Attached files
UNITED
STATES SECURITIES AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q/A
(Amendment
No. 1)
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R
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QUARTERLY REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For the quarterly period ended June 30,
2009
OR
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£
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TRANSITION REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For the transition period from to
__________
Commission
file number: 1-9900
PACIFIC
OFFICE PROPERTIES TRUST, INC.
(Exact
name of registrant as specified in its charter)
Maryland
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86-0602478
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(State
or other jurisdiction of incorporation or organization)
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(I.R.S.
Employer Identification No.)
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233
Wilshire Boulevard, Suite 310
Santa
Monica, CA 90401
(Address
of principal executive offices) (Zip Code)
(Registrant’s
telephone number, including area code): (310) 395-2083
(Former
name, former address and former fiscal year, if changed since last
report)
Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes R No £
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted 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
registrant was required to submit and post such files). Yes £ No £
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-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 the Exchange Act (check one):
Large
accelerated filer £
|
Accelerated
filer £
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Non-accelerated
filer £
(Do
not check if a smaller reporting company)
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Smaller
Reporting Company R
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes £ No R
APPLICABLE
ONLY TO CORPORATE ISSUERS:
As of
August 7, 2009 there were 3,061,325 shares of common stock, par value $0.0001
per share (the “common stock”), and 100 shares of Class B Common Stock, par
value $0.0001 per share (the “Class B Common Stock”), issued and
outstanding.
PACIFIC
OFFICE PROPERTIES TRUST, INC.
TABLE
OF CONTENTS
FORM
10-Q/A
Page
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Explanatory
Note
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3
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PART
I – FINANCIAL INFORMATION
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Item
1. Financial Statements (unaudited)
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4
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Item
2. Management’s Discussion and Analysis of Financial Condition and Results
of Operations
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41
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Item
4T. Controls and Procedures
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60
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PART
II – OTHER INFORMATION
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Item
6. Exhibits
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62
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Certification
of the Chief Executive Officer
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Certification
of the Chief Financial Officer
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Certification
of the Chief Executive Officer
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Certification
of the Chief Financial Officer
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2
PACIFIC
OFFICE PROPERTIES TRUST, INC.
FORM
10-Q/A
Explanatory
Note
This
Amendment No. 1 to our Quarterly Report on Form 10-Q/A for the three months
ended June 30, 2009, originally filed on August 10, 2009 (the “Original
Filing”), is being filed to correct an error in the previously filed
consolidated financial statements. Specifically, management
determined that the common units of our operating partnership, Pacific Office
Properties, L.P., are required to be reflected at the fair value of our common
stock in accordance with revisions of EITF Topic D-98 Classification and Measurement of
Redeemable Securities, which became effective upon our adoption on
January 1, 2009 of Financial Accounting Standards (SFAS) No. 160 “Non-controlling Interests in
Consolidated Financial Statements, an amendment of ARB No.
51.” We are filing this amendment to our Quarterly Report for
the three months ended June 30, 2009 to correct this error. The
effect of this restatement is as follows. Changes to our December 31,
2008 numbers as presented in this Form 10-Q/A are also reflected
below.
As
of June 30, 2009
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As
Previously Reported
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As
Restated
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||||||
Non-controlling
interests
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59,881 | 121,810 | ||||||
Additional
paid in capital
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12,488 | - | ||||||
Retained
deficit
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(9,524 | ) | (58,965 | ) |
As
of December 31, 2008
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As
Previously Reported
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As
Restated
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||||||
Non-controlling
interests
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71,878 | 133,250 | ||||||
Additional
paid in capital
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12,089 | - | ||||||
Retained
deficit
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(7,044 | ) | (56,327 | ) |
The
restatement has no effect on the Company’s results of operations, cash flows or
total assets and liabilities. No other information in the Original
Filing has been amended or modified hereby.
We have
restated PART I, Item 1 Financial Statements and Item 2 Management’s
Discussion and Analysis of Financial Condition and Results of Operations in
their entirety in this Form 10-Q/A. Except where specifically
indicated, this Form 10-Q/A continues to describe conditions as of the date of
the Original Filing, and accordingly, we have not updated the disclosures
contained herein to reflect events that occurred after the Original
Filing.
As
required by Rule 12b-15 promulgated under the Securities and Exchange Act
of 1934, as amended, this Form 10-Q/A includes currently dated certifications
from our Chief Executive Officer and Chief Financial Officer as required by
Sections 302 and 906 of the Sarbanes-Oxley Act of 2002.
3
PART
I – FINANCIAL INFORMATION
Item
1. Financial Statements (unaudited).
Pacific
Office Properties Trust, Inc.
Condensed
Consolidated Balance Sheets
(in
thousands, except share data)
(unaudited)
June
30, 2009 (Restated)
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December
31, 2008
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|||||||
ASSETS
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||||||||
Investments
in real estate, net
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$ | 387,565 | $ | 392,657 | ||||
Cash
and cash equivalents
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6,881 | 4,463 | ||||||
Restricted
cash
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5,055 | 7,267 | ||||||
Rents
and other receivables, net
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5,729 | 6,342 | ||||||
Intangible
assets, net
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36,875 | 41,379 | ||||||
Other
assets, net
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5,080 | 4,680 | ||||||
Goodwill
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62,019 | 61,519 | ||||||
Investment
in unconsolidated joint ventures
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10,376 | 11,590 | ||||||
Total
assets
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$ | 519,580 | $ | 529,897 | ||||
LIABILITIES
AND EQUITY
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||||||||
Mortgage
and other collateralized loans, net
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$ | 400,504 | $ | 400,108 | ||||
Unsecured
notes payable to related parties
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23,776 | 23,776 | ||||||
Accounts
payable and other liabilities
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21,692 | 17,088 | ||||||
Acquired
below market leases, net
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10,578 | 11,817 | ||||||
Total
liabilities
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456,550 | 452,789 | ||||||
Non-controlling
interests
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121,810 | 133,250 | ||||||
Commitments
and contingencies
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||||||||
Equity
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||||||||
Proportionate
Voting Preferred Stock
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- | - | ||||||
Preferred
stock, $0.0001 par value, 100,000,000 shares authorized,
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||||||||
no
shares issued and outstanding at June 30, 2009 and December 31,
2008
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- | - | ||||||
Common
Stock, $0.0001 par value, 200,000,000 shares authorized,
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||||||||
3,061,325
shares issued and outstanding at June 30, 2009 and December 31,
2008
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185 | 185 | ||||||
Class
B Common Stock, $0.0001 par value, 200,000 shares
authorized,
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||||||||
100
shares issued and outstanding at June 30, 2009 and December 31,
2008
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- | - | ||||||
Additional
paid-in capital
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- | - | ||||||
Retained
deficit
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(58,965 | ) | (56,327 | ) | ||||
Total
equity
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(58,780 | ) | (56,142 | ) | ||||
Total
liabilities and equity
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$ | 519,580 | $ | 529,897 |
See
accompanying notes to condensed combined consolidated financial
statements.
4
Pacific
Office Properties Trust, Inc.
Condensed
Consolidated Statements of Operations
(in
thousands, except share and per share data)
(unaudited)
For
the three months ended June 30,
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||||||||
2009
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2008
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|||||||
Revenue:
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||||||||
Rental
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$ | 10,607 | $ | 11,090 | ||||
Tenant
reimbursements
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5,299 | 4,975 | ||||||
Parking
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2,011 | 2,048 | ||||||
Other
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102 | 141 | ||||||
Total
revenue
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18,019 | 18,254 | ||||||
Expenses:
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||||||||
Rental
property operating
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9,660 | 10,505 | ||||||
General
and administrative
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497 | 1,120 | ||||||
Depreciation
and amortization
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7,030 | 7,056 | ||||||
Interest
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6,806 | 6,653 | ||||||
Total
expenses
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23,993 | 25,334 | ||||||
Loss
before equity in (loss) earnings of unconsolidated
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||||||||
joint
ventures and non-operating income
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(5,974 | ) | (7,080 | ) | ||||
Equity
in net income (loss) of unconsolidated
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||||||||
joint
ventures
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163 | (26 | ) | |||||
Non-operating
income
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1 | - | ||||||
Net
loss
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(5,810 | ) | (7,106 | ) | ||||
Less:
net loss attributable to non-controlling
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||||||||
interests
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4,694 | 5,732 | ||||||
Net
loss attributable to common stockholders
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$ | (1,116 | ) | $ | (1,374 | ) | ||
Net
loss per common share - basic and diluted
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$ | (0.37 | ) | $ | (0.45 | ) | ||
Weighted
average number of common shares
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||||||||
outstanding
- basic and diluted
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3,034,122 | 3,031,125 |
See
accompanying notes to condensed combined consolidated financial
statements.
5
Pacific
Office Properties Trust, Inc.
Condensed
Combined Consolidated Statements of Operations
(in
thousands, except share and per share data)
(unaudited)
For
the six months ended June 30,
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||||||||
2009
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2008
(1)
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|||||||
Revenue:
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||||||||
Rental
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$ | 21,513 | $ | 15,502 | ||||
Tenant
reimbursements
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11,021 | 7,157 | ||||||
Parking
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4,068 | 2,874 | ||||||
Other
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187 | 209 | ||||||
Total
revenue
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36,789 | 25,742 | ||||||
Expenses:
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||||||||
Rental
property operating
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19,575 | 15,345 | ||||||
General
and administrative
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1,646 | 17,408 | ||||||
Depreciation
and amortization
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13,557 | 8,763 | ||||||
Interest
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13,525 | 9,053 | ||||||
Other
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- | 143 | ||||||
Total
expenses
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48,303 | 50,712 | ||||||
Loss
before equity in net earnings (loss) of unconsolidated
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||||||||
joint
ventures and non-operating income
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(11,514 | ) | (24,970 | ) | ||||
Equity
in net earnings (loss) of unconsolidated
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||||||||
joint
ventures
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217 | (29 | ) | |||||
Non-operating
income
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4 | - | ||||||
Net
loss
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(11,293 | ) | (24,999 | ) | ||||
Less:
net loss attributable to non-controlling
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||||||||
interests
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9,121 | 19,059 | ||||||
Net
loss attributable to common stockholders
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$ | (2,172 | ) | $ | (5,940 | ) | ||
Net
loss per common share - basic and diluted
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$ | (0.72 | ) | (2) | ||||
Weighted
average number of common shares
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||||||||
outstanding
- basic and diluted
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3,032,632 | (2) | ||||||
_________
(1)
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Amounts
reflected in 2008 represent the sum of the amounts included herein as the
consolidated results of operations of Waterfront and the Company (the
“Combined Entity”) for the period from January 1, 2008 through June 30,
2008.
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(2)
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Refer
to Note 11 for our Earnings per Share calculation for the Combined
Entity.
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See
accompanying notes to condensed combined consolidated financial
statements.
6
Pacific
Office Properties Trust, Inc.
Condensed
Combined Consolidated Statements of Cash Flows
(in
thousands and unaudited)
For
the six months ended June 30, 2009
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For
the six months ended June 30, 2008 (1)
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|||||||
Operating
activities
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||||||||
Net
loss
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$ | (11,293 | ) | $ | (24,999 | ) | ||
Adjustments
to reconcile net loss to net cash
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||||||||
provided
by (used in) operating activities:
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||||||||
Depreciation
and amortization
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13,557 | 8,763 | ||||||
Interest
amortization
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793 | 251 | ||||||
Share
based compensation charge attributable to the Transaction
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- | 16,194 | ||||||
Other
share based compensation
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90 | 13 | ||||||
Below
market lease amortization, net
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(1,239 | ) | (1,001 | ) | ||||
Equity
in net earnings of unconsolidated joint ventures
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(217 | ) | 29 | |||||
Net
operating distributions received from unconsolidated
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||||||||
joint
ventures
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119 | 112 | ||||||
Bad
debt expense
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742 | 282 | ||||||
Other
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- | 365 | ||||||
Changes
in operating assets and liabilities:
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||||||||
Rents
and other receivables
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(129 | ) | 1,042 | |||||
Other
assets
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(509 | ) | 682 | |||||
Accounts
payable and other liabilities
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3,610 | 907 | ||||||
Net
cash provided by operating activities
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5,524 | 2,640 | ||||||
Investing
activities
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||||||||
Acquisition
and improvement of real estate
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(3,060 | ) | (3,724 | ) | ||||
Capital
distributions from equity investees
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1,312 | - | ||||||
Payment
of leasing commissions
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(377 | ) | (343 | ) | ||||
Cash
held by properties upon Effective Date
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- | 7,178 | ||||||
Deferred
acquisition costs and other
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- | (4,059 | ) | |||||
(Increase)
decrease in restricted cash
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2,212 | (1,382 | ) | |||||
Net
cash provided by (used in) investing activities
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87 | (2,330 | ) | |||||
Financing
activities
|
||||||||
Proceeds
from issuance of equity securities
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- | 6,350 | ||||||
Repayment
of mortgage notes payable
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(606 | ) | (74 | ) | ||||
Proceeds
from mortgage notes payable
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811 | - | ||||||
Deferred
financing costs
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(123 | ) | (752 | ) | ||||
Offering
costs
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(351 | ) | - | |||||
Security
deposits
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(50 | ) | 33 | |||||
Dividends
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(308 | ) | - | |||||
Distributions
to non-controlling interests
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(2,566 | ) | - | |||||
Equity
contributions
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- | 4,167 | ||||||
Equity
distributions
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- | (1,425 | ) | |||||
Net
cash (used in) provided by financing activities
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(3,193 | ) | 8,299 | |||||
Increase
in cash and cash equivalents
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2,418 | 8,609 | ||||||
Balance
at beginning of period
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4,463 | 2,619 | ||||||
Balance
at end of period
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$ | 6,881 | $ | 11,228 | ||||
Supplemental
cash flow information
|
||||||||
Interest
paid
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$ | 11,530 | $ | 8,061 | ||||
Supplemental
Disclosure of Non-Cash Investing and Financing Activities
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||||||||
Assets,
net, acquired on the Effective Date
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$ | - | $ | 484,325 | ||||
Liabilities,
net, assumed on the Effective Date
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$ | - | $ | 325,985 | ||||
Issuance
of unsecured notes payable to related parties
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$ | - | $ | 3,041 | ||||
to
acquire managing interests in joint ventures
|
||||||||
Issuance
of common units to acquire managing joint venture
interests
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$ | - | $ | 4,824 | ||||
Accrued
capital expenditures
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$ | 572 | $ | 180 | ||||
______________________________
(1)
|
Amounts
reflected in 2008 represent the sum of the amounts included herein as the
consolidated cash flows of the Combined Entity for the period from January
1, 2008 through June 30, 2008.
|
See
accompanying notes to condensed combined consolidated financial
statements.
7
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
1.
Organization and Ownership
Pacific Office
Properties
The terms
“us,” “we,” and “our” as used in this Quarterly Report on Form 10-Q refer to
Pacific Office Properties Trust, Inc. (the “Company”) and its subsidiaries and
joint ventures. Through the Company’s controlling interest in Pacific Office
Properties, L.P. (the “UPREIT” or the “Operating Partnership”), of which the
Company is the sole general partner and holds a 17.49% common ownership interest
as of June 30, 2009, and the subsidiaries of the Operating Partnership, we own
and operate office properties in the western United States, concentrating
initially on the long-term growth submarkets of Honolulu, Southern California,
and the greater Phoenix metropolitan area. We operate as a real estate
investment trust (“REIT”) for federal income tax purposes. We are externally
advised by Pacific Office Management, Inc., a Delaware corporation (the
“Advisor”), an entity affiliated with and owned by our founder, The Shidler
Group, which is a business name utilized by a number of affiliates controlled by
Jay H. Shidler, our Chairman of the Board. The Advisor is responsible for our
day-to-day operation and management.
Through
the Operating Partnership, as of June 30, 2009, we owned eight wholly-owned fee
simple and leasehold properties, and owned interests in fifteen properties which
we held through six joint ventures. Our current portfolio totals approximately
4.3 million rentable square feet (the “Property Portfolio”). As of June 30,
2009, the portion of our Property Portfolio that was effectively owned by us
(representing the rentable square feet of our wholly-owned properties and our
respective ownership interests in our unconsolidated joint venture properties)
(the “Effective Portfolio”), comprised approximately 2.5 million rentable square
feet. Our property statistics as of June 30, 2009, were as follows:
PROPERTY
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EFFECTIVE
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|||||||||||||||
NUMBER
OF
|
PORTFOLIO
|
PORTFOLIO
|
||||||||||||||
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PROPERTIES
|
BUILDINGS
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SQ. FT.
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SQ. FT.
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||||||||||||
Wholly-owned
properties
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8 | 11 | 2,265,339 | 2,265,339 | ||||||||||||
Unconsolidated
joint venture properties
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15 | 29 | 2,060,855 | 261,397 | ||||||||||||
Total
|
23 | 40 | 4,326,194 | 2,526,736 |
Transactions
On March
19, 2008 (the “Effective Date”), Arizona Land Income Corporation, an Arizona
corporation (“AZL”), and POP Venture, LLC, a Delaware limited liability company
(“Venture”), consummated the transactions (the “Transactions”) contemplated by a
Master Formation and Contribution Agreement, dated as of October 3, 2006, as
amended (the “Master Agreement”). As part of the Transactions, AZL merged with
and into its wholly owned subsidiary, Pacific Office Properties Trust, Inc., a
Maryland corporation (the “Company”), with the Company being the surviving
corporation. Substantially all of the assets and liabilities of AZL and
substantially all of the commercial real estate assets and liabilities of
Venture, which included eight office properties and a 7.5% joint venture
interest in one office property (the “Contributed Properties”), were contributed
to a newly formed Delaware limited partnership, the Operating Partnership, in
which the Company became the sole general partner and Venture became a limited
partner with corresponding 18.2% and 81.8% common ownership interests,
respectively.
In
accordance with the Financial Accounting Standards Board (the “FASB”) Statement
of Financial Accounting Standards (“SFAS”) No. 141R, Business Combinations, Waterfront
Partners OP, LLC (“Waterfront”), which had the largest interest in Venture, was
designated as the acquiring entity in the business combination for financial
accounting purposes. Accordingly, historical financial information for
Waterfront has also been presented in our Earnings per Share calculation in Note
11of our condensed combined consolidated financial statements in this Quarterly
Report on Form 10-Q through the Effective Date. Additional explanatory notations
are contained in this Quarterly Report on Form 10-Q to distinguish the
historical financial information of Waterfront from that of the
Company.
8
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
The
agreed upon gross asset value of the Contributed Properties, including related
intangible assets, was $563.0 million. The aggregate net asset value of the
Contributed Properties, including related intangible assets, was $151.5 million
on the Effective Date. In exchange for its contribution to the Operating
Partnership, Venture received 13,576,165 common limited partner unit interests
(“Common Units”) and 4,545,300 convertible preferred limited partner unit
interests (“Preferred Units”) in the Operating Partnership. The assets of AZL
contributed into the Operating Partnership primarily consisted of cash and cash
equivalents, investments in marketable securities, other assets and related
liabilities having an aggregate net asset value of approximately $3.03 million
on the Effective Date.
The
Common Units received by Venture represented 28.99% of the total estimated fair
value of the Common and Preferred Units issued in the Transactions and were
valued using an estimated fair value per share of $2.79 per share. The Common
Units are exchangeable on a one-for-one basis for shares of our common stock,
but no earlier than two years after the Effective Date. The Preferred Units
represented 71.01% of the total estimated fair value of the units issued in the
Transactions. The contractual terms and provisions of the Preferred Units
include a beneficial conversion feature (“BCF”) because it provides the holders
with a security whose market price was in excess of the carrying value of the
corresponding Common Units at the date of their issuance, March 19, 2008. See
Note 11 for a detailed discussion of our equity securities.
As part
of the Transactions, we issued to the Advisor one share of Proportionate Voting
Preferred Stock (the “Proportionate Voting Preferred Stock”), which entitles the
Advisor to vote on any matters presented to our stockholders, and which
represents that number of votes equal to the total number of shares of common
stock issuable upon exchange of the Common Units and Preferred Units that were
issued in connection with the Transactions. As of June 30, 2009, that share of
Proportionate Voting Preferred Stock represented approximately 93.8% of our
voting power. This number will decrease to the extent that these Operating
Partnership units are exchanged for shares of common stock in the future, but
will not increase in the event of future unit issuances by the Operating
Partnership. Venture, as the holder of these Operating Partnership units, has a
contractual right to require the Advisor to vote the Proportionate Voting
Preferred Stock as directed by Venture.
As of
June 30, 2009, Venture owned 46,173,693 shares of our common stock assuming that
all Operating Partnership units were fully exchanged on such date,
notwithstanding the prohibition on exchange for at least two years after the
Transactions in the case of the Common Units, and for at least three years, in
the case of the Preferred Units. Assuming the immediate exchange of all the
Operating Partnership units held by Venture, Venture and its related parties
control approximately 94.48% and 95.87% of the total economic interest and
voting power, respectively, in the Company.
As part
of the Transactions, we issued promissory notes payable by the Operating
Partnership to certain members of Venture in the aggregate principal amount of
$16.70 million in consideration for such members’ contribution of certain
properties. The promissory notes accrue interest at a rate of 7% per annum, with
interest payable quarterly, subject to the Operating Partnership’s right to
defer the interest payments for any or all periods up until the date of
maturity. The promissory notes mature on various dates commencing March 19, 2013
through August 31, 2013, but the Operating Partnership may elect to extend
maturity for one additional year. Maturity accelerates upon the occurrence of a)
a qualified public offering, as defined under the Master Agreement; b) the sale
of substantially all the assets of the Company; or c) the merger of the Company
with another entity. The promissory notes are unsecured obligations of the
Operating Partnership.
As part
of the Transactions, we issued one million shares of our common stock to related
party designees of Venture for $5.00 per share in cash and 180,000 shares of our
common stock to an unrelated third party designee of Venture for $7.50 per share
in cash. We contributed the proceeds received from these common stock issuances,
along with substantially all of our assets and liabilities, to the Operating
Partnership on the Effective Date.
In
accordance with the partnership agreement of the Operating Partnership (the
“Partnership Agreement”), we allocate all distributions and profits and losses
in proportion to the percentage ownership interests of the respective
partners. As the sole general partner of the Operating Partnership,
we are required to take such reasonable efforts, as determined by us in our sole
discretion, to cause the Operating Partnership to make sufficient distributions
to avoid any federal income or excise tax at the company level and to maintain
our status as a REIT for federal income tax purposes.
9
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Advisor
We are
externally advised by the Advisor, an entity owned and controlled by our
founder, The Shidler Group. The Advisor manages, operates and administers the
Company’s day-to-day operations, business and affairs pursuant to an Amended and
Restated Advisory Agreement dated as of March 3, 2009 (the “Advisory
Agreement”). See Note 12 for a detailed discussion of the Advisor’s role and the
Advisory Agreement.
2.
Summary of Significant Accounting Policies
Restatement
of the Measurement of Non-Controlling Interests
In the financial statements included in
the Original Filing, we adopted Statement of Financial Accounting Standards No.
160, Noncontrolling
Interests in Consolidated Financial Statements (“SFAS 160”) and the revisions to EITF
Topic D-98, Classification and
Measurement of Redeemable Securities, which became effective upon our
adoption of SFAS 160 effective January 1, 2009. SFAS 160 establishes
accounting and reporting standards for noncontrolling interests in subsidiaries
and for deconsolidation of subsidiaries and requires all entities to report
noncontrolling (minority) interests in subsidiaries as equity in the
consolidated financial statements. SFAS 160 also requires that consolidated net
income be adjusted to include net income attributable to noncontrolling
interests. In addition, SFAS 160 requires that purchases or sales of equity
interests that do not result in a change in control be accounted for as equity
transactions. The presentation and disclosure requirements under SFAS 160 are
being applied retrospectively for all periods presented. SFAS 160 primarily
affected how we refer to noncontrolling interests on our consolidated balance
sheets, statements of operations and cash flows but did not otherwise have a
material effect on our financial position, results of operations or cash
flows.
