %
    
    
    2.80
    %
    
    
    3.53
    %
    
    
    3.32
    %Rent per SF (3)
    
    $
    20.28
    
    
    $
    23.13
    
    
    $
    24.17
    
    
    $
    22.63
    
    
    $
    24.58
    
    
    $
    22.47South
    
    Expiring SF (1)
    
    
    144,879
    
    
    
    817,796
    
    
    
    321,260
    
    
    
    287,809
    
    
    
    410,700
    
    
    
    729,830% of Leased SF(2)
    
    
    0.85
    %
    
    
    4.78
    %
    
    
    1.88
    %
    
    
    1.68
    %
    
    
    2.41
    %
    
    
    4.27
    %Rent per SF (3)
    
    $
    19.65
    
    
    $
    16.05
    
    
    $
    22.46
    
    
    $
    22.30
    
    
    $
    21.77
    
    
    $
    22.18Subtotal Los Angeles County
    
    Expiring SF (1)
    
    
    740,826
    
    
    
    1,909,665
    
    
    
    1,317,003
    
    
    
    1,381,151
    
    
    
    1,537,501
    
    
    
    3,423,916% of Leased SF(2)
    
    
    4.34
    %
    
    
    11.17
    %
    
    
    7.71
    %
    
    
    8.08
    %
    
    
    9.00
    %
    
    
    20.04
    %Rent per SF (3)
    
    $
    23.56
    
    
    $
    21.75
    
    
    $
    25.60
    
    
    $
    25.43
    
    
    $
    25.72
    
    
    $
    29.01Orange County
    
    Expiring SF (1)
    
    
    373,705
    
    
    
    588,433
    
    
    
    639,736
    
    
    
    586,620
    
    
    
    313,507
    
    
    
    691,357% of Leased SF(2)
    
    
    2.19
    %
    
    
    3.45
    %
    
    
    3.74
    %
    
    
    3.43
    %
    
    
    1.83
    %
    
    
    4.04
    %Rent per SF (3)
    
    $
    15.94
    
    
    $
    20.65
    
    
    $
    21.15
    
    
    $
    18.55
    
    
    $
    20.45
    
    
    $
    22.05San Diego County
    
    Expiring SF (1)
    
    
    210,439
    
    
    
    606,897
    
    
    
    437,134
    
    
    
    240,913
    
    
    
    264,630
    
    
    
    878,309% of Leased SF(2)
    
    
    1.23
    %
    
    
    3.55
    %
    
    
    2.56
    %
    
    
    1.41
    %
    
    
    1.55
    %
    
    
    5.14
    %Rent per SF (3)
    
    $
    19.13
    
    
    $
    18.67
    
    
    $
    23.40
    
    
    $
    23.00
    
    
    $
    25.19
    
    
    $
    23.41All Others
    
    Expiring SF (1)
    
    
    84,397
    
    
    
    182,744
    
    
    
    181,951
    
    
    
    54,365
    
    
    
    75,143
    
    
    
    186,593% of Leased SF(2)
    
    
    0.49
    %
    
    
    1.07
    %
    
    
    1.06
    %
    
    
    0.32
    %
    
    
    0.44
    %
    
    
    1.09
    %Rent per SF (3)
    
    $
    18.46
    
    
    $
    20.11
    
    
    $
    20.58
    
    
    $
    19.89
    
    
    $
    21.45
    
    
    $
    18.58Total Portfolio
    
    Expiring SF (1)
    
    
    1,409,367
    
    
    
    3,287,739
    
    
    
    2,575,824
    
    
    
    2,263,049
    
    
    
    2,190,781
    
    
    
    5,180,175% of Leased SF(2)
    
    
    8.25
    %
    
    
    19.24
    %
    
    
    15.07
    %
    
    
    13.24
    %
    
    
    12.82
    %
    
    
    30.31
    %Rent per SF (3)
    
    $
    20.57
    
    
    $
    20.89
    
    
    $
    23.76
    
    
    $
    23.25
    
    
    $
    24.76
    
    
    $
    26.76
   (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  Q3-04
    
    Q4-04
    
    Q1-05
    
    Q2-05Los Angeles County:West
    
    Expiring SF (1)
    
    
    130,839
    
    
    
    156,759
    
    
    
    119,284
    
    
    
    142,443% of Leased SF(2)
    
    
    0.76
    %
    
    
    0.92
    %
    
    
    0.70
    %
    
    
    0.83
    %Rent per SF (3)
    
    $
    27.99
    
    
    $
    29.92
    
    
    $
    28.69
    
    
    $
    27.25North
    
    Expiring SF (1)
    
    
    107,254
    
    
    
    201,095
    
    
    
    65,714
    
    
    
    98,343% of Leased SF(2)
    
    
    0.63
    %
    
    
    1.18
    %
    
    
    0.39
    %
    
    
    0.58
    %Rent per SF (3)
    
    $
    23.08
    
    
    $
    18.79
    
    
    $
    23.25
    
    
    $
    23.83South
    
    Expiring SF (1)
    
    
    84,680
    
    
    
    60,199
    
    
    
    118,512
    
    
    
    218,750% of Leased SF(2)
    
    
    0.50
    %
    
    
    0.35
    %
    
    
    0.69
    %
    
    
    1.28
    %Rent per SF (3)
    
    $
    18.50
    
    
    $
    21.27
    
    
    $
    17.98
    
    
    $
    18.56Subtotal Los Angeles County
    
    Expiring SF (1)
    
    
    322,773
    
    
    
    418,053
    
    
    
    303,510
    
    
    
