**SECURITIES AND EXCHANGE COMMISSION**

##### **Washington, D.C.  20549**

 

**FORM 10-Q**

 
| **ý** | ** ** | **QUARTERLY  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES****EXCHANGE ACT OF 1934.**                                                                                                                                                                                                 |
|------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |       |                                                                                                                                                                                                                                                                                       |
| ** ** | ** ** | **For the quarterly period ended September 30, 2005.**                                                                                                                                                                                                                                     |
|       |       |                                                                                                                                                                                                                                                                                       |
| ** ** | ** ** | **OR**                                                                                                                                                                                                                                                                                     |
|       |       |                                                                                                                                                                                                                                                                                       |
| **o**      | ** ** | **TRANSITION  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES****EXCHANGE ACT OF 1934.**                                                                                                                                                                                                |
|       |       |                                                                                                                                                                                                                                                                                       |
| ** ** | ** ** | **For the transition period from                        to                      ** |
| ** ** | ** ** | ** **                                                                                                                                                                                                                                                                                 |
| ** ** | ** ** | **Commission file number 1-14462**                                                                                                                                                                                                                                                         |

 

**AMERIVEST PROPERTIES INC.**

(Exact name of registrant asspecified in its charter)

 
| **Maryland**                                                    | ** ** | **84-1240264**                       |
|-----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer Identification No.) |
|                                                            |       |                                 |
| **1780 South Bellaire Street****Suite 100, Denver, Colorado**   | ** ** | **80222**                            |
| (Address of principal executive offices)                        |       | (Zip Code)                           |
|                                                            |       |                                 |
| **(303) 297-1800**                                              |
| (Registrant’s telephone number, including  area code)      |

 

Indicate by check mark whether the registrant (1) filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes  ý  No  o

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act). Yes  ý  No o

 

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

 

The number of shares of the registrant’s common stock outstanding as ofOctober 31, 2005 was approximately 24,111,000.

 

 

----

 

**Table of Contents**

 
| **Part I**                                                                                          | **Financial Information**                                                                                                     |   |
|-----------------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------|--------|
|                                                                                                |                                                                                                                          |   |
| Item 1.                                                                                             | Financial Statements:                                                                                                         |   |
|                                                                                                | Condensed Consolidated Balance Sheets as of  September 30, 2005 (unaudited) and December 31, 2004                             |   |
|                                                                                                | Condensed Consolidated Statements of  Operations for the three and nine months ended September 30, 2005 and 2004  (unaudited) |   |
|                                                                                                | Condensed Consolidated Statement of  Shareholders’ Equity for the nine months ended September 30, 2005 (unaudited)       |   |
|                                                                                                | Condensed Consolidated Statements of Cash  Flows for the nine months ended September 30, 2005 and 2004 (unaudited)            |   |
|                                                                                                | Notes to Condensed Consolidated Financial  Statements (unaudited)                                                             |   |
|                                                                                                |                                                                                                                          |   |
| Item 2. Management’s Discussion and  Analysis of Financial Condition and Results of Operations |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| Item 3. Quantitative and Qualitative  Disclosures About Market Risk                                 |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| Item 4. Controls and Procedures                                                                     |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| **Part II**                                                                                         | **Other Information**                                                                                                         |   |
|                                                                                                |                                                                                                                          |   |
| Item 1. Legal Proceedings                                                                           |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| Item 2. Changes in Securities and Use of  Proceeds                                                  |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| Item 4. Submission of Matters to a Vote of  Security Holders                                        |                                                                                                                          |
|                                                                                                |                                                                                                                          |   |
| Item 6. Exhibits                                                                                    |                                                                                                                          |

 

----

 

**PART I – FINANCIAL INFORMATION**

**Item 1. Financial Statements**

 

**AMERIVEST PROPERTIES INC.**

 

**Condensed Consolidated Balance Sheets**

 
| ** **                                                                                                                            | ** ** | **September 30,  2005** | ** **  | **December 31,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|-------------|------------------------|------------|
| ** **                                                                                                                            | ** ** | **(unaudited)**         | ** **  | ** **             | ** ** |
| **ASSETS**                                                                                                                            | ** ** | ** **              | ** **  | ** **             | ** ** |
| Investment  in real estate:                                                                                                           |       |                    |        |                   |       |
| Land                                                                                                                                  |       | $                       | 48,059,765  |                   | $          | 48,059,138 |   |
| Buildings and improvements                                                                                                            |       | 171,412,430             |        | 170,390,274            |       |
| Furniture, fixtures and equipment                                                                                                     |       | 1,250,431               |        | 1,169,186              |       |
| Tenant improvements                                                                                                                   |       | 12,884,183              |        | 10,392,649             |       |
| Tenant leasing commissions                                                                                                            |       | 3,024,893               |        | 2,026,004              |       |
| Intangible assets                                                                                                                     |       | 15,335,821              |        | 16,069,201             |       |
| Real estate assets – held-for-sale, net                                                                                          |       | 83,907,783              |        | 97,668,274             |       |
| Less: accumulated depreciation and  amortization                                                                                      |       | (23,083,166             | )           | (14,960,977            | )          |
| Net investment in real estate                                                                                                         |       | 312,792,140             |        | 330,813,749            |       |
|                                                                                                                                  |       |                    |        |                   |       |
| Cash and  cash equivalents                                                                                                            |       | 1,096,281               |        | 1,859,660              |       |
| Escrow  deposits and restricted cash                                                                                                  |       | 8,261,821               |        | 2,957,370              |       |
| Accounts  receivable, net                                                                                                             |       | 791,012                 |        | 671,251                |       |
| Deferred  rents receivable                                                                                                            |       | 4,261,686               |        | 3,430,609              |       |
| Deferred  financing costs, net                                                                                                        |       | 1,950,620               |        | 2,927,696              |       |
| Prepaid  expenses and other assets                                                                                                    |       | 875,358                 |        | 524,072                |       |
| Other assets  – held-for-sale                                                                                                    |       | 2,489,782               |        | 4,769,282              |       |
| Total assets                                                                                                                          |       | $                       | 332,518,700 |                   | $          | 347,953,689 |   |
|                                                                                                                                  |       |                    |        |                   |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                         |       |                    |        |                   |       |
| Liabilities:                                                                                                                          |       |                    |        |                   |       |
| Secured mortgage loans and notes payable                                                                                              |       | $                       | 145,758,176 |                   | $          | 147,453,149 |   |
| Unsecured line of credit                                                                                                              |       | 31,060,296              |        | 24,857,063             |       |
| Secured mortgage loans – held for sale                                                                                           |       | 58,082,652              |        | 64,276,179             |       |
| Accounts payable and accrued expenses                                                                                                 |       | 5,902,687               |        | 4,524,282              |       |
| Accrued real estate taxes                                                                                                             |       | 5,002,620               |        | 4,486,712              |       |
| Prepaid rents, deferred revenue and  security deposits                                                                                |       | 3,216,387               |        | 3,616,472              |       |
| Dividends payable                                                                                                                     |       | —                  |        | 3,116,130              |       |
| Other liabilities – held-for-sale                                                                                                |       | 548,305                 |        | 573,730                |       |
| Total liabilities                                                                                                                     |       | 249,571,123             |        | 252,903,717            |       |
| Minority  interest – held-for-sale                                                                                               |       | —                  |        | 1,580,057              |       |
|                                                                                                                                  |       |                    |        |                   |       |
| Shareholders’  equity:                                                                                                           |       |                    |        |                   |       |
| Preferred stock, $0.001 par value;  5,000,000 shares authorized  Issued and outstanding: none                                         |       | —                  |        | —                 |       |
| Common stock, $0.001 par value; 75,000,000  shares authorized  Issued and outstanding: 24,105,464 and 23,982,233 shares, respectively |       | 24,106                  |        | 23,982                 |       |
| Capital in excess of par value                                                                                                        |       | 133,168,666             |        | 132,585,840            |       |
| Distributions in excess of accumulated  earnings                                                                                      |       | (50,245,195             | )           | (39,139,907            | )          |
| Total shareholders’ equity                                                                                                       |       | 82,947,577              |        | 93,469,915             |       |
| Total liabilities and shareholders’ equity                                                                                       |       | $                       | 332,518,700 |                   | $          | 347,953,689 |   |

 

The accompanying notes are an integral part of these condensedconsolidated financial statements.

 

1

----

 

**AMERIVEST PROPERTIES INC.**

 

**Condensed Consolidated Statements ofOperations**

**(unaudited)**

 
| ** **                                        | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended****September 30,** | ** ** |
|---------------------------------------------------|------------|---------------------------------------|------------|----------------------------------------|------------|
| ** **                                        | ** ** | **2005**                              | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2004** | ** ** |
| Real Estate Operating Revenue:                    |       |                                  |       |                                   |       |   |   |   |   |
| Rental revenues                                   |       | $                                     | 8,609,254  |                                   | $          | 7,106,977 |   | $ | 25,952,853 |   | $ | 19,718,169 |   |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Real Estate  Operating Expenses:                  |       |                                  |       |                                   |       |   |   |   |   |
| Property operating expenses -                     |       |                                  |       |                                   |       |   |   |   |   |
| Operating expenses                                |       | 2,307,499                             |       | 2,244,619                              |       | 6,901,892 |   | 6,017,444 |   |
| Real estate taxes                                 |       | 974,461                               |       | 820,352                                |       | 3,527,521 |   | 2,312,209 |   |
| General and administrative expenses               |       | 1,082,078                             |       | 1,105,901                              |       | 3,880,678 |   | 3,022,715 |   |
| Interest expense                                  |       | 3,111,792                             |       | 2,177,411                              |       | 8,860,849 |   | 6,003,920 |   |
| Depreciation and amortization expense             |       | 3,247,678                             |       | 2,368,006                              |       | 9,691,171 |   | 6,033,176 |   |
| Total operating expense                           |       | 10,723,508                            |       | 8,716,289                              |       | 32,862,111 |   | 23,389,464 |   |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Loss from  continuing operations                  |       | (2,114,254                            | )          | (1,609,312                             | )          | (6,909,258 | ) | (3,671,295 | ) |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Other  Income:                                    |       |                                  |       |                                   |       |   |   |   |   |
| Interest income                                   |       | 24,525                                |       | 29,139                                 |       | 42,529 |   | 55,395 |   |
| Total other income                                |       | 24,525                                |       | 29,139                                 |       | 42,529 |   | 55,395 |   |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Loss before  discontinued operations              |       | (2,089,729                            | )          | (1,580,173                             | )          | (6,866,729 | ) | (3,615,900 | ) |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Net  earnings/(loss) from discontinued operations |       | (3,340,714                            | )          | 278,279                                |       | (4,238,559 | ) | 1,391,407 |   |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Net loss                                          |       | $                                     | (5,430,443 | )                                      | $          | (1,301,894 | ) | $ | (11,105,288 | ) | $ | (2,224,493 | ) |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Loss per  Share:                                  |       |                                  |       |                                   |       |   |   |   |   |
| Basic                                             |       | $                                     | (0.23      | )                                      | $          | (0.05 | ) | $ | (0.46 | ) | $ | (0.10 | ) |
| Diluted                                           |       | $                                     | (0.23      | )                                      | $          | (0.05 | ) | $ | (0.46 | ) | $ | (0.10 | ) |
|                                              |       |                                  |       |                                   |       |   |   |   |   |
| Weighted  Average Common Shares Outstanding:      |       |                                  |       |                                   |       |   |   |   |   |
| Basic                                             |       | 24,074,937                            |       | 23,934,094                             |       | 24,044,762 |   | 21,807,943 |   |
| Diluted                                           |       | 24,074,937                            |       | 23,934,094                             |       | 24,044,762 |   | 21,807,943 |   |

 

The accompanying notes are an integral part of these condensedconsolidated financial statements.

