Table ofContents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**QUARTERLY REPORT PURSUANT TO SECTION 13OR 15(d) OF THE**

**SECURITIESEXCHANGE ACT OF 1934**

 

**For the quarterly period ended June 30, 2010**

 

**Commission File Number: 000-51961**

 

**BehringerHarvard Opportunity REIT I, Inc.**

(Exact Name of Registrant as Specified in Its Charter)

 

| **Maryland**                                                    | ** ** | **20-1862323**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other Jurisdiction of Incorporation or  Organization) |       | (I.R.S. Employer  Identification No.) |

 

**15601 Dallas Parkway, Suite 600, Addison, Texas75001**

(Address of Principal Executive Offices) (ZIP Code)

 

Registrant’s Telephone Number, Including Area Code:  **(866)655-3600**

 

**None**

(Former name, former address and formerfiscal year, if changed since last report)

 

Indicateby check mark whether the Registrant:  (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the Registrant was required to file such reports) and (2) hasbeen subject to such filing requirements for the past 90 days.  Yes x   No o

 

Indicate by check markwhether the Registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter)during the preceding 12 months (or for such shorter period that the registrantwas required to submit and post such files). Yes o   No o

 

Indicateby check mark whether the Registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reportingcompany.  See the definitions of “largeaccelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2of the Exchange Act:

 

| Large accelerated filer o                     |   | Accelerated filer o         |
|-----------------------------------------------|--------|-----------------------------|
|                                          |   |                        |
| Non-accelerated filer x                       |   | Smaller reporting company o |
| (Do not check if a smaller reporting company) |   |                        |

 

Indicateby check mark whether the Registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).  Yes o  No x

 

Asof July 30, 2010, the Registrant had 56,195,575 shares of common stockoutstanding.

 

 

 

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Table ofContents

 

**BEHRINGER HARVARD OPPORTUNITY REIT I, INC.**

**FORM 10-Q**

**QuarterEnded June 30, 2010**

 
| ** **                 | **Page**                                                                                                                      |
|----------------------------|-------------------------------------------------------------------------------------------------------------------------------|
|                       |                                                                                                                          |
| **PART I**            |                                                                                                                          |
| **FINANCIAL  INFORMATION** |                                                                                                                          |
| ** **                 |                                                                                                                          |
| **Item 1.**                | **Financial Statements  (Unaudited)**                                                                                         |   |
|                       |                                                                                                                          |   |
|                       | Consolidated Balance Sheets as of June 30, 2010  and December 31, 2009                                              | 3 |
|                       |                                                                                                                          |   |
|                       | Consolidated Statements of Operations and  Comprehensive Loss for the Three and Six Months Ended June 30, 2010 and  2009 | 5 |
|                       |                                                                                                                          |   |
|                       | Consolidated Statements of Equity for the Six Months  Ended June 30, 2010 and 2009                                       | 6 |
|                       |                                                                                                                          |   |
|                       | Consolidated Statements of Cash Flows for the Six  Months Ended June 30, 2010 and 2009                                   | 7 |
|                       |                                                                                                                          |   |
|                       | Notes to Consolidated Financial Statements                                                                                    | 8 |
|                       |                                                                                                                          |   |
| **Item 2.**                | **Management’s  Discussion and Analysis of Financial Condition and Results of Operations**                               | 29 |
|                       |                                                                                                                          |   |
| **Item 3.**                | **Quantitative  and Qualitative Disclosures About Market Risk**                                                               | 44 |
|                       |                                                                                                                          |   |
| **Item 4.**                | **Controls and  Procedures**                                                                                                  | 45 |
|                       |                                                                                                                          |   |
|                       | **PART II**                                                                                                              |   |
|                       | **OTHER INFORMATION**                                                                                                         |   |
|                       |                                                                                                                          |   |
| **Item  1.**               | **Legal  Proceedings**                                                                                                        | 46 |
|                       |                                                                                                                          |   |
| **Item  1A.**              | **Risk  Factors**                                                                                                             | 46 |
|                       |                                                                                                                          |   |
| **Item 2.**                | **Unregistered  Sales of Equity Securities and Use of Proceeds**                                                              | 46 |
|                       |                                                                                                                          |   |
| **Item 3.**                | **Defaults  Upon Senior Securities**                                                                                          | 47 |
|                       |                                                                                                                          |   |
| **Item  4.**               | **(Removed  and Reserved)**                                                                                                   |   |
|                       |                                                                                                                          |   |
| **Item  5.**               | **Other  Information**                                                                                                        | 47 |
|                       |                                                                                                                          |   |
| **Item 6.**                | **Exhibits**                                                                                                                  | 47 |
|                       |                                                                                                                          |   |
| **Signature**              |                                                                                                                          | 48 |

 

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**PART I**

**FINANCIAL INFORMATION**

 

**Item 1. Financial Statements.**

 

**BehringerHarvard Opportunity REIT I, Inc.**

**ConsolidatedBalance Sheets**

**(inthousands, except share and per share amounts)**

(Unaudited)

 
| ** **                                   | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|----------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                   | ** ** | **2010 (1)**      | ** ** | **2009 (1)**          | ** ** |
| **Assets**                                   |       |              |       |                  |       |
| Real estate                                  |       |              |       |                  |       |
| Land and improvements, net                   |       | $                 | 94,495     |                  | $          | 130,254 |   |
| Buildings and improvements, net              |       | 337,615           |       | 408,786               |       |
| Real estate under development                |       | 33,969            |       | 20,701                |       |
| Total real estate                            |       | 466,079           |       | 559,741               |       |
|                                         |       |              |       |                  |       |
| Condominium inventory                        |       | 67,196            |       | 86,485                |       |
| Cash and cash equivalents                    |       | 5,583             |       | 9,511                 |       |
| Restricted cash                              |       | 7,261             |       | 8,585                 |       |
| Accounts receivable, net                     |       | 9,902             |       | 8,169                 |       |
| Prepaid expenses and other assets            |       | 1,975             |       | 2,138                 |       |
| Leasehold interests, net                     |       | 15,451            |       | 16,406                |       |
| Investments in unconsolidated joint ventures |       | 58,454            |       | 63,552                |       |
| Furniture, fixtures and equipment, net       |       | 8,351             |       | 11,836                |       |
| Deferred financing fees, net                 |       | 2,335             |       | 3,827                 |       |
| Notes receivable, net                        |       | 65,729            |       | 42,557                |       |
| Lease intangibles, net                       |       | 19,765            |       | 21,228                |       |
| Other intangibles, net                       |       | 8,009             |       | 8,348                 |       |
| Receivables from related parties             |       | 1,455             |       | 1,548                 |       |
| Total assets                                 |       | $                 | 737,545    |                  | $          | 843,931 |   |

 

----

(1) As a result of the adoption of Accounting Standards Codification(“ASC”) Topic 810, (“ASC 810”), effective as of January 1, 2010, the Company isrequired to separately disclose on its consolidated balance sheets the assetsof consolidated variable interest entities (“VIEs”) that are owned by the VIEsand non-recourse liabilities of consolidated VIEs.

 

As of December 31, 2009, total assets include $91.4 million related toAlexan Black Mountain and Tanglewood at Voss (“Consolidated VIEs”) of which$25.2 million is included in land and improvements, net; $62 million inbuildings and improvements, net; $1 million in cash and cash equivalents; $0.5million in restricted cash; less than $0.1 million in accounts receivable, net;$2.4 million in furniture, fixtures and equipment, net; and $0.3 million indeferred financing fees, net.

 

As of January 1, 2010, we deconsolidated the assets and liabilitiesassociated with Alexan Black Mountain and Tanglewood at Voss (see Note 8 to theConsolidated Financial Statements).

 

*See Notesto Consolidated Financial Statements.*

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**ConsolidatedBalance Sheets - Continued**

**(inthousands, except share and per share amounts)**

(Unaudited)

 
| ** **                                                                                                                                                                                         | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                         | ** ** | **2010 (1)**      | ** ** | **2009 (1)**          | ** ** |
| **Liabilities and Equity**                                                                                                                                                                         |       |              |       |                  |       |
| Notes payable                                                                                                                                                                                      |       | $                 | 352,069    |                  | $          | 429,787 |   |
| Accounts payable                                                                                                                                                                                   |       | 1,853             |       | 1,885                 |       |
| Payables to related parties                                                                                                                                                                        |       | 884               |       | 1,790                 |       |
| Acquired below-market leases, net                                                                                                                                                                  |       | 11,207            |       | 12,726                |       |
| Accrued and other liabilities                                                                                                                                                                      |       | 16,898            |       | 23,322                |       |
| Total liabilities                                                                                                                                                                                  |       | 382,911           |       | 469,510               |       |
|                                                                                                                                                                                               |       |              |       |                  |       |
| **Commitments and contingencies**                                                                                                                                                                  |       |              |       |                  |       |
|                                                                                                                                                                                               |       |              |       |                  |       |
| **Equity**                                                                                                                                                                                         |       |              |       |                  |       |
|                                                                                                                                                                                               |       |              |       |                  |       |
| Behringer Harvard Opportunity REIT I, Inc.  Equity:                                                                                                                                           |       |              |       |                  |       |
| Preferred stock, $.0001 par value per share; 50,000,000  shares authorized, none outstanding                                                                                                       |       | —            |       | —                |       |
| Convertible stock, $.0001 par value per share; 1,000  shares authorized, 1,000 shares issued and outstanding                                                                                       |       | —            |       | —                |       |
| Common stock, $.0001 par value per share; 350,000,000  shares authorized, and 56,247,176 55,825,078 shares issued and outstanding at  June 30, 2010, and December 31, 2009, respectively |       | 6                 |       | 6                     |       |
| Additional paid-in capital                                                                                                                                                                         |       | 501,038           |       | 497,648               |       |
| Accumulated distributions and net loss                                                                                                                                                             |       | (144,842          | )          | (115,496              | )          |
| Accumulated other comprehensive loss                                                                                                                                                               |       | (6,171            | )          | (3,412                | )          |
| Total Behringer Harvard Opportunity REIT  I, Inc. equity                                                                                                                                      |       | 350,031           |       | 378,746               |       |
| Noncontrolling interest                                                                                                                                                                            |       | 4,603             |       | (4,325                | )          |
| Total equity                                                                                                                                                                                       |       | 354,634           |       | 374,421               |       |
| Total liabilities and equity                                                                                                                                                                       |       | $                 | 737,545    |                  | $          | 843,931 |   |

 

----

(1) As a result of the adoption of ASC 810, effective as of January 1, 2010,the Company is required to separately disclose on its consolidated balancesheets the assets of consolidated VIEs that are owned by the VIEs andnon-recourse liabilities of consolidated VIEs.

 

As of December 31, 2009, total liabilities include $102 million related toConsolidated VIEs of which $68.5 million is included in notes payable; lessthan $0.1 million in accounts payable; $32.2 million in payables to relatedparties; and $1.3 million in accrued and other liabilities. .

 

As of January 1, 2010, we deconsolidated the assets and liabilitiesassociated with Alexan Black Mountain and Tanglewood at

Voss (see Note 8 to the Consolidated Financial Statements).

 

*See Notesto Consolidated Financial Statements.*

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**ConsolidatedStatements of Operations and Comprehensive Loss**

**(in thousands, except per share amounts)**

(Unaudited)

 
| ** **                                                                          | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|-------------------------------------------------------------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                                                                          | ** ** | **2010**                             | ** ** | **2009**                           | ** ** | **2010** | ** ** | **2009** | ** ** |
| **Revenues**                                                                        |       |                                 |       |                               |       |   |   |   |   |
| Rental revenue                                                                      |       | $                                    | 12,213     |                               | $          | 15,755 |   | $ | 24,544 |   | $ | 31,581 |   |
| Hotel revenue                                                                       |       | 815                                  |       | 674                                |       | 2,049 |   | 1,498 |   |
| Condominium sales                                                                   |       | 2,207                                |       | 8,109                              |       | 25,564 |   | 11,929 |   |
| Interest income from notes receivable                                               |       | 476                                  |       | —                             |       | 6,434 |   | — |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Total revenues                                                                      |       | 15,711                               |       | 24,538                             |       | 58,591 |   | 45,008 |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| **Expenses**                                                                        |       |                                 |       |                               |       |   |   |   |   |
| Property operating expenses                                                         |       | 5,066                                |       | 6,870                              |       | 10,994 |   | 13,557 |   |
| Cost of condominium sales                                                           |       | 2,417                                |       | 8,178                              |       | 25,937 |   | 12,020 |   |
| Interest expense                                                                    |       | 3,555                                |       | 4,057                              |       | 7,233 |   | 8,191 |   |
| Real estate taxes                                                                   |       | 1,934                                |       | 2,125                              |       | 3,759 |   | 4,435 |   |
| Impairment charge                                                                   |       | —                               |       | 2,732                              |       | 4,230 |   | 2,732 |   |
| Provision for loan losses                                                           |       | —                               |       | —                             |       | 7,136 |   | — |   |
| Property management fees                                                            |       | 528                                  |       | 599                                |       | 1,087 |   | 1,199 |   |
| Asset management fees                                                               |       | 1,641                                |       | 1,441                              |       | 3,103 |   | 2,779 |   |
| General and administrative                                                          |       | 1,337                                |       | 1,668                              |       | 2,598 |   | 2,984 |   |
| Depreciation and amortization                                                       |       | 5,834                                |       | 7,251                              |       | 11,582 |   | 15,014 |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Total expenses                                                                      |       | 22,312                               |       | 34,921                             |       | 77,659 |   | 62,911 |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Interest income                                                                     |       | 41                                   |       | 36                                 |       | 69 |   | 79 |   |
| Other income (expense), net                                                         |       | (1                                   | )          | —                             |       | 41 |   | — |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Loss before income taxes and equity in losses of  unconsolidated joint ventures     |       | (6,561                               | )          | (10,347                            | )          | (18,958 | ) | (17,824 | ) |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Benefit (provision) for income taxes                                                |       | (3                                   | )          | (47                                | )          | 179 |   | (98 | ) |
| Equity in losses of unconsolidated joint ventures                                   |       | (640                                 | )          | (1,456                             | )          | (1,583 | ) | (1,581 | ) |
| Net loss                                                                            |       | (7,204                               | )          | (11,850                            | )          | (20,362 | ) | (19,503 | ) |
| Add: Net loss attributable to the noncontrolling  interest                          |       | 237                                  |       | 2,756                              |       | 601 |   | 5,077 |   |
| Net loss attributable to Behringer Harvard  Opportunity REIT I, Inc.           |       | $                                    | (6,967     | )                                  | $          | (9,094 | ) | $ | (19,761 | ) | $ | (14,426 | ) |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Weighted average shares outstanding:                                                |       |                                 |       |                               |       |   |   |   |   |
| Basic and diluted                                                                   |       | 56,203                               |       | 55,211                             |       | 56,127 |   | 55,122 |   |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| Loss per share attributable to Behringer Harvard  Opportunity REIT I, Inc.     |       |                                 |       |                               |       |   |   |   |   |
| Basic and diluted                                                                   |       | $                                    | (0.12      | )                                  | $          | (0.16 | ) | $ | (0.35 | ) | $ | (0.27 | ) |
|                                                                                |       |                                 |       |                               |       |   |   |   |   |
| **Comprehensive income (loss)**                                                     |       |                                 |       |                               |       |   |   |   |   |
| Net loss                                                                            |       | $                                    | (7,204     | )                                  | $          | (11,850 | ) | $ | (20,362 | ) | $ | (19,503 | ) |
| Other comprehensive loss:                                                           |       |                                 |       |                               |       |   |   |   |   |
| Foreign currency translation gain (loss)                                            |       | (2,091                               | )          | 1,996                              |       | (3,477 | ) | 210 |   |
| Unrealized gain (loss) on interest rate  derivatives                                |       | 389                                  |       | 671                                |       | 719 |   | 597 |   |
| Reclassifications due to hedging activities                                         |       | —                               |       | 17                                 |       | 45 |   | 216 |   |
| Total other comprehensive income (loss)                                             |       | (1,702                               | )          | 2,684                              |       | (2,713 | ) | 1,023 |   |
| Comprehensive loss                                                                  |       | (8,906                               | )          | (9,166                             | )          | (23,075 | ) | (18,480 | ) |
| Comprehensive income (loss) attributable to the  noncontrolling interest            |       | —                               |       | 2,234                              |       | 555 |   | 4,570 |   |
| Comprehensive loss attributable to Behringer  Harvard Opportunity REIT I, Inc. |       | $                                    | (8,906     | )                                  | $          | (6,932 | ) | $ | (22,520 | ) | $ | (13,910 | ) |

 

*See Notes to Consolidated Financial Statements.*

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**ConsolidatedStatements of Equity**

**(in thousands, except share amounts)**

(Unaudited)

 
| ** **                                                     | ** ** | ** **             | ** ** | ** **        | ** ** | ** **     | ** ** | ** **        | ** ** | ** **  | ** ** | **Accumulated** | ** ** | **Accumulated**    | ** ** | ** **         | ** ** | ** ** | ** ** |
|----------------------------------------------------------------|------------|------------------------|------------|-------------------|------------|----------------|------------|-------------------|------------|-------------|------------|-----------------|------------|--------------------|------------|--------------------|------------|------------|------------|
| ** **                                                     | ** ** | **Convertible  Stock** | ** ** | **Common  Stock** | ** ** | **Additional** | ** ** | **Distributions** | ** ** | **Other**   | ** ** | ** **      | ** ** | ** **         | ** ** |
| ** **                                                     | ** ** | **Number  of**         | ** ** | **Par**           | ** ** | **Number  of** | ** ** | **Par**           | ** ** | **Paid-In** | ** ** | **and**         | ** ** | **Comprehensive**  | ** ** | **Noncontrolling** | ** ** | **Total**  | ** ** |
| ** **                                                     | ** ** | **Shares**             | ** ** | **Value**         | ** ** | **Shares**     | ** ** | **Value**         | ** ** | **Capital** | ** ** | **Net  Loss**   | ** ** | **Income  (Loss)** | ** ** | **Interest**       | ** ** | **Equity** | ** ** |
| Balance  at January 1, 2009                               |       | 1,000                  |       | $                 | —     |           | 54,836,985 |              | $          | 5           |       | $               | 489,139    |               | $          | (66,085            | )          | $          | (5,194     | ) | $ | 5,502 |   | $ | 423,367 |   |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Issuance  of common stock, net                                 |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Redemption  of common stock                                    |       |                   |       |              |       | (72,537        | )          |              |       | (724        | )          |            |       |               |       |               |       | (724       | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Distributions  declared on common stock                        |       |                   |       |              |       |           |       |              |       |        |       | (4,070          | )          |               |       |               |       | (4,070     | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Contributions  from non-controlling interest                   |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       | 118                |       | 118        |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Shares  issued pursuant to Distribution Reinvestment Plan, net |       |                   |       |              |       | 426,164        |       | 1                 |       | 4,049       |       |            |       |               |       |               |       | 4,050      |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Comprehensive  loss:                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Net  loss                                                      |       |                   |       |              |       |           |       |              |       |        |       | (14,426         | )          |               |       | (5,077             | )          | (19,503    | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Other  comprehensive income:                                   |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Foreign  currency translation gain (loss)                      |       |                   |       |              |       |           |       |              |       |        |       |            |       | (229               | )          | 439                |       | 210        |       |
| Unrealized  losses on interest rate derivatives                |       |                   |       |              |       |           |       |              |       |        |       |            |       | 529                |       | 68                 |       | 597        |       |
| Reclassifications  due to hedging activities                   |       |                   |       |              |       |           |       |              |       |        |       |            |       | 216                |       | —             |       | 216        |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Total  comprehensive loss                                      |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       | (4,570             | )          | (18,480    | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Balance  at June 30, 2009                                 |       | 1,000                  |       | $                 | —     |           | 55,190,612 |              | $          | 6           |       | $               | 492,464    |               | $          | (84,581            | )          | $          | (4,678     | ) | $ | 1,050 |   | $ | 404,261 |   |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Balance  at January 1, 2010                               |       | 1,000                  |       | $                 | —     |           | 55,825,078 |              | $          | 6           |       | $               | 497,648    |               | $          | (115,496           | )          | $          | (3,412     | ) | $ | (4,325 | ) | $ | 374,421 |   |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Cumulative  effect of adoption of accounting standard          |       |                   |       |              |       |           |       |              |       |        |       | (3,994          | )          |               |       | 9,413              |       | 5,419      |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Issuance  of common stock, net                                 |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       | —     |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Redemption  of common stock                                    |       |                   |       |              |       | (52,899        | )          |              |       | (425        | )          |            |       |               |       |               |       | (425       | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Distributions  declared on common stock                        |       |                   |       |              |       |           |       |              |       |        |       | (5,591          | )          |               |       |               |       | (5,591     | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Contributions  from noncontrolling interest                    |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       | 70                 |       | 70         |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Shares  issued pursuant to Distribution Reinvestment Plan, net |       |                   |       |              |       | 474,997        |       |              |       | 3,815       |       |            |       |               |       |               |       | 3,815      |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Comprehensive  loss:                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Net  loss                                                      |       |                   |       |              |       |           |       |              |       |        |       | (19,761         | )          |               |       | (601               | )          | (20,362    | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Other  comprehensive income:                                   |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Foreign  currency translation gain (loss)                      |       |                   |       |              |       |           |       |              |       |        |       |            |       | (3,504             | )          | 27                 |       | (3,477     | )          |
| Unrealized  gain on interest rate derivatives                  |       |                   |       |              |       |           |       |              |       |        |       |            |       | 700                |       | 19                 |       | 719        |       |
| Reclassifications  due to hedging activities                   |       |                   |       |              |       |           |       |              |       |        |       |            |       | 45                 |       | —             |       | 45         |       |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Total  comprehensive loss                                      |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       | (555               | )          | (23,075    | )          |
|                                                           |       |                   |       |              |       |           |       |              |       |        |       |            |       |               |       |               |       |       |       |
| Balance  at June 30, 2010                                 |       | 1,000                  |       | $                 | —     |           | 56,247,176 |              | $          | 6           |       | $               | 501,038    |               | $          | (144,842           | )          | $          | (6,171     | ) | $ | 4,603 |   | $ | 354,634 |   |

 

*See Notes to Consolidated Financial Statements.*

 

6

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Table ofContents

 

**Behringer Harvard Opportunity REIT I, Inc.**

**ConsolidatedStatements of Cash Flows**

**(in thousands)**

(Unaudited)

 
| ** **                                                                                       | ** ** | **Six months ended June 30,** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                                                                       | ** ** | **2010**                           | ** ** | **2009** | ** ** |
| **Cash flows from operating  activities:**                                                       |       |                               |       |   |   |
| Net loss                                                                                         |       | $                                  | (20,362    | ) | $ | (19,503 | ) |
| Adjustments to reconcile net loss to net cash  flows provided by (used in) operating activities: |       |                               |       |   |   |
| Depreciation and amortization                                                                    |       | 10,220                             |       | 12,697 |   |
| Amortization of deferred financing fees                                                          |       | 1,427                              |       | 1,609 |   |
| Impairment charge                                                                                |       | 4,230                              |       | 2,732 |   |
| Provision for loan losses                                                                        |       | 7,136                              |       | — |   |
| Bad debt expense                                                                                 |       | 277                                |       | — |   |
| Equity in losses of unconsolidated joint ventures                                                |       | 1,583                              |       | 1,581 |   |
| Loss (gain) on derivatives                                                                       |       | 904                                |       | (306 | ) |
| Change in accounts receivable                                                                    |       | (2,017                             | )          | (1,640 | ) |
| Change in condominium inventory                                                                  |       | 19,050                             |       | 6,021 |   |
| Change in prepaid expenses and other assets                                                      |       | 151                                |       | 531 |   |
| Change in accounts payable                                                                       |       | (454                               | )          | (1,049 | ) |
| Change in accrued and other liabilities                                                          |       | (3,183                             | )          | 1,828 |   |
| Change in payables to related parties                                                            |       | (813                               | )          | 1,642 |   |
| Addition of lease intangibles                                                                    |       | (1,017                             | )          | (868 | ) |
| Cash provided by operating activities                                                            |       | 17,132                             |       | 5,275 |   |
|                                                                                             |       |                               |       |   |   |
| **Cash flows from investing  activities:**                                                       |       |                               |       |   |   |
| Investment in unconsolidated joint ventures                                                      |       | (69                                | )          | (2,256 | ) |
| Capital expenditures for real estate under  development                                          |       | (3,714                             | )          | (8,827 | ) |
| Capital expenditures for real estate under  development of consolidated borrowers                |       | —                             |       | (583 | ) |
| Additions of property and equipment                                                              |       | (1,748                             | )          | (5,032 | ) |
| Change in restricted cash                                                                        |       | 795                                |       | (2,027 | ) |
| Investment in notes receivable                                                                   |       | (3,303                             | )          | (5,084 | ) |
| Cash used in investing activities                                                                |       | (8,039                             | )          | (23,809 | ) |
|                                                                                             |       |                               |       |   |   |
| **Cash flows from financing  activities:**                                                       |       |                               |       |   |   |
| Financing costs                                                                                  |       | —                             |       | (470 | ) |
| Proceeds from notes payable                                                                      |       | 7,015                              |       | 16,437 |   |
| Proceeds from mortgages of consolidated borrowers                                                |       | —                             |       | 1,700 |   |
| Net borrowings on senior secured revolving credit  facility                                      |       | 6,496                              |       | 8,600 |   |
| Payments on notes payable                                                                        |       | (21,614                            | )          | (11,674 | ) |
| Redemptions of common stock                                                                      |       | (425                               | )          | (724 | ) |
| Distributions                                                                                    |       | (1,776                             | )          | (1,419 | ) |
| Contributions from noncontrolling interest holders                                               |       | 78                                 |       | 1,339 |   |
| Distributions to noncontrolling interest holders                                                 |       | (3                                 | )          | (250 | ) |
| Cash provided by (used in) financing activities                                                  |       | (10,229                            | )          | 13,539 |   |
| Effect of exchange rate changes on cash and cash  equivalents                                    |       | (1,781                             | )          | (2,182 | ) |
| Net change in cash and cash equivalents                                                          |       | (2,917                             | )          | (7,177 | ) |
| Cash and cash equivalents at beginning of the  period                                            |       | 9,511                              |       | 25,260 |   |
| Decrease in cash from deconsolidation due to  adoption of accounting standard                    |       | (1,011                             | )          | — |   |
| Cash and cash equivalents at end of the period                                                   |       | $                                  | 5,583      |   | $ | 18,083 |   |

 

*See Notes to Consolidated Financial Statements.*

 

7

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Tableof Contents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

**1.         Business**

 

***Organization***

 

BehringerHarvard Opportunity REIT I, Inc. (which may be referred to as the “Company,”“we,” “us,” or “our”) was incorporated in November 2004 as a Marylandcorporation and has elected to be taxed, and currently qualifies, as a realestate investment trust (“REIT”) for federal income tax purposes.

