Table of Contents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

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

**SECURITIESEXCHANGE ACT OF 1934**

 

**Forthe quarterly period ended****March 31, 2010**

 

**CommissionFile Number: 000-51961**

 

**BehringerHarvard Opportunity REIT I, Inc.**

(Exact Name ofRegistrant as Specified in Its Charter)

 

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

 

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

(Address of Principal Executive Offices) (ZIP Code)

 

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

** **

**None**

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

 

Indicate by check markwhether 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

 

Indicate by check markwhether the Registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,”“accelerated filer,” and “smaller reporting company” in Rule 12b-2 of theExchange Act:

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

 

Indicate by check markwhether the Registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).  Yes o  No x

 

As of April 30,2010, the Registrant had 56,140,116 shares of common stock outstanding.

 

 

 

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Table of Contents

 

**BEHRINGERHARVARD OPPORTUNITY REIT I, INC.**

**FORM 10-Q**

**QuarterEnded March 31, 2010**

 
| ** **            | ** **                                                                                                              | ** ** | **Page** |
|-----------------------|-------------------------------------------------------------------------------------------------------------------------|------------|----------|
|                  |                                                                                                                    |       |     |
|                  | **PART I**                                                                                                         |       |     |
|                  | **FINANCIAL  INFORMATION**                                                                                              |       |     |
|                  |                                                                                                                    |       |     |
| **Item 1.**           | **Financial Statements (Unaudited)**                                                                                    |       |     |
|                  |                                                                                                                    |       |     |
|                  | Consolidated  Balance Sheets as of March 31, 2010 and December 31, 2009                                       |       | 3        |
|                  |                                                                                                                    |       |     |
|                  | Consolidated Statements of Operations and  Comprehensive Income for the Three Months Ended March 31, 2010 and 2009 |       | 5        |
|                  |                                                                                                                    |       |     |
|                  | Consolidated Statements of Equity for the Three Months  Ended March 31, 2010 and 2009                              |       | 6        |
|                  |                                                                                                                    |       |     |
|                  | Consolidated Statements of Cash Flows for the Three  Months Ended March 31, 2010 and 2009                          |       | 7        |
|                  |                                                                                                                    |       |     |
|                  | Notes to Consolidated Financial Statements                                                                              |       | 8        |
|                  |                                                                                                                    |       |     |
| **Item 2.**           | **Management’s  Discussion and Analysis of Financial Condition and Results of Operations**                         |       | 28       |
|                  |                                                                                                                    |       |     |
| **Item 3.**           | **Quantitative  and Qualitative Disclosures About Market Risk**                                                         |       | 41       |
|                  |                                                                                                                    |       |     |
| **Item 4T.**          | **Controls and  Procedures**                                                                                            |       | 42       |
|                  |                                                                                                                    |       |     |
| **PART II**      |
| **OTHER INFORMATION** |
|                  |                                                                                                                    |       |     |
| **Item 1.**           | **Legal Proceedings**                                                                                                   |       | 43       |
|                  |                                                                                                                    |       |     |
| **Item 1A.**          | **Risk Factors**                                                                                                        |       | 43       |
|                  |                                                                                                                    |       |     |
| **Item 2.**           | **Unregistered  Sales of Equity Securities and Use of Proceeds**                                                        |       | 43       |
|                  |                                                                                                                    |       |     |
| **Item 3.**           | **Defaults Upon  Senior Securities**                                                                                    |       | 44       |
|                  |                                                                                                                    |       |     |
| **Item 4.**           | **(Removed and Reserved)**                                                                                              |       | 44       |
|                  |                                                                                                                    |       |     |
| **Item 5.**           | **Other Information**                                                                                                   |       | 44       |
|                  |                                                                                                                    |       |     |
| **Item 6.**           | **Exhibits**                                                                                                            |       | 44       |
|                  |                                                                                                                    |       |     |
| **Signature**         |                                                                                                                    | 45         |

 

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Table of Contents

 

**PART I**

**FINANCIAL INFORMATION**

 

**Item 1.Financial Statements.**

 

**BehringerHarvard Opportunity REIT I, Inc.**

**ConsolidatedBalance Sheets**

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

(Unaudited)

 
| ** **                                   | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|----------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                   | ** ** | **2010  (1)**      | ** ** | **2009  (1)**         | ** ** |
| **Assets**                                   |       |               |       |                  |       |
| Real estate                                  |       |               |       |                  |       |
| Land and improvements, net                   |       | $                  | 105,026    |                  | $          | 130,254 |   |
| Buildings and improvements, net              |       | 340,106            |       | 408,786               |       |
| Real estate under development                |       | 21,281             |       | 20,701                |       |
| Total real estate                            |       | 466,413            |       | 559,741               |       |
| ** **                                   |       |               |       |                  |       |
| Condominium inventory                        |       | 67,110             |       | 86,485                |       |
| Cash and cash equivalents                    |       | 9,867              |       | 9,511                 |       |
| Restricted cash                              |       | 9,528              |       | 8,585                 |       |
| Accounts receivable, net                     |       | 9,997              |       | 8,169                 |       |
| Prepaid expenses and other assets            |       | 2,209              |       | 2,138                 |       |
| Leasehold interests, net                     |       | 15,491             |       | 16,406                |       |
| Investments in unconsolidated joint ventures |       | 61,301             |       | 63,552                |       |
| Furniture, fixtures and equipment, net       |       | 8,885              |       | 11,836                |       |
| Deferred financing fees, net                 |       | 3,050              |       | 3,827                 |       |
| Notes receivable, net                        |       | 64,441             |       | 42,557                |       |
| Lease intangibles, net                       |       | 20,187             |       | 21,228                |       |
| Other intangibles, net                       |       | 8,179              |       | 8,348                 |       |
| Receivables from related parties             |       | 2,252              |       | 1,548                 |       |
| Total assets                                 |       | $                  | 748,910    |                  | $          | 843,931 |   |

 

----

(1) Asa result of the adoption of Accounting Standards Codification (“ASC”) Topic810, (“ASC 810”) the Company is required to separately disclose on itsconsolidated balance sheets the assets of consolidated variable interestentities (“VIEs”) that are owned by the VIEs and non-recourse liabilities ofconsolidated VIEs.

 

Asof December 31, 2009, total assets include $91.4 million related to AlexanBlack Mountain and Tanglewood at Voss (“Consolidated VIEs”) of which $25.2million is included in land and improvements, net; $62 million in buildings andimprovements, net; $1 million in cash and cash equivalents; $0.5 million inrestricted cash; less than $0.1 million in accounts receivable, net; $2.4million in furniture, fixtures and equipment, net; and $0.3 million in deferredfinancing fees, net.

 

Asof 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)

 
| ** **                                                                                                                                                                                                 | ** ** | **March  31,** | ** ** | **December  31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------|------------|-------------------|------------|
| ** **                                                                                                                                                                                                 | ** ** | **2010(1)**    | ** ** | **2009(1)**       | ** ** |
| **Liabilities  and Equity**                                                                                                                                                                                | ** ** | ** **     | ** ** | ** **        | ** ** |
| Notes payable                                                                                                                                                                                              |       | $              | 352,161    |              | $          | 429,787 |   |
| Accounts payable                                                                                                                                                                                           |       | 1,952          |       | 1,885             |       |
| Payables to related parties                                                                                                                                                                                |       | 1,477          |       | 1,790             |       |
| Acquired below-market leases, net                                                                                                                                                                          |       | 11,961         |       | 12,726            |       |
| Accrued and other liabilities                                                                                                                                                                              |       | 16,933         |       | 23,322            |       |
| Total liabilities                                                                                                                                                                                          |       | 384,484        |       | 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 56,182,638   55,825,078 shares issued and outstanding at March 31, 2010, and  December 31, 2009, respectively |       | 6              |       | 6                 |       |
| Additional paid-in capital                                                                                                                                                                                 |       | 500,520        |       | 497,648           |       |
| Accumulated distributions and net loss                                                                                                                                                                     |       | (136,471)      |       | (115,496          | )          |
| Accumulated other comprehensive loss                                                                                                                                                                       |       | (4,455)        |       | (3,412            | )          |
| Total Behringer Harvard Opportunity REIT  I, Inc. equity                                                                                                                                              |       | 359,600        |       | 378,746           |       |
| Noncontrolling interest                                                                                                                                                                                    |       | 4,826          |       | (4,325            | )          |
| Total equity                                                                                                                                                                                               |       | 364,426        |       | 374,421           |       |
| Total liabilities and equity                                                                                                                                                                               |       | $              | 748,910    |              | $          | 843,931 |   |

 

----

(1) Asa result of the adoption of Accounting Standards Codification (“ASC”) Topic810, (“ASC 810”) the Company is required to separately disclose on itsconsolidated balance sheets the assets of consolidated variable interestentities (“VIEs”) that are owned by the VIEs and non-recourse liabilities ofconsolidated VIEs.

 

Asof 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 deconsolidatedthe assets and liabilities associated with Alexan Black Mountain and Tanglewoodat 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 March 31,** | ** ** |
|----------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                         | ** ** | **2010**                              | ** ** | **2009** | ** ** |
|                                                                                               |       |                                  |       |   |   |
| **Revenues**                                                                                       |       |                                  |       |   |   |
| Rental revenue                                                                                     |       | $                                     | 12,331     |   | $ | 15,826 |   |
| Hotel revenue                                                                                      |       | 1,234                                 |       | 824 |   |
| Condominium sales                                                                                  |       | 23,357                                |       | 3,820 |   |
| Interest income from notes receivable                                                              |       | 5,958                                 |       | — |   |
|                                                                                               |       |                                  |       |   |   |
| Total revenues                                                                                     |       | 42,880                                |       | 20,470 |   |
|                                                                                               |       |                                  |       |   |   |
| **Expenses**                                                                                       |       |                                  |       |   |   |
| Property operating expenses                                                                        |       | 5,886                                 |       | 6,505 |   |
| Cost of condominium sales                                                                          |       | 23,520                                |       | 3,842 |   |
| Interest expense                                                                                   |       | 3,678                                 |       | 4,134 |   |
| Real estate taxes                                                                                  |       | 1,825                                 |       | 2,310 |   |
| Impairment charge                                                                                  |       | 4,230                                 |       | — |   |
| Provision for loan losses                                                                          |       | 7,136                                 |       | — |   |
| Property management fees                                                                           |       | 559                                   |       | 600 |   |
| Asset management fees                                                                              |       | 1,462                                 |       | 1,338 |   |
| General and administrative                                                                         |       | 1,261                                 |       | 1,316 |   |
| Advertising costs                                                                                  |       | 42                                    |       | 182 |   |
| Depreciation and amortization                                                                      |       | 5,748                                 |       | 7,763 |   |
|                                                                                               |       |                                  |       |   |   |
| Total expenses                                                                                     |       | 55,347                                |       | 27,990 |   |
|                                                                                               |       |                                  |       |   |   |
| Interest income                                                                                    |       | 29                                    |       | 43 |   |
| Other income, net                                                                                  |       | 41                                    |       | — |   |
|                                                                                               |       |                                  |       |   |   |
| Loss before income taxes and equity in losses of  unconsolidated joint ventures                    |       | (12,397                               | )          | (7,477 | ) |
|                                                                                               |       |                                  |       |   |   |
| Provision for income taxes                                                                         |       | 182                                   |       | (51 | ) |
| Equity in losses of unconsolidated joint ventures                                                  |       | (943                                  | )          | (125 | ) |
| Net loss                                                                                           |       | (13,158                               | )          | (7,653 | ) |
| Add: Net loss attributable to the noncontrolling  interest                                         |       | 364                                   |       | 2,321 |   |
|                                                                                               |       |                                  |       |   |   |
| Net loss attributable to Behringer Harvard  Opportunity REIT I, Inc.                          |       | $                                     | (12,794    | ) | $ | (5,332 | ) |
|                                                                                               |       |                                  |       |   |   |
| Weighted average shares outstanding:  Basic and diluted                                            |       | 56,051                                |       | 55,032 |   |
|                                                                                               |       |                                  |       |   |   |
| Loss per share attributable to Behringer Harvard  Opportunity REIT I, Inc.  Basic and diluted |       | $                                     | (0.23      | ) | $ | (0.10 | ) |
|                                                                                               |       |                                  |       |   |   |
| **Comprehensive loss:**                                                                            |       |                                  |       |   |   |
| Net loss                                                                                           |       | $                                     | (13,158    | ) | $ | (7,653 | ) |
| Other comprehensive loss:                                                                          |       |                                  |       |   |   |
| Foreign currency translation loss                                                                  |       | (1,386                                | )          | (1,786 | ) |
| Unrealized gain (loss) on interest rate derivatives                                                |       | 330                                   |       | (74 | ) |
| Reclassifications due to hedging activities                                                        |       | 45                                    |       | 199 |   |
| Total other comprehensive loss                                                                     |       | (1,011                                | )          | (1,661 | ) |
| Comprehensive loss                                                                                 |       | (14,169                               | )          | (9,314 | ) |
| Comprehensive income (loss) attributable to the  noncontrolling interest                           |       | 332                                   |       | (2,336 | ) |
| Comprehensive loss attributable to Behringer  Harvard Opportunity REIT I, Inc.                |       | $                                     | (13,837    | ) | $ | (11,650 | ) |

 

*See Notes to Consolidated Financial Statements.*

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Consolidated Statements of Equity**

**(inthousands, except share amounts)**

(Unaudited)

 
| ** **                                                     | ** ** | **Convertible  Stock** | ** ** | **Common  Stock** | ** ** | **Additional** | ** ** | **Accumulated  Distributions** | ** ** | **Accumulated  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                                    |       |                   |       |              |       | (40,693        | )          |                           |       | (406                   | )          |          |       |               |       |   |   | (406 | ) |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Distributions  declared on common stock                        |       |                   |       |              |       |           |       |                           |       |                   |       | (4,070        | )          |               |       |   |   | (4,070 | ) |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Contributions  from non-controlling interest                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       | 97 |   | 97 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Shares  issued pursuant to Distribution Reinvestment Plan, net |       |                   |       |              |       | 317,454        |       | 1                              |       | 3,016                  |       |          |       |               |       |   |   | 3,017 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Comprehensive  loss:                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Net  loss                                                      |       |                   |       |              |       |           |       |                           |       |                   |       | (5,332        | )          |               |       | (2,321 | ) | (7,653 | ) |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Other  comprehensive income:                                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Foreign  currency translation gain (loss)                      |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | (1,785             | )          | (1 | ) | (1,786 | ) |
| Unrealized  losses on interest rate derivatives                |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | (61                | )          | (13 | ) | (74 | ) |
| Reclassifications  due to hedging activities                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | 199                |       |   |   | 199 |   |
| Total  comprehensive loss                                      |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       | (2,336 | ) | (9,314 | ) |
| Balance  at March 31, 2009                                |       | 1,000                  |       | $                 | —     |           | 55,113,746 |                           | $          | 6                      |       | $             | 491,749    |               | $          | (75,487 | ) | $ | (6,841 | ) | $ | 3,264 |   | $ | 412,691 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| 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 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Distributions  declared on common stock                        |       |                   |       |              |       |           |       |                           |       |                   |       | (4,187        | )          |               |       |   |   | (4,187 | ) |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Contributions  from non-controlling interest                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       | 70 |   | 70 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Shares  issued pursuant to Distribution Reinvestment Plan, net |       |                   |       |              |       | 357,560        |       |                           |       | 2,872                  |       |          |       |               |       |   |   | 2,872 |   |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Comprehensive  loss:                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Net  loss                                                      |       |                   |       |              |       |           |       |                           |       |                   |       | (12,794       | )          |               |       | (364 | ) | (13,158 | ) |
|                                                           |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Other  comprehensive income:                                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       |   |   |   |   |
| Foreign  currency translation gain (loss)                      |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | (1,406             | )          | 20 |   | (1,386 | ) |
| Unrealized  gain on interest rate derivatives                  |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | 318                |       | 12 |   | 330 |   |
| Reclassifications  due to hedging activities                   |       |                   |       |              |       |           |       |                           |       |                   |       |          |       | 45                 |       |   |   | 45 |   |
| Total  comprehensive loss                                      |       |                   |       |              |       |           |       |                           |       |                   |       |          |       |               |       | (332 | ) | (14,169 | ) |
| Balance  at March 31, 2010                                |       | 1,000                  |       | $                 | —     |           | 56,182,638 |                           | $          | 6                      |       | $             | 500,520    |               | $          | (136,471 | ) | $ | (4,455 | ) | $ | 4,826 |   | $ | 364,426 |   |

 

*See Notesto Consolidated Financial Statements.*

 

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**BehringerHarvard Opportunity REIT I, Inc.**

**Consolidated Statements of Cash Flows**

**(inthousands)**

(Unaudited)

 
| ** **                                                                                        | ** ** | **Three months ended March 31,** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                        | ** ** | **2010**                              | ** ** | **2009** | ** ** |
| **Cash flows from operating activities:**                                                         |       |                                  |       |   |   |
| Net  loss                                                                                         |       | $                                     | (13,158    | ) | $ | (7,653 | ) |
| Adjustments  to reconcile net loss to net cash flows provided by (used in) operating  activities: |       |                                  |       |   |   |
| Depreciation  and amortization                                                                    |       | 5,061                                 |       | 6,608 |   |
| Amortization  of deferred financing fees                                                          |       | 725                                   |       | 780 |   |
| Impairment  charge                                                                                |       | 4,230                                 |       | — |   |
| Provision  for loan losses                                                                        |       | 7,136                                 |       | — |   |
| Bad  debt expense                                                                                 |       | 382                                   |       | — |   |
| Equity  in losses of unconsolidated joint ventures                                                |       | 943                                   |       | 125 |   |
| Loss  on derivatives                                                                              |       | (98                                   | )          | 20 |   |
| Change  in accounts receivable                                                                    |       | (2,216                                | )          | (1,570 | ) |
| Change  in condominium inventory                                                                  |       | 20,373                                |       | 1,677 |   |
| Change  in prepaid expenses and other assets                                                      |       | 1,398                                 |       | 39 |   |
| Change  in accounts payable                                                                       |       | 102                                   |       | (1,051 | ) |
| Change  in accrued and other liabilities                                                          |       | (4,176                                | )          | (556 | ) |
| Change  in payables to related parties                                                            |       | (1,017                                | )          | (141 | ) |
| Addition  of lease intangibles                                                                    |       | (187                                  | )          | (352 | ) |
| Cash  provided by (used in) operating activities                                                  |       | 19,498                                |       | (2,074 | ) |
|                                                                                              |       |                                  |       |   |   |
| **Cash flows from investing activities:**                                                         |       |                                  |       |   |   |
| Investment  in unconsolidated joint ventures                                                      |       | (173                                  | )          | (823 | ) |
| Capital  expenditures for real estate under development                                           |       | (2,516                                | )          | (6,982 | ) |
| Capital  expenditures for real estate under development of consolidated borrowers                 |       | —                                |       | (583 | ) |
| Additions  of property and equipment                                                              |       | (1,333                                | )          | (1,939 | ) |
| Change  in restricted cash                                                                        |       | (1,473                                | )          | (677 | ) |
| Investment  in notes receivable                                                                   |       | (2,015                                | )          | (1,006 | ) |
| Cash  used in investing activities                                                                |       | (7,510                                | )          | (12,010 | ) |
|                                                                                              |       |                                  |       |   |   |
| **Cash flows from financing activities:**                                                         |       |                                  |       |   |   |
| Financing  costs                                                                                  |       | —                                |       | (183 | ) |
| Proceeds  from notes payable                                                                      |       | 4,448                                 |       | 5,893 |   |
| Proceeds  from mortgages of consolidated borrowers                                                |       | —                                |       | 1,551 |   |
| Net  borrowings on senior secured revolving credit facility                                       |       | 6,800                                 |       | 8,700 |   |
| Payments  on notes payable                                                                        |       | (19,298                               | )          | (3,713 | ) |
| Redemptions  of common stock                                                                      |       | —                                |       | (406 | ) |
| Distributions                                                                                     |       | (1,316                                | )          | (1,047 | ) |
| Contributions  from noncontrolling interest holders                                               |       | 70                                    |       | 128 |   |
| Distributions  to noncontrolling interest holders                                                 |       | —                                |       | (30 | ) |
| Cash  provided by (used in) financing activities                                                  |       | (9,296                                | )          | 10,893 |   |
|                                                                                              |       |                                  |       |   |   |
| Effect  of exchange rate changes on cash and cash equivalents                                     |       | (1,325                                | )          | (1,817 | ) |
| Net  change in cash and cash equivalents                                                          |       | 1,367                                 |       | (5,008 | ) |
| 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                                                   |       | $                                     | 9,867      |   | $ | 20,252 |   |

* *

*SeeNotes to Consolidated Financial Statements.*

 

7

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Table ofContents

 

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

**Notes to Consolidated FinancialStatements**

**(Unaudited)**

 

**1.         Business**

 

***Organization***

 

Behringer HarvardOpportunity 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.