 

2

----

 

**AMERIVEST PROPERTIES INC.**

 

**Condensed Consolidated Statement ofShareholders’ Equity**

 

**Nine Months Ended September 30, 2005**

**(unaudited)**

 
| ** **                     | ** ** | ** **       | ** ** | ** **    | ** ** | **Distributions** | ** ** | ** **       | ** ** |
|--------------------------------|------------|------------------|------------|---------------|------------|-------------------|------------|------------------|------------|
| ** **                     | ** ** | ** **       | ** ** | ** **    | ** ** | **Capital in**    | ** ** | **in Excess of** | ** ** | ** ** | ** ** |
| ** **                     | ** ** | **Common Stock** | ** ** | **Excess of** | ** ** | **Accumulated**   | ** ** | ** **       | ** ** |
| ** **                     | ** ** | **Shares**       | ** ** | **Amount**    | ** ** | **Par Value**     | ** ** | **Earnings**     | ** ** | **Total** | ** ** |
| Balance at  December 31, 2004  |       | 23,982,233       |       | $             | 23,982     |              | $          | 132,585,840      |       | $ | (39,139,907 | ) | $ | 93,469,915 |   |
|                           |       |             |       |          |       |              |       |             |       |   |   |
| Issuance of  common stock:     |       |             |       |          |       |              |       |             |       |   |   |
| Warrants exercised             |       | 1,500            |       | 2             |       | 7,499             |       | —           |       | 7,501 |   |
| Dividend Re-Investment Plan    |       | 6,609            |       | 7             |       | 41,049            |       | —           |       | 41,056 |   |
| Equity-based compensation      |       | 115,122          |       | 115           |       | 534,278           |       | —           |       | 534,393 |   |
| Net loss                       |       | —           |       | —        |       | —            |       | (11,105,288      | )          | (11,105,288 | ) |
| Balance at  September 30, 2005 |       | 24,105,464       |       | $             | 24,106     |              | $          | 133,168,666      |       | $ | (50,245,195 | ) | $ | 82,947,577 |   |

 

The accompanying notes are an integral part of these condensedconsolidated financial statements.

 

3

----

 

**AMERIVEST PROPERTIES INC.**

 

**Condensed Consolidated Statements of Cash Flows**

**(unaudited)**

 
| ** **                                                                       | ** ** | **Nine Months Ended September 30,** | ** **  |
|----------------------------------------------------------------------------------|------------|-------------------------------------|-------------|
| ** **                                                                       | ** ** | **2005**                            | ** **  | **2004** | ** ** |
| Operating  activities:                                                           |       |                                |        |   |   |
| Net loss                                                                         |       | $                                   | (11,105,288 | ) | $ | (2,224,493 | ) |
| Adjustments to reconcile net loss to net  cash provided by operating activities- |       |                                |        |   |   |
| Depreciation and amortization expense                                            |       | 14,378,955                          |        | 9,991,175 |   |
| Loss/(gain) on sale                                                              |       | 20,803                              |        | (574,276 | ) |
| Impairment of assets held-for-sale                                               |       | 2,720,826                           |        | — |   |
| Amortization of deferred financing costs                                         |       | 1,088,878                           |        | 541,199 |   |
| Write-off of unamortized deferred financing  costs                               |       | 215,993                             |        | — |   |
| Equity in loss of affiliate                                                      |       | —                              |        | 18,076 |   |
| Minority interest                                                                |       | (285,369                            | )           | (165,212 | ) |
| Equity-based compensation                                                        |       | 534,393                             |        | 233,727 |   |
| Changes in assets and liabilities-                                               |       |                                |        |   |   |
| Accounts receivable                                                              |       | 248,096                             |        | (352,137 | ) |
| Deferred rents receivable                                                        |       | (936,032                            | )           | (1,510,687 | ) |
| Prepaid expenses and other assets                                                |       | (351,286                            | )           | (25,436 | ) |
| Accounts payable and accrued expenses                                            |       | (1,259,777                          | )           | (227,581 | ) |
| Other accrued liabilities                                                        |       | 282,301                             |        | 1,996,951 |   |
| Net cash flows provided by operating  activities                                 |       | 5,552,493                           |        | 7,701,306 |   |
|                                                                             |       |                                |        |   |   |
| Investing  activities:                                                           |       |                                |        |   |   |
| Acquisitions of real estate, net                                                 |       | —                              |        | (59,983,705 | ) |
| Capital expenditures                                                             |       | (2,027,079                          | )           | (3,538,766 | ) |
| Tenant improvements                                                              |       | (4,044,453                          | )           | (6,253,622 | ) |
| Leasing commissions paid                                                         |       | (2,057,079                          | )           | (1,303,538 | ) |
| Deposits on pending real estate  acquisitions                                    |       | —                              |        | (726,500 | ) |
| Proceeds from sale, net of closing costs                                         |       | 4,432,197                           |        | 4,049,229 |   |
| Cash paid to complete deed-in-lieu  transaction                                  |       | (114,600                            | )           | — |   |
| Legal settlement proceeds                                                        |       | 450,000                             |        | — |   |
| Other, net                                                                       |       | —                              |        | 16,348 |   |
| Net cash flows used in investing activities                                      |       | (3,361,014                          | )           | (67,740,554 | ) |
|                                                                             |       |                                |        |   |   |
| Financing activities:                                                            |       |                                |        |   |   |
| Additions to mortgage loans and lines of  credit                                 |       | 7,203,233                           |        | 93,227,462 |   |
| Payments on mortgage loans, notes payable  and line of credit                    |       | (3,322,641                          | )           | (62,941,369 | ) |
| Payment of deferred financing costs                                              |       | (313,446                            | )           | (568,424 | ) |
| Net proceeds from common stock offering                                          |       | —                              |        | 39,895,429 |   |
| Net proceeds from exercising of options and  warrants                            |       | 7,501                               |        | 475,448 |   |
| Net change in escrow deposits and  restricted cash                               |       | (3,454,431                          | )           | (1,351,144 | ) |
| Dividends paid                                                                   |       | (3,075,074                          | )           | (7,612,563 | ) |
| Net cash flows provided by/(used in)  financing activities                       |       | (2,954,858                          | )           | 61,124,839 |   |
|                                                                             |       |                                |        |   |   |
| Net change  in cash and cash equivalents                                         |       | (763,379                            | )           | 1,085,591 |   |
| Cash and  cash equivalents at beginning of period                                |       | 1,859,660                           |        | 1,477,585 |   |
| Cash and  cash equivalents at end of period                                      |       | $                                   | 1,096,281   |   | $ | 2,563,176 |   |
|                                                                             |       |                                |        |   |   |
| Supplemental  disclosure of cash flow information:                               |       |                                |        |   |   |
| Cash paid for interest                                                           |       | $                                   | 10,930,480  |   | $ | 7,514,934 |   |
|                                                                             |       |                                |        |   |   |
| Significant  non-cash investing and financing activities:                        |       |                                |        |   |   |
| Basis of real estate involved in  deed-in-lieu transaction                       |       | $                                   | 5,160,022   |   | — |   |
| Debt extinguishment as part of deed-in-lieu  transaction                         |       | $                                   | 5,565,859   |   | — |   |
| Note receivable related to disposition                                           |       | $                                   | 364,170     |   | — |   |
| Mortgage loans assumed and related real  estate acquired                         |       | —                              |        | $ | 12,492,383 |   |

 

The accompanying notes are an integral part of these condensedconsolidated financial statements.

 

4

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**AMERIVESTPROPERTIES INC.**

 

**Notes to Condensed Consolidated FinancialStatements**

 

**September 30, 2005**

**(unaudited)**

 

1 – Organization

 

AmeriVestProperties Inc. (the Company) is incorporated under the laws of the State ofMaryland and operates as a self-administered and self-managed real estateinvestment trust (REIT).  The Companyprimarily invests in and operates commercial office buildings in selectivemarkets and leases the commercial office buildings to small and medium sizetenants.  At September 30, 2005, theCompany owned 16 office properties located in metropolitan Denver, Dallas,Phoenix and Indianapolis, with the Company actively marketing for sale four ofits properties.

 

2 – Interim Financial Statements

 

The unauditedconsolidated financial statements included herein were prepared from therecords of the Company in accordance with U.S. generally accepted accountingprinciples and reflect all adjustments which are, in the opinion of management,necessary to provide a fair statement of the results of operations andfinancial position for the interim periods. Such financial statements generally conform to the presentationreflected in the Company’s Form 10-K filed with the Securities and ExchangeCommission for the year ended December 31, 2004.  The consolidated results of operations forthe three and nine months ended September 30, 2005 are not necessarilyindicative of the results that may be expected for the year ending December 31,2005.  These financial statements andnotes therein should be read together with the financial statements and notesincluded in the Company’s Form 10-K for the year ended December 31, 2004.