 

Weoperate commercial real estate or real estate-related assets located in andoutside the United States on an opportunistic basis.  In particular, we have focused on acquiringproperties with significant possibilities for short-term capital appreciation,such as those requiring development, redevelopment, or repositioning, or thoselocated in markets and submarkets with higher volatility, lower barriers toentry, and high growth potential.  Wehave acquired a wide variety of properties, including office, industrial,retail, hospitality, recreation and leisure, multifamily, and otherproperties.  We have purchased existingand newly constructed properties and properties under development orconstruction, including multifamily properties. We have also originated two mezzanine loans related to two multifamilyproperties.  We completed our firstproperty acquisition in March 2006, and, as of June 30, 2010, wewholly owned 11 properties and consolidated five properties through investmentsin joint ventures.  In addition, we arethe mezzanine lender for two multifamily properties.  We also have noncontrolling, unconsolidatedownership interests in three properties and one investment in a joint ventureconsisting of 22 properties that are accounted for using the equity method.

 

Substantially all of ourbusiness is conducted through Behringer Harvard Opportunity OP I, LP, a Texaslimited partnership organized in November 2004 (“Behringer Harvard OP I”),or subsidiaries thereof.  Our whollyowned subsidiary, BHO, Inc., a Delaware corporation, owns less than a 0.1%interest in Behringer Harvard OP I as its sole general partner.  The remaining interest of Behringer HarvardOP I is held as a limited partnership interest by BHO Business Trust, aMaryland business trust, which is our wholly-owned subsidiary.

 

We are externally managed and advised by Behringer Harvard OpportunityAdvisors I, LLC (“Behringer Opportunity Advisors I”), a Texas limited liabilitycompany formed in June 2007. Behringer Opportunity Advisors I is responsible for managing ourday-to-day affairs and for identifying and making acquisitions and investmentson our behalf.

 

Our office is located at 15601 Dallas Parkway, Suite 600, Addison,Texas 75001, and our toll-free telephone number is (866) 655-3600.  The name Behringer Harvard is the property ofBehringer Harvard Holdings, LLC (“Behringer Harvard Holdings”) and is used bypermission.

 

**2.         Interim Unaudited Financial Information**

 

The accompanyingconsolidated financial statements should be read in conjunction with theconsolidated financial statements and notes thereto included in our AnnualReport on Form 10-K for the year ended December 31, 2009, which wasfiled with the Securities and Exchange Commission (“SEC”) on March 19,2010.  Certain information and footnotedisclosures normally included in financial statements prepared in accordancewith accounting principles generally accepted in the United States of America (“GAAP”)have been condensed or omitted in this report on Form 10-Q pursuant to therules and regulations of the SEC.

 

The results for the interimperiods shown in this report are not necessarily indicative of future financialresults.  The accompanying consolidatedbalance sheet and consolidated statement of equity as of June 30, 2010,the consolidated  statements ofoperations and comprehensive loss for the three and six months ended June 30,2010 and 2009, and the consolidated statements of cash flows and equity for thesix months ended June 30, 2010 and 2009 have not been audited by ourindependent registered public accounting firm. In the opinion of management, the accompanying unaudited consolidatedfinancial statements include all adjustments necessary to fairly present ourconsolidated financial position as of June 30, 2010 and our consolidatedresults of operations, equity, and cash flows for the periods ended June 30,2010 and 2009.  Such adjustments are of anormal recurring nature.

 

**3.         Summary of Significant Accounting Policies**

 

***Use of Estimates in thePreparation of Financial Statements***

 

Thepreparation of financial statements in conformity with GAAP requires managementto make estimates and assumptions that affect the reported amounts of assetsand liabilities and disclosure of contingent assets and liabilities at the dateof the financial statements and the reported amounts of revenues and expensesduring the reporting period.  Theseestimates include such items as purchase price allocation for real estateacquisitions, impairment of long-lived assets,

 

8

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Table of Contents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

depreciationand amortization, allowance for doubtful accounts, and allowance for loanlosses.  Actual results could differ fromthose estimates.

 

***Principles of Consolidation and Basis ofPresentation***

 

Ourconsolidated financial statements include our accounts and the accounts of othersubsidiaries over which we have control. All inter-company transactions, balances, and profits have beeneliminated in consolidation.  Interestsin entities acquired will be evaluated based on applicable GAAP, which includesthe requirement to consolidate entities deemed to be variable interest entities(“VIE”) in which we are the primary beneficiary.  If the interest in the entity is determinednot to be a VIE, then the entities will be evaluated for consolidation based onlegal form, economic substance, and the extent to which we have control and/orsubstantive participating rights under the respective ownership agreement.

 

Thereare judgments and estimates involved in determining if an entity in which wehave made an investment is a VIE and, if so, whether we are the primarybeneficiary.  The entity is evaluated todetermine if it is a VIE by, among other things, calculating the percentage ofequity being risked compared to the total equity of the entity.  Determining expected future losses involvesassumptions of various possibilities of the results of future operations of theentity, assigning a probability to each possibility and using a discount rateto determine the net present value of those future losses.  A change in the judgments, assumptions, andestimates outlined above could result in consolidating an entity that shouldnot be consolidated or accounting for an investment using the equity methodthat should in fact be consolidated, the effects of which could be material toour financial statements.

 

To conform to the currentyear presentation, which presents advertising expense as a component ofproperty operating expense on our consolidated statements of operations andcomprehensive income, we reclassified from advertising expense into propertyoperating expense, $0.2 million and $0.4 million for the three and six monthsended June 30, 2009, respectively.

 

Wehave evaluated subsequent events for recognition or disclosure in ourconsolidated financial statements.

 

***Real Estate***

 

Upon the acquisition of real estate properties, we recognize the assetsacquired, the liabilities assumed, and any noncontrolling interest as of theacquisition date, measured at their fair values.  The acquisition date is the date on which weobtain control of the real estate property. These assets acquired and liabilities assumed may consist of buildings,any assumed debt, identified intangible assets and asset retirementobligations.  Identified intangibleassets generally consist of the above-market and below-market leases, in-placeleases, in-place tenant improvements and tenant relationships.  Goodwill is recognized as of the acquisitiondate and measured as the aggregate fair value of the consideration transferredand any noncontrolling interests in the acquiree over the fair value ofidentifiable net assets acquired. Likewise, a bargain purchase gain is recognized in current earnings whenthe aggregate fair value of the consideration transferred and anynoncontrolling interests in the acquiree is less than the fair value of theidentifiable net assets acquired. Acquisition-related costs are expensed in the period incurred.

 

Initialvaluations are subject to change until our information is finalized, which isno later than twelve months from the acquisition date.

 

Wedetermine the fair value of assumed debt by calculating the net present valueof the scheduled mortgage payments using interest rates for debt with similarterms and remaining maturities that management believes we could obtain.  Any difference between the fair value andstated value of the assumed debt is recorded as a discount or premium andamortized over the remaining life of the loan.

 

Thefair value of any tangible assets acquired, consisting of land, landimprovements, buildings, building improvements, tenant improvements, andfurniture, fixtures and equipment, is determined by valuing the property as ifit were vacant, and the “as-if-vacant” value is then allocated to the tangibleassets.  Land values are derived fromappraisals and building values are calculated as replacement cost lessdepreciation or management’s estimates of the relative fair value of theseassets using discounted cash flow analyses or similar methods.  Furniture, fixtures, and equipment values aredetermined based on current reproduction or replacement cost less depreciationand other estimated allowances based on physical, functional, or economicfactors.  The values of the buildings aredepreciated over their respective estimated useful lives ranging from 25 yearsfor commercial office property to 39 years for hotel/mixed-use property usingthe straight-line method.  Buildingimprovements are depreciated over their estimated useful lives ranging from 7to 25 years.  Tenant improvements aredepreciated over the term of the respective leases.  Land improvements are depreciated over theestimated useful life of 15 years, and furniture, fixtures, and equipment aredepreciated over estimated useful lives ranging

 

9

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Table of Contents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

fromfive to seven years using the straight-line method.  Our leasehold interest is depreciated overits remaining contractual life, or approximately 100 years.

 

Wedetermine the value of above-market and below-market in-place leases foracquired properties based on the present value (using an interest rate thatreflects the risks associated with the leases acquired) of the differencebetween (1) the contractual amounts to be paid pursuant to the in-placeleases and (2) management’s estimate of current market lease rates for thecorresponding in-place leases, measured over a period equal to (a) theremaining non-cancelable lease term for above-market leases, or (b) theremaining non-cancelable lease term plus any fixed rate renewal options forbelow-market leases.  We record the fairvalue of above-market and below-market leases as intangible assets orintangible liabilities, respectively, and amortize them as an adjustment torental income over the determined lease term.

 

Thetotal value of identified real estate intangible assets for acquired propertiesis further allocated to in-place lease values and tenant relationships based onour evaluation of the specific characteristics of each tenant’s lease and ouroverall relationship with that respective tenant.  The aggregate value of in-place leasesacquired and tenant relationships is determined by applying a fair valuemodel.  The estimates of fair value ofin-place leases include an estimate of carrying costs during the expectedlease-up periods for the respective spaces considering current market conditions.  In estimating fair value of in-place leases,we consider items such as real estate taxes, insurance and other operatingexpenses as well as lost rental revenue during the expected lease-up period andcarrying costs that would have otherwise been incurred had the leases not beenin place, including tenant improvements and commissions.  The estimates of the fair value of tenantrelationships also include costs to execute similar leases including leasingcommissions, legal costs, and tenant improvements as well as an estimate of thelikelihood of renewal as determined by management on a tenant-by-tenant basis.

 

Weamortize the value of in-place leases acquired in the future to expense overthe term of the respective leases.  Thevalue of tenant relationship intangibles is amortized to expense over theinitial term and any anticipated renewal periods, but in no event does theamortization period for intangible assets exceed the remaining depreciable lifeof the building.  Should a tenantterminate its lease, the unamortized portion of the in-place lease value andtenant relationship intangibles would be charged to expense.  As of June 30, 2010, the estimatedremaining useful lives for acquired lease intangibles range from less than oneyear to approximately 11 years.

 

Otherintangible assets include the value of identified hotel trade names andin-place property tax abatements.  Thesefair values are based on management’s estimates of the relative fair value ofthese assets using discounted cash flow analyses or similar methods.  The value of the trade names is amortizedover its respective estimated useful life of 20 years using the straight-linemethod and the value of the in-place property tax abatement is amortized overits estimated term of ten years using the straight-line method.

 

Anticipatedamortization expense associated with the acquired lease intangibles andacquired other intangible assets for each of the following five years as of June 30,2010 is as follows:

 
| ** **                                  | ** ** | **Lease / Other  Intangibles** | ** ** |
|---------------------------------------------|------------|--------------------------------|------------|
| July 1, 2010 -  December 31, 2010 |       | $                              | 782        |   |
| 2011                                        |       | 1,305                          |       |
| 2012                                        |       | 1,004                          |       |
| 2013                                        |       | 833                            |       |
| 2014                                        |       | 881                            |       |
|                                             |            |                                |            |  |

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

Accumulateddepreciation and amortization related to our consolidated investments in realestate assets and intangibles were as follows:

 
| ** **                          | ** ** | ** **        | ** ** | ** **       | ** ** | ** **      | ** ** | **Acquired**     | ** ** | ** **    | ** ** | ** **      | ** ** |
|-------------------------------------|------------|-------------------|------------|------------------|------------|-----------------|------------|------------------|------------|---------------|------------|-----------------|------------|
| ** **                          | ** ** | **Buildings and** | ** ** | **Land and**     | ** ** | **Lease**       | ** ** | **Below-Market** | ** ** | **Leasehold** | ** ** | **Other**       | ** ** |
| **As of June 30, 2010**        | ** ** | **Improvements**  | ** ** | **Improvements** | ** ** | **Intangibles** | ** ** | **Leases**       | ** ** | **Interest**  | ** ** | **Intangibles** | ** ** |
| Cost                                |       | $                 | 380,462    |             | $          | 94,942          |       | $                | 34,335     |          | $          | (21,040         | )          | $ | 16,073 |   | $ | 10,439 |   |
| Less: depreciation and amortization |       | (42,847           | )          | (447             | )          | (14,570         | )          | 9,833            |       | (622          | )          | (2,430          | )          |
|                                |       |              |       |             |       |            |       |             |       |          |       |            |       |
| Net                                 |       | $                 | 337,615    |             | $          | 94,495          |       | $                | 19,765     |          | $          | (11,207         | )          | $ | 15,451 |   | $ | 8,009 |   |

 
| ** **                          | ** ** | ** **        | ** ** | ** **       | ** ** | ** **      | ** ** | **Acquired**     | ** ** | ** **    | ** ** | ** **      | ** ** |
|-------------------------------------|------------|-------------------|------------|------------------|------------|-----------------|------------|------------------|------------|---------------|------------|-----------------|------------|
| ** **                          | ** ** | **Buildings and** | ** ** | **Land and**     | ** ** | **Lease**       | ** ** | **Below-Market** | ** ** | **Leasehold** | ** ** | **Other**       | ** ** |
| **As of December 31, 2009**    | ** ** | **Improvements**  | ** ** | **Improvements** | ** ** | **Intangibles** | ** ** | **Leases**       | ** ** | **Interest**  | ** ** | **Intangibles** | ** ** |
| Cost                                |       | $                 | 448,121    |             | $          | 130,786         |       | $                | 34,151     |          | $          | (21,392         | )          | $ | 16,981 |   | $ | 10,439 |   |
| Less: depreciation and amortization |       | (39,335           | )          | (532             | )          | (12,923         | )          | 8,666            |       | (575          | )          | (2,091          | )          |
|                                |       |              |       |             |       |            |       |             |       |          |       |            |       |
| Net                                 |       | $                 | 408,786    |             | $          | 130,254         |       | $                | 21,228     |          | $          | (12,726         | )          | $ | 16,406 |   | $ | 8,348 |   |

 

***Condominium Inventory***

 

Condominiuminventory is stated at the lower of cost or fair market value.  In addition to land acquisition costs, landdevelopment costs, and construction costs, costs include interest and realestate taxes, which are capitalized during the period beginning with thecommencement of development and ending with the completion ofconstruction.  At June 30, 2010,condominium inventory consisted of $34.1 million of finished units and $33.1million of work in progress.  As of December 31,2009, condominium inventory consisted of $31.5 million of finished units and$55 million of work in progress.

 

Forcondominium inventory, at each reporting date, management compares theestimated fair value less costs to sell to the carrying value.  An adjustment is recorded to the extent thatthe fair value less costs to sell is less than the carrying value.  We determine the estimated fair value ofcondominiums based on comparable sales in the normal course of business underexisting and anticipated market conditions. This evaluation takes into consideration estimated future sellingprices, costs incurred to date, estimated additional future costs, andmanagement’s plans for the property. There were no impairment charges related to our condominium inventoryfor the six months ended June 30, 2010 or 2009.  However, we may experience impairment of ourcondominium inventory in the future.

 

***Cash and Cash Equivalents***

 

Weconsider investments in highly-liquid money market funds or investments withoriginal maturities of three months or less to be cash equivalents.

 

***Restricted Cash***

 

Asrequired by our lenders, restricted cash is held in escrow accounts for realestate taxes and other reserves for our consolidated properties.

 

***Accounts Receivable***

 

Accountsreceivable primarily consist of straight-line rental revenue receivables of$7.4 million and $5.6 million as of June 30, 2010 and December 31,2009, respectively, and receivables from our hotel operators and tenantsrelated to our other consolidated properties of $3 million and $2.9 million asof June 30, 2010 and December 31, 2009, respectively.  The allowance for doubtful accounts was $0.5million and $0.3 million as of June 30, 2010 and December 31, 2009,respectively.

 

***Prepaid Expenses and Other Assets***

 

Prepaidexpenses and other assets include prepaid directors’ and officers’ insurance,prepaid advertising, the fair value of certain derivative instruments, as wellas inventory, prepaid insurance, and real estate taxes of our consolidatedproperties.  Inventory consists of food,beverages, linens, glassware, china, and silverware and is carried at the lowerof cost or market value.

 

11

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Table of Contents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

***Furniture, Fixtures, and Equipment***

 

Furniture,fixtures, and equipment are recorded at cost and are depreciated using thestraight-line method over their estimated useful lives of five to sevenyears.  Maintenance and repairs arecharged to operations as incurred while renewals or improvements to such assetsare capitalized.  Accumulateddepreciation associated with our furniture, fixtures, and equipment was $6.7million and $6.1 million as of June 30, 2010 and December 31, 2009,respectively.

 

***Investment Impairment***

 

Forreal estate we wholly own, we monitor events and changes in circumstancesindicating that the carrying amounts of the real estate assets may not berecoverable.  When such events or changesin circumstances are present, we assess potential impairment by comparingestimated future undiscounted operating cash flows expected to be generatedover the life of the asset and from its eventual disposition to the carryingamount of the asset.  In the event thatthe carrying amount exceeds the estimated future undiscounted operating cashflows, we recognize an impairment loss to adjust the carrying amount of theasset to estimated fair value.  Weconsider projected future undiscounted cash flows, trends, strategic decisionsregarding future development plans, and other factors in our assessment ofwhether impairment conditions exist. While we believe our estimates of future cash flows are reasonable,different assumptions regarding factors such as market rents, economicconditions, and occupancy rates could significantly affect these estimates.

 

Inthe first quarter of 2010, we evaluated Ferncroft Corporate Center forimpairment, and accordingly, recognized a $4.2 million impairment charge forthe three months ended March 31, 2010. No impairment charges were recognized in the second quarter of 2010.

 

Wealso evaluate our investments in unconsolidated joint ventures at eachreporting date and if we believe there is an other than temporary decline inmarket value, we will record an impairment charge based on theseevaluations.  We assess potentialimpairment by comparing our portion of estimated future undiscounted operatingcash flows expected to be generated by the joint venture over the life of thejoint venture’s assets to the carrying amount of the joint venture.  In the event that the carrying amount exceedsour portion of estimated future undiscounted operating cash flows, we recognizean impairment loss to adjust the carrying amount of the joint venture to itsestimated fair value.

 

Wealso evaluate our investments in notes receivable as of each reportingdate.  If we believe that it is probablewe will not collect all principal and interest in accordance with the terms ofthe loans, we consider the loan impaired. When evaluating loans for potential impairment, we compare the carryingamount of the loans to the present value of future cash flows discounted at theloan’s effective interest rate, or, if a loan is collateral dependent, to theestimated fair value of the related collateral net of any senior loans.  For impaired loans, a provision is made forloan losses to adjust the reserve for loan losses.  The reserve for loan losses is a valuationallowance that reflects our current estimate of loan losses as of the balancesheet date.  The reserve is adjustedthrough the provision for loan losses account on our consolidated statement ofoperations.

 

Inthe first quarter of 2010, we recorded a reserve for loan losses totaling $11.1million related to the mezzanine loan associated with Alexan Black Mountain,including $7.1 million recognized as a provision to loan losses on ourconsolidated statement of operations and comprehensive loss, for the threemonths ended March 31, 2010, and the remaining $4 million as a cumulativeeffect adjustment to the opening balance of accumulated distributions and netloss in our consolidated statement of equity for the six months ended June 30,2010.  There was no such provision orreserve recorded for the three months ended June 30, 2010.

 

Inevaluating our investments for impairment, management may use appraisals andmake estimates and assumptions, including, but not limited to, the projecteddate of disposition of the properties, the estimated future cash flows of theproperties during our ownership, and the projected sales price of each of theproperties.  A change in these estimatesand assumptions could result in understating or overstating the book value ofour investments, which could be material to our financial statements.  The value of our properties held fordevelopment depends on market conditions, including estimates of the projectstart date as well as estimates of future demand for the property type underdevelopment.  We have analyzed trends andother information related to each potential development and incorporated thisinformation as well as our current outlook into the assumptions we use in ourimpairment analyses.  Due to the judgmentand assumptions applied in the estimation process with respect to impairments,including the fact that limited market information regarding the value ofcomparable land exists at this time, it is possible actual results could differsubstantially from those estimated.

 

Otherthan the impairment charge discussed above, we believe the carrying value ofour operating real estate assets, properties under development, investments inunconsolidated joint ventures, and notes receivable is currently recoverable.  However, if market conditions worsen beyondour current expectations, or if our assumptions regarding expected future cashflows from the use and eventual disposition of our assets decrease or ourexpected hold periods

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

decrease,or if changes in our development strategy significantly affect any keyassumptions used in our fair value calculations, we may need to take additionalcharges in future periods for impairments related to existing assets.  Any such non-cash charges would have anadverse effect on our consolidated financial position and results ofoperations.

 

***Deferred Financing Fees***

 

Deferredfinancing fees are recorded at cost and are amortized to interest income fornotes receivable and interest expense for notes payable using a straight-linemethod that approximates the effective interest method over the life of therelated debt.  Accumulated amortizationof deferred financing fees was $7.2 million and $7.4 million as of June 30,2010 and December 31, 2009, respectively.

 

***Derivative Financial Instruments***

 

Ourobjective in using derivatives is to add stability to interest expense and tomanage our exposure to interest rate movements or other identified risks and tominimize the variability caused by foreign currency translation risk related toour net investment in foreign real estate. To accomplish these objectives, we use various types of derivativeinstruments to manage fluctuations in cash flows resulting from interest raterisk attributable to changes in the benchmark interest rate of LIBOR.  These instruments include LIBOR-basedinterest rate swaps and caps.  For ournet investments in foreign real estate, we use foreign exchange put/calloptions to eliminate the impact of foreign currency exchange movements on ourfinancial position.