We also
adopted the revisions to EITF Topic D-98, Classification and Measurement of Redeemable Securities
(“D-98”), which became effective upon our adoption of SFAS 160. Based
upon the requirements of D-98, the limited partnership common and preferred
interests in the UPREIT have been presented in the mezzanine section of our
consolidated balance sheets because the decision to redeem for cash or Company
shares is not solely within the control of the Company. Because some of the
Company’s directors also own limited partnership common and preferred interests
indirectly through Venture we have determined that there are hypothetical
situations where the holders of our partnership units could control the method
of redemption (cash or Company shares) and therefore these partnership units
require mezzanine presentation in our consolidated balance sheets. In addition,
we are required to measure our outstanding Common Units at fair value because
the units are considered redeemable for shares or cash after March 19,
2010. Our Preferred Units do not require fair value measurement
because these units are not considered redeemable until no earlier than the
later of (i) March 19, 2010, and (ii) the date we consummate an underwritten
public offering (of at least $75 million) of our common stock. In the
current capital market environment, management does not consider the completion
of the public stock offering probable at this time.
The Original Filing
failed to correctly measure the Common Units classified as noncontrolling
interests at fair
value as required. Accordingly, we are restating our financial
statements to correct this error. This restatement impacts certain of the
equity accounts and increases the amount recorded in Noncontrolling Interests
and decreases the amount recorded in Additional Paid in Capital and presents the
Common Units in Noncontrolling Interests at fair value based on the market price
of the common stock into which such common units are exchangeable. The impact on
these accounts included in the restated balance sheet and statement of equity
(deficit) are as follows:
10
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Non-Controlling
|
Additional
Paid-in
|
Retained
|
||||||||||
Interests
|
Capital
|
Deficit
|
||||||||||
Balance
at June 30, 2009, as previously reported
|
$ | 59,881 | $ | 12,488 | $ | (9,524 | ) | |||||
Reinstatement
of cumulative prior rebalancing adjustments
|
3,945 | (3,945 | ) | - | ||||||||
Cumulative
fair value measurement of Common Units
|
57,984 | (8,543 | ) | (49,441 | ) | |||||||
Balances
at June 30, 2009, as restated
|
121,810 | - | (58,965 | ) |
Basis
of Presentation
The
accompanying unaudited condensed combined consolidated financial statements and
related disclosures included herein have been prepared in accordance with
accounting principles generally accepted in the United States of America
(“GAAP”) and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X
pursuant to the rules and regulations of the U.S. Securities and Exchange
Commission (the “SEC”). Certain information and footnote disclosures normally
included in financial statements prepared in accordance with GAAP have been
condensed or omitted in accordance with such rules and regulations. In the
opinion of management, the condensed combined consolidated financial statements
include all adjustments, consisting of only normal recurring adjustments,
necessary to present fairly the financial information in accordance with
GAAP.
As
further described in the Explanatory Note on page 3 of this Quarterly Report on
Form 10-Q, Waterfront was designated as the acquiring entity in the business
combination for accounting purposes. Accordingly, historical financial
information for Waterfront has also been presented in our Earnings per Share
calculation in Note 11 of our condensed combined consolidated financial
statements in this Quarterly Report on Form 10-Q. Explanatory notations have
been made where appropriate in this Quarterly Report on Form 10-Q to distinguish
the historical financial information of Waterfront from that of the
Company.
The
financial statements of the Company for all periods presented herein have not
been audited by an independent registered public accounting firm. Further, the
interim results of operations for the aforementioned periods are not necessarily
indicative of the results of operations that might be expected for a given
fiscal year.
The
accompanying condensed combined consolidated financial statements should be read
in conjunction with the financial statements and notes thereto included in our
Current Report on Form 8-K/A filed on November 23, 2009 for the fiscal year
ended December 31, 2008 filed with the SEC and the Explanatory Note on page 3 of
this Quarterly Report on Form 10-Q.
Certain
amounts in the condensed combined consolidated financial statements for prior
periods have been reclassified to conform to the current period presentation
with no corresponding net effect on the previously reported consolidated results
of operations, financial position of the Company or cash flows from
operations.
Principles
of Consolidation
The
accompanying condensed combined consolidated financial statements include the
account balances and transactions of consolidated subsidiaries, which are
wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
11
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Investment
in Unconsolidated Joint Ventures
In
accounting for investments in joint ventures, we apply Emerging Issues Task
Force (“EITF”) Issue No. 04-5, Determining Whether a General
Partner, or the General
Partners as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners
Have Certain Rights (“EITF 04-5”), which provides guidance in determining
whether a general partner controls a limited partnership. EITF 04-5 states that
the general partner in a limited partnership is presumed to control that limited
partnership. The presumption may be overcome if the limited partners have either
(1) the substantive ability to dissolve the limited partnership or otherwise
remove the general partner without cause or (2) substantive participating
rights, which provide the limited partners with the ability to effectively
participate in significant decisions that would be expected to be made in the
ordinary course of the limited partnership’s business and thereby preclude the
general partner from exercising unilateral control over the partnership. If it
is determined that we control the joint venture, we consolidate the account
balances and transactions of the joint venture in our financial statements from
the date that control is determined. If it is determined that we do not control
the joint venture, we account for our investment in the joint venture using the
equity method of accounting in accordance with the Accounting Principles Board
Opinion No. 18, The Equity
Method of Accounting for Investments in Common Stock (“APB No.
18”).
Based on
the guidance set forth in the FASB Interpretation No. 46 (revised December
2003), Consolidation of
Variable Interest Entities (“FIN 46(R)”), we have determined that one of
our joint ventures is a variable interest entity. We are not deemed to be the
primary beneficiary of that variable interest entity. Our investments in joint
ventures that are not variable interest entities are accounted for under the
equity method of accounting because we exercise significant influence over, but
do not control, our joint ventures within the provisions of EITF 04-5. Our joint
venture partners have substantive participating rights, including approval of
and participation in setting operating budgets. Accordingly, we have determined
that the equity method of accounting is appropriate for our investments in joint
ventures.
Investments
in unconsolidated joint ventures are initially recorded at cost and are
subsequently adjusted for our proportionate equity in the net income or net loss
of the joint ventures, contributions made to, or distributions received from,
the joint ventures and other adjustments. We record distributions of operating
profit from our investments as part of cash flows from operating activities and
distributions related to a capital transaction, such as a refinancing
transaction or sale, as investing activities in the condensed combined
consolidated statements of cash flows. A description of our impairment policy is
set forth in this Note 2.
The
difference between the initial cost of the investment in our joint ventures
included in our condensed combined consolidated balance sheet and the underlying
equity in net assets of the respective joint ventures (“JV Basis Differential”)
is amortized as an adjustment to equity in net income or net loss of the joint
ventures in our condensed combined consolidated statement of operations over the
estimated useful lives of the underlying assets of the respective joint
ventures.
Income
Taxes
We have
elected to be taxed as a REIT under the Internal Revenue Code of 1986, as
amended (the “Code”). To qualify as a REIT, we must meet a number of
organizational and operational requirements, including a requirement that we
currently distribute at least 90% of our REIT taxable income to our
stockholders. Also, at least 95% of gross income in any year must be derived
from qualifying sources. We intend to adhere to these requirements and maintain
our REIT status. As a REIT, we generally will not be subject to corporate level
federal income tax on taxable income that we distribute currently to our
stockholders. However, we may be subject to certain state and local taxes on our
income and property, and to federal income and excise taxes on our undistributed
taxable income, if any. Management believes that it has distributed and will
continue to distribute a sufficient majority of its taxable income in the form
of dividends and distributions to its stockholders and unit holders.
Accordingly, no provision for income taxes has been recognized by the
Company.
Pursuant
to the Code, we may elect to treat certain of our newly created corporate
subsidiaries as taxable REIT subsidiaries (“TRS”). In general, a TRS
may perform non-customary services for our tenants, hold assets that we cannot
hold directly and generally engage in any real estate or non-real estate related
business. A TRS is subject to corporate federal income
tax. As of June 30, 2009, none of our subsidiaries was considered a
TRS.
Earnings
per Share
Pacific
Office Properties Trust, Inc.
We
present both basic and diluted earnings per share (“EPS”). Basic EPS
is computed by dividing net income available to common stockholders by the
weighted average number of common shares outstanding during each
period.
12
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Diluted
EPS is computed by dividing net income available to common stockholders for the
period by the number of common shares that would have been earned and
outstanding, assuming the issuance of common shares for all potentially dilutive
common shares outstanding during such period.
Waterfront
We
computed net loss per Common Unit for the period prior to the Transactions by
increasing the historical net loss of Waterfront by the 2% cumulative
distributions payable on the Preferred Units received by the former owners of
Waterfront and dividing that total by the weighted average number of Common
Units received by the former owners of Waterfront. We did not include the
dilution impact of Preferred Units because the units are contingently
convertible and the probability that the contingency will be satisfied is
currently not determinable.
Real
Estate Properties
Acquisitions
In
accordance with SFAS No. 141 (revised 2007), Business Combinations (“SFAS
No. 141(R)”), which
replaces SFAS No. 141, acquisitions are accounted for utilizing the acquisition
method and, accordingly, the results of operations of acquired properties are
included in our results of operations from the respective dates of
acquisition.
Investments
in real estate are stated at cost, less accumulated depreciation and
amortization, except for the assets of Waterfront and certain assets comprising
the Contributed Properties. The assets of Waterfront are stated at their
historical net cost basis as Waterfront was designated as the acquiring entity
in the business combination for accounting purposes. A portion of certain assets
comprising the Contributed Properties are stated at their historical net cost
basis in an amount attributable to the ownership interests in the Contributed
Properties owned by the controlling owner of Waterfront. Additions to land,
buildings and improvements, furniture, fixtures and equipment and construction
in progress are recorded at cost.
Costs
associated with developing space for its intended use are capitalized and
amortized over their estimated useful lives, commencing at the earlier of the
lease execution date or the lease commencement date.
Estimates
of future cash flows and other valuation techniques are used to allocate the
acquisition cost of acquired properties among land, buildings and improvements,
and identifiable intangible assets and liabilities such as amounts related to
in-place at-market leases, acquired above- and below-market leases, and acquired
above- and below-market ground leases.
The fair
values of real estate assets acquired are determined on an “as-if-vacant” basis.
The “as-if-vacant” fair value is allocated to land, and where applicable,
buildings, tenant improvements and equipment based on comparable sales and other
relevant information obtained in connection with the acquisition of the
property.
Fair
value is assigned to above-market and below-market leases based on the
difference between (a) the contractual amounts to be paid by the tenant based on
the existing lease and (b) management’s estimate of current market lease rates
for the corresponding in-place leases, over the remaining terms of the in-place
leases. Capitalized above and below-market lease amounts are reflected in
“Acquired below market leases, net” in the condensed combined consolidated
balance sheets. Capitalized above-market lease amounts are amortized as a
decrease to rental revenue over the remaining terms of the respective leases.
Capitalized below-market lease amounts are amortized as an increase in rental
revenue over the remaining terms of the respective leases. If a tenant vacates
its space prior to the contractual termination of the lease and no rental
payments are being made on the lease, any unamortized balance, net of the
security deposit, of the related intangible is written off.
13
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
The
aggregate value of other acquired intangible assets consists of acquired
in-place leases. The fair value allocated to acquired in-place leases consists
of a variety of components including, but not necessarily limited to: (a) the
value associated with avoiding the cost of originating the acquired in-place
lease (i.e. the market cost to execute a lease, including leasing commissions
and legal fees, if any); (b) the value associated with lost revenue related to
tenant reimbursable operating costs estimated to be incurred during the assumed
lease-up period (i.e. real estate taxes, insurance and other operating
expenses); (c) the value associated with lost rental revenue from existing
leases during the assumed lease-up period; and (d) the value associated with any
other inducements to secure a tenant lease. The value assigned to acquired
in-place leases is amortized over the remaining lives of the related
leases.
In
accordance with SFAS No. 142, Goodwill and Other Intangible
Assets, the excess of the cost of an acquired entity over the net of the
amounts assigned to assets acquired (including identified intangible assets) and
liabilities assumed is recorded as goodwill. Goodwill is not amortized but is
tested for impairment at a level of reporting referred to as a reporting unit on
an annual basis, during the fourth quarter of each calendar year, or more
frequently, if events or changes in circumstances indicate that the asset might
be impaired. An impairment loss for an asset group is allocated to the
long-lived assets of the group on a pro-rata basis using the relative carrying
amounts of those assets, except that the loss allocated to an individual
long-lived asset shall not reduce the carrying amount of that asset below its
fair value. A description of our testing policy is set forth in this Note 2.
During the six months ended June 30, 2009, we recorded an adjustment to the
purchase price allocation we previously recorded upon consummation of the
formation transactions. This adjustment resulted in an increase to goodwill and
accounts payable and other liabilities by approximately $0.5 million in our
condensed combined consolidated balance sheet at June 30, 2009. In
connection with the Transactions, we received a representation from our
predecessor, AZL, that it qualified as a REIT under the provisions of the
Internal Revenue Code. However, we recently became aware that AZL may have
failed to meet certain asset tests required to be satisfied under the Internal
Revenue Code to qualify for, and maintain, its REIT status as a result of
certain of its investments that exceeded the permissible amount allowed at a
given period. If we were found not to have complied with the asset tests, we
could be subject to a penalty tax as a result of any such violations, but we do
not believe that any such penalty tax would be material. However, such
noncompliance should not adversely affect our qualification as a REIT as long as
such noncompliance was due to reasonable cause and not due to willful neglect,
and as long as certain other requirements are met. Based on the information we
currently have, we believe that any noncompliance was due to reasonable cause
and not due to willful neglect, and that such other requirements will be met.
However, if the Internal Revenue Service were to successfully challenge our
position, the Internal Revenue Service could determine that we did not satisfy
the asset tests and, consequently, could determine that we failed to qualify as
a REIT in one or more of our taxable years.
Mortgage
and Other Collateralized Loans
Mortgage
and other collateralized loans assumed upon acquisition of related real estate
properties are stated at estimated fair value upon their respective dates of
assumption, net of unamortized discounts or premiums to their outstanding
contractual balances.
Amortization
of discount and the accretion of premiums on mortgage and other collateralized
loans assumed upon acquisition of related real estate properties are recognized
from the date of assumption through their contractual maturity date using the
straight line method, which approximates the effective interest
method.
Depreciation
Depreciation
and amortization are computed using the straight-line method for financial
reporting purposes. Buildings and improvements are depreciated over their
estimated useful lives which range from 18 to 42 years. Tenant improvement costs
recorded as capital assets are depreciated over the shorter of (i) the tenant’s
remaining lease term or (ii) the life of the improvement. Furniture, fixtures
and equipment are depreciated over three to seven years. Properties
that are acquired that are subject to ground leases are depreciated over the
remaining life of the related leases as of the date of assumption of the
lease.
Revenue
Recognition
All of
our tenant leases are classified as operating leases. For all leases with
scheduled rent increases or other adjustments, minimum rental income is
recognized on a straight-line basis over the terms of the related leases.
Straight line rent receivable represents rental revenue recognized on a
straight-line basis in excess of billed rents and this amount is included in
“Rents and other receivables, net” on the accompanying condensed combined
consolidated balance sheets. Reimbursements from tenants for real estate taxes,
excise taxes and other recoverable operating expenses are recognized as revenues
in the period the applicable costs are incurred.
14
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
We have
leased space to certain tenants under non-cancelable operating leases, which
provide for percentage rents based upon tenant revenues. Percentage rental
income is recorded in rental revenues in the condensed combined consolidated
statements of operations.
Rental
revenue from parking operations and month-to-month leases or leases with no
scheduled rent increases or other adjustments is recognized on a monthly basis
when earned.
Lease
termination fees, net of the write-off of associated intangible assets and
liabilities and straight-line rent balances which are included in “Other” in the
revenue section of the accompanying condensed combined consolidated statements
of operations, are recognized when the related leases are canceled and we have
no continuing obligation to provide services to such former
tenants.
We
recognize gains on sales of real estate pursuant to the provisions of SFAS No.
66, Accounting for Sales of
Real Estate. The specific timing of a sale is measured against various
criteria in SFAS No. 66 related to the terms of the transaction and any
continuing involvement in the form of management or financial assistance
associated with the property. If the sales criteria are not met, gain
recognition is deferred and the continued operations of the property are
accounted for by applying the finance, installment or cost recovery
method.
Other
revenue on the accompanying consolidated statements of operations generally
includes income incidental to our operations and is recognized when
earned.
Cash
and Cash Equivalents
We
consider all short-term cash investments with maturities of three months or less
when purchased to be cash equivalents. Restricted cash is excluded from cash and
cash equivalents for the purpose of preparing our condensed combined
consolidated statements of cash flows.
We
maintain cash balances in various financial institutions. At times, the amounts
of cash held in financial institutions may exceed the maximum amount insured by
the Federal Deposit Insurance Corporation. We do not believe that we are exposed
to any significant credit risk on our cash and cash equivalents.
Restricted
Cash
Restricted
cash includes escrow accounts for real property taxes, insurance, capital
expenditures and tenant improvements, debt service and leasing costs held by
lenders.
Impairment
As
required by SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived
Asset, we assess the potential for impairment of our long-lived assets,
including real estate properties, whenever events occur or a change in
circumstances indicate that the recorded value might not be fully recoverable.
We determine whether impairment in value has occurred by comparing the estimated
future undiscounted cash flows expected from the use and eventual disposition of
the asset to its carrying value. If the undiscounted cash flows do not exceed
the carrying value, the real estate or intangible carrying value is reduced to
fair value and impairment loss is recognized. Assets to be disposed of are
reported at the lower of the carrying amount or fair value, less costs to sell.
Based upon such periodic assessments, no indications of impairment were
identified for the periods presented in the accompanying condensed combined
consolidated statements of operations.
15
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Goodwill
is reviewed for impairment on an annual basis during the fourth quarter of each
calendar year, or more frequently if circumstances indicate that a possible
impairment has occurred. The assessment of impairment involves a two-step
process whereby an initial assessment for potential impairment is performed,
followed by a measurement of the amount of impairment, if any. Impairment
testing is performed using the fair value approach, which requires the use of
estimates and judgment, at the “reporting unit” level. A reporting unit is the
operating segment, or a business that is one level below the operating segment
if discrete financial information is prepared and regularly reviewed by
management at that level. The determination of a reporting unit’s fair value is
based on management’s best estimate, which generally considers the market-based
earning multiples of the unit’s peer companies or expected future cash flows. If
the carrying value of a reporting unit exceeds its fair value, the second step
of the goodwill impairment test is performed to measure the amount of impairment
loss, if any. An impairment is recognized as a charge against income
equal to the excess of the carrying value of goodwill over its implied value on
the date of the impairment. During the quarter ended June 30, 2009, we performed
an analysis to determine whether the carrying value of the goodwill recorded on
our consolidated balance sheet was impaired at June 30, 2009. Based
on the analysis, it was determined that the goodwill was not impaired as of that
date. We may be required to perform similar analyses in the future to
determine whether the carrying value of the goodwill recorded on our
consolidated balance sheet as of a given reporting date is
impaired. The factors that may cause an impairment in goodwill
include, but may not be limited to, a sustained decline in our stock price and
the occurrence, or sustained existence, of adverse economic
conditions.
Other-Than-Temporary
Impairment
Our
investment in unconsolidated joint ventures is subject to a periodic impairment
review and is considered to be impaired when a decline in fair value is judged
to be other-than-temporary. An investment in an unconsolidated joint venture
that we identify as having an indicator of impairment is subject to further
analysis to determine if the investment is other than temporarily impaired, in
which case we write down the investment to its estimated fair value. We did not
recognize an impairment loss on our investment in unconsolidated joint ventures
during the three and six months ended June 30, 2009.
Repairs,
Maintenance and Major Improvements
The costs
of ordinary repairs and maintenance are charged to operations when incurred.
Major improvements that extend the life of an asset are capitalized and
depreciated over the remaining useful life of the asset. Various lenders have
required us to maintain reserve accounts for the funding of future repairs and
capital expenditures, and the balances of these accounts are classified as
restricted cash on the accompanying condensed combined consolidated balance
sheets.
Tenant
Receivables
Tenant
receivables are recorded and carried at the amount billable per the applicable
lease agreement, less any allowance for doubtful accounts. An allowance for
doubtful accounts is made when collection of the full amounts is no longer
considered probable. Tenant receivables are included in “Rents and other
receivables, net”, in the accompanying condensed combined consolidated balance
sheets. If a tenant fails to make contractual payments beyond any allowance, we
may recognize bad debt expense in future periods equal to the amount of unpaid
rent and deferred rent. We take into consideration factors to evaluate the level
of reserve necessary, including historical termination, default activity and
current economic conditions. At June 30, 2009, the balance of the allowance for
doubtful accounts was $1.3 million, compared to $0.8 million at December 31,
2008.
Preferred
Units
Preferred
Units have fixed rights to distributions at an annual rate of 2% of their
liquidation preference of $25 per Preferred Unit. Accordingly, income or loss of
the Operating Partnership is allocated among the general partner interest and
limited partner common interests after taking into consideration distribution
rights allocable to the Preferred Units.
Deferred
Loan Fees
Deferred
loan fees include fees and costs incurred in conjunction with long-term
financings and are amortized over the terms of the related debt using a method
that approximates the interest method. Deferred loan fees are included in “Other
assets, net” in the accompanying condensed combined consolidated balance sheets.
Amortization of deferred loan fees is included in “Interest” in the accompanying
condensed combined consolidated statements of operations.
16
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Equity
Offering Costs
Costs
from potential equity offerings are reflected in “Other Assets, net” and will be
reclassified as a reduction in additional paid-in capital upon successful
completion of the offering.
Leasing
Commissions
Leasing
commissions are capitalized and amortized over the life of the related
lease. The payment of leasing commissions is included in cash used in
investing activities on the accompanying condensed combined consolidated
statement of cash flows because we believe that paying leasing commissions for
good tenants is a prudent investment in increasing the value of our
income-producing assets.
Use
of Estimates in Financial Statements
The
preparation of financial statements in conformity with GAAP requires us to make
estimates and assumptions that affect amounts reported in the condensed combined
consolidated financial statements and accompanying notes. The accounting
estimates that require our most significant, difficult and subjective judgments
include:
|
•
|
the
initial valuation and underlying allocations of purchase price for
investments in real estate;
|
|
•
|
the
assessment of recoverability of long-lived
assets;
|
|
•
|
the
valuation of investments in unconsolidated joint
ventures;
|
|
•
|
the
valuation and recognition of equity instruments issued,
including:
|
— non-controlling
interests; and
— share-based
compensation;
|
•
|
the
valuation and recognition of derivative financial instruments;
and
|
|
•
|
the
determination of useful lives of investments in real estate and related
assets and liabilities.
|
Stock-Based
Compensation
SFAS No.
123R, Stock-Based
Compensation, requires all share-based payments to employees, including
directors, to be recognized in the statement of operations based on their fair
values. See Note 13 for a more detailed discussion.
Segments
SFAS No.
131, Disclosures about
Segments of an Enterprise and Related Information, established
standards for disclosure about operating segments, products and services,
geographic areas and major customers. Segment information is prepared on the
same basis that our chief operating decision makers review information for
decision making purposes. We own and operate office properties in the western
United States. We have concentrated initially on two long-term growth
submarkets, Honolulu and the western United States mainland (in particular,
Southern California and the greater Phoenix metropolitan area). We
consider each of our properties to be an operating segment. We
aggregate the operating segments into two geographic segments on the basis of
similar economic characteristics. Additionally, no single tenant
accounts for 10% or more of our total annualized base rents.