 

We operate commercialreal estate or real estate-related assets located in and outside the UnitedStates on an opportunistic basis.  Inparticular, we have focused on acquiring properties with significantpossibilities for short-term capital appreciation, such as those requiringdevelopment, redevelopment, or repositioning, or those located in markets andsubmarkets with higher volatility, lower barriers to entry, and high growthpotential.  We have acquired a widevariety of properties, including office, industrial, retail, hospitality,recreation and leisure, multifamily, and other properties.  We have purchased existing and newlyconstructed properties and properties under development or construction,including multifamily properties.  Wehave also originated two mezzanine loans related to two multifamilyproperties.  We completed our firstproperty acquisition in March 2006, and, as of March 31, 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.

 

Substantiallyall of our business is conducted through Behringer Harvard Opportunity OP I,LP, a Texas limited partnership organized in November 2004 (“BehringerHarvard OP I”), or subsidiaries thereof. Our wholly owned subsidiary, BHO, Inc., a Delaware corporation,owns less than a 0.1% interest in Behringer Harvard OP I as its sole generalpartner.  The remaining interest ofBehringer Harvard OP I is held as a limited partnership interest by BHOBusiness Trust, a Maryland business trust, which is our wholly-ownedsubsidiary.

 

We are externallymanaged and advised by Behringer Harvard Opportunity Advisors I, LLC (“BehringerOpportunity Advisors I”), a Texas limited liability company formed in June 2007.  Behringer Opportunity Advisors I isresponsible for managing our day-to-day affairs and for identifying and makingacquisitions and investments on our behalf.

 

Our office islocated at 15601 Dallas Parkway, Suite 600, Addison, Texas 75001, and ourtoll-free telephone number is (866) 655-3600. The name Behringer Harvard is the property of Behringer HarvardHoldings, LLC (“Behringer Harvard Holdings”) and is used by permission.

 

**2.         InterimUnaudited Financial Information**

 

Theaccompanying consolidated financial statements should be read in conjunctionwith the consolidated 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.

 

Theresults for the interim periods shown in this report are not necessarilyindicative of future financial results. The accompanying consolidated balance sheet as of March 31, 2010and consolidated statements of equity, consolidated statements of operationsand comprehensive loss, and cash flows for the three months ended March 31,2010 and 2009 have not been audited by our independent registered publicaccounting firm.  In the opinion ofmanagement, the accompanying unaudited consolidated financial statementsinclude all adjustments necessary to fairly present our consolidated financialposition as of March 31, 2010 and our consolidated results of operationsand cash flows for the three months ended March 31, 2010 and 2009.  Such adjustments are of a normal recurringnature.

 

**3.         Summaryof Significant Accounting Policies**

 

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

 

The preparation offinancial statements in conformity with GAAP requires management to makeestimates and assumptions that affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe 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, depreciation and amortization,allowance for doubtful accounts, and allowance for loan losses.  Actual results could differ from thoseestimates.

 

8

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Table ofContents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notesto Consolidated Financial Statements**

**(Unaudited)**

 

***Principlesof Consolidation and Basis of Presentation***

 

Our consolidatedfinancial 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.

 

There are judgments andestimates involved in determining if an entity in which we have made aninvestment is a VIE and, if so, whether we are the primary beneficiary.  The entity is evaluated to determine if it isa VIE by, among other things, calculating the percentage of equity being riskedcompared to the total equity of the entity. Determining expected future losses involves assumptions of variouspossibilities of the results of future operations of the entity, assigning aprobability to each possibility and using a discount rate to determine the netpresent value of those future losses.  Achange in the judgments, assumptions, and estimates outlined above could resultin consolidating an entity that should not be consolidated or accounting for aninvestment using the equity method that should in fact be consolidated, the effectsof which could be material to our financial statements.

 

We have evaluatedsubsequent events for recognition or disclosure in our consolidated financialstatements.

 

***RealEstate***

 

Upon theacquisition of real estate properties, we recognize the assets acquired, theliabilities assumed, and any noncontrolling interest as of the acquisitiondate, measured at their fair values.  Theacquisition date is the date on which we obtain control of the real estateproperty.  These assets acquired andliabilities assumed may consist of buildings, any assumed debt, identifiedintangible 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.

 

Initial valuations aresubject to change until our information is finalized, which is no later thantwelve months from the acquisition date.

 

We determine the fairvalue of assumed debt by calculating the net present value of the scheduledmortgage payments using interest rates for debt with similar terms andremaining 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.

 

The fair value of anytangible assets acquired, consisting of land, land improvements, buildings,building improvements, tenant improvements, and furniture, fixtures and equipment,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 values arecalculated as replacement cost less depreciation or management’s estimates ofthe relative fair value of these assets using discounted cash flow analyses orsimilar methods.  Furniture, fixtures,and equipment values are determined based on current reproduction orreplacement cost less depreciation and other estimated allowances based onphysical, functional, or economic factors. The values of the buildings are depreciated over their respectiveestimated useful lives ranging from 25 years for commercial office property to39 years for hotel/mixed-use property using the straight-line method.  Building improvements are depreciated overtheir estimated useful lives ranging from 7 to 25 years.  Tenant improvements are depreciated over theterm of the respective leases.  Landimprovements are depreciated over the estimated useful life of 15 years, andfurniture, fixtures, and equipment are depreciated over estimated useful livesranging from five to seven years using the straight-line method.  Our leasehold interest is depreciated overits remaining contractual life, or approximately 100 years.

 

We determine the value ofabove-market and below-market in-place leases for acquired properties based onthe present value (using an interest rate that reflects the risks associatedwith the leases acquired) of the difference between (1) the contractualamounts to be paid pursuant to the in-place leases and (2) management’sestimate of current market lease rates for the corresponding in-place leases,measured over a period equal to (a) the remaining non-cancelable lease termfor above-market leases, or (b) the remaining non-cancelable lease termplus any fixed rate renewal options for below-market 

 

9

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**BehringerHarvard Opportunity REIT I, Inc.**

**Notesto Consolidated Financial Statements**

**(Unaudited)**

 

leases.  We record the fair value of above-market andbelow-market leases as intangible assets or intangible liabilities,respectively, and amortize them as an adjustment to rental income over thedetermined lease term.

 

The total value ofidentified real estate intangible assets for acquired properties is furtherallocated to in-place lease values and tenant relationships based on ourevaluation 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 value model.  The estimates of fair value of in-placeleases include an estimate of carrying costs during the expected lease-upperiods 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.

 

We amortize the value ofin-place leases acquired in the future to expense over the term of therespective leases.  The value of tenantrelationship intangibles is amortized to expense over the initial term and anyanticipated renewal periods, but in no event does the amortization period forintangible assets exceed the remaining depreciable life of the building.  Should a tenant terminate its lease, theunamortized portion of the in-place lease value and tenant relationshipintangibles would be charged to expense. As of March 31, 2010, the estimated remaining useful lives foracquired lease intangibles range from less than one year to approximately 11years.

 

Other intangible assetsinclude the value of identified hotel trade names and in-place property taxabatements.  These fair values are basedon management’s estimates of the relative fair value of these assets usingdiscounted 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.

 

Anticipated amortizationexpense associated with the acquired lease intangibles and acquired otherintangible assets for each of the following five years as of March 31,2010 is as follows:

 

| ** **                              | ** ** | **Lease / Other  Intangibles** | ** ** |
|-----------------------------------------|------------|--------------------------------|------------|
| April 1,  2010 - December 31, | 2010       |                           | $          | 1,137 |   |
|                                    | 2011       |                           | 1,292      |   |
|                                    | 2012       |                           | 1,010      |   |
|                                    | 2013       |                           | 842        |   |
|                                    | 2014       |                           | 894        |   |
|                                         |            |                                |            |  |  |

 

Accumulated depreciationand amortization related to our consolidated investments in real estate assetsand intangibles were as follows:

 
| ** **                           | ** ** | ** **        | ** ** | ** **       | ** ** | ** **      | ** ** | **Acquired**     | ** ** | ** **    | ** ** | ** **      | ** ** |
|--------------------------------------|------------|-------------------|------------|------------------|------------|-----------------|------------|------------------|------------|---------------|------------|-----------------|------------|
| ** **                           | ** ** | **Buildings and** | ** ** | **Land and**     | ** ** | **Lease**       | ** ** | **Below-Market** | ** ** | **Leasehold** | ** ** | **Other**       | ** ** |
| **As of March 31, 2010**        | ** ** | **Improvements**  | ** ** | **Improvements** | ** ** | **Intangibles** | ** ** | **Leases**       | ** ** | **Interest**  | ** ** | **Intangibles** | ** ** |
| Cost                                 |       | $                 | 379,167    |             | $          | 105,437         |       | $                | 33,922     |          | $          | (21,142         | )          | $ | 16,074 |   | $ | 10,439 |   |
| Less:  depreciation and amortization |       | (39,061           | )          | (411             | )          | (13,735         | )          | 9,181            |       | (583          | )          | (2,260          | )          |
|                                 |       |              |       |             |       |            |       |             |       |          |       |            |       |
| Net                                  |       | $                 | 340,106    |             | $          | 105,026         |       | $                | 20,187     |          | $          | (11,961         | )          | $ | 15,491 |   | $ | 8,179 |   |

 
| ** **                           | ** ** | ** **        | ** ** | ** **       | ** ** | ** **      | ** ** | **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 |   |

 

10

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Table ofContents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notesto Consolidated Financial Statements**

**(Unaudited)**

 

***CondominiumInventory***

 

Condominium inventory isstated 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 March 31, 2010,condominium inventory consisted of $29.4 million of finished units and $37.7million 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.

 

For condominiuminventory, at each reporting date, management compares the estimated fair valueless costs to sell to the carrying value. An adjustment is recorded to the extent that the fair value less coststo sell is less than the carrying value. We determine the estimated fair value of condominiums based oncomparable sales in the normal course of business under existing and anticipatedmarket conditions.  This evaluation takesinto consideration estimated future selling prices, costs incurred to date,estimated additional future costs, and management’s plans for theproperty.  There were no impairmentcharges related to our condominium inventory for the three months ended March 31,2010 or 2009.  However, we may experienceimpairment of our condominium inventory in the future.

 

***Cashand Cash Equivalents***

 

We consider investmentsin highly-liquid money market funds or investments with original maturities ofthree months or less to be cash equivalents.

 

***RestrictedCash***

 

As required by ourlenders, restricted cash is held in escrow accounts for real estate taxes andother reserves for our consolidated properties.

 

***AccountsReceivable***

 

Accounts receivableprimarily consist of straight-line rental revenue receivables of $6.9 millionand $5.6 million as of March 31, 2010 and December 31, 2009,respectively, and receivables from our hotel operators and tenants related toour other consolidated properties of $3.7 million and $2.9 million as of March 31,2010 and December 31, 2009, respectively. The allowance for doubtful accounts was $0.6 million and $0.3 million asof March 31, 2010 and December 31, 2009, respectively.

 

***PrepaidExpenses and Other Assets***

 

Prepaid expenses andother assets include prepaid directors’ and officers’ insurance, prepaidadvertising, the fair value of certain derivative instruments, as well asinventory, 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.

 

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

 

Furniture, fixtures, andequipment are recorded at cost and are depreciated using the straight-linemethod over their estimated useful lives of five to seven years.  Maintenance and repairs are charged tooperations as incurred while renewals or improvements to such assets arecapitalized.  Accumulated depreciationassociated with our furniture, fixtures, and equipment was $6.2 million and$6.1 million as of March 31, 2010 and December 31, 2009,respectively.

 

***InvestmentImpairment***

 

For real estate we whollyown, we monitor events and changes in circumstances indicating that thecarrying amounts of the real estate assets may not be recoverable.  When such events or changes in circumstancesare present, we assess potential impairment by comparing estimated futureundiscounted operating cash flows expected to be generated over the life of theasset and from its eventual disposition to the carrying amount of theasset.  In the event that the carrying amountexceeds the estimated future undiscounted operating cash flows, we recognize animpairment loss to adjust the carrying amount of the asset to estimated fairvalue.  We consider projected futureundiscounted cash flows, trends, strategic decisions regarding futuredevelopment plans, and other factors in our assessment of whether impairmentconditions exist.  While we believe ourestimates of future cash flows are reasonable, different assumptions regardingfactors such as market rents, economic conditions, and occupancy rates couldsignificantly affect these estimates.

 

At Ferncroft CorporateCenter (“Ferncroft”), our wholly owned eight-story office building located inMiddleton, Massachusetts, our two largest tenants renewed their leases foradditional terms but for a combined 60,000 square feet less than they previouslyoccupied.  As a result of thissignificant drop in occupancy we are currently operating under a cash managementarrangement in accordance 

 

11

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Table ofContents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notesto Consolidated Financial Statements**

**(Unaudited)**

 

withFerncroft’s $18 million CMBS mortgage loan agreement.  Accordingly, tenant rental payments aredeposited in a restricted lockbox account. As such, we do not have direct access to these rental payments, and thedisbursement of cash from the restricted lockbox account to us is at thediscretion of the loan’s servicer. Furthermore, we have been unable to disburse cash from the restrictedlockbox account to us in order to pay Ferncroft’s operating expenses.  Not paying the operating expenses as theybecome due constitutes an event of default under the loan agreement.  The Ferncroft loan is non-recourse tous.  We are in negotiations with theservicer and there are several potential outcomes including a loan modificationfor us to retain ownership in return for additional capital commitments, a saleof the property to a third-party, or a deed-in-lieu of foreclosure.  However, there is no certainty to whichoutcome from the negotiations will prevail. We remain the title holder on Ferncroft as of March 31, 2010, andas of the date of this report.

 

In accordance with GAAP,we have evaluated Ferncroft for impairment, and accordingly, have recognized a$4.2 million impairment charge related to Ferncroft for the three months ended March 31,2010.

 

We also evaluate ourinvestments in unconsolidated joint ventures at each reporting date and if webelieve there is an other than temporary decline in market value, we willrecord 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.

 

We also evaluate ourinvestments in notes receivable as of each reporting date.  If we believe that it is probable we will notcollect all principal and interest in accordance with the terms of the loans,we consider the loan impaired.  Whenevaluating loans for potential impairment, we compare the carrying amount ofthe loans to the present value of future cash flows discounted at the loan’seffective 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.

 

As part of our adoptionof Accounting Standards Codification Topic 810 (“ASC Topic 810”) (See Note 8),effective January 1, 2010, we deconsolidated the assets and liabilities oftwo VIEs, Tanglewood at Voss and Alexan Black Mountain, and recognized on ourconsolidated balance sheet the mezzanine loans we made in 2006 associated withTanglewood at Voss and Alexan Black Mountain. As is required by GAAP, we evaluated these notes receivable forcollectability.  Based on our analyses,we recorded a reserve for loan losses totaling $11.1 million related to themezzanine loan associated with Alexan Black Mountain, including $7.1 millionrecognized as a provision to loan losses on our consolidated statement ofoperations and comprehensive loss for the three months ended March 31,2010, and the remaining $4 million as an cumulative effect adjustment to theopening balance of accumulated distributions and net loss in our consolidatedstatement of equity at March 31, 2010. There was no such provision or reserve recorded for the three monthsended March 31, 2009.

 

In evaluating ourinvestments for impairment, management may use appraisals and make estimatesand assumptions, including, but not limited to, the projected date ofdisposition 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.

 

Other than the impairmentcharge discussed above, we believe the carrying value of our operating realestate assets, properties under development, investments in unconsolidatedjoint 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.

 

12

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Table ofContents

 

**BehringerHarvard Opportunity REIT I, Inc.**

**Notesto Consolidated Financial Statements**

**(Unaudited)**

 

***DeferredFinancing Fees***

 

Deferred financing feesare recorded at cost and are amortized to interest income for notes receivableand interest expense for notes payable using a straight-line method thatapproximates the effective interest method over the life of the relateddebt.  Accumulated amortization ofdeferred financing fees was $7.9 million and $7.4 million as of March 31,2010 and December 31, 2009, respectively.

 

***DerivativeFinancial Instruments***

 

Our objective in usingderivatives is to add stability to interest expense and to manage our exposureto interest rate movements or other identified risks and to minimize thevariability caused by foreign currency translation risk related to our netinvestment in foreign real estate.  Toaccomplish these objectives, we use various types of derivative instruments tomanage fluctuations in cash flows resulting from interest rate riskattributable 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.