 

Wemeasure our derivative instruments and hedging activities at fair value andrecord them as an asset or liability, depending on our rights or obligationsunder the applicable derivative contract. For derivatives designated as fair value hedges, the changes in the fairvalue of both the derivative instrument and the hedged items are recorded inearnings.  Derivatives used to hedge theexposure to variability in expected future cash flows, or other types offorecasted transactions, are considered cash flow hedges.  For derivatives designated as cash flowhedges, the effective portions of changes in fair value of the derivatives arereported in other comprehensive income (loss) and are subsequently reclassifiedinto earnings when the hedged item affects earnings.  For derivatives designated as net investmenthedges, changes in fair value are reported in other comprehensive income (loss)as part of the foreign currency translation gain or loss.  Changes in fair value of derivativeinstruments not designated as hedges and ineffective portions of hedges arerecognized in earnings in the affected period. We assess the effectiveness of each hedging relationship by comparingthe changes in fair value or cash flows of the derivative hedging instrumentwith the changes in fair value or cash flows of the designated hedged item ortransaction.

 

As of June 30, 2010, we do not have any derivatives designated asfair value hedges, nor are derivatives being used for trading or speculativepurposes.  See Notes 5 and 13 for furtherinformation regarding our derivative financial instruments.

 

***Foreign Currency Translation***

 

Forour international investments where the functional currency is other than theUS dollar, assets and liabilities are translated using period-end exchangerates, while the statement of operations amounts are translated using theaverage exchange rates for the respective period.  Differences arising from the translation ofassets and liabilities in comparison with the translation of the previousperiods or from initial recognition during the period are included as aseparate component of accumulated other comprehensive income (loss).

 

The British pound is the functional currency for ourBecket House investment operating in London, England and the Euro is thefunctional currency for the operations of our Central Europe JointVenture.  We also maintain Euro-denominated bankaccounts that are translated into U.S. dollars at the current exchange rate ateach reporting period.  Theresulting translation adjustments are recorded as a separate component ofaccumulated other comprehensive income (loss) in our consolidated statement ofequity.  The foreign currency translationadjustment was a loss of $3.5 million and a gain of $0.2 million for the six monthsended June 30, 2010 and 2009, respectively.

 

***Accumulated Other Comprehensive Income (Loss)***

 

Accumulated othercomprehensive income (loss) (“AOCI”), which is reported in the accompanyingconsolidated statement of equity, consists of gains and losses affecting equitythat are excluded from net income (loss) under GAAP.  The components of AOCI consist of foreigncurrency translation gains and losses and unrealized gains and losses onderivatives designated as hedges.

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

***Revenue Recognition***

 

Werecognize rental income generated from leases on real estate assets on astraight-line basis over the terms of the respective leases, including theeffect of rent holidays, if any. Straight-line rental revenue of $1.8 million and $1.1 million wasrecognized in rental revenues for the six months ended June 30, 2010 and 2009,respectively.  Hotel revenue is derivedfrom the operations of The Lodge & Spa at Cordillera and consists ofguest room, food and beverage, and other revenue, and is recognized as theservices are rendered.

 

Revenuesfrom the sales of condominiums are recognized when sales are closed and titlepasses to the new owner, the new owner’s initial and continuing investment isadequate to demonstrate a commitment to pay for the condominium, the new owner’sreceivable is not subject to future subordination, and we do not have asubstantial continuing involvement with the new condominium.  Amounts received prior to closing on sales ofcondominiums are recorded as deposits in our financial statements.

 

Werecognize interest income from notes receivable on an accrual basis over thelife of the loan using the interest method. Direct loan origination fees and origination or acquisition costs, aswell as acquisition premiums or discounts, are amortized over the life of theloan as an adjustment to interest income. We will stop accruing interest on loans when there is concern as to theultimate collection of principal or interest of the loan.  In the event that we stop accruing intereston a loan, we will generally not recognize subsequent interest income untilcash is received or we make the decision to restart interest accrual on theloan.

 

***Income Taxes***

 

Weelected to be taxed, and qualified, as a REIT under Sections 856 through 860 ofthe Internal Revenue Code of 1986, as amended (the “Code”), beginning with theyear ended December 31, 2006.  Weare organized and operate in such a manner as to qualify for taxation as a REITunder the Code, and we intend to continue to operate in such a manner, but noassurance can be given that we will operate in a manner so as to qualify orremain qualified as a REIT.  To qualifyas a REIT, we must meet a number of organizational and operationalrequirements, including a requirement that we distribute at least 90% of ourREIT taxable income to our stockholders. As a REIT, we generally will not be subject to federal income tax at thecorporate level except for the operations of our wholly-owned taxable REITsubsidiaries.  We have three taxable REITsubsidiaries that own and/or provide management and development services tocertain of our investments in real estate and real estate under development.

 

Wehave reviewed our tax positions under GAAP guidance that clarifies the relevantcriteria and approach for the recognition and measurement of uncertain taxpositions.  The guidance prescribes arecognition threshold and measurement attribute for the financial statementrecognition of a tax position taken, or expected to be taken, in a taxreturn.  A tax position may only berecognized in the financial statements if it is more likely than not that thetax position will be sustained upon examination.  We believe it is more likely than not thatthe tax positions taken relative to our status as a REIT will be sustained inany tax examination.  In addition, webelieve that it is more likely than not that the tax positions taken relativeto the taxable REIT subsidiaries will be sustained in any tax examination.

 

OnMay 18, 2006, the State of Texas enacted a law which replaced the existingstate franchise tax with a “margin tax,” effective January 1, 2007.  For the six months ended June 30, 2010and 2009, we recognized a current and deferred tax benefit (provision) relatedto the Texas margin tax of approximately $0.2 million and ($0.1) million,respectively.

 

***Stock-Based Compensation***

 

Wehave a stock-based incentive award plan for our directors and consultants andfor employees, directors, and consultants of our affiliates.  Awards are granted at the fair market valueon the date of grant with fair value estimated using the Black-Scholes-Mertonoption valuation model, which incorporates assumptions surrounding volatility,dividend yield, the risk-free interest rate, expected life, and the exerciseprice as compared to the underlying stock price on the grant date.  The tax benefits associated with theseshare-based payments are classified as financing activities in the consolidatedstatement of cash flows.  For the sixmonths ended June 30, 2010 and 2009, we had no significant compensationcost related to our incentive award plan.

 

***Concentration of Credit Risk***

 

AtJune 30, 2010 and December 31, 2009, we had cash and cash equivalentsdeposited in certain financial institutions in excess of federally insuredlevels.  We have diversified our cash andcash equivalents between several banking institutions in an attempt to minimizeexposure to any one of these entities. We regularly monitor the financial

 

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**Behringer HarvardOpportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

stabilityof these financial institutions and believe that we are not exposed to anysignificant credit risk in cash and cash equivalents or restricted cash.

 

***Noncontrolling Interest***

 

Noncontrollinginterest represents the noncontrolling ownership interest’s proportionate shareof the equity in our consolidated real estate investments including the lessthan 1%, 5%, 6%, 9%, and 20% unaffiliated partners’ share of the equity in RioSalado Business Center, Chase Park Plaza, The Lodge & Spa atCordillera, Frisco Square, and Becket House, respectively.  Income and losses are allocated tononcontrolling interest holders based on their ownership percentage.

 

***Reportable Segments***

 

Wehave determined that we have one reportable segment, with activities related tothe ownership, development and management of real estate assets.  Our income producing properties generated100% of our consolidated revenues for the six months ended June 30, 2010and 2009.  Our chief operating decisionmaker evaluates operating performance on an individual property level.  Therefore, our properties are aggregated intoone reportable segment.

 

***Earnings per Share***

 

Earnings(loss) per share is calculated based on the weighted average number of sharesoutstanding during each period.  As ofeach period ended June 30, 2010 and 2009, we had options to purchase69,583 shares of common stock outstanding at a weighted average exercise priceof $8.99.  These options are excludedfrom the calculation of earnings per share for the six months ended June 30,2010 and 2009 because the effect would be anti-dilutive.

 

***Inflation***

 

Thereal estate market has not been affected significantly by inflation in the pastseveral years due to the relatively low inflation rate.  However, we include provisions in themajority of our tenant leases that would protect us from the impact ofinflation.  These provisions includereimbursement billings for common area maintenance charges, real estate tax andinsurance reimbursements on a per square foot basis, or in some cases, annualreimbursement of operating expenses above a certain per square foot allowance.

 

**4.         NewAccounting Pronouncements**

 

InJanuary 2010, the FASB updated the disclosure requirements for fair valuemeasurements.  The updated guidancerequires companies to disclose separately the investments that transfer in andout of Levels 1 and 2 and the reasons for those transfers.  Additionally, in the reconciliation for fairvalue measurements using significant observable inputs (Level 3), companiesshould present separately information about purchases, sales, issuances andsettlements.  We adopted the guidance on January 1,2010, except for the disclosures about purchases, sales, issuances andsettlements n the Level 3 reconciliation, which are effective for fiscal yearsbeginning after December 15, 2010. We will adopt the remaining guidance on January 1, 2011.  The adoption of the required guidance did nothave a material impact on our financial statements or disclosures.  We do not expect that the adoption of theremaining guidance will have an impact on our financial statements ordisclosures.

 

**5.         Assets andLiabilities Measured at Fair Value**

 

Fairvalue measurements are determined based on the assumptions that marketparticipants would use in pricing the asset or liability.  As a basis for considering market participantassumptions in fair value measurements, a fair value hierarchy that distinguishesbetween market participant assumptions based on market data obtained fromsources independent of the reporting entity (observable inputs that areclassified within Levels 1 and 2 of the hierarchy) and the reporting entity’sown assumptions about market participant assumptions (unobservable inputsclassified within Level 3 of the hierarchy) has been established.

 

Level1 inputs utilize quoted prices (unadjusted) in active markets for identicalassets and liabilities that we have the ability to access.  Level 2 inputs are inputs other than quotedprices included in Level 1 that are observable for the asset or liability,either directly or indirectly.  Level 2inputs may include quoted prices for similar assets and liabilities in activemarkets, as well as inputs that are observable for the asset or liability(other than quoted prices), such as interest rates, foreign exchange rates, andyield curves that are observable at commonly quoted intervals.  Level 3 inputs are unobservable inputs forthe asset or liability that are typically based on an entity’s own assumptions,as there is little, if any, related market activity.  In instances where the determination of thefair value measurement is based on inputs from different levels of the fairvalue hierarchy, the level in the fair value hierarchy within which the fairvalue measurement falls is based on the lowest level input that is significantto the fair value measurement in its entirety. Our assessment of the significance of a

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

particularinput to the fair value measurement in its entirety requires judgment, andconsiders factors specific to the asset or liability.

 

*Recurring Fair Value Measurements*

 

*Derivative financial instruments*

 

Currently,we use interest rate swaps and caps to manage our interest rate risk andforeign exchange put/call options to manage the impact of foreign currencymovements on our financial position for our net investments in foreign realestate joint ventures.  The valuation ofthese instruments is determined using widely accepted valuation techniquesincluding discounted cash flow analysis on the expected cash flows of eachderivative.  This analysis reflects thecontractual terms of the derivatives, including the period to maturity, anduses observable market-based inputs, including interest rate curves, impliedvolatilities, and foreign currency exchange rates.

 

Weincorporate credit valuation adjustments to appropriately reflect both our ownnonperformance risk and the respective counterparty’s performance risk in thefair value measurements.  Although wehave determined that the majority of the inputs used to value our derivativesfall within Level 2 of the fair value hierarchy, the credit valuationadjustments associated with our derivatives utilize Level 3 inputs, such asestimates of current credit spreads, to evaluate the likelihood of default byitself and its counterparties.  However,as of June 30, 2010 and December 31, 2009, we have assessed thesignificance of the impact of the credit valuation adjustments on the overallvaluation of our derivative positions and have determined that the creditvaluation adjustments are not significant to the overall valuation of ourderivatives.  As a result, we havedetermined that our derivative valuations in their entirety are classified inLevel 2 of the fair value hierarchy.

 

Thefollowing fair value hierarchy table presents information about our assets andliabilities measured at fair value on a recurring basis as of June 30,2010 and December 31, 2009:

 
| **June 30, 2010**           | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|----------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-----------|------------|
| **Assets**                       |       |        |       |        |       |        |       |      |       |
| Derivative financial instruments |       | $           | —     |        | $          | 2           |       | $         | —     |   | $ | 2 |   |
|                             |       |        |       |        |       |        |       |      |       |
| **Liabilities**                  |       |        |       |        |       |        |       |      |       |
| Derivative financial instruments |       | $           | —     |        | $          | 1,448       |       | $         | —     |   | $ | 1,448 |   |

 
| **December 31, 2009**       | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|----------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-----------|------------|
| **Assets**                       |       |        |       |        |       |        |       |      |       |
| Derivative financial instruments |       | $           | —     |        | $          | 204         |       | $         | —     |   | $ | 204 |   |
|                             |       |        |       |        |       |        |       |      |       |
| **Liabilities**                  |       |        |       |        |       |        |       |      |       |
| Derivative financial instruments |       | $           | —     |        | $          | 3,081       |       | $         | —     |   | $ | 3,081 |   |

 

Derivative financial instruments classified as assets are included inother assets on the balance sheet while derivative financial instruments classifiedas liabilities are included in other liabilities.  See Notes 3 and 13 for further informationregarding our use of hedging instruments.

 

*Nonrecurring Fair Value Measurements:*

 

*Impairments*

 

Inthe first quarter of 2010, we recorded a provision to the reserve for loanlosses of $7.1 million related to our Alexan Black Mountain note receivable toreflect our current estimate of potential loan loss.  We also recorded an impairment charge of $4.2million related to Ferncroft Corporate Center. There were no such provisions or impairment charges recorded for thesecond quarter of 2010.  The inputs usedto calculate the fair value of these assets included projected cash flows and arisk-adjusted rate of return that we estimated would be used by a market participantin valuing these assets.  This fair valueestimate is considered Level 3 of the fair value hierarchy.

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

Thefollowing fair value hierarchy table presents information about our assetsmeasured at fair value on a nonrecurring basis during the six months ended June 30,2010:

 
| ** **                      | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **           | ** ** | **Gain**   | ** ** |
|---------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|----------------------|------------|------------|------------|
| **June 30, 2010**          | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total Fair Value** | ** ** | **(Loss)** | ** ** |
| **Asset**                       | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **           |       |       |       |
| Note receivable, net            |       | $           | —     |        | $          | —      |       | $                    | 2,540      |       | $          | 2,540 |   | $ | (7,136 | ) |
| Buildings and improvements, net |       | —      |       | —      |       | 13,328      |       | 13,328               |       | (4,230     | )          |
| Total                           |       | $           | —     |        | $          | —      |       | $                    | 15,868     |       | $          | 15,868 |   | $ | (11,366 | ) |

 

**6.****                                     ****FairValue Disclosure of Financial Instruments**

 

Wedetermined the following disclosure of estimated fair values using availablemarket information and appropriate valuation methodologies.  However, considerable judgment is necessaryto interpret market data and develop the related estimates of fair value.  Accordingly, the estimates presented hereinare not necessarily indicative of the amounts that could be realized upondisposition of the financial instruments. The use of different market assumptions and/or estimation methodologiesmay have a material effect on the estimated fair value amounts.

 

Asof June 30, 2010 and December 31, 2009, management estimated that thecarrying value of cash and cash equivalents, restricted cash, accountsreceivable, accounts payable, accrued expenses, other liabilities,payables/receivables from related parties, and distributions payable were atamounts that reasonably approximated their fair value based on theirhighly-liquid nature and/or short-term maturities and the carrying value ofnotes receivable reasonably approximated fair value based on expected interestrates for notes to similar borrowers with similar terms and remainingmaturities.

 

Thenotes payable totaling $352.1 million and $429.8 million as of June 30,2010 and December 31, 2009, respectively, have a fair value ofapproximately $358.6 million and $435.3 million, respectively, based uponinterest rates for mortgages with similar terms and remaining maturities thatmanagement believes we could obtain. Interest rate swaps and caps along with our foreign currency exchangeforward contract are recorded at their respective fair values in prepaidexpenses and other assets for those derivative instruments that have an assetbalance and in other liabilities for those derivative instruments that areliabilities (see Note 5).

 

Thefair value estimates presented herein are based on information available to ourmanagement as of June 30, 2010 and December 31, 2009.  Although our management is not aware of anyfactors that would significantly affect the estimated fair value amounts, suchamounts have not been comprehensively revalued for purposes of theseconsolidated financial statements since that date, and current estimates offair value may differ significantly from the amounts presented herein.

 

**7.****                                     ****RealEstate Investments**

 

Asof June 30, 2010, we wholly owned 11 properties and consolidated fiveproperties through investments in joint ventures.  We are the mezzanine lender for twomultifamily properties which, prior to January 1, 2010, we consolidated asthe primary beneficiary of the VIEs (see Note 8).  In addition, we have noncontrolling,unconsolidated ownership interests in three properties and one investment in ajoint venture consisting of 22 properties that are accounted for using theequity method.  Capital contributions,distributions, and profits and losses of these properties are allocated inaccordance with the terms of the applicable partnership agreement.

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

***Investments in Unconsolidated Joint Ventures***

 

Thefollowing table presents certain information about our unconsolidatedinvestments as of June 30, 2010 and December 31, 2009:

 
| ** **                   | ** ** | ** **              | ** ** | **Carrying Value of Investment** | ** ** |
|------------------------------|------------|-------------------------|------------|----------------------------------|------------|
| **Property Name**            | ** ** | **Ownership  Interest** | ** ** | **June 30, 2010**           | ** ** | **December 31,  2009** | ** ** |
| Royal Island                 |       | 30.38                   | %          | $                                | 22,932     |   | $ | 22,594 |   |
| GrandMarc at Westberry Place |       | 50.00                   | %          | 6,885                            |       | 7,348 |   |
| GrandMarc at the Corner      |       | 50.00                   | %          | 6,243                            |       | 6,559 |   |
| Central Europe Joint Venture |       | 47.27                   | %          | 22,394                           |       | 27,051 |   |
| Total                        |       |                    |       | $                                | 58,454     |   | $ | 63,552 |   |

 

Our investments in unconsolidated joint ventures asof June 30, 2010 and December 31, 2009 consisted of our proportionateshare of the combined assets and liabilities of our investment properties asfollows:

 
| ** **                   | ** ** | **June 30, 2010** | ** ** | **December 31, 2009** | ** ** |
|------------------------------|------------|------------------------|------------|----------------------------|------------|
| Real estate assets, net      |       | $                      | 365,143    |                       | $          | 382,061 |   |
| Cash and cash equivalents    |       | 4,908                  |       | 15,628                     |       |
| Other assets                 |       | 2,842                  |       | 3,528                      |       |
| Total assets                 |       | $                      | 372,893    |                       | $          | 401,217 |   |
|                         |       |                   |       |                       |       |
| Notes payable                |       | $                      | 228,309    |                       | $          | 246,176 |   |
| Other liabilities            |       | 19,043                 |       | 19,846                     |       |
| Total liabilities            |       | 247,352                |       | 266,022                    |       |
|                         |       |                   |       |                       |       |
| Equity                       |       | 125,541                |       | 135,195                    |       |
| Total liabilities and equity |       | $                      | 372,893    |                       | $          | 401,217 |   |

 

For the three and six months ended June 30,2010, we recognized $0.6 million and $1.6 million, respectively, of equity inlosses.  Our equity in losses from theseinvestments is our proportionate share of the combined losses of ourunconsolidated joint ventures for the three and six months ended June 30,2010 and 2009 as follows:

 
| ** **                       | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|----------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                       | ** ** | **2010**                             | ** ** | **2009**                           | ** ** | **2010** | ** ** | **2009** | ** ** |
| Revenue                          |       | $                                    | 5,853      |                               | $          | 5,772 |   | $ | 12,411 |   | $ | 11,372 |   |
|                             |       |                                 |       |                               |       |   |   |   |   |
| Operating expenses:              |       |                                 |       |                               |       |   |   |   |   |
| Operating expenses               |       | 1,306                                |       | 1,726                              |       | 2,776 |   | 3,072 |   |
| Property taxes                   |       | 205                                  |       | 201                                |       | 411 |   | 407 |   |
| Total operating expenses         |       | 1,511                                |       | 1,927                              |       | 3,187 |   | 3,479 |   |
|                             |       |                                 |       |                               |       |   |   |   |   |
| Operating income                 |       | 4,342                                |       | 3,845                              |       | 9,224 |   | 7,893 |   |
|                             |       |                                 |       |                               |       |   |   |   |   |
| Non-operating expenses:          |       |                                 |       |                               |       |   |   |   |   |
| Depreciation and amortization    |       | 2,308                                |       | 2,486                              |       | 4,708 |   | 4,905 |   |
| Interest and other, net          |       | 3,517                                |       | 4,333                              |       | 7,802 |   | 6,244 |   |
| Total non-operating expenses     |       | 5,825                                |       | 6,819                              |       | 12,510 |   | 11,149 |   |
|                             |       |                                 |       |                               |       |   |   |   |   |
| Net loss                         |       | $                                    | (1,483     | )                                  | $          | (2,974 | ) | $ | (3,286 | ) | $ | (3,256 | ) |
|                             |       |                                 |       |                               |       |   |   |   |   |
| Company’s share of net loss |       | $                                    | (640       | )                                  | $          | (1,456 | ) | $ | (1,583 | ) | $ | (1,581 | ) |

 

**8.****                         ****VariableInterest Entities**

 

GAAP requires the consolidation of VIEs in which anenterprise has a controlling financial interest.  A controlling financial interest will haveboth of the following characteristics: (a) the power to direct theactivities of a VIE that most 

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

significantly impact the VIEs’ economicperformance and (b) the obligation to absorb losses of the VIE that couldpotentially be significant to the VIE or the right to receive benefits from theVIE that could potentially be significant to the VIE.

 

Our variable interest in VIEs may be in the form of(1) equity ownership and/or (2) loans provided by us to a VIE, orother partner.  We examine specificcriteria and use judgment when determining if we are the primary beneficiary ofa VIE.  Factors considered in determiningwhether we are the primary beneficiary include risk and reward sharing,experience and financial condition of other partner(s), voting rights,involvement in day-to-day capital and operating decisions, representation on aVIE’s executive committee, existence of unilateral kick-out rights or votingrights, level of economic disproportionality between us and the otherpartner(s), and contracts to purchase assets from VIEs.

 

*Tanglewood at Voss and Alexan Black Mountain*

 

In2006, we agreed to provide secured mezzanine financing with an aggregateprincipal amount of up to $22.7 million to unaffiliated third-party entitiesthat own multifamily communities under development, Tanglewood at Voss inHouston, Texas and Alexan Black Mountain in Henderson, Nevada properties.  These entities also have secured constructionloans with third-party lenders, with an aggregate principal amount of up to$68.6 million.  Our mezzanine loans aresubordinate to the construction loans. In addition, we entered into option agreements allowing us to purchasethe ownership interests in Tanglewood at Voss and Alexan Black Mountain aftereach project’s substantial completion and upon notification of completion fromthe developer.  In the second quarter of2009, the option agreement allowing us to purchase Alexan Black Mountainexpired.

 

InFebruary 2009, we received the notice of completion on Tanglewood atVoss.  Accordingly, pursuant to theoption agreement, we had ninety days from the delivery of the notice ofcompletion to exercise our option to purchase the completed property.  We have waived our rights to purchase theproperty.  Therefore, the general partnerand mezzanine borrower at its sole discretion may elect to exercise its putoption requiring us to purchase the property within 120 days upon the deliveryof a written notice.  In July 2010,we agreed to an extension of the put option agreement that extends the datethrough which the general partner and mezzanine borrower may elect to exercisethe put option through August 22, 2010. As of June 30, 2010, the general partner and mezzanine borrowerhave not elected to provide us with the put notice.  However, we are working with the generalpartner and mezzanine borrower to acquire Tanglewood at Voss.

 

Basedon our evaluation, we have determined that these entities meet the criteria ofVIEs under GAAP and, prior to January 1, 2010, we were the primarybeneficiary of these variable interest entities.  Therefore, prior to January 1, 2010, weconsolidated the entities, including the related real estate assets andthird-party construction financing.  Asof December 31, 2009, there was $87.2 million of related real estateassets related to Tanglewood at Voss and Alexan Black Mountain, whichcollateralize the outstanding principal balance of the construction loans.  The third-party construction lenders have norecourse to the general credit of us, but their loans are guaranteed by theowners of the variable interest entities. As of December 31, 2009, the outstanding principal balance underour mezzanine loans was $22.7 million, which was eliminated, along with accruedinterest and loan origination fees, upon consolidation.