17
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Recent
Accounting Pronouncements
SFAS No. 157
In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which provides guidance for using fair value to measure assets and liabilities.
The standard also responds to investors’ requests for expanded information about
the extent to which companies measure assets and liabilities at fair value, the
information used to measure fair value, and the effect of fair value measurement
on earnings. SFAS No. 157 defines fair value, establishes a framework for
measuring fair value and provides expanded disclosure about how fair value
measurements were determined. SFAS No. 157 applies whenever other standards
require (or permit) assets or liabilities to be measured at fair value. The
standard does not expand the use of fair value in any circumstances. Our
adoption of SFAS No. 157 for the valuation of financial assets and liabilities
in 2008 and the valuation of non-financial assets and liabilities as of January
1, 2009 did not have a material impact on our consolidated results of
operations, financial position or cash flow, as our derivative value is not
significant.
SFAS
No. 141(R)
In
December 2007, the FASB issued SFAS No. 141(R), which replaces SFAS No. 141.
SFAS No. 141(R) applies to all transactions and other events in which one entity
obtains control over one or more other businesses. It broadens the fair value
measurement and recognition of assets acquired, liabilities assumed and
interests transferred as a result of business combinations. Under this
pronouncement, acquisition-related costs must be expensed rather than
capitalized as part of the basis of the acquired business. SFAS No. 141(R) also
expands required disclosure to improve the ability of financial statement users
to evaluate the nature and financial effects of business combinations. SFAS No.
141(R) is effective for business combinations for which the effective date is on
or after January 1, 2009. We adopted SFAS No. 141(R) on January 1, 2009. We
believe that such adoption could materially impact our future consolidated
financial results to the extent that we acquire significant amounts of real
estate or real estate related businesses, as related acquisition costs will be
expensed as incurred compared to the current practice of capitalizing such costs
and amortizing them over the estimated useful life of the assets or real estate
related businesses acquired.
SFAS
No. 160
In
December 2007, the FASB issued SFAS No. 160, Non-controlling Interests
in Consolidated Financial
Statements—An Amendment of ARB No. 51. SFAS No. 160 requires a
non-controlling interest in a subsidiary to be reported as equity and the amount
of consolidated net income specifically attributable to the non-controlling
interest to be identified in the condensed combined consolidated financial
statements. SFAS No. 160 also calls for consistency in the manner of reporting
changes in the parent’s ownership interest and requires fair value measurement
of any non-controlling equity investment retained in a deconsolidation. We
adopted the provisions of SFAS No. 160 on the effective date of January 1,
2009.
We also
adopted the revisions to EITF Topic D-98, Classification and Measurement of Redeemable Securities
(“D-98”), which became effective upon our adoption of SFAS 160. Based
upon the requirements of D-98, we present the limited partnership common and
preferred interests in the UPREIT in the mezzanine section of our consolidated
balance sheets because the decision to redeem for cash or Company shares is not
solely within the control of the Company. Because some of the Company’s
directors also own limited partnership common and preferred interests indirectly
through Venture combined with the existence of the Proportionate Voting
Preferred Stock we have determined that there are hypothetical situations where
the holders of our partnership units could control the method of redemption
(cash or Company shares) and therefore these partnership units require mezzanine
presentation in our consolidated balance sheets. In addition, we are required to
measure our outstanding Common Units at redemption value because the units are
considered redeemable for shares or cash after March 19, 2010. Our
Preferred Units do not require redemption value measurement because these units
are not considered redeemable until no earlier than the later of (i) March 19,
2010, and (ii) the date we consummate an underwritten public offering (of at
least $75 million) of our common stock. In the current capital market
environment, management does not consider the completion of the public stock
offering probable at this time. Furthermore, in the event that we
acquire a controlling interest in our existing investments in unconsolidated
joint ventures, we believe that the adoption of this guidance could materially
impact our future consolidated financial results, as our existing investments
would be adjusted to fair value at the date of acquisition of the controlling
interest.
18
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
SFAS
No. 165
In
May 2009, the FASB issued SFAS No. 165, Subsequent
Events. SFAS No. 165 establishes general standards of
accounting for and disclosure of events that occur after the balance sheet date
but before financial statements are issued. SFAS No. 165 is effective
for interim periods or fiscal years ending after June 15, 2009. The
adoption of SFAS No. 165 resulted in additional disclosure but did not have a
material impact on our financial statements.
SFAS
No. 167
In
June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation
No. 46 (R), which requires an on-going reassessment of whether an
enterprise is the primary beneficiary of a variable interest entity. This
analysis identifies the primary beneficiary of a variable interest entity as the
enterprise that has both of the following characteristics: (i) the power to
direct the activities of a variable interest entity that most significantly
impact the entity’s economic performance, and (ii) the obligation to absorb
losses of the entity that could potentially be significant to the variable
interest entity or the right to receive benefits from the entity that could
potentially be significant to the variable interest entity. SFAS No.
167 is effective for us beginning January 1, 2010 and we are in the process of
quantifying the impact of the adoption of this standard on our consolidated
financial statements.
SFAS
No. 168
In June
2009, the FASB issued SFAS No. 168, The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles, a
replacement of FASB Statement No. 162. SFAS No. 168
establishes the FASB Accounting Standards Codification as the source of
authoritative accounting principles recognized by the FASB to be applied by
nongovernmental entities in the preparation of financial statements in
conformity with GAAP. SFAS No. 168 is effective for us beginning with
our September 30, 2009 consolidated financial statements. SFAS No.
168 does not change GAAP but will change how we reference GAAP in our
consolidated financial statements.
FSP
EITF 03-6-1
In June
2008, the FASB issued FASB Staff Position (“FSP”) EITF No. 03-6-1, Determining Whether Instruments
Granted in Share-Based Payment Transactions Are Participating Securities.
This FSP requires that share-based payment awards that are not fully vested and
contain non-forfeitable rights to receive dividends or dividend equivalents
declared on our common stock be treated as participating securities in the
computation of EPS pursuant to the two-class method. Dividend
equivalents corresponding to the cash dividends declared on our common
stock are forfeitable for unvested restricted stock unit awards granted to
our board of directors, as described in Note 13, “Share-Based
Payments”. FSP EITF No. 03-6-1 is applied retrospectively to all
periods presented for fiscal years beginning after December 15, 2008, which for
us means January 1, 2009. The adoption of FSP EITF No. 03-6-1 did not have an
impact on our consolidated financial position, results of operations and cash
flows.
EITF
No. 08-6
In
November 2008, the FASB ratified EITF No. 08-6, Equity Method Investment Accounting Considerations
(EITF 08-6), which provides guidance for the accounting of contingent
consideration, recognition of other-than-temporary impairment (OTTI) of an
equity method investee, and change in level of ownership or degree of influence.
The accounting of contingent consideration might result in the recording of a
liability with an increase to the corresponding investment balance. The investor
must recognize its share of the investee’s impairment charges. A gain or loss to
the investor resulting from a change in level of ownership or influence must be
recognized in earnings of the investor. EITF 08-6 is effective as of January 1,
2009 for our Company. This EITF did not have an impact on our consolidated
financial position, results of operations or cash flows. In the event that we
acquire a controlling interest in our existing investments in unconsolidated
joint ventures, we believe that the adoption of this EITF No. 08-6 could
materially impact our future consolidated financial results.
19
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
FSP
FAS 142-3
In April
2008, the FASB issued FSP No. 142-3, Determination of the Useful
Life of Intangible
Assets, which amends the factors that should be considered in developing
renewal or extension assumptions used to determine the useful life of a
recognized intangible asset under SFAS 142, Goodwill and Other Intangibles. This FSP will
allow us to use our own assumptions about renewal or extension of an
arrangement, adjusted for our own specific factors, as described in SFAS 142,
even when there is likely to be substantial cost or material modifications. FSP
142-3 is effective for us as of January 1, 2009 and applied prospectively for
intangible assets acquired or recognized after such date. The adoption of this
FSP did not have a material impact on our consolidated financial position,
results of operations or cash flows.
FSP
107-1 and APB 28-1
In April
2009, the FASB issued FSP 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial
Instruments, which amends SFAS No. 107, Disclosures about Fair Value of
Financial Instruments, to require disclosures about fair value of
financial instruments for interim reporting periods of publicly traded companies
as well as in annual financial statements. This FSP also amends APB Opinion No.
28, Interim Financial
Reporting, to require those disclosures in summarized financial
information at interim reporting periods. Our adoption of this FSP during the
quarter ended June 30, 2009 resulted in additional disclosures but did not have
a material impact on our consolidated financial position, results of operations
or cash flows.
FSP
No. FAS 141(R) – 1
In April
2009, the FASB issued FSP No. FAS 141(R) – 1, Accounting for Assets Acquired and Liabilities
Assumed in a Business Combination That Arises from
Contingencies. This FSP amends and clarifies SFAS No. 141(R),
to address application issues raised by preparers, auditors, and members of the
legal profession on initial recognition and measurement, subsequent measurement
and accounting, and disclosure of assets and liabilities arising from
contingencies in a business combination. Under this FSP, assets and
liabilities arising from contingencies are recognized at fair value on the
acquisition date. This FSP is effective for us beginning July 1, 2009
and will apply prospectively to business combinations completed on or after that
date. The impact of the adoption of FSP No. FAS 141(R) – 1 will
depend on the nature of acquisitions completed after the date of
adoption.
3.
Investments in Real Estate, net
Our
investments in real estate, net, at June 30, 2009, and at December 31, 2008, are
summarized as follows (in thousands):
June
30, 2009
|
December
31, 2008
|
|||||||
Land
and land improvements
|
$ | 76,054 | $ | 76,008 | ||||
Building
and building improvements
|
309,427 | 308,125 | ||||||
Tenant
improvements
|
25,867 | 24,489 | ||||||
Furniture,
fixtures and equipment
|
1,268 | 1,210 | ||||||
Construction
in progress
|
3,595 | 4,082 | ||||||
Investments
in real estate
|
416,211 | 413,914 | ||||||
Less: accumulated
depreciation
|
(28,646 | ) | (21,257 | ) | ||||
Investments
in real estate, net
|
$ | 387,565 | $ | 392,657 | ||||
Acquisitions
of Consolidated Properties
See Transactions in Note 1 for a
discussion of the properties acquired on March 19, 2008.
20
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
4.
Intangible Assets and Acquired Above and Below Market Lease
Liabilities
Our
identifiable intangible assets and acquired above and below market leases, net
at June 30, 2009, and at December 31, 2008, are summarized as follows (in
thousands):
|
June
30, 2009
|
December
31, 2008
|
||||||
|
|
|||||||
Acquired
leasing commissions
|
|
|
||||||
Gross
amount
|
$ | 8,472 | $ | 8,316 | ||||
Accumulated
amortization
|
(3,665 | ) | (2,950 | ) | ||||
Net
balance
|
$ | 4,807 | $ | 5,366 | ||||
Acquired
leases in place
|
||||||||
Gross
amount
|
$ | 17,759 | $ | 18,109 | ||||
Accumulated
amortization
|
(8,806 | ) | (6,724 | ) | ||||
Net
balance
|
$ | 8,953 | $ | 11,385 | ||||
Acquired
tenant relationship costs
|
||||||||
Gross
amount
|
$ | 19,581 | $ | 19,588 | ||||
Accumulated
amortization
|
(3,180 | ) | (1,941 | ) | ||||
Net
balance
|
$ | 16,401 | $ | 17,647 | ||||
Acquired
other intangibles
|
||||||||
Gross
amount
|
$ | 7,832 | $ | 7,879 | ||||
Accumulated
amortization
|
(1,118 | ) | (898 | ) | ||||
Net
balance
|
$ | 6,714 | $ | 6,981 | ||||
Intangible
assets, net
|
$ | 36,875 | $ | 41,379 | ||||
Acquired
below market leases
|
||||||||
Gross
amount
|
$ | 16,531 | $ | 16,608 | ||||
Accumulated
amortization
|
(5,123 | ) | (3,755 | ) | ||||
Net
balance
|
11,408 | 12,853 | ||||||
Acquired
above market leases
|
||||||||
Gross
amount
|
$ | 2,396 | $ | 2,449 | ||||
Accumulated
amortization
|
(1,566 | ) | (1,413 | ) | ||||
Net
balance
|
830 | 1,036 | ||||||
Acquired
below market leases, net
|
$ | 10,578 | $ | 11,817 | ||||
21
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
5.
Investment in Unconsolidated Joint Ventures
We own
managing interests in six joint ventures, consisting of 15 office properties,
including 29 office buildings, comprising approximately 2.06 million rentable
square feet. Our ownership interest percentages in these joint ventures range
from approximately 7.5% to 32.2%. In exchange for our managing
ownership interest and related equity investment in these joint ventures, we are
entitled to fees, preferential allocations of earnings and cash flows from each
respective joint venture. We are also entitled to incentive interests in excess
of our ownership percentages ranging from approximately 21.4% to 36.0%, subject
to returns on invested capital.
At June
30, 2009, the JV Basis Differential, net, was approximately $1.5 million and is
included in investments in unconsolidated joint ventures in our condensed
combined consolidated balance sheet. For the three and six months ended June 30,
2009, we recognized approximately $0.01 million and $0.05 million of
amortization expense, respectively, attributable to the JV Basis Differential,
which is included in equity in net earnings of unconsolidated joint ventures in
our condensed combined consolidated statement of operations.
The
following tables summarize financial information for our unconsolidated joint
ventures (in thousands):
Three
months ended June 30, 2009
|
Six
months ended June 30, 2009
|
Three
months ended June 30, 2008 (1)
|
||||||||||
Revenues:
|
||||||||||||
Rental
|
$ | 9,433 | $ | 18,742 | $ | 3,163 | ||||||
Other
|
2,027 | 4,192 | 775 | |||||||||
Total
revenues
|
11,460 | 22,934 | 3,938 | |||||||||
Expenses:
|
||||||||||||
Rental
operating expenses
|
4,934 | 9,699 | 1,902 | |||||||||
Depreciation
and amortization
|
4,211 | 8,956 | 1,768 | |||||||||
Interest
|
3,967 | 7,905 | 1,374 | |||||||||
Total
expenses
|
13,112 | 26,560 | 5,044 | |||||||||
Net
loss
|
$ | (1,652 | ) | $ | (3,626 | ) | $ | (1,106 | ) | |||
Equity
in net income (loss)
|
||||||||||||
of
unconsolidated joint venture
|
$ | 163 | $ | 217 | $ | (26 | ) | |||||
|
(1)
|
The
revenue and expense for six months ended June 30, 2008 are the same as the
three months ended June 30, 2008. There is a $(3) difference in
the year to date equity pick-up due to the 10 days in March 2008 that are
included in the six month
calculation.
|
22
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
|
As
of
|
As
of
|
||||||
|
June
30, 2009
|
December
31, 2008
|
||||||
Investment
in real estate, net
|
$ | 330,681 | $ | 336,409 | ||||
Other
assets
|
59,118 | 61,591 | ||||||
Total
assets
|
$ | 389,799 | $ | 398,000 | ||||
Mortgage
and other collateralized loans
|
$ | 318,134 | $ | 314,324 | ||||
Other
liabilities
|
12,993 | 18,139 | ||||||
Total
liabilities
|
$ | 331,127 | $ | 332,463 | ||||
Investment
in unconsolidated joint ventures
|
$ | 10,376 | $ | 11,590 | ||||
23
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Acquisitions
of Unconsolidated Joint Ventures
On April
1, 2008, we and our joint venture partner in Seville Plaza entered into an
Amended Operating Agreement. Based on this amendment, which served to modify and
provide substantive participating rights to the non-managing member, we have
accounted for our 7.5% investment in Seville Plaza under the equity method of
accounting, pursuant to APB No. 18 and EITF 04-5. Prior to the date of such
amendment, we had consolidated our 7.5% investment in Seville Plaza pursuant to
EITF 04-5. The JV Basis Differential attributable to Seville Plaza upon the
Effective Date was $0.04 million.
In a
series of transactions occurring on April 30, 2008, May 30, 2008 and June 19,
2008, following exercise of an option granted to us by Venture and its
affiliates as part of the Transactions (the “Option”), we consummated the
acquisition, through the Operating Partnership, of a 32.167% managing ownership
interest in the POP San Diego I Joint Venture that owns a portfolio of seven
commercial office buildings totaling 181,664 rentable square feet located
throughout San Diego, California and Carlsbad, California. We acquired the
managing ownership interest pursuant to the Option and assumed the rights and
obligations of an affiliate of The Shidler Group (a “Shidler Affiliate”) under a
previously executed purchase and sale agreement. The acquisition price for our
managing ownership interest was approximately $2.6 million. This acquisition
price was funded by issuing 396,526 Common Units on April 30, 2008 which Common
Units were valued at $6.5589 per unit. We accounted for the issuance of our
Common Units in accordance with EITF No. 99-12. Upon acquisition, there was no
JV Basis Differential attributable to the POP San Diego I Joint Venture,
including with respect to the acquisitions consummated on May 30, 2008 and June
19, 2008.
On April
30, 2008, following the exercise of the Option, we consummated with certain
Shidler Affiliates the acquisition, through the Operating Partnership, of a
17.5% managing ownership interest in a joint venture that owns a commercial
office building totaling 221,784 rentable square feet located in Phoenix,
Arizona (the “Black Canyon Corporate Center”). The acquisition price for the
managing ownership interest in the Black Canyon Corporate Center was $1.0
million, payable in the form of a subordinated note issued by the Operating
Partnership to a Shidler Affiliate. The purchase price for the managing
ownership interest in the Black Canyon Corporate Center was approximately equal
to the Shidler Affiliates’ cost of investment in the Black Canyon Corporate
Center. The JV Basis Differential attributable to the Black Canyon Corporate
Center upon acquisition was $0.08 million.
On May
23, 2008, following the exercise of the Option, we consummated with certain
Shidler Affiliates the acquisition, through the Operating Partnership, of a 7.5%
managing ownership interest in a joint venture that owns a commercial office
building and a separate parking and retail complex totaling approximately
355,000 rentable square feet of office space and approximately 15,000 rentable
square feet of retail space, located in Phoenix, Arizona (the “US Bank Center”).
The acquisition price for the managing ownership interest in the US Bank Center
was $1.2 million, payable in the form of a subordinated note issued by the
Operating Partnership. The purchase price for the managing ownership interest in
the US Bank Center was approximately equal to the Shidler Affiliates’ cost of
investment in the US Bank Center. The JV Basis Differential attributable to the
US Bank Center upon acquisition was $0.89 million.
On May
23, 2008, following the exercise of the Option, we consummated with certain
Shidler Affiliates the acquisition, through the Operating Partnership, of a
17.5% managing ownership interest in a joint venture that owns a commercial
office building totaling 152,288 rentable square feet, located in Honolulu,
Hawaii (the “Bank of Hawaii Waikiki Center”; which was formerly known as
Kalakaua Business Center). The acquisition price for the managing ownership
interest in the Bank of Hawaii Waikiki Center was $0.79 million, payable in the
form of a subordinated note issued by the Operating Partnership. The purchase
price for the managing ownership interest in the Bank of Hawaii Waikiki Center
was approximately equal to the Shidler Affiliates’ cost of investment in the
Bank of Hawaii Waikiki Center. The JV Basis Differential attributable to the
Bank of Hawaii Waikiki Center upon acquisition was $(0.09) million.
On May
30, 2008, the POP San Diego I Joint Venture consummated with certain Shidler
Affiliates the acquisition of the managing ownership interest in the Scripps
Ranch Business Park. Pursuant to the terms of the Option, the POP San Diego I
Joint Venture assumed the rights and obligations of a Shidler Affiliate to
acquire the managing ownership interest in the Scripps Ranch Business Park for
approximately $2.8 million in cash, including customary closing costs, and the
assumption of approximately $5.3 million of existing mortgage
indebtedness.
24
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
On June
19, 2008, the POP San Diego I Joint Venture acquired two commercial office
buildings totaling approximately 81,000 rentable square feet located in San
Diego, California. Pursuant to the terms of the Option, the POP San Diego I
Joint Venture assumed the rights and obligations of a Shidler Affiliate, under
the respective purchase agreements. The acquisition price for such buildings was
approximately $19.2 million, including assumption of approximately $12.7 million
of mortgage debt and customary closing costs. The acquisition price was funded
by issuing 326,576 Common Units on June 19, 2008, which Common Units were valued
at $6.8107 per unit.
On August
14, 2008, following exercise of the Option, we consummated with certain Shidler
Affiliates the acquisition, through the Operating Partnership, of a 10% managing
ownership interest in a joint venture (the “SoCal II Joint Venture”) that owns a
portfolio of fifteen office and flex buildings totaling over 1,000,000 rentable
square feet, situated on seven properties in Los Angeles, Orange and San Diego
counties in Southern California. The acquisition price for the managing
ownership interest was approximately $4.2 million, payable in the form of a
subordinated note issued by the Operating Partnership to a Shidler Affiliate.
The purchase price for the managing ownership interest was approximately equal
to the Shidler Affiliates’ cost of investment in the SoCal II Joint Venture. The
JV Basis Differential attributable to the SoCal II Joint Venture upon
acquisition was $0.2 million.
We
account for our investments in joint ventures under the equity method of
accounting.
6.
|
Other Assets,
net
|
Other
assets, net consist of the following (in thousands):
|
||||||||
|
June
30, 2009
|
December 31,
2008
|
||||||
Deferred
loan fees, net of accumulated amortization of $1.4 million
|
||||||||
and
$0.8 million at June 30, 2009 and December 31, 2008,
|
||||||||
respectively
|
$ | 2,987 | $ | 3,447 | ||||
Prepaid
expenses
|
1,742 | 1,232 | ||||||
Other
|
351 | 1 | ||||||
Total
other assets, net
|
$ | 5,080 | $ | 4,680 | ||||
25
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
7. Accounts
Payable and Other Liabilities
Accounts
payable and other liabilities consist of the following (in
thousands):
|
|
|
||||||
|
June
30, 2009
|
December
31, 2008
|
||||||
Accounts
payable
|
$ | 889 | $ | 1,276 | ||||
Interest
payable
|
2,108 | 1,353 | ||||||
Deferred
revenue
|
1,950 | 1,278 | ||||||
Security
deposits
|
2,521 | 2,558 | ||||||
Deferred
straight-line ground rent
|
4,488 | 2,811 | ||||||
Related
party payable (Note 12 )
|
1,335 | 1,060 | ||||||
Accrued
expenses
|
7,810 | 6,281 | ||||||
Asset
retirement obligations
|
591 | 471 | ||||||
Total
accounts payable and other liabilities
|
$ | 21,692 | $ | 17,088 | ||||
8.