 

We measure our derivativeinstruments and hedging activities at fair value and record them as an asset orliability, depending on our rights or obligations under the applicablederivative contract.  For derivativesdesignated as fair value hedges, the changes in the fair value of both thederivative instrument and the hedged items are recorded in earnings.  Derivatives used to hedge the exposure tovariability in expected future cash flows, or other types of forecasted transactions,are considered cash flow hedges.  Forderivatives designated as cash flow hedges, the effective portions of changesin fair value of the derivatives are reported in other comprehensive income(loss) and are subsequently reclassified into earnings when the hedged itemaffects earnings.  For derivativesdesignated as net investment hedges, changes in fair value are reported inother comprehensive income (loss) as part of the foreign currency translationgain or loss.  Changes in fair value ofderivative instruments not designated as hedges and ineffective portions ofhedges are recognized in earnings in the affected period.  We assess the effectiveness of each hedgingrelationship by comparing the changes in fair value or cash flows of thederivative hedging instrument with the changes in fair value or cash flows ofthe designated hedged item or transaction.

 

As of March 31,2010, we do not have any derivatives designated as fair value hedges, nor arederivatives being used for trading or speculative purposes.  See Notes 5 and 13 for further informationregarding our derivative financial instruments.

 

***AssetRetirement Obligations***

 

We record the fair valueof any conditional asset retirement obligations in accordance with GAAP.  As part of the anticipated renovation andredevelopment of an acquired property, we will incur future costs for theabatement of regulated materials, primarily asbestos-containing materials, asrequired under environmental regulations. Our estimate of the fair value of the liability is based on futureanticipated costs to be incurred for the legal removal or remediation of theregulated materials.  There was no assetretirement obligation as of March 31, 2010 or December 31, 2009.

 

***ForeignCurrency Translation***

 

For our internationalinvestments where the functional currency is other than the US dollar, assetsand liabilities are translated using period-end exchange rates, while thestatement of operations amounts are translated using the average exchange ratesfor the respective period.  Differencesarising from the translation of assets and liabilities in comparison with thetranslation of the previous periods or from initial recognition during theperiod are included as a separate component of accumulated other comprehensiveincome (loss).

 

TheBritish pound is the functional currency for our Becket House investmentoperating in London, England and the Euro is the functional currency for theoperations of our Central Europe Joint Venture. Wealso maintain Euro-denominated bank accounts that are translated into U.S.dollars at the current exchange rate at each reporting period.  The resulting translation adjustmentsare recorded as a separate component of accumulated other comprehensive income(loss) in our consolidated statement of equity. The foreign currency translation adjustment was a loss of $1.4 millionand $1.8 million for the three months ended March 31, 2010 and 2009,respectively.

 

***AccumulatedOther Comprehensive Income (Loss)***

 

Accumulated other comprehensive income (loss) (“AOCI”),which is reported in the accompanying consolidated statement of equity,consists of gains and losses affecting equity that are excluded from net income(loss) under GAAP.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The components of accumulated other comprehensiveincome (loss) consist of foreign currency translation gains and losses andunrealized gains and losses on derivatives designated as hedges.

 

***RevenueRecognition***

 

We recognizerental income generated from leases on real estate assets on a straight-linebasis over the terms of the respective leases, including the effect of rentholidays, if any.  Straight-line rentalrevenue of $1.3 million and $0.5 million was recognized in rental revenues forthe three months ended March 31, 2010 and 2009, respectively.  Hotel revenue is derived from the operationsof The Lodge & Spa at Cordillera and consists of guest room, food andbeverage, and other revenue, and is recognized as the services are rendered.

 

Revenues from the salesof condominiums are recognized when sales are closed and title passes to thenew owner, the new owner’s initial and continuing investment is adequate todemonstrate a commitment to pay for the condominium, the new owner’s receivableis not subject to future subordination, and we do not have a substantial continuinginvolvement with the new condominium. Amounts received prior to closing on sales of condominiums are recordedas deposits in our financial statements.

 

We recognizeinterest income from notes receivable on an accrual basis over the life of theloan using the interest method.  Directloan origination fees and origination or acquisition costs, as well asacquisition premiums or discounts, are amortized over the life of the loan asan adjustment to interest income.  Wewill stop accruing interest on loans when there is concern as to the ultimatecollection 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 until cashis received or we make the decision to restart interest accrual on the loan.

 

***Advertising Costs***

 

Marketing costs, including the costs of model unitsand their furnishings, incurred in connection with the sale of condominiums aredeferred and recorded as costs of sales when revenue is recognized.  Certain prepaid costs are capitalized andexpensed over the stated terms of the contract. All other advertising costs are expensed as incurred.  We expensed advertising costs of less than$0.1 million and $0.2 million for the three months ended March 31, 2010and 2009, respectively.

 

***IncomeTaxes***

 

We elected to be taxed,and qualified, as a REIT under Sections 856 through 860 of the Internal RevenueCode of 1986, as amended (the “Code”), beginning with the year ended December 31,2006.  We are organized and operate insuch a manner as to qualify for taxation as a REIT under the Code, and weintend to continue to operate in such a manner, but no assurance can be giventhat we will operate in a manner so as to qualify or remain qualified as aREIT.  To qualify as a REIT, we must meeta number of organizational and operational requirements, including arequirement that we distribute at least 90% of our REIT taxable income to ourstockholders.  As a REIT, we generallywill not be subject to federal income tax at the corporate level except for theoperations of our wholly-owned taxable REIT subsidiaries.  We have three taxable REIT subsidiaries thatown and/or provide management and development services to certain of ourinvestments in real estate and real estate under development.

 

We have reviewed our taxpositions under GAAP guidance that clarifies the relevant criteria and approachfor the recognition and measurement of uncertain tax positions.  The guidance prescribes a recognitionthreshold and measurement attribute for the financial statement recognition ofa tax position taken, or expected to be taken, in a tax return.  A tax position may only be recognized in thefinancial statements if it is more likely than not that the tax position willbe sustained upon examination.  Webelieve it is more likely than not that the tax positions taken relative to ourstatus as a REIT will be sustained in any tax examination.  In addition, we believe that it is morelikely than not that the tax positions taken relative to the taxable REITsubsidiaries will be sustained in any tax examination.

 

On May 18,2006, the State of Texas enacted a law which replaced the existing statefranchise tax with a “margin tax,” effective January 1, 2007.  For the three months ended March 31,2010 and 2009, we recognized a current and deferred tax provision related tothe Texas margin tax of approximately $0.2 million and $0.1 million,respectively.

 

***Stock-BasedCompensation***

 

We have a stock-basedincentive award plan for our directors and consultants and for employees,directors, and consultants of our affiliates. Awards are granted at the fair market value on the date of grant withfair value estimated using the Black-Scholes-Merton option valuation model,which incorporates assumptions surrounding volatility, dividend yield, therisk-free interest rate, expected life, and the exercise price as compared tothe underlying stock price on the grant date. 

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The tax benefitsassociated with these share-based payments are classified as financing activitiesin the consolidated statement of cash flows. For the three months ended March 31, 2010 and 2009, we had nosignificant compensation cost related to our incentive award plan.

 

***Concentrationof Credit Risk***

 

At March 31, 2010and December 31, 2009, we had cash and cash equivalents deposited incertain financial institutions in excess of federally insured levels.  We have diversified our cash and cashequivalents between several banking institutions in an attempt to minimizeexposure to any one of these entities. We regularly monitor the financial stability of these financialinstitutions and believe that we are not exposed to any significant credit riskin cash and cash equivalents or restricted cash.

 

***Noncontrolling Interest***

 

Noncontrolling interestrepresents the noncontrolling ownership interest’s proportionate share of theequity in our consolidated real estate investments including the 1%, 5%, 7%,10%, and 20% unaffiliated partners’ share of the equity in Rio Salado BusinessCenter, Chase Park Plaza, The Lodge & Spa at Cordillera, FriscoSquare, and Becket House, respectively. Income and losses are allocated to noncontrolling interest holders basedon their ownership percentage.

 

In June 2009, theFASB issued an amendment to the accounting and disclosure requirements for theconsolidation of variable interest entities. The guidance eliminates exceptions to consolidating qualifyingspecial-purpose entities, contains new criteria for determining the primarybeneficiary, and increases the frequency of required reassessments to determinewhether a company is the primary beneficiary of a variable interestentity.  It also contains a newrequirement that any term, transaction, or arrangement that does not have asubstantive effect on an entity’s status as a variable interest entity, acompany’s power over a variable interest entity, or a company’s obligation toabsorb losses or its rights to receive benefits of an entity must bedisregarded.

 

As a result of adoptingthis amendment, we deconsolidated the assets and liabilities of Tanglewood atVoss and Alexan Black Mountain along with the associated revenue andexpenses.  See Note 8 for moreinformation on the deconsolidation of Tanglewood at Voss and Alexan Black Mountain.

 

***ReportableSegments***

 

We have determined thatwe have one reportable segment, with activities related to the ownership,development and management of real estate assets.  Our income producing properties generated100% of our consolidated revenues for the three months ended March 31,2010 and 2009.  Our chief operatingdecision maker evaluates operating performance on an individual propertylevel.  Therefore, our properties areaggregated into one reportable segment.

 

***Earnings per Share***

 

Earnings (loss) per shareis calculated based on the weighted average number of shares outstanding duringeach period.  As of March 31, 2010and 2009, we had options to purchase 69,583 and 54,583 shares of common stockoutstanding at a weighted average exercise price of $8.99 and $9.21,respectively.  These options are excludedfrom the calculation of earnings per share for the three months ended March 31,2010 and 2009 because the effect would be anti-dilutive.

 

***Inflation***

 

The real estate markethas not been affected significantly by inflation in the past several years dueto the relatively low inflation rate. However, we include provisions in the majority of our tenant leases thatwould protect us from the impact of inflation. These provisions include reimbursement billings for common areamaintenance charges, real estate tax and insurance reimbursements on a persquare foot basis, or in some cases, annual reimbursement of operating expensesabove a certain per square foot allowance.

 

**4.         New Accounting Pronouncements**

 

There have been nodevelopments to new accounting pronouncements, including the expected dates ofadoption and estimated effects on our consolidated financial statements, fromthose disclosed in our 2009 Annual Report on Form 10-K.

 

**5.         Assets and Liabilities Measured at FairValue**

 

Fair value measurementsare determined based on the assumptions that market participants would use inpricing the asset or liability.  As abasis for considering market participant assumptions in fair valuemeasurements, a fair value 

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

hierarchy thatdistinguishes between market participant assumptions based on market dataobtained from sources independent of the reporting entity (observable inputsthat are classified within Levels 1 and 2 of the hierarchy) and the reportingentity’s own assumptions about market participant assumptions (unobservableinputs classified within Level 3 of the hierarchy) has been established.

 

Level 1 inputsutilize quoted prices (unadjusted) in active markets for identical assets andliabilities that we have the ability to access. Level 2 inputs are inputs other than quoted prices included in Level 1that are observable for the asset or liability, either directly orindirectly.  Level 2 inputs may includequoted prices for similar assets and liabilities in active markets, as well asinputs that are observable for the asset or liability (other than quotedprices), such as interest rates, foreign exchange rates, and yield curves thatare observable at commonly quoted intervals. Level 3 inputs are unobservable inputs for the asset or liability thatare typically based on an entity’s own assumptions, as there is little, if any,related market activity.  In instanceswhere the determination of the fair value measurement is based on inputs fromdifferent levels of the fair value hierarchy, the level in the fair valuehierarchy within which the fair value measurement falls is based on the lowestlevel input that is significant to the fair value measurement in itsentirety.  Our assessment of thesignificance of a particular input to the fair value measurement in itsentirety requires judgment, and considers factors specific to the asset orliability.

 

*RecurringFair Value Measurements*

 

*Derivativefinancial instruments*

 

Currently, we useinterest rate swaps and caps to manage our interest rate risk and foreign exchangeput/call options to manage the impact of foreign currency movements on ourfinancial position for our net investments in foreign real estate jointventures.  The valuation of theseinstruments is determined using widely accepted valuation techniques includingdiscounted 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.

 

We incorporatecredit 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 March 31, 2010 and 2009, we have assessed the significance of theimpact of the credit valuation adjustments on the overall valuation of ourderivative positions and have determined that the credit valuation adjustmentsare not significant to the overall valuation of our derivatives.  As a result, we have determined that ourderivative valuations in their entirety are classified in Level 2 of the fairvalue hierarchy.

 

The following fairvalue hierarchy table presents information about our assets and liabilitiesmeasured at fair value on a recurring basis as of March 31, 2010 and 2009:

 

| **March 31, 2010**           | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|-----------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-----------|------------|
| **Assets**                        |       |        |       |        |       |        |       |      |       |
| Derivative  financial instruments |       | $           | —     |        | $          | 238         |       | $         | —     |   | $ | 238 |   |
|                              |       |        |       |        |       |        |       |      |       |
| **Liabilities**                   |       |        |       |        |       |        |       |      |       |
| Derivative  financial instruments |       | $           | —     |        | $          | 2,367       |       | $         | —     |   | $ | 2,367 |   |

 

| **March 31, 2009**           | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|-----------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-----------|------------|
| **Assets**                        |       |        |       |        |       |        |       |      |       |
| Derivative  financial instruments |       | $           | —     |        | $          | 997         |       | $         | —     |   | $ | 997 |   |
|                              |       |        |       |        |       |        |       |      |       |
| **Liabilities**                   |       |        |       |        |       |        |       |      |       |
| Derivative  financial instruments |       | $           | —     |        | $          | 5,248       |       | $         | —     |   | $ | 5,248 |   |

 

Derivativefinancial instruments classified as assets are included in other assets on thebalance sheet while derivative financial instruments classified as liabilitiesare included in other liabilities.  SeeNotes 3 and 13 for further information regarding our use of hedginginstruments.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

*NonrecurringFair Value Measurements:*

 

*Impairments*

 

In the first quarter of2010, we recorded a provision to the reserve for loan losses of $7.1 millionrelated to our Alexan Black Mountain note receivable to reflect our currentestimate of potential loan loss.  We alsorecorded an impairment charge of $4.2 million related to our Ferncroftproperty.  There were no such provisionsor impairment charges recorded for the first quarter of 2009.  The inputs used to calculate the fair valueof these assets included projected cash flows and a risk-adjusted rate ofreturn that we estimated would be used by a market participant in valuing theseassets.  This fair value estimate isconsidered Level 3 of the fair value hierarchy.

 

The following fairvalue hierarchy table presents information about our assets measured at fairvalue on a nonrecurring basis during March 31, 2010:

 
| ** **                       | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **           | ** ** | **Gain**   | ** ** |
|----------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|----------------------|------------|------------|------------|
| **March 31, 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 |       | —      |       | —      |       | 13,487      |       | 13,487               |       | (4,230     | )          |
| Total                            |       | $           | —     |        | $          | —      |       | $                    | 16,027     |       | $          | 16,027 |   | $ | (11,366 | ) |

 

**6.             Fair Value Disclosure of FinancialInstruments**

 

We determined thefollowing disclosure of estimated fair values using available marketinformation 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.

 

As of March 31, 2010and December 31, 2009, management estimated that the carrying value ofcash and cash equivalents, restricted cash, accounts receivable, accountspayable, accrued expenses, other liabilities, payables/receivables from relatedparties, and distributions payable were at amounts that reasonably approximatedtheir fair value based on their highly-liquid nature and/or short-termmaturities and the carrying value of notes receivable reasonably approximatedfair value based on expected interest rates for notes to similar borrowers withsimilar terms and remaining maturities.

 

The notes payabletotaling $352.2 million and $429.8 million as of March 31, 2010 and December 31,2009, respectively, have a fair value of approximately $358.2 million and$435.3 million, respectively, based upon interest rates for mortgages withsimilar terms and remaining maturities that management believes we couldobtain.  Interest rate swaps and capsalong with our foreign currency exchange forward contract are recorded at theirrespective fair values in prepaid expenses and other assets for thosederivative instruments that have an asset balance and in other liabilities forthose derivative instruments that are liabilities (see Note 5).

 

The fair valueestimates presented herein are based on information available to our managementas of March 31, 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.             Real Estate Investments**

 

As of March 31,2010, we wholly owned 11 properties and consolidated five properties throughinvestments in joint ventures.  We arethe mezzanine lender for two multifamily properties which, prior to January 1,2010, we consolidated as the 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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**Behringer Harvard Opportunity REIT I, Inc.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

***Investments inUnconsolidated Joint Ventures***

 

The following tablepresents certain information about our unconsolidated investments as of March 31,2010 and December 31, 2009:

 

| ** **                    | ** ** | ** **              | ** ** | **Carrying Value of Investment** | ** ** |
|-------------------------------|------------|-------------------------|------------|----------------------------------|------------|
| **Property Name**             | ** ** | **Ownership  Interest** | ** ** | **March 31,  2010**         | ** ** | **December 31,  2009** | ** ** |
| Royal  Island                 |       | 30.38                   | %          | $                                | 22,901     |   | $ | 22,594 |   |
| GrandMarc  at Westberry Place |       | 50.00                   | %          | 7,225                            |       | 7,348 |   |
| GrandMarc  at the Corner      |       | 50.00                   | %          | 6,463                            |       | 6,559 |   |
| Central  Europe Joint Venture |       | 47.27                   | %          | 24,712                           |       | 27,051 |   |
| Total                         |       |                    |       | $                                | 61,301     |   | $ | 63,552 |   |

 

Ourinvestments in unconsolidated joint ventures as of March 31, 2010 and December 31,2009 consisted of our proportionate share of the combined assets andliabilities of our investment properties as follows:

 
| ** **                    | ** ** | **March 31, 2010** | ** ** | **December 31, 2009** | ** ** |
|-------------------------------|------------|-------------------------|------------|----------------------------|------------|
| Real  estate assets, net      |       | $                       | 376,334    |                       | $          | 382,061 |   |
| Cash  and cash equivalents    |       | 5,544                   |       | 15,628                     |       |
| Other  assets                 |       | 3,200                   |       | 3,528                      |       |
| Total  assets                 |       | $                       | 385,078    |                       | $          | 401,217 |   |
|                          |       |                    |       |                       |       |
| Notes  payable                |       | $                       | 234,840    |                       | $          | 246,176 |   |
| Other  liabilities            |       | 19,862                  |       | 19,846                     |       |
| Total  liabilities            |       | 254,702                 |       | 266,022                    |       |
|                          |       |                    |       |                       |       |
| Equity                        |       | 130,376                 |       | 135,195                    |       |
| Total  liabilities and equity |       | $                       | 385,078    |                       | $          | 401,217 |   |

 

Forthe three months ended March 31, 2010 and 2009, we recognized $0.9 millionand $0.1 million, respectively, of equity in losses.  Our equity in losses from these investmentsis our proportionate share of the combined losses of our unconsolidated jointventures for the three months ended March 31, 2010 and 2009 as follows:

 
| ** **                        | ** ** | **Three Months Ended March 31,** | ** ** |
|-----------------------------------|------------|---------------------------------------|------------|
| ** **                        | ** ** | **2010**                              | ** ** | **2009** | ** ** |
| Revenue                           |       | $                                     | 6,558      |   | $ | 5,600 |   |
|                              |       |                                  |       |   |   |
| Operating  expenses:              |       |                                  |       |   |   |
| Operating  expenses               |       | 1,470                                 |       | 1,346 |   |
| Property  taxes                   |       | 206                                   |       | 206 |   |
| Total  operating expenses         |       | 1,676                                 |       | 1,552 |   |
|                              |       |                                  |       |   |   |
| Operating  income                 |       | 4,882                                 |       | 4,048 |   |
|                              |       |                                  |       |   |   |
| Non-operating  expenses:          |       |                                  |       |   |   |
| Depreciation  and amortization    |       | 2,400                                 |       | 2,419 |   |
| Interest  and other, net          |       | 4,285                                 |       | 1,911 |   |
| Total  non-operating expenses     |       | 6,685                                 |       | 4,330 |   |
|                              |       |                                  |       |   |   |
| Net  loss                         |       | $                                     | (1,803     | ) | $ | (282 | ) |
|                              |       |                                  |       |   |   |
| Company’s  share of net loss |       | $                                     | (943       | ) | $ | (125 | ) |

 

**8.         Variable Interest Entities**

 

GAAPrequires the consolidation of VIEs in which an enterprise has a controllingfinancial interest.  A controllingfinancial interest will have both of the following characteristics: (a) thepower to direct the activities of a VIE that most 

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

significantlyimpact the VIEs economic performance and (b) the obligation to absorblosses of the VIE that could potentially be significant to the VIE or the rightto receive benefits from the VIE that could potentially be significant to theVIE.