 

InJune 2009, the FASB issued an amendment to the accounting and disclosurerequirements for the consolidation of variable interest entities.  The guidance eliminates exceptions toconsolidating qualifying special-purpose entities, contains new criteria fordetermining the primary beneficiary, and increases the frequency of requiredreassessments to determine whether a company is the primary beneficiary of avariable interest entity.  It alsocontains a new requirement that any term, transaction, or arrangement that doesnot have a substantive effect on an entity’s status as a variable interestentity, a company’s power over a variable interest entity, or a company’sobligation to absorb losses or its rights to receive benefits of an entity mustbe disregarded.

 

Asa result of this new accounting guidance, on January 1, 2010, wedeconsolidated the assets and liabilities of Tanglewood at Voss and AlexanBlack Mountain along with the associated revenue and expenses, resulting inneither a net gain or loss as we had no equity interest in theseinvestments.  While these entities areVIEs, we have determined that the power to direct the activities that mostsignificantly impact the VIEs’ economic performance generally resides with thegeneral partner and mezzanine borrowers. Following the deconsolidation of Tanglewood at Voss and Alexan BlackMountain, our continuing involvement with these entities is limited to ourmezzanine loans.  The deconsolidation didnot result in either Tanglewood at Voss or Alexan Black Mountain becoming oneof our related parties.

 

*Royal Island*

 

InMay 2007, for an initial cash investment of $20 million, we acquired anapproximate 31% equity interest as a limited partner in the development andconstruction of a resort hotel, spa, golf course, marina, and residences onthree islands located in the Commonwealth of Bahamas (“Royal Island”).  In December 2007, we participated in abridge loan 

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

financingarrangement and committed up to $40 million as a bridge loan to the RoyalIsland entity for the continuing construction and development of theproperty.  In June 2009, wepurchased the interest in the first of two superior tranches (“A-1”) for $3.1million.  In March 2010, wepurchased the interest in two notes in the second tranche (“A-2”) for $2.2million.  The total amount outstanding tous at June 30, 2010, including accrued interest and fees, was $44.4million (see Note 9).  Based on ourevaluation, we have determined that the entity meets the criteria of a variableinterest entity but that we are not the primary beneficiary because we do nothave the power to direct the activities of Royal Island that most significantlyaffect the entity’s economic performance. The power to direct these activities resides with the generalpartner.  Accordingly, we do notconsolidate the Royal Island entity and instead account for our equityinvestment under the equity method of accounting.  At June 30, 2010, there wasapproximately $154.5 million of real estate assets under development related toRoyal Island.

 

At June 30, 2010 and December 31, 2009,our recorded investment in VIEs that are unconsolidated and our maximumexposure to loss were as follows:

 

**As of June 30, 2010**

 
| ** **                | ** ** | **Investments in  Unconsolidated VIEs** | ** **   | **Our Maximum  Exposure to Loss** | ** ** |
|---------------------------|------------|-----------------------------------------|--------------|-----------------------------------|------------|
| Tanglewood at Voss (1)    |       | $                                       | —       |                              | $          | 18,265 |   |
| Alexan Black Mountain (1) |       | —                                  |         | 2,540                             |       |
| Royal Island (2)          |       | 22,932                                  |         | 67,367                            |       |
|                      |       | $                                       |  22,932 |                              | $          | 88,172 |   |

 

**As of December 31, 2009**

 
| ** **       | ** ** | **Investment in  Unconsolidated VIE** | ** ** | **Our Maximum  Exposure to Loss** | ** ** |
|------------------|------------|---------------------------------------|------------|-----------------------------------|------------|
| Royal Island (2) |       | $                                     | 22,594     |                              | $          | 64,661 |   |
|                  |            |                                       |            |                                   |            |  |  |

 

----

(1)  We have no equity investment in either Tanglewood at Voss orAlexan Black Mountain. Our maximum exposure to loss is limited to the net outstandingbalance of the notes receivable for Tanglewood at Voss and Alexan BlackMountain.  Prior to January 1, 2010,we consolidated Tanglewood at Voss and Alexan Black Mountain.

 

(2) Our maximum exposure to loss for Royal Island is limited tothe investment in the unconsolidated VIE of $22.9 million and $22.6 million asof June 30, 2010 and December 31, 2009, respectively, plus the netoutstanding balance of the notes receivable for Royal Island of $44.4 millionand $42.1 million as of June 30, 2010 and December 31, 2009,respectively.

 

**9.****                         ****NotesReceivable**

 

*Chase Park Plaza Working Capital Loan*

 

Welease the hotel portion of the Chase Park Plaza property to the hotel operator,an unaffiliated entity that owns the remaining 5% of Chase Park Plaza.  In conjunction with the lease agreement, wemade a working capital and inventory loan of up to $1.9 million to the hoteloperator in December 2006.  Theinterest rate under the note is fixed at 5% per annum.  The term of the note is the earlier of December 31,2016 or the termination of the related hotel lease agreement.  Annual payments of interest only are requiredeach December with any remaining balance payable at the maturitydate.  In accordance with the hotel leaseagreement, the tenant will receive a reduction in its base rental payment duein January in the amount of the interest paid on the promissory note inthe previous December.  This reduction inthe lease payment is reflected as a straight-line adjustment to base rentalrevenue.  At June 30, 2010, the notereceivable balance was $1.9 million.

 

*Tanglewood at Voss and Alexan Black MountainMezzanine Loans*

 

In2006, we agreed to provide secured mezzanine financing with an aggregateprincipal amount of up to $22.7 million to unaffiliated third-party entitiesthat own Tanglewood at Voss and Alexan Black Mountain.  These entities also have secured constructionloans with third-party lenders, with an aggregate principal amount of $68.6million at June 30, 2010.  Ourmezzanine loans are subordinate to the construction loans.

 

20

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

AtJune 30, 2010, the carrying amount of the Tanglewood at Voss mezzanineloan was $18.3 million, which includes $5.3 million of interest and fees.  The carrying amount of the Alexan BlackMountain mezzanine loan was $2.5 million, net of $11.1 million allowance forloan losses.

 

*Royal Island Bridge Loan*

 

InDecember 2007, we participated in a bridge loan financing arrangement forthe continuing development and construction of Royal Island.  Theaggregate principal amount available under the bridge loan was $60 millionconsisting of three tranches.  Under the bridge loan we agreed to lend atranche of up to $40 million, which is subordinate to the other twotranches.  The bridge loan accrued interest at the one-month LIBOR rateplus 8% per annum with accrued interest and principal payable at the maturitydate, December 20, 2008, and is secured by the Royal Island property.  In June 2009, we purchased the interestin the first of the two superior tranches, the A-1, for $3.1 million.  In March 2010, we purchased the interestin two notes in the A-2 tranche for $2.2 million.

 

Underthe terms of the loan documents, the bridge loan could be extended once for aperiod of six months upon the satisfaction of certain conditions upon noticegiven by the borrower by November 20, 2008 and a payment of an extensionfee.  At the maturity date, not all of the conditions were satisfied and,as a result, the bridge loan went into default and became a non-earningloan.  The balance owed to us at the timeof default was $37.7 million including accrued interest and fees.  Discussions between the bridge loan lendersand the borrower to complete a satisfactory workout plan have begun; however,there are no assurances that a workout plan will be completed or that the loanwill be reinstated by the borrower. Accordingly, we may seek other actions under the loan documents toprotect our investment including foreclosure, exercise of power of sale, orconveyance in satisfaction of debt.  Inaccordance with GAAP, from the time the loan went into default until the timethat a foreclosure occurs, a satisfactory workout is completed, or the loan isreinstated by the borrower, we do not recognize interest income on the loan.

 

InJanuary 2010, we collected $5.5 million in unpaid interest and fees fromthe borrower.  At June 30, 2010, theloan balance owed to us was $44.4 million, which includes $1.5 million ofaccrued interest and fees included in receivables from related parties at June 30,2010.  We have not recorded an allowanceagainst the recorded balance as our estimate of the fair value of the RoyalIsland property securing the bridge loan exceeds the current carrying value ofthe loan, and accordingly, we believe it is probable that all of theoutstanding balance is collectible.

 

Currentmarket conditions with respect to credit availability and to fundamentalswithin the real estate markets instill significant levels of uncertainty.  Accordingly, future adverse developments inmarket conditions would cause us to re-evaluate our conclusions, regarding thecollectability of our notes receivable and could result in material impairmentcharges.

 

**10.****                  ****CapitalizedCosts**

 

Wecapitalize interest, property taxes, insurance, and construction costs to realestate under development.  During the sixmonths ended June 30, 2010 we capitalized $2.7 million of such costsassociated with real estate under development and certain investments accountedfor by the equity method.  During the sixmonths ended June 30, 2009 we capitalized $6.7 million of such costsassociated with real estate under development and certain investments accountedfor by the equity method, including $1.2 million in interest costs.  Capitalized interest costs include interestexpense and amortization of deferred financing costs.

 

Certainredevelopment costs including interest, property taxes, insurance, andconstruction costs associated with Chase Park Plaza and The Lodge &Spa at Cordillera have been capitalized to condominium inventory on ourconsolidated balance sheet at June 30, 2010.  During the six months ended June 30,2010, we capitalized a total of $6 million of such costs associated with thecondominium redevelopment at Chase Park Plaza and The Lodge & Spa atCordillera.  During the six months ended June 30,2009, we capitalized a total of $5.1 million of such costs associated with thecondominium redevelopment at Chase Park Plaza and The Lodge & Spa atCordillera.

 

**11.****                  ****NotesPayable**

 

Ournotes payable balance was $352.1 million at June 30, 2010, as compared to$429.8 million at December 31, 2009 and consists of borrowings andassumptions of debt related to our property acquisitions and our borrowingsunder our $75 million senior secured credit facility.  As of December 31, 2009, notes payablealso included the notes payable of our mezzanine borrowers that we consolidatedas variable interest entities under GAAP, Tanglewood at Voss and Alexan BlackMountain.  In the first quarter of 2010, we deconsolidated the assets andliabilities of Tanglewood at Voss and Alexan Black Mountain, which include thenotes payable of our mezzanine borrowers totaling $68.5 million.  Each of our notes payable is collateralizedby one or more of our properties.  At June 30, 2010, our notespayable interest rates ranged from 

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

2.1%to 6.3%, with a weighted average interest rate of approximately 3.2%.  Ofour $352.1 million in notes payable at June 30, 2010, $312.8 millionrepresented debt subject to variable interest rates.  At June 30,2010, our notes payable have maturity dates that range from July 2010 to January 2016. We have unconditionally guaranteed payment of the notes payable related toFrisco Square, Chase Park Plaza Hotel, Chase — Private Residences, NorthboroughTower, Bent Tree Green, and Crossroads Office Park.

 

*Santa Clara*

 

TheSanta Clara Tech Center property consists of three buildings:  the 700, 750, and 800 buildings.  The mortgage and mezzanine loans(collectively, the “Original Loans”) associated with the Santa Clara TechCenter matured on June 9, 2010.  Asof the maturity date, due to ongoing negotiations with an unaffiliated thirdparty (the “Santa Clara JV Partner”) to create the joint ventures discussedbelow, we had not yet reached an agreement with the lender to extend the termsof the Original Loans and accordingly, we were granted a forbearance by thelender through August 5, 2010.

 

OnAugust 5, 2010, concurrent with entering into two new joint ventures withthe Santa Clara JV Partner, we reached an agreement with the lender to modifyand extend the Original Loans in the following manner:

 

·                  The agreements associated with the OriginalLoans were severed and replaced by new loan agreements with the same lender bybifurcating the Original Loans into two new loans (the “Replacement Loans”)such that specific debt is associated with the 700 & 750 buildingsseparate from debt associated with the 800 building;

 

·                  The new joint ventures paid down the OriginalLoans’ balance by an aggregate $7 million, such that the balances of theReplacement Loans at inception was an aggregate of $45.5 million;

 

·                  The maturity date of the Replacement Loans isJune 9, 2013; and

 

·                  The Replacement Loans require payment ofinterest only until maturity at a rate equal to:

 

·                  Replacement mortgage loans —either (i) the greater of 1% or the 30-day LIBOR, plus 4.75% (the “LIBOROption”), or (ii) the prime rate plus the difference between the LIBOROption and the prime rate; and

 

·                  Replacement mezzanine loans —either (i) the greater of 1% or the 30-day LIBOR, plus 8.5% (the “MezzanineLIBOR Option”), or (ii) the prime rate plus the difference between theMezzanine LIBOR Option and the prime rate.

 

Asof June 30, 2010, the aggregate balance due under the Original Loans was$52.5 million.  Following the August 5,2010 modification and extension, the balance due under the Replacement Loanswas an aggregate $45.5 million.  There isno penalty for prepayment of the Replacement Loans, subject to certainconditions.

 

Further,on August 5, 2010, we entered into the following arrangements:

 

·                  We sold to the Santa Clara JV Partner a 50% interest in the Santa ClaraTech Center property for cash of $8.8 million.

 

·                  Concurrent with the sale, we entered into twonew joint venture agreements with the Santa Clara JV Partner such that onejoint venture holds the 700 and 750 buildings separate from the joint venturethat holds the 800 building.  Wecontributed our remaining 50% interest in the Santa Clara Tech Center alongwith $8.8 million of cash in exchange for 50% interests each of the two newjoint ventures.  The Santa Clara JVPartner also contributed $8.8 million of cash and their 50% interest in theSanta Clara Tech Center in exchange for their respective 50% interests.   In addition, the Santa Clara JV Partneracquired separate preferred equity interests in the joint ventures for an aggregateof $7.5 million in cash.  The jointventure agreements specify that all future capital needs of the joint venturesare to be funded pari passu to each partner’s respective interest in the jointventures.

 

Ourinterests in the joint ventures are noncontrolling, unconsolidated interestswhich we expect to account for using the equity method of accounting.  Accordingly, effective, August 5, 2010,we expect to deconsolidate the Santa Clara Tech Center property on ourconsolidated financial statements.

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

*Becket House*

 

Ourloan agreements generally stipulate that we comply with certain reporting andfinancial covenants.  These covenantsinclude among other things, notifying the lender of any change in managementand maintaining minimum debt service coverage ratios.  As a result of the difficult economicconditions negatively impacting both occupancy and rental rates at the BecketHouse, lease renewals and new leases have been executed at substantially lowerrates per square foot, we were unable to meet certain financial covenants underthe Becket House loan agreement as of June 30, 2010.  In addition, in 2009 and 2008, we recognizedimpairment charges related to our leasehold interest in Becket House of $9.9million and $6 million, respectively. Failure to meet the loan covenants under the loan agreement constitutesa technical default and, absent a waiver or modification of the loan agreement,the lender may accelerate maturity with any unpaid interest and principalimmediately due and payable.  At June 30,2010, the outstanding principal balance of the Becket House loan was $17.6million.  We are currently innegotiations with the lender to waive the event of noncompliance or modify theloan agreement.  However, there are noassurances that we will be successful in our negotiations with the lender.  The Becket House loan is non-recourse to us.

 

*Ferncroft*

 

AtFerncroft Corporate Center (“Ferncroft”), our wholly owned eight-story officebuilding located in Middleton, Massachusetts, our two largest tenants renewedtheir leases for additional terms but for a combined 60,000 square feet lessthan they previously occupied.  As aresult of this significant decrease in occupancy we are currently operatingunder a cash management arrangement in accordance with Ferncroft’s $18 millionCMBS mortgage loan agreement. Accordingly, tenant rental payments are deposited in a restrictedlockbox account.  Therefore, we do nothave direct access to these rental payments, and the disbursement of cash fromthe restricted lockbox account to us is at the discretion of the loan’sservicer.  Furthermore, we have beenunable to disburse cash from the restricted lockbox account to us in order topay Ferncroft’s operating expenses.  Notpaying the operating expenses as they become due constitutes an event ofdefault under the loan agreement.  TheFerncroft loan is non-recourse to us.  Weare in negotiations with the servicer and there are several potential outcomesincluding a loan modification for us to retain ownership in return foradditional capital commitments, a sale of the property to a third-party, or adeed-in-lieu of foreclosure.  However, asof the date of this report we expect that the most likely outcome will be adeed-in-lieu of foreclosure.  We remainthe title holder on Ferncroft as of June 30, 2010, and as of the date ofthis report.

 

*Credit Facility*

 

InFebruary 2008, we entered into a senior secured revolving credit facilityproviding for up to $75 million of secured borrowings.  The initial credit facility allowed us toborrow up to $75 million in revolving loans, of which up to $20 million wasavailable for issuing letters of credit. We have unconditionally guaranteed payment of the senior securedrevolving credit facility.  Theavailability of credit under the revolving credit facility is limited by theterms of the credit agreement.  As of June 30,2010, the maximum availability and the outstanding balance under the revolvingcredit facility was $69.1 million.

 

Thefollowing table summarizes our contractual obligations for principal paymentsas of June 30, 2010:

 
| **Principal Payments Due:**                 | ** ** | ** ** | ** ** |
|---------------------------------------------|------------|------------|------------|
| July 1, 2010 -  December 31, 2010 |       | $          | 140,739    |   |
| 2011                                        |       | 166,442    |       |
| 2012                                        |       | 8,070      |       |
| 2013                                        |       | 16,664     |       |
| 2014                                        |       | 361        |       |
| Thereafter                                  |       | 18,883     |       |
| Unamortized premium                         |       | 910        |       |
|                                        |       |       |       |
|                                        |       | $          | 352,069    |   |

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notes toConsolidated Financial Statements**

**(Unaudited)**

 

**12.****                              ****LeasingActivity**

 

Future minimum base rentalpayments due to us under non-cancelable leases in effect as of June 30,2010 for our consolidated properties are as follows:

 
| ** **                                  | ** ** | **Future  Minimum  Lease  Payments** | ** ** |
|---------------------------------------------|------------|--------------------------------------|------------|
| July 1, 2010 -  December 31, 2010 |       | $                                    | 16,454     |   |
| 2011                                        |       | 33,066                               |       |
| 2012                                        |       | 27,313                               |       |
| 2013                                        |       | 23,682                               |       |
| 2014                                        |       | 16,252                               |       |
| Thereafter                                  |       | 37,836                               |       |
|                                        |       |                                 |       |
| Total                                       |       | $                                    | 154,603    |   |

 

Asof June 30, 2010, none of our tenants accounted for 10% or more of ouraggregate annual rental revenues from our consolidated properties.  Included in rental revenue for both the threeand six months ended June 30, 2010 was less than $0.1 million ofcontingent rent.  Approximately $0.1million of contingent rent was included in rental revenue for both the threeand six months ended June 30, 2009.

 

**13.****                  ****DerivativeInstruments and Hedging Activities**

 

Wemay be exposed to the risk associated with variability of interest rates thatmight impact our cash flows and the results of operations.  Thehedging strategy of entering into interest rate caps and swaps, therefore, isto eliminate or reduce, to the extent possible, the volatility of cashflows.  In addition, we may be exposed to foreign currency exchangerisk related to our net investments in the Becket House leasehold interest andthe Central Europe Joint Venture. Accordingly, our hedging strategy is to protect our net investments inforeign currency denominated entities against the risk of adverse changes inforeign currency to U.S. dollar exchange rates.

 

InDecember 2008, we entered into a foreign currency put/call option to hedgeour net investment in Becket House.  In April 2010,following a strategic review of our currency exposures, we early terminatedthis foreign currency put/call option. The foreign currency put/call option was originally scheduled to maturein November 2011.  The earlytermination of this foreign currency put/call option resulted in net cashproceeds to us of $0.2 million.

 

Derivativeinstruments classified as assets were reported at their combined fair values ofless than $0.1 million and $0.2 million in prepaid expenses and other assets atJune 30, 2010 and December 31, 2009, respectively.  Derivative instruments classified asliabilities were reported at their combined fair values of $1.4 million and$3.1 million in accrued and other liabilities at June 30, 2010 and December 31,2009, respectively.  During the sixmonths ended June 30, 2010, we recorded an unrealized gain of $0.7 millionto AOCI in our statement of equity to adjust the carrying amount of theinterest rate swaps and caps qualifying as hedges at June 30, 2010.  Unrealized losses on interest ratederivatives for the six months ended June 30, 2010 reflect areclassification of unrealized losses from accumulated other comprehensive lossto interest expense of less than $0.1 million.

 

Thefollowing table summarizes the notional values of our derivative financialinstruments as of June 30, 2010. The notional values provide an indication of the extent of ourinvolvement in these instruments at June 30, 2010, but do not representexposure to credit, interest rate, or market risks:

 
| **Type / Description**                               | ** ** | **Notional  Value** | ** ** | **Interest Rate /  Strike Rate** | ** ** | **Maturity** | ** **             | **Fair Value  Asset /  (Liability)** | ** ** |
|------------------------------------------------------|------------|---------------------|------------|----------------------------------|------------|--------------|------------------------|--------------------------------------|------------|
| Cash Flow Hedges                                     | ** ** | ** **          | ** ** | ** **                       | ** ** | ** **   | ** **             | ** **                           | ** ** |
| Interest rate cap - Becket House                     |       | £              | 12,700     |                             | 5.75       | %            | November 21, 2010 |                                 | $          | — |   |
| Interest rate swap - Crossroads                      |       | $                   | 25,000     |                             | 3.10       | %            | November 1, 2010  |                                 | $          | (285 | ) |
|                                                 |       |                |       |                             |       |         |                   |                                 |       |
| Net Investment Hedge                                 |       |                |       |                             |       |         |                   |                                 |       |
| Foreign currency put - Central Europe Joint  Venture |       | €              | 17,000     |                             | €     | 1.10         |                   | July 28, 2010                   |       | $ | 2 |   |
| Other                                                |       |                |       |                             |       |         |                   |                                 |       |
| Interest rate swap - Chase Park Plaza Hotel          |       | $                   | 80,594     |                             | 3.82       | %            | November 15, 2010 |                                 | $          | (1,163 | ) |
|                                                      |            |                     |            |                                  |            |              |                        |                                      |            |  |  |  |

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The table below presents thefair value of our derivative financial instruments as well as theirclassification on the consolidated balance sheets as of June 30, 2010 and December 31,2009.

 
| ** **                                              | ** ** | ** **                        | ** ** | **Asset Derivatives**                  | ** ** | **Liability Derivatives**                  | ** ** |
|---------------------------------------------------------|------------|-----------------------------------|------------|----------------------------------------|------------|--------------------------------------------|------------|
| ** **                                              | ** ** | **Balance  Sheet  Location**      | ** ** | **Fair Value at  June 30,  2010** | ** ** | **Fair Value at  December 31,  2009** | ** ** | **Fair Value at  June 30,  2010** | ** ** | **Fair Value at  December 31,  2009** | ** ** |
| **Derivatives designated as hedging  instruments:**     |       |                              |       |                                   |       |                                       |       |   |   |   |   |
|                                                    |       |                              |       |                                   |       |                                       |       |   |   |   |   |
| Interest rate derivative contracts                      |       | Accrued and other liabilities     |       | $                                      | —     |                                       | $          | — |   | $ | (285 | ) | $ | (611 | ) |
| Foreign exchange contracts                              |       | Prepaid expenses and other assets |       | 2                                      |       | 204                                        |       | — |   | — |   |
|                                                    |       |                              |       |                                   |       |                                       |       |   |   |   |   |
| Total derivatives designated as hedging  instruments    |       |                              |       | $                                      | 2          |                                       | $          | 204 |   | $ | (285 | ) | $ | (611 | ) |
|                                                    |       |                              |       |                                   |       |                                       |       |   |   |   |   |
| **Derivatives not designated as  hedging instruments:** |       |                              |       |                                   |       |                                       |       |   |   |   |   |
|                                                    |       |                              |       |                                   |       |                                       |       |   |   |   |   |
| Interest rate derivative contract                       |       | Accrued and other liabilities     |       | $                                      | —     |                                       | $          | — |   | $ | (1,163 | ) | $ | (2,470 | ) |
|                                                    |       |                              |       |                                   |       |                                       |       |   |   |   |   |
| Total derivatives                                       |       |                              |       | $                                      | 2          |                                       | $          | 204 |   | $ | (1,448 | ) | $ | (3,081 | ) |

 

The tables below present theeffect of our derivative financial instruments on the consolidated statementsof operations as of June 30, 2010 and 2009.