 

Thepreparation of financial statements in conformity with U.S. generally acceptedaccounting principles requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the consolidated financialstatements and reported amounts of revenues and expenses during the reportingperiod.  Actual results could differ fromthose estimates.

 

Certain priorperiod balances have been reclassified to conform to current periodpresentation.  The Condensed ConsolidatedStatements of Cash Flows for the nine months ended September 30, 2005 and 2004include the impact of the held-for-sale assets. See Note 4 “Discontinued Operations” for a discussion of discontinuedoperations.

 

3 – Equity-BasedCompensation

 

The Companyapplies Accounting Principles Board (APB) Opinion No. 25 and relatedinterpretations in accounting for its equity-based compensation.  Accordingly, the Company does not recognizecompensation cost for options granted to employees whose exercise price isequal to or exceeds the fair value of the underlying stock as of the grant dateand which qualify for fixed plan accounting. For restricted stock grants, the Company calculates compensation expensebased on the fair value of each share on the grant date multiplied by thenumber of shares granted.  The Companyrecognizes this equity-based compensation over the vesting period.  For the nine months ended September 30, 2005,the Company recognized approximately $457,000 of equity-based compensationrelated to the vesting of previously issued restricted stock.

 

Equity-basedcompensation issued to non-employees is accounted for based on the fair valueof the equity instruments issued.  Themeasurement date is considered to be the issuance date, or if there areperformance vesting provisions, when earned.

 

5

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The Companyhas adopted the disclosure-only provisions of Statement of Financial AccountingStandards (SFAS) No. 148, “*Accounting for Stock-BasedCompensation – Transition and Disclosure, an amendment of FASB Statement No.123.”*  Had compensation costfor the Company’s stock option plan been determined based on the fair value atthe grant date consistent with the provisions of SFAS No. 148, the Company’snet loss and loss per share for the three and nine months ended September 30,2005 and 2004 would have been changed to the pro forma amounts as indicated inthe following table:

 
| ** **                                                         | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------------------------------------|------------|---------------------------------------|------------|--------------------------------------|------------|
| ** **                                                         | ** ** | **2005**                              | ** ** | **2004**                             | ** ** | **2005** | ** ** | **2004** | ** ** |
|                                                               |       |                                  |       |                                 |       |   |   |   |   |
| Net loss –  as reported                                       |       | $                                     | (5,430,443 | )                                    | $          | (1,301,894 | ) | $ | (11,105,288 | ) | $ | (2,224,493 | ) |
| Plus:  Recognized equity-based compensation                        |       | 206,893                               |       | 102,030                              |       | 534,393 |   | 233,727 |   |
| Less: Total equity-based compensation  expense based on fair value |       | (210,675                              | )          | (123,943                             | )          | (543,114 | ) | (330,486 | ) |
| Net loss –  pro forma                                         |       | $                                     | (5,434,225 | )                                    | $          | (1,323,807 | ) | $ | (11,114,009 | ) | $ | (2,321,252 | ) |
|                                                               |       |                                  |       |                                 |       |   |   |   |   |
| Loss per  basic share – as reported                           |       | $                                     | (0.23      | )                                    | $          | (0.05 | ) | $ | (0.46 | ) | $ | (0.10 | ) |
| Loss per  diluted share – as reported                         |       | $                                     | (0.23      | )                                    | $          | (0.05 | ) | $ | (0.46 | ) | $ | (0.10 | ) |
|                                                               |       |                                  |       |                                 |       |   |   |   |   |
| Loss per  basic share – pro forma                             |       | $                                     | (0.23      | )                                    | $          | (0.06 | ) | $ | (0.46 | ) | $ | (0.11 | ) |
| Loss per  diluted share – pro forma                           |       | $                                     | (0.23      | )                                    | $          | (0.06 | ) | $ | (0.46 | ) | $ | (0.11 | ) |

 

The fair value ofeach grant is estimated on the date of grant using the Black-Scholesoption-pricing model with the following weighted-average assumptions:

 
| ** **            | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------|------------|----------|------------|----------|------------|
| Dividend yield        |       | 0.0      | %          | 7.5      | %          |
| Volatility            |       | 10.5     | %          | 27.0     | %          |
| Discount rate         |       | 2.7      | %          | 2.7      | %          |
| Expected life (years) |       | 1.7      |       | 5.0      |       |

 

6

----

 

4 – DiscontinuedOperations 

 

In accordance with SFAS No. 144, *“Accounting for Impairmentof Long-Lived Assets”*, the operating results of properties soldduring the period or designated as held-for-sale and the related impairment andgain/loss on the disposition are included in discontinued operations for thethree and nine months ended September 30, 2005 and 2004.

 

On September 1, 2005, the Company announced the intended sale of fiveproperties:  Panorama Falls, AmeriVestPlaza at Inverness, Financial Plaza, Chateau Plaza and Keystone OfficePark.  On September 30, 2005, the Companysold its 20% equity interest in Panorama Falls and received full repayment ofthe $4.4 million mortgage note held by AmeriVest on the property and a $364,170promissory note. Prior to the disposition, the Company recognized an impairmentof approximately $421,000 related to Panorama Falls.  In addition, as part of the Company’sincremental evaluation associated with the properties deemed as held-for-sale,the Company recognized an impairment of approximately $2.3 million in the thirdquarter of 2005.

 

On March 2, 2005, the Company completed a Deed-In-Lieu Agreement toreturn our 13 non-core Texas State Buildings to the lender.  The properties, consisting of 222,542 squarefeet, were leased primarily to various agencies of the State of Texas and arelocated in Temple, Clint, El Paso, Hempstead, Lubbock, Marshall, Columbus,Paris, Mission, Arlington, Bellville and Amarillo, Texas.  The buildings secured a loan in the amount of$5.6 million, and had a net book value of $5.2 million (excluding approximately$383,000 in escrow deposits which were included as part of the transaction),subsequent to an impairment charge of $1.2 million recognized during the fourthquarter of 2004.  In 2005, the Companyrecognized a net loss of approximately $20,800 and wrote-off unamortizeddeferred financing costs in connection with the disposition of approximately$216,000, which are reflected in discontinued operations.

 

On March 16, 2004, the Company sold its Texas Bank Buildings for $4.1million and recognized a gain of $574,276 on the disposition.

 

The following is a summary of the net earnings/(loss) of the propertieswhich comprise discontinued operations:

 
| ** **                                                               | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------------------------------------------|------------|---------------------------------------|------------|--------------------------------------|------------|
| ** **                                                               | ** ** | **2005**                              | ** ** | **2004**                             | ** ** | **2005** | ** ** | **2004** | ** ** |
| Rental  revenue                                                          |       | $                                     | 3,385,491  |                                 | $          | 4,328,151 |   | $ | 11,186,449 |   | $ | 12,985,506 |   |
|                                                                     |       |                                  |       |                                 |       |   |   |   |   |
| Property  operating expenses -                                           |       |                                  |       |                                 |       |   |   |   |   |
| Operating expenses                                                       |       | 1,077,694                             |       | 1,315,390                            |       | 3,429,444 |   | 3,900,707 |   |
| Real estate taxes                                                        |       | 473,712                               |       | 573,601                              |       | 1,625,767 |   | 1,813,739 |   |
| Interest  expense                                                        |       | 1,034,796                             |       | 892,101                              |       | 3,097,888 |   | 2,643,066 |   |
| Deferred financing costs associated with the disposition of real  estate |       | —                                |       | —                               |       | 215,993 |   | — |   |
| Depreciation  and amortization expense                                   |       | 1,504,598                             |       | 1,372,874                            |       | 4,599,656 |   | 3,957,999 |   |
| Impairment  of real estate                                               |       | 2,720,826                             |       | —                               |       | 2,720,826 |   | — |   |
| Equity in  loss of affiliate                                             |       | —                                |       | —                               |       | — |   | 18,076 |   |
| Total expenses                                                           |       | 6,811,626                             |       | 4,153,966                            |       | 15,689,574 |   | 12,333,587 |   |
|                                                                     |       |                                  |       |                                 |       |   |   |   |   |
| Minority  interest                                                       |       | 84,420                                |       | 104,094                              |       | 285,369 |   | 165,212 |   |
| Gain/(loss)  on disposition                                              |       | 1,001                                 |       | —                               |       | (20,803 | ) | 574,276 |   |
|                                                                     |       |                                  |       |                                 |       |   |   |   |   |
| Net  earnings/(loss) from discontinued operations                        |       | $                                     | (3,340,714 | )                                    | $          | 278,279 |   | $ | (4,238,559 | ) | $ | 1,391,407 |   |

 

7

----

 

5 – Mortgage Loans, Notes Payable, and Lines ofCredit

 

The Company finances itsproperties with mortgage loans and other debt instruments, such as lines ofcredit.  The following is a summary ofthe Company’s outstanding mortgage loans, notes payable and lines of credit,classified by interest type (fixed or variable) and in order of maturity atSeptember 30, 2005 and December 31, 2004:

 
| ** **                                                         | ** ** | ** **                                           | ** ** | ** **         | ** ** | **September 30, 2005** | ** **  | **December 31, 2004** | ** ** |
|--------------------------------------------------------------------|------------|------------------------------------------------------|------------|--------------------|------------|------------------------|-------------|-----------------------|------------|
| **Lender**                                                         | ** ** | **Mortgaged Property at  September 30, 2005**        | ** ** | **Maturity  Date** | ** ** | **Principal  Balance** | ** **  | **Interest  Rate(1)** | ** ** | **Principal  Balance** | ** ** | **Interest  Rate(1)** | ** ** |
| ***Fixed Rate***                                                   |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| GEMSA                                                              |       | Hampton Court                                        |       | 11/1/2007          |       | $                      | 7,900,000   |                  | 5.48       | % | $ | 7,900,000 |   | 5.48 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Greenwich Capital Financial Products                               |       | Parkway Centre II Centerra Southwest Gas Building    |       | 10/1/2008          |       | 37,514,148             |        | 5.13                  | %          | 38,115,018 |   | 5.13 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Metropolitan Life Insurance Company                                |       | Parkway Centre III                                   |       | 9/10/2009          |       | 14,900,494             |        | 4.47                  | %          | 15,154,645 |   | 4.47 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Southern Farm Bureau Life Insurance Company                        |       | Scottsdale Norte                                     |       | 4/1/2011           |       | 6,522,943              |        | 7.90                  | %          | 6,568,596 |   | 7.90 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| J.P. Morgan Chase                                                  |       | Hackberry View – 1st                            |       | 9/1/2012           |       | 11,322,908             |        | 6.57                  | %          | 11,424,345 |   | 6.57 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| J.P. Morgan Chase                                                  |       | Hackberry View –  2nd (2)                       |       | 9/1/2012           |       | 945,484                |        | 8.00                  | %          | 967,654 |   | 8.00 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Teachers Insurance and Annuity Association  of America             |       | Sheridan Center Arrowhead Fountains Kellogg Building |       | 1/1/2013           |       | 28,487,104             |        | 7.40                  | %          | 28,852,678 |   | 7.40 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Allstate Life Insurance Company                                    |       | Camelback – 1st                                 |       | 9/5/2014           |       | 15,707,459             |        | 5.82                  | %          | 15,928,449 |   | 5.82 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Allstate Life Insurance Company                                    |       | Camelback – 2nd                                 |       | 9/5/2014           |       | 4,908,581              |        | 5.82                  | %          | 4,977,640 |   | 5.82 | % |
| Subtotal                                                           |       |                                                 |       |               |       | 128,209,121            |        | 5.98                  | %          | 129,889,025 |   | 5.98 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| ***Variable Rate***                                                |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| KeyBank National Association – Senior  Secured Line of Credit |       | Greenhill Park                                       |       |               | (4)        | 17,500,000             |        | 5.87                  | %          | 17,500,000 |   | 4.96 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| KeyBank National Association – Unsecured  Line of Credit      |       | Unsecured                                            |       | 4/1/2006           |       | 31,060,296             |        | 6.64                  | %          | 24,857,063 |   | 5.63 | % |
| Subtotal                                                           |       |                                                 |       |               |       | 48,560,296             |        | 6.36                  | %          | 42,357,063 |   | 5.35 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| ***Other Notes Payable***                                          |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Lease Capital Corporation                                          |       | Phone system                                         |       | 10/31/2007         |       | 49,055                 |        | 11.11                 | %          | 64,124 |   | 11.11 | % |
| Subtotal, excluding held for sale  properties                      |       |                                                 |       |               |       | 176,818,472            |        | 6.09                  | %          | 172,310,212 |   | 5.83 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| ***Held-for-Sale Portfolio***                                      |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Teachers Insurance and Annuity Association  of America             |       | AmeriVest Plaza at Inverness                         |       | 1/10/2006          |       | 14,283,367             |        | 7.90                  | %          | 14,412,347 |   | 7.90 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Allstate Life Insurance Company                                    |       | Financial Plaza                                      |       | 10/5/2010          |       | 23,783,553             |        | 5.25                  | %          | 24,173,324 |   | 5.25 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Security Life of Denver Insurance Company                          |       | Keystone Office Park – 1st                      |       | 5/1/2022           |       | 4,149,592              |        | 8.00                  | %          | 4,236,333 |   | 8.00 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Security Life of Denver Insurance Company                          |       | Keystone Office Park – 2nd                      |       | 5/1/2022           |       | 466,140                |        | 8.63                  | %          | 474,284 |   | 8.63 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| KeyBank National Association – Senior  Secured Line of Credit |       | Chateau Plaza                                        |       |               | (4)        | 15,400,000             |        | 5.87                  | %          | 15,400,000 |   | 4.96 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Transatlantic Capital Company, LLC (3)                             |       | Texas State Buildings                                |       | N/A                |       | —                 |        | —                |       | 5,579,891 |   | 7.66 | % |
| Subtotal, held-for-sale properties                                 |       |                                                 |       |               |       | 58,082,652             |        | 6.29                  | %          | 64,276,179 |   | 6.19 | % |
|                                                               |       |                                                 |       |               |       |                   |        |                  |       |   |   |   |   |
| Total                                                              |       |                                                 |       |               |       | $                      | 234,901,124 |                  | 6.14       | % | $ | 236,586,391 |   | 5.92 | % |

 

----

(1)          Interest only,does not include amortization of deferred financing costs or any fees.

(2)          The amountrecorded reflects a net present value calculation based on a fair value rate of8%.  The actual loan balance assumed wasapproximately $698,000 at an interest rate of 15%.

(3)          On March 2,2005, the Company completed a Deed-in-Lieu Agreement to return these propertiesto the lender.

(4)          The Secured Facility amounts shown are per the original allocation underthe agreement as determined when the properties were added to thefacility.  Under certain amendments tothe loan agreement, additional payment amounts would be due upon the sale ofChateau Plaza from the proceeds of the sale and the related escrowreserve.  See *“DebtCovenants”* below for additional information.

 

8

----

 

The following tabledetails the scheduled maturities of debt outstanding at September 30, 2005:

 
| ** ** | ** ** | **Including Held-for-Sale  Properties** | ** **  | **Excluding Held-for-Sale  Properties** | ** ** |
|------------|------------|-----------------------------------------|-------------|-----------------------------------------|------------|
| 2005(1)    |       | $                                       | 765,913     |                                    | $          | 552,730 |   |
| 2006       |       | 81,282,483                              |        | 50,951,697                              |       |
| 2007       |       | 11,167,321                              |        | 10,433,756                              |       |
| 2008       |       | 38,057,259                              |        | 37,279,682                              |       |
| 2009       |       | 15,526,679                              |        | 14,702,341                              |       |
| Thereafter |       | 88,101,469                              |        | 62,898,266                              |       |
| Total      |       | $                                       | 234,901,124 |                                    | $          | 176,818,472 |   |

 

----

(1)          See *“Debt Covenants”* for potential additional mandatoryrepayments on the Unsecured and Secured Facilities during 2005.  See also Note 7, “Subsequent Events”, for anadditional repayment on the Secured and Unsecured Facility.

 

The change in debt duringthe nine months ended September 30, 2005 consisted of the following:

 
| ** **                                               | ** ** | **2005**   | ** **  |
|----------------------------------------------------------|------------|------------|-------------|
| Balance at  January 1                                    |       | $          | 236,586,391 |   |
| Additions                                                |       | 7,203,233  |        |
| Repayments                                               |       | (1,000,000 | )           |
| Debt extinguishment as part of deed-in-lieu  transaction |       | (5,565,859 | )           |
| Scheduled principal payments                             |       | (2,322,641 | )           |
| Balance at  September 30                                 |       | $          | 234,901,124 |   |
|                                                          |            |            |             |  |  |

 

*DebtCovenants*

 

Our debtinstruments generally contain certain covenants common to the type of facilityor borrowing, including financial covenants establishing minimum debt servicecoverage ratios and maximum leverage ratios. We were in compliance with allfinancial covenants pertaining to our debt instruments during the nine monthsended September 30, 2005.

 

On September1, 2005, the Company amended its Secured Facility and Unsecured Facility withKeyBank National Association (“KeyBank”), as Agent, to extend to September 14,2005 the mandatory prepayments due on or before September 1, 2005 of $10.0million on the Unsecured Facility and $5.0 million on the SecuredFacility.  These payment terms wererequired by the previous amendments to the facilities dated March 15, 2005.

 

On September14, 2005, the Company further amended its Secured Facility and UnsecuredFacility with KeyBank to extend the mandatory prepayment date to be on orbefore January 17, 2006 and to apply the entire mandatory payment of $15.0million to the Secured Facility.  Theamendments made the following material changes to the agreements:

 

The amendmentto the Secured Facility included: (i) a reduction from 70% to 65% as theborrowing base value should one of the two secured properties be released fromthe agreement, (ii) an extension of the maturity date from January 31, 2006 toApril 1, 2006, (iii) a reduction of the EBITDA to Fixed Charge covenant from1.35 to 1.0 to 1.25 to 1.0 and the elimination of loan fee amortization fromthe definition of interest expense included in the fixed charge calculation,(iv) the requirement of an employee contract with the Company’s current Presidentand CEO, (v) an increase in the mandatory prepayment from $5.0 million to $15.0million, due on or before January 17, 2006, and (vi) a requirement that fiftypercent of net sales proceeds received by the Company on any property sold thatis not secured by the facility and 100% of net sales proceeds on any propertythat is secured by the facility will be paid to KeyBank as Agent for thelenders.  In addition, certain minimumpayments were established in connection with the sale of secured properties.

 

9

----

 

The amendmentto the Unsecured Facility involved: (i) secondary mortgages and assignments ofleases and rents to the Unsecured Facility for the properties secured by theSecured Facility, (ii) a secondary collateral agreement for the Chateau ReserveAccount currently held by the Secured Facility, (iii) the requirement of anemployee contract with the Company’s current President and CEO, (iv) areduction of the EBITDA to Fixed Charge covenant from 1.35 to 1.0 to 1.25 to1.0 and the elimination of loan fee amortization from the definition ofinterest expense included in the fixed charge calculation, (v) the deletion ofthe mandatory prepayment due on the Unsecured Facility (formerly $10.0 million)and substituting the required payment of 50% of all net sales proceeds receivedby the Company on any property that is not secured by the Secured Facilityuntil the Secured Facility is paid in total and 100% of such proceedsthereafter.  The release of the securedproperties has minimum payment requirements identical to those contained in theAmended Secured Facility, as noted above, and the sales prices for propertiesnot secured by the Secured Facility are subject to certain approvals by thelender.

 

In addition,the Company amended its Chateau Reserve and Collateral Agreements to includethe Greenhill Park property.  Thisagreement requires net operating income, subject to certain adjustments, of theCompany’s Chateau Plaza property in Dallas, Texas, to be paid on a monthlybasis into a reserve account to be used for certain costs related to theproperty’s largest tenant.  Reserveamounts can now be drawn from the account as reimbursement for tenant-relatedcosts of the Greenhill Park property, also located in Dallas.  The amended agreement also calls for certainmandatory applications of the existing reserve balance to the loans upon therelease of either or both properties secured by the Secured Facility.  The balance in the reserve at September 30,2005 was $3.0 million.  Per theagreement, $1.2 million of the reserve balance is allocated to Greenhill Parkand the remaining $1.8 million is allocated to Chateau Plaza, which isclassified as held-for-sale and is included in discontinued operations (seeNote 4, “Discontinued Operations”).