Mortgage and Other Collateralized Loans
A summary
of our mortgage and other collateralized loans, collateralized by real property
owned by us, at June 30, 2009 is as follows (in thousands):
PROPERTY
|
OUTSTANDING
PRINCIPAL BALANCE
|
UNAMORTIZED
PREMIUM (DISCOUNT)
|
NET
|
INTEREST
RATE AT JUNE 30, 2009
|
MATURITY
DATE
|
AMORTIZATION
|
||||||||||||
Clifford
Center
|
$ | 3,632 | $ | - | $ | 3,632 | 6.00 | % |
8/15/2011(a)
|
132
months
|
||||||||
Davies
Pacific
|
||||||||||||||||||
Center
|
95,000 | (992 | ) | 94,008 | 5.86 | % |
11/11/2016
|
Interest
Only
|
||||||||||
First
Insurance
|
||||||||||||||||||
Center
|
38,000 | (608 | ) | 37,392 | 5.74 | % |
1/1/2016
|
Interest
Only
|
||||||||||
First
Insurance
|
||||||||||||||||||
Center
|
14,000 | (226 | ) | 13,774 | 5.40 | % |
1/6/2016
|
Interest
Only
|
||||||||||
Pacific
|
||||||||||||||||||
Business
|
||||||||||||||||||
News
Building
|
11,726 | 37 | 11,763 | 6.98 | % |
4/6/2010
|
360
months
|
|||||||||||
Pan
Am
|
||||||||||||||||||
Building
|
60,000 | (39 | ) | 59,961 | 6.17 | % |
8/11/2016
|
Interest
Only
|
||||||||||
Waterfront
|
||||||||||||||||||
Plaza
|
100,000 | - | 100,000 | 6.37 | % |
9/11/2016
|
Interest
Only
|
|||||||||||
Waterfront
|
||||||||||||||||||
Plaza
|
11,000 | - | 11,000 | 6.37 | % |
9/11/2016
|
Interest
Only
|
|||||||||||
City
Square
|
27,500 | (153 | ) | 27,347 | 5.58 | % |
9/1/2010
|
Interest
Only
|
||||||||||
City
Square (b)
|
27,017 | - | 27,017 |
LIBOR
+ 2.35%
|
9/1/2010
|
Interest
Only
|
||||||||||||
Sorrento
|
||||||||||||||||||
Techonology
|
||||||||||||||||||
Center
|
11,800 | (190 | ) | 11,610 | 5.75 | % |
1/11/2016
|
Interest
Only
|
||||||||||
Subtotal
|
$ | 399,675 | $ | (2,171 | ) | $ | 397,504 |
|
|
|||||||||
Revolving
line of
|
||||||||||||||||||
credit
(c)
|
3,000 | - | 3,000 |
LIBOR
+3.50%
|
Current
|
Interest
Only
|
||||||||||||
Total
|
$ | 402,675 | $ | (2,171 | ) | $ | 400,504 | |||||||||||
26
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
____________
(a)
|
The
terms of the Clifford Center note payable provide the Company with the
option to extend the maturity date to August 15, 2014 subject to a nominal
fee, which the Company expects to
exercise.
|
(b)
|
The
City Square note payable with an outstanding balance of $27.0 million at
June 30, 2009 has an additional $1.5 million available to be drawn. In
addition, the Company has an interest rate cap on this loan for the
notional amount of $28.5 million, which effectively limits the LIBOR rate
on this loan to 7.45%. The interest rate cap expires on September 1, 2010,
commensurate with the maturity date of this note
payable.
|
(c)
|
The
revolving line of credit matures on August 25, 2010, but may be extended
to February 25, 2011, subject to the satisfaction of certain conditions,
absent an Event of Default. See “Revolving Line of Credit”
below.
|
The
lenders’ collateral for notes payable, with the exception of the Clifford Center
note payable, is the property and, in some instances, cash reserve accounts,
ownership interests in the underlying entity owning the real property, leasehold
interests in certain ground leases, rights under certain service agreements, and
letters of credit posted by certain related parties of the Company. The lenders’
collateral for the Clifford Center note payable is the leasehold property as
well as guarantees from affiliates of the Company.
The
scheduled maturities for our mortgages and other collateralized loans for the
periods succeeding June 30, 2009 are as follows (in thousands):
|
||||
July
1, 2009 to December 31, 2009
|
$ |
204
|
||
2010
|
69,445
|
|||
2011
|
3,226
|
|||
2012
|
-
|
|||
2013
|
-
|
|||
Thereafter
|
329,800
|
|||
Total
|
$ |
402,675
|
||
Revolving
Line of Credit
We
entered into a Credit Agreement dated as of August 25, 2008 (the “Credit
Facility”) with KeyBank National Association (“KeyBank”) and KeyBanc Capital
Markets. The Credit Facility initially provided up to $40.0 million, available
for borrowing on a revolving basis by us, subject to the satisfaction of certain
conditions. As of June 30, 2009 the Company had outstanding borrowings of $3.0
million under the Credit Facility.
The
Credit Facility matures on August 25, 2010, but may be extended to February 25,
2011 at our election, subject to certain conditions, absent an Event of Default.
The Credit Facility is collateralized by certain interests in real estate of the
Operating Partnership and is guaranteed by a wholly owned subsidiary of the
Operating Partnership owning an interest in a commercial office property,
certain affiliates of The Shidler Group and the Company. In addition,
obligations of the Company and the Operating Partnership to the Advisor, and
certain related parties of The Shidler Group, and other related party
obligations, have been subordinated to obligations under the Credit
Facility.
The
Credit Facility contains customary financial and other covenants, including
covenants as to maximum leverage ratio, fixed charge coverage and minimum
consolidated tangible net worth, and other customary terms and
conditions.
27
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Absent an
Event of Default, amounts borrowed under the Credit Facility bear interest at
the 30-day LIBOR plus 3.5% or at KeyBank’s prime rate plus 2.25%, at our
election. As of June 30, 2009, we had elected the LIBOR-based rate,
which would subject our outstanding borrowings to an interest rate of 3.82% per
annum at that date. However, on May 29, 2009, we received a
Notice of Default from KeyBank that an Event of Default existed under the Credit
Facility agreement. As asserted, the Event of Default related to the calculation
of a financial covenant required under the Credit Facility, including our
delivery of related certificates and statements, for the fiscal quarter ended
March 31, 2009. During the continuance of the asserted Event of
Default, no additional borrowings are available to us under the Credit Facility,
and the outstanding borrowings under the Credit Facility will bear interest at
7.25%, based on KeyBank’s prime rate plus 4.0%. In addition, during the
continuance of the asserted Event of Default, KeyBank would have the right, but
has not yet indicated any intention, to accelerate our payment obligations with
respect to the outstanding borrowings under the Credit Facility. Subsequent to
our receipt of the Notice of Default, we have had, and expect to continue to
have, discussions with KeyBank regarding the assertions made by KeyBank in its
Notice of Default. While we can offer no assurances as to how these discussions
will be resolved, we do not agree with the assertion made by KeyBank and do not
believe that an Event of Default exists, or that the penalty interest rate
applies, under the terms of the Credit Facility.
9.
Unsecured Notes Payable to Related Parties
At June
30, 2009, we had promissory notes payable by the Operating Partnership to
certain affiliates of The Shidler Group in the aggregate principal amount of
$23.8 million. The promissory notes accrue interest at a rate of 7% per annum,
with interest payable quarterly, subject to the Operating Partnership’s right to
defer the payment of interest for any or all periods up until the date of
maturity. The promissory notes mature on various dates commencing on March 19,
2013 through August 31, 2013, but the Operating Partnership may elect to extend
maturity for one additional year. Maturity accelerates upon the occurrence of a)
a qualified public offering, as defined under the Master Agreement; b) the sale
of substantially all the assets of the Company; or c) the merger of the Company
with another entity. The promissory notes are unsecured obligations of the
Operating Partnership.
For the
period from March 20, 2008 through June 30, 2009, interest payments on unsecured
notes payable to related parties of The Shidler Group have been deferred. At
June 30, 2009 and at December 31, 2008, $2.1 million and $1.2 million,
respectively, of accrued interest attributable to unsecured notes payable to
related parties is included in accounts payable and other liabilities in the
accompanying condensed combined consolidated balance sheets.
10.
Commitments and Contingencies
Minimum
Future Ground Rents
The
Clifford Center property ground lease expires May 31, 2035. The annual rental
obligation is a combination of a base rent amount plus 3% of base rental income
from tenants. On June 1, 2016 and 2026, the annual rental obligation will reset
to an amount equal to 6% of the fair market value of the land. However, the
ground rent cannot be less than the rent for the prior period. For the period
prior to June 1, 2016, only the base rent component is included in the minimum
future payments. For the periods succeeding May 31, 2016, we estimated the
annual minimum future rental payments to be an amount equal to the rent paid for
the immediately preceding 12-month period.
The
Waterfront Plaza ground lease expires December 31, 2060. The annual rental
obligation has fixed increases at 5-year intervals until it resets on January 1,
2036, 2041, 2046, 2051, and 2056 to an amount equal to 8.0% of the fair market
value of the land. However, the ground lease rent cannot be less than the rent
for the prior period. For the periods succeeding December 31, 2035, we estimated
the annual minimum future rental payments to be an amount equal to the rent paid
for the immediately preceding 12-month period.
Contingencies
From time
to time, we may be subject to various legal proceedings and claims that arise in
the ordinary course of business. These matters are generally covered by
insurance, subject to deductibles and other customary limitations on recoveries.
We believe that the ultimate settlement of these actions will not have a
material adverse effect on our consolidated financial position and results of
operations or cash flows.
28
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Concentration
of Credit Risk
Our
operating properties are located in Honolulu, San Diego, Los Angeles, Orange
County and Phoenix. The ability of the tenants to honor the terms of their
respective leases is dependent upon the economic, regulatory and social factors
affecting the markets in which the tenants operate. No single tenant accounts
for 10% or more of our total annualized base rents. We perform
ongoing credit evaluations of our tenants for potential credit
losses.
Financial
instruments that subject us to credit risk consist primarily of cash, accounts
receivable, deferred rents receivable and an interest rate contract. We maintain
our cash and cash equivalents and restricted cash on deposit with what
management believes are relatively stable financial institutions. Accounts at
each institution are insured by the Federal Deposit Insurance Corporation up to
the maximum amount; and, to date, we have not experienced any losses on our
invested cash. Restricted cash held by lenders is held by those lenders in
accounts maintained at major financial institutions.
Conditional
Asset Retirement Obligations
We follow
FASB Interpretation No. 47, Accounting for Conditional
Asset Retirement
Obligations—an interpretation of FASB Statement No. 143 (“FIN 47”) and
SFAS No. 143, Accounting for
Asset Retirement Obligations. FIN 47 clarifies that the term “conditional
asset retirement obligation”, as used in SFAS No. 143, represents a legal
obligation to perform an asset retirement activity in which the timing and/or
method of settlement is conditional on a future event that may or may not be
within a company’s control. Under this standard, a liability for a conditional
asset retirement obligation must be recorded when the fair value of the
obligation can be reasonably estimated. FIN 47 was effective for fiscal years
ending after December 15, 2005. Depending on the age of the construction,
certain properties in our portfolio may contain non-friable asbestos. If these
properties undergo major renovations or are demolished, certain environmental
regulations are in place, which specify the manner in which the asbestos, if
present, must be handled and disposed. Based on our evaluation of the physical
condition and attributes of certain of our properties acquired in the
Transactions, we recorded conditional asset retirement obligations related to
asbestos removal. As of June 30, 2009 and December 31, 2008, the liability in
our condensed combined consolidated balance sheets for conditional asset
retirement obligations was $0.3 million for both periods. The accretion expense
was $0.01 and $0.02 million for the three and six months ended June 30, 2009. No
accretion was recorded for the three and six months ended June 30,
2008.
Clifford Center Ground
Lease
We are
subject to a surrender clause under the Clifford Center property ground lease
that provides the lessor with the right to require us, at our own expense, to
raze and remove all improvements from the leased land if we have not complied
with certain other provisions of the ground lease. These provisions require us
to: (1) only make significant improvements or alterations to the building under
the supervision of a licensed architect and/or structural engineer with lessor’s
written approval; (2) comply with the Americans with Disabilities Act of 1990;
and (3) comply with all federal, state, and local laws regarding the handling
and use of hazardous materials. The requirement to remove the improvements is
contingent, first, on our failure to comply with the terms of the lease and,
second, upon the cost of compliance with the lease exceeding the estimated value
of the improvements. To our knowledge, we are in substantial compliance with the
Americans with Disabilities Act of 1990, all work is supervised by licensed
professionals, and we are not aware of any violations of laws regarding the
handling or use of hazardous materials at the Clifford Center property. If we
fail to satisfy any of these requirements in the future, the obligation is
subject to the lessor’s decision to require the improvements to be removed. We
believe that it is improbable that there will ever be an obligation to retire
the Clifford Center improvements pursuant to this provision.
Waterfront Plaza Ground
Lease
We are
subject to a surrender clause under the Waterfront Plaza ground lease that
provides the lessor with the right to require us, at our own expense, to raze
and remove all improvements from the leased land, contingent on the lessor’s
decision at the time the ground lease expires on December 31, 2060. Accordingly,
as of June 30, 2009 and December 31, 2008, the liability in our condensed
combined consolidated balance sheets for this asset retirement obligation was
$0.3 million for both periods. The accretion expense was not significant for the
three and six months ended June 30, 2009. No accretion was recorded for the
three and six months ended June 30, 2008.
29
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Restaurant Row Theatre Venture Lease
Termination
We
entered into a Termination of Lease Agreement on October 29, 2007 with a tenant
that has been leasing 21,541 square feet at the Waterfront Property under a long
term lease since 1993, at rates that we believe are currently below market
rates. The total termination fee to be paid to the tenant under the Termination
of Lease Agreement is $2.5 million, $0.3 million of which we deposited in escrow
upon executing the Termination of Lease Agreement. The remaining
balance due at termination of $2.2 million has been included in accounts payable
and other liabilities on the accompanying condensed combined consolidated
balance sheets at June 30, 2009 and December 31, 2008. On July 13, 2009, we
exercised our option to terminate the lease and paid the balance of the lease
termination fee into escrow. The tenant is required to vacate the space no
later than August 9, 2009, at which point the lease termination fee will be paid
to the tenant.
Purchase
Commitments
We are
required by certain leases and loan agreements to complete tenant and building
improvements. As of June 30, 2009, this amount is projected to be $7.2 million,
of which $1.4 million will be funded through reserves currently classified as
restricted cash. We anticipate that our reserves, as well as other
sources of liquidity, including existing cash on hand, our cash flows from
operations, financing and investing activities will be sufficient to fund our
capital expenditures.
Tax
Protection Arrangements
The
Contributed Properties are subject to certain sale restrictions for ten years
after the Effective Date. In the event we decide to sell a Contributed Property
that would not provide continued tax deferral to Venture, we are required to
notify Venture and to cooperate with it in considering strategies to defer or
mitigate the recognition of gain under the Code by any of the equity interest
holders of the recipient of the Operating Partnership units.
11. Description of Equity Securities
and Calculation of Non-controlling Interests and Earnings per
Share
The
partnership interests of the Operating Partnership are divided into (i) the
general partnership interest and (ii) the limited partnership interests,
consisting of Common Units and Preferred Units. The general partnership interest
may be expressed as a number of Common Units, Preferred Units or any other
Operating Partnership unit. The general partnership interest is denominated as a
number of Common Units equal to the number of shares of common stock outstanding
as of the Effective Date and after considering sales of shares that
day.
Each
Preferred Unit is convertible into 7.1717 Common Units, but no earlier than the
later of (i) March 19, 2010, and (ii) the date we consummate an underwritten
public offering (of at least $75 million) of our common stock. Upon conversion
of the Preferred Units to Common Units, the Common Units are exchangeable on a
one-for-one basis for shares of our common stock, but no earlier than one year
after the date of their conversion from Preferred Units to Common Units. The
Preferred Units have fixed rights to annual distributions at an annual rate of
2% of their liquidation preference of $25 per Preferred Unit and priority over
Common Units in the event of a liquidation of the Operating Partnership. At June
30, 2009, the cumulative unpaid distributions attributable to Preferred Units
were $0.6 million.
The
contractual terms and provisions of the Preferred Units include a BCF because
they provide the holders with a security whose market price was in excess of the
carrying value of the corresponding Common Units at the date of their issuance,
March 19, 2008. The aggregate market price attributable to the Preferred Units
is $223.3 million, based on a market price per share of the Company’s common
stock of $6.85 relative to 32,597,528 common unit equivalents attributable to
the 4,545,300 Preferred Units that were issued and are outstanding. The
aggregate carrying value of Preferred Units was $70.4 million as of the date of
their issuance. The aggregate amount of the unrecorded BCF at June 30, 2009 was
$62.1 million. The aggregate amount of the BCF will be recognized by the UPREIT
upon the consummation of an underwritten public offering (of at least $75
million) of our common stock resulting in a increase in the carrying amount of
non-controlling interests, and a corresponding decrease in retained deficit, in
our condensed combined consolidated balance sheets. In addition, the BCF will be
accreted by the UPREIT through the period ending on the earliest occurrence of
either (i) the date we consummate an underwritten public offering (of at least
$75 million) of our common stock or (ii) March 19, 2010. The accretion of the
BCF is expected to result in an increase in the carrying amount of our
non-controlling interests and a corresponding decrease to our retained deficit
in our condensed combined consolidated balance sheets, resulting in no net
impact to our consolidated financial position or consolidated net income or
loss.
30
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Common
Units and Preferred Units of the Operating Partnership do not have any right to
vote on any matters presented to our stockholders. However, Venture, as the
initial holder of these units, has the contractual right to require the Advisor
to vote the Proportionate Voting Preferred Stock as directed by Venture. The
Proportionate Voting Preferred Stock has no dividend rights and minimal rights
to distributions in the event of liquidation. The Proportionate Voting Preferred
Stock entitles the Advisor to vote on all matters for which the common
stockholders are entitled to vote. The number of votes that the Advisor is
entitled to cast at the direction of Venture, as the Operating Partnership unit
holder, equals the total number of common shares issuable upon exchange of the
Common Units and Preferred Units issued in connection with the Transactions.
This number will decrease to the extent that these Operating Partnership units
are exchanged for shares of common stock in the future. The number will not
increase in the event of future unit issuances by the Operating
Partnership.
Our
common stock and Class B Common Stock are identical in all respects, except that
in the event of liquidation the Class B Common Stock will not be entitled to any
portion of our net assets, which will be allocated and distributed to the
holders of the common stock. Shares of our common stock and Class B Common Stock
vote together as a single class and each share is entitled to one vote on each
matter to be voted upon by our stockholders. Dividends on the common stock and
Class B Common Stock are payable at the discretion of our Board of
Directors.
Non-controlling
interests include the interests in the Operating Partnership that are not owned
by us, which amounted to 82.5% of the Common Units and all of the Preferred
Units outstanding as of June 30, 2009. During the three and six
months ended June 30, 2009, no Operating Partnership units were redeemed or
issued. As of June 30, 2009, 46,896,795 shares of our common stock were reserved
for issuance upon conversion of outstanding Operating Partnership
units.
We
present both basic and diluted earnings per share. Basic EPS is computed by
dividing net loss available to common stockholders by the weighted average
number of common shares outstanding during each period. Diluted EPS is computed
by dividing net loss available to common stockholders for the period by the
number of common shares that would have been outstanding assuming the issuance
of common shares for all potentially dilutive common shares outstanding during
each period. Net income or loss in the Operating Partnership is allocated in
accordance with the Partnership Agreement among our general partner and limited
partner Common Unit holders in accordance with their ownership percentages in
the Operating Partnership of 17.49% and 82.51%, respectively, after taking into
consideration the priority distributions allocated to the limited partner
preferred unit holders in the Operating Partnership.
Upon
adoption of FAS 160, previously reported noncontrolling interests have been
restated as the Common Units have been measured at redemption
value. A reconciliation between the amounts previously reported and
their current measurements at December 31, 2008 is shown below (there was no
impact on December 31, 2007 presentation):
Non-Controlling
|
Additional
Paid-in
|
Retained
|
||||||||||
Interests
|
Capital
|
Deficit
|
||||||||||
Balance
at December 31, 2008, as previously reported
|
$ | 75,823 | $ | 8,144 | $ | (7,044 | ) | |||||
Reversal
of cumulative prior rebalancing adjustments
|
(3,945 | ) | 3,945 | - | ||||||||
Balances
at December 31, 2008, as previously adjusted
|
71,878 | 12,089 | (7,044 | ) | ||||||||
Reinstatement
of cumulative prior rebalancing adjustments
|
3,945 | (3,945 | ) | - | ||||||||
Fair
value measurement of Common Units
|
57,427 | (8,144 | ) | (49,283 | ) | |||||||
Balances
at December 31, 2008, as restated
|
133,250 | - | (56,327 | ) |
31
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
The
changes in total equity and noncontrolling interests for the period from
December 31, 2008 to June 30, 2009 are shown below (in thousands):
Pacific
Office Properties Trust, Inc.
|
Non-controlling
interests
|
Total
|
||||||||||
Balance
at December 31, 2008
|
$ | (56,142 | ) | $ | 133,250 | $ | 77,108 | |||||
Net
loss
|
(2,172 | ) | (9,121 | ) | (11,293 | ) | ||||||
Stock
compensation
|
89 | - | 89 | |||||||||
Basis
adjustment
|
309 | (309 | ) | - | ||||||||
Fair
value measurement of Common Units
|
(557 | ) | 557 | - | ||||||||
Dividends
and distributions
|
(307 | ) | (2,567 | ) | (2,874 | ) | ||||||
Balance
at June 30, 2009
|
$ | (58,780 | ) | $ | 121,810 | $ | 63,030 |
Loss
per Share/Loss per Unit
The
following is the basic and diluted loss per share/unit (in thousands, except
share/unit and per share/unit amounts):
For
the three months ended
|
||||||||
June
30, 2009
|
June
30, 2008
|
|||||||
Net
loss attributable to common
|
||||||||
share/unit
holders - basic and diluted (1)
|
$ | (1,116 | ) | $ | (1,374 | ) | ||
Weighted
average number of common shares
|
3,034,122 | 3,031,125 | ||||||
Potentially
dilutive common shares (2)
|
||||||||
Restricted
Stock Units (RSU)
|
— | — | ||||||
Weighted
average number of common
|
||||||||
shares/units
outstanding — basic and diluted
|
3,034,122 | 3,031,125 | ||||||
Net
loss per share — basic and diluted
|
$ | (0.37 | ) | $ | (0.45 | ) | ||
32
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
|
Pacific
Office Properties Trust, Inc.
|
Total
|
Pacific
Office Properties Trust, Inc.
|
Waterfront
|
||||||||||||
For
the six months ended June 30, 2009
|
For
the period from January 1, 2008 through June 30, 2008
|
For
the period from March 20, 2008 through June 30, 2008
|
For
the period from January 1, 2008 through March 19, 2008
|
|||||||||||||
Net
loss attributable to common
|
||||||||||||||||
share/unit
holders - basic and diluted (1)
|
$ | (2,172 | ) | $ | (5,940 | ) | $ | (4,476 | ) | $ | (1,464 | ) | ||||
Weighted
average number of common shares
|
3,032,632 | 3,031,125 | ||||||||||||||
Potentially
dilutive common shares (2)
|
||||||||||||||||
Restricted
Stock Units (RSU)
|
— | — | ||||||||||||||
Weighted
average number of common
|
||||||||||||||||
shares/units
outstanding — basic and diluted
|
3,032,632 | 3,031,125 | ||||||||||||||
Net
loss per share — basic and diluted
|
$ | (0.72 | ) | $ | (1.48 | ) | ||||||||||
Weighted
average number of units
|
||||||||||||||||
outstanding —
basic and diluted
|
3,494,624 | |||||||||||||||
Net
loss per unit — basic and diluted(3)
|
$ | (0.42 | ) | |||||||||||||
_________________________
Notes:
(1)
|
For
the three and six months ended June 30, 2009, net loss attributable to
common stockholders includes $0.56 million and $1.1 million of priority
allocation to preferred unit holders, respectively, which is included in
non-controlling interests in the condensed combined consolidated
statements of operations. For the three months ended June 30,
2008 and the period from March 20, 2008 through June 30, 2008, net loss
attributable to common stockholders includes $0.6 million and $0.6 million
of priority allocation to preferred unit holders, respectively, which is
included in non-controlling interests in the condensed combined
consolidated statements of operations. For the period from January 1, 2008
through March 19, 2008, net loss attributable to common stockholders
included $0.11 million of priority allocation to preferred unit
holders.
|
(2)
|
For
the three and six months ended June 30, 2009, the potentially dilutive
effect of 52,630 restricted stock units were not included in the net loss
per share calculation as their effect is anti-dilutive. For the three and
six months ended June 30, 2008, the potentially dilutive effect of 24,240
restricted stock units were not included in the net loss per share
calculation as their effect is
anti-dilutive.
|
(3)
|
We
computed net loss per Common Unit for the period prior to the Transactions
by increasing the historical net loss of Waterfront by the 2% cumulative
distributions payable on the Preferred Units received by the former owners
of Waterfront and dividing that total by the weighted average number of
Common Units received by the former owners of Waterfront. We did not
include the dilution impact of Preferred Units because the units are
contingently convertible and the probability that the contingency will be
satisfied is currently not
determinable.
|
Dividends
and Distributions
On May
12, 2009, our Board of Directors declared a cash dividend of $0.05 per share of
our common stock for the second quarter of 2009. The dividend was paid on July
15, 2009 to holders of record of common stock on June 30, 2009. Commensurate
with our declaration of a quarterly cash dividend, we paid distributions to
holders of record of Common Units at June 30, 2009 in the amount of $0.05 per
Common Unit, on July 15 2009. In addition, we paid 2% distributions, or $.125
per unit, to holders of record of Preferred Units at June 30, 2009, on July 15,
2009.