 

**Derivatives in Cash Flow Hedging Relationships**

 
| ** **                          | ** ** | **Amount  of Gain or (Loss)  Recognized in AOCI on  Derivative (Effective Portion)** | ** ** | **Amount  of Gain or (Loss)  Reclassified from AOCI into  Income (Effective Portion)(1)** | ** ** | **Amount  of Gain or (Loss)  Recognized in AOCI on  Derivative (Effective Portion)** | ** ** | **Amount  of Gain or (Loss)  Reclassified from AOCI into  Income (Effective Portion)(1)** | ** ** |
|-------------------------------------|------------|-------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------|------------|
| ** **                          | ** ** | **Three  months ended June 30,**                                                     | ** ** | **Three  months ended June 30,**                                                          | ** ** | **Six  months ended June 30,**                                                       | ** ** | **Six  months ended June 30,**                                                            | ** ** |
| ** **                          | ** ** | **2010**                                                                                  | ** ** | **2009**                                                                                       | ** ** | **2010**                                                                                  | ** ** | **2009**                                                                                       | ** ** | **2010** | ** ** | **2009** | ** ** | **2010** | ** ** | **2009** | ** ** |
| Interest  rate derivative contracts |       | $                                                                                         | 389        |                                                                                           | $          | 671                                                                                       |       | $                                                                                              | —     |   | $ | 17 |   | $ | 719 |   | $ | 597 |   | $ | 45 |   | $ | 216 |   |
|                                     |            |                                                                                           |            |                                                                                                |            |                                                                                           |            |                                                                                                |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(1)  Amounts related to interest rate derivative contractsare included in interest expense.

 

**Derivatives in Net Investment Hedging Relationships**

 
| ** **                  | ** ** | **Amount  of Gain or (Loss)  Recognized in AOCI on  Derivative (Effective Portion)** | ** ** | **Amount  of Gain or (Loss)  Reclassified from AOCI into  Income (Effective Portion)(1)** | ** ** | **Amount  of Gain or (Loss)  Recognized in Income on Derivative  (Ineffective Portion)** | ** ** |
|-----------------------------|------------|-------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------|------------|
| ** **                  | ** ** | **Three  months ended June 30,**                                                     | ** ** | **Three  months ended June 30,**                                                          | ** ** | **Three  months ended June 30,**                                                         | ** ** |
| ** **                  | ** ** | **2010**                                                                                  | ** ** | **2009**                                                                                       | ** ** | **2010**                                                                                      | ** ** | **2009** | ** ** | **2010** | ** ** | **2009** | ** ** |
| Foreign  exchange contracts |       | $                                                                                         | (2,091     | )                                                                                              | $          | 1,996                                                                                         |       | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
|                             |            |                                                                                           |            |                                                                                                |            |                                                                                               |            |  |  |  |  |  |  |  |  |  |  |  |  |

 
| ** **                  | ** ** | **Amount  of Gain or (Loss)  Recognized in AOCI on  Derivative (Effective Portion)** | ** ** | **Amount  of Gain or (Loss)  Reclassified from AOCI into  Income (Effective Portion)(1)** | ** ** | **Amount  of Gain or (Loss)  Recognized in Income on Derivative  (Ineffective Portion)** | ** ** |
|-----------------------------|------------|-------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------|------------|
| ** **                  | ** ** | **Six  months ended June 30,**                                                       | ** ** | **Six  months ended June 30,**                                                            | ** ** | **Six  months ended June 30,**                                                           | ** ** |
| ** **                  | ** ** | **2010**                                                                                  | ** ** | **2009**                                                                                       | ** ** | **2010**                                                                                      | ** ** | **2009** | ** ** | **2010** | ** ** | **2009** | ** ** |
| Foreign  exchange contracts |       | $                                                                                         | (3,477     | )                                                                                              | $          | 210                                                                                           |       | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
|                             |            |                                                                                           |            |                                                                                                |            |                                                                                               |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(1) Wedo not expect to reclassify any gain or loss from AOCI into income until thesale or upon complete or substantially complete liquidation of the respectiveinvestment in the foreign entity.

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

**Derivatives Not Designated as Hedging Instruments**

 
| ** **                         | ** ** | **Location  of Gain or (Loss)** | ** ** | **Amount  of Gain or (Loss)  Recognized in Income on  Derivative** | ** ** | **Amount  of Gain or (Loss)  Recognized in Income on  Derivative** | ** ** |
|------------------------------------|------------|---------------------------------|------------|--------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                         | ** ** | **Recognized  in Income on**    | ** ** | **Three  months ended June 30,**                                   | ** ** | **Six  months ended June 30,**                                     | ** ** |
| ** **                         | ** ** | **Derivative**                  | ** ** | **2010**                                                           | ** ** | **2009**                                                           | ** ** | **2010** | ** ** | **2009** | ** ** |
| Interest rate  derivative contract |       | Interest expense                |       | $                                                                  | —     |                                                               | $          | 575 |   | $ | (4 | ) | $ | 754 |   |
|                                    |            |                                 |            |                                                                    |            |                                                                    |            |  |  |  |  |  |  |  |  |

 

*Credit risk and collateral*

 

Ourcredit exposure related to interest rate and foreign currency derivativeinstruments is represented by the fair value of contracts with a net liabilityfair value at the reporting date.  Theseoutstanding instruments may expose us to credit loss in the event ofnonperformance by the counterparties to the agreements.  However, we have not experienced any creditloss as a result of counterparty nonperformance in the past.  To manage credit risk, we select and willperiodically review counterparties based on credit ratings and limit ourexposure to any single counterparty. Under our agreements with the counterparty related to our interest ratecaps of Santa Clara Tech Center and Chase — The Private Residences, cashdeposits may be required to be posted by the counterparty whenever their creditrating falls below certain levels.  Basedon our agreement with the counterparty related to our interest rate swap ofCrossroads Office Park, we may be required to post cash collateral of up to$0.6 million if the lender’s obligation to lend under our senior secured creditfacility is terminated or the lender ceases to be a party to the senior securedcredit facility; the value of the derivative is a liability on our consolidatedbalance sheet.  At June 30, 2010, nocollateral has been posted with our counterparties nor have our counterpartiesposted collateral with us related to our derivative instruments.  See Notes 3 and 5 for further information onour derivative instruments.

 

**14.  Distributions**

 

We initiated the payment ofmonthly distributions in August 2006. In April 2007, and through March 2009, the declareddistributions rate was a 3% annualized rate of return, calculated on a dailyrecord basis of $0.0008219 per share. Pursuant to our Third Amended and Restated Distribution ReinvestmentPlan (the “DRP”), stockholders may elect to reinvest any cash distribution inadditional shares of common stock.  Werecord all distributions when declared, except that the stock issued throughthe DRP is recorded when the shares are actually issued.

 

Prior to April 2, 2009,our Board declared daily distributions in advance of the period to which thedistributions applied and the daily distributions were paid monthly in arrears.  On April 2, 2009, our Board of Directorsvoted to declare distributions on a quarterly basis in arrears to generatesignificant cost savings to our stockholders. On July 19, 2010, our Board authorized a quarterly distribution inthe amount of $0.025 per share of common stock, which is equivalent to anannual distribution of 1% assuming a $10 price per share, payable to the commonstockholders of record at the close of business on June 30, 2010.  The distribution will be paid on or before August 16,2010.

 

**15.  Related Party Transactions**

 

BehringerOpportunity Advisors I and certain of its affiliates receive fees andcompensation in connection with the acquisition, management, and sale of ourassets.

 

Wepay Behringer Opportunity Advisors I or its affiliates a debt financing feeequal to 1% of the amount of any debt made available to us.  We incurred no debt financing fees for thesix months ended June 30, 2010.  Weincurred debt financing fees of $0.1 million for the six months ended June 30,2009.

 

Wepay HPT Management Services LP, Behringer Harvard Real Estate Services, LLC, orBehringer Harvard Opportunity Management Services, LLC (collectively, “BHProperty Management”), affiliates of our advisor and our property managers,fees for management, leasing, and construction supervision of our properties,which may be subcontracted to unaffiliated third parties.  Such fees are equal to 4.5% of gross revenuesplus leasing commissions based upon the customary leasing commission applicableto the same geographic location of the respective property.  In the event that we contract directly with anon-affiliated third-party property manager in respect of a property, we willpay BH Property Management an oversight fee equal to 0.5% of gross revenues ofthe property managed.  In no event willwe pay both a property management fee and an oversight fee to BH PropertyManagement with respect to any particular property.  We incurred and expensed property managementfees or oversight fees totaling $0.8 million and $1 million in the six monthsended June 30, 2010 and 2009, respectively.  For the six months ended June 30, 2010,we incurred less than $0.1 million of construction management fees payable toBH Property Management.  We did not incurany construction management fees to BH Property Management for the six monthsended June 30, 2009.

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

Wepay Behringer Opportunity Advisors I an annual asset management fee of 0.75% ofthe aggregate asset value of acquired real estate.  The fee is payable monthly in an amount equalto one-twelfth of 0.75% of the aggregate asset value as of the last day of thepreceding month.  For the six monthsended June 30, 2010, we expensed $3.1 million of asset managementfees.  On July 19, 2010, BehringerOpportunity Advisors I deferred until September 30, 2010, our obligationto pay certain asset management fees totaling $0.5 million recognized for thethree months ended June 30, 2010. For the six months ended June 30, 2009, we expensed $2.7 million ofasset management fees and capitalized less than $0.1 million of assetmanagement fees to real estate.

 

Wewill reimburse Behringer Opportunity Advisors I or its affiliates for allexpenses paid or incurred by them in connection with the services they provideto us, including direct expenses and the costs of salaries and benefits ofpersons employed by those entities and performing services for us, subject tothe limitation that we will not reimburse for any amount by which our advisor’soperating expenses (including the asset management fee) at the end of the fourfiscal quarters immediately preceding the date reimbursement is sought exceedsthe greater of:  (1) 2% of ouraverage invested assets or (2) 25% of our net income for that four quarterperiod other than any additions to reserves for depreciation, bad debts orother similar non-cash reserves and any gain from the sale of our assets forthat period.  Notwithstanding thepreceding sentence, we may reimburse the advisor for expenses in excess of thislimitation if a majority of our independent directors determines that suchexcess expenses are justified based on unusual and non-recurring factors.  For the six months ended June 30, 2010and 2009, we incurred and expensed costs for administrative services totaling$1 million and $0.9 million, respectively.

 

AtJune 30, 2010, we had a payable to our advisor and its affiliates of $0.9million.  This balance consists primarilyof asset management fees and administrative service expenses payable toBehringer Opportunity Advisors I, management fees payable to BH PropertyManagement, and other miscellaneous payables. This payable is partially offset by a receivable from our advisor andits affiliates of less than $0.1 million, which is included in receivables fromrelated parties at June 30, 2010.

 

Weare dependent on Behringer Opportunity Advisors I and BH Property Managementfor certain services that are essential to us, including asset acquisition anddisposition decisions, property management and leasing services, and othergeneral administrative responsibilities. In the event that these companies were unable to provide us with therespective services, we would be required to obtain such services from othersources.

 

**16.  Stock-Based Compensation**

 

TheBehringer Harvard Opportunity REIT I, Inc. Amended and Restated 2004Incentive Award Plan (“Incentive Award Plan”) was approved by our board ofdirectors on July 19, 2005 and by our stockholders on July 25, 2005,and provides for equity awards to our directors and consultants and toemployees, directors, and consultants of our affiliates.  In November 2008, the board of directorsapproved an amendment to the grantees’ stock option agreements for all awardsgranted prior to December 31, 2007, setting forth a revised vesting andexpiration schedule.  Accordingly, alloptions granted prior to December 31, 2007 that were previouslyoutstanding and fully vested are subject to the revised vesting and expirationschedule as follows:  25% becomeexercisable in each of the calendar years 2010 and 2011 with the remaining 50%exercisable in the calendar year 2012. Any vested awards not exercised in the calendar year specified areforfeited and no longer exercisable.  Wedid not recognize any incremental compensation cost resulting from thesemodifications.

 

OnJune 22, 2009, we issued options to purchase 5,000 shares of our commonstock at $8.17 per share to each of our three independent directors pursuant tothe Incentive Award Plan.  On July 24,2008, we issued options to purchase 5,000 shares of our common stock at $9.50 pershare to each of our three independent directors pursuant to the IncentiveAward Plan.  The options issued in both2010 and 2009 become exercisable one year after the date of grant.  As of June 30, 2010, options to purchase69,583 shares of stock were outstanding, at a weighted average exercise priceper share of $8.99.  Of these outstandingshares, 39,896 are fully vested, at a weighted average exercise price per shareof $8.90.  The remaining contractual lifeof the outstanding options is 3.4 years. Compensation expense associated with our Incentive Award Plan was notmaterial for the six months ended June 30, 2010 or 2009.

 

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**Behringer Harvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

**17.  Supplemental Cash FlowInformation**

 

Supplementalcash flow information is summarized below.

 
| ** **                                                                                          | ** ** | **Six months ended June 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                                                                          | ** ** | **2010**                           | ** ** | **2009** | ** ** |
| **Supplemental disclosure:**                                                                        |       |                               |       |   |   |
| Interest paid, net of amounts capitalized                                                           |       | $                                  | 6,008      |   | $ | 6,940 |   |
|                                                                                                |       |                               |       |   |   |
| **Non-cash investing activities:**                                                                  |       |                               |       |   |   |
| Property and equipment additions and purchases of  real estate in accrued liabilities               |       | $                                  | 1,239      |   | $ | 229 |   |
| Capital expenditures for real estate under  development in accounts payable and accrued liabilities |       | $                                  | 2,335      |   | $ | 2,310 |   |
| Amortization of deferred financing fees in  properties under development                            |       | $                                  | 42         |   | $ | 149 |   |
|                                                                                                |       |                               |       |   |   |
| **Non-cash financing activities:**                                                                  |       |                               |       |   |   |
| Common stock issued in distribution reinvestment  plan                                              |       | $                                  | 3,815      |   | $ | 3,008 |   |

 

*****

 

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**Item 2.            Management’s Discussion and Analysis of FinancialCondition and Results of Operations.**

 

The following discussion andanalysis should be read in conjunction with the accompanying financialstatements of the Company and the notes thereto:

 

**Forward-Looking Statements**

 

Certainstatements in this Quarterly Report on Form 10-Q constitute “forward-lookingstatements” within the meaning of Section 27A of the Securities Act of1933, as amended (the “Securities Act”) and Section 21E of the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”).  These forward-looking statements includediscussion and analysis of the financial condition of Behringer HarvardOpportunity REIT I, Inc. and our subsidiaries (which may be referred toherein as the “Company,” “we,” “us” or “our”), including our ability to rentspace on favorable terms, to address our debt maturities and to fund ourliquidity requirements, the value of our assets, our anticipated capitalexpenditures, the amount and timing of anticipated future cash distributions toour stockholders, the estimated per share value of our common stock and othermatters.  Words such as “may,” “anticipates,”“expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “would,” “could,”“should” and variations of these words and similar expressions are intended toidentify forward-looking statements.

 

Theseforward-looking statements are not historical facts but reflect the intent,belief or current expectations of our management based on their knowledge andunderstanding of the business and industry, the economy and other futureconditions.  These statements are notguarantees of future performance, and we caution stockholders not to placeundue reliance on forward-looking statements. Actual results may differ materially from those expressed or forecastedin the forward-looking statements due to a variety of risks, uncertainties andother factors, including but not limited to the factors listed and describedunder Item 1A, “Risk Factors” in our Annual Report on Form 10-K filed withthe Securities and Exchange Commission on March 19, 2010 and the factorsdescribed below:

 

·                  market andeconomic challenges experienced by the U.S. economy or real estate industry asa whole and the local economic conditions in the markets in which ourproperties are located;

 

·                  the availabilityof cash flow from operating activities for distributions and capitalexpenditures;

 

·                  a decrease inthe level of participation under our distribution reinvestment plan;

 

·                  our level ofdebt and the terms and limitations imposed on us by our debt agreements;

 

·                  theavailability of credit generally, and any failure to refinance or extend ourdebt as it comes due or a failure to satisfy the conditions and requirements ofthat debt;

 

·                  the need toinvest additional equity in connection with debt refinancings as a result ofreduced asset values and requirements to reduce overall leverage;

 

·                  futureincreases in interest rates;

 

·                  our ability toraise capital in the future by issuing additional equity or debt securities,selling our assets or otherwise;

 

·                  impairmentcharges;

 

·                  our ability toretain our executive officers and other key personnel of our advisor, ourproperty manager and their affiliates;

 

·                  conflicts ofinterest arising out of our relationships with our advisor and its affiliates;

 

·                  unfavorablechanges in laws or regulations impacting our business or our assets; and

 

·                  factors thatcould affect our ability to qualify as a real estate investment trust.

 

Forward-lookingstatements in this Quarterly Report on Form 10-Q reflect our management’sview only as of the date of this Report, and may ultimately prove to beincorrect or false.  We undertake noobligation to update or revise forward-looking statements to reflect changedassumptions, the occurrence of unanticipated events or changes to futureoperating results.  We intend for theseforward-looking statements to be covered by the applicable safe harborprovisions created by Section 27A of the Securities Act and Section 21Eof the Exchange Act.

 

**CautionaryNote**

 

Therepresentations, warranties, and covenants made by us in any agreement filed asan exhibit to this report on Form 10-Q are made solely for the benefit ofthe parties to the agreement, including, in some cases, for the purpose ofallocating risk among the parties to the agreement, and should not be deemed tobe representations, warranties or covenants

 

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toor with any other parties.  Moreover,these representations, warranties or covenants should not be relied upon asaccurately describing or reflecting the current state of our affairs.

 

**ExecutiveOverview**

 

Weare a Maryland corporation that was formed in November 2004 to invest inand operate commercial real estate or real-estate related assets located in oroutside the United States on an opportunistic basis.  We conduct substantially all of our businessthrough our operating partnership and its subsidiaries. We are organized andqualify as a real-estate investment trust (“REIT”) for federal income taxpurposes.

 

Weare externally managed and advised by Behringer Harvard Opportunity Advisors I,LLC (“Behringer Opportunity Advisors I”), a Texas limited liability companyformed in June 2007.  BehringerOpportunity Advisors I is responsible for managing our day-to-day affairs andfor identifying and making acquisitions and investments on our behalf.

 

Asof June 30, 2010, we had invested in 22 assets:  11 consolidated wholly owned properties; fiveproperties consolidated through investments in joint ventures, including twohotel and development properties and a mixed-use property; an investment in anisland development accounted for under the equity method; an investment in aportfolio of 22 properties located in four Central European countries accountedfor under the equity method; two investments in student housing projects inTexas and Virginia, also accounted for under the equity method; and twomezzanine loans on multifamily properties, which were consolidated prior to January 1,2010.  Our investment properties arelocated in Arizona, California, Colorado, Massachusetts, Minnesota, Missouri,Nevada, Texas, Virginia, the Commonwealth of The Bahamas, London, England, theCzech Republic, Poland, Hungary, and Slovakia.

 

*MarketOutlook*

 

Beginningin 2008, the U.S. and global economies experienced a significant downturn.  This downturn included disruptions in thebroader financial and credit markets, declining consumer confidence, and anincrease in unemployment rates.  Theseconditions have contributed to weakened market conditions.  Due to the struggling U.S. and globaleconomies, overall demand across most real estate sectors including office,hospitality, and retail remains low due to losses in the financial andprofessional services industries and a U.S. unemployment rate of 10% throughoutmuch of the second half of 2009.  Webelieve that corresponding rental rates will also remain weak at least throughthe third quarter of 2010.  The nationalvacancy percentage for office space increased from 14.5% in the fourth quarterof 2008 to 19.6% in the first quarter of 2010. Vacancies are expected to peak at around 20% in 2010.  Further, we believe that tenant defaults andbankruptcies are likely to increase in the short-term.  To date, we have not experienced anysignificant tenant defaults resulting in the loss of material rental income.

 

Thehospitality industry continues to be negatively affected by the poor globaleconomy.  Smith Travel Research indicatesthat the national overall occupancy rate for hospitality properties in theUnited States declined from 53.1% in the fourth quarter of 2008 to 51.9% in thefirst quarter of 2010.  The nationaloverall Average Daily Rate (“ADR”) has also declined, from $103.43 in thefourth quarter of 2008 to $96.27 in the first quarter of 2010.  This weakening of the hospitality industry isexpected to continue throughout 2010 and is not expected to recover until 2011.

 

Inthe multifamily real estate sector, a limited new supply of multifamily assetsis expected in the near future.  Sincehigh quality multifamily developments can take 18 months to 36 months toentitle, obtain necessary permits, and construct, we believe there will be animbalance in supply and demand fundamentals for at least the next couple ofyears.  As the economy improves, weexpect renter demand and effective rents to increase in multifamilycommunities.

 

Wehave several projects in various stages of development including Rio Saladolocated in Phoenix, Arizona; Frisco Square located in Frisco, Texas; The Lodge &Spa at Cordillera located in Edwards, Colorado; and Royal Island, located inThe Bahamas.  Due in large part to thestruggling U.S. and global economies, we have decided to defer further substantivedevelopment activities on these projects for the near term.

 

Whileit is unclear as to when the overall economy will recover, we do not expectconditions to improve significantly in the near future.  Management expects that the currentvolatility in the capital markets will continue, at least in theshort-term.  This volatility hassignificantly impacted the availability of credit for borrowers.  The Wall Street Journal reported in February 2010that lending by U.S. banks fell by 7.4% in 2009 compared to the prior year, thelargest decline in bank lending since 1942. These market conditions make it more difficult to refinance assets whentheir mortgages mature as well as impact our ability to access bank capital forleasing, tenant improvements, and other capital needs of our properties.  Consequently, we may seek alternative sourcesof financing to achieve our investment objectives including using the proceedsfrom the sale of our properties and/or temporarily reducing or eliminating ourquarterly dividend.

 

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**Liquidity and Capital Resources**

 

Our principal demands forfunds for the next twelve months and beyond will be for the payment of costsassociated with the lease-up of available space at our operating properties(including commissions, tenant improvements, and capital improvements), forcertain ongoing costs at our development properties, for the payment ofoperating expenses and distributions, and for the payment of interest andprincipal on our outstanding indebtedness. Generally, cash needs for items other than costs associated with thelease-up of available space at our operating properties (including commissions,tenant improvements, and capital improvements) and ongoing costs at ourdevelopment properties are expected to be met from operations and borrowings.  In August 2010, Behringer OpportunityAdvisors I deferred until March 31, 2011 our obligation to pay all assetmanagement fees accruing during the months of May 2010 through October 2010and all debt financing fees and expense reimbursements accruing during themonths of July 2010 through October 2010.  Also in August 2010, BH PropertyManagement deferred until March 31, 2011 our obligation to pay propertymanagement oversight fees accruing during the months of July 2010 throughOctober 2010.

 

We expect to fund ourshort-term liquidity requirements by using the short-term borrowings and cashflow from the operations of our current investments.  Operating cash flowsare expected to be flat due to rental revenue stabilizing on our operatingproperties combined with lower hotel revenues at The Lodge and Spa atCordillera offset by anticipated condominium sales at The Private Residences atThe Chase Park Plaza.  For both ourshort-term and long-term liquidity requirements, other potential future sourcesof capital may include proceeds from secured or unsecured debt financing,asset dispositions, reduction or elimination of the amount of distributionspaid, decreases in the amount of nonessential capital expenditures, deferral offees paid to Behringer Harvard Opportunity Advisors I, further limitation onthe payment of dividend redemptions, and undistributed funds fromoperations.  If necessary, we may use financings or other sources ofcapital in the event of unforeseen significant capital expenditures.

 

*Debt Financings*

 

We may, from time to time,make mortgage, bridge, or mezzanine loans and other loans for investments orproperty development.  We may obtainfinancing at the time an investment is made or at such later time as determinedto be necessary, depending on multiple factors. Except as noted below, we believe that we were in compliance with thedebt covenants under our loan agreements as of June 30, 2010.