 

As a result ofthe amendments to the Secured and Unsecured Facilities, the Company believesthat it will be able to comply with the revised covenants based on the 2005 and2006 budgeted results of operations and the strategic asset sale planpreviously adopted by the Board.  Inaddition, the Company believes it could meet its obligations under the amendedfacilities agreements by either: (i) completing a strategic transaction, whichmay include a sale or recapitalization of all or a portion of the company’sassets or a merger of the Company or (ii) obtaining additional financing byrefinancing certain assets.  If theCompany is unable to raise sufficient capital for the mandatory repayments, orif we are unable to remain in compliance with our debt covenants, the bankcould accelerate and demand repayment of outstanding amounts based on the termsof the amended facilities agreements.

 

6 – Loss Per Share

 

There are no adjustments necessary to the basic weighted average commonshares outstanding to arrive at the diluted weighted average common sharesoutstanding for the three or nine months ended September 30, 2005 and 2004 asthe Company recognized a net loss and the impact would be anti-dilutive.

 

7 – Subsequent Events

 

Effective October 1, 2005, the Company retained Trammell Crow Services,Inc. (“Trammell”) as property manager for its Denver portfolio.  Trammel will be responsible for numerousservices, including property and construction management.  The Company will pay Trammell a monthly feethat is the greater of (i) one and eight-tenths percent (1.8%) of monthly grossrevenues from the Denver properties or (ii) a minimum dollar amount perproperty whose aggregate is $12,500.

 

On October 3, 2005, the Company used the $4.4 million proceeds from thesale of Panorama Falls to pay down both its Secured and Unsecured Facilities inequal portions, with an additional $1.0 million in borrowing netted against thepayment on the Unsecured Facility.

 

10

----

 

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

 

The following discussion and analysis of the consolidated financialcondition and results of operations should be read in conjunction with thecondensed consolidated financial statements and notes thereto included in thisForm 10-Q and elsewhere.

 

Forward-LookingStatements

 

Certainstatements in this Form 10-Q that are not historical facts are “forward-lookingstatements” as that term is defined under the Private Securities LitigationReform Act of 1995.  Theseforward-looking statements are based on the Company’s current expectations,beliefs, assumptions, estimates and projections about the industry and marketsin which the Company operates.  Wordssuch as “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,”“estimates” and variations of such words and similar expressions are intendedto identify such forward-looking statements. Information concerning expected investment balances, expected fundingsources, planned investments, forecasted dates and revenue and expense growthassumptions are examples of forward-looking statements.  These statements are not guarantees of futureperformance and involve certain risks, uncertainties and assumptions, which aredifficult to predict and many of which are beyond the Company’s control.  Therefore, actual outcomes and results maydiffer materially from what is expressed, forecasted or implied in suchforward-looking statements.  The Companyundertakes no obligation to update publicly any forward-looking statements,whether as a result of new information, future events or otherwise, except asrequired by applicable law.

 

The Company’soperating results depend primarily on income from its properties, which aresubstantially influenced by supply and demand for such properties, operatingexpense levels, property level operations and the pace and price at which theCompany can develop, acquire or dispose of such properties.  Capital and credit market conditions, whichaffect the Company’s cost of capital, also influence operating results.  See “Item 1. Description of Business” in theCompany’s Annual Report on Form 10-K for the period ending December 31, 2004for a more complete discussion of risk factors that could impact the Company’sfuture financial performance.

 

Overview

 

As used herein, “we”, “us”, “our” and “the Company” refer to AmeriVestProperties Inc., a Maryland corporation. We were incorporated in the State ofMaryland in 1999. We are a fully-integrated, self-administered and self-managedREIT and primarily invest in and operate commercial office buildings in selectmarkets and lease the commercial office buildings to small and medium sizetenants. At September 30, 2005, we owned 16 properties, which included anaggregate of 2,451,002 square feet compared to 29 properties totaling 2,628,044square feet at September 30, 2004, including properties classified asdiscontinued operations.  Excludingproperties classified as discontinued operations, we had 12 properties, whichrepresents an aggregate of 1,734,786 square feet at September 30, 2005 and 11properties, which represent an aggregate of 1,626,603 square feet at September30, 2004.  We generate revenue primarily through the rental of office space at ourproperties.  The demand for our productsis correlated, in general, to the national economy, and more specifically, tothe demand for office space by small and medium size tenants in metropolitanDenver, Dallas, Phoenix and Indianapolis, where we currently marketing certainof our assets.  We have elected tobe taxed as a REIT for federal income tax purposes and generally will not besubject to federal income tax if we distribute at least 90% of our taxableincome and comply with a number of organizational and operational requirements.

 

11

----

 

Results Of Operations

 

***Comparison of the three months endedSeptember 30, 2005 to September 30, 2004:***

* *
| ** **                                      | ** ** | **2005**   | ** ** | **2004**   | ** ** | **Change** | ** ** |
|-------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
|                                            |       |       |       |       |       |       |       |
| Real estate  operating revenue:                 |       |       |       |       |       |       |       |
| Rental revenue                                  |       | $          | 8,609,254  |       | $          | 7,106,977  |       | $ | 1,502,277 |   |
|                                            |       |       |       |       |       |       |       |
| Real estate  operating expenses:                |       |       |       |       |       |       |       |
| Property operating expenses-                    |       |       |       |       |       |       |       |
| Operating expenses                              |       | 2,307,499  |       | 2,244,619  |       | 62,880     |       |
| Real estate taxes                               |       | 974,461    |       | 820,352    |       | 154,109    |       |
| General and administrative expenses             |       | 1,082,078  |       | 1,105,901  |       | (23,823    | )          |
| Interest expense                                |       | 3,111,792  |       | 2,177,411  |       | 934,381    |       |
| Depreciation and amortization expense           |       | 3,247,678  |       | 2,368,006  |       | 879,672    |       |
| Total operating expense                         |       | 10,723,508 |       | 8,716,289  |       | 2,007,219  |       |
|                                            |       |       |       |       |       |       |       |
| Loss from  continuing operations                |       | (2,114,254 | )          | (1,609,312 | )          | (504,942   | )          |
|                                            |       |       |       |       |       |       |       |
| Other  income:                                  |       |       |       |       |       |       |       |
| Interest income                                 |       | 24,525     |       | 29,139     |       | (4,614     | )          |
| Total other income                              |       | 24,525     |       | 29,139     |       | (4,614     | )          |
|                                            |       |       |       |       |       |       |       |
| Loss before discontinued  operations            |       | (2,089,729 | )          | (1,580,173 | )          | (509,556   | )          |
|                                            |       |       |       |       |       |       |       |
| Net  income/(loss) from discontinued operations |       | (3,340,714 | )          | 278,279    |       | (3,618,993 | )          |
|                                            |       |       |       |       |       |       |       |
| Net loss                                        |       | $          | (5,430,443 | )          | $          | (1,301,894 | )          | $ | (4,128,549 | ) |

 

*Rental revenue* – Rental revenue increased approximately$1.5 million, or 21.1%, during the three months ended September 30, 2005 ascompared to the same period of 2004. Approximately $1.4 million of the increase is due to the inclusion ofthe operating results of the post-June 30, 2004 acquisitions (Parkway CenterIII and Hampton Court).  The remainingincrease is due to increased revenues, primarily from increased occupancy, fromour properties that were fully operational during the entire third quarter of2004 and 2005.  Revenue for the threemonths ended September 30, 2005 was negatively impacted by a non-recurringyear-to-date reclass for certain utility reimbursements of $202,000; thisreclass decreased revenue and operating expenses during the period.  At September 30, 2005, the Company hasapproximately 53,000 square feet of leases that are signed and are scheduled tocommence during the fourth quarter of 2005 and first quarter of 2006.   The rental revenue from these commencementswill be partially offset by the negative impact of a continuing roll-down ineffective rental rates from expiring leases and the straight-line adjustmentrelated to the Dean Foods lease amendment, which was executed June 30,2005.  This adjustment is approximately$150,000 per quarter for the remainder of 2005.

 

*Property operating expenses* – Total property operating expenses(operating expenses and real estate taxes) increased approximately $217,000, or7.1%, during the third quarter of 2005 as compared to the same period of2004.  This increase is comprised of a$63,000 increase in operating expenses and a $154,000 increase in real estatetaxes.  Approximately $432,000 of theincrease in operating expenses is due to the inclusion of the post-June 30,2004 acquisitions, which is partially offset by a $363,000 decrease from ourproperties that were fully operational during the entire third quarter of 2005.The decrease in operating expenses for the three months ended September 30,2005, were primarily due to a $161,000 decrease in ground lease expense due tothe acquisition of the Greenhill Park land in October 2004 and the utilityreimbursement reclass of $202,000 mentioned above.  Real estate taxes, which are the largestcomponent of property operating expenses, increased approximately $154,000;approximately $170,000 of this increase is due to the post-June 30, 2004acquisitions, partially offset by reductions in assessments of real estatevalues on certain of our properties.  TheCompany has focused, and will continue to focus, on the ongoing management ofcontrollable operating expenses, including aggressively challenging increasedreal estate tax assessments.

 

12

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*General and administrative expenses* – General and administrative expensesdecreased approximately $24,000, or 2.2%, during the third quarter of 2005 ascompared to the same period of 2004. During the three months ended September 30, 2005, the Company recognizedapproximately $185,000 for the vesting of restricted shares related to certainchange in control and executive employment agreements and approximately $39,000for costs related to the evaluation of strategic alternatives. Legal andconsulting fees decreased approximately $89,000 for the three months endedSeptember 30, 2005 as compared to the same period of 2004.

 

*Interest expense –* Interest expense increased by approximately$934,000, or 42.9%, during the third quarter of 2005 as compared to the sameperiod of 2004.  This increase isprimarily due to the borrowings the Company incurred for acquisitions anddividend payments during 2004 and working capital during 2004 and 2005.   The remainder of the increase isprimarily due to the acquisition of the land underlying the Greenhill Parkbuilding, which was previously subject to a ground lease, and higher interestrates on our variable rate debt, which has increased since 2004.  Proceeds from anticipated asset sales will beused to pay down existing debt, which could impact interest expense during thefourth quarter of 2005, depending on the timing of the sales.