    459,536% of Leased SF(2)
    
    
    1.89
    %
    
    
    2.45
    %
    
    
    1.78
    %
    
    
    2.69
    %Rent per SF (3)
    
    $
    23.87
    
    
    $
    23.32
    
    
    $
    23.33
    
    
    $
    22.38Orange County
    
    Expiring SF (1)
    
    
    144,120
    
    
    
    229,585
    
    
    
    146,666
    
    
    
    167,088% of Leased SF(2)
    
    
    0.85
    %
    
    
    1.34
    %
    
    
    0.85
    %
    
    
    0.98
    %Rent per SF (3)
    
    $
    19.30
    
    
    $
    13.83
    
    
    $
    19.03
    
    
    $
    18.85San Diego County
    
    Expiring SF (1)
    
    
    109,577
    
    
    
    100,862
    
    
    
    145,269
    
    
    
    99,783% of Leased SF(2)
    
    
    0.64
    %
    
    
    0.59
    %
    
    
    0.85
    %
    
    
    0.58
    %Rent per SF (3)
    
    $
    23.99
    
    
    $
    13.85
    
    
    $
    21.93
    
    
    $
    20.83All Others
    
    Expiring SF (1)
    
    
    16,419
    
    
    
    67,978
    
    
    
    44,137
    
    
    
    21,347% of Leased SF(2)
    
    
    0.09
    %
    
    
    0.40
    %
    
    
    0.26
    %
    
    
    0.13
    %Rent per SF (3)
    
    $
    19.89
    
    
    $
    18.11
    
    
    $
    19.67
    
    
    $
    18.20Total Portfolio
    
    Expiring SF (1)
    
    
    592,889
    
    
    
    816,478
    
    
    
    639,582
    
    
    
    747,754% of Leased SF(2)
    
    
    3.47
    %
    
    
    4.78
    %
    
    
    3.74
    %
    
    
    4.38
    %Rent per SF (3)
    
    $
    22.67
    
    
    $
    19.05
    
    
    $
    21.78
    
    
    $
    21.27
   (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. 27




---



##### Table of Contents



RENOVATION SUMMARY  EstimatedYear 1StabilizedCosts
    
    
    
    
    
    
    
    
    
    Estimated
    
    Cash Property
    
    Estimated
    
    EstimatedIncurred
    
    Estimated
    
    Percent
    
    Construction
    
    Operating
    
    Year 1
    
    Year 1Square
    
    To Date
    
    Total Cost
    
    Leased at
    
    Completion
    
    Results
    
    Annual
    
    AnnualBuilding
    
    Feet
    
    (in thousands)
    
    (in thousands)
    
    8/3/04
    
    Date
    
    (in thousands)
    
    Cash Yield
    
    GAAP Yield22745 Savi Ranch
Parkway
    
    
    130,000
    
    
    $
    191
    
    
    $
    9,244
    
    
    
    100
    %
    
    4th Qtr 2004
    
    $
    1,881
    
    
    
    10.0
    %
    
    
    11.7
    %
   (1)
    
    Estimated Year 1 Annual GAAP Yield includes an adjustment for
straight-line rents. In addition, 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 June 30,
2004, a 1% increase in interest rates on our $332.0 million of floating rate
debt would decrease annual future earnings and cash flows by approximately $3.3
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 $332.0 million of
floating rate debt would increase annual future earnings and cash flows by
approximately $3.3 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 June 30, 2004 was 3.72%. Our fixed rate debt totaled $959.0 million as of June 30, 2004 with a
weighted average interest rate of 7.33% and a total fair value of approximately
$998.4 million. A 1% decrease in interest rates would increase the fair value
of our fixed rate debt by approximately $29.7 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 $27.9
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. 28




---



##### 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 second 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. 29




---



##### 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 June 30, 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 On May 11, 2004 we held our annual meeting of stockholders in Santa
Monica, California. The matters voted on at that meeting and the results were
as follows:  1.
    
    To elect directors of Arden Realty, Inc. to hold office
until the annual meeting of stockholders in the year 2007 or until
their respective successors are elected and qualified as follows: Number of Shares
    
    Number of SharesVoted For
    
    WithheldDirector #1  Leslie E. Bider
    
    
    60,434,659
    
    
    
    732,698Director #2  Steven C. Good
    
    
    58,674,953
    
    
    
    2,492,404Director #3  Alan I.
Rothenberg
    
    
    60,432,285
    
    
    
    735,072
  2.
    
    To request the Compensation Committee of the Board of
Directors to establish a policy to seek shareholder approval for
future severance agreements with senior executives that provide
benefits in an amount exceeding 2.99 times the sum of the
executives base salary plus bonus. Results of the vote were as
follows: Number of Shares
    
    Number of Shares Voted
    
    Number of SharesVoted For
    
    Against
    
    Abstained43,743,970
    
    
    13,183,845
    
    
    
    245,501
 
 Item 5. Other Information  None 
 Item 6. Exhibits and Reports on Form 8-K   (a)
    
    
    Exhibits10.46
    *
    
    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 April 29, 2004, we filed a report on Form 8-K (Item 12) relating to our
financial information for the quarter ended March 31, 2004 as presented in a
press release dated April 28, 2004 attached to the report. 30




---



##### 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: August 6, 2004
    
    By:
    
    /s/ Andrew J. SobelAndrew J. SobelExecutive Vice President  Strategic Planningand OperationsDate: August 6, 2004
    
    By:
    
    /s/ Richard S. DavisRichard S. DavisSenior Vice President andChief Financial Officer
 31