 

Our notes payable decreasedto $352.1 million at June 30, 2010 from $429.8 million at December 31,2009 primarily as a result of the deconsolidation of Tanglewood at Voss andAlexan Black Mountain, effective January 1, 2010 (see Note 8 to ourconsolidated financial statements).  Eachof our loans is secured by one or more of our properties.  At June 30, 2010, our notes payableinterest rates ranged from 2.1% to 6.3%, with a weighted average interest rateof 3.2%.  Generally, our notes payablemature at approximately two to ten years from origination and require paymentsof interest only for approximately two to five years, with all principal andinterest due at maturity. Notes payable associated with our Northborough andFrisco Square investments require monthly payments of both principal andinterest.  At June 30, 2010, ournotes payable had maturity dates that range from July 2010 to January 2016.

 

Thecommercial real estate debt markets have been experiencing and continue toexperience volatility as a result of certain factors, including the tighteningof underwriting standards by lenders and credit rating agencies.  Credit spreads for major sources of capitalhave widened significantly as investors have demanded a higher riskpremium.  This is resulting in lendersincreasing the cost for debt financing. Current economic conditions, as well as few unmortgaged assets, negativelyimpact our ability to finance capital needs through borrowings.  Current market conditions also make it moredifficult to refinance assets when their mortgages mature.  In general, in the current market lendershave increased the amount of equity required to support either new or existingborrowings.  Consequently, there isgreater uncertainty regarding our ability to access the credit markets in orderto attract financing on reasonable terms.

 

Exceptfor selected sub-markets in the multifamily sector, capitalization rates (orcap rates) for real estate properties have generally increased.  Cap rates and property prices move inverselyso that an increase in cap rates should, absent an increase in property netoperating income, result in a decrease in property value.  Although this development is positive for newproperty acquisitions, the overall impact will likely be negative for usbecause we believe it will further strain our ability to finance our businessusing existing assets and to refinance debt on our existing assets because ourproperties may be viewed as less valuable.

 

Asthe overall cost of borrowings increase, either by increases in the index ratesor by increases in lender spreads, we will need to factor such increases intothe economics of our developments and property contributions.  This may result in our investment operationsgenerating lower overall economic returns and a reduced level of cash flow,which could potentially impact our ability to make distributions to ourstockholders at current levels.  Inaddition, the recent dislocations in the debt markets have reduced the amountof capital that is available to finance real estate, which, in turn: (i) leadsto a decline in real estate values generally; (ii) slows real estatetransaction activity; (iii) reduces the loan to value upon which lendersare willing to extend debt; and, (iv) results in difficulty in refinancingdebt as it becomes due, all of which may reasonably be expected to have amaterial adverse impact on the value of real estate investments and therevenues, income or cash flow from the acquisition and operations of realproperties and mortgage loans.  Inaddition, the current state of the debt markets has negatively impacted theability to raise equity capital.

 

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Ifdebt financing is not available on acceptable terms and conditions, we may notbe able to refinance maturing debt or obtain financing for investments.  Domestic and international financial marketshave been experiencing and continue to experience unusual volatility anduncertainty.  If this volatility anduncertainty persists, our ability to borrow monies, on acceptable terms andconditions, to finance the purchase of, or other activities related to, realestate assets will be significantly impacted. If we are unable to borrow monies on acceptable terms and conditions, wemay find it difficult, costly or impossible to refinance indebtedness uponmaturity.  If interest rates are higherwhen the properties are refinanced, our cash flow from operating activitieswill be reduced.  In addition, in thecurrent market, lenders have increased the amount of equity required to supporteither new or existing borrowings.

 

*Santa Clara*

 

TheSanta Clara Tech Center property consists of three buildings:  the 700, 750, and 800 buildings.  The mortgage and mezzanine loans(collectively, the “Original Loans”) associated with the Santa Clara TechCenter matured on June 9, 2010.  Asof the maturity date, due to ongoing negotiations with an unaffiliated thirdparty (the “Santa Clara JV Partner”) to create the joint ventures discussedbelow, we had not yet reached an agreement with the lender to extend the termsof the Original Loans and accordingly, we were granted a forbearance by thelender through August 5, 2010.

 

OnAugust 5, 2010, concurrent with entering into two new joint ventures withthe Santa Clara JV Partner, we reached an agreement with the lender to modifyand extend the Original Loans in the following manner:

 

·                  The agreementsassociated with the Original Loans were severed and replaced by new loanagreements with the same lender by bifurcating the Original Loans into two newloans (the “Replacement Loans”) such that specific debt is associated with the 700 &750 buildings separate from debt associated with the 800 building;

 

·                  The new jointventures paid down the Original Loans’ balance by an aggregate $7 million, suchthat the balances of the Replacement Loans at inception was an aggregate of$45.5 million;

 

·                  The maturitydate of the Replacement Loans is June 9, 2013; and

 

·                  The ReplacementLoans require payment of interest only until maturity at a rate equal to:

 

·                  Replacement mortgage loans — either (i) thegreater of 1% or the 30-day LIBOR, plus 4.75% (the “LIBOR Option”), or (ii) theprime rate plus the difference between the LIBOR Option and the prime rate; and

 

·                  Replacement mezzanine loans — either (i) thegreater of 1% or the 30-day LIBOR, plus 8.5% (the “Mezzanine LIBOR Option”), or(ii) the prime rate plus the difference between the Mezzanine LIBOR Optionand the prime rate.

 

Asof June 30, 2010, the aggregate balance due under the Original Loans was$52.5 million.  Following the August 5,2010 modification and extension, the balance due under the Replacement Loanswas an aggregate $45.5 million.  There isno penalty for prepayment of the Replacement Loans, subject to certainconditions.

 

Further,on August 5, 2010, we entered into the following arrangements:

 

·                  We sold to the SantaClara JV Partner a 50% interest in the Santa Clara Tech Center property forcash of $8.8 million.

 

·                  Concurrent withthe sale, we entered into two new joint venture agreements with the Santa ClaraJV Partner such that one joint venture holds the 700 and 750 buildings separatefrom the joint venture that holds the 800 building.  We contributed our remaining 50% interest inthe Santa Clara Tech Center along with $8.8 million of cash in exchange for 50%interests each of the two new joint ventures. The Santa Clara JV Partner also contributed $8.8 million of cash andtheir 50% interest in the Santa Clara Tech Center in exchange for theirrespective 50% interests.  In addition,the Santa Clara JV Partner acquired separate preferred equity interests in thejoint ventures for an aggregate of $7.5 million in cash.  The joint venture agreements specify that allfuture capital needs of the joint ventures are to be funded pari passu to eachpartner’s respective interest in the joint ventures.

 

Ourinterests in the joint ventures are noncontrolling, unconsolidated interestswhich we expect to account for using the equity method of accounting.  Accordingly, effective, August 5, 2010,we expect to deconsolidate the Santa Clara Tech Center property on ourconsolidated financial statements.

 

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*Becket House*

 

Ourloan agreements generally stipulate that we comply with certain reporting andfinancial covenants.  These covenantsinclude, among other things, notifying the lender of any change in managementand maintaining minimum debt service coverage ratios.  As a result of the difficult economicconditions negatively impacting both occupancy and rental rates at the BecketHouse, which caused lease renewals and new leases to be executed atsubstantially lower rates per square foot, we were unable to meet certainfinancial covenants under the Becket House loan agreement as of June 30,2010.  In addition, in 2009 and 2008, werecognized impairment charges related to our leasehold interest in Becket Houseof $9.9 million and $6 million, respectively. Failure to meet the loan covenants under the loan agreement constitutesa technical default and, absent a waiver or modification of the loan agreement,the lender may accelerate maturity with any unpaid interest and principalimmediately due and payable.  At June 30,2010, the outstanding principal balance of the Becket House loan was $17.6million.  We are currently innegotiations with the lender to waive the event of noncompliance or modify theloan agreement.  However, there are noassurances that we will be successful in our negotiations with the lender.  The Becket House loan is non-recourse to us.

 

*Ferncroft*

 

AtFerncroft Corporate Center (“Ferncroft”), our wholly owned eight-story officebuilding located in Middleton, Massachusetts, our two largest tenants renewedtheir leases for additional terms but for a combined 60,000 square feet lessthan they previously occupied.  As aresult of this significant decrease in occupancy we are currently operatingunder a cash management arrangement in accordance with Ferncroft’s $18 millionCMBS mortgage loan agreement. Accordingly, tenant rental payments are deposited in a restrictedlockbox account.  Therefore, we do nothave direct access to these rental payments, and the disbursement of cash fromthe restricted lockbox account to us is at the discretion of the loan’sservicer.  Furthermore, we have beenunable to disburse cash from the restricted lockbox account to us in order topay Ferncroft’s operating expenses.  Notpaying the operating expenses as they become due constitutes an event ofdefault under the loan agreement.  TheFerncroft loan is non-recourse to us.  Weare in negotiations with the servicer and there are several potential outcomesincluding a loan modification for us to retain ownership in return foradditional capital commitments, a sale of the property to a third-party, or adeed-in-lieu of foreclosure.  However, asof the date of this report we expect that the most likely outcome will be adeed-in-lieu of foreclosure.  We remainthe title holder on Ferncroft as of June 30, 2010, and as of the date ofthis report.

 

Oneof our principal long-term liquidity requirements includes the repayment ofmaturing debt, including borrowings under our senior secured credit facilitydiscussed below.  The following tableprovides information with respect to the contractual maturities and scheduledprincipal repayments of our indebtedness as of June 30, 2010.  The table does not represent any extensionoptions.

 
| ** **                                                                                  | ** ** | **Payments Due by Period**                     | ** ** |
|---------------------------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                                                  | ** ** | **July 1, 2010 - December 31, 2010** | ** ** | **2011-2012** | ** ** | **2013-2014** | ** ** | **After 2014** | ** ** | **Total** | ** ** |
| Principal payments - fixed rate debt                                                        |       | $                                              | 144        |   | $ | 2,300 |   | $ | 17,025 |   | $ | 18,883 |   | $ | 38,352 |   |
| Interest payments - fixed rate debt                                                         |       | 1,164                                          |       | 4,543 |   | 2,979 |   | 1,166 |   | 9,852 |   |
| Principal payments - variable rate debt                                                     |       | 140,595                                        |       | 172,212 |   | — |   | — |   | 312,807 |   |
| Interest payments - variable rate debt (based on  rates in effect as of June 30, 2010) |       | 3,929                                          |       | 2,912 |   | — |   | — |   | 6,841 |   |
|                                                                                        |       |                                           |       |   |   |   |   |   |   |   |   |
| Total                                                                                       |       | $                                              | 145,832    |   | $ | 181,967 |   | $ | 20,004 |   | $ | 20,049 |   | $ | 367,852 |   |

 

Includedin the $140.6 million of principal payments — variable rate debt due in 2010,is $52.5 million related to Santa Clara Tech Center.  On August 5, 2010, we reached anagreement with the lender to modify and extend the Santa Clara note payable to June 9,2013.  Notes payable related to ChasePark Plaza Hotel of $77.5 million, and Chase — The Private Residences of $9.7million are scheduled to mature in 2010. The loan agreements for Chase Park Plaza Hotel and Chase — The PrivateResidences provide us with two one-year options to extend the maturity dates ofthe notes payable, subject to certain conditions.  In the second half of 2010, we expect tofurther pay down the outstanding balance on the note payable related to Chase —The Private Residences through proceeds from the sale of the condominium unitcurrently under contract or reserved as of June 30, 2010.  We are in discussions with the respectivelenders to extend the maturity date or refinance these loans.  If we are unable to reach a satisfactoryarrangement with the lenders or are unable to extend the maturity dates underthe loan agreements, we could go into default under the respective loan

 

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agreements.  Consequently, we may seek other lenders torefinance the notes payable or seek alternative sources of funding, includingthe use of proceeds from the sale of our properties.

 

*Credit Facility*

 

OnFebruary 13, 2008, we entered into a senior secured revolving creditfacility (the “Credit Agreement”) providing for up to $75 million of securedborrowings with Bank of America, as lender and administrative agent, and otherlending institutions that become a party to the Credit Agreement.  The credit facility is secured by a firstlien on all real property assets in a collateral pool consisting of five whollyowned properties.  Loans under the creditfacility bear interest at an annual rate that is equal to a combination of (i) theLIBOR plus an applicable margin that, depending upon the debt service coverageratio, may vary from 1.5% to 1.7%, or (ii) the prime rate plus anapplicable margin that, depending upon the debt service coverage ratio, mayvary from 0% to 0.2%.  The creditfacility matures on February 13, 2011. We have two options to extend the maturity date for a period of twelvemonths each upon meeting certain condition under the Credit Agreement.

 

Wehave unconditionally guaranteed payment of the senior secured revolving creditfacility.  The availability of creditunder the senior secured credit facility is limited by the terms of the CreditAgreement.  As of June 30, 2010, themaximum availability and outstanding balance under the senior secured creditfacility was $69.1 million.  The proceedsof the senior secured credit facility have been used to fund ongoing costs atour development and operating properties and for general corporatepurposes.  Our ability to fund ourliquidity requirements are expected to come from the cash and cash equivalentson the consolidated balance sheet totaling $5.6 million as of June 30,2010 and additional amounts that may become available under our senior securedcredit facility.  As necessary, we mayseek alternative sources of financing including using the proceeds from thesale of our properties and temporarily reducing or eliminating our quarterlydistribution to achieve our investment objectives.

 

Asof June 30, 2010, restricted cash on the consolidated balance sheet of$7.3 million includes amounts held in lockbox accounts related to FerncroftCorporate Center of $1.1 million and amounts set aside as interest reservestotaling $3.1 million.  The remainingbalance of $3.1 million includes amounts set aside related to certain operatingproperties for tenant improvement and commission reserves, tax reserves,maintenance and capital expenditures reserves, and other amounts as may berequired by our lenders.

 

*Joint Venture Indebtedness*

 

Wehave noncontrolling, unconsolidated ownership investments in three propertiesand one investment in a joint venture consisting of 22 properties.  Our effective ownership percentages rangefrom 30% to 50%.  We exercise significantinfluence over, but do not control, these entities and therefore they arepresently accounted for using the equity method of accounting.  As of June 30, 2010, the aggregate debtheld by unrelated parties, including both ours and our partners’ share,incurred by these ventures was approximately $147.1 million.

 

Thetable below summarizes the outstanding debt of these properties as of June 30,2010.

 
| ** **                   | ** ** | **Venture**   | ** ** | **Interest Rate**       | ** ** | ** **   | ** ** | ** **            | ** **           |
|------------------------------|------------|---------------|------------|-------------------------|------------|--------------|------------|-----------------------|----------------------|
| ** **                   | ** ** | **Ownership** | ** ** | **(as of**              | ** ** | **Carrying** | ** ** | **Maturity**          | ** **           |
| **Properties**               | ** ** | **%**         | ** ** | **June 30, 2010)** | ** ** | **Amount**   | ** ** | **Date**              | ** **           |
|                         |       |          |       |                    |       |         |       |                  |                 |
| GrandMarc at the Corner      |       | 50            | %          | 5.06                    | %          | $            | 27,089     |                  | January 1, 2020 |   |
| GrandMarc at Westberry Place |       | 50            | %          | 4.99                    | %          | 37,772       |       | January 1, 2020  |                 |
| Central Europe Joint Venture |       | 47            | %          | 2.31                    | %(1)       | 82,255       |       | March 1, 2012(2) |                 |
| Total                        |       |          |       |                    |       | $            | 147,116    |                  |                 |   |

 

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(1) Represents theweighted average interest rate of the various notes payable secured by the 22properties in the Central Europe Joint Venture.

(2) Represents theweighted average maturity date of the various notes payable secured by the 22properties in the Central Europe Joint Venture.

 

**Resultsof Operations**

 

Asof June 30, 2010, we had invested in 22 assets:  11 consolidated wholly owned properties; fiveproperties consolidated through investments in joint ventures, including twohotel and development properties and a mixed-used property; an investment in anisland development accounted for under the equity method; an investment in aportfolio of 22 properties located in four Central European countries accountedfor under the equity method; two investments in student housing projects inTexas and Virginia, also accounted for under the equity method; and twomezzanine loans on multifamily properties, which we consolidated prior toJanuary 1, 2010.  Our investmentproperties are located in Arizona, California,

 

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Colorado,Massachusetts, Minnesota, Missouri, Nevada, Texas, Virginia, the Commonwealthof The Bahamas, London, England, the Czech Republic, Poland, Hungary, andSlovakia.

 

Asa result of new accounting guidance regarding the accounting and disclosurerequirements for the consolidation of variable interest entities, on January 1,2010, we deconsolidated the assets and liabilities of Tanglewood at Voss andAlexan Black Mountain along with the associated revenue and expenses.

 

*Three months ended June 30,2010 as compared to three months ended June 30, 2009*

 
| ** **                            | ** ** | **Three months ended June 30,** | ** ** | **Increase (Decrease)** | ** ** |
|---------------------------------------|------------|--------------------------------------|------------|-------------------------|------------|
| ** **                            | ** ** | **2010**                             | ** ** | **2009**                | ** ** | **Amount** | ** ** | **Percent** | ** ** |
| Revenue:                              |       |                                 |       |                    |       |   |   |   |   |
| Rental revenue                        |       | $                                    | 12,213     |                    | $          | 15,755 |   | $ | (3,542 | ) | -22 | % |
| Hotel revenue                         |       | 815                                  |       | 674                     |       | 141 |   | 21 | % |
| Condominium sales                     |       | 2,207                                |       | 8,109                   |       | (5,902 | ) | -73 | % |
| Interest income from notes receivable |       | 476                                  |       | —                  |       | 476 |   | n/a |   |
| Total revenues                        |       | $                                    | 15,711     |                    | $          | 24,538 |   | $ | (8,827 | ) | -36 | % |
|                                  |       |                                 |       |                    |       |   |   |   |   |
| Expenses:                             |       |                                 |       |                    |       |   |   |   |   |
| Property operating expenses           |       | $                                    | 5,066      |                    | $          | 6,870 |   | $ | (1,804 | ) | -26 | % |
| Cost of condominium sales             |       | 2,417                                |       | 8,178                   |       | (5,761 | ) | -70 | % |
| Interest expense                      |       | 3,555                                |       | 4,057                   |       | (502 | ) | -12 | % |
| Real estate taxes                     |       | 1,934                                |       | 2,125                   |       | (191 | ) | -9 | % |
| Impairment charge                     |       | —                               |       | 2,732                   |       | (2,732 | ) | n/a |   |
| Property management fees              |       | 528                                  |       | 599                     |       | (71 | ) | -12 | % |
| Asset management fees                 |       | 1,641                                |       | 1,441                   |       | 200 |   | 14 | % |
| General and administrative            |       | 1,337                                |       | 1,668                   |       | (331 | ) | -20 | % |
| Depreciation and amortization         |       | 5,834                                |       | 7,251                   |       | (1,417 | ) | -20 | % |
| Total expenses                        |       | $                                    | 22,312     |                    | $          | 34,921 |   | $ | (12,609 | ) | -36 | % |

 

*Revenues.*  Our totalrevenues decreased by $8.8 million to $15.7 million for the three months ended June 30,2010 as compared to $24.5 million for the three months ended June 30,2009.  The change in revenues isprimarily due to:

 

·                  a decrease in rental revenue of $3.5 millionto $12.2 million for the three months ended June 30, 2010.  The decrease in rental revenue is primarilydue to $1.2 million related to the deconsolidation of Tanglewood at Voss andAlexan Black Mountain, a decrease in revenue related to Chase Park Plaza of$1.1 million, a decrease in rental revenue from Ferncroft of $0.8 million, anda decrease in revenue from Becket House of $0.4 million.  We expect rental revenue to be flat in 2010due to slowing lease-up of available space at our operating properties andmoderating rental rates on rollover of existing leases in the current weakeconomy;

 

·                  hotel revenues for the three months ended June 30,2010 totaled $0.8 million as compared to $0.7 million for the three monthsended June 30, 2009, and consisted of revenues generated by the operationsof The Lodge & Spa at Cordillera. The increase in hotel revenues is primarily due to an increase inoccupancy from 22% for 2009 to 50.5% for 2010;

 

·                  condominium sales of $2.2 million for thethree months ended June 30, 2010 as compared to $8.1 million for the threemonths ended June 30, 2009.  Weclosed on the sale of one condominium unit at The Private Residences at TheChase Park Plaza during the three months ended June 30, 2010.  We closed on the sale of 11 condominium unitsat The Private Residences at The Chase Park Plaza during the three months endedJune 30, 2009; and

 

·                  interest income from notes receivable of $0.5million for the three months ended June 30, 2010 as compared to nointerest income from notes receivable for the three months ended June 30,2009.  This increase is due to $0.5million earned on the Tanglewood at Voss mezzanine loan.

 

*Property Operating Expenses.*  Property operating expenses for the threemonths ended June 30, 2010 were $5.1 million as compared to $6.9 millionfor the three months ended June 30, 2009, and were comprised of operatingexpenses from our consolidated properties. The decrease in property operating expenses was primarily due to $0.7million related to reduced service charges on Becket House consistent withreduced occupancy and $0.5 million related to the deconsolidation of the Tanglewoodat Voss and Alexan Black Mountain properties (see Note 8 to our consolidatedfinancial statements).

 

*Cost of Condominium Sales. *Cost of condominium sales,relating to the sale of condominium units at The Private Residences at TheChase Park Plaza, for the three months ended June 30, 2010 were $2.4million as compared to $8.2 million

 

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for the three months ended June 30,2009.  The decrease is due to the sale ofone condominium unit for the three months ended June 30, 2010 as comparedto the sales of 11 condominium units for the three months ended June 30,2009.

 

*Interest Expense.* Interest expense for the three months ended June 30, 2010 was $3.6million as compared to $4.1 million for the three months ended June 30,2009 and was primarily due to the decrease in notes payable balances related tothe deconsolidation of Tanglewood at Voss and Alexan Black Mountain (see Note 8to our consolidated financial statements). Our total notes payable at June 30, 2010 was $352.1 million ascompared to $433.2 million at June 30, 2009.  Other items contributing to the decrease ininterest expense were a decrease on the Becket House note payable of $0.3million related to a decrease in the average interest rate, offset by anincrease of $0.1 million related to a higher weighted average balance on ourrevolving credit facility.

 

*Real Estate Taxes.*Real estate taxes, net ofamounts capitalized, for the three months ended June 30, 2010 were $1.9million as compared to $2.1 million for the three months ended June 30,2009 and were comprised of real estate taxes from each of our consolidatedproperties.  The decrease in real estatetaxes is primarily due to the deconsolidation of the Tanglewood at Voss andAlexan Black Mountain properties.  Weexpect increases in real estate taxes in the future as available space at ouroperating properties is leased-up.

 

*Impairment charge. *We did notrecognize any impairment charges for the three months ended June 30,2010.  We recognized a $2.7 millionnon-cash impairment charge for the three months ended June 30, 2009,related to our leasehold interest, Becket House.

 

*Property Management Fees. *Property management fees forthe three months ended June 30, 2010 were $0.5 million as compared to $0.6million for the three months ended June 30, 2009 and were comprised offees incurred by our consolidated properties. We expect increases in property management fees in the future asavailable space at our operating properties is leased-up.

 

*Asset Management Fees. *Asset management fees forthe three months ended June 30, 2010 totaled $1.6 million as compared to$1.4 million for the three months ended June 30, 2009 and were comprisedof fees incurred by our consolidated properties.  We expect asset management fees to stabilizein the future.

 

*General and Administrative Expenses.* General and administrative expenses for thethree months ended June 30, 2010 totaled $1.3 million, as compared to $1.7million for the three months ended June 30, 2009 and were comprised ofcorporate general and administrative expenses, including directors’ andofficers’ insurance premiums, auditing fees, legal fees and other administrativeexpenses.

 

*Depreciation and Amortization Expense. *Depreciation and amortization expense for the three months endedJune 30, 2010 was $5.8 million as compared to $7.3 million for thethree months ended June 30, 2009 and was comprised of depreciation andamortization of our consolidated properties. The decrease in depreciation and amortization expense was primarily dueto the deconsolidation of the Tanglewood at Voss and Alexan Black Mountainproperties (see Note 8 to our consolidated financial statements).