 

Ourvariable interest in VIEs may be in the form of (1) equity ownershipand/or (2) loans provided by us to a VIE, or other partner.  We examine specific criteria and use judgmentwhen determining if we are the primary beneficiary of a VIE.  Factors considered in determining whether weare the primary beneficiary include risk and reward sharing, experience andfinancial condition of other partner(s), voting rights, involvement inday-to-day capital and operating decisions, representation on a VIE’s executivecommittee, existence of unilateral kick-out rights or voting rights, level ofeconomic disproportionality between us and the other partner(s), and contractsto purchase assets from VIEs.

 

*Tanglewoodat Voss and Alexan Black Mountain*

 

In 2006, we agreed toprovide secured mezzanine financing with an aggregate principal amount of up to$22.7 million to unaffiliated third-party entities that own multifamilycommunities under development, Tanglewood at Voss in Houston, Texas and AlexanBlack Mountain in Henderson, Nevada properties. These entities also have secured construction loans with third-partylenders, with an aggregate principal amount of up to $68.6 million.  Our mezzanine loans are subordinate to theconstruction loans.  In addition, we haveentered into option agreements allowing us to purchase the ownership interestsin Tanglewood at Voss and Alexan Black Mountain after each project’ssubstantial completion and upon notification of completion from thedeveloper.  As of March 31, 2010,the option agreement allowing us to purchase Alexan Black Mountain has expired.

 

In February 2009, wereceived the notice of completion on Tanglewood at Voss.  Accordingly, pursuant to the optionagreement, we had ninety days from the delivery of the notice of completion toexercise 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 January 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 July 22, 2010. As of March 31, 2010, the general partner and mezzanine borrowerhave not elected to provide us with the put notice.

 

Based on our evaluation,we have determined that these entities meet the criteria of VIEs under GAAP andprior to January 1, 2010, we were the primary beneficiary of thesevariable interest entities.  Therefore,prior to January 1, 2010, we consolidated the entities, including therelated real estate assets and third-party construction financing.  As of December 31, 2009, there was $87.2million of related real estate assets related to Tanglewood at Voss and AlexanBlack Mountain, which collateralizes the outstanding principal balance of theconstruction loans.  The third-partyconstruction lenders have no recourse to the general credit of us, but theirloans are guaranteed by the owners of the variable interest entities.  As of December 31, 2009, the outstandingprincipal balance under our mezzanine loans was $22.7 million, which waseliminated, along with accrued interest and loan origination fees, uponconsolidation.

 

In June 2009, theFASB issued an amendment to the accounting and disclosure requirements for theconsolidation of variable interest entities. The guidance eliminates exceptions to consolidating qualifyingspecial-purpose entities, contains new criteria for determining the primary beneficiary,and increases the frequency of required reassessments to determine whether acompany is the primary beneficiary of a variable interest entity.  It also contains a new requirement that anyterm, transaction, or arrangement that does not have a substantive effect on anentity’s status as a variable interest entity, a company’s power over avariable interest entity, or a company’s obligation to absorb losses or itsrights to receive benefits of an entity must be disregarded.

 

As a result of this newaccounting guidance, on January 1, 2010, we deconsolidated the assets andliabilities of Tanglewood at Voss and Alexan Black Mountain along with theassociated revenue and expenses, resulting in neither a net gain or loss as wehad no equity interest in these investments. While these entities are VIEs, we have determined that the power todirect the activities that most significantly impact the VIE’s economicperformance generally resides with the general partner and mezzanineborrowers.  Accordingly, we recognized acumulative effect adjustment of $9.4 million to the opening balance ofnoncontrolling interest in our consolidated statement of equity at March 31,2010.  Further, we recognized inconsolidation our mezzanine loans related to Tanglewood at Voss and AlexanBlack Mountain which resulted in the addition of $20.3 million of net notesreceivable to our consolidated balance sheet at March 31, 2010 (see Note9).  Following the deconsolidation ofTanglewood at Voss and Alexan Black Mountain, our continuing involvement withthese entities is limited to our mezzanine loans.  The deconsolidation did not result in eitherTanglewood at Voss or Alexan Black Mountain becoming one of our relatedparties.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

*RoyalIsland*

 

In May 2007, for aninitial cash investment of $20 million, we acquired an approximate 31% equityinterest as a limited partner in the development and construction of a resorthotel, spa, golf course, marina, and residences on three islands located in theCommonwealth of Bahamas (“Royal Island”). In December 2007, we participated in a bridge loan 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 March 31, 2010, including accrued interest and fees, was $43.6million (See Note 9).  Based on our evaluation,we have determined that the entity meets the criteria of a variable interestentity but that we are not the primary beneficiary because we do not have thepower to direct the activities of Royal Island that most significantly affectthe entity’s economic performance.  Thepower to direct these activities resides with the general partner.  Accordingly, we do not consolidate the RoyalIsland entity and instead account for our equity investment under the equitymethod of accounting.  At March 31,2010, there was approximately $150.8 million of real estate assets underdevelopment related to Royal Island.

 

AtMarch 31, 2010 and December 31, 2009, our recorded investment in VIEsthat are unconsolidated and our maximum exposure to loss were as follows:

 
| **As of  March 31, 2010** | ** ** | **Investments in  Unconsolidated VIEs** | ** ** | **Our Maximum  Exposure to Loss** | ** ** |
|--------------------------------|------------|-----------------------------------------|------------|-----------------------------------|------------|
| Tanglewood  at Voss (1)        |       | $                                       | —     |                              | $          | 17,789 |   |
| Alexan  Black Mountain (1)     |       | —                                  |       | 2,540                             |       |
| Royal  Island (2)              |       | 22,901                                  |       | 66,524                            |       |
|                           |       | $                                       | 22,901     |                              | $          | 86,853 |   |

 
| **As of  December 31, 2009** | ** ** | **Investment in  Unconsolidated VIE** | ** ** | **Our Maximum  Exposure to Loss** | ** ** |
|-----------------------------------|------------|---------------------------------------|------------|-----------------------------------|------------|
| Royal  Island (2)                 |       | $                                     | 22,594     |                              | $          | 64,661 |   |
|                                   |            |                                       |            |                                   |            |  |  |

 

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| (1)  We have no  equity investment in either Tanglewood at Voss or Alexan Black Mountain.  Our maximum exposure to loss is limited to  the net outstanding balance of the notes receivable for Tanglewood at Voss  and Alexan Black Mountain. Prior to January 1, 2010, we consolidated Tanglewood  at Voss and Alexan Black Mountain. |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                  |
| (2) Our maximum  exposure to loss for Royal Island consists of the investment in the unconsolidated  VIE plus the net outstanding balance of the notes receivable for Royal Island.                                                                                                                                                              |

 

**9.         NotesReceivable**

 

*ChasePark Plaza Working Capital Loan*

 

We lease the hotelportion of the Chase Park Plaza property to the hotel operator, an unaffiliatedentity 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 March 31, 2010, thenote receivable balance was $1.9 million.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

*Tanglewoodat Voss and Alexan Black Mountain Mezzanine Loans*

 

In 2006, we agreed toprovide secured mezzanine financing with an aggregate principal amount of up to$22.7 million to unaffiliated third-party entities that own Tanglewood at Vossand Alexan Black Mountain.  Theseentities also have secured construction loans with third-party lenders, with anaggregate principal amount of $68.6 million at March 31, 2010.  Our mezzanine loans are subordinate to theconstruction loans.

 

As part of our adoptionof Accounting Standards Codification Topic 810 (“ASC Topic 810”) (See Note 8),effective January 1, 2010, we deconsolidated the assets and liabilities ofthe two VIEs, Tanglewood at Voss and Alexan Black Mountain, and recognized onour consolidated balance sheet the mezzanine loans we made in 2006 associatedwith Tanglewood at Voss and Alexan Black Mountain.  As is required by GAAP, we evaluated thesenotes receivable for collectability. Based on our analyses, we recorded a reserve for loan losses totaling$11.1 million related to the mezzanine loan associated with Alexan BlackMountain, including $7.1 million recognized as a provision to loan losses onour consolidated statement of operations and comprehensive loss for the threemonths ended March 31, 2010, and the remaining $4 million as an cumulativeeffect adjustment to the opening balance of accumulated distributions and netloss in our consolidated statement of equity at March 31, 2010.  There was no such provision or reserverecorded for the three months ended March 31, 2009.

 

At March 31, 2010,the carrying amount of the Tanglewood at Voss mezzanine loan was $17.8 million,which includes $4.8 of interest and fees. The carrying amount of the Alexan Black Mountain mezzanine loan was $2.5million, net of $11.1 million allowance for loan losses.

 

*RoyalIsland Bridge Loan*

 

In December 2007, weparticipated in a bridge loan financing arrangement for the continuing developmentand construction of Royal Island.  The aggregate principal amountavailable under the bridge loan was $60 million consisting of threetranches.  Under the bridge loan we agreed to lend a tranche of up to $40million, which is subordinate to the other two tranches.  The bridge loanaccrued interest at the one-month LIBOR rate plus 8% per annum with accruedinterest and principal payable at the maturity date, December 20, 2008,and is secured by the Royal Island property. In June 2009, we purchased the interest in the first of the twosuperior tranches, the A-1, for $3.1 million. In March 2010, we purchased the interest in two notes in the A-2tranche for $2.2 million.

 

Under the terms of theloan documents, the bridge loan could be extended once for a period of sixmonths upon the satisfaction of certain conditions upon notice given by theborrower by November 20, 2008 and a payment of an extension fee.  Atthe maturity date, not all of the conditions were satisfied and, as a result,the bridge loan went into default and became a non-earning loan.  The balance owed to us at the time of defaultwas $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.

 

In January 2010, wecollected $5.5 million in unpaid interest and fees from the borrower.  At March 31, 2010, the loan balance owedto us was $43.6 million, which includes $1.5 million of accrued interest andfees included in receivables from related parties at March 31, 2010.  We have not recorded an allowance against therecorded balance as our estimate of the fair value of the Royal Island propertysecuring the bridge loan exceeds the current carrying value of the loan, andaccordingly, we believe it is probable that all of the outstanding balance iscollectible.

 

Current market conditionswith respect to credit availability and to fundamentals within the real estatemarkets instill significant levels of uncertainty.  Accordingly, future adverse developments inmarket conditions would cause us to re-evaluate our conclusions, regarding thecollectibility of our notes receivable and could result in material impairmentcharges.

 

**10.      Capitalized Costs**

 

We capitalize interest,property taxes, insurance, and construction costs to real estate underdevelopment.  During the three monthsended March 31, 2010 we capitalized $0.6 million of such costs associatedwith real estate under development and certain investments accounted for by theequity method.  During the three monthsended March 31, 2009 we capitalized $5.2 million of such costs associatedwith real estate under development and certain investments accounted 

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

for by the equity method,including $0.7 million in interest costs. Capitalized interest costs include interest expense and amortization ofdeferred financing costs.

 

Certain redevelopmentcosts including interest, property taxes, insurance, and construction costsassociated with Chase Park Plaza and The Lodge & Spa at Cordillerahave been capitalized to condominium inventory on our consolidated balancesheet at March 31, 2010.  During thethree months ended March 31, 2010, we capitalized a total of $3.6 millionof such costs associated with the condominium redevelopment at Chase Park Plazaand The Lodge & Spa at Cordillera. During the three months ended March 31, 2009, we capitalized atotal of $1.6 million of such costs associated with the condominiumredevelopment at Chase Park Plaza and The Lodge & Spa at Cordillera.

 

# **11.      Notes Payable**

# ** **

Our notes payable balancewas $352.2 million at March 31, 2010, as compared to $429.8 million at December 31,2009 and consists of borrowings and assumptions of debt related to our propertyacquisitions and our borrowings under our $75 million senior secured creditfacility.  As of December 31, 2009,notes payable also included the notes payable of our mezzanine borrowers thatwe consolidated as variable interest entities under GAAP, Tanglewood at Vossand Alexan Black Mountain.  In the first quarter of 2010, wedeconsolidated the assets and liabilities of Tanglewood at Voss and AlexanBlack Mountain, which include the notes payable of our mezzanine borrowerstotaling $68.5 million.  Each of our notespayable is collateralized by one or more of our properties.  At March 31,2010, our notes payable interest rates ranged from 2% to 6.3%, with a weightedaverage interest rate of approximately 3.1%.  Of our $352.2 million innotes payable at March 31, 2010, $312.8 million represented debt subjectto variable interest rates.  At March 31, 2010, our notes payablehave maturity dates that range from June 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.

 

Our loan agreementsgenerally stipulate that we comply with certain reporting and financialcovenants.  These covenants include amongother things, notifying the lender of any change in management and maintainingminimum debt service coverage ratios.  Asa result of the difficult economic conditions negatively impacting bothoccupancy and rental rates at the Becket House, lease renewals and new leaseshave been executed at substantially lower rates per square foot, we were unableto meet the interest coverage and valuation covenants under the Becket Houseloan agreement as of March 31, 2010. In addition, in 2009 and 2008, we recognized impairment charges relatedto our leasehold interest in Becket House of $6 million and $9.9 million,respectively.  Failure to meet the loancovenants under the loan agreement constitutes a technical default and, absenta waiver or modification of the loan agreement, the lender may acceleratematurity with any unpaid interest and principal immediately due andpayable.  At March 31, 2010, theoutstanding principal balance of the Becket House loan was $17.6 million.  We are currently in negotiations with thelender to waive the event of noncompliance or modify the loan agreement.  However, there are no assurances that we willbe successful in our negotiations with the lender.  The Becket House loan is non-recourse to us.

 

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 drop in occupancy we are currently operating under acash management arrangement in accordance with Ferncroft’s $18 million CMBSmortgage loan agreement.  Accordingly,tenant rental payments are deposited in a restricted lockbox account.  As such, we do not have direct access tothese rental payments, and the disbursement of cash from the restricted lockboxaccount to us is at the discretion of the loan’s servicer.  Furthermore, we have been unable to disbursecash from the restricted lockbox account to us in order to pay Ferncroft’s operatingexpenses.  Not paying the operatingexpenses as they become due constitutes an event of default under the loanagreement.  The Ferncroft loan isnon-recourse to us.  We are innegotiations with the servicer and there are several potential outcomes includinga loan modification for us to retain ownership in return for additional capitalcommitments, a sale of the property to a third-party, or a deed-in-lieu offoreclosure.  However, there is nocertainty to which outcome from the negotiations will prevail.  We remain the title holder on Ferncroft as ofMarch 31, 2010, and as of the date of this report.

 

In February 2008, weentered into a senior secured revolving credit facility providing for up to $75million of secured borrowings.  Theinitial credit facility allowed us to borrow up to $75 million in revolvingloans, of which up to $20 million was available for issuing letters ofcredit.  We have unconditionallyguaranteed payment of the senior secured revolving credit facility.  The availability of credit under therevolving credit facility is limited by the terms of the credit agreement.  As of March 31, 2010, the maximumavailability under the revolving credit facility was $70.2 million.  The outstanding balance under the revolvingcredit facility was $69.4 million.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The following tablesummarizes our contractual obligations for principal payments as of March 31,2010:

 
| **Principal Payments Due:**                 |   |    |    |
|---------------------------------------------|--------|---------|---------|
| April 1, 2010 - December 31, 2010 |   | $       | 140,646 |   |
| 2011                                        |   | 166,589 |    |
| 2012                                        |   | 8,070   |    |
| 2013                                        |   | 16,664  |    |
| 2014                                        |   | 361     |    |
| Thereafter                                  |   | 18,883  |    |
| Unamortized premium                         |   | 948     |    |
|                                        |   |    |    |
|                                        |   | $       | 352,161 |   |

 

**12.          LeasingActivity**

 

Futureminimum base rental payments due to us under non-cancelable leases in effect asof March 31, 2010 for our consolidated properties are as follows:

 
| ** **                                  | ** ** | **Future  Minimum  Lease  Payments** | ** ** |
|---------------------------------------------|------------|--------------------------------------|------------|
| April 1, 2010 - December 31, 2010 |       | $                                    | 24,099     |   |
| 2011                                        |       | 30,206                               |       |
| 2012                                        |       | 24,327                               |       |
| 2013                                        |       | 21,250                               |       |
| 2014                                        |       | 15,687                               |       |
| Thereafter                                  |       | 38,315                               |       |
|                                        |       |                                 |       |
| Total                                       |       | $                                    | 153,884    |   |

 

As of March 31,2010, none of our tenants accounted for 10% or more of our aggregate annual rentalrevenues from our consolidated properties. Included in rental revenue for the three months ended March 31,2010 was less than $0.1 million of contingent rent.  There was no contingent rent included inrental revenue for the three months ended March 31, 2009.

