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EX-32.1 - EXHIBIT 32.1 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh32_1.htm
EX-23.1 - EXHIBIT 23.1 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh23_1.htm
EX-32.2 - EXHIBIT 32.2 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh32_2.htm
EX-31.2 - EXHIBIT 31.2 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh31_2.htm
EX-21.1 - EXHIBIT 21.1 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh21_1.htm
EX-31.1 - EXHIBIT 31.1 - PACIFIC OFFICE PROPERTIES TRUST, INC.exh31_1.htm
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form 10-K
 

þ
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
 
OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2010
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
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
86-0602478
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)

 
10188 Telesis Court, Suite 222
San Diego, CA 92121
(Address of principal executive offices) (Zip Code)

(Registrant’s telephone number, including area code): (858) 882-9500

Securities registered pursuant to Section 12(b) of the Act:

Title of each class
Name of exchange on which registered
Common Stock, par value $0.0001 per share
NYSE Amex

Securities registered pursuant to Section 12(g) of the Act:  None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15 (d) of the Exchange Act.  Yes o     No þ

Indicate by check mark whether the registrant (1) has filed all reports required 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 þ     No o

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 o     No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   þ 

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.

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

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

The aggregate market value of Common Stock held by non-affiliates of the registrant computed by reference to the closing price of the registrant’s Common Stock on the NYSE Amex Stock Exchange (formerly the American Stock Exchange) on June 30, 2010 was $8,215,918.

As of March 31, 2011 there were issued and outstanding 3,903,050 shares of common stock listed on the NYSE Amex, par value $0.0001 per share (“Listed Common Stock”); 100 shares of Class B Common Stock, par value $0.0001 per share; and 2,417,867 shares of Senior Common Stock, par value $0.0001 per share.

 
DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s definitive proxy statement to be issued in conjunction with the registrant’s annual meeting of stockholders to be held in 2011 are incorporated by reference in Part III of this Annual Report on Form 10-K. The proxy statement will be filed by the registrant with the Securities and Exchange Commission not later than 120 days after the end of the registrant’s fiscal year ended December 31, 2010.

 
 

 

PACIFIC OFFICE PROPERTIES TRUST, INC.

TABLE OF CONTENTS

FORM 10-K

 
 
Page 
PART I
Item 1.
Business                                                                                                                    
1
Item 1A.
Risk Factors                                                                                                                    
4
Item 1B.
Unresolved Staff Comments                                                                                                                    
20
Item 2.
Properties                                                                                                                    
21
Item 3.
Legal Proceedings                                                                                                                    
31
Item 4.
(Removed and Reserved)                                                                                                                    
31
 
PART II
Item 5.
of Equity Securities                                                                                                                    
32
Item 6.
Selected Financial Data                                                                                                                    
33
Item 7.
33
Item 7A.
Quantitative and Qualitative Disclosures about Market Risk                                                                                                                    
51
Item 8.
Financial Statements and Supplementary Data                                                                                                                    
51
Item 9.
51
Item 9A.
Controls and Procedures                                                                                                                    
51
Item 9B.
Other Information                                                                                                                    
51
 
PART III
Item 10.
Directors, Executive Officers and Corporate Governance                                                                                                                    
52
Item 11.
Executive Compensation                                                                                                                    
52
Item 12.
52
Item 13.
52
Item 14.
Principal Accountant Fees and Services                                                                                                                    
52
 
PART IV
Item 15.
Exhibits and Financial Statement Schedules                                                                                                                    
53
Signatures                                                                                                                                     
58


 
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PART I

ITEM 1.  -  BUSINESS

Pacific Office Properties Trust, Inc. is a Maryland corporation which has elected to be treated as a real estate investment trust, or REIT, under the Internal Revenue Code of 1986, which we refer to as the Code.  We are a self-administered and self-managed REIT that owns and operates primarily institutional-quality office properties principally in selected long-term growth markets in southern California and Hawaii. We currently own eight office properties comprising approximately 2.3 million rentable square feet. We also own interests (ranging from 5% to approximately 32%) in 16 joint venture properties, of which we have managing ownership interests in 15, comprising approximately 2.4 million rentable square feet.

During 2010, we were externally advised by Pacific Office Management, Inc., referred to as our Advisor or Pacific Office Management, an entity that was owned and controlled by Jay H. Shidler, our Chairman of the Board, and certain of our executive officers and related parties of The Shidler Group, which is a business name utilized by a number of affiliates of Mr. Shidler.  The Advisor was responsible for the day-to-day operation and management of the Company.  Effective as of February 1, 2011, we acquired all of the outstanding stock of our Advisor for an aggregate purchase price of $25,000 and internalized management.