 

*Depreciation and amortization*– Depreciation and amortization expense increased approximately $880,000, or37.1%, during the third quarter of 2005 as compared to the same period of2004.  This increase is primarily due tothe post-June 30, 2004 acquisitions and additional capital improvements, tenantimprovements and leasing commissions on our current real estate investments.

 

*Discontinued operations –*The results of operations for propertiessold during the period or designated as held-for-sale at the end of the periodare required to be classified as discontinued operations.  At September 30, 2005, the Company had fourproperties classified as held-for-sale under the provisions of SFAS No. 144.  Accordingly, we have classified the operatingearnings and impairment from these properties within discontinued operationsfor the three months ended September 30, 2005 and 2004.  During the nine months ended September 30,2005, the Company sold its 20% equity interest in its joint venture (PanoramaFalls) and completed a Deed-in-Lieu Agreement to return its 13 non-coreTexas State Buildings to the lender. During the twelve months ended December 31, 2004, the Company sold itsTexas Bank Buildings.   The decrease inrental revenues for the three months ended September 30, 2005 as compared tothe same period of 2004 is primarily due to the results of the Texas StateBuildings and decreased average occupancy. The decrease in operating expenses for the three months ended September30, 2005 as compared to the same period of 2004 is primarily due to the TexasState Buildings. The operating results of the disposed properties and therelated impairment and gain/loss are also classified as discontinued for thethree months ended September 30, 2005 and 2004. The following is a summary of net earnings from discontinued operations:

 
| ** **                                        | ** ** | **Three Months Ended September 30,** | ** ** |
|---------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                        | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| Rental  revenue                                   |       | $                                    | 3,385,491  |   | $ | 4,328,151 |   |
|                                              |       |                                 |       |   |   |
| Property  operating expenses -                    |       |                                 |       |   |   |
| Operating expenses                                |       | 1,077,694                            |       | 1,315,390 |   |
| Real estate taxes                                 |       | 473,712                              |       | 573,601 |   |
| Interest  expense                                 |       | 1,034,796                            |       | 892,101 |   |
| Depreciation  and amortization expense            |       | 1,504,598                            |       | 1,372,874 |   |
| Impairment  of real estate                        |       | 2,720,826                            |       | — |   |
| Total expenses                                    |       | 6,811,626                            |       | 4,153,966 |   |
|                                              |       |                                 |       |   |   |
| Minority  interest                                |       | 84,420                               |       | 104,094 |   |
| Gain on  disposition                              |       | 1,001                                |       | — |   |
|                                              |       |                                 |       |   |   |
| Net  earnings/(loss) from discontinued operations |       | $                                    | (3,340,714 | ) | $ | 278,279 |   |

 

13

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***Comparison of the nine months ended September30, 2005 to September 30, 2004:***

 
| ** **                                        | ** ** | **2005**   | ** **  | **2004**   | ** ** | **Change** | ** ** |
|---------------------------------------------------|------------|------------|-------------|------------|------------|------------|------------|
|                                              |       |       |        |       |       |       |       |
| Real estate  operating revenue:                   |       |       |        |       |       |       |       |
| Rental revenue                                    |       | $          | 25,952,853  |       | $          | 19,718,169 |       | $ | 6,234,684 |   |
|                                              |       |       |        |       |       |       |       |
| Real estate  operating expenses:                  |       |       |        |       |       |       |       |
| Property operating expenses-                      |       |       |        |       |       |       |       |
| Operating expenses                                |       | 6,901,892  |        | 6,017,444  |       | 884,448    |       |
| Real estate taxes                                 |       | 3,527,521  |        | 2,312,209  |       | 1,215,312  |       |
| General and administrative expenses               |       | 3,880,678  |        | 3,022,715  |       | 857,963    |       |
| Interest expense                                  |       | 8,860,849  |        | 6,003,920  |       | 2,856,929  |       |
| Depreciation and amortization expense             |       | 9,691,171  |        | 6,033,176  |       | 3,657,995  |       |
| Total operating expense                           |       | 32,862,111 |        | 23,389,464 |       | 9,472,647  |       |
|                                              |       |       |        |       |       |       |       |
| Loss from  continuing operations                  |       | (6,909,258 | )           | (3,671,295 | )          | (3,237,963 | )          |
|                                              |       |       |        |       |       |       |       |
| Other  income:                                    |       |       |        |       |       |       |       |
| Interest income                                   |       | 42,529     |        | 55,395     |       | (12,866    | )          |
| Total other income                                |       | 42,529     |        | 55,395     |       | (12,866    | )          |
|                                              |       |       |        |       |       |       |       |
| Loss before  discontinued operations              |       | (6,866,729 | )           | (3,615,900 | )          | (3,250,829 | )          |
|                                              |       |       |        |       |       |       |       |
| Net  earnings/(loss) from discontinued operations |       | (4,238,559 | )           | 1,391,407  |       | (5,629,966 | )          |
|                                              |       |       |        |       |       |       |       |
| Net loss                                          |       | $          | (11,105,288 | )          | $          | (2,224,493 | )          | $ | (8,880,795 | ) |

* *

*Rental revenue* – Rental revenue increased approximately$6.2 million, or 31.6%, during the nine months ended September 30, 2005 ascompared to the same period of 2004.  Theincrease is primarily due to the inclusion of the operating results of theproperties acquired during 2004 (Camelback Lakes, Hackberry View, ParkwayCenter III and Hampton Court), which contributed approximately $6.2 million ofthe increase.  Revenue for the ninemonths ended September 30, 2005 was negatively impacted by a non-recurringyear-to-date reclass for certain utility reimbursements of $202,000; thisreclass decreased revenue and operating expenses during the period.  At September 30, 2005, the Company hasapproximately 53,000 square feet of leases that are signed and are scheduled tocommence during 2005.   The rentalrevenue from these commencements will be partially offset by the negativeimpact of the roll-down in rental rates on expiring leases and thestraight-line adjustment related to the Dean Foods lease amendment, which wasexecuted on June 30, 2005.

 

*Property operating expenses* – Total property operating expenses(operating expenses and real estate taxes) increased approximately $2.1million, or 25.2%, during the nine months ended September 30, 2005 as comparedto the same period of 2004.  Thisincrease is comprised of an $884,000 increase in operating expenses and a $1.2million increase in real estate taxes. The increase in operating expenses is primarily attributable to the 2004acquisitions, which represent $1.6 million of the increase.  The increase is partially offset by adecrease in our properties that were fully operational during the entire ninemonths ended September 30, 2004 and 2005, primarily due to a $482,000 decreasein ground lease expense due to the acquisition in October 2004 of the GreenhillPark land that was subject to a ground lease and the utility reimbursementreclass of $202,000 mentioned above. Real estate taxes, which are the largestcomponent of operating expenses, increased approximately $1.2 million primarilydue to the 2004 acquisitions.  TheCompany has focused, and will continue to focus, on the ongoing management ofcontrollable operating expenses, including aggressively challenging increasedreal estate tax assessments.

 

14

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*General and administrative expenses* – General and administrative expensesincreased approximately $858,000, or 28.4%, during the nine months endedSeptember 30, 2005 as compared to the same period of 2004.  Approximately $285,400 of the increase is dueto the one-time severance for the Company’s former Chief Executive Officer, whoresigned on April 30, 2005.  In addition,approximately $424,000 of the remaining increase is related to audit andconsulting fees primarily incurred by the Company’s efforts to comply with theSarbanes-Oxley Act of 2002.  During thenine months ended September 30, 2005, the Company also expensed approximately$312,000 of costs related to the evaluation of strategic alternatives and anincremental $185,000 for the vesting of restricted shares related to certainchange in control and executive employment agreements.

 

*Interest expense –* Interest expense increased by approximately$2.9 million, or 47.6%, during the nine months ended September 30, 2005 ascompared to the same period of 2004. This increase is primarily due to the borrowings the Company incurredfor acquisitions and dividend payments during 2004 and working capital during2004 and 2005.   The remainder ofthe increase is primarily due to the acquisition of the land underlying theGreenhill Park building, which was previously subject to a ground lease, andhigher interest rates on our variable rate debt.  Proceeds from anticipated asset sales will beused to pay down existing debt, which could impact interest expense during thefourth quarter of 2005, depending on the timing of the sales.

 

*Depreciationand amortization* – Depreciation and amortizationexpense increased approximately $3.7 million, or 60.6%, during the nine monthsended September 30, 2005 as compared to the same period of 2004.  This increase is primarily due to the 2004acquisitions and additional capital improvements, tenant improvements andleasing commissions on our current real estate investments.

 

*Discontinued operations –*The results of operations for propertiessold during the period or designated as held-for-sale at the end of the periodare required to be classified as discontinued operations.  At September 30, 2005, the Company had fourproperties classified as held-for-sale under the provisions of SFAS No.144.  Accordingly, we have classified theoperating earnings and impairment from these properties within discontinuedoperations for the nine months ended September 30, 2005 and 2004.  During the nine months ended September 30,2005, the Company sold its 20% equity interest in its joint venture (PanoramaFalls) and completed a Deed-in-Lieu Agreement to return its 13 non-core TexasState Buildings to the lender.  Duringthe twelve months ended December 31, 2004, the Company sold its Texas BankBuildings. The decrease in rental revenues for the nine months ended September30, 2005 as compared to the same period of 2004 is primarily due to the resultsof the Texas Bank Buildings and the Texas State Buildings and decreased averageoccupancy.  The decrease in operatingexpenses for the three months ended September 30, 2005 as compared to the sameperiod of 2004 is primarily due to the Texas Bank Buildings and the Texas StateBuildings. The operating results of the disposed properties and the relatedimpairment and gain/loss are also classified as discontinued for the ninemonths ended September 30, 2005 and 2004. The following is a summary of net earnings from discontinued operations:

 
| ** **                                                               | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                               | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| Rental  revenue                                                          |       | $                                    | 11,186,449 |   | $ | 12,985,506 |   |
|                                                                     |       |                                 |       |   |   |
| Property  operating expenses –                                      |       |                                 |       |   |   |
| Operating expenses                                                       |       | 3,429,444                            |       | 3,900,707 |   |
| Real estate taxes                                                        |       | 1,625,767                            |       | 1,813,739 |   |
| Interest  expense                                                        |       | 3,097,888                            |       | 2,643,066 |   |
| Deferred financing costs associated with  the disposition of real estate |       | 215,993                              |       | — |   |
| Depreciation  and amortization expense                                   |       | 4,599,656                            |       | 3,957,999 |   |
| Impairment  of real estate                                               |       | 2,720,826                            |       | — |   |
| Equity in  loss of affiliate                                             |       | —                               |       | 18,076 |   |
| Total expenses                                                           |       | 15,689,574                           |       | 12,333,587 |   |
|                                                                     |       |                                 |       |   |   |
| Minority  interest                                                       |       | 285,369                              |       | 165,212 |   |
| Gain/(loss)  on disposition                                              |       | (20,803                              | )          | 574,276 |   |
|                                                                     |       |                                 |       |   |   |
| Net  earnings/(loss) from discontinued operations                        |       | $                                    | (4,238,559 | ) | $ | 1,391,407 |   |

 

15

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Liquidity andCapital Resources

Our net cashprovided by operating activities is primarily dependent upon the occupancylevel of our properties, the rental rates on our leases, our ability to collectrent from our tenants, and the level of operating and other expenses. Our netcash provided by operating activities has been a significant source ofliquidity to help fund debt service, capital improvements, tenant improvementsand leasing costs for operating properties as well as distributions to ourshareholders.  We do not plan to make anynew acquisitions until such time as our finances allow.