 

**13.      Derivative Instruments and HedgingActivities**

 

We may be exposed to therisk associated with variability of interest rates that might impact our cashflows and the results of operations.  The hedging strategy ofentering into interest rate caps and swaps, therefore, is to eliminate orreduce, to the extent possible, the volatility of cash flows.  Inaddition, we may be exposed to foreign currency exchange risk related to ournet investments in the Becket House leasehold interest and the Central EuropeJoint Venture.  Accordingly, our hedgingstrategy is to protect our net investments in foreign currency denominatedentities against the risk of adverse changes in foreign currency to U.S. dollarexchange rates.

 

In December 2008, weentered into a foreign currency put/call option to hedge our net investment inBecket 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.

 

Derivative instrumentsclassified as assets were reported at their combined fair values of $0.2million in prepaid expenses and other assets at March 31, 2010 and December 31,2009.  Derivative instruments classifiedas liabilities were reported at their combined fair values of $2.4 million and$3.1 million in accrued and other liabilities at March 31, 2010 and December 31,2009, respectively.  During the threemonths ended March 31, 2010, we recorded an unrealized gain of $0.3million to AOCI in our statement of equity to adjust the carrying amount of theinterest rate swaps and caps qualifying as hedges at March 31, 2010.  Unrealized losses on interest ratederivatives for the three months ended March 31, 2010 reflect areclassification of unrealized losses from accumulated other comprehensive lossto interest expense of less than $0.1 million.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The following tablesummarizes the notional values of our derivative financial instruments as of March 31,2010.  The notional values provide anindication of the extent of our involvement in these instruments at March 31,2010, but do not represent exposure 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 - Santa Clara Tech Center         |       | $                   | 35,115     |                             | 6.00       | %            | June 15,  2010     |                                 | $          | — |   |
| Interest  rate cap - Santa Clara Tech Center         |       | $                   | 17,000     |                             | 6.00       | %            | June 15,  2010     |                                 | $          | — |   |
| Interest  rate cap - Becket House                    |       | £              | 12,700     |                             | 5.75       | %            | November 21,  2010 |                                 | $          | — |   |
| Interest  rate swap - Crossroads                     |       | $                   | 25,000     |                             | 3.10       | %            | November 1,  2010  |                                 | $          | (470 | ) |
|                                                 |       |                |       |                             |       |         |                    |                                 |       |
| Net  Investment Hedges                               |       |                |       |                             |       |         |                    |                                 |       |
| Foreign  currency put - Becket House                 |       | £              | 6,120      |                             | £     | 1.30         |                    | November 23,  2011              |       | $ | 235 |   |
| Foreign  currency put - Central Europe Joint Venture |       | €              | 17,000     |                             | €     | 1.10         |                    | July 28,  2010                  |       | $ | 3 |   |
| Other                                                |       |                |       |                             |       |         |                    |                                 |       |
| Interest  rate swap - Chase Park Plaza Hotel         |       | $                   | 80,594     |                             | 3.82       | %            | November 15,  2010 |                                 | $          | (1,897 | ) |

 

The table below presentsthe fair value of our derivative financial instruments as well as theirclassification on the consolidated balance sheets as of March 31, 2010 andDecember 31, 2009.

 
| ** **                                             | ** ** | ** **                         | ** ** | **Asset Derivatives**                   | ** ** | **Liability Derivatives**                  | ** ** |
|--------------------------------------------------------|------------|------------------------------------|------------|-----------------------------------------|------------|--------------------------------------------|------------|
| ** **                                             | ** ** | **Balance  Sheet  Location**       | ** ** | **Fair Value at  March 31,  2010** | ** ** | **Fair Value at  December 31,  2009** | ** ** | **Fair Value at  March 31,  2010** | ** ** | **Fair Value at  December 31,  2009** | ** ** |
| **Derivatives designated as hedging instruments:**     |       |                               |       |                                    |       |                                       |       |   |   |   |   |
|                                                   |       |                               |       |                                    |       |                                       |       |   |   |   |   |
| Interest  rate derivative contracts                    |       | Prepaid  expenses and other assets |       | $                                       | —     |                                       | $          | — |   | $ | — |   | $ | — |   |
| Interest  rate derivative contracts                    |       | Accrued  and other liabilities     |       | —                                  |       | —                                     |       | (470 | ) | (611 | ) |
| Foreign  exchange contracts                            |       | Prepaid  expenses and other assets |       | 238                                     |       | 204                                        |       | — |   | — |   |
|                                                   |       |                               |       |                                    |       |                                       |       |   |   |   |   |
| Total  derivatives designated as hedging instruments   |       |                               |       | $                                       | 238        |                                       | $          | 204 |   | $ | (470 | ) | $ | (611 | ) |
|                                                   |       |                               |       |                                    |       |                                       |       |   |   |   |   |
| **Derivatives not designated as hedging instruments:** |       |                               |       |                                    |       |                                       |       |   |   |   |   |
|                                                   |       |                               |       |                                    |       |                                       |       |   |   |   |   |
| Interest  rate derivative contract                     |       | Accrued  and other liabilities     |       | $                                       | —     |                                       | $          | — |   | $ | (1,897 | ) | $ | (2,470 | ) |
|                                                   |       |                               |       |                                    |       |                                       |       |   |   |   |   |
| Total  derivatives                                     |       |                               |       | $                                       | 238        |                                       | $          | 204 |   | $ | (2,367 | ) | $ | (3,081 | ) |

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

The tables belowpresent the effect of our derivative financial instruments on the consolidatedstatements of operations as of March 31, 2010 and 2009.

 

**Derivativesin 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)** | ** ** |
|-------------------------------------|------------|-------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------|------------|
| ** **                          | ** ** | **March 31,**                                                                  | ** ** | **March 31,**                                                                       | ** ** |
| ** **                          | ** ** | **2010**                                                                            | ** ** | **2009**                                                                                 | ** ** | **2010** | ** ** | **2009** | ** ** |
| Interest  rate derivative contracts |       | $                                                                                   | 330        |                                                                                     | $          | (74 | ) | $ | 45 |   | $ | 199 |   |
|                                     |            |                                                                                     |            |                                                                                          |            |  |  |  |  |  |  |  |  |

 

----

(1)   Amounts related to interest rate derivativecontracts are included in interest expense.

 

**Derivativesin 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)** | ** ** |
|-----------------------------|------------|-------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------|------------|
| ** **                  | ** ** | **March 31,**                                                                  | ** ** | **March 31,**                                                                       | ** ** | **March 31,**                                                                           | ** ** |
| ** **                  | ** ** | **2010**                                                                            | ** ** | **2009**                                                                                 | ** ** | **2010**                                                                                     | ** ** | **2009** | ** ** | **2010** | ** ** | **2009** | ** ** |
| Foreign  exchange contracts |       | $                                                                                   | (1,386     | )                                                                                        | $          | (1,786                                                                                       | )          | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
|                             |            |                                                                                     |            |                                                                                          |            |                                                                                              |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

| (1)    |   | We do not expect to  reclassify any gain or loss from AOCI into income until the sale or upon complete  or substantially complete liquidation of the respective investment in the  foreign entity. |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |

** **

**DerivativesNot Designated as Hedging Instruments**

 
| ** **                         | ** ** | **Location of Gain or (Loss)** | ** ** | **Amount of Gain or (Loss)  Recognized in Income on  Derivative** | ** ** |
|------------------------------------|------------|--------------------------------|------------|-------------------------------------------------------------------|------------|
| ** **                         | ** ** | **Recognized in Income on**    | ** ** | **March 31,**                                                | ** ** |
| ** **                         | ** ** | **Derivative**                 | ** ** | **2010**                                                          | ** ** | **2009** | ** ** |
| Interest  rate derivative contract |       | Interest expense               |       | $                                                                 | (4         | ) | $ | 185 |   |
|                                    |            |                                |            |                                                                   |            |  |  |  |  |

 

*Credit risk and collateral*

 

Our credit exposurerelated to interest rate and foreign currency derivative instruments isrepresented by the fair value of contracts with a net liability fair value atthe reporting date.  These outstandinginstruments may expose us to credit loss in the event of nonperformance by thecounterparties to the agreements. However, we have not experienced any credit loss as a result ofcounterparty nonperformance in the past. To manage credit risk, we select and will periodically review counterpartiesbased on credit ratings and limit our exposure to any single counterparty.  Under our agreements with the counterpartyrelated to our interest rate caps of Santa Clara Tech Center and Chase — ThePrivate Residences, cash deposits may be required to be posted by thecounterparty whenever their credit rating falls below certain levels.  Based on our agreement with the counterpartyrelated to our interest rate swap of Crossroads Office Park, we may be requiredto post cash collateral of up to $0.6 million if the lender’s obligation tolend under our senior secured credit facility is terminated or the lenderceases to be a party to the senior secured credit facility; the value of thederivative is a liability on our consolidated balance sheet.  At March 31, 2010, no collateral hasbeen posted with our counterparties nor have our counterparties postedcollateral with us related to our derivative instruments. See Notes 3 and 5 for further information onour derivative instruments.

 

**14.      Distributions**

 

Weinitiated the payment of monthly distributions in August 2006.  In April 2007, and through March 2009,the declared distributions rate was a 3% annualized rate of return, calculatedon a daily record basis of $0.0008219 per share.  Pursuant to our Third Amended and RestatedDistribution Reinvestment Plan (the “DRP”), stockholders may elect to reinvestany cash distribution in additional shares of common stock.  We record all distributions when declared,except that the stock issued through the DRP is recorded when the shares areactually issued.

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

Prior to April 2, 2009, our Board declared dailydistributions in advance of the period to which the distributions applied andthe 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 April 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 March 31, 2010, therecord date previously established by the Board on March 5, 2010.  The distribution will be paid on or before May 16,2010.

 

**15.      Related Party Transactions**

 

Behringer OpportunityAdvisors I and certain of its affiliates receive fees and compensation inconnection with our initial public offering of common, and in connection withthe acquisition, management, and sale of our assets.  On November 16, 2007, we terminated theDRP and commenced a second distribution reinvestment plan offering (the “SecondaryDRP”).  We terminated our primaryoffering component of our initial public offering on December 28, 2007 andcurrently are offering shares of our common stock only to our existingstockholders through the Secondary DRP.

 

BehringerOpportunity Advisors I, or its affiliates, receives acquisition and advisoryfees of 2.5% of the contract purchase price of each asset for the acquisition,development or construction of real property or 2.5% of the funds advanced inrespect of a loan.  Our advisor, or itsaffiliates, also receives reimbursement of acquisition expenses up to 0.5% ofthe contract purchase price of each asset or, with respect to a loan, up to0.5% of the funds advanced.  BehringerOpportunity Advisors I did not earn acquisition and advisory fees oracquisition expense reimbursements in the three months ended March 31,2010 or 2009.

 

We pay BehringerOpportunity Advisors I or its affiliates a debt financing fee equal to 1% ofthe amount of any debt made available to us. We incurred no debt financing fees for the three months ended March 31,2010 or 2009.

 

We pay HPT ManagementServices LP, Behringer Harvard Real Estate Services, LLC, or Behringer HarvardOpportunity Management Services, LLC (collectively, “BH Property Management”),affiliates of our advisor and our property managers, fees for management,leasing, and construction supervision of our properties, which may besubcontracted to unaffiliated third parties. Such fees are equal to 4.5% of gross revenues plus leasing commissionsbased upon the customary leasing commission applicable to the same geographiclocation of the respective property.  Inthe event that we contract directly with a non-affiliated third-party propertymanager in respect of a property, we will pay BH Property Management anoversight fee equal to 0.5% of gross revenues of the property managed.  In no event will we pay both a propertymanagement fee and an oversight fee to BH Property Management with respect toany particular property.  We incurred andexpensed property management fees or oversight fees totaling $0.4 million and$0.5 million in the three months ended March 31, 2010 and 2009,respectively.  For the three months endedMarch 31, 2010, we incurred less than $0.1 million of constructionmanagement fees payable to BH Property Management.  We did not incur any construction managementfees to BH Property Management for the three months ended March 31, 2009.

 

We pay BehringerOpportunity Advisors I an annual asset management fee of 0.75% of the aggregateasset value of acquired real estate.  Thefee is payable monthly in an amount equal to one-twelfth of 0.75% of theaggregate asset value as of the last day of the preceding month.  For the three months ended March 31,2010, we expensed $1.4 million of asset management fees.  For the three months ended March 31,2009, we expensed $1.3 million of asset management fees and capitalized lessthan $0.1 million of asset management fees to real estate.

 

We will reimburseBehringer Opportunity Advisors I or its affiliates for all expenses paid orincurred by them in connection with the services they provide to us, includingdirect expenses and the costs of salaries and benefits of persons employed bythose entities and performing services for us, subject to the limitation thatwe will not reimburse for any amount by which our advisor’s operating expenses(including the asset management fee) at the end of the four fiscal quartersimmediately preceding the date reimbursement is sought exceeds the greaterof:  (1) 2% of our average investedassets or (2) 25% of our net income for that four quarter period otherthan any additions to reserves for depreciation, bad debts or other similarnon-cash reserves and any gain from the sale of our assets for thatperiod.  Notwithstanding the precedingsentence, 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 three months ended March 31,2010 and 2009, we incurred and expensed costs for administrative servicestotaling $0.4 million and $0.5 million, respectively.

 

At March 31, 2010,we had a payable to our advisor and its affiliates of $0.1 million.  This balance consists primarily of assetmanagement fees and administrative service expenses payable to BehringerOpportunity Advisors I, management fees payable to BH Property Management, andother miscellaneous payables.  Thispayable is offset by a 

 

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

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

receivable from ouradvisor and its affiliates of $0.8 million, which is included in receivablesfrom related parties at March 31, 2010.

 

We are dependenton Behringer Opportunity Advisors I and BH Property Management for certainservices that are essential to us, including asset acquisition and dispositiondecisions, property management and leasing services, and other generaladministrative responsibilities.  In theevent that these companies were unable to provide us with the respectiveservices, we would be required to obtain such services from other sources.

 

**16.      Stock-Based Compensation**

 

The Behringer HarvardOpportunity REIT I, Inc. Amended and Restated 2004 Incentive Award Plan (“IncentiveAward Plan”) was approved by our board of directors on July 19, 2005 andby our stockholders on July 25, 2005, and provides for equity awards toour directors and consultants and to employees, directors, and consultants ofour affiliates.  In November 2008,the board of directors approved an amendment to the grantees’ stock optionagreements for all awards granted prior to December 31, 2007, settingforth a revised vesting and expiration schedule.  Accordingly, all options granted prior to December 31,2007 that were previously outstanding and fully vested are subject to therevised vesting and expiration schedule as follows:  25% become exercisable in each of thecalendar years 2010 and 2011 with the remaining 50% exercisable in the calendaryear 2012.  Any vested awards notexercised in the calendar year specified are forfeited and no longerexercisable.  We did not recognize anyincremental compensation cost resulting from these modifications.

 

On June 22, 2009, weissued options to purchase 5,000 shares of our common stock at $8.17 per shareto each of our three independent directors pursuant to the Incentive AwardPlan.  On July 24, 2008, we issuedoptions to purchase 5,000 shares of our common stock at $9.50 per share to eachof our three independent directors pursuant to the Incentive Award Plan.  The options issued in both 2010 and 2009become exercisable one year after the date of grant.  As of March 31, 2010, options topurchase 69,583 shares of stock were outstanding, at a weighted averageexercise price per share of $8.99.  Of theseoutstanding shares, 9,896 are fully vested, at a weighted average exerciseprice per share of $9.10.  The remainingcontractual life of the outstanding options is 3.6 years.  Compensation expense associated with ourIncentive Award Plan was not material for the three months ended March 31,2010 or 2009.

 

**17.      Supplemental Cash Flow Information**

 

Supplemental cash flowinformation is summarized below.

 
| ** **                                                                                           | ** ** | **Three months ended March 31,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                           | ** ** | **2010**                              | ** ** | **2009** | ** ** |
| **Supplemental disclosure:**                                                                         |       |                                  |       |   |   |
| Interest  paid, net of amounts capitalized                                                           |       | $                                     | 3,089      |   | $ | 3,581 |   |
|                                                                                                 |       |                                  |       |   |   |
| **Non-cash investing activities:**                                                                   |       |                                  |       |   |   |
| Property  and equipment additions and purchases of real estate in accrued liabilities                |       | $                                     | 225        |   | $ | 513 |   |
| Capital  expenditures for real estate under development in accounts payable and accrued  liabilities |       | $                                     | 1,366      |   | $ | 2,944 |   |
| Amortization  of deferred financing fees in properties under development                             |       | $                                     | 29         |   | $ | 87 |   |
|                                                                                                 |       |                                  |       |   |   |
| **Non-cash financing activities:**                                                                   |       |                                  |       |   |   |
| Common  stock issued in distribution reinvestment plan                                               |       | $                                     | 2,872      |   | $ | 1,975 |   |

 

*********

 

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**Item2.            Management’s Discussion andAnalysis of Financial Condition and Results of Operations.**

** **

Thefollowing discussion and analysis should be read in conjunction with theaccompanying financial statements of the Company and the notes thereto:

 

### **Forward-Looking Statements**

### ** **

Certain statements inthis Quarterly Report on Form 10-Q constitute “forward-looking statements”within the meaning of Section 27A of the Securities Act of 1933, asamended (the “Securities Act”) and Section 21E of the Securities ExchangeAct of 1934, as amended (the “Exchange Act”). These forward-looking statements include discussion and analysis of thefinancial condition of Behringer Harvard Opportunity REIT I, Inc. and oursubsidiaries (which may be referred to herein as the “Company,” “we,” “us” or “our”),including our ability to rent space on favorable terms, to address our debtmaturities and to fund our liquidity requirements, the value of our assets, ouranticipated capital expenditures, the amount and timing of anticipated futurecash distributions to our stockholders, the estimated per share value of ourcommon stock and other matters.  Wordssuch as “may,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,”“estimates,” “would,” “could,” “should” and variations of these words andsimilar expressions are intended to identify forward-looking statements.