We operate in a manner that permits us to satisfy the requirements for taxation as a REIT under the Code. As a REIT, we generally are not subject to federal income tax on our taxable income that is distributed to our stockholders and are required to distribute to our stockholders at least 90% of our annual REIT taxable income (excluding net capital gains).

Our principal executive offices are located in our Seaview Corporate Center complex, at 10188 Telesis Court, Suite 222, San Diego, California 92121, and our telephone number is (858) 882-9500.

Our Structure and Formation Transactions

We were formed on March 19, 2008 via a merger, and related transactions, of The Shidler Group’s western U.S. office portfolio and joint venture operations into Arizona Land Income Corporation, or AZL, a publicly-traded REIT.  We are the sole general partner of our Operating Partnership, Pacific Office Properties, L.P., a Delaware limited partnership.

As part of the formation transactions, POP Venture, LLC, a Delaware limited liability company, which we refer to as Venture, contributed to our Operating Partnership ownership interests in eight wholly-owned properties and one property in which it held a 7.5% managing ownership interest. We refer to these properties as the Contributed Properties.  In exchange for its contribution to the Operating Partnership of the Contributed Properties, Venture received 13,576,165 common units in our Operating Partnership, referred to as Common Units, together with 4,545,300 Class A convertible preferred units in our Operating Partnership, referred to as Preferred Units, and $16,695,000 in promissory notes.

The Common Units held by Venture are redeemable by Venture on a one-for-one basis for shares of our common stock listed on the NYSE Amex, referred to as our Listed Common Stock, or a new class of common units without redemption rights, as elected by a majority of our independent directors. Each Preferred Unit is initially convertible into 7.1717 Common Units, but such conversion may not occur before the date we consummate an underwritten public offering (of at least $75 million) of our Listed Common Stock. Upon conversion of the Preferred Units to Common Units, such Common Units will be redeemable by Venture on a one-for-one basis for shares of our Listed Common Stock or a new class of common units without redemption rights, as elected by a majority of our independent directors, but no earlier than one year after the date of their conversion from Preferred Units to Common Units.

As part of our formation transactions, we issued to our Advisor one share of Proportionate Voting Preferred Stock.  The Proportionate Voting Preferred Stock has no dividend rights and minimal rights to distributions in the event of liquidation, but it entitles its holder to vote on all matters for which the holders of Listed Common Stock are entitled to vote.  The Proportionate Voting Preferred Stock entitles its holder to cast a number of votes equal to the total number of shares of Listed Common Stock issuable upon redemption for shares of the Common Units and Preferred Units (representing 46,173,693 common share equivalents) issued in connection with the formation transactions, notwithstanding any restrictions on redemption of the Operating Partnership units. This number will decrease to the extent that these Operating Partnership units are redeemed in the future. The number will not increase in the event of subsequent unit issuances by our Operating Partnership. As of December 31, 2010, that share of Proportionate Voting Preferred Stock represented approximately 88% of our voting power.  In connection with the internalization of our management, our Advisor sold the share of Proportionate Voting Preferred Stock to Pacific Office Holding, Inc., a corporation owned by Mr. Shidler and certain of our executive officers and other affiliates, for nominal consideration.  Pacific Office Holding, Inc. has agreed to cast its Proportionate Voting Preferred Stock votes on any matter in direct proportion to votes that are cast by limited partners of our Operating Partnership holding the Common Units and Preferred Units issued in the formation transactions.

 
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In connection with our formation transactions, Venture also granted us options to acquire managing ownership interests in five additional office properties. We exercised these options in multiple transactions. The acquisition of our managing ownership interest in a joint venture, which we refer to as POP San Diego I, holding four office properties (Torrey Hills Corporate Center, Palomar Heights Plaza, Palomar Heights Corporate Center and Scripps Ranch Center) comprising approximately 181,664 square feet located in San Diego, California was funded by issuing 396,526 Common Units on April 30, 2008 and 326,576 Common Units on June 19, 2008 that were valued at $6.5589 per unit and $6.8107 per unit, respectively. A total of 524,839 of these Common Units remain outstanding and are redeemable by the holders on a one-for-one basis for shares of our Listed Common Stock or cash, as elected by a majority of our independent directors.

Regulation

Our properties are subject to various covenants, laws, ordinances and regulations, including regulations relating to common areas and fire and safety requirements. We believe that each of our properties has the necessary permits and approvals to operate its business.