33
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
Amounts
accumulated for distribution to stockholders and UPREIT unit holders are
invested primarily in interest-bearing accounts which are consistent with our
intention to maintain our qualification as a REIT. At June 30, 2009, the
cumulative unpaid distributions attributable to Preferred Units were $0.57
million, which were paid on July 15, 2009.
On March
3, 2009, our Board of Directors declared a cash dividend of $0.05 per share of
our common stock for the first quarter of 2009. The dividend was paid on April
15, 2009 to holders of record of common stock on March 31, 2009. Commensurate
with our declaration of a quarterly cash dividend, we paid distributions to
holders of record of Common Units at March 31, 2009 in the amount of $0.05 per
Common Unit, on April 15, 2009. In addition, we paid 2% distributions, or $.125
per unit, to holders of record of Preferred Units at March 31, 2009, which were
paid on April 15, 2009.
Dividends
declared are included in retained deficit in the accompanying condensed combined
consolidated balance sheets. Distributions on Common and Preferred Units are
included in non-controlling interests in the accompanying condensed combined
consolidated balance sheets.
12.
Related Party Transactions
We are
externally advised by the Advisor, an entity owned and controlled by our
founder, The Shidler Group. The Advisor manages, operates and administers the
Company’s day-to-day operations, business and affairs pursuant to the Advisory
Agreement. The Advisor is entitled to an annual corporate management fee of one
tenth of one percent (0.1%) of the gross cost basis of our total property
portfolio (less accumulated depreciation and amortization), but in no event less
than $1.5 million per annum. The corporate management fee is subject to
reduction of up to $750,000 based upon the amounts of certain direct costs that
we bear. Additionally, the Advisor and its affiliates are entitled to receive
real property management fees of 2.5% to 4.5% of the rental cash receipts
collected by the properties, as well as property transaction management fees in
an amount equal to 1% of the contract price of any acquired or disposed
property, provided, however, that such real property management fees and
property transaction management fees must be consistent with prevailing market
rates for similar services provided on an arms-length basis in the area in which
the subject property is located. Pursuant to the Advisory Agreement, the Advisor
shall bear the cost for any expenses incurred by the Advisor in the course of
performing its advisory services for the Company.
The
Advisor is also entitled to certain fees related to any placement of debt or
equity that we may undertake, including (i) 0.50% of the total amount of
co-investment equity capital procured, (ii) 0.50% of the total gross offering
proceeds including, but not limited to, the issuance or placement of equity
securities and the issuance of Operating Partnership units, and (iii) 0.50% of
the principal amount of any new indebtedness related to properties that we
wholly own, and on properties owned in a joint venture with co-investment
partners or entity-level financings, as well as on amounts available on our
credit facilities and on the principal amount of indebtedness we may
issue.
The
Advisory Agreement terminates on March 19, 2018. Prior to that date, however, we
retain the right to terminate the Advisory Agreement upon 30 days prior written
notice. In the event we decide to terminate the Advisory Agreement in order to
internalize management and become self-managed, we would be obligated to pay the
Advisor an internalization fee equal to $1.0 million, plus certain accrued and
unreimbursed expenses. Further, the Advisor retains the right to terminate the
Advisory Agreement upon 30 days prior written notice in the event we default in
the performance or observance of any material provision of the Advisory
Agreement.
During
the three and six months ended June 30, 2009, we incurred $0.2 million, net and
$0.4 million, net, respectively, in corporate management fees attributable to
the Advisor which have been included in general and administrative expenses in
the accompanying condensed combined consolidated statements of operations.
During the three and six months ended June 30, 2008, we incurred $0.2 million,
net, respectively, in corporate management fees attributable to the
Advisor. Other than as indicated below, no other amounts were
incurred under the Advisory Agreement during the three and six months ended June
30, 2009. Included in accounts payable and other liabilities in our condensed
combined consolidated balance sheets at June 30, 2009 and December 31, 2008,
were $1.3 million and $1.1 million, respectively, of amounts payable to related
parties of The Shidler Group which primarily consist of rental revenues received
by us subsequent to the date of the formation transactions, but that related to
the Contributed Properties prior to the date of the formation
transactions.
34
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
We and
Waterfront paid amounts to certain related entities of The Shidler Group for
services provided relating to leasing, property management and property
acquisition underwriting, and property financing. The fees paid are summarized
in the table below for the indicated periods (in thousands):
|
For
the three months ended June 30, 2009
|
For
the three months ended June 30, 2008
|
For
the six months ended June 30, 2009
|
For
the six months ended June 30, 2008
|
||||||||||||
Property
management fees
|
||||||||||||||||
to
affiliates of Advisor
|
$ | 944 | $ | 805 | $ | 1,780 | $ | 1,113 | ||||||||
Leasing
commissions
|
100 | 63 | 159 | 187 | ||||||||||||
Corporate
management fees to Advisor
|
187 | 188 | 375 | 188 | ||||||||||||
Interest
|
443 | 27 | 880 | 27 | ||||||||||||
Construction
management fees
|
||||||||||||||||
and
other
|
28 | 20 | 34 | 24 | ||||||||||||
Total
|
$ | 1,702 | $ | 1,103 | $ | 3,228 | $ | 1,539 | ||||||||
Leasing
commissions are capitalized as deferred leasing costs and included in
“Intangible assets, net” in the accompanying condensed combined consolidated
balance sheets. These costs are amortized over the life of the related
lease.
Property
management fees are calculated as a percentage of the rental cash receipts
collected by the properties plus the payroll costs of on-site employees and are
included in “Rental property operating” expenses in the accompanying condensed
combined consolidated statements of operations.
Property
financing fees paid to the Advisor are capitalized and included as other assets
in the accompanying condensed combined consolidated balance sheets. These costs
are amortized over the term of the related loan.
We lease
commercial office space to affiliated entities. The annual rents from these
leases totaled $0.2 million and $0.3 million for the three and six months ended
June 30, 2009. We received $0.2 million from these leases for the
three and six months ended June 30, 2008, respectively.
During
2008, following exercise of the Option, we consummated the acquisition of
managing ownership interests in five joint ventures. Additionally, we and our
joint venture partner in Seville Plaza entered into an Amended Operating
Agreement, which caused the method of accounting to change to the equity method.
Please see Note 5 for further discussion on our acquisitions of unconsolidated
joint ventures.
At June
30, 2009, $2.1 million of accrued interest attributable to unsecured notes
payable to related parties is included in accounts payable and other liabilities
in the accompanying condensed combined consolidated balance sheets. See Note 9
for a detailed discussion on these notes payable.
13.
Share-Based Payments
On May
21, 2008, the Board of Directors of the Company adopted the 2008 Directors’
Stock Plan, as amended and restated (the “2008 Directors’ Plan”), subject to
stockholder approval. The Company reserved 150,000 shares of the Company’s
common stock under the 2008 Directors’ Plan for the issuance of stock options,
restricted stock awards, stock appreciation rights and performance awards. The
2008 Directors’ Plan was approved by our shareholders at our annual meeting of
stockholders on May 12, 2009.
35
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
On May
21, 2008, the Company issued restricted stock awards representing 24,240 shares
under the 2008 Directors’ Plan, which awards vested on the date of the Company’s
2009 annual meeting. The grant date fair value of each restricted stock unit was
$6.60, which was the closing stock price on May 21, 2008. On June 19, 2009, the
Company issued a restricted stock award representing 6,060 shares under the 2008
Directors’ Plan, which vested immediately upon issuance. The grant date fair
value of each restricted stock unit was $3.80, which was the closing stock price
on June 19, 2009. Accordingly, as required by SFAS No. 123(R), the Company
recognized $0.05 million and $0.09 million of compensation expense attributable
to the 2008 Directors’ Plan during the three and six months ended June 30, 2009,
respectively. These amounts are included in general and administrative expenses
in the accompanying condensed combined consolidated statement of operations for
the three and six months ended June 30, 2009. As of June 30, 2009, all of our
share-based payments to directors in 2008 are vested.
On June
19, 2009, the Company issued restricted stock units representing 52,630 shares
under the 2008 Directors’ Plan, which awards vest on the date of the Company’s
2010 annual meeting. The grant date fair value of each restricted
stock unit was $3.80, which was the Company’s closing stock price on June 19,
2009.
Upon the
Effective Date and in connection with the Transactions, certain employees and
officers of the Advisor and the Company were granted fully vested indirect
ownership interests in the Operating Partnership with an estimated fair value
upon the Effective Date of $16.2 million. Accordingly, the Company recognized a
one-time non-cash compensation charge in the amount of $16.2 million for the
period from March 20, 2008 through June 30, 2008. This amount has been included
in the condensed combined consolidated statements of operations for the period
from March 20, 2008 through June 30, 2008.
14.
Segment Reporting
SFAS No.
131 established standards for disclosure about operating segments and related
disclosures about products and services, geographic areas and major customers.
Segment information is prepared on the same basis that our management reviews
information for operational decision making purposes. We own and operate office
properties, concentrating initially on the long-term growth submarkets of
Honolulu and the western United States, including Southern California and the
greater Phoenix metropolitan area. We are aggregating our operations by
geographic region into two reportable segments (Honolulu and the Western United
States mainland) based on the similar economic characteristics of the properties
located in each of these regions. The products at all our properties include
primarily rental of office space and other tenant services, including parking
and storage space rental.
36
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
The
following tables summarize the statements of operations by region of our
wholly-owned consolidated properties for the three and six months ended June 30,
2009 and 2008 (in thousands):
For
the three months ended June 30, 2009
|
||||||||||||||||
|
Honolulu
|
Western
U.S.
|
Corporate
|
Total
|
||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 7,393 | $ | 3,211 | $ | 3 | $ | 10,607 | ||||||||
Tenant
reimbursements
|
4,983 | 316 | — | 5,299 | ||||||||||||
Parking
|
1,770 | 241 | — | 2,011 | ||||||||||||
Other
|
38 | 14 | 50 | 102 | ||||||||||||
Total
revenue
|
14,184 | 3,782 | 53 | 18,019 | ||||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
7,764 | 1,896 | — | 9,660 | ||||||||||||
General
and administrative
|
— | — | 497 | 497 | ||||||||||||
Depreciation
and amortization
|
5,138 | 1,892 | — | 7,030 | ||||||||||||
Interest
|
5,286 | 843 | 677 | 6,806 | ||||||||||||
Total
expenses
|
18,188 | 4,631 | 1,174 | 23,993 | ||||||||||||
Loss
before equity in net earnings of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
$ | (4,004 | ) | $ | (849 | ) | $ | (1,121 | ) | $ | (5,974 | ) | ||||
Equity
in net earnings of unconsolidated joint ventures
|
163 | |||||||||||||||
Non-operating
income
|
1 | |||||||||||||||
Net
loss attributable to non-controlling interests
|
4,694 | |||||||||||||||
Net
loss attributable to common stockholders
|
$ | (1,116 | ) | |||||||||||||
For
the six months ended June 30, 2009
|
||||||||||||||||
|
Honolulu
|
Western
U.S.
|
Corporate
|
Total
|
||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 14,989 | $ | 6,517 | $ | 7 | $ | 21,513 | ||||||||
Tenant
reimbursements
|
10,418 | 603 | — | 11,021 | ||||||||||||
Parking
|
3,577 | 491 | — | 4,068 | ||||||||||||
Other
|
63 | 24 | 100 | 187 | ||||||||||||
Total
revenue
|
29,047 | 7,635 | 107 | 36,789 | ||||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
15,629 | 3,946 | — | 19,575 | ||||||||||||
General
and administrative
|
— | — | 1,646 | 1,646 | ||||||||||||
Depreciation
and amortization
|
9,736 | 3,821 | — | 13,557 | ||||||||||||
Interest
|
10,516 | 1,679 | 1,330 | 13,525 | ||||||||||||
Total
expenses
|
35,881 | 9,446 | 2,976 | 48,303 | ||||||||||||
Loss
before equity in net earnings of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
$ | (6,834 | ) | $ | (1,811 | ) | $ | (2,869 | ) | $ | (11,514 | ) | ||||
Equity
in net earnings of unconsolidated joint ventures
|
217 | |||||||||||||||
Non-operating
income
|
4 | |||||||||||||||
Net
loss attributable to non-controlling interests
|
9,121 | |||||||||||||||
Net
loss attributable to common stockholders
|
$ | (2,172 | ) |
37
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
For
the three months ended June 30, 2008
|
||||||||||||||||
|
Honolulu
|
Western
U.S.
|
Corporate
|
Total
|
||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 7,613 | $ | 3,473 | $ | 4 | $ | 11,090 | ||||||||
Tenant
reimbursements
|
4,650 | 325 | — | 4,975 | ||||||||||||
Parking
|
1,782 | 266 | — | 2,048 | ||||||||||||
Other
|
28 | 52 | 61 | 141 | ||||||||||||
Total
revenue
|
14,073 | 4,116 | 65 | 18,254 | ||||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
8,450 | 2,055 | — | 10,505 | ||||||||||||
General
and administrative
|
— | 5 | 1,115 | 1,120 | ||||||||||||
Depreciation
and amortization
|
4,763 | 2,293 | — | 7,056 | ||||||||||||
Interest
|
5,335 | 1,000 | 318 | 6,653 | ||||||||||||
Total
expenses
|
18,548 | 5,353 | 1,433 | 25,334 | ||||||||||||
Loss
before equity in net earnings of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
$ | (4,475 | ) | $ | (1,237 | ) | $ | (1,368 | ) | $ | (7,080 | ) | ||||
Equity
in net earnings of unconsolidated joint ventures
|
(26 | ) | ||||||||||||||
Net
loss attributable to non-controlling interests
|
5,732 | |||||||||||||||
Net
loss attributable to common stockholders
|
$ | (1,374 | ) | |||||||||||||
For
the six months ended June 30, 2008
|
||||||||||||||||
|
Honolulu
|
Western
U.S.
|
Corporate
|
Total
|
||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 11,578 | $ | 3,920 | $ | 4 | $ | 15,502 | ||||||||
Tenant
reimbursements
|
6,792 | 365 | — | 7,157 | ||||||||||||
Parking
|
2,575 | 299 | — | 2,874 | ||||||||||||
Other
|
60 | 88 | 61 | 209 | ||||||||||||
Total
revenue
|
21,005 | 4,672 | 65 | 25,742 | ||||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
13,081 | 2,264 | — | 15,345 | ||||||||||||
General
and administrative
|
— | 4 | 1,210 | 1,214 | ||||||||||||
Share-based
compensation
|
— | — | 16,194 | 16,194 | ||||||||||||
Depreciation
and amortization
|
6,194 | 2,569 | — | 8,763 | ||||||||||||
Interest
|
7,546 | 1,151 | 356 | 9,053 | ||||||||||||
Other
|
108 | 35 | — | 143 | ||||||||||||
Total
expenses
|
26,929 | 6,023 | 17,760 | 50,712 | ||||||||||||
Loss
before equity in net earnings of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
$ | (5,924 | ) | $ | (1,351 | ) | $ | (17,695 | ) | $ | (24,970 | ) | ||||
Equity
in net earnings of unconsolidated joint ventures
|
(29 | ) | ||||||||||||||
Net
loss attributable to non-controlling interests
|
19,059 | |||||||||||||||
Net
loss attributable to common stockholders
|
$ | (5,940 | ) | |||||||||||||
38
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
The
following table summarizes total assets, goodwill and capital expenditures, by
region, of our wholly-owned consolidated properties as of June 30, 2009 and
December 31, 2008 (in thousands):
|
Honolulu
|
Western U.S.
|
Corporate
|
Total
|
||||||||||||
As
of June 30, 2009:
|
||||||||||||||||
Total
assets
|
$ | 377,918 | $ | 127,805 | $ | 13,857 | $ | 519,580 | ||||||||
Goodwill
|
$ | 40,416 | $ | 21,603 | $ | — | $ | 62,019 | ||||||||
Capital
expenditures
|
$ | 2,832 | $ | 240 | $ | — | $ | 3,072 | ||||||||
As
of December 31, 2008:
|
||||||||||||||||
Total
assets
|
$ | 383,966 | $ | 130,062 | $ | 15,869 | $ | 529,897 | ||||||||
Goodwill
|
$ | 40,144 | $ | 21,375 | $ | — | $ | 61,519 | ||||||||
Capital
expenditures
|
$ | 7,000 | $ | 1,514 | $ | — | $ | 8,514 |
15. Fair
Value of Financial Instruments
SFAS No. 107,
Disclosures about the Fair
Value of Financial Instruments, requires us to disclose the fair value
information about all financial instruments, whether or not recognized in the
balance sheets, for which it is practicable to estimate fair value.
The fair
market value of debt is determined using the trading price of public debt or a
discounted cash flow technique that incorporates a market interest yield curve
with adjustments for duration, optionality and risk profile, including the
Company’s non-performance risk. Considerable judgment is necessary to interpret
market data and develop estimated fair value. The use of different market
assumptions or estimation methods may have a material effect on the estimated
fair value amounts.
The
carrying amounts for cash and cash equivalents, restricted cash, rents and other
receivables, accounts payable and other liabilities approximate fair value
because of the short-term nature of these instruments. We calculate the fair
value of our mortgage and collateralized loans, and unsecured notes payable
based on currently available market rates, assuming the loans are outstanding
through maturity and considering the collateral. The carrying value of our
secured revolving line of credit approximates its fair value.
At
June 30, 2009, the carrying value and estimated fair value of the mortgage and
other collateralized loans were $400.5 million and $368.1 million,
respectively. At December 31, 2008, the carrying value and
estimated fair value of the mortgage and other collateralized loans were
$400.1 million and $390.4 million, respectively. At June 30, 2009, the
carrying value and estimated fair value of the unsecured notes payable to
related parties were $23.8 million and $24.8 million,
respectively. At December 31, 2008, the carrying value and
estimated fair value of the unsecured notes payable to related parties were
$23.8 million and $24.6 million, respectively.
16.
Registration Statement
On June
10, 2009, the Company filed an amendment to its registration statement on Form
S-11, initially filed with the SEC on February 6, 2009. The registration
statement, as amended, provides for the sale and issuance of up to $400 million
in shares of a class of common stock (“Senior Common Stock”), including up to
$350 million in shares to be sold to the public and up to $50 million in shares
to be issued pursuant to a dividend reinvestment plan, each at a price of $10.00
per share. The Company intends to sell the Senior Common Stock in a continuous
offering through an affiliated dealer-manager on a “best efforts” basis and does
not intend to have these shares listed on any securities exchange or quoted on
an automated quotation system. The proceeds from the sale of Senior Common Stock
will primarily be used for the acquisition of commercial office buildings in the
Company’s targeted markets.
39
Pacific
Office Properties Trust, Inc.
Notes
to Condensed Combined Consolidated Financial Statements
17.
Subsequent Events
On July
1, 2009, the Company announced that President and Chief Executive Officer,
Dallas E. Lucas, will be departing the Company at the end of the term of his
current employment agreement, which expires on August 31, 2009. A
committee of the Company’s Board of Directors has been formed to conduct the
search for a new Chief Executive Officer.
We have
evaluated subsequent events through August 5, 2009, which is the date the
financial statements were available to be issued.
40
Pacific
Office Properties Trust, Inc.
Item 2. Management’s Discussion and
Analysis of Financial Condition and Results of Operations
The
following discussion should be read in conjunction with the condensed combined
consolidated financial statements and the related notes thereto that appear in
Item 1 of this Quarterly Report on Form 10-Q. The following discussion of the
Company’s financial information was significantly affected by the consummation
of the Transactions. It was determined for purposes of the Transactions that the
Contributed Properties were not under common control. In accordance with SFAS
No. 141(R), Waterfront, which had the largest interest in Venture, was
designated as the acquiring entity in the business combination for financial
accounting purposes. Accordingly, historical financial information for
Waterfront has also been presented in our Earnings per Share calculation in Note
11 of our condensed combined consolidated financial statements in this Quarterly
Report on Form 10-Q through the Effective Date. Additional explanatory notations
are contained in this Quarterly Report on Form 10-Q to distinguish the
historical information of Waterfront from that of the Company. Historical
results set forth in the condensed combined consolidated financial statements
included in Item 1 and this Section should not be taken as indicative of our
future operations.
Note
Regarding Forward-Looking Statements
Our
disclosure and analysis in this Quarterly Report on Form 10-Q contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended (the “Exchange Act”), which include information relating to future
events, future financial performance, strategies, expectations, risks and
uncertainties. From time to time, we also provide forward-looking statements in
other materials we release to the public as well as oral forward-looking
statements. These forward-looking statements include, without limitation,
statements regarding: projections, predictions, expectations, estimates or
forecasts as to our business, financial and operational results and future
economic performance; statements regarding strategic transactions such as
mergers or acquisitions or a possible dissolution of the Company; and statements
of management’s goals and objectives and other similar expressions. Such
statements give our current expectations or forecasts of future events; they do
not relate strictly to historical or current facts. Words such as “believe”,
“may”, “will”, “should”, “could”, “would”, “predict”, “potential”, “continue”,
“plan”, “anticipate”, “estimate”, “expect”, “intend”, “objective”, “seek”,
“strive” and similar expressions, as well as statements in future tense,
identify forward-looking statements.
Certain
matters discussed in this Quarterly Report on Form 10-Q are forward-looking
statements. The risks and uncertainties inherent in such statements may cause
actual future events or results to differ materially and adversely from those
described in the forward-looking statements.
We cannot
guarantee that any forward-looking statement will be realized, although we
believe we have been prudent in our plans and assumptions. Achievement of future
results is subject to risks, uncertainties and potentially inaccurate
assumptions. Should known or unknown risks or uncertainties materialize, or
should underlying assumptions prove inaccurate, actual results could differ
materially from past results and those anticipated, estimated or projected.
These factors include the risks and uncertainties described in “Risk Factors” in
this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the
year ended December 31, 2008. You should bear this in mind as you consider
forward-looking statements.
We
undertake no obligation to publicly update forward-looking statements, whether
as a result of new information, future events or otherwise. You are advised,
however, to consult any further disclosures we make on related subjects in our
Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports
on Form 8-K filed with the SEC.
Overview
We are a
Maryland corporation and have elected to be treated as a REIT under the Code.