 

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*Six months ended June 30,2010 as compared to six months ended June 30, 2009*

 
| ** **                            | ** ** | **Six months ended June 30,** | ** ** | **Increase (Decrease)** | ** ** |
|---------------------------------------|------------|------------------------------------|------------|-------------------------|------------|
| ** **                            | ** ** | **2010**                           | ** ** | **2009**                | ** ** | **Amount** | ** ** | **Percent** | ** ** |
| Revenue:                              |       |                               |       |                    |       |   |   |   |   |
| Rental revenue                        |       | $                                  | 24,544     |                    | $          | 31,581 |   | $ | (7,037 | ) | -22 | % |
| Hotel revenue                         |       | 2,049                              |       | 1,498                   |       | 551 |   | 37 | % |
| Condominium sales                     |       | 25,564                             |       | 11,929                  |       | 13,635 |   | 114 | % |
| Interest income from notes receivable |       | 6,434                              |       | —                  |       | 6,434 |   | n/a |   |
| Total revenues                        |       | $                                  | 58,591     |                    | $          | 45,008 |   | $ | 13,583 |   | 30 | % |
|                                  |       |                               |       |                    |       |   |   |   |   |
| Expenses:                             |       |                               |       |                    |       |   |   |   |   |
| Property operating expenses           |       | $                                  | 10,994     |                    | $          | 13,557 |   | $ | (2,563 | ) | -19 | % |
| Cost of condominium sales             |       | 25,937                             |       | 12,020                  |       | 13,917 |   | 116 | % |
| Interest expense                      |       | 7,233                              |       | 8,191                   |       | (958 | ) | -12 | % |
| Real estate taxes                     |       | 3,759                              |       | 4,435                   |       | (676 | ) | -15 | % |
| Impairment charge                     |       | 4,230                              |       | 2,732                   |       | 1,498 |   | 55 | % |
| Provision for loan losses             |       | 7,136                              |       | —                  |       | 7,136 |   | n/a |   |
| Property management fees              |       | 1,087                              |       | 1,199                   |       | (112 | ) | -9 | % |
| Asset management fees                 |       | 3,103                              |       | 2,779                   |       | 324 |   | 12 | % |
| General and administrative            |       | 2,598                              |       | 2,984                   |       | (386 | ) | -13 | % |
| Depreciation and amortization         |       | 11,582                             |       | 15,014                  |       | (3,432 | ) | -23 | % |
| Total expenses                        |       | $                                  | 77,659     |                    | $          | 62,911 |   | $ | 14,748 |   | 23 | % |

 

*Revenues.*  Our totalrevenues increased by $13.6 million to $58.6 million for the six months ended June 30,2010 as compared to $45 million for the six months ended June 30,2009.  The change in revenues isprimarily due to:

 

·                  a decrease in rental revenue of $7 million to$24.5 million for the six months ended June 30, 2010.  The decrease in rental revenue is primarilydue to $2.3 million related to the deconsolidation of Tanglewood at Voss andAlexan Black Mountain, a decrease in revenue related to Chase Park Plaza of$2.1 million, a decrease in rental revenue from Ferncroft of $1.5 million, anda decrease in revenue from Becket House of $1.2 million.  We expect rental revenue to be flat in 2010due to slowing lease-up of available space at our operating properties andmoderating rental rates on rollover of existing leases in the current weakeconomy;

 

·                  hotel revenues for the six months ended June 30,2010 totaled $2 million as compared to $1.5 million for the six months ended June 30,2009, and consisted of revenues generated by the operations of The Lodge &Spa at Cordillera.  The increase in hotelrevenues is primarily due to an increase in occupancy from 22% for 2009 to50.5% for 2010;

 

·                  condominium sales of $25.6 million for thesix months ended June 30, 2010 as compared to $11.9 million for the sixmonths ended June 30, 2009.  Weclosed on the sale of 12 condominium units at an average price of $2.1 millioneach at The Private Residences at The Chase Park Plaza during the six monthsended June 30, 2010.  We closed onthe sale of 16 condominium units at an average price of $0.7 million each atThe Private Residences at The Chase Park Plaza during the six months ended June 30,2009; and

 

·                  interest income from notes receivable of $6.4million for the six months ended June 30, 2010 as compared to no interestincome from notes receivable for the six months ended June 30, 2009.  This increase is primarily due to the $5.5million of interest received from the Royal Island borrowers and $0.9 millionearned on the Tanglewood at Voss mezzanine loan.

 

*Property Operating Expenses.*  Property operating expenses for the sixmonths ended June 30, 2010 were $11 million as compared to $13.6 millionfor the six months ended June 30, 2009, and were comprised of operatingexpenses from our consolidated properties. The decrease in property operating expenses was primarily due to $0.9million related to reduced service charges on Becket House consistent with reducedoccupancy and $1.1 million related to the deconsolidation of the Tanglewood atVoss and Alexan Black Mountain properties (see Note 8 to our consolidatedfinancial statements).

 

*Cost of Condominium Sales. *Cost of condominium sales,relating to the sale of condominium units at The Private Residences at TheChase Park Plaza, for the six months ended June 30, 2010 were $25.9million as compared to $12 million for the six months ended June 30,2009.  We closed on the sale of 12condominium units at an average cost of $2.1 million each at The PrivateResidences at The Chase Park Plaza during the six months ended June 30,2010.  We closed on the sale of 

 

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16 condominium units at anaverage cost of $0.7 million each at The Private Residences at The Chase ParkPlaza during the six months ended June 30, 2009

 

*Interest Expense.* Interest expense for the six months ended June 30, 2010 was $7.2million as compared to $8.2 million for the six months ended June 30, 2009and was primarily due to the decrease in notes payable balances related to thedeconsolidation of Tanglewood at Voss and Alexan Black Mountain (see Note 8 toour consolidated financial statements). Our total notes payable at June 30, 2010 was $352.1 million ascompared to $433.2 million at June 30, 2009.  Other items contributing to the decrease ininterest expense were a decrease of $0.6 million related to a paydown of $8.7million on the note payable related to Chase Park Plaza, offset by an increaseof $0.3 million on The Private Residences at Chase Park Plaza due to areduction in interest capitalization as construction of the condominiums iscompleted.

 

*Real Estate Taxes.*Real estate taxes, net ofamounts capitalized, for the six months ended June 30, 2010 were $3.8million as compared to $4.4 million for the six months ended June 30, 2009and were comprised of real estate taxes from each of our consolidatedproperties.  The decrease in real estatetaxes is primarily due to the deconsolidation of the Tanglewood at Voss andAlexan Black Mountain properties.  Weexpect increases in real estate taxes in the future as available space at ouroperating properties is leased-up.

 

*Impairment charge.*We recognized a $4.2 millionnon-cash impairment charge during the first quarter of 2010 related to ouroffice property, Ferncroft Corporate Center. For the six months ended June 30, 2009, we recognized an impairmentcharge of $2.7 million related to our lease-hold interest, Becket House.

 

*Provision for loan losses.*  During the first quarter of 2010, we recordeda $7.1 million provision for loan losses to reflect our current estimate ofpotential loan loss.  The provision forloan losses relates to the Alexan Black Mountain mezzanine loan.  There were no such provisions or reservesrecorded for the first or second quarter of 2009 as we did not consolidate thisasset.

 

*Property Management Fees. *Property management fees forthe six months ended June 30, 2010 were $1.1 million as compared to $1.2million for the six months ended June 30, 2009 and were comprised of feesincurred by our consolidated properties. We expect increases in property management fees in the future as availablespace at our operating properties is leased-up.

 

*Asset Management Fees. *Asset management fees forthe six months ended June 30, 2010 totaled $3.1 million as compared to$2.8 million for the six months ended June 30, 2009 and were comprised offees incurred by our consolidated properties. We expect asset management fees to stabilize in the future.

 

*General and Administrative Expenses.* General and administrative expenses for thesix months ended June 30, 2010 were $2.6 million as compared to $3 millionfor the six months ended June 30, 2009 and were comprised of corporategeneral and administrative expenses, including directors’ and officers’insurance premiums, auditing fees, legal fees and other administrativeexpenses.

 

*Depreciation and Amortization Expense. *Depreciation and amortization expense for the six months endedJune 30, 2010 was $11.6 million as compared to $15 million for thesix months ended June 30, 2009 and was comprised of depreciation andamortization of our consolidated properties. The decrease in depreciation and amortization expense was primarily duea decrease in depreciation and amortization expense of $1.2 million related toa write-off at Ferncroft, and to $1.6 million related to the deconsolidation ofthe Tanglewood at Voss and Alexan Black Mountain properties (see Note 8 to ourconsolidated financial statements).

 

**CashFlow Analysis**

 

Cashflows provided by operating activities for the six months ended June 30,2010 were $17.1 million and were comprised primarily of a decrease incondominium inventory of $19.1 million, provision for loan losses of $7.1million, an impairment charge to our Ferncroft property of $4.2 million, anddepreciation and amortization expense of $10.2 million, offset by the net lossof $20.4 million, and an increase in accrued and other liabilities of $3.2million.  Cash flows provided byoperating activities for the six months ended June 30, 2009 were $5.3million and were comprised primarily of the net loss of $19.5 million offset bya decrease in condominium inventory of $6 million and depreciation andamortization expense of $12.7 million.

 

Cashflows used in investing activities for the six months ended June 30, 2010were $8 million and primarily represent investment in notes receivable of $3.3million and capital expenditures for real estate under development of $3.7million.  Cash flows used in investingactivities for the six months ended June 30, 2009 were $23.8 million andprimarily represent capital expenditures for real estate under development,including capital expenditures of consolidated borrowers totaling $9.4 million,investment in notes receivable of $5.1 million, and additions of property andequipment of $5 million.

 

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Cashflows used in financing activities for the six months ended June 30, 2010were $10.2 million and were comprised primarily of payments on notes payable of$21.6 million, offset by net borrowings on our senior secured revolving creditfacility of $6.5 million, and proceeds from notes payable of $7 million.  Cash flows provided by financing activitiesfor the six months ended June 30, 2009 were $13.5 million and werecomprised primarily of net borrowings on our senior secured revolving creditfacility of $8.6 million and proceeds from notes payable of $16.4 million,offset by payments on notes payable of $11.7 million.

 

**Fundsfrom Operations and Modified Funds from Operations**

 

Funds from operations (“FFO”) is a non-GAAP financial measure that iswidely recognized as a measure of REIT operating performance.  We use FFO, defined by the NationalAssociation of Real Estate Investment Trusts as net income (loss), computed inaccordance with GAAP, excluding extraordinary items, as defined by GAAP, andgains (or losses) from sales of property, plus depreciation and amortization onreal estate assets, and after adjustments for unconsolidated partnerships,joint ventures, subsidiaries, and noncontrolling interests as one measure toevaluate our operating performance.  Inaddition to FFO, we use modified funds from operations (“Modified Funds fromOperations” or “MFFO”), which excludes from FFO acquisition-related costs,impairment charges and adjustments to fair value for derivatives not qualifyingfor hedge accounting, to further evaluate our operating performance.

 

Historicalcost accounting for real estate assets in accordance with GAAP implicitlyassumes that the value of real estate diminishes predictably over time.  Since real estate values have historicallyrisen or fallen with market conditions, many industry investors and analystshave considered the presentation of operating results for real estate companiesthat use historical cost accounting alone to be insufficient.  As a result, our management believes that theuse of FFO and MFFO, together with the required GAAP presentations, provide amore complete understanding of our performance.

 

Webelieve that FFO is helpful to investors and our management as a measure ofoperating performance because it excludes depreciation and amortization, gainsand losses from property dispositions, and extraordinary items, and as aresult, when compared year over year, reflects the impact on operations fromtrends in occupancy rates, rental rates, operating costs, general andadministrative expenses, and interest costs, which is not immediately apparentfrom net income.  We believe that MFFO ishelpful to our investors and our management as a measure of operatingperformance because it excludes costs that management considers more reflectiveof investing activities and other non-operating items included in FFO.  By providing FFO and MFFO, we presentinformation that assists investors in aligning their analysis with management’sanalysis of long-term, core operating activities.  We believe fluctuations in MFFO areindicative of changes in operating activities and provide comparability inevaluating our performance over time and as compared to other real estatecompanies that may not have acquisition activities or derivatives or beaffected by impairments.

 

Asexplained below, management’s evaluation of our operating performance excludesthe items considered in the calculation of MFFO based on the following economicconsiderations:

 

·                  Impairment charges.  An impairment charge represents a downwardadjustment to the carrying amount of a long-lived asset to reflect the currentvaluation of the asset even when the asset is intended to be held long-term.  Such adjustment, when properly recognizedunder GAAP, may lag the underlying consequences related to rental rates,occupancy and other operating performance trends.  The valuation is also based, in part, on theimpact of current market fluctuations and estimates of future capitalrequirements and long-term operating performance that may not be directlyattributable to current operating performance. Because MFFO excludes impairment charges, management believes MFFOprovides useful supplemental information by focusing on the changes in ouroperating fundamentals rather than changes that may reflect only anticipatedlosses.

 

·                  Adjustments to fair value for derivatives notqualifying for hedge accounting. Management uses derivatives in the management of our debt and interestrate exposure.  We do not intend tospeculate in these interest rate derivatives and accordingly period-to-periodchanges in derivative valuations are not primary factors in management’sdecision-making process.  We believe byexcluding the gains or losses from these derivatives, MFFO provides usefulsupplemental information on the realized economic impact of the hedgesindependent of short-term market fluctuations.

 

·                  Acquisition-related costs.  In evaluating investments in real estate,including both business combinations and investments accounted for under theequity method of accounting, management’s investment models and analysisdifferentiate costs to acquire the investment from the operations derived fromthe investment.  Prior to 2009,acquisition costs for these types of investments were capitalized; however,beginning in 2009 acquisition costs related to business combinations areexpensed.  We believe by excludingexpensed acquisition costs, MFFO provides useful supplemental information thatis comparable for each type of our real estate investments and is consistentwith management’s analysis of the investing and operating performance of ourproperties.

 

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FFOor MFFO should not be considered an alternative to net income (loss) or anindication of our liquidity.  Neither isindicative of funds available to fund our cash needs, including our ability tomake distributions, and each should be reviewed in connection with other GAAPmeasurements.  Our FFO and MFFO may notbe comparable to presentations by other REITs.

 

Ourcalculation of FFO and MFFO for the three and six months ended June 30,2010 and 2009 is presented below (amounts in thousands, except per shareamounts):

 
| ** **                                                                                  | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                                                                                  | ** ** | **2010**                             | ** ** | **2009**                           | ** ** | **2010** | ** ** | **2009** | ** ** |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| Net loss                                                                                    |       | $                                    | (7,204     | )                                  | $          | (11,850 | ) | $ | (20,362 | ) | $ | (19,503 | ) |
| Net loss attributable to noncontrolling interest                                            |       | 237                                  |       | 2,756                              |       | 601 |   | 5,077 |   |
| Adjustments for:                                                                            |       |                                 |       |                               |       |   |   |   |   |
| Real estate depreciation and amortization per  income statement                             |       | 5,834                                |       | 7,251                              |       | 11,582 |   | 15,014 |   |
| Pro rata share of unconsolidated JV depreciation  and amortization (1)                      |       | 1,109                                |       | 1,230                              |       | 2,271 |   | 2,421 |   |
| Noncontrolling interest depreciation &  amortization(2)                            |       | (129                                 | )          | (1,022                             | )          | (261 | ) | (2,022 | ) |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| Funds from operations (FFO)                                                                 |       | $                                    | (153       | )                                  | $          | (1,635 | ) | $ | (6,169 | ) | $ | 987 |   |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| Other Adjustments:                                                                          |       |                                 |       |                               |       |   |   |   |   |
| Impairment charge(3)                                                                        |       | —                               |       | 2,732                              |       | 4,230 |   | 2,732 |   |
| Noncontrolling interest share of impairment charge                                          |       | —                               |       | (546                               | )          | — |   | (546 | ) |
| Gain on derivatives not designated as hedging  instruments                                  |       | —                               |       | (575                               | )          | (4 | ) | (754 | ) |
| Noncontrolling interest share of gain on derivatives  not designated as hedging instruments |       | —                               |       | 29                                 |       | 1 |   | 38 |   |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| MFFO                                                                                        |       | $                                    | (153       | )                                  | $          | 5 |   | $ | (1,942 | ) | $ | 2,457 |   |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| GAAP weighted average shares:                                                               |       |                                 |       |                               |       |   |   |   |   |
| Basic and diluted                                                                           |       | 56,203                               |       | 55,211                             |       | 56,127 |   | 55,122 |   |
|                                                                                        |       |                                 |       |                               |       |   |   |   |   |
| MFFO per share                                                                              |       | $                                    | 0.00       |                               | $          | 0.00 |   | $ | (0.03 | ) | $ | 0.04 |   |

 

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(1) This represents the depreciation and amortization expense of ourshare of depreciation and amortization expense of the properties which weaccount for under the equity method of accounting.

(2) This reflects the noncontrolling interest adjustment for thethird-party partners’ proportionate share of the real estate depreciation andamortization.

(3) Includes the portion of the provision for loan loss asapplicable to the principal amount of the loan.

 

Providedbelow is additional information related to selected non-cash items included innet loss above, which may be helpful in assessing our operating results.

 

·                  Straight-linerental revenue of $0.5 million and $1.8 million was recognized for the threeand six months ended June 30, 2010, respectively.  Straight-line rental revenue of $0.6 millionand $1.1 million was recognized for the three and six months ended June 30,2009, respectively.

 

·                  Amortization ofintangible lease assets and liabilities was recognized as a net increase torental revenues of $0.7 million and $1.4 million for the three and six monthsended June 30, 2010, respectively. Amortization of intangible lease assets and liabilities was recognizedas a net increase to rental revenues of $1.2 million and $2.4 million for thethree and six months ended June 30, 2009, respectively.

 

·                  Amortization ofintangible property tax abatement assets was recognized as an increase to realestate tax expense of $0.1 million and $0.2 million for the three and sixmonths ended June 30, 2010, respectively. Amortization of intangible property tax abatement assets was recognizedas an increase to real estate tax expense of $0.1 million and $0.2 million forthe three and six months ended June 30, 209, respectively.

 

·                  Amortization ofdeferred financing costs of $0.7 million and $1.4 million was recognized asinterest expense for mortgages and notes payable for the three and six monthsended June 30, 2010, respectively; and $0.2 million and $0.4 million wasrecognized as a reduction of interest income for the three and six months endedJune 30, 2010, respectively. Amortization of deferred financing costs of $0.8 million and $1.6million was recognized as 

 

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interestexpense for mortgages and notes payable for the three and six months ended June 30,2009, respectively; and $0.2 million and $0.4 million was recognized as areduction of interest income for the three and six months ended June 30,2009, respectively.

 

Inaddition, cash flows generated from FFO may be used to fund all or a portion ofcertain capitalizable items that are excluded from FFO, such as capitalexpenditures and payments of principal on debt, each of which may impactthe amount of cash available for distribution to our stockholders.

 

Asnoted above, we believe FFO and MFFO are helpful to investors and ourmanagement as a measure of operating performance.  FFO and MFFO are not indicative of our cashavailable to fund distributions since other uses of cash, such as capitalexpenditures at our properties and principal payments of debt, are not deductedwhen calculating FFO and MFFO.

 

**Distributions**

 

Distributionsare authorized at the discretion of our board of directors based on itsanalysis of our performance over the previous period, expectations ofperformance for future periods, including actual and anticipated operating cashflow, changes in market capitalization rates for investments suitable for ourportfolio, capital expenditure needs, general financial condition, and otherfactors that our board deems relevant. The board’s decision will be influenced, in substantial part, by itsobligation to ensure that we maintain our status as a REIT.  In light of the pervasive and fundamentaldisruptions in the global financial and real estate markets, we cannot provideassurance that we will be able to achieve expected cash flows necessary tocontinue to pay distributions at any particular level, or at all.  Our board may determine to reduce our currentdistribution rate or cease paying distributions in order to conserve cash.

 

Cashamounts distributed to stockholders during the six months ended June 30,2010 was $1.8 million.  For the sixmonths ended June 30, 2010, cash flows provided by operating activitieswas $16.5 million.  Accordingly, for thesix months ended June 30, 2010, cash flow from operations exceeded cashamounts distributed to stockholders by $14.7 million.  Cash amounts distributed to stockholdersduring the six months ended June 30, 2009 were $1.4 million.  For the six months ended June 30, 2009,cash flows provided by operating activities were $5.3 million.  Accordingly, for the six months ended June 30,2009, cash flow from operations exceeded cash amounts distributed tostockholders by $3.9 million.

 

Thefollowing are the distributions paid and declared for the three and six monthsended June 30, 2010 and 2009.

 
| ** **     | ** ** | ** **             | ** ** | ** **        | ** ** | ** **       | ** ** | **Total**    | ** ** | **Declared**  | ** ** |
|----------------|------------|------------------------|------------|-------------------|------------|------------------|------------|--------------|------------|---------------|------------|
| ** **     | ** ** | **Distributions Paid** | ** ** | **Distributions** | ** ** | **Distribution** | ** ** |
| **2010**       | ** ** | **Cash**               | ** ** | **Reinvested**    | ** ** | **Total**        | ** ** | **Declared** | ** ** | **Per Share** | ** ** |
| Second Quarter |       | $                      | 460        |              | $          | 943              |       | $            | 1,403      |          | $          | 1,406 |   | $ | 0.025 |   |
| First Quarter  |       | 1,316                  |       | 2,872             |       | 4,188            |       | 1,405        |       | 0.025         |       |
|           |       | $                      | 1,776      |              | $          | 3,815            |       | $            | 5,591      |          | $          | 2,811 |   | $ | 0.050 |   |

 
| ** **     | ** ** | ** **             | ** ** | ** **        | ** ** | ** **       | ** ** | **Total**    | ** ** | **Declared**   | ** ** |
|----------------|------------|------------------------|------------|-------------------|------------|------------------|------------|--------------|------------|----------------|------------|
| ** **     | ** ** | **Distributions Paid** | ** ** | **Distributions** | ** ** | **Distribution** | ** ** |
| **2009**       | ** ** | **Cash**               | ** ** | **Reinvested**    | ** ** | **Total**        | ** ** | **Declared** | ** ** | **Per  Share** | ** ** |
| Second Quarter |       | $                      | 372        |              | $          | 1,032            |       | $            | 1,404      |           | —     |   | — |   |
| First Quarter  |       | 1,047                  |       | 3,017             |       | 4,064            |       | 4,070        |       | 0.075          |       |
|           |       | $                      | 1,419      |              | $          | 4,049            |       | $            | 5,468      |           | $          | 4,070 |   | $ | 0.075 |   |
|                |            |                        |            |                   |            |                  |            |              |            |                |            |  |  |  |  |  |

 

OnApril 2, 2009, our Board of Directors voted to declare dividends on aquarterly basis rather than a monthly basis, thus generating significantadministrative cost savings to our shareholders, and to determine and payfuture distributions in arrears rather than in advance of the period to whichthey apply.  On July 19, 2010, ourBoard of Directors authorized a quarterly distribution in the amount of $0.025per share of common stock, which is equivalent to an annual distribution of 1%assuming a $10 price per share.  Thedistribution is payable to the common stockholders of record at the close ofbusiness on June 30, 2010.  Thedistribution was paid on August 10, 2010.

 

Operatingperformance cannot be accurately predicted due to numerous factors, includingthe financial performance of our investments in the current real estateenvironment, the types and mix of investments in our portfolio and theaccounting treatment of our investments in accordance with our accountingpolicies.  Asa result, future distributions declared and paid may continue to exceed cashflow from operating activities.

 

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**Share Redemption Plan**

 

Ourboard of directors has authorized a share redemption program for stockholderswho have held their shares for more than one year.  On March 30, 2009, our board ofdirectors suspended, until further notice, redemptions other than those submittedin respect of a stockholder’s death, disability or confinement to a long-termcare facility.  On May 11, 2009 and November 9,2009, our board of directors approved certain amendments to the program relatedto the per share redemption price.  Inthe second quarter ended June 30, 2010, we redeemed 52,899 shares ofcommon stock.

 

**Critical Accounting Policies and Estimates**

 

Management’sdiscussion and analysis of financial condition and results of operations arebased upon our consolidated financial statements, which have been prepared inaccordance with GAAP.  The preparation ofthese financial statements requires our management to make estimates andassumptions that affect the reported amounts of assets, liabilities, revenuesand expenses, and related disclosure of contingent assets and liabilities.  We evaluate these estimates, includinginvestment impairment, on a regular basis. These estimates will be based on management’s historical industryexperience and on various other assumptions that are believed to be reasonableunder the circumstances.  Actual resultsmay differ from these estimates.