Americans with Disabilities Act

Our properties must comply with Title III of the Americans with Disabilities Act of 1990, or the ADA, to the extent that such properties are “public accommodations” as defined by the ADA. Under the ADA, all public accommodations must meet federal requirements related to access and use by disabled persons. The ADA may require removal of structural barriers to access by persons with disabilities in certain public areas of our properties where such removal is readily achievable. The obligation to make readily achievable accommodations is an ongoing one, and continual assessment of the properties is required. Although we believe that our properties in the aggregate substantially comply with present requirements of the ADA, we have not conducted a comprehensive audit or investigation of all of our properties to determine compliance, and we are aware that some particular properties may currently not be in compliance with the ADA. If one or more of our currently owned properties or future properties is not in compliance with the ADA, then we would be required to incur additional costs to bring the property into compliance. Noncompliance could result in imposition of fines by the U.S. government or an award of damages and/or attorneys’ fees to private litigants, or both. Additional federal, state and local laws also may require us to modify properties or could restrict our ability to renovate properties. Complying with the ADA or other legislation at noncompliant properties could be very expensive.

Environmental Matters

Environmental laws regulate, and impose liability for, releases of hazardous or toxic substances into the environment. Under some of these laws, an owner or operator of real estate may be liable for costs related to soil or groundwater contamination on or migrating to or from its property. In addition, persons who arrange for the disposal or treatment of hazardous or toxic substances may be liable for the costs of cleaning up contamination at the disposal site. These laws often impose liability regardless of whether the person knew of, or was responsible for, the presence of the hazardous or toxic substances that caused the contamination. The presence of, or contamination resulting from, any of these substances, or the failure to properly remediate them, may adversely affect our ability to sell or rent our property or to borrow funds using the property as collateral. In addition, persons exposed to hazardous or toxic substances may sue for personal injury damages. For example, some laws impose liability for release of or exposure to materials containing asbestos, a substance known to be present in a number of our buildings. In addition, some of our properties may have been affected by contamination from past operations or from off-site sources. As a result, we may be potentially liable for investigation and cleanup costs, penalties and damages under environmental laws.

Although most of our properties have been subjected to preliminary environmental assessments, known as Phase I assessments, by independent environmental consultants that identify conditions that could pose potential environmental liabilities, Phase I assessments are limited in scope, and may not include or identify all potential environmental liabilities or risks associated with the property. Unless required by applicable law or any of our lenders, we may decide not to further investigate, remedy or ameliorate the liabilities disclosed in the Phase I assessments. Further, these or other environmental studies may not identify all potential environmental liabilities or accurately assess whether we will incur material environmental liabilities in the future. If we do incur material environmental liabilities in the future, we may face significant remediation costs, and we may find it difficult to sell any affected properties.

 
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Insurance

We carry comprehensive liability, fire, extended coverage, business interruption and rental loss insurance covering all of our properties under blanket insurance policies. We believe the policy specifications and insured limits are appropriate and adequate given the relative risk of loss, the cost of the coverage and industry practice; however, the insurance coverage may not be sufficient to fully cover losses.

Our business operations in southern California, Honolulu and Phoenix are susceptible to, and could be significantly affected by, adverse weather conditions and natural disasters such as earthquakes, tsunamis, hurricanes, volcanoes, wind, floods, landslides, drought and fires. These adverse weather conditions and natural disasters could cause significant damage to the properties in our portfolio, the risk of which is enhanced by the concentration of our properties’ locations. Our insurance may not be adequate to cover business interruption or losses resulting from adverse weather or natural disasters. In addition, our insurance policies include customary deductibles and limitations on recovery. As a result, we may be required to incur significant costs in the event of adverse weather conditions and natural disasters. We may discontinue earthquake or any other insurance coverage on some or all of our properties in the future if the cost of premiums for any of these policies in our judgment exceeds the value of the coverage discounted for the risk of loss.

Furthermore, we do not carry insurance for certain losses, including, but not limited to, losses caused by war or by certain environmental conditions, such as mold or asbestos. In addition, if a loss or damages are suffered at one or more of our properties, the insurer may attempt to limit or void coverage by arguing that the loss resulted from facts or circumstances not covered by our policy. Furthermore, our title insurance policies may not insure for the current aggregate market value of our portfolio, and we do not intend to increase our title insurance coverage as the market value of our portfolio increases. As a result, we may not have sufficient coverage against all losses that we may experience, including from adverse title claims. If we experience a loss that is uninsured or that exceeds policy limits, we could incur significant costs and lose the capital invested in the damaged or otherwise adversely affected properties as well as the anticipated future cash flows from those properties.

In addition, our properties may not be able to be rebuilt to their existing height or size or utility at their existing location under current land-use laws and policies. In the event that we experience a substantial or comprehensive loss of one of our properties, we may not be able to rebuild such property to its existing specifications or operate it in accordance with its current use, or we may be required to upgrade such property in connection with any rebuilding to meet current code requirements.

Competition

We compete with a number of developers, owners and operators of office real estate, many of which own properties similar to ours in the same markets in which our properties are located. If our competitors offer space at rental rates below current market rates, or below the rental rates we currently charge our tenants