 

These forward-lookingstatements are not historical facts but reflect the intent, belief or currentexpectations of our management based on their knowledge and understanding ofthe business and industry, the economy and other future conditions.  These statements are not guarantees of futureperformance, and we caution stockholders not to place undue reliance onforward-looking statements.  Actualresults may differ materially from those expressed or forecasted in theforward-looking statements due to a variety of risks, uncertainties and otherfactors, including but not limited to the factors listed and described underItem 1A, “Risk Factors” in our Annual Report on Form 10-K filed with theSecurities and Exchange Commission on March 19, 2010 and the factorsdescribed below:

 

·                  market and economic challengesexperienced by the U.S. economy or real estate industry as a whole and thelocal economic conditions in the markets in which our properties are located;

 

·                  the availability of cash flow fromoperating activities for distributions and capital expenditures;

 

·                  a decrease in the level of participationunder our distribution reinvestment plan;

 

·                  our level of debt and the terms andlimitations imposed on us by our debt agreements;

 

·                  the availability of credit generally, andany failure to refinance or extend our debt as it comes due or a failure tosatisfy the conditions and requirements of that debt;

 

·                  the need to invest additional equity inconnection with debt refinancings as a result of reduced asset values andrequirements to reduce overall leverage;

 

·                  future increases in interest rates;

 

·                  our ability to raise capital in thefuture by issuing additional equity or debt securities, selling our assets orotherwise;

 

·                  impairment charges;

 

·                  our ability to retain our executiveofficers and other key personnel of our advisor, our property manager and theiraffiliates;

 

·                  conflicts of interest arising out of ourrelationships with our advisor and its affiliates;

 

·                  unfavorable changes in laws orregulations impacting our business or our assets; and

 

·                  factors that could affect our ability toqualify 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**

 

The representations,warranties, and covenants made by us in any agreement filed as an exhibit tothis report on Form 10-Q are made solely for the benefit of the parties tothe agreement, including, in some cases, for the purpose of allocating riskamong the parties to the agreement, and should not be deemed to berepresentations, warranties or covenants 

 

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to or with any otherparties.  Moreover, theserepresentations, warranties or covenants should not be relied upon asaccurately describing or reflecting the current state of our affairs.

 

**Executive Overview**

 

We are a Marylandcorporation that was formed in November 2004 to invest in and operatecommercial real estate or real-estate related assets located in or outside theUnited States on an opportunistic basis. We conduct substantially all of our business through our operatingpartnership and its subsidiaries. We are organized and qualify as a real-estateinvestment trust (“REIT”) for federal income tax purposes.

 

We are externallymanaged and advised by Behringer Harvard Opportunity Advisors I, LLC (“BehringerOpportunity Advisors I”), a Texas limited liability company formed in June 2007.  Behringer Opportunity Advisors I isresponsible for managing our day-to-day affairs and for identifying and makingacquisitions and investments on our behalf.

 

As of March 31,2010, we had invested in 22 assets:  11consolidated wholly owned properties; five properties consolidated throughinvestments in joint ventures, including two hotel and development propertiesand a mixed-use property; an investment in an island development accounted forunder the equity method; an investment in a portfolio of 22 properties locatedin four Central European countries accounted for under the equity method; twoinvestments in student housing projects in Texas and Virginia, also accountedfor under the equity method; and two mezzanine loans on multifamily properties,which were consolidated prior to January 1, 2010.  Our investment properties are located inArizona, California, Colorado, Massachusetts, Minnesota, Missouri, Nevada,Texas, Virginia, the Commonwealth of The Bahamas, London, England, the CzechRepublic, Poland, Hungary, and Slovakia.

 

In June 2009, theFASB issued an amendment to the accounting and disclosure requirements for theconsolidation of variable interest entities. The guidance eliminates exceptions to consolidating qualifyingspecial-purpose entities, contains new criteria for determining the primarybeneficiary, and increases the frequency of required reassessments to determinewhether a company is the primary beneficiary of a variable interestentity.  It also contains a newrequirement that any term, transaction, or arrangement that does not have asubstantive effect on an entity’s status as a variable interest entity, acompany’s power over a variable interest entity, or a company’s obligation toabsorb losses or its rights to receive benefits of an entity must bedisregarded.

 

As a result of this newaccounting guidance, on January 1, 2010, we deconsolidated the assets andliabilities of Tanglewood at Voss and Alexan Black Mountain along with theassociated revenue and expenses, resulting in neither a net gain or loss as wehad no equity interest in these investments. Accordingly, we recognized a cumulative effect adjustment of $9.4million to the opening balance of noncontrolling interest in our consolidatedstatement of equity.  Further, werecognized in consolidation our mezzanine loans related to Tanglewood at Vossand Alexan Black Mountain which resulted in the addition of $20.3 million ofnet notes receivable to our consolidated balance sheet at March 31,2010.  Following the deconsolidation ofTanglewood at Voss and Alexan Black Mountain, our continuing involvement withthese entities is limited to our mezzanine loans.  The deconsolidation did not result in eitherTanglewood at Voss or Alexan Black Mountain becoming one of our relatedparties.

 

*Market Outlook*

 

Beginning in 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 first half of 2010.  The nationalvacancy percentage for office space increased from 14.5% in the fourth quarterof 2008 to 19.7% in the fourth quarter of 2009. Vacancies are expected to peak at over 21% 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.

 

The hospitalityindustry continues to be negatively affected by the poor global economy.  Smith Travel Research indicates that thenational overall occupancy rate for hospitality properties in the United Statesdeclined from 53.1% in the fourth quarter of 2008 to 50.6% in the fourthquarter of 2009.  The national overallAverage Daily Rate (“ADR”) has also declined, from $103.43 in the fourthquarter of 2008 to $95.79 in the fourth quarter of 2009.  This weakening of the hospitality industry isexpected to continue throughout 2010 and is not expected to recover until 2011.

 

We have severalprojects in various stages of development including Rio Salado located inPhoenix, Arizona; Frisco Square located in Frisco, Texas; The Lodge &Spa at Cordillera located in Edwards, Colorado; and Royal Island, located in 

 

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The Bahamas.  Due in large part to the struggling U.S. andglobal economies, we have decided to defer further substantive developmentactivities 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.  

 

**Liquidityand Capital Resources**

 

Ourprincipal demands for funds for the next twelve months and beyond will be forthe payment of costs associated with the lease-up of available space at ouroperating properties (including commissions, tenant improvements, and capitalimprovements), for certain ongoing costs at our development properties, for thepayment of operating expenses and distributions, and for the payment ofinterest and principal on our outstanding indebtedness.  Generally, cash needs for items other thancosts associated with the lease-up of available space at our operatingproperties (including commissions, tenant improvements, and capitalimprovements) and ongoing costs at our development properties are expected tobe met from operations and borrowings.

 

Weexpect to fund our short-term liquidity requirements by using the short-termborrowings and cash flow from the operations of our current investments. Operating cash flows are expected to be flat due to rental revenue stabilizingon our operating properties combined with lower hotel revenues at The Lodge andSpa at Cordillera offset by anticipated condominium sales at The PrivateResidences at The Chase Park Plaza.  Forboth our short-term and long-term liquidity requirements, other potentialfuture sources of capital may include proceeds from secured or unsecureddebt financing, asset dispositions, reduction or elimination of the amount ofdistributions paid, decreases in the amount of nonessential capitalexpenditures, and undistributed funds from operations.  If necessary, wemay use financings or other sources of capital in the event of unforeseensignificant capital expenditures.

 

*Debt Financings*

 

Wemay, from time to time, make mortgage, bridge, or mezzanine loans and otherloans for investments or property development. We may obtain financing at the time an investment is made or at suchlater time as determined to be necessary, depending on multiple factors.

 

Ournotes payable decreased to $352.2 million at March 31, 2010 from $429.8million at December 31, 2009 primarily as a result of the deconsolidationof Tanglewood at Voss and Alexan Black Mountain, effective January 1, 2010(see Note 8 to our consolidated financial statements).  Each of our loans is secured by one or moreof our properties.  At March 31,2010, our notes payable interest rates ranged from 2% to 6.3%, with a weightedaverage interest rate of 3.1%.  Generally,our notes payable mature at approximately two to ten years from origination andrequire payments of interest only for approximately two to five years, with allprincipal and interest due at maturity. Notes payable associated with ourNorthborough and Frisco Square investments require monthly payments of bothprincipal and interest.  At March 31,2010, our notes payable had maturity dates that range from June 2010 to January 2016.

 

Our loan agreementsgenerally stipulate that we comply with certain reporting and financialcovenants.  These covenants include,among other things, notifying the lender of any change in management andmaintaining 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 the interestcoverage and valuation covenants under the Becket House loan agreement as of March 31,2010.  In addition, in 2009 and 2008, werecognized impairment charges related to our leasehold interest in Becket Houseof $6 million and $9.9 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 March 31,2010, 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 tous.  We believe that we were incompliance with all other debt covenants under our loan agreements at March 31,2010.

 

The commercial realestate debt markets have been experiencing and continue to experiencevolatility as a result of certain factors, including the tightening ofunderwriting 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 

 

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lenders increasing thecost for debt financing.  Currenteconomic conditions, as well as few unmortgaged assets, negatively impact ourability 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.

 

In addition,capitalization rates (or cap rates) for real estate properties have generallyincreased.  Cap rates and property pricesmove inversely so that an increase in cap rates should, absent an increase inproperty net operating 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.

 

As the overall cost ofborrowings increase, either by increases in the index rates or by increases inlender spreads, we will need to factor such increases into the economics of ourdevelopments and property contributions. This may result in our investment operations generating lower overalleconomic returns and a reduced level of cash flow, which could potentiallyimpact our ability to make distributions to our stockholders at currentlevels.  In addition, the recentdislocations in the debt markets have reduced the amount of capital that isavailable to finance real estate, which, in turn: (i) leads to a declinein real estate values generally; (ii) slows real estate transactionactivity; (iii) reduces the loan to value upon which lenders are willingto extend debt; and, (iv) results in difficulty in refinancing debt as itbecomes due, all of which may reasonably be expected to have a material adverseimpact on the value of real estate investments and the revenues, income or cashflow from the acquisition and operations of real properties and mortgageloans.  In addition, the current state ofthe debt markets has negatively impacted the ability to raise equity capital.

 

If debt financing is notavailable on acceptable terms and conditions, we may not be able to refinancematuring 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.

 

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 drop in occupancy we are currently operating under acash management arrangement in accordance with Ferncroft’s $18 million CMBSmortgage loan agreement.  Accordingly,tenant rental payments are deposited in a restricted lockbox account.  As such, we do not have direct access tothese rental payments, and the disbursement of cash from the restricted lockboxaccount to us is at the discretion of the loan’s servicer.  Furthermore, we have been unable to disbursecash from the restricted lockbox account to us in order to pay Ferncroft’soperating expenses.  Not paying theoperating expenses as they become due constitutes an event of default under theloan agreement.  The Ferncroft loan isnon-recourse to us.  We are innegotiations 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,there is no certainty to which outcome from the negotiations will prevail.  We remain the title holder on Ferncroft as ofMarch 31, 2010, and as of the date of this report.

 

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One of our principallong-term liquidity requirements includes the repayment of maturing debt,including borrowings under our senior secured credit facility discussedbelow.  The following table providesinformation with respect to the contractual maturities and scheduled principalrepayments of our indebtedness as of March 31, 2010.  The table does not represent any extensionoptions.

 
| ** **                                                                                    | ** ** | **Payments Due by Period**                       | ** ** |
|-----------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                    | ** ** | **April 1, 2010 -  December 31, 2010** | ** ** | **2011-2012** | ** ** | **2013-2014** | ** ** | **After 2014** | ** ** | **Total** | ** ** |
| Principal  payments - fixed rate debt                                                         |       | $                                                | 213        |   | $ | 2,300 |   | $ | 17,025 |   | $ | 18,883 |   | $ | 38,421 |   |
| Interest  payments - fixed rate debt                                                          |       | 1,751                                            |       | 4,543 |   | 2,979 |   | 1,166 |   | 10,439 |   |
| Principal  payments - variable rate debt                                                      |       | 140,433                                          |       | 172,359 |   | — |   | — |   | 312,792 |   |
| Interest  payments - variable rate debt (based on rates in effect as of March 31,  2010) |       | 5,779                                            |       | 2,844 |   | — |   | — |   | 8,623 |   |
|                                                                                          |       |                                             |       |   |   |   |   |   |   |   |   |
| Total                                                                                         |       | $                                                | 148,176    |   | $ | 182,046 |   | $ | 20,004 |   | $ | 20,049 |   | $ | 370,275 |   |

 

Notes payable related toSanta Clara Tech Center, Chase Park Plaza Hotel, and Chase — The PrivateResidences are scheduled to mature in 2010.  Subject to certain conditions, the respective loan agreements provide uswith two one-year options to extend the maturity dates of the Santa Clara TechCenter, Chase Park Plaza Hotel, and Chase — The Private Residences notespayable.   In the first half of 2010, weexpect to further pay down the outstanding balance on the note payable relatedto Chase — The Private Residences through proceeds from the sale of the threecondominium units currently under contract or reserved as of March 31,2010.  We are in discussions with therespective lenders 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 loanagreements.  Consequently, we may seekother lenders to refinance the notes payable or seek alternative sources offunding, including the use of proceeds from the sale of our properties.

 

*Credit Facility*

 

On February 13,2008, we entered into a senior secured revolving credit facility (the “CreditAgreement”) providing for up to $75 million of secured borrowings with Bank ofAmerica, as lender and administrative agent, and other lending institutionsthat become a party to the Credit Agreement. The credit facility is secured by a first lien on all real propertyassets in a collateral pool consisting of five wholly owned properties.  Loans under the credit facility bear interestat an annual rate that is equal to a combination of (i) the LIBOR plus anapplicable margin that, depending upon the debt service coverage ratio, mayvary from 1.5% to 1.7%, or (ii) the prime rate plus an applicable marginthat, depending upon the debt service coverage ratio, may vary from 0% to0.2%.  The credit facility matures on February 13,2011.

 

We have unconditionallyguaranteed payment of the senior secured revolving credit facility.  The availability of credit under the seniorsecured credit facility is limited by the terms of the Credit Agreement.  As of March 31, 2010, the maximumavailability under the senior secured credit facility was $70.2 million and theoutstanding balance was $69.4 million. The proceeds of the senior secured credit facility have been used tofund ongoing costs at our development and operating properties and for generalcorporate purposes.  Our ability to fundour liquidity requirements are expected to come from the cash and cashequivalents on the consolidated balance sheet totaling $9.9 million as of March 31,2010 and additional amounts available under our senior secured creditfacility.  As necessary, we may seekalternative sources of financing including using the proceeds from the sale ofour properties and temporarily reducing or eliminating our quarterly distributionto achieve our investment objectives.

 

Restricted cash on theconsolidated balance sheet of $9.5 million as of March 31, 2010 includesamounts set aside as interest reserves totaling $3.4 million.  The remaining balance of $6.1 millionincludes amounts set aside related to certain operating properties for tenantimprovement and commission reserves, tax reserves, maintenance and capitalexpenditures reserves, and other amounts as may be required by our lenders.

 

*Joint Venture Indebtedness*

 

We have noncontrolling,unconsolidated ownership investments in three properties and one investment ina joint venture consisting of 22 properties. Our effective ownership percentages range from 30% to 50%.  We exercise significant influence over, butdo not control, these entities and therefore they are presently accounted forusing the equity method of 

 

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accounting.  As of March 31, 2010, the aggregate debtheld by unrelated parties, including both ours and our partners’ share,incurred by these ventures was approximately $156.7 million.  In December 2009, the construction loansassociated with GrandMarc at the Corner and GrandMarc at Westberry Place were refinancedwith Freddie Mac. The maturity date of both refinanced loans is January 1,2020. The refinanced loans require payments of principal and interest and bearinterest at  variable rates ofapproximately 4.92% and 4.99% as of March 31, 2010.

 

The table belowsummarizes the outstanding debt of these properties as of March 31, 2010.

 
| ** **                    | ** ** | **Venture**   | ** ** | **Interest Rate**        | ** ** | ** **   | ** ** | ** **             | ** **            |
|-------------------------------|------------|---------------|------------|--------------------------|------------|--------------|------------|------------------------|-----------------------|
| ** **                    | ** ** | **Ownership** | ** ** | **(as of**               | ** ** | **Carrying** | ** ** | **Maturity**           | ** **            |
| **Properties**                | ** ** | **%**         | ** ** | **March 31, 2010)** | ** ** | **Amount**   | ** ** | **Date**               | ** **            |
|                          |       |          |       |                     |       |         |       |                   |                  |
| GrandMarc  at the Corner      |       | 50            | %          | 4.99                     | %          | $            | 27,180     |                   | January 1,  2020 |   |
| GrandMarc  at Westberry Place |       | 50            | %          | 4.92                     | %          | 37,901       |       | January 1,  2020  |                  |
| Central  Europe Joint Venture |       | 47            | %          | 2.31                     | %(1)       | 91,647       |       | March 1,  2012(2) |                  |
| Total                         |       |          |       |                     |       | $            | 156,728    |                   |                  |   |

 

----

| (1) |   | Represents the weighted  average interest rate of the various notes payable secured by the 22  properties in the Central Europe Joint Venture. |
|-----|--------|------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) |   | Represents the weighted  average maturity date of the various notes payable secured by the 22  properties in the Central Europe Joint Venture. |

 

**Results of Operations**

 

As of March 31,2010, we had invested in 22 assets:  11consolidated wholly owned properties; five properties consolidated throughinvestments in joint ventures, including two hotel and development propertiesand a mixed-used property; an investment in an island development accounted forunder the equity method; an investment in a portfolio of 22 properties locatedin four Central European countries accounted for under the equity method; twoinvestments in student housing projects in Texas and Virginia, also accountedfor under the equity method; and two mezzanine loans on multifamily properties,which we consolidated prior to January 1, 2010.  Our investment properties are located inArizona, California, Colorado, Massachusetts, Minnesota, Missouri, Nevada, Texas,Virginia, the Commonwealth of The Bahamas, London, England, the Czech Republic,Poland, Hungary, and Slovakia.

 

As a result of newaccounting guidance regarding the accounting and disclosure requirements forthe consolidation of variable interest entities, on January 1, 2010, wedeconsolidated the assets and liabilities of Tanglewood at Voss and AlexanBlack Mountain along with the associated revenue and expenses.