 

On September1, 2005, the Company amended its Secured Facility and Unsecured Facility withKeyBank National Association (“KeyBank”), as Agent, to extend to September 14,2005 the mandatory prepayments due on or before September 1, 2005 of $10.0million on the Unsecured Facility and $5.0 million on the Secured Facility.  These payment terms were required by theprevious amendments to the facilities dated March 15, 2005.

 

On September14, 2005, the Company further amended its Secured Facility and UnsecuredFacility with KeyBank to extend the mandatory prepayment date to be on orbefore January 17, 2006 and to apply the entire mandatory payment of $15.0million to the Secured Facility.  Theamendments made the following material changes to the agreements:

 

The amendmentto the Secured Facility included: (i) a reduction from 70% to 65% as theborrowing base value should one of the two secured properties be released fromthe agreement, (ii) an extension of the maturity date from January 31, 2006 toApril 1, 2006, (iii) a reduction of the EBITDA to Fixed Charge covenant from1.35 to 1.0 to 1.25 to 1.0 and the elimination of loan fee amortization fromthe definition of interest expense included in the fixed charge calculation,(iv) the requirement of an employee contract with the Company’s currentPresident and CEO, (v) an increase in the mandatory prepayment from $5.0million to $15.0 million, due on or before January 17, 2006, and (vi) arequirement that fifty percent of net sales proceeds received by the Company onany property sold that is not secured by the facility and 100% of net sales proceedson any property that is secured by the facility will be paid to KeyBank asAgent for the lenders.  In addition,certain minimum payments were established in connection with the sale ofsecured properties.

 

The amendmentto the Unsecured Facility involved: (i)secondary mortgages and assignments ofleases and rents to the Unsecured Facility for the properties secured by theSecured Facility, (ii) a secondary collateral agreement for the Chateau ReserveAccount currently held by the Secured Facility, (iii) the requirement of anemployee contract with the Company’s current President and CEO, (iv) areduction of the EBITDA to Fixed Charge covenant from 1.35 to 1.0 to 1.25 to1.0 and the elimination of loan fee amortization from the definition ofinterest expense included in the fixed charge calculation, (v) the deletion ofthe mandatory prepayment due on the Unsecured Facility (formerly $10.0 million)and substituting the required payment of 50% of all net sales proceeds receivedby the Company on any property that is not secured by the Secured Facilityuntil the Secured Facility is paid in total and 100% of such proceedsthereafter.  The release of the securedproperties has minimum payment requirements identical to those contained in theAmended Secured Facility, as noted above, and the sales prices for propertiesnot secured by the Secured Facility are subject to certain approvals by thelender.

 

In addition,the Company amended its Chateau Reserve and Collateral Agreements to includethe Greenhill Park property.  Thisagreement requires net operating income, subject to certain adjustments, of theCompany’s Chateau Plaza property in Dallas, Texas, to be paid on a monthlybasis into a reserve account to be used for certain costs related to theproperty’s largest tenant.  Reserveamounts can now be drawn from the account as reimbursement for tenant-relatedcosts of the Greenhill Park property, also located in Dallas.  The amended agreement also calls for certainmandatory applications of the existing reserve balance to the loans upon therelease of either or both properties secured by the Secured Facility.  The balance in the reserve at September 30,2005 was $3.0 million.  Per the agreement,$1.2 million of the reserve balance is allocated to Greenhill Park and theremaining $1.8 million is allocated to Chateau Plaza, which is classified asheld-for-sale and is included in discontinued operations (see Note 4,“Discontinued Operations”).

 

16

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As a result ofthe amendments to the Secured and Unsecured Facilities, the Company believesthat it will be able to comply with the revised covenants based on the 2005 and2006 budgeted results of operations and the strategic asset sale planpreviously adopted by the Board.  In addition,the Company believes it could meet its obligations under the amended facilitiesagreements by either: (i) completing a strategic transaction, which may includea sale or recapitalization of all or a portion of the company’s assets or amerger of the Company or (ii) obtaining additional financing by refinancingcertain assets.  If the Company is unableto raise sufficient capital for the mandatory repayments, or if we are unableto remain in compliance with our debt covenants, the bank could accelerate anddemand repayment of outstanding amounts based on the terms of the amendedfacilities agreements, which could impact our ability to continue as a goingconcern.

 

On September1, 2005, the Board announced that it had continued the suspension of the dividendfor the third quarter.  The Board intendsto review and consider the resumption of a dividend in subsequent quartersbased on a number of factors, including: (i) the completion of a strategictransaction or other significant capital event, such as refinancing or assetsales; and (ii) the Company’s financial results, capital resources andliquidity needs at that time.

 

A materialadverse change in our net cash provided by operating activities may affect ourability to fund the items listed above and may affect the financial performancecovenants under our lines of credit. If we fail to meet our financialperformance covenants and to reach a satisfactory resolution with our lenders,our lines of credit could become unavailable to us or the interest charged onthe line of credit could increase. Any of these circumstances could adverselyaffect our ability to fund working capital and unanticipated cash needs anddevelopment costs.

* *

*Operating Activities*

Net cash flowsprovided by operations decreased approximately $2.1 million, or 27.9%, for thenine months ended September 30, 2005 as compared to the same period in2004.  The decrease is primarily due tochanges in assets and liabilities primarily due to the timing of payments forreal estate taxes and other accounts payable, partially offset by the inclusionof the operations from property acquisitions made during 2004.

 

During thenine months ended September 30, 2005, the properties included in discontinuedoperations contributed approximately $3.6 million to net cash flows provided byoperations.

 

*Investing Activities*

Net cash flowsused in investing activities decreased approximately $64.4 million, or 95.0%,for the nine months ended September 30, 2005 as compared to the same period in2004.  This decrease is primarily due tothe $60.0 million in acquisitions in the nine months ended September 30, 2004,which was partially offset by the net proceeds from the sale of the Texas BankBuildings of $4.0 million.  In addition,there was a $3.0 million decrease in cash used for capital expenditures, tenantimprovements and leasing commissions during the nine months ended September 30,2005 as compared to the same period in 2004. The nine months ended September 30, 2005 also includes net proceeds ofapproximately $4.4 million for the disposition of Panorama Falls.

 

During thenine months ended September 30, 2005, the properties included in discontinuedoperations accounted for approximately $800,000, $1.9 million and $1.3 millionof the net cash flows used for capital expenditures, tenant improvements andleasing commissions, respectively.

 

*FinancingActivities*

Net cash flowsprovided by financing activities decreased approximately $64.1 million, or104.8%, for the nine months ended September 30, 2005 as compared to the sameperiod of 2004.  This decrease isprimarily due to the net proceeds of $39.9 million from the 2004 common stockoffering, which were used to pay down the Company’s Secured and UnsecuredFacilities, and additions to mortgage loans due to acquisitions.   In addition, during the nine months endedSeptember 30, 2005, net cash used for escrow deposits and restricted cashincreased by approximately $2.1 million as compared to the same period of 2004,primarily due to the proceeds from the disposition of Panorama Falls, whichwere used to pay down the Company’s Secured and Unsecured Facilities in thefourth quarter of 2005.  The remainder ofthe change is primarily composed of scheduled principal payments on mortgageloans and dividend payments.

 

17

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*FutureSources of Capital*

The Companyreceives base rent under non-cancelable tenant leases and most leases providefor additional rent based on increases in operating expenses.

 

The Companyhas two credit facilities: the Secured Facility and the UnsecuredFacility.   At September 30, 2005, therewas $32.9 million outstanding under the Secured Facility and $31.1 millionoutstanding under the Unsecured Facility.

 

As notedabove, as a result of the amendments to our Secured Facility and UnsecuredFacility, our ability to borrow additional amounts under the Secured Facilityhas been terminated and our ability to incur additional borrowings under theUnsecured Facility is subject to the approval of the lender in its sole andabsolute discretion. Moreover, the amendments to the Unsecured Facilityrestrict our ability to incur any additional indebtedness from any other partywithout the prior written consent of the lender. To the extent that we areunable to borrow additional funds, we may be unable to make any additionalacquisitions of office properties and could be limited in our ability to fundtenant improvements or make other necessary or desirable portfolio capitalexpenditures unless we issue additional equity in the Company or sell one ormore of our existing properties. In addition, we would be dependent upon cashflow from our operations to cover these capital expenditures and our corporateoperating expenses. As a result, there can be no assurance that we will be ableto execute our business plan, and our limited access to capital could have amaterial adverse effect on our financial condition and our operations.

 

Subject to theresults of our strategic alternatives review and the availability of capital,the Company may seek to acquire additional properties. In order to do so, wewill try to utilize current sources of debt financing and possibly incuradditional debt and/or obtain additional equity capital. The issuance of suchsecurities or increase in debt to acquire additional properties, of which thereis no assurance, could adversely affect the amount of cash available to paydividends to shareholders. Due to the unknown outcome of the Company’s reviewof strategic alternatives, it is unclear whether we will be able to effectivelyaccess the public equity markets or incur additional debt at attractiverates.  If a strategic transaction iscompleted, the Company could pay Bear Stearns a transaction fee that would varybased on the type of arrangement entered into by the Company, which could besubstantial.