 

Below is a discussion of theaccounting policies that we consider will be critical in that they may requirecomplex judgment in their application or require estimates about matters thatare inherently uncertain.

 

***Principles of Consolidation and Basis ofPresentation***

 

Ourconsolidated financial statements include our accounts and the accounts ofother subsidiaries over which we have control. All inter-company transactions, balances, and profits have beeneliminated in consolidation.  Interestsin entities acquired will be evaluated based on applicable GAAP, which includesthe requirement to consolidate entities deemed to be variable interest entities(“VIE”) in which we are the primary beneficiary.  If the interest in the entity is determinednot to be a VIE, then the entities will be evaluated for consolidation based onlegal form, economic substance, and the extent to which we have control and/orsubstantive participating rights under the respective ownership agreement.

 

Thereare judgments and estimates involved in determining if an entity in which wehave made an investment is a VIE and, if so, whether we are the primarybeneficiary.  The entity is evaluated todetermine if it is a VIE by, among other things, calculating the percentage ofequity being risked compared to the total equity of the entity.  Determining expected future losses involvesassumptions of various possibilities of the results of future operations of theentity, assigning a probability to each possibility and using a discount rateto determine the net present value of those future losses.  A change in the judgments, assumptions, andestimates outlined above could result in consolidating an entity that shouldnot be consolidated or accounting for an investment using the equity methodthat should in fact be consolidated, the effects of which could be material toour financial statements.

 

***Real Estate***

 

Upon the acquisition of real estate properties, we recognize the assetsacquired, the liabilities assumed, and any noncontrolling interest as of theacquisition date, measured at their fair values.  The acquisition date is the date on which weobtain control of the real estate property. These assets acquired and liabilities assumed may consist of buildings,any assumed debt, identified intangible assets and asset retirement obligations.  Identified intangible assets generallyconsist of the above-market and below-market leases, in-place leases, in-placetenant improvements and tenant relationships. Goodwill is recognized as of the acquisition date and measured as theaggregate fair value of the consideration transferred and any noncontrollinginterests in the acquiree over the fair value of identifiable net assetsacquired.  Likewise, a bargain purchasegain is recognized in current earnings when the aggregate fair value of theconsideration transferred and any noncontrolling interests in the acquiree isless than the fair value of the identifiable net assets acquired.  Acquisition-related costs are expensed in theperiod incurred.

 

Initialvaluations are subject to change until our information is finalized, which isno later than twelve months from the acquisition date.

 

Thefair value of any tangible assets acquired, expected to consist of land, landimprovements, buildings, building improvements, and furniture, fixtures andequipment, is determined by valuing the property as if it were vacant, and the “as-if-vacant”value is then allocated to the tangible assets. Land values are derived from appraisals, and building and landimprovements values are calculated as replacement cost less depreciation ormanagement’s estimates of the relative fair value of these assets usingdiscounted cash flow analyses or similar methods.  Furniture, fixtures, and equipment values aredetermined based on current reproduction or replacement cost less depreciationand other estimated allowances based on physical, functional, or economicfactors.  The value of buildings isdepreciated over the estimated useful lives ranging from 25 years forcommercial office property to 39 years for hotel/mixed-use property using thestraight-line method.  Land

 

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improvementsare depreciated over the estimated useful life of 15 years, and furniture,fixtures, and equipment are depreciated over estimated useful lives rangingfrom five to seven years using the straight-line method.

 

Wedetermine the value of above-market and below-market in-place leases foracquired properties based on the present value (using an interest rate thatreflects the risks associated with the leases acquired) of the differencebetween (i) the contractual amounts to be paid pursuant to the in-placeleases and (ii) management’s estimate of current market lease rates forthe corresponding in-place leases, measured over a period equal to (a) theremaining noncancelable lease term for above-market leases, or (b) theremaining noncancelable lease term plus any fixed rate renewal options forbelow-market leases.  We record the fairvalue of above-market and below-market leases as intangible assets or intangibleliabilities, respectively, and amortize them as an adjustment to rental incomeover the determined lease term.

 

Thetotal value of identified real estate intangible assets that we may acquire inthe future is further allocated to in-place lease values and tenantrelationships based on our evaluation of the specific characteristics of eachtenant’s lease and our overall relationship with that respective tenant.  The aggregate value of in-place leasesacquired and tenant relationships is determined by applying a fair valuemodel.  The estimates of fair value ofin-place leases include an estimate of carrying costs during the expectedlease-up periods for the respective spaces considering current marketconditions.  In estimating fair value ofin-place leases, we consider items such as real estate taxes, insurance andother operating expenses as well as lost rental revenue during the expectedlease-up period and carrying costs that would have otherwise been incurred hadthe leases not been in place, including tenant improvements andcommissions.  The estimates of the fairvalue of tenant relationships also include costs to execute similar leasesincluding leasing commissions, legal costs and tenant improvements as well asan estimate of the likelihood of renewal as determined by management on atenant-by-tenant basis.

 

Weamortize the value of in-place leases acquired in the future to expense overthe term of the respective leases.  Thevalue of tenant relationship intangibles is amortized to expense over theinitial term and any anticipated renewal periods, but in no event does theamortization period for intangible assets exceed the remaining depreciable lifeof the building.  Should a tenantterminate their lease, the unamortized portion of the in-place lease value andtenant relationship intangibles would be charged to expense.

 

Otherintangible assets include the value of identified hotel trade names andin-place property tax abatements.  Thesefair values are based on management’s estimates of the relative fair value ofthese assets using discounted cash flow analyses or similar methods.  The value of the trade names is amortizedover its respective estimated useful life of 20 years using the straight-linemethod and the value of the in-place property tax abatement is amortized overits estimated term of 10 years using the straight-line method.

 

Wedetermine the fair value of assumed debt by calculating the net present valueof the scheduled mortgage payments using interest rates for debt with similarterms and remaining maturities that management believes we could obtain.  Any difference between the fair value andstated value of the assumed debt is recorded as a discount or premium andamortized over the remaining life of the loan.

 

***Investment Impairments***

 

Forreal estate we wholly own, we monitor events and changes in circumstancesindicating that the carrying amounts of the real estate assets may not berecoverable.  When such events or changesin circumstances are present, we assess potential impairment by comparingestimated future undiscounted operating cash flows expected to be generatedover the life of the asset and from its eventual disposition to the carryingamount of the asset.  In the event thatthe carrying amount exceeds the estimated future undiscounted operating cashflows, we recognize an impairment loss to adjust the carrying amount of theasset to estimated fair value.  Weconsider projected future undiscounted cash flows, trends, strategic decisionsregarding future development plans, and other factors in our assessment ofwhether impairment conditions exist. While we believe our estimates of future cash flows are reasonable,different assumptions regarding such factors as market rents, economies, andoccupancies could significantly affect these estimates.

 

Inthe first quarter of 2010, we evaluated Ferncroft Corporate Center forimpairment, and accordingly, recognized a $4.2 million impairment charge forthe three months ended March 31, 2010. No impairment charges were recognized in the second quarter of 2010.

 

Wealso evaluate our investments in unconsolidated joint ventures at eachreporting date and if we believe there is an other than temporary decline inmarket value we will record an impairment charge based on these evaluations.  We assess potential impairment by comparingour portion of estimated future undiscounted operating cash flows expected tobe generated by the joint venture over the life of the joint venture’s assetsto the carrying amount of the joint venture. In the event that the carrying amount exceeds our portion of estimatedfuture undiscounted operating cash flows, we recognize an impairment loss toadjust the carrying amount of the joint venture to its estimated fair value.

 

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Wealso evaluate our investments in notes receivable as of each reportingdate.  If we believe that it is probablewe will not collect all principal and interest in accordance with the terms ofthe loans, we consider the loan impaired. When evaluating loans for potential impairment, we compare the carryingamount of the loans to the present value of future cash flows discounted at theloan’s effective interest rate, or, if a loan is collateral dependent, to theestimated fair value of the related collateral net of any senior loans.  For impaired loans, a provision is made forloan losses to adjust the reserve for loan losses.  The reserve for loan losses is a valuationallowance that reflects our current estimate of loan losses as of the balancesheet date.  The reserve is adjustedthrough the provision for loan losses account on our consolidated statement ofoperations.

 

Inthe first quarter of 2010, we recorded a reserve for loan losses totaling $11.1million related to the mezzanine loan associated with Alexan Black Mountain,including $7.1 million recognized as a provision to loan losses on ourconsolidated statement of operations and comprehensive loss, for the threemonths ended March 31, 2010, and the remaining $4 million as a cumulativeeffect adjustment to the opening balance of accumulated distributions and netloss in our consolidated statement of equity for the six months ended June 30,2010.  There was no such provision orreserve recorded for the three months ended June 30, 2010.

 

Inevaluating our investments for impairment, management may use appraisals andmake estimates and assumptions, including, but not limited to, the projecteddate of disposition of the properties, the estimated future cash flows of theproperties during our ownership, and the projected sales price of each of theproperties.  A change in these estimatesand assumptions could result in understating or overstating the book value ofour investments, which could be material to our financial statements.  The value of our properties held fordevelopment depends on market conditions, including estimates of the projectstart date as well as estimates of future demand for the property type underdevelopment.  We have analyzed trends andother information related to each potential development and incorporated thisinformation as well as our current outlook into the assumptions we use in our impairmentanalyses.  Due to the judgment andassumptions applied in the estimation process with respect to impairments,including the fact that limited market information regarding the value ofcomparable land exists at this time, it is possible actual results could differsubstantially from those estimated.

 

Otherthan the impairment charge discussed above, we believe the carrying value ofour operating real estate assets, properties under development, investments inunconsolidated joint ventures, and notes receivable is currently recoverable.  However, if market conditions worsen beyondour current expectations, or if our assumptions regarding expected future cashflows from the use and eventual disposition of our assets decrease or ourexpected hold periods decrease, or if changes in our development strategysignificantly affect any key assumptions used in our fair value calculations,we may need to take additional charges in future periods for impairmentsrelated to existing assets.  Any suchnon-cash charges would have an adverse effect on our consolidated financialposition and results of operations.

 

**Item 3.                    Quantitative and Qualitative Disclosures AboutMarket Risk.**

 

*Foreign Currency Exchange Risk*

 

Forour net investments in foreign real estate properties, we use British pound andEuro foreign currency forward exchange contracts and foreign currency put/calloptions to eliminate the impact of foreign currency movements on our financialposition.  At June 30, 2010, ourforeign currency derivative contracts were reported at their fair value of lessthan $0.1 million within prepaid expenses and other assets in our consolidatedbalance sheet.  A 10% increase in therespective forward foreign currency - US dollar exchange rate would result in aless than $0.1 million decrease in fair value.  A 10% decrease in the respective forwardforeign currency - US dollar exchange rate would result in a $0.3 millionincrease in fair value.

 

Wemaintain less than $0.1 million in Euro-denominated accounts at Europeanfinancial institutions.  Accordingly, weare not materially exposed to any significant foreign currency fluctuationsrelated to these accounts.  We do notenter into derivatives for trading or speculative purposes, nor do we maintainany market risk sensitive instruments for trading or speculative purposes.

 

*Interest Rate Risk*

 

Wemay be exposed to interest rate changes primarily as a result of long-term debtused to acquire properties and make loans and other permitted investments.  Our management’s objectives, with regard tointerest rate risks, are to limit the impact of interest rate changes onearnings and cash flows and to lower overall borrowing costs.  To achieve these objectives, we will borrowprimarily at fixed rates or variable rates with the lowest margins availableand in some cases, with the ability to convert variable rates to fixedrates.  With regard to variable ratefinancing, we will assess interest rate cash flow risk by continuallyidentifying and monitoring changes in interest rate exposures that mayadversely impact expected future cash flows and by evaluating hedgingopportunities.  We may enter intoderivative financial instruments such as options, forwards, interest rateswaps, caps, or floors to mitigate our interest rate risk on a relatedfinancial instrument or to effectively lock the interest rate portion of ourvariable rate debt.  Of our $352.1million in notes payable at June 30, 2010, $312.8 million represented debtsubject to variable interest rates.  Ifour variable interest rates increased 100 basis points, we estimate that

 

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totalannual interest cost, including interest expensed, interest capitalized, andthe effects of the interest rate caps and swaps, would increase by $0.6million.

 

AtJune 30, 2010, interest rate swaps classified as liabilities were reportedat their combined fair values of $1.4 million in other liabilities at June 30,2010.  A 100 basis point decrease in interestrates would result in a less than $0.1 million net decrease in the fair valueof our interest rate caps and swaps.  A100 basis point increase in interest rates would result in a $1 million netincrease in the fair value of our interest rate caps and swaps.

 

**Item 4.    Controls and Procedures.**

 

*Evaluation of Disclosure Controls and Procedures*

 

Asrequired by Rule 13a-15(b) and Rule 15d-15(b) under theExchange Act, our management, including our Chief Executive Officer and ChiefFinancial Officer, evaluated, as of June 30, 2010, the effectiveness ofour disclosure controls and procedures as defined in Exchange ActRule 13a-15(e) and Rule 15d-15(e). Based on that evaluation, ourChief Executive Officer and Chief Financial Officer concluded that our disclosurecontrols and procedures were effective as of June 30, 2010, to providereasonable assurance that information required to be disclosed by us in thisreport is recorded, processed, summarized and reported within the time periodsspecified by the rules and forms of the Exchange Act and is accumulatedand communicated to our management, including our Chief Executive Officer andChief Financial Officer, as appropriate to allow timely decisions regardingrequired disclosures.

 

Webelieve, however, that a controls system, no matter how well designed andoperated, cannot provide absolute assurance that the objectives of the controlssystems are met, and no evaluation of controls can provide absolute assurancethat all control issues and instances of fraud or error, if any, within acompany have been detected.

 

*Changes in Internal Control over Financial Reporting*

 

Therehas been no change in internal control over financial reporting that occurredduring the quarter ended June 30, 2010 that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

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**PART II**

 

**OTHERINFORMATION**

 

**Item 1.                    Legal Proceedings.**

 

Duringthe period covered by this quarterly report, there were no materialdevelopments related to the legal proceedings related to the Skokoses disclosedin our quarterly report for the period ended March 31, 2010.

 

**Item 1A.                 Risk Factors.**

 

Therehave been no material changes from the risk factors set forth in our AnnualReport on Form 10-K for the year ended December 31, 2009.

 

**Item 2.                    Unregistered Sales of Equity Securities**

 

**PublicOffering of Common Stock**

 

During the period covered bythis quarterly report, we did not sell any equity securities that were notregistered under the Securities Act of 1933.

 

**ShareRedemption Program**

 

Ourboard of directors has adopted a share redemption program that permitsstockholders to sell their shares back to us after they have held them for atleast one year, subject to the significant conditions and limitations of theprogram.  Our board of directors canamend the provisions of our share redemption program without the approval ofour stockholders.  The terms on which weredeem shares may differ between redemptions upon a stockholder’s death, “qualifyingdisability” (as defined in the share redemption program) or confinement to along-term care facility (collectively referred to herein as “ExceptionalRedemptions”) and all other redemptions (referred to herein as “OrdinaryRedemptions”).  On March 30, 2009,our board of directors voted to accept all redemption requests submitted duringthe first quarter of 2009 from stockholders who submitted requests forExceptional Redemptions.  However, theboard determined to not accept and suspend until further notice redemptionsother than Exceptional Redemptions.  Thepurchase price for shares redeemed under the redemption program is set forthbelow.

 

Inthe case of Ordinary Redemptions, the purchase price per share will equal 90%of (i) the most recently disclosed estimated value per share (the “Valuation”)as determined in accordance with our valuation policy (the “Valuation Policy”),less (ii) the aggregate distributions per share of any net sale proceedsfrom the sale of one or more of our assets, or other special distributions sodesignated by our board of directors, distributed to stockholders after theValuation was determined (the “Valuation Adjustment”); provided, however, thatthe purchase price per share shall not exceed: (1) prior to the firstvaluation conducted by the board of directors, or a committee thereof (the “InitialBoard Valuation”), under the Valuation Policy, 90% of (i) average priceper share the original purchaser or purchasers of shares paid to us for all ofhis or her shares (as adjusted for any stock dividends, combinations, splits,recapitalizations and the like with respect to our common stock) (the “OriginalShare Price”) less (ii) the aggregate distributions per share of any netsale proceeds from the sale of one or more of our assets, or other specialdistributions so designated by the board of directors, distributed tostockholders prior to the redemption date (the “Special Distributions”); or (2) onor after the Initial Board Valuation, the Original Share Price less any SpecialDistributions.

 

Inthe case of Exceptional Redemptions, the purchase price per share will be equalto: (1) prior to the Initial Board Valuation, the Original Share Priceless any Special Distributions; or (2) on or after the Initial BoardValuation, the most recently disclosed Valuation less any Valuation Adjustment,provided, however, that the purchase price per share may not exceed the OriginalShare Price less any Special Distributions.

 

Notwithstandingthe redemption prices set forth above, our board of directors may determine,whether pursuant to formulae or processes approved or set by our board ofdirectors, the redemption price of the shares, which may differ betweenOrdinary Redemptions and Exceptional Redemptions; provided, however, that wemust provide at least 30 days’ notice to stockholders before applying this newprice determined by our board of directors.

 

Anyshares approved for redemption will be redeemed on a periodic basis asdetermined from time to time by our board of directors, and no less frequentlythan annually. We will not redeem, during any twelve-month period, more than 5%of the weighted average number of shares outstanding during the twelve-monthperiod immediately prior to the date of redemption. Generally, the cashavailable for redemption on any particular date will be limited to the proceedsfrom the DRP during the period consisting of the preceding four fiscal quartersfor which financial statements are available, less any cash already used forredemptions during the same period, plus, if we had positive operating cashflow during such preceding four fiscal quarters, 1% of all operating cash flowduring such preceding four fiscal quarters. The redemption limitations apply to all redemptions, whether Ordinary orExceptional Redemptions.

 

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OnJanuary 8, 2010, our board of directors established a new estimated pershare value of $8.03 pursuant to the Valuation Policy, adjusted from theprevious per share value of $8.17.  Thus,in accordance with the share redemption program as amended and restated, as of January 15,2010, the per share redemption price for Exceptional Redemptions will be thelesser of (a) $8.03, which is the valuation disclosed above, less theValuation Adjustment, and (b) the average price per share that investorpaid for his shares less any Special Distributions.

 

Forall other ordinary redemptions, the per share redemption price will be thelesser of (1) $7.23, which is 90% of the valuation disclosed above, lessany Valuation Adjustment and (2) 90% of the average price per share thatthe investor paid for his shares less any Special Distributions.  However,as previously disclosed, we have suspended redemptions other than ExceptionalRedemptions until further notice.

 

Duringthe second quarter ended June 30, 2010, we redeemed shares as follows:

 
| **2010** | ** ** | **Total Number of  Shares Redeemed** | ** ** | **Average Price  Paid Per Share** | ** ** | **Total Number of  Shares Purchased  as Part of  Publicly  Announced Plans  or Programs** | ** ** | **Maximum  Number of Shares  That May Be  Purchased Under  the Plans or  Programs** | ** ** |
|----------|------------|--------------------------------------|------------|-----------------------------------|------------|------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------|------------|
| April    |       | —                               |       | $                                 | —     |                                                                                           | —     |                                                                                     |       |   |
| May      |       | 52,899                               |       | $                                 | 8.03       |                                                                                           | 52,899     |                                                                                     |       | (1) |
| June     |       | —                               |       | $                                 | —     |                                                                                           | —     |                                                                                     |       |   |
|     |       |                                 |       |                              |       |                                                                                           |       |                                                                                     |       |
|     |       | 52,899                               |       | $                                 | 8.03       |                                                                                           | 52,899     |                                                                                     |       | (1) |

 

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(1) A description of the maximum number ofshares that may be purchased under our redemption program is included in the narrativepreceding this table.

 

**Item 3.                    Defaults Upon SeniorSecurities.**

 

None.

 

**Item 4.                    (Removed and Reserved)**

 

**Item 5.                    Other Information.**

 

On August 9, 2010, we entered into aletter agreement with Behringer Harvard Opportunity Advisors I pursuant to whichBehringer Harvard Opportunity Advisors I deferred until March 31, 2011 ourobligation to pay all asset management fees accruing during the months of May 2010through October 2010 and all debt financing fees and expensereimbursements accruing during the months of July through October 2010.

 

 In addition, on August 9,2010, we entered into a letter agreement with HPT Management Services, LLC (“HPT”),Behringer Harvard Real Estate Services, LLC (“BHRES”) and Behringer HarvardOpportunity Management Services, LLC (“BHOMS” and collectively with HPT andBHRES, “BH Property Management”) and our operating partnership, BehringerHarvard Opportunity OP I LP, pursuant to which BH Property Management deferreduntil March 31, 2011 our obligation to pay property management oversightfees accruing during the months of July 2010 through October 2010.

 

**Item 6.                    Exhibits.**

 

Theexhibits filed in response to Item 601 of Regulation S-K are listed on the Exhibit Indexattached hereto.

 

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**SIGNATURE**

 

Pursuant to the requirementsof the Securities Exchange Act of 1934, the registrant has duly caused thisreport to be signed on its behalf by the undersigned thereunto duly authorized.

 

 
|                                    | **Behringer Harvard Opportunity REIT I, Inc.** |
|-----------------------------------------|-----------------------------------------------------|
|                                    | ** **                                          |
|                                    |                                                |
| Dated:  August 12,  2010 | By:                                                 | /s/  Gary S. Bresky |
|                                    | Gary  S. Bresky                                     |
|                                    | Chief Financial Officer                             |
|                                    | (Principal Financial  Officer)                      |

 

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**Index to Exhibits**

 
| **Exhibit Number** | ** ** | **Description**                                                                                                                                                                                                                                                                         |
|-------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                    |       |                                                                                                                                                                                                                                                                                    |
| 3.1                     |       | Second  Articles of Amendment and Restatement of the Registrant (previously filed in  and incorporated by reference to Form 8-K, filed on July 29, 2008)                                                                                                                      |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 3.2                     |       | Amended  and Restated Bylaws of the Registrant (previously filed in and incorporated  by reference to Form 8-K filed on March 11, 2010)                                                                                                                                       |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 4.1                     |       | Third  Amended and Restated Distribution Reinvestment Plan (previously filed in and  incorporated by reference to Form 10-Q filed on November 13, 2009)                                                                                                                       |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 10.1                    |       | Letter  Agreement, dated July 19, 2010, between Behringer Harvard Opportunity  REIT I, Inc. and Behringer Harvard Opportunity Advisors I, LLC  (previously filed in and incorporated by reference to Form 8-K filed on  July 22, 2010)                              |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 10.2*                   |       | Letter  Agreement, dated August 9, 2010, between Behringer Harvard Opportunity  REIT I, Inc. and Behringer Harvard Opportunity Advisors I, LLC                                                                                                                                |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 10.3*                   |       | Letter  Agreement, dated August 9, 2010, between Behringer Harvard Opportunity  REIT I, Inc., HPT Management Services, LLC, Behringer Harvard Real  Estate Services, LLC, Behringer Harvard Opportunity Management Services, LLC,  and Behringer Harvard Opportunity OP I, LP |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 31.1*                   |       | Rule 13a-14(a)/15d-14(a) Certification                                                                                                                                                                                                                                        |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 31.2*                   |       | Rule 13a-14(a)/15d-14(a) Certification                                                                                                                                                                                                                                        |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 32.1*(1)                |       | Section 1350  Certifications                                                                                                                                                                                                                                                       |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 99.1                    |       | Third  Amended and Restated Share Redemption Program (previously filed and  incorporated by reference to Form 10-Q filed on November 13, 2009)                                                                                                                                |
|                    |       |                                                                                                                                                                                                                                                                                    |
| 99.2                    |       | Amended  and Restated Policy for Estimation of Common Stock Value (previously filed  and incorporated by reference to form 8-K filed on June 22, 2009)                                                                                                                             |

 

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*filedherewith

 

(1)   In accordance with Item 601(b)(32) ofRegulation S-K, this Exhibit is not deemed “filed” for purposes of Section 18of the Exchange Act or otherwise subject to the liabilities of thatsection.  Such certifications will not bedeemed incorporated by reference into any filing under the Securities Act orthe Exchange Act, except to the extent that the registrant specificallyincorporates it by reference.

 

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