 

*Three months ended March 31, 2010 as comparedto three months ended March 31, 2009*

 
| ** **                             | ** ** | **Three months ended March 31,** | ** ** | **Increase (Decrease)** | ** ** |
|----------------------------------------|------------|---------------------------------------|------------|-------------------------|------------|
| ** **                             | ** ** | **2010**                              | ** ** | **2009**                | ** ** | **Amount** | ** ** | **Percent** | ** ** |
| Revenue:                               |       |                                  |       |                    |       |   |   |   |   |
| Rental  revenue                        |       | $                                     | 12,331     |                    | $          | 15,826 |   | $ | (3,495 | ) | -22 | % |
| Hotel  revenue                         |       | 1,234                                 |       | 824                     |       | 410 |   | 50 | % |
| Condominium  sales                     |       | 23,357                                |       | 3,820                   |       | 19,537 |   | 511 | % |
| Interest  income from notes receivable |       | 5,958                                 |       | —                  |       | 5,958 |   | n/a |   |
| Total  revenues                        |       | $                                     | 42,880     |                    | $          | 20,470 |   | $ | 22,410 |   | 109 | % |
|                                   |       |                                  |       |                    |       |   |   |   |   |
| Expenses:                              |       |                                  |       |                    |       |   |   |   |   |
| Property  operating expenses           |       | $                                     | 5,886      |                    | $          | 6,505 |   | $ | (619 | ) | -10 | % |
| Cost  of condominium sales             |       | 23,520                                |       | 3,842                   |       | 19,678 |   | 512 | % |
| Interest  expense                      |       | 3,678                                 |       | 4,134                   |       | (456 | ) | -11 | % |
| Real  estate taxes                     |       | 1,825                                 |       | 2,310                   |       | (485 | ) | -21 | % |
| Impairment  charge                     |       | 4,230                                 |       | —                  |       | 4,230 |   | n/a |   |
| Provision  for loan losses             |       | 7,136                                 |       | —                  |       | 7,136 |   | n/a |   |
| Property  management fees              |       | 559                                   |       | 600                     |       | (41 | ) | -7 | % |
| Asset  management fees                 |       | 1,462                                 |       | 1,338                   |       | 124 |   | 9 | % |
| General  and administrative            |       | 1,261                                 |       | 1,316                   |       | (55 | ) | -4 | % |
| Advertising  costs                     |       | 42                                    |       | 182                     |       | (140 | ) | -77 | % |
| Depreciation  and amortization         |       | 5,748                                 |       | 7,763                   |       | (2,015 | ) | -26 | % |
| Total  expenses                        |       | $                                     | 55,347     |                    | $          | 27,990 |   | $ | 27,357 |   | 98 | % |

 

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*Revenues.* Our total revenues increased by $22.4 million to $42.9 million for thethree months ended March 31, 2010 as compared to $20.5 million for thethree months ended March 31, 2009. The change in revenues is primarily due to:

 

·                  a decrease in rental revenue of $3.5 million to $12.3 million for thethree months ended March 31, 2010. The decrease in rental revenue is primarily due to $1.1 million relatedto the deconsolidation of Tanglewood at Voss and Alexan Black Mountain, a decreasein revenue related to Chase Park Plaza of $1 million, a decrease in rentalrevenue from Ferncroft of $0.6 million, and a decrease in revenue from BecketHouse of $0.8 million.  We expect rentalrevenue to be flat in 2010 due to slowing lease-up of available space at ouroperating properties and moderating rental rates on rollover of existing leasesin the current weak economy;

 

·                  hotel revenues for the three months ended March 31, 2010 totaled$1.2 million as compared to $0.8 million for the three months ended March 31,2009, 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 24.4% for the firstthree months of 2009 to 58.5% for the first three months of 2010;

 

·                  condominium sales of $23.4 million as of March 31, 2010 ascompared to $3.8 million as of March 31, 2009.  We closed on the sale of 11 condominium unitsat The Private Residences at The Chase Park Plaza during the three months endedMarch 31, 2010.  Of the remaining 37units, three units were under sales contracts with non-refundable deposits asof March 31, 2010.  We closed on thesale of five condominium units at The Private Residences at The Chase ParkPlaza during the three months ended March 31, 2009; and

 

·                  interest income from notes receivable of $6 million as of March 31,2010 as compared to no interest income from notes receivable as of March 31,2009.  This increase is primarily due tothe $5.5 million of interest received from the Royal Island borrowers and $0.5million earned on the Tanglewood at Voss mezzanine loan.

 

*PropertyOperating Expenses.* Property operating expenses for the three months ended March 31,2010 were $5.9 million as compared to $6.5 million for the three months ended March 31,2009, and were comprised of operating expenses from our consolidatedproperties.  The decrease in propertyoperating expenses was primarily due to $0.6 million related to thedeconsolidation of the Tanglewood at Voss and Alexan Black Mountain properties(see Note 8 to our consolidated financial statements).

 

*Cost ofCondominium Sales. *Costof condominium sales, relating to the sale of condominium units at The PrivateResidences at The Chase Park Plaza, for the three months ended March 31,2009 were $23.5 million as compared to $3.8 million for the three months ended March 31,2009.

 

*InterestExpense.*  Interest expense for the three months ended March 31,2010 was $3.7 million as compared to $4.1 million for the three months ended March 31,2009 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 March 31, 2010 was $352.2 million ascompared to $428.4 million at March 31, 2009.  Other items contributing to the decrease ininterest expense were a decrease of $0.4 million related to the change in fairvalue of the interest rate swap for Chase Hotel, offset by an increase of $0.1million on The Private Residences at Chase Park Plaza due to a reduction ininterest capitalization as construction of the condominiums is completed.

 

*RealEstate Taxes.*Realestate taxes, net of amounts capitalized, for the three months ended March 31,2010 were $1.8 million as compared to $2.3 million for the three months ended March 31,2009 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.

 

*Impairmentcharge.*Werecognized a $4.2 million non-cash impairment charge for the three months endedMarch 31, 2010, related to our office property, Ferncroft.  We did not recognize any impairment chargesfor the three months ended March 31, 2009.

 

*Provisionfor 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 quarter of 2009 as we did not consolidate this asset.

 

*PropertyManagement Fees. *Propertymanagement fees for each of the three months ended March 31, 2010 and March 31,2009 totaled $0.6 million and were comprised of fees incurred by ourconsolidated properties.  We expectincreases in property management fees in the future as available space at ouroperating properties is leased-up.

 

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*AssetManagement Fees. *Assetmanagement fees for the three months ended March 31, 2010 totaled $1.5million as compared to $1.4 million for the three months ended March 31,2009 and were comprised of fees incurred by our consolidated properties.  We expect asset management fees to stabilizein the future.

 

*Generaland Administrative Expenses.* General andadministrative expenses for each of the three months ended March 31, 2010and March 31, 2009 were $1.3 million and were comprised of corporategeneral and administrative expenses, including directors’ and officers’insurance premiums, auditing fees, legal fees and other administrativeexpenses.

 

*Depreciationand Amortization Expense. *Depreciation and amortization expense forthe three months ended March 31, 2010 was $5.7 million as compared to$7.8 million for the three months ended March 31, 2009 and was comprisedof depreciation and amortization of our consolidated properties.  The decrease in depreciation and amortizationexpense was primarily due to the deconsolidation of the Tanglewood at Voss andAlexan Black Mountain properties (see Note 8 to our consolidated financialstatements).

 

*Advertising Costs.*  Advertising costs for the three months ended March 31, 2010decreased by $0.1 million to     $0.1million as of March 31, 2010 as compared to $0.2 million for the threemonths ended March 31, 2009 and consisted of marketing and advertisingcosts related to The Lodge & Spa at Cordillera and to Chase ParkPlaza.

 

**Cash Flow Analysis**

 

Cash flows provided byoperating activities for the three months ended March 31, 2010 were $19.5million and were comprised primarily of a decrease in condominium inventory of$20.4 million, provision for loan losses of $7.1 million, an impairment chargeto our Ferncroft property of $4.2 million, and depreciation and amortizationexpense of $5.1 million, offset by the net loss of $13.2 million, and anincrease in accrued and other liabilities of $4.2 million.  Cash flows used in operating activities for thethree months ended March 31, 2009 were $2.1 million and were comprisedprimarily of the net loss of $7.7 million offset by depreciation andamortization expense of $6.6 million.

 

Cash flows used ininvesting activities for the three months ended March 31, 2010 were $7.5million and primarily represent investment in notes receivable of $2 million,capital expenditures for real estate under development of $2.5 million, andchange in restricted cash of $1.5 million. Cash flows used in investing activities for the three months ended March 31,2009 were $12 million and primarily represent capital expenditures for realestate under development, including capital expenditures of consolidatedborrowers totaling $7.6 million and additions of property and equipment of $1.9million.

 

Cash flows used in financingactivities for the three months ended March 31, 2010 were $9.3 million andwere comprised primarily of payments on notes payable of $19.3 million, offsetby net borrowings on our senior secured revolving credit facility of $6.8million, and proceeds from notes payable of $4.4 million.  Cash flows provided by financing activitiesfor the three months ended March 31, 2009 were $10.9 million and werecomprised primarily of net borrowings on our senior secured revolving creditfacility of $8.7 million and proceeds from notes payable of $5.9 million,offset by payments on notes payable of $3.7 million.

 

**Funds from Operations andModified Funds from Operations**

 

Funds fromoperations (“FFO”) is a non-GAAP financial measure that is widely recognized asa measure of REIT operating performance. We use FFO, defined by the National Association of Real EstateInvestment Trusts as net income (loss), computed in accordance with GAAP,excluding extraordinary items, as defined by GAAP, and gains (or losses) fromsales of property, plus depreciation and amortization on real estate assets,and after adjustments for unconsolidated partnerships, joint ventures,subsidiaries, and noncontrolling interests as one measure to evaluate ouroperating performance.  In addition toFFO, we use modified funds from operations (“Modified Funds from Operations” or“MFFO”), which excludes from FFO acquisition-related costs, impairment chargesand adjustments to fair value for derivatives not qualifying for hedgeaccounting, to further evaluate our operating performance.

 

Historical costaccounting for real estate assets in accordance with GAAP implicitly assumesthat 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.

 

We believe that FFO ishelpful to investors and our management as a measure of operating performancebecause it excludes depreciation and amortization, gains and losses fromproperty dispositions, and extraordinary items, and as a result, when comparedyear over year, reflects the impact on operations from trends in occupancyrates, rental rates, operating costs, general and administrative expenses, andinterest costs, which is not immediately apparent from net income.  We believe that MFFO is helpful to ourinvestors and our management as a measure of operating performance because itexcludes costs that management considers more reflective of investingactivities 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-

 

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term, core operatingactivities.  We believe fluctuations inMFFO are indicative of changes in operating activities and providecomparability in evaluating our performance over time and as compared to otherreal estate companies that may not have acquisition activities or derivativesor be affected by impairments.

 

As explained below,management’s evaluation of our operating performance excludes the itemsconsidered in the calculation of MFFO based on the following economicconsiderations:

 

·                  Impairment charges.  Animpairment charge represents a downward adjustment to the carrying amount of along-lived asset to reflect the current valuation of the asset even when theasset is intended to be held long-term. Such adjustment, when properly recognized under GAAP, may lag theunderlying consequences related to rental rates, occupancy and other operatingperformance trends.  The valuation isalso based, in part, on the impact of current market fluctuations and estimatesof future capital requirements and long-term operating performance that may notbe directly attributable to current operating performance.  Because MFFO excludes impairment charges,management believes MFFO provides useful supplemental information by focusingon the changes in our operating fundamentals rather than changes that mayreflect only anticipated losses.

 

·                  Adjustments to fair value for derivatives not qualifying for hedgeaccounting.  Management uses derivativesin the management of our debt and interest rate exposure.  We do not intend to speculate in theseinterest rate derivatives and accordingly period-to-period changes in derivativevaluations are not primary factors in management’s decision-makingprocess.  We believe by excluding thegains or losses from these derivatives, MFFO provides useful supplementalinformation on the realized economic impact of the hedges independent ofshort-term market fluctuations.

 

·                  Acquisition-related costs.  Inevaluating investments in real estate, including both business combinations andinvestments accounted for under the equity method of accounting, management’sinvestment models and analysis differentiate costs to acquire the investmentfrom the operations derived from the investment.  Prior to 2009, acquisition costs for thesetypes of investments were capitalized; however, beginning in 2009 acquisitioncosts related to business combinations are expensed.  We believe by excluding expensed acquisitioncosts, MFFO provides useful supplemental information that is comparable foreach type of our real estate investments and is consistent with management’sanalysis of the investing and operating performance of our properties.

 

FFO or MFFO should not beconsidered an alternative to net income (loss) or an indication of ourliquidity.  Neither is indicative offunds available to fund our cash needs, including our ability to makedistributions, and each should be reviewed in connection with other GAAPmeasurements.  Our FFO and MFFO may notbe comparable to presentations by other REITs.

 

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Our calculation of FFOand MFFO for the three months ended March 31, 2010 and 2009 is presentedbelow (amounts in thousands, except per share amounts):

 
| ** **                                                                                  | ** ** | **Three Months Ended March 31,** | ** ** |
|---------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                  | ** ** | **2010**                              | ** ** | **2009** | ** ** |
|                                                                                        |       |                                  |       |   |   |
| Net  loss                                                                                   |       | $                                     | (13,158    | ) | $ | (7,653 | ) |
| Net  loss attributable to noncontrolling interest                                           |       | 364                                   |       | 2,321 |   |
| Adjustments  for:                                                                           |       |                                  |       |   |   |
| Real  estate depreciation and amortization per income statement                             |       | 5,748                                 |       | 7,763 |   |
| Pro  rata share of unconsolidated JV depreciation and amortization (1)                      |       | 1,162                                 |       | 1,190 |   |
| Noncontrolling  interest depreciation & amortization(2)                            |       | (132                                  | )          | (1,001 | ) |
|                                                                                        |       |                                  |       |   |   |
| Funds  from operations (FFO)                                                                |       | $                                     | (6,016     | ) | $ | 2,620 |   |
|                                                                                        |       |                                  |       |   |   |
| Other  Adjustments:                                                                         |       |                                  |       |   |   |
| Acquisition  expenses                                                                       |       | —                                |       | — |   |
| Impairment  charge(3)                                                                       |       | 11,366                                |       | — |   |
| Noncontrolling  interest share of impairment charge                                         |       | —                                |       |   |   |
| Gain  on derivatives not designated as hedging instruments                                  |       | (4                                    | )          | (179 | ) |
| Noncontrolling  interest share of gain on derivatives not designated as hedging instruments |       | 1                                     |       | 9 |   |
|                                                                                        |       |                                  |       |   |   |
| MFFO                                                                                        |       | $                                     | 5,347      |   | $ | 2,450 |   |
|                                                                                        |       |                                  |       |   |   |
| GAAP  weighted average shares:                                                              |       |                                  |       |   |   |
| Basic  and diluted                                                                          |       | 56,051                                |       | 55,032 |   |
|                                                                                        |       |                                  |       |   |   |
| MFFO  per share                                                                             |       | $                                     | 0.10       |   | $ | 0.04 |   |

 

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(1) This representsthe depreciation and amortization expense of our share of depreciation andamortization expense of the properties which we account for under the equitymethod of accounting.

 

(2) This reflectsthe noncontrolling interest adjustment for the third-party partners’proportionate share of the real estate depreciation and amortization.

 

(3) Includes theportion of the provision for loan loss as applicable to the principal amount ofthe loan.

 

Provided below is additional information related to selected non-cashitems included in net loss above, which may be helpful in assessing ouroperating results.

 

·                  Straight-line rental revenue of $1.3million and $0.5 million was recognized for the three months ended March 31,2010 and 2009, respectively.

 

·                  Amortization of intangible leaseassets and liabilities was recognized as a net increase to rental revenues of$0.7 million and $1.2 million for the three months ended March 31, 2010and 2009, respectively.

 

·                  Amortization of intangible propertytax abatement assets was recognized as an increase to real estate tax expenseof $0.1 million for both of the three months ended March 31, 2010 and2009.

 

·                  Bad debt expense of $0.4 million and$0.2 million was recognized for the three months ended March 31, 2010 and2009, respectively.

 

·                  Amortization of deferred financingcosts of $0.7 million and $0.8 million was recognized as interest expense formortgages and notes payable for the three months ended March 31, 2010 and2009, respectively; and $0.2 million was recognized as a reduction of interestincome for both of the three months ended March 31, 2010 and 2009.

 

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In addition, cash flows generated from FFO may be usedto fund all or a portion of certain capitalizable items that are excluded fromFFO, such as capital expenditures and payments of principal on debt, eachof which may impact the amount of cash available for distribution to ourstockholders.

 

As noted above, we believe FFO and MFFO are helpful toinvestors and our management 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**

 

Distributions areauthorized at the discretion of our board of directors based on its analysis ofour performance over the previous period, expectations of performance forfuture periods, including actual and anticipated operating cash flow, changesin market capitalization rates for investments suitable for our portfolio,capital expenditure needs, general financial condition, and other factors thatour board deems relevant.  The board’sdecision will be influenced, in substantial part, by its obligation to ensurethat we maintain our status as a REIT. In light of the pervasive and fundamental disruptions in the globalfinancial and real estate markets, we cannot provide assurance that we will beable to achieve expected cash flows necessary to continue to pay distributionsat any particular level, or at all.  Ourboard may determine to reduce our current distribution rate or cease payingdistributions in order to conserve cash.

 

Cash amounts distributedto stockholders during the three months ended March 31, 2010 was $1.3million.  For the three months ended March 31,2010, cash flows provided by operating activities was $19.5 million.  Accordingly, for the three months ended March 31,2010, cash flow from operations exceeded cash amounts distributed tostockholders by $18.2 million.  Cashamounts distributed to stockholders during the three months ended March 31,2009 were $1 million.  For the threemonths ended March 31, 2009, cash flows used in operating activities were$2.1 million.  Accordingly, for the threemonths ended March 31, 2009, none of the cash amounts distributed tostockholders were provided by operating cash flow and were funded principallyfrom proceeds from our offering.