 

*Uses of Capital, Contractual Commitments and Off-Balance SheetArrangements*

The following table details the contractual obligations for scheduleddebt maturities at September 30, 2005.

 
| ** ** | ** ** | **Including Held-for-Sale Properties** | ** **  | **Excluding Held-for-Sale Properties** | ** ** |
|------------|------------|----------------------------------------|-------------|----------------------------------------|------------|
| 2005 (1)   |       | $                                      | 765,913     |                                   | $          | 552,730 |   |
| 2006       |       | 81,282,483                             |        | 50,951,697                             |       |
| 2007       |       | 11,167,321                             |        | 10,433,756                             |       |
| 2008       |       | 38,057,259                             |        | 37,279,682                             |       |
| 2009       |       | 15,526,679                             |        | 14,702,341                             |       |
| Thereafter |       | 88,101,469                             |        | 62,898,266                             |       |
| Total      |       | $                                      | 234,901,124 |                                   | $          | 176,818,472 |   |

 

----

(1)          See *“Debt Covenants”* for potential additional mandatoryrepayments on the Unsecured and Secured Facilities during 2005.  See also Note 7, “Subsequent Events”, for anadditional repayment on the Secured and Unsecured Facility.

 

*InterestRate Information*

As ofSeptember 30, 2005, approximately 73% of the total mortgage loans outstandingare fixed rate loans with a weighted-average interest rate of 6.1% and 27% arevariable rate loans with a weighted-average interest rate of 6.3%.

 

*DebtCovenants*

Certain of theCompany’s debt instruments contain covenants common to that type of facility orborrowing, including financial covenants establishing minimum debt servicecoverage and maximum leverage ratios. The Company was in compliance with all financial covenants pertaining toits debt instruments during the nine months ended September 30, 2005.

 

18

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CriticalAccounting Policies

The discussionand analysis of the Company’s financial condition and results of operations arebased upon our unaudited condensed consolidated financial statements, whichhave been prepared in accordance with U.S. generally accepted accountingprinciples.  The preparation of thesefinancial statements require management to make estimates and judgments thataffect the reported amounts of assets and liabilities, revenues and expenses,and related disclosure of contingent assets and liabilities at the date of thefinancial statements.  Actual results maydiffer from these estimates under different assumptions or conditions.

 

Criticalaccounting policies are defined as those that are reflective of significantjudgments and uncertainties, which would potentially result in materiallydifferent results under different assumptions and conditions.  The Company believes that its criticalaccounting policies include those items described below.

 

*Investment in Real Estate*

Uponacquisition, the purchase price of a property is allocated to land, buildingand improvements and other intangible assets and associated liabilities asrequired by SFAS No. 141 “Business Combinations.”  The allocation to land is based on anestimate of its fair value based on all available information, includingappraisals.  The allocation to otherintangible assets represents the value associated with the in-place leases,including leasing commission, legal and other related costs.  Also required by SFAS No. 141 is the creationof an intangible asset or liability resulting from in-place leases being aboveor below the market rental rates on the date of acquisition.  This asset or liability is amortized over thelife of the related in-place leases as an adjustment to revenue.

 

Investment inreal estate is stated at cost. Depreciation and amortization are computed on a straight-line basis overthe estimated useful lives as follows:

 
| **Description**                                                              | ** ** | **Estimated Useful Lives** |
|------------------------------------------------------------------------------|------------|----------------------------|
| Land                                                                         |       | Not depreciated            |
| Buildings  and improvements                                                  |       | 20 to 40  years            |
| Furniture,  fixtures and equipment                                           |       | 5 to 7 years               |
| Tenant improvements, tenant leasing  commissions and other intangible assets |       | Term of  related lease     |

 

Maintenanceand repairs are expensed as incurred and improvements are capitalized.  The cost of assets sold or retired and therelated accumulated depreciation and/or amortization are removed from theaccounts and the resulting gain or loss is reflected in operations in theperiod in which such sale or retirement occurs. Allocating the purchase price of a property to the different componentsof investment in real estate, determining whether expenditures meet thecriteria for capitalization and assigning depreciable lives is considered to becritical because it requires management to exercise significant judgment.

 

The Companycapitalizes incremental internal project costs, primarily payroll and payrollrelated costs, associated with development, renovation, rehabilitation andtenant improvements if such costs are incremental and identifiable to aspecific activity.  Capitalized costs areincluded in the investment basis of the real estate assets and are depreciatedover their estimated useful lives.

 

*Valuation of Real Estate Assets*

Long-livedassets to be held and used by the Company are reviewed for impairment at leastquarterly and whenever events or changes in circumstances indicate that thecarrying amount of an asset may not be recoverable, including the Companyelecting to sell a property. The Company continually evaluates therecoverability of its long-lived assets based on estimated future cash flowsfrom and the estimated liquidation value of such long-lived assets, andprovides for impairment if such undiscounted cash flows are insufficient torecover the carrying amount of the long-lived asset.  Valuation of real estate assets is consideredto be critical because the evaluation of impairment and the determination offair values involve management’s assumptions relating to future economic eventsthat could materially affect the determination of the fair value, and thereforethe carrying value of real estate.

 

19

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*Revenue Recognition*

Certain leasesprovide for tenant occupancy during periods for which no rent is due or whereminimum rent payments increase during the term of the lease.  Rental revenue is recorded for the full termof each lease on a straight-line basis. Accordingly, the Company records a receivable from tenants for rentsthat it expects to collect over the remaining lease term as deferred rentsreceivable.  When the Company acquires aproperty, the term of the existing leases is considered to commence as of theacquisition date for the purposes of this calculation.  Revenue recognition is considered to becritical because the evaluation of the realizability of such deferred rentsreceivable involves management’s assumptions relating to such tenant’sviability.

 

*Income Taxes*

The Companyoperates in a manner intended to enable it to continue to qualify as a REITunder Sections 856-860 of the Internal Revenue Code of 1986, as amended. Underthose sections, a REIT which distributes at least 90% of its REIT taxableincome as a dividend to its shareholders each year and which meets certainother conditions will not be taxed on that portion of its taxable income whichis distributed to its shareholders. The Company intends to distribute to ourshareholders 90% of our taxable income. Therefore, no provision for Federalincome taxes is required. If the Company fails to distribute the requiredamount of income to our shareholders, or fails to meet other REIT requirements,we may fail to qualify as a REIT and substantial adverse tax consequences mayresult.

 

ContractualCommitments

At September30, 2005, the Company had contractual commitments of approximately $1.6million, $582,000, and $431,000 for tenant improvements, capital expenditures,and leasing commissions, respectively. The Company anticipates that a majority of these commitments will berelieved during the fourth quarter of 2005 and first quarter of 2006.

 

Item 3*.*    Quantitativeand Qualitative Disclosures About Market Risk

Our futureearnings, cash flows and fair values relevant to financial instruments dependupon prevalent market rates for those financial instruments.  Market risk is the risk of loss from adversechanges in market prices and interest rates. We manage our market risk by matching projected cash inflows fromoperating, investing and financing activities with projected cash outflows tofund debt service, acquisitions, capital expenditures, dividends and other cashrequirements.  The majority of ouroutstanding debt obligations have fixed interest rates which limit the risk offluctuating interest rates.  At September30, 2005, our interest rate risk only related to our Secured Facility and ourUnsecured Facility, of which there was $32.9 million and $31.1 millionoutstanding, respectively.  Based on theamounts outstanding at September 30, 2005, the annual impact of a 1% change ininterest rates would be approximately $639,600. There have been no material changes to our market risk profile sinceDecember 31, 2004.  See “Item 7a.  Quantitative and Qualitative Disclosure aboutMarket Risk” in our 2004 Annual Report on Form 10-K for detailed informationabout the qualitative and quantitative disclosures about our market risk.

 

Item 4.    Controls and Procedures

The Company carried out an evaluation under the supervision and withparticipation of the Company’s management, including our Chief ExecutiveOfficer and Chief Financial Officer, of the effectiveness of the Company’sdisclosure controls and procedures pursuant to Rule 13a-15 under the SecuritiesExchange Act of 1934 as of September 30, 2005. Based on their evaluation, our Chief Executive Officer and ChiefFinancial Officer have concluded that disclosure controls and procedures wereeffective as of the end of the period covered by this report to ensure thatinformation required to be disclosed by the Company in its reports that itfiles or submits under the Securities Exchange Act of 1934 is recorded,processed, summarized and reported within the time periods specified in theSecurities and Exchange Commissions rules and forms.  Subsequent to September 30, 2005, there havebeen no significant changes in the Company’s internal controls over financialreporting that occurred during the period covered by this report that hasmaterially affected, or is reasonably likely to materially affect, theCompany’s internal control over financial reporting.

 

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**Part II.**   **Other Information**

 

Item 1.    LegalProceedings

No update.

 

Item 2.    Changes in Securities andUse of Proceeds

No changes.

 

Item 3.    DefaultsUpon Senior Securities

None.

 

Item 4.    Submission of Matters to aVote of Security Holders

None.

 

Item 5.    Other Information

None.

 

Item 6.    Exhibits

10.1        Property Management Agreement between AmeriVestProperties Inc. and Trammell Crow Company dated August 30, 2005

31.1        Certifications of Chief Executive Officerpursuant to section 302 of the Sarbanes-Oxley Act of 2002.

31.2        Certification of Chief Financial Officer pursuantto section 302 of the Sarbanes-Oxley Act of 2002

32.1        Certification of Chief Executive Officerpursuant to section 906 of the Sarbanes-Oxley Act of 2002.

32.2        Certification of Chief Financial Officerpursuant to section 906 of the Sarbanes-Oxley Act of 2002

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the Registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
|             | AMERIVEST PROPERTIES INC. |
|------------------|---------------------------|
|             |                      |   |
|             |                      |   |
| November 4, 2005 | By:                       |   | /s/ | Charles K. Knight |   |   |
|             |                      |   | Charles K. Knight |   |
|             |                      |   | Chief Executive Officer |   |
|             |                      |   |   |   |
|             |                      |   |   |   |
|             | By:                       |   | /s/ | Kathryn L. Hale |   |   |
|             |                      |   | Kathryn L. Hale |
|             |                      |   | Chief Financial Officer |
|             |                      |   |  (Principal Financial Officer  and Principal Accounting Officer) |

 

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