Our common stock is currently listed and publicly traded on the NYSE Amex under
the symbol “PCE”. We are primarily focused on owning and operating office
properties in the western United States, concentrating initially on the
long-term growth submarkets of Honolulu, Southern California, and the greater
Phoenix metropolitan area. For a detailed discussion of our segment operations,
please see Note 15 to the condensed combined consolidated financial statements
included in this Quarterly Report on Form 10-Q.
41
Pacific
Office Properties Trust, Inc.
Through
the Operating Partnership we own eight wholly-owned fee simple and leasehold
office properties and interests in fifteen office properties which we hold
through six joint ventures. Our current portfolio totals approximately 4.3
million rentable square feet (see the table in Note 1, “Organization and
Ownership” for a breakdown between wholly-owned and joint venture properties).
We are advised by the Advisor, an entity owned and controlled by our founder,
The Shidler Group, pursuant to the Advisory Agreement. The Advisor is
responsible for the day-to-day operation and management of the
Company.
We
maintain a website at www.pacificofficeproperties.com.
Information on this website shall not constitute part of this Form 10-Q. Copies
of our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current
Reports on Form 8-K and amendments to such reports are available without charge
on our website. In addition, our Corporate Governance Guidelines, Code of
Business Conduct and Ethics, Audit Committee Charter, Compensation Committee
Charter, Nominating and Corporate Governance Committee Charter, along with
supplemental financial and operating information prepared by us, are all
available without charge on our website or upon request to us. We also post or
otherwise make available on our website from time to time other information that
may be of interest to our investors.
Our
property statistics as of June 30, 2009 for our wholly-owned properties are as
follows:
Consolidated
Properties
RENTABLE
|
|||||||||
PROPERTY
|
MARKET
|
BUILDINGS
|
SQ.
FT.
|
||||||
Waterfront
Plaza
|
Honolulu
|
1 | 534,475 | ||||||
500
Ala Moana Boulevard
|
|||||||||
Davies
Pacific Center
|
Honolulu
|
1 | 353,224 | ||||||
841
Bishop Street
|
|||||||||
Pan
Am Building
|
Honolulu
|
1 | 209,889 | ||||||
1600
Kapiolani Boulevard
|
|||||||||
First
Insurance Center
|
Honolulu
|
1 | 202,992 | ||||||
1100
Ward Avenue
|
|||||||||
Pacific
Business News Building
|
Honolulu
|
1 | 90,559 | ||||||
1833
Kalakaua Avenue
|
|||||||||
Clifford
Center
|
Honolulu
|
1 | 72,415 | ||||||
810
Richards Street
|
|||||||||
City
Square
|
Phoenix
|
3 | 738,422 | ||||||
3800
North Central Avenue
|
|||||||||
3838
North Central Avenue
|
|||||||||
4000
North Central Avenue
|
|||||||||
Sorrento
Technology Center
|
San
Diego
|
2 | 63,363 | ||||||
10140
Barnes Canyon Road
|
|||||||||
10180
Barnes Canyon Road
|
|||||||||
Total
— Consolidated Properties
|
11 | 2,265,339 |
42
Pacific
Office Properties Trust, Inc.
We also
own managing ownership interests in six joint ventures which own fifteen
commercial office properties (the “Unconsolidated Joint Ventures”). The
Unconsolidated Joint Ventures are accounted for under the equity method of
accounting. Property statistics as of June 30, 2009 for our Unconsolidated Joint
Ventures are as follows:
Joint Venture
Properties
PROPERTY
|
MARKET
|
BUILDINGS
|
RENTABLE
SQ. FT.
|
PERCENTAGE
OWNERSHIP
|
|||||||||
Seville
Plaza
|
San
Diego
|
3 | 138,576 | 7.50 | % | ||||||||
5469
Kearny Villa Road
|
|||||||||||||
5471
Kearny Villa Road
|
|||||||||||||
5473
Kearny Villa Road
|
|||||||||||||
Torrey
Hills Corporate Center
|
San
Diego
|
1 | 24,066 | 32.17 | % | ||||||||
11250
El Camino Real
|
|||||||||||||
Palomar
Heights Plaza
|
San
Diego
|
3 | 45,538 | 32.17 | % | ||||||||
5860
Owens Avenue (Building A)
|
|||||||||||||
5876
Owens Avenue (Building B)
|
|||||||||||||
5868
Owens Avenue (Building C)
|
|||||||||||||
Palomar
Heights Corporate Center
|
San
Diego
|
1 | 64,812 | 32.17 | % | ||||||||
5857
Owens Avenue (Corporate Center)
|
|||||||||||||
Scripps
Ranch Business Park
|
San
Diego
|
2 | 47,248 | 32.17 | % | ||||||||
9775
Business Park Avenue
|
|||||||||||||
10021
Willow Creek Road
|
|||||||||||||
Black
Canyon Corporate Center
|
Phoenix
|
1 | 218,694 | 17.50 | % | ||||||||
16404
N. Black Canyon Highway
|
|||||||||||||
U.S.
Bank Center
|
Phoenix
|
2 | 372,676 | 7.50 | % | ||||||||
101
N. First Avenue
|
|||||||||||||
21
West Van Buren Street
|
|||||||||||||
Bank
of Hawaii Waikiki Center
|
Honolulu
|
1 | 152,288 | 17.50 | % | ||||||||
2155
Kalakaua Avenue
|
|||||||||||||
South
Coast Executive Center
|
Orange
County
|
1 | 61,025 | 10.00 | % | ||||||||
1503
South Coast Drive
|
|||||||||||||
Via
Frontera Business Park
|
San
Diego
|
2 | 78,819 | 10.00 | % | ||||||||
10965
Via Frontera Drive
|
|||||||||||||
10993
Via Frontera Drive
|
|||||||||||||
Poway
Flex
|
San
Diego
|
1 | 112,000 | 10.00 | % | ||||||||
13550
Stowe Drive (Poway)
|
|||||||||||||
Carlsbad
Corporate Center
|
San
Diego
|
1 | 121,528 | 10.00 | % | ||||||||
1950
Camino Vida Roble
|
|||||||||||||
Savi
Tech Center
|
Orange
County
|
4 | 372,327 | 10.00 | % | ||||||||
Savi
Tech -22705 Savi Ranch Parkway
|
|||||||||||||
Savi
Tech -22715 Savi Ranch Parkway
|
|||||||||||||
Savi
Tech -22725 Savi Ranch Parkway
|
|||||||||||||
Savi
Tech -22745 Savi Ranch Parkway
|
|||||||||||||
Yorba
Linda Business Park
|
Orange
County
|
5 | 166,042 | 10.00 | % | ||||||||
22343
La Palma Avenue
|
|||||||||||||
22345
La Palma Avenue
|
|||||||||||||
22347
La Palma Avenue
|
|||||||||||||
22349
La Palma Avenue
|
|||||||||||||
22833
La Palma Avenue
|
|||||||||||||
Gateway
Corporate Center
|
San
Gabriel
|
1 | 85,216 | 10.00 | % | ||||||||
1370
Valley Vista Drive
|
|||||||||||||
Total
— Joint Venture Properties
|
29 | 2,060,855 | |||||||||||
PORTFOLIO TOTALS:
|
40 | 4,326,194 |
Our
corporate strategy is to continue to own high-quality office buildings
concentrated in our target markets. Our leasing strategy focuses on executing
long-term leases with creditworthy tenants. The success of our leasing strategy
is dependent upon the general economic conditions of our target markets.
Historically, the Property Portfolio has been leased to tenants on both a full
service gross and net lease basis. A full service gross lease has a base year
expense stop, whereby the tenant pays a stated amount of expenses as part of the
rent payment, while future increases (above the base year stop) in property
operating expenses are billed to the tenant based on the tenant’s proportionate
square footage in the property. The increased property operating expenses billed
are reflected in operating expense and amounts recovered from tenants are
reflected as tenant recoveries in the statements of operations. In a net lease,
the tenant is responsible for all property taxes, insurance, and operating
expenses. As such, the base rent payment does not include operating expenses,
but rather all such expenses are billed to the tenant. The full amount of the
expenses for this lease type is reflected in operating expenses, and the
reimbursement is reflected in tenant recoveries. We expect to emphasize net
leases in the future, although we expect some leases will remain gross leased in
the future due to tenant expectations and market customs.
43
Pacific
Office Properties Trust, Inc.
The
Transactions Included in the Master Agreement
We
consummated the Transactions included in the Master Agreement on the Effective
Date. As part of the Transactions, AZL merged with and into its wholly-owned
subsidiary, the Company, with the Company being the surviving corporation (the
“Reincorporation”). Substantially all of the assets and certain liabilities of
AZL and substantially all of the commercial real estate assets and related
liabilities of Venture were contributed to a newly formed partnership, the
Operating Partnership, in which we became the sole general partner and Venture
became a limited partner.
In
consideration for the Contributed Properties, the Operating Partnership issued
to Venture 13,576,165 Common Units and 4,545,300 Preferred Units. The Common
Units are convertible into shares of our common stock no earlier than two years
after the Effective Date. Each Preferred Unit is convertible into 7.1717 Common
Units, but no earlier than the later of March 19, 2010 and the date we
consummate an underwritten public offering (of at least $75 million) of our
common stock. Upon conversion of the Preferred Units to Common Units, the Common
Units are exchangeable on a one-for-one basis for shares of our common stock,
but no earlier than one year after the date of their conversion from Preferred
Units to Common Units.
As a
result of the Reincorporation, AZL’s common stock, which traded under the symbol
“AZL,” ceased trading on the American Stock Exchange (“AMEX”) following the
close of trading on March 19, 2008. On March 20, 2008, the Company’s common
stock began trading on the NYSE Amex, successor to AMEX, under the symbol “PCE.”
For purposes of Rule 12g-3(a) of the Exchange Act, the Company is the successor
issuer to AZL.
Market
Information
Market
and industry data and other statistical information used throughout this section
are based on independent industry publications, including CB Richard Ellis as it
relates to our Honolulu office market, and Grubb & Ellis as it relates to
all our other office markets. Some data are also based on our good faith
estimates, which are derived from our review of management’s knowledge of the
industry and independent sources. Although we are not aware of any misstatements
regarding the industry data that we present in this Form 10-Q, our estimates
involve risks and uncertainties and are subject to change based on various
factors, including those discussed under “Risk Factors” in this Quarterly Report
on Form 10-Q and in our Annual Report on Form 10-K for the year ended December
31, 2008, and under “Note Regarding Forward-Looking Statements” included in this
Quarterly Report on Form 10-Q.
Honolulu
Segment
Honolulu
Office Market
We have
seven properties that represent approximately 1,490,200 effective rentable
square feet (or 59.0% of our Effective Portfolio) located in the Honolulu office
submarkets of Honolulu Downtown (Central Business District), Waikiki and
Kapiolani at June 30, 2009. These office submarkets, based on a combined
weighted average, experienced net positive absorption of approximately 39,600
square feet during the second quarter of 2009 due to greater positive sublease
space absorption. Based on a combined weighted average, the total percent
occupied within these submarkets increased from 88.3% occupied as of March 31,
2009 to 87.0% occupied as of June 30, 2009. During the second quarter of 2009,
average asking rents decreased from $36.55 per annualized square foot as of
March 31, 2009 to $36.00 per annualized square foot as of June 30,
2009.
44
Pacific
Office Properties Trust, Inc.
Western United States
Segment
Phoenix
Office Market
We have
three properties that represent approximately 804,600 effective rentable square
feet (or 31.9% of our Effective Portfolio) located in the Phoenix office
submarkets of Phoenix Downtown North, Downtown South and Deer Valley at June 30,
2009. These office submarkets, based upon a combined weighted average,
experienced net positive absorption of approximately 88,900 square feet during
the second quarter of 2009. Based on a combined weighted average, the total
percent occupied within these submarkets decreased from 83.1% occupied as of
March 31, 2009 to 81.9% occupied as of June 30, 2009 because of the addition of
completed construction. During the second quarter of 2009, average asking rents
decreased from $26.26 per annualized square foot as of March 31, 2009 to $25.75
per square foot annually as of June 30, 2009.
San
Diego Office Market
We have
nine properties that represent approximately 163,400 effective rentable square
feet (or 6.5% of our Effective Portfolio) located in the San Diego office
submarkets of San Diego North County and Central County at June 30, 2009. These
office submarkets, based upon a combined weighted average, experienced net
negative absorption of approximately 463,100 square feet during the first
quarter of 2009. Based on a combined weighted average, the total percent
occupied within these submarkets decreased from 84.1% occupied as of March 31,
2009 to 83.5% occupied as of June 30, 2009. During the second quarter of 2009,
average asking rents decreased from $29.21 per annualized square foot as of
March 31, 2009 to $27.60 per annualized square foot as of June 30,
2009.
Critical
Accounting Policies
This
discussion and analysis of the historical financial condition and results of
operations is based upon the accompanying condensed combined consolidated
financial statements which have been prepared in accordance with GAAP. The
preparation of these financial statements in conformity with GAAP requires
management to make estimates and assumptions in certain circumstances that
affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amount of revenues and expenses in the
reporting period. Actual amounts may differ from these estimates and
assumptions. Summarized below are those accounting policies that require
material subjective or complex judgments and that have the most significant
impact on financial conditions and results of operations. These estimates have
been evaluated on an ongoing basis, based upon information currently available
and on various assumptions that management believes are reasonable as of the
date hereof. In addition, other companies in similar businesses may use
different estimation policies and methodologies, which may impact the
comparability of the results of operations and financial conditions to those of
other companies.
Investment in
Real Estate. In accordance with SFAS No. 141(R), Business Combinations, the entity with
the largest equity balance, Waterfront, was designated as the acquiring entity
in the business combination pursuant to the Transactions for financial
accounting purposes, and its assets and liabilities have been recorded at their
historical cost basis. In that regard, substantially all of the commercial real
estate assets and related liabilities of Venture and substantially all of the
assets and certain liabilities of AZL were deemed to be acquired by Waterfront.
The commercial real estate assets of Venture that were deemed to be acquired by
Waterfront consisted of the Contributed Properties. Further, the assets of AZL
deemed to be acquired by Waterfront primarily consisted of cash and cash
equivalents, investments in marketable securities, other assets and related
liabilities. Immediately prior to the Effective Date, Mr. Shidler owned a 56.25%
controlling interest in Waterfront but did not own a controlling interest in the
other Contributed Properties. However, Mr. Shidler did have a controlling
interest in Venture whereby he had the power to direct the transfer of the
Contributed Properties to the Operating Partnership. Accordingly, Mr. Shidler’s
transfer of his ownership interests in the remaining Contributed Properties to
Waterfront, the accounting acquirer he controls, was deemed to be a transfer
under common control. In accordance with EITF No. 90-5, Exchanges of Ownership
Interests between
Entities under Common Control, Mr. Shidler’s ownership interests in the
Contributed Properties are recorded at historical cost. Ownership interests in
the Contributed Properties not owned by Mr. Shidler are recorded at the
estimated fair value of the acquired assets and assumed
liabilities.
45
Pacific
Office Properties Trust, Inc.
In
accordance with EITF No. 99-12, Determination of the Measurement
Date for the Market
Price of Acquirer Securities Issued in a Purchase Business Combination, the price of the
common stock of AZL was determined to be $5.10 per share at the Effective Date.
The fair value of a Preferred Unit at the Effective Date was estimated to be
$37.31 after taking into account the AZL common stock price of $5.10, determined
under EITF No. 99-12, and various other factors that determine the value of a
convertible security.
Acquisitions
of properties and other business combinations are accounted for using the
purchase method and, accordingly, the results of operations of acquired
properties are included in our result of operations from the respective dates of
acquisition. Estimates of future cash flows and other valuation techniques are
used to allocate the purchase price of acquired property between land, buildings
and improvements, equipment and identifiable intangible assets and liabilities
such as amounts related to in-place market leases, acquired below and above
market leases and tenant relationships. Our allocations are typically
based on the relative fair value of the assets acquired and initial valuations
are subject to change until such information is finalized no later than 12
months from the acquisition date. Each of these estimates requires a great deal
of judgment, and some of the estimates involve complex calculations. These
allocation assessments have a direct impact on our results of operations because
if we were to allocate more value to land there would be no depreciation with
respect to such amount. If we were to allocate more value to the buildings as
opposed to tenant leases, this amount would be recognized as an expense over a
much longer period of time, since the amounts allocated to buildings are
depreciated over the estimated lives of the buildings whereas amounts allocated
to tenant leases are amortized over the remaining terms of the
leases.
Land,
buildings and improvements, and furniture, fixtures and equipment are recorded
at cost. Depreciation and amortization are computed using the straight-line
method for financial reporting purposes. Buildings and improvements are
depreciated over their estimated useful lives which range from 18 to 42 years.
Tenant improvement costs recorded as capital assets are depreciated over the
shorter of (i) the tenant’s remaining lease term or (ii) the life of the
improvement. Furniture, fixtures and equipment are depreciated over three to
seven years. Properties that are acquired that are subject to ground leases are
depreciated over the remaining life of the related leases as of the date of
assumption of the lease.
Impairment of
Long-Lived Assets. As required by SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, we assess the potential for impairment of our
long-lived assets, including real estate properties, whenever events occur or a
change in circumstances indicate that the recorded value might not be fully
recoverable. We determine whether impairment in value has occurred by comparing
the estimated future undiscounted cash flows expected from the use and eventual
disposition of the asset to its carrying value. If the undiscounted cash flows
do not exceed the carrying value, the real estate carrying value is reduced to
fair value and impairment loss is recognized. We did not recognize an impairment
loss on our long-lived assets during the three and six months ended June 30,
2009.
Goodwill.
In accordance with SFAS No. 142, Goodwill and Other Intangible
Assets, the excess cost
of an acquired entity over the net of the amounts assigned to assets acquired
(including identified intangible assets) and liabilities assumed is recorded as
goodwill. Goodwill is not amortized but is tested for impairment at a level of
reporting referred to as a “reporting unit” on an annual basis, during the
fourth quarter of each calendar year, or more frequently if events or changes in
circumstances indicate that the asset might be impaired. The assessment of
impairment involves a two-step process whereby an initial assessment for
potential impairment is performed, followed by a measurement of the amount of
impairment, if any. Impairment testing is performed using the fair value
approach, which requires the use of estimates and judgment, at the reporting
unit level. A reporting unit is the operating segment, or a business that is one
level below the operating segment if discrete financial information is prepared
and regularly reviewed by management at that level. The determination of a
reporting unit’s fair value is based on management’s best estimate, which
generally considers the market-based earning multiples of the unit’s peer
companies or expected future cash flows. If the carrying value of a reporting
unit exceeds its fair value, the second step of the goodwill impairment test is
performed to measure the amount of impairment loss, if any. An
impairment is recognized as a charge against income equal to the excess of the
carrying value of goodwill over its implied value on the date of the impairment.
During the quarter ended June 30, 2009, we performed an analysis to determine
whether the carrying value of the goodwill recorded on our consolidated balance
sheet was impaired at June 30, 2009. Based on the analysis, it was
determined that the goodwill was not impaired as of that date. We may
be required to perform similar analyses in the future to determine whether the
carrying value of the goodwill recorded on our consolidated balance sheet as of
a given reporting date is impaired. The factors that may cause an
impairment in goodwill include, but may not be limited to, a sustained decline
in our stock price and the occurrence, or sustained existence, of adverse
economic conditions.
46
Pacific
Office Properties Trust, Inc.
Revenue
Recognition. All tenant leases are classified as operating leases. For
all lease terms exceeding one year, rental income is recognized on a
straight-line basis over the terms of the leases. Deferred rent receivables
represent rental revenue recognized on a straight-line basis in excess of billed
rents. Reimbursements from tenants for real estate taxes and other recoverable
operating expenses are recognized as revenues in the period the applicable costs
are incurred.
Rental
revenue from parking operations and rental revenue from month-to-month leases or
leases with no scheduled rent increases or other adjustments is recognized on a
monthly basis when earned.
Lease
termination fees, which are included in rental income in the accompanying
condensed combined consolidated statements of operations, are recognized when
the related leases are canceled and where no corresponding continuing obligation
to provide services to such former tenants exists.
Other
income on the accompanying condensed combined consolidated statements of
operations generally includes income incidental to operations and are recognized
when earned.
Monitoring of
Rents and Other Receivables. An allowance is maintained for estimated
losses that may result from the inability of tenants to make required payments.
If a tenant fails to make contractual payments beyond any allowance, we may
recognize bad debt expense in future periods equal to the amount of unpaid rent
and deferred rent. We generally do not require collateral or other security from
our tenants, other than security deposits or letters of credit. If estimates of
collectability differ from the cash received, the timing and amount of reported
revenue could be impacted.
Investments in
Joint Ventures. We analyze our investments in each of our joint ventures
to determine whether a joint venture should be accounted for under the equity
method of accounting or consolidated into our financial statements based on
standards set forth under SFAS Interpretation No. 46(R), Consolidation of Variable Interest
Entities, EITF 96-16, Investor’s Accounting for an
Investee When the Investor Has
a Majority of the Voting Interest but the Minority Shareholder or Shareholders
Have Certain Approval or Veto Rights, Statement of Position 78-9, Accounting for Investments in Real
Estate Ventures and EITF 04-5, Determining Whether a General
Partner, or the General Partners as a Group, Controls a Limited
Partnership or Similar Entity When the Limited Partners Have Certain Rights.
Based on the guidance set forth in SFAS Interpretation No. 46(R), we have
determined that one of our joint ventures is a variable interest entity. We are
not deemed to be the primary beneficiary of that variable interest entity. Our
investments in joint ventures that are not variable interest entities are
accounted for under the equity method of accounting because we exercise
significant influence over, but do not control, our joint ventures within the
provisions of EITF 04-5. Our joint venture partners have substantive
participating rights, including approval of and participation in setting
operating budgets. Accordingly, we have determined that the equity method of
accounting is appropriate for our investments in joint ventures.
Income
Taxes. We have elected to be taxed as a REIT under the Code. To qualify
as a REIT, we must meet a number of organizational and operational requirements,
including a requirement that we currently distribute at least 90% of our REIT
taxable income to our stockholders. Also, at least 95% of gross income in any
year must be derived from qualifying sources. We intend to adhere to these
requirements and maintain our REIT status. As a REIT, we generally will not be
subject to corporate level federal income tax on taxable income that we
distribute currently to our stockholders. However, we may be subject to certain
state and local taxes on our income and property, and to federal income and
excise taxes on our undistributed taxable income, if any. Based on our
estimates, we do not believe that we have generated taxable income during the
period from March 20, 2008 to June 30, 2009. Accordingly, no provision for
income taxes has been recognized by the Company.
Pursuant
to the Code, we may elect to treat certain of our newly created corporate
subsidiaries as taxable REIT subsidiaries (“TRS”). In general, a TRS may perform
non-customary services for our tenants, hold assets that we cannot hold directly
and generally engage in any real estate or non-real estate related business. A
TRS is subject to corporate federal income tax. As of June 30, 2009, none of our
subsidiaries were considered a TRS.
47
Pacific
Office Properties Trust, Inc.
Results
of Operations
The
following discussion regarding the results of operations was significantly
affected by the Transactions. Our discussion below addresses the historical
information for the three and six months ended June 30, 2009 for the Company,
and the historical information for the period January 1, 2008 to March 19, 2008
for Waterfront, plus the period from March 20, 2008 to June 30, 2008 for the
Company, on a combined basis (the “Combined Entity”).
Overview
As of
June 30, 2009, the Property Portfolio and Effective Portfolio were 86.2% and
86.1% leased, respectively, to a total of 1,011 tenants. Approximately 7.5% of
our Property Portfolio leased square footage expires during the remainder of
2009 and approximately 11.7% of our Property Portfolio leased square footage
expires during 2010. We receive income primarily from rental revenue (including
tenant reimbursements) from our office properties, and to a lesser extent, from
our parking revenues. Our office properties are typically leased to tenants with
good credit for terms ranging from 2 to 20 years. See Item 1A. Risk Factors in
Part I of our Annual Report on Form 10-K for the year ended December 31, 2008
for a discussion of risk factors pertaining to the current credit market
environment.
As of
June 30, 2009, our consolidated Honolulu portfolio was 91.0% leased, with
approximately 132,500 square feet available. Our Honolulu portfolio attributable
to our unconsolidated joint ventures was 87.1% leased, with approximately 19,600
square feet available. Our effective Honolulu portfolio was 90.9% leased, with
approximately 152,000 square feet available.
As of
June 30, 2009, our consolidated Phoenix portfolio was 75.1% leased, with
approximately 183,800 square feet available. Our Phoenix portfolio attributable
to our unconsolidated joint ventures was 74.7% leased, with approximately
149,500 square feet available. Our effective Phoenix portfolio was 74.8% leased,
with approximately 333,300 square feet available.
As of
June 30, 2009, our consolidated San Diego portfolio, which consists of our
Sorrento Technology Center property, was 100% leased. Our San Diego portfolio
attributable to our unconsolidated joint ventures was 93.2% leased, with
approximately 42,800 square feet available. Our effective San Diego portfolio
was 96.5% leased, with approximately 42,800 square feet
available.
48
Pacific
Office Properties Trust, Inc.
Comparison
of Property Portfolio for the three months ended June 30, 2009 to the three
months ended June 30, 2008
2009
|
2008
|
$
Change
|
%
Change
|
|||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 10,607 | $ | 11,090 | $ | (483 | ) | (4.4 | %) | |||||||
Tenant
reimbursements
|
5,299 | 4,975 | 324 | 6.5 | % | |||||||||||
Parking
|
2,011 | 2,048 | (37 | ) | (1.8 | %) | ||||||||||
Other
|
102 | 141 | (39 | ) | (27.7 | %) | ||||||||||
Total
revenue
|
18,019 | 18,254 | (235 | ) | (1.3 | %) | ||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
9,660 | 10,505 | (845 | ) | (8.0 | %) | ||||||||||
General
and administrative
|
497 | 1,120 | (623 | ) | (55.6 | %) | ||||||||||
Depreciation
and amortization
|
7,030 | 7,056 | (26 | ) | (0.4 | %) | ||||||||||
Interest
|
6,806 | 6,653 | 153 | 2.3 | % | |||||||||||
Total
expenses
|
23,993 | 25,334 | (1,341 | ) | (5.3 | %) | ||||||||||
Loss
before equity in net earnings (loss) of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
(5,974 | ) | (7,080 | ) | 1,106 | (15.6 | %) | |||||||||
Equity
in net earnings (loss) of unconsolidated
|
||||||||||||||||
joint
ventures
|
163 | (26 | ) | 189 | 726.9 | % | ||||||||||
Non-operating
income
|
1 | - | 1 | 100.0 | % | |||||||||||
Net
loss
|
$ | (5,810 | ) | $ | (7,106 | ) | $ | 1,296 | (18.2 | %) | ||||||
49
Pacific
Office Properties Trust, Inc.
Revenues
Rental Revenue. Rental
revenue decreased by $0.5 million, or 4.4%, for the three months ended June 30,
2009 compared to the three months ended June 30, 2008. The decrease was
primarily due to decreased average occupancy and rental rates at our Pan Am
Building and City Square properties which resulted in a decrease of $0.4 million
in rental revenue.
Tenant Reimbursements. Tenant
reimbursements increased by $0.3 million, or 6.5%, for the three months ended
June 30, 2009 compared to the three months ended June 30, 2008. The increase was
primarily attributable to a 0.5 million increase in our common area maintenance
expenses recoverable from tenants in Hawaii in 2008. The increase was
offset by a decrease in electricity costs in Hawaii and corresponding decrease
in tenant reimbursements in 2009.
Parking Revenue. Parking
revenue remained relatively flat for the three months ended June 30, 2009
compared to the three months ended June 30, 2008. The decrease in parking
revenue that was a result of lower occupancy at our Pan Am Building and City
Square properties was offset by increased parking rates at other properties in
our portfolio.
Expenses
Rental Property Operating Expenses.
Rental property operating expenses decreased by $0.8 million, or 8.0%,
for the three months ended June 30, 2009 compared to the three months ended June
30, 2008. The decrease was primarily attributable to lower electricity rates in
Hawaii during the current year compared to the prior
year. Electricity costs in Hawaii during the current year decreased
$0.8 million due to lower oil prices in 2009.
General and Administrative.
General and administrative expense decreased by $0.6 million, or 55.6%, for the
three months ended June 30, 2009 compared to the three months ended June 30,
2008. The decrease is primarily due to the non-recurrence of certain expenses of
$0.4 million related to the Transactions. In addition, professional
fees relating to Sarbanes-Oxley compliance decreased by $0.1
million.
Depreciation and Amortization
Expense. Depreciation and amortization expense remained flat for the
three months ended June 30, 2009 compared to the three months ended June 30,
2008.
Interest Expense. Interest
expense increased by $0.2 million, or 2.3%, for the three months ended June 30,
2009 compared to the three months ended June 30, 2008. The increase is primarily
due to a $7.2 million increase in our consolidated debt balance as well as
interest incurred on the credit facility of $0.1 million which was not in place
in the prior year. The increases are offset by a decrease in the
interest rate on our variable interest rate debt.
Equity
in net earnings (loss) of unconsolidated joint ventures
Equity
in net earnings (loss) of unconsolidated joint ventures increased by $0.2
million, or 726.9%, for the three months ended June 30, 2009 compared to the
three months ended June 30, 2008. The increase is primarily due to the addition
of the SoCal II joint venture in August 2008.
50
Pacific
Office Properties Trust, Inc.
Comparison
of the Property Portfolio for the six months ended June 30, 2009 to the six
months ended June 30, 2008
2009
|
2008
(1)
|
$
Change
|
%
Change
|
|||||||||||||
Revenue:
|
||||||||||||||||
Rental
|
$ | 21,513 | $ | 15,502 | $ | 6,011 | 38.8 | % | ||||||||
Tenant
reimbursements
|
11,021 | 7,157 | 3,864 | 54.0 | % | |||||||||||
Parking
|
4,068 | 2,874 | 1,194 | 41.5 | % | |||||||||||
Other
|
187 | 209 | (22 | ) | (10.5 | %) | ||||||||||
Total
revenue
|
36,789 | 25,742 | 11,047 | 42.9 | % | |||||||||||
Expenses:
|
||||||||||||||||
Rental
property operating
|
19,575 | 15,345 | 4,230 | 27.6 | % | |||||||||||
General
and administrative
|
1,646 | 17,408 | (15,762 | ) | (90.5 | %) | ||||||||||
Depreciation
and amortization
|
13,557 | 8,763 | 4,794 | 54.7 | % | |||||||||||
Interest
|
13,525 | 9,053 | 4,472 | 49.4 | % | |||||||||||
Other
|
- | 143 | (143 | ) | (100.0 | %) | ||||||||||
Total
expenses
|
48,303 | 50,712 | (2,409 | ) | (4.8 | %) | ||||||||||
Loss
before equity in net earnings (loss) of unconsolidated
|
||||||||||||||||
joint
ventures and non-operating income
|
(11,514 | ) | (24,970 | ) | 13,456 | (53.9 | %) | |||||||||
Equity
in net earnings (loss) of unconsolidated
|
||||||||||||||||
joint
ventures
|
217 | (29 | ) | 246 | 848.3 | % | ||||||||||
Non-operating
income
|
4 | - | 4 | 100.0 | % | |||||||||||
Net
loss
|
$ | (11,293 | ) | $ | (24,999 | ) | $ | 13,706 | (54.8 | %) |
(1)
|
Amounts reflected in 2008
represent the sum of the results of the Company for the period from March
21, 2008 to June 30, 2008 and the results of Waterfront for the period
from January 1, 2008 to March 20,
2008.
|
Revenues
Rental Revenue. Rental
revenue increased by $6.0 million, or 38.8%, for the six months ended June 30,
2009 compared to the six months ended June 30, 2008. An increase of $6.4 million
was primarily attributable to the number of days the properties acquired at the
Effective Date were in our portfolio during the first quarter, 90 days in the
2009 period compared to 12 days in the 2008 period. The increase is
partially offset by a $0.5 million decrease experienced during the three months
ended June 30, 2009 compared to the three months ended June 30,
2008. The decrease was due to decreased average occupancy and rental
rates at our Pan Am Building and City Square properties which resulted in a
decrease of $0.4 million in rental revenue.
Tenant Reimbursements. Tenant
reimbursements increased by $3.9 million, or 54.0%, for the six months ended
June 30, 2009 compared to the six months ended June 30, 2008. An increase of
$3.5 million was primarily attributable to the number of days the properties
acquired at the Effective Date were in our portfolio during the first quarter,
90 days in the 2009 period compared to 12 days in the 2008 period. An
additional increase of $0.4 million is primarily attributable to a 0.5 million
increase in our common area maintenance expenses recoverable from tenants in
Hawaii in 2008, offset by a decrease in electricity costs (and corresponding
decrease in tenant reimbursements) in Hawaii in 2009.
51
Pacific
Office Properties Trust, Inc.
Parking Revenue. Parking
revenue increased by $1.2 million, or 41.5%, for the six months ended June 30,
2009 compared to the six months ended June 30, 2008. The increase was primarily
attributable to the number of days the properties acquired at the Effective Date
were in our portfolio during the first quarter, 90 days in the 2009 period
compared to 12 days in the 2008 period. Parking revenue during the three months
ended June 30, 2009 compared to the three months ended June 30, 2008 was
relatively flat.
Expenses
Rental Property Operating Expenses.
Rental property operating expenses increased by $4.2 million, or 27.6%,
for the six months ended June 30, 2009 compared to the six months ended June 30,
2008. An increase of $4.5 million was primarily attributable to the number of
days the properties acquired at the Effective Date were in our portfolio during
the first quarter, 90 days in the 2009 period compared to 12 days in the 2008
period. In addition, due to the current economic environment, we
increased our bad debt reserves by $0.5 million to include not only tenants in
default but also tenants who either had a higher probability of not paying their
rent or potentially not being able to pay their rent but are not currently in
default. These increases are partially offset by a $0.8 million
decrease experienced during the three months ended June 30, 2009 compared to the
three months ended June 30, 2008. The decrease was a result of $0.8
million of lower electricity costs in Hawaii due to lower oil prices in
2009.
General and Administrative.
General and administrative expense decreased by $15.8 million, or 90.5%, for the
six months ended June 30, 2009 compared to the six months ended June 30, 2008.
The decrease is primarily due to a $16.2 million share-based compensation charge
resulting from the Transactions during the six months ended June 30,
2008. The decrease is also due to the non-recurrence of certain
expenses of $0.4 million related to the Transactions and a $0.1 million decrease
in professional fees relating to Sarbanes-Oxley compliance.
Depreciation and Amortization
Expense. Depreciation and amortization expense increased by $4.8 million,
or 54.7%, for the six months ended June 30, 2009 compared to the six months
ended June 30, 2008. The $4.8 million increase was primarily attributable to the
number of days the properties acquired at the Effective Date were in our
portfolio during the first quarter, 90 days in the 2009 period compared to 12
days in the 2008 period. Depreciation and amortization expense during
the three months ended June 30, 2009 compared to the three months ended June 30,
2008 was relatively flat.
Interest Expense. Interest
expense increased by $4.5 million, or 49.4%, for the six months ended June 30,
2009 compared to the six months ended June 30, 2008. An increase of $4.3 million
was primarily attributable to the number of days the properties acquired at the
Effective Date were in our portfolio during the first quarter, 90 days in the
2009 period compared to 12 days in the 2008 period. The additional increase of
$0.2 million was due to an $7.2 million increase in our consolidated debt
balance as well as interest occurred on the credit facility of $0.1 million
which was not in place in the prior year offset by a decrease in the interest
rate on our variable interest rate debt.
Equity
in net earnings (loss) of unconsolidated joint ventures
Equity
in net earnings (loss) of unconsolidated joint ventures increased by $0.2
million, or 848.3%, for the six months ended June 30, 2009 compared to the six
months ended June 30, 2008. The increase was primarily attributable to the
addition of the SoCal II joint venture in August 2008.
Liquidity
and Capital Resources
Cash
Balances, Available Borrowings and Capital Resources
As of
June 30, 2009, we had $6.9 million in cash and cash equivalents as compared to
$4.5 million as of December 31, 2008. In addition, we had restricted cash
balances of $5.1 million as of June 30, 2009 as compared to $7.3 million as of
December 31, 2008. Restricted cash primarily consists of interest bearing cash
deposits required by certain of our mortgage loans to fund anticipated
expenditures for real estate taxes, insurance, debt service and leasing costs.
In addition, we have a revolving credit facility with outstanding borrowings of
$3.0 million as of June 30, 2009. We anticipate that our restricted reserves, as
well as other sources of liquidity, including existing cash on hand, our cash
flows from operations, financing and investing activities will be sufficient to
fund our capital expenditures or needs for our existing Property Portfolio
during the next twelve months.
52
Pacific
Office Properties Trust, Inc.
We expect
to finance our operations, non-acquisition-related capital expenditures and
long-term indebtedness repayment obligations primarily with internally generated
cash flow, existing cash on hand, proceeds from refinancing of existing
indebtedness and through other available investment and financing activities. We
plan for our future financing activities to include selling a portion of the
equity in the properties in which we currently hold whole interests. We believe
these sources of liquidity will be sufficient to fund our short-term liquidity
needs for our existing Property Portfolio over the next twelve months, including
recurring non-revenue enhancing capital expenditures in our portfolio, debt
service requirements, dividend and distribution payments, tenant improvements
and leasing commissions. In addition, we have $69.5 million in
aggregate principal indebtedness maturing in 2010. We expect to meet
these obligations through the refinancing of existing indebtedness and through
proceeds from capital market activities, including but not limited to the
issuance of equity securities.
We expect
to meet our long-term liquidity and capital requirements such as scheduled
principal maturities, property acquisitions costs, if any, and other
non-recurring capital expenditures through net cash provided by operations,
existing cash on hand, refinancing of existing indebtedness, proceeds from our
anticipated Senior Common Stock offering and through other available investment
and financing activities, including the assumption of mortgage indebtedness upon
acquisition or the procurement of new acquisition mortgage
indebtedness.
We expect
that we will fund only 10% to 20% of the required equity for new office
properties acquired in the future. The balance of the equity investment is
expected to be funded, on a transaction-by-transaction basis, by one or more
co-investors. We have pre-existing relationships with a number of potential
co-investors that we believe will provide ample opportunities to fund
anticipated acquisitions. Our business strategy provides us with the opportunity
to earn greater returns on invested equity through incentive participation and
management fees.
As of
June 30, 2009, our total consolidated debt was approximately $424.3 million with
a weighted average interest rate of 5.87% and a weighted average remaining term
of 6.0 years.
Cash
Flows
Net cash
provided by operating activities for the Company for the six months ended June
30, 2009 was $5.5 million compared to $2.6 million for the Combined Entity for
the six months ended June 30, 2008. The increase of $2.4 million for the Company
compared to the Combined Entity was primarily attributable to improved vendor
payment management in addition to incremental cash flow due to the number of
days the properties acquired at the Effective Date were in our portfolio, 180
days in the 2009 period compared to 102 days in the 2008 period.
Net cash
provided by investing activities for the Company for the six months ended June
30, 2009 was $0.1 million compared to $2.3 million used in investing activities
for the Combined Entity for the six months ended June 30,
2008. During 2009, our restricted cash decreased by $2.2 million due
to a return of escrow deposits and property tax payments made from our reserve
accounts. In addition, we decreased our capital expenditures related
to real estate by $1.2 million compared to the same period in the prior year and
we received $1.3 million in capital distributions from our investments in
unconsolidated joint ventures, primarily from a joint venture not owned by us at
June 30, 2008 and a catch up in distributions from another joint venture that we
did not elect to receive in the prior year. In addition, we received $7.2
million from Contributed Properties upon the Effective Date. This was offset by
our payment of $4.1 million of acquisition costs related to the Transactions
during the six months ended June 30, 2008, which did not recur during the six
months ended June 30, 2009.
Net cash
used in financing activities was $3.2 million for the six months ended June 30,
2009 compared to $8.3 million in net cash provided by financing activities for
the Combined Entity for the six months ended June 30, 2008. Our cash
used during the 2009 period was primarily attributable to $2.6 million in
distributions paid to non-controlling interests, which we expect to continue
paying. During 2008, we received $6.4 million from the issuance of equity
securities, as a result of the Transactions. In addition, in 2008, the Combined
Entity also received $2.7 million in net equity contributions from the previous
partners. We do not, however, expect to continue to receive equity
contributions in a manner similar to that received during the 2008 period based
on our capital structure after the Transactions. We intend to
continue to increase our cash flow provided by financing activities from the
issuance of equity securities from time to time, subject to the effective
registration by the SEC (or an applicable exemption from registration) of the
securities we contemplate selling and the existence of optimal market and
selling conditions.
53
Pacific
Office Properties Trust, Inc.
Indebtedness
Mortgage
and Collateralized Loans
The
following table sets forth information relating to the material borrowings with
respect to our properties as of June 30, 2009. Unless otherwise indicated in the
footnotes to the table, each loan requires monthly payments of interest only and
balloon payments at maturity, and all numbers, other than percentages, are
reported in thousands:
PROPERTY
|
AMOUNT
|
INTEREST
RATE
|
MATURITY
DATE
|
BALANCE
DUE AT MATURITY DATE
|
PREPAYMENT/ DEFEASANCE
|
||||||||||||
Clifford
Center (1)
|
3,632 | 6.00 | % |
8/15/2011
|
3,032 | (2) | |||||||||||
Davies
Pacific Center
|
95,000 | 5.86 | % |
11/11/2016
|
95,000 | (3) | |||||||||||
First
Insurance Center
|
38,000 | 5.74 | % |
1/1/2016
|
38,000 | (4) | |||||||||||
First
Insurance Center
|
14,000 | 5.40 | % |
1/6/2016
|
14,000 | (5) | |||||||||||
Pacific
Business News
|
|||||||||||||||||
Building
(6)
|
11,726 | 6.98 | % |
4/6/2010
|
11,613 | (7) | |||||||||||
Pan
Am Building
|
60,000 | 6.17 | % |
8/11/2016
|
60,000 | (8) | |||||||||||
Waterfront
Plaza
|
100,000 | 6.37 | % |
9/11/2016
|
100,000 | (9) | |||||||||||
Waterfront
Plaza
|
11,000 | 6.37 | % |
9/11/2016
|
11,000 | (10) | |||||||||||
City
Square
|
27,500 | 5.58 | % |
9/1/2010
|
27,500 | (11) | |||||||||||
City
Square (12)
|
27,017 |
LIBOR
+ 2.35%
|
9/1/2010
|
26,612 | (13) | ||||||||||||
Sorrento
Technology
|
|||||||||||||||||
Center
(14)
|
11,800 | 5.75 | % (15) |
1/11/2016
(15)
|
10,825 | (16) | |||||||||||
Subtotal
|
$ | 399,675 |
|
||||||||||||||
Revolving
line of
|
|||||||||||||||||
credit
(17)
|
3,000 |
LIBOR
+3.50%
|
Current
|
3,000 | |||||||||||||
Outstanding
principal balance
|
$ | 402,675 | |||||||||||||||
Less:
Unamortized discount, net
|
(2,171 | ) | |||||||||||||||
Net
|
$ | 400,504 | |||||||||||||||
______________________
(1)
Requires monthly principal and interest payments of $39.8. The initial
maturity date is August 15, 2011. We have the option to extend
the maturity date to August, 15, 2014 for a nominal
fee.
|
(2)
|
Loan
is prepayable, subject to prepayment premium equal to greater of 2% of
amount prepaid or yield
maintenance.
|
(3)
|
Loan
is prepayable, after second anniversary of its securitization, subject to
prepayment premium equal to greater of (a) 1% of amount prepaid or (b)
yield maintenance. No premium due after August 11,
2016.
|
(4)
|
Loan
is prepayable subject to a prepayment premium in an amount equal to the
greater of 3% of outstanding principal amount or yield
maintenance. No premium due after October 1,
2015. Loan may also be defeased after earlier of December 2008
or two years after the “start-up date” of the loan, if
securitized.
|
(5)
|
Loan
is not prepayable until October 6, 2015; however, loan may be defeased
after earlier of August 2009 and two years after the “start-up date” of
the loan, if securitized. No premium is due upon
prepayment.
|
(6)
|
Requires
monthly principal and interest payments of
$81.
|
(7)
|
Loan
may not be prepaid until February 6, 2010. No premium is due
upon prepayment. Loan may be defeased after the earlier of
September 2008 or two years after the “start-up date” of the loan, if
securitized.
|
(8)
|
Loan
may be prepaid following second anniversary of its securitization subject
to a prepayment premium equal to greater of 1% of principal balance of
loan or yield maintenance. No premium is due after May 11,
2016.
|
(9)
|
Loan
may be prepaid subject to payment of a yield maintenance-based prepayment
premium; no premium is due after June 11, 2016. Loan may also
be defeased after the date that is two years from the “start-up date” of
the loan, if securitized.
|
(10)
|
Loan
may be prepaid subject to payment of a yield maintenance-based prepayment
premium; no premium is due after June 11,
2016.
|
(11)
|
Loan
may not be prepaid until June 1, 2010. Loan may be defeased at
any time.
|
(12)
|
Maximum
loan amount to be advanced is $28.5 million. In addition, the
Company has an interest rate cap on this loan for the notional amount of
$28.5 million, which effectively limits the LIBOR rate on this loan to
7.45%. The interest rate cap expires on September 1, 2010,
commensurate with the maturity date of this note
payable.
|
(13)
|
Loan
may be prepaid subject to payment of a fee in amount of
$142.
|
(14) From
and after January 11, 2010, requires monthly principal and interest payments in
the amount of $69.
(15)
|
Although
the maturity date is January 11, 2036, January 11, 2016 is the anticipated
repayment date because the interest rate adjusts as of January 11, 2016 to
greater of 7.75% or treasury rate plus 70 basis points, plus
2.0%.
|
(16)
|
No
prepayment is permitted prior to October 11, 2016. Loan may be
defeased after the earlier of December 15, 2009 or second anniversary of
the “start-up date” of the loan, if
securitized.
|
(17)
|
The
revolving line of credit matures on August 15, 2010, but may be
extended to February 25, 2011, subject to the satisfaction of certain
conditions, absent an Event of Default, including the compliance with debt
covenants and payment of a fee. See “Revolving Line of Credit”
below.
|
|
54
Pacific
Office Properties Trust, Inc.
Our
variable rate debt, as reflected in the above schedule and in Note 8 to our
condensed combined consolidated financial statements included in this Quarterly
Report on Form 10-Q, bears interest at a rate based on 30-day LIBOR, which was
0.32% as of June 30, 2009, plus a spread. Our variable rate debt at June 30,
2009 has an initial term that matures in September 2010.
The debt
secured by our properties is owed at the property level rather than by the
Company or the Operating Partnership. This debt is non-recourse to the Operating
Partnership except as noted below. This debt strategy isolates mortgage
liabilities in separate, stand-alone entities, allowing us to have only our
property-specific equity investment at risk.
At the
Effective Date, the Operating Partnership guaranteed or indemnified the
guarantors under several of the Contributed Properties’ indebtedness. A majority
of the guaranties for the Contributed Properties’ indebtedness are non-recourse
carve-out and environmental guaranties. However, the indebtedness for the
Contributed Property known as Clifford Center is a full recourse loan for which
the Operating Partnership is indemnifying the borrowers and the lessees under
the ground lease.
As of
June 30, 2009, our ratio of total consolidated debt to total consolidated market
capitalization was approximately 69.5%. Our total consolidated market
capitalization of $610.3 million includes our total consolidated debt of $424.3
million and the market value of our common stock and common stock equivalents
outstanding of $186.0 million (based on the closing price of our common stock of
$3.72 per share on the NYSE Amex on June 30, 2009).
At June
30, 2009, the Operating Partnership was subject to a $1.1 million recourse
commitment that it provided on behalf of POP San Diego I joint venture in
connection with certain of that joint venture’s mortgage loans. The contractual
provisions of these mortgage loans provide for the full release of this recourse
commitment upon the satisfaction of certain conditions within the control of
management. We believe that the subject conditions will be satisfied by
management prior to, or during, the fourth quarter ending December 31, 2009, and
will therefore result in the immediate and full release of the Operating
Partnership from this recourse commitment. As such, we have not
recorded this as a liability because the probability for recourse is
remote.
Revolving
Line of Credit
We
entered into a Credit Agreement dated as of August 25, 2008 (the “Credit
Facility”) with KeyBank National Association (“KeyBank”) and KeyBanc Capital
Markets. The Credit Facility initially provided up to $40.0 million, available
for borrowing on a revolving basis by us, subject to the satisfaction of certain
conditions. As of June 30, 2009, the Company had outstanding borrowings of $3.0
million under the Credit Facility.
The
Credit Facility matures on August 25, 2010, but may be extended to February 25,
2011 at our election, subject to certain conditions, absent an Event of Default.
The Credit Facility is collateralized by certain interests in real estate of the
Operating Partnership and is guaranteed by a wholly owned subsidiary of the
Operating Partnership owning an interest in a commercial office property,
certain affiliates of The Shidler Group and the Company. In addition,
obligations of the Company and the Operating Partnership to the Advisor, and
certain related parties of The Shidler Group, and other related party
obligations, have been subordinated to obligations under the Credit
Facility.
The
Credit Facility contains customary financial and other covenants, including
covenants as to maximum leverage ratio, fixed charge coverage and minimum
consolidated tangible net worth, and other customary terms and
conditions.
Absent an
Event of Default, amounts borrowed under the Credit Facility bear interest at
the 30-day LIBOR plus 3.5% or at KeyBank’s prime rate plus 2.25%, at our
election. As of June 30, 2009, we had elected the LIBOR-based rate,
which would subject our outstanding borrowings to an interest rate of 3.82% per
annum at that date. However, on May 29, 2009, we received a
Notice of Default from KeyBank that an Event of Default existed under the Credit
Facility agreement. As asserted, the Event of Default related to the calculation
of a financial covenant required under the Credit Facility, including our
delivery of related certificates and statements, for the fiscal quarter ended
March 31, 2009. During the continuance of the asserted Event of
Default, no additional borrowings are available to us under the Credit Facility,
and the outstanding borrowings under the Credit Facility will bear interest at
7.25%, based on KeyBank’s prime rate plus 4.0%. In addition, during the
continuance of the asserted Event of Default, KeyBank would have the right, but
has not yet indicated any intention, to accelerate our payment obligations with
respect to the outstanding borrowings under the Credit Facility. Subsequent to
our receipt of the Notice of Default, we have had, and expect to continue to
have, discussions with KeyBank regarding the assertions made by KeyBank in its
Notice of Default. While we can offer no assurances as to how these discussions
will be resolved, we do not agree with the assertion made by KeyBank and do not
believe that an Event of Default exists, or that the penalty interest rate
applies, under the terms of the Credit Facility.
55
Pacific
Office Properties Trust, Inc.
Subordinated
Promissory Notes
At June
30, 2009, we had promissory notes payable by the Operating Partnership to
certain affiliates of The Shidler Group in the aggregate principal amount of
$23.8 million. The promissory notes accrue interest at a rate of 7% per annum,
with interest payable quarterly, subject to the Operating Partnership’s right to
defer the payment of interest for any or all periods up until the date of
maturity. The promissory notes mature on various dates commencing on March 19,
2013 through August 31, 2013, but the Operating Partnership may elect to extend
maturity for one additional year, and maturity accelerates upon the occurrence
of a qualified public offering, as defined under the Master Agreement. The
promissory notes are unsecured obligations of the Operating
Partnership.
For the
period from March 20, 2008 through June 30, 2009, interest payments on unsecured
notes payable to related parties of The Shidler Group have been deferred. At
June 30, 2009, $2.1 million of accrued interest attributable to unsecured notes
payable to related parties is included in accounts payable and other liabilities
in the accompanying condensed combined consolidated balance sheets.
Distributions
We have
made an election to be taxed as a REIT under Sections 856 through 860 of the
Code, and related regulations and intend to continue to operate so as to remain
qualified as a REIT for federal income tax purposes. We generally will not be
subject to federal income tax on income that we distribute to our stockholders
and UPREIT unit holders, provided that we distribute 100% of our REIT taxable
income and meet certain other requirements for qualifying as a REIT. If we fail
to qualify as a REIT in any taxable year, we will be subject to federal income
tax on our taxable income at regular corporate rates and will not be permitted
to qualify for treatment as a REIT for federal income tax purposes for four
years following the year during which qualification is lost. Such an event could
materially affect our income and our ability to pay dividends. We believe we
have been organized as, and our past and present operations qualify the Company
as, a REIT.
In
connection with the Transactions, we received a representation from our
predecessor, AZL, that it qualified as a REIT under the provisions of the Code.
However, we recently became aware that AZL may have failed to meet certain asset
tests required to be satisfied under the Code to qualify for, and maintain, its
REIT status as a result of certain of its investments that exceeded the
permissible amount allowed at a given period. If we were found not to have
complied with the asset tests, we could be subject to a penalty tax as a result
of any such violations, but we do not believe that any such penalty tax would be
material. However, such noncompliance should not adversely affect our
qualification as a REIT as long as such noncompliance was due to reasonable
cause and not due to willful neglect, and as long as certain other requirements
are met. Based on the information we currently have, we believe that any
noncompliance was due to reasonable cause and not due to willful neglect, and
that such other requirements will be met. However, if the Internal Revenue
Service (the “IRS”) were to successfully challenge our position, the IRS could
determine that we did not satisfy the asset tests and, consequently, could
determine that we failed to qualify as a REIT in one or more of our taxable
years.
Accordingly,
as of June 30, 2009, we recorded an estimate in the amount of $0.5 million for
such penalties and related costs, which is included in accounts payable and
other liabilities in our condensed combined consolidated balance sheet, based on
the information we have to date.
One of
our primary objectives, consistent with our policy of retaining sufficient cash
for reserves and working capital purposes and maintaining our status as a REIT,
is to distribute a substantial portion of our funds available from operations to
our common stockholders and UPREIT unit holders in the form of dividends or
distributions on a quarterly basis. Dividends and distributions by the Company
are contingent upon the Company’s receipt of distributions on the Common Units
from the Operating Partnership. The Operating Partnership is prohibited from
making distributions on the Common Units unless all accumulated distributions on
the Preferred Units have been paid, except to pay certain operating expenses of
the Company and for the purposes of maintaining our qualification as a REIT. As
of June 30, 2009, we considered market factors and our performance in addition
to REIT requirements in determining distribution levels.
56
Pacific
Office Properties Trust, Inc.
On May
12, 2009, our Board of Directors declared a cash dividend of $0.05 per share of
our common stock for the second quarter of 2009. The dividend was paid on July
15, 2009 to holders of record of common stock on June 30, 2009. Commensurate
with our declaration of a quarterly cash dividend, we paid distributions to
holders of record of Common Units at June 30, 2009 in the amount of $0.05 per
Common Unit, on July 15, 2009. In addition, we paid 2% distributions, or $.125
per unit, to holders of record of Preferred Units at June 30, 2009, on July 15,
2009.
Amounts
accumulated for distribution to stockholders and UPREIT unit holders are
invested primarily in interest-bearing accounts which are consistent with our
intention to maintain our qualification as a REIT. At June 30, 2009, the
cumulative unpaid distributions attributable to Preferred Units were $0.57
million, which were paid on July 15, 2009.
On March
3, 2009, our Board of Directors declared a cash dividend of $0.05 per share of
our common stock for the first quarter of 2009. The dividend was paid on April
15, 2009 to holders of record of common stock on March 31, 2009. Commensurate
with our declaration of a quarterly cash dividend, we paid distributions to
holders of record of Common Units at March 31, 2009 in the amount of $0.05 per
Common Unit, on April 15, 2009. In addition, we paid 2% distributions, or $.125
per unit, to holders of record of Preferred Units at March 31, 2009, which were
paid on April 15, 2009.
Although
we currently estimate taxable losses for the year ending December 31, 2009, we
expect to continue to declare and pay dividends as a return of capital to our
stockholders.
Related
Party Transactions
We are
externally advised by the Advisor, an entity affiliated with and owned by our
founder, The Shidler Group. For a more detailed discussion of the Advisor and
other related party transactions, see Note 12 to our condensed combined
consolidated financial statements included in this Quarterly Report on Form
10-Q.
New
Accounting Pronouncements
SFAS No. 157
In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which provides guidance for using fair value to measure assets and liabilities.
The standard also responds to investors’ requests for expanded information about
the extent to which companies measure assets and liabilities at fair value, the
information used to measure fair value, and the effect of fair value measurement
on earnings. SFAS No. 157 defines fair value, establishes a framework for
measuring fair value and provides expanded disclosure about how fair value
measurements were determined. SFAS No. 157 applies whenever other standards
require (or permit) assets or liabilities to be measured at fair value. The
standard does not expand the use of fair value in any circumstances. Our
adoption of SFAS No. 157 for the valuation of financial assets and liabilities
in 2008 and the valuation of non-financial assets and liabilities as of January
1, 2009 did not have a material impact on our consolidated results of
operations, financial position or cash flow, as our derivative value is not
significant.
SFAS No. 141(R)
In
December 2007, the FASB issued SFAS No. 141(R), which replaces SFAS No. 141.
SFAS No. 141(R) applies to all transactions and other events in which one entity
obtains control over one or more other businesses. It broadens the fair value
measurement and recognition of assets acquired, liabilities assumed and
interests transferred as a result of business combinations. Under this
pronouncement, acquisition-related costs must be expensed rather than
capitalized as part of the basis of the acquired business. SFAS No. 141(R) also
expands required disclosure to improve the ability of financial statement users
to evaluate the nature and financial effects of business combinations. SFAS No.
141(R) is effective for business combinations for which the effective date is on
or after January 1, 2009. We adopted SFAS No. 141(R) on January 1, 2009. We
believe that such adoption could materially impact our future consolidated
financial results to the extent that we acquire significant amounts of real
estate or real estate related businesses, as related acquisition costs will be
expensed as incurred compared to the current practice of capitalizing such costs
and amortizing them over the estimated useful life of the assets or real estate
related businesses acquired.
57
Pacific
Office Properties Trust, Inc.
SFAS No. 160
In
December 2007, the FASB issued SFAS No. 160, Non-controlling Interests
in Consolidated Financial
Statements—An Amendment of ARB No. 51. SFAS No. 160 requires a
non-controlling interest in a subsidiary to be reported as equity and the amount
of consolidated net income specifically attributable to the non-controlling
interest to be identified in the condensed combined consolidated financial
statements. SFAS No. 160 also calls for consistency in the manner of reporting
changes in the parent’s ownership interest and requires fair value measurement
of any non-controlling equity investment retained in a deconsolidation. We
adopted the provisions of SFAS No. 160 on the effective date of January 1,
2009.
We also
adopted the revisions to EITF Topic D-98, Classification and Measurement of Redeemable Securities
(“D-98”), which became effective upon our adoption of SFAS 160. Based
upon the requirements of D-98, we present the limited partnership common and
preferred interests in the UPREIT in the mezzanine section of our consolidated
balance sheets because the decision to redeem for cash or Company shares is not
solely within the control of the Company. Because some of the Company’s
directors also own limited partnership common and preferred interests indirectly
through Venture combined with the existence of the Proportionate Voting
Preferred Stock we have determined that there are hypothetical situations where
the holders of our partnership units could control the method of redemption
(cash or Company shares) and therefore these partnership units require mezzanine
presentation in our consolidated balance sheets. In addition, we are required to
measure our outstanding Common Units at redemption value because the units are
considered redeemable for shares or cash after March 19, 2010. Our
Preferred Units do not require redemption value measurement because these units
are not considered redeemable until no earlier than the later of (i) March 19,
2010, and (ii) the date we consummate an underwritten public offering (of at
least $75 million) of our common stock. In the current capital market
environment, management does not consider the completion of the public stock
offering probable at this time. Furthermore, in the event that we
acquire a controlling interest in our existing investments in unconsolidated
joint ventures, we believe that the adoption of this guidance could materially
impact our future consolidated financial results, as our existing investments
would be adjusted to fair value at the date of acquisition of the controlling
interest.
SFAS
No. 165
In
May 2009, the FASB issued SFAS No. 165, Subsequent
Events. SFAS No. 165 establishes general standards of
accounting for and disclosure of events that occur after the balance sheet date
but before financial statements are issued. SFAS No. 165 is effective
for interim periods or fiscal years ending after June 15, 2009. The
adoption of SFAS No. 165 resulted in additional disclosure but did not have a
material impact on our financial statements.
SFAS
No. 167
In
June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation
No. 46 (R), which requires an on-going reassessment of whether an
enterprise is the primary beneficiary of a variable interest entity. This
analysis identifies the primary beneficiary of a variable interest entity as the
enterprise that has both of the following characteristics: (i) the power to
direct the activities of a variable interest entity that most significantly
impact the entity’s economic performance, and (ii) the obligation to absorb
losses of the entity that could potentially be significant to the variable
interest entity or the right to receive benefits from the entity that could
potentially be significant to the variable interest entity. SFAS No.
167 is effective for us beginning January 1, 2010 and we are still in the
process of quantifying the impact of the adoption of this standard on our
consolidated financial statements.
SFAS
No. 168
In June
2009, the FASB issued SFAS No. 168, The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles, a
replacement of FASB Statement No. 162. SFAS No. 168
establishes the FASB Accounting Standards Codification as the source of
authoritative accounting principles recognized by the FASB to be applied by
nongovernmental entities in the preparation of financial statements in
conformity with GAAP. SFAS No. 168 is effective for us beginning with
our September 30, 2009 consolidated financial statements. SFAS No.
168 does not change GAAP but will change how we reference GAAP in our
consolidated financial statements.
58
Pacific
Office Properties Trust, Inc.
FSP
EITF 03-6-1
In June
2008, the FASB issued FASB Staff Position (FSP) EITF No. 03-6-1, Determining Whether Instruments
Granted in Share-Based Payment Transactions Are Participating Securities.
This FSP requires that share-based payment awards that are not fully vested and
contain non-forfeitable rights to receive dividends or dividend equivalents
declared on our common stock be treated as participating securities in the
computation of EPS pursuant to the two-class method. Dividend equivalents
corresponding to the cash dividends declared on our common stock are forfeitable
for unvested restricted stock unit awards granted to our board of directors, as
described in Note 13 to our condensed combined consolidated financial statements
included in this Quarterly Report on Form 10-Q. FSP EITF No. 03-6-1 is applied
retrospectively to all periods presented for fiscal years beginning after
December 15, 2008, which for us means January 1, 2009. The adoption of FSP EITF
No. 03-6-1 did not have an impact on our consolidated financial position,
results of operations and cash flows.
EITF
No. 08-6
In
November 2008, the FASB ratified EITF No. 08-6, Equity Method Investment Accounting Considerations
(EITF 08-6), which provides guidance for the accounting of contingent
consideration, recognition of other-than-temporary impairment (OTTI) of an
equity method investee, and change in level of ownership or degree of influence.
The accounting of contingent consideration might result in the recording of a
liability with an increase to the corresponding investment balance. The investor
must recognize its share of the investee’s OTTI charges. A gain or loss to the
investor resulting from a change in level of ownership or influence must be
recognized in earnings of the investor. EITF 08-6 is effective as of January 1,
2009 for our Company. This EITF did not have an impact on our consolidated
financial position, results of operations or cash flows. In the event that we
acquire a controlling interest in our existing investments in unconsolidated
joint ventures, we believe that the adoption of this EITF No. 08-6 could
materially impact our future consolidated financial results.
FSP
FAS 142-3
In April
2008, the FASB issued FSP No. 142-3, Determination of the Useful
Life of Intangible
Assets, which amends the factors that should be considered in developing
renewal or extension assumptions used to determine the useful life of a
recognized intangible asset under SFAS 142, Goodwill and Other Intangibles. This FSP will
allow us to use our own assumptions about renewal or extension of an
arrangement, adjusted for our own specific factors, as described in SFAS 142,
even when there is likely to be substantial cost or material modifications. FSP
142-3 is effective for us as of January 1, 2009 and applied prospectively for
intangible assets acquired or recognized after such date. The adoption of this
FSP did not have a material impact on our consolidated financial position,
results of operations or cash flows.
FSP
107-1 and APB 28-1
In April
2009, the FASB issued FSP 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial
Instruments, which amends SFAS No. 107, Disclosures about Fair Value of
Financial Instruments, to require disclosures about fair value of
financial instruments for interim reporting periods of publicly traded companies
as well as in annual financial statements. This FSP also amends APB Opinion No.
28, Interim Financial
Reporting, to require those disclosures in summarized financial
information at interim reporting periods. Our adoption of this FSP during the
quarter ended June 30, 2009 resulted in additional disclosures but did not have
a material impact on our consolidated financial position, results of operations
or cash flows.
FSP
No. FAS 141(R) – 1
In April
2009, the FASB issued FSP No. FAS 141(R) – 1, Accounting for Assets Acquired and Liabilities
Assumed in a Business Combination That Arises from
Contingencies. This FSP amends and clarifies SFAS No. 141(R),
to address application issues raised by preparers, auditors, and members of the
legal profession on initial recognition and measurement, subsequent measurement
and accounting, and disclosure of assets and liabilities arising from
contingencies in a business combination. Under this FSP, continent
assets and liabilities arising from contingencies are recognized at fair value
on the acquisition date. This FSP is effective for us beginning July
1, 2009 and will apply prospectively to business combinations completed on or
after that date. The impact of the adoption of FSP No. FAS 141(R) – 1
will depend on the nature of acquisitions completed after the date of
adoption.
59
Pacific
Office Properties Trust, Inc.
Item 4T. Controls and
Procedures.
Evaluation
of disclosure controls and procedures.
As
described in the Original Filing, we carried out an evaluation, under the
supervision and with the participation of our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures pursuant to Rule 13a-15 of the Exchange
Act. Based on this evaluation, our Chief Executive Officer and Chief Financial
Officer concluded that our disclosure controls and procedures were effective as
of June 30, 2009. However, as a result of the material weakness subsequently
identified and described below, the Chief Executive Officer and Chief Financial
Officer of the Company re-evaluated disclosure controls and procedures and have
subsequently concluded that they were not effective as of June 30,
2009.
In
connection with the preparation of our financial statements for the quarter
ended September 30, 2009, we determined that we had not properly recorded
certain non-cash fair value measurements of the common units of the Operating
Partnership in accordance with the Company’s adoption on January 1, 2009 of
guidance issued by the Financial Accounting Standards Board which required the
Company to evaluate the presentation of the limited partnership common and
preferred interests in our audited consolidated financial statements as of and
for the year ended December 31, 2008 and our unaudited consolidated financial
statements as of and for the quarterly periods ended March 31, 2009 and June 30,
2009. On November 18, 2009, we determined that we would restate our
financial statements for these periods. Because of these
restatements, management determined that a material weakness in internal control
over financial reporting existed as of June 30, 2009. Based on the
existence of this material weakness, our Chief Executive Officer and Chief
Financial Officer concluded that our disclosure controls and procedures were not
effective as of June 30, 2009, the end of the period covered by this
report.
60
Pacific
Office Properties Trust, Inc.
Changes
in Internal Control Over Financial Reporting
There
have been no changes in our internal control over financial reporting that
occurred during the quarter covered by this Quarterly Report on Form 10-Q that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting.
Subsequent
to June 30, 2009, we identified a material weakness in our internal controls
over the financial reporting close process with respect to our recording of
certain non-cash fair value measurements of the common units of our operating
partnership, Pacific Office Properties, L.P., which resulted in the restatement
of the amounts previously reported in the non-controlling interests, additional
paid in capital and retained deficit of our consolidated balance sheets for the
period ended December 31, 2008 and subsequent quarters. During the quarter
ended December 31, 2009, we have begun to execute actions to remediate these
weaknesses by revising our financial statement close process to include a more
rigorous review process, the use of more comprehensive checklists and engaging
experienced consultants to assist us in the interpretation and application of
generally accepted accounting principles. For the period ended December
31, 2008 and the first and second quarters of 2009, we previously recorded our
redeemable common operating partnership units of our operating partnership at
its historical cost. We subsequently discovered that this accounting
treatment did not appropriately reflect the measurement provisions for
redeemable non-controlling interests as required by FAS 160 and D-98, which
discuss the accounting for classification and measurement of redeemable
securities. These errors will be remediated during the quarter ended
December 31, 2009. We may make further changes in our internal control
processes from time to time in the future.
61
Pacific
Office Properties Trust, Inc.
PART
II — OTHER INFORMATION
Item
6. Exhibits.
Exhibit No.
|
Description
|
3.1
|
Amended
and Restated Articles of Incorporation of the Company (previously filed as
Exhibit 3.1 to the Company’s Current Report on Form 8-K filed March 25,
2008 (File No. 000-53143) (the “March 25, 2008 Form 8-K”) and incorporated
herein by reference).
|
3.2
|
Amended
and Restated Bylaws (previously filed as Exhibit 3.2 to the March 25, 2008
Form 8-K and incorporated herein by reference).
|
3.3
|
Articles
Supplementary of Board of Directors Classifying and Designating a Series
of Preferred Stock as Proportionate Voting Preferred Stock (“Articles
Supplementary”)(previously filed as Exhibit 3.3 to the March 25, 2008 Form
8-K and incorporated herein by reference).
|
3.4
|
Articles
of Amendment to Articles Supplementary (previously filed as Exhibit 3.1 to
the Company’s Current Report on Form 8-K filed March 10, 2009 (File No.
001-09900) and incorporated herein by reference).
|
10.1
|
Pacific
Office Properties Trust, Inc. 2008 Directors’ Stock Plan (previously filed
as Appendix A to the Company’s Definitive Proxy Statement on Schedule 14A
filed April 1, 2009 (File No. 001-09900) and incorporated herein by
reference).
|
10.2
|
Form
of Restricted Stock Unit Award Agreement under the Company’s 2008
Directors’ Stock Plan (Filed with the Original Filing.)
|
31.1
|
Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002. (Filed herewith.)
|
31.2
|
Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002. (Filed herewith.)
|
32.1
|
Certification
of Chief Executive Officer pursuant to 18 U.S.C. § 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (Filed
herewith.)
|
32.2
|
Certification
of Chief Financial Officer pursuant to 18 U.S.C. § 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (Filed
herewith.)
|
62
Pacific
Office Properties Trust, Inc.
SIGNATURES
In
accordance with the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PACIFIC OFFICE PROPERTIES TRUST, INC. | |||
Date:
December 14, 2009
|
By:
|
/s/ Jay H. Shidler | |
Jay H. Shidler | |||
Chief Executive Officer | |||
|
By:
|
/s/ Lawrence J. Taff | |
Lawrence J. Taff | |||
Chief Financial Officer | |||