 

The following are thedistributions paid and declared for the three months ended March 31, 2010and 2009.

 
| ** **    | ** ** | ** **             | ** ** | ** **        | ** ** | ** **       | ** ** | **Total**    | ** ** | **Declared**  | ** ** |
|---------------|------------|------------------------|------------|-------------------|------------|------------------|------------|--------------|------------|---------------|------------|
| ** **    | ** ** | **Distributions Paid** | ** ** | **Distributions** | ** ** | **Distribution** | ** ** |
| **2010**      | ** ** | **Cash**               | ** ** | **Reinvested**    | ** ** | **Total**        | ** ** | **Declared** | ** ** | **Per Share** | ** ** |
| First Quarter |       | $                      | 1,316      |              | $          | 2,872            |       | $            | 4,188      |          | $          | 1,405 |   | $ | 0.025 |   |
|               |            |                        |            |                   |            |                  |            |              |            |               |            |  |  |  |  |  |

 
| ** **    | ** ** | ** **             | ** ** | ** **        | ** ** | ** **       | ** ** | **Total**    | ** ** | **Declared**  | ** ** |
|---------------|------------|------------------------|------------|-------------------|------------|------------------|------------|--------------|------------|---------------|------------|
| ** **    | ** ** | **Distributions Paid** | ** ** | **Distributions** | ** ** | **Distribution** | ** ** |
| **2009**      | ** ** | **Cash**               | ** ** | **Reinvested**    | ** ** | **Total**        | ** ** | **Declared** | ** ** | **Per Share** | ** ** |
| First Quarter |       | $                      | 1,047      |              | $          | 3,017            |       | $            | 4,064      |          | $          | 4,070 |   | $ | 0.075 |   |
|               |            |                        |            |                   |            |                  |            |              |            |               |            |  |  |  |  |  |

 

On April 2, 2009, our Board of Directors voted todeclare dividends on a quarterly basis rather than a monthly basis, thusgenerating significant administrative cost savings to our shareholders, and todetermine and pay future distributions in arrears rather than in advance of theperiod to which they apply.  On April 19,2010, our Board of Directors authorized a quarterly distribution in the amountof $0.025 per share of common stock, which is equivalent to an annualdistribution of 1% assuming a $10 price per share.  The distribution is payable to the commonstockholders of record at the close of business on March 31, 2010, therecord date previously established by the board on March 5, 2010.  The distribution will be paid on or before May 16,2010.

 

Operating performancecannot be accurately predicted due to numerous factors, including the financialperformance of our investments in the current real estate environment, thetypes and mix of investments in our portfolio and the accounting treatment ofour investments in accordance with our accounting policies.  As aresult, future distributions declared and paid may continue to exceed cash flowfrom operating activities.

 

**ShareRedemption Plan**

 

Our board of directorshas authorized a share redemption program for stockholders who have held theirshares for more than one year.  On March 30,2009, our board of directors suspended, until further notice, redemptions otherthan those submitted in respect of a stockholder’s death, disability orconfinement to a long-term care facility. On May 11, 2009 and November 9, 2009, our board of directorsapproved certain amendments to the program related to the per share redemptionprice.  In the first quarter ended March 31,2010, we had no significant share redemptions.

 

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**CriticalAccounting Policies and Estimates**

 

Management’s discussionand analysis of financial condition and results of operations are based uponour consolidated financial statements, which have been prepared in accordancewith GAAP.  The preparation of thesefinancial statements requires our management to make estimates and assumptionsthat affect the reported amounts of assets, liabilities, revenues and 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.

 

Belowis a discussion of the accounting policies that we consider will be critical inthat they may require complex judgment in their application or requireestimates about matters that are inherently uncertain.

 

***Principlesof Consolidation and Basis of Presentation***

 

Our consolidatedfinancial 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.

 

There are judgments andestimates involved in determining if an entity in which we have made aninvestment is a VIE and, if so, whether we are the primary beneficiary.  The entity is evaluated to determine if it isa VIE by, among other things, calculating the percentage of equity being riskedcompared to the total equity of the entity. Determining expected future losses involves assumptions of variouspossibilities of the results of future operations of the entity, assigning aprobability to each possibility and using a discount rate to determine the netpresent value of those future losses.  Achange in the judgments, assumptions, and estimates outlined above could resultin consolidating an entity that should not be consolidated or accounting for aninvestment using the equity method that should in fact be consolidated, theeffects of which could be material to our financial statements.

 

***RealEstate***

 

Upon theacquisition of real estate properties, we recognize the assets acquired, theliabilities assumed, and any noncontrolling interest as of the acquisitiondate, measured at their fair values.  Theacquisition date is the date on which we obtain control of the real estateproperty.  These assets acquired andliabilities assumed may consist of buildings, any assumed debt, identifiedintangible 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 noncontrolling interestsin the acquiree over the fair value of identifiable net assets acquired.  Likewise, a bargain purchase gain isrecognized 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.

 

Initial valuations aresubject to change until our information is finalized, which is no later thantwelve months from the acquisition date.

 

The fair value of anytangible assets acquired, expected to consist of land, land improvements,buildings, building improvements, and furniture, fixtures and equipment, isdetermined 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 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.

 

We determine the value ofabove-market and below-market in-place leases for acquired properties based onthe present value (using an interest rate that reflects the risks associatedwith the leases acquired) of the difference between (i) the contractualamounts to be paid pursuant to the in-place leases and (ii) management’sestimate of current market lease rates for the corresponding in-place leases,measured over a period equal to (a) the remaining noncancelable lease termfor above-market leases, or (b) the remaining noncancelable lease termplus any fixed rate renewal options for below-market leases.

 

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We record the fair valueof 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.

 

The total value ofidentified real estate intangible assets that we may acquire in the future isfurther 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 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.

 

We amortize the value ofin-place leases acquired in the future to expense over the term of therespective leases.  The value of tenantrelationship intangibles is amortized to expense over the initial term and anyanticipated renewal periods, but in no event does the amortization period forintangible assets exceed the remaining depreciable life of the building.  Should a tenant terminate their lease, theunamortized portion of the in-place lease value and tenant relationshipintangibles would be charged to expense.

 

Other intangible assetsinclude the value of identified hotel trade names and in-place property taxabatements.  These fair values are basedon management’s estimates of the relative fair value of these assets usingdiscounted 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.

 

We determine the fairvalue of assumed debt by calculating the net present value of the scheduledmortgage payments using interest rates for debt with similar terms and remainingmaturities 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.

 

***InvestmentImpairments***

 

For real estate we whollyown, we monitor events and changes in circumstances indicating that thecarrying amounts of the real estate assets may not be recoverable.  When such events or changes in circumstancesare present, we assess potential impairment by comparing estimated futureundiscounted operating cash flows expected to be generated over the life of theasset and from its eventual disposition to the carrying amount of theasset.  In the event that the carryingamount exceeds the estimated future undiscounted operating cash flows, werecognize an impairment loss to adjust the carrying amount of the asset toestimated fair value.  We considerprojected future undiscounted cash flows, trends, strategic decisions regardingfuture development plans, and other factors in our assessment of whetherimpairment conditions exist.  While webelieve our estimates of future cash flows are reasonable, differentassumptions regarding such factors as market rents, economies, and occupanciescould significantly affect these estimates.

 

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 drop in occupancy we are currently operating under acash management arrangement in accordance with Ferncroft’s $18 million CMBSmortgage loan agreement.  Accordingly,tenant rental payments are deposited in a restricted lockbox account.  As such, we do not have direct access tothese rental payments, and the disbursement of cash from the restricted lockboxaccount to us is at the discretion of the loan’s servicer.  Furthermore, we have been unable to disbursecash from the restricted lockbox account to us in order to pay Ferncroft’soperating expenses.  Not paying theoperating expenses as they become due constitutes an event of default under theloan agreement.  The Ferncroft loan isnon-recourse to us.  We are innegotiations 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,there is no certainty to which outcome from the negotiations will prevail.  We remain the title holder on Ferncroft as ofMarch 31, 2010, and as of the date of this report.

 

In accordance with GAAP,we have evaluated Ferncroft for impairment, and accordingly, have recognized a$4.2 million impairment charge related to Ferncroft for the three months ended March 31,2010.

 

We also evaluate ourinvestments in unconsolidated joint ventures at each reporting date and if webelieve there is an other than temporary decline in market value we will recordan 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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We also evaluate ourinvestments in notes receivable as of each reporting date.  If we believe that it is probable we will notcollect all principal and interest in accordance with the terms of the loans,we consider the loan impaired.  Whenevaluating loans for potential impairment, we compare the carrying amount ofthe loans to the present value of future cash flows discounted at the loan’seffective 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.

 

As part of our adoptionof Accounting Standards Codification Topic 810 (“ASC Topic 810”) (See Note 8),effective January 1, 2010, we deconsolidated the assets and liabilities oftwo VIEs, Tanglewood at Voss and Alexan Black Mountain, and recognized on ourconsolidated balance sheet the mezzanine loans we made in 2006 associated withTanglewood at Voss and Alexan Black Mountain. As is required by GAAP, we evaluated these notes receivable forcollectability.  Based on our analyses,we recorded a reserve for loan losses totaling $11.1 million related to themezzanine loan associated with Alexan Black Mountain, including $7.1 millionrecognized as a provision to loan losses on our consolidated statement ofoperations and comprehensive loss for the three months ended March 31,2010, and the remaining $4 million as an cumulative effect adjustment to theopening balance of accumulated distributions and net loss in our consolidatedstatement of equity at March 31, 2010. There was no such provision or reserve recorded for the three monthsended March 31, 2009.

 

In evaluating ourinvestments for impairment, management may use appraisals and make estimatesand assumptions, including, but not limited to, the projected date ofdisposition 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 estimates andassumptions could result in understating or overstating the book value of ourinvestments, 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.

 

Other than the impairmentcharge discussed above, we believe the carrying value of our operating realestate assets, properties under development, investments in unconsolidatedjoint 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 QualitativeDisclosures About Market Risk.**

 

*ForeignCurrency Exchange Risk*

 

For our net investmentsin foreign real estate properties, we use British pound and Euro foreigncurrency forward exchange contracts and foreign currency put/call options toeliminate the impact of foreign currency movements on our financialposition.  At March 31, 2010, ourforeign currency derivative contracts were reported at their fair value of $0.2million within prepaid expenses and other assets in our consolidated balancesheet.  A 10% increase in the respectiveforward foreign currency - US dollar exchange rate would result in a$0.1 million decrease in fair value. A 10% decrease in the respective forward foreign currency - US dollarexchange rate would result in a $0.3 million increase in fair value.

 

We maintain less than$0.1 million in Euro-denominated accounts at European financialinstitutions.  Accordingly, we are notmaterially exposed to any significant foreign currency fluctuations related tothese accounts.  We do not enter intoderivatives for trading or speculative purposes, nor do we maintain any marketrisk sensitive instruments for trading or speculative purposes.

 

*InterestRate Risk*

 

We may be exposed tointerest rate changes primarily as a result of long-term debt used to acquireproperties 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

 

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interest rate portion ofour variable rate debt.  Of our $352.2million in notes payable at March 31, 2010, $312.8 million representeddebt subject to variable interest rates. If our variable interest rates increased 100 basis points, we estimatethat total annual interest cost, including interest expensed, interestcapitalized, and the effects of the interest rate caps and swaps, wouldincrease by $0.6 million.

 

At March 31, 2010,interest rate caps used to mitigate our interest rate risk classified as assetswere reported at their combined fair value of less than $0.1 million withinprepaid expenses and other assets. Interest rate swaps classified as liabilities were reported at theircombined fair values of $2.4 million in other liabilities at March 31,2010.  A 100 basis point decrease ininterest rates would result in a $0.1 million net decrease in the fair value ofour interest rate caps and swaps.  A 100basis point increase in interest rates would result in a $0.8 million netincrease in the fair value of our interest rate caps and swaps.

 

**Item 4T.**                 Controls and Procedures.

** **

*Evaluation of Disclosure Controls and Procedures*

 

As required by Rule 13a-15(b) andRule 15d-15(b) under the Exchange Act, our management, including ourChief Executive Officer and Chief Financial Officer, evaluated, as of March 31,2010, the effectiveness of our disclosure controls and procedures as defined inExchange Act Rule 13a-15(e) and Rule 15d-15(e). Based on thatevaluation, our Chief Executive Officer and Chief Financial Officer concludedthat our disclosure controls and procedures were effective as of March 31,2010, to provide reasonable assurance that information required to be disclosedby us in this report is recorded, processed, summarized and reported within thetime periods specified by the rules and forms of the Exchange Act and isaccumulated and communicated to our management, including our Chief ExecutiveOfficer and Chief Financial Officer, as appropriate to allow timely decisionsregarding required disclosures.

 

We believe, however, thata controls system, no matter how well designed and operated, cannot provideabsolute assurance that the objectives of the controls systems are met, and noevaluation of controls can provide absolute assurance that all control issuesand instances of fraud or error, if any, within a company have been detected.

 

*Changes in Internal Control over Financial Reporting*

 

There has been no changein internal control over financial reporting that occurred during the quarterended March 31, 2010 that has materially affected, or is reasonably likelyto materially affect, our internal control over financial reporting.

 

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**PART II**

** **

**OTHER INFORMATION**

** **

### **Item 1.**                    LegalProceedings.

### ** **

On March 4, 2010,Shannon B. Skokos and Theodore C. Skokos (the “Skokoses”), owners of a $19.5million limited partner interest in and lenders to the development andconstruction of a resort hotel, spa, golf course, marina, and residences onthree islands located in the Commonwealth of Bahamas (“Royal Island”), filed athird amended petition in the 68th Judicial District Court of Dallas County,Texas which added Behringer Harvard Opportunity REIT I, Inc. as adefendant in a lawsuit they originally filed on December 19, 2008.  Behringer Harvard Opportunity REIT I, Inc.is also a limited partner in and a lender to Royal Island.  Other defendants in the lawsuit are RoyalIsland Partners, LP, Cypress Equities, LLC, Christopher C. Maguire, BehringerHarvard Royal Island, LLC, Behringer Harvard Holdings, LLC, Behringer HarvardRI Lender, LLC, Royal Island Bahamas, Ltd., Cypress Royal Island GP, LP,Cypress Royal Island GP, LLC, Royal Island Golf Club, Bahamas Ltd., and RIBL USBorrower, LLC.  The lawsuit asserts fraudin the inducement, fraud in a real estate transaction, negligentmisrepresentation, unjust enrichment, violations of the Texas Securities Act,breach of a credit agreement related to the lending arrangements at RoyalIsland and violation of fiduciary duties arising out of the credit agreementand the related agreement among lenders and agent.

 

Among other relief, theSkokoses are seeking damages and in the alternative to their damages claim, theSkokoses seek to rescind the partnership agreements they executed.  We do not believe the claims against us havemerit, and the Behringer Harvard entities intend to vigorously defend thisaction; however, the costs of defending this lawsuit may be significant inrelation to our income and could adversely affect our operating results.

 

### **Item 1A.**                 Risk Factors.

### ** **

There have been nomaterial changes from the risk factors set forth in our Annual Report on Form 10-Kfor the year ended December 31, 2009

 

### **Item 2.**                    UnregisteredSales of Equity Securities

### ** **

**PublicOffering of Common Stock**

 

Duringthe period covered by this quarterly report, we did not sell any equitysecurities that were not registered under the Securities Act of 1933.

 

**Share Redemption Program**

 

Our board ofdirectors has adopted a share redemption program that permits stockholders tosell their shares back to us after they have held them for at least one year,subject to the significant conditions and limitations of the program.  Our board of directors can amend theprovisions of our share redemption program without the approval of ourstockholders.  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.

 

In the case ofOrdinary Redemptions, the purchase price per share will equal 90% of (i) themost recently disclosed estimated value per share (the “Valuation”) asdetermined 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.

 

In the case ofExceptional Redemptions, the purchase price per share will be equal to: (1) priorto the Initial Board Valuation, the Original Share Price less any SpecialDistributions; or (2) on or after the Initial Board Valuation, the most

 

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recently disclosedValuation less any Valuation Adjustment, provided, however, that the purchaseprice per share may not exceed the Original Share Price less any SpecialDistributions.

 

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.

 

Any sharesapproved for redemption will be redeemed on a periodic basis as determined fromtime to time by our board of directors, and no less frequently than annually.We will not redeem, during any twelve-month period, more than 5% of theweighted average number of shares outstanding during the twelve-month periodimmediately prior to the date of redemption. Generally, the cash available forredemption on any particular date will be limited to the proceeds from theSecondary DRP during the period consisting of the preceding four fiscalquarters for which financial statements are available, less any cash alreadyused for redemptions during the same period, plus, if we had positive operatingcash flow during such preceding four fiscal quarters, 1% of all operating cashflow during such preceding four fiscal quarters.  The redemption limitations apply to allredemptions, whether Ordinary or Exceptional Redemptions.

 

On June 22,2009, our board of directors established an estimated per share value of $8.17pursuant to the Valuation Policy.  Thus,in accordance with the share redemption program as amended and restated, as of June 22,2009, the per share redemption price for Exceptional Redemptions redeemed afterJune 22, 2009 was the lesser of (a) $8.17 and (b) the averageprice per share that investor paid for his shares.  During that respectiveperiod and through January 14, 2010, all redemptions other thanExceptional Redemptions, the per share redemption price was the lesser of (1) $7.35,which is 90% of the estimated per share value, and (2) 90% of the averageprice per share that the investor paid for his shares.  However, as previouslydisclosed, we have suspended redemptions other than Exception Redemptions untilfurther notice.

 

On January 8,2010, our board of directors established a new estimated per share value of$8.03 pursuant to the Valuation Policy, adjusted from the previous per sharevalue of $8.17.  Thus, in accordance withthe 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.

 

For all otherordinary redemptions, the per share redemption price will be the lesser of (1) $7.23,which is 90% of the valuation disclosed above, less any Valuation Adjustmentand (2) 90% of the average price per share that the investor paid for hisshares less any Special Distributions.  However, as previously disclosed,we have suspended redemptions other than Exceptional Redemptions until furthernotice.

 

During the quarter ended March 31,2010, we had no significant share redemptions.

 

**Item 3.****                    Defaults UponSenior Securities.**

 

None.

 

### **Item 4.**                    (Removed andReserved)

### ** **

### **Item 5.**                    OtherInformation.

### ** **

None.

### ** **

### **Item 6.**                    Exhibits.

### ** **

The exhibits filed in response to Item 601 ofRegulation S-K are listed on the Exhibit Index attached hereto.

 

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**SIGNATURE**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 

 
|                            | **Behringer Harvard Opportunity REIT  I, Inc.** |
|---------------------------------|------------------------------------------------------|
|                            |                                                 |
|                            |                                                 |
| Dated:  May 14,  2010 | By:                                                  | /s/ Gary S. Bresky |
|                            | Gary S. Bresky                                       |
|                            | Chief Financial Officer                              |
|                            | (Principal Financial Officer)                        |

 

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**Indexto 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)  |
|                    |       |                                                                                                                                                               |
| 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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*filed herewith

 

(1)   Inaccordance with Item 601(b)(32) of Regulation S-K, this Exhibit is notdeemed “filed” for purposes of Section 18 of the Exchange Act or otherwisesubject to the liabilities of that section. Such certifications will not be deemed incorporated by reference intoany filing under the Securities Act or the Exchange Act, except to the extentthat the registrant specifically incorporates it by reference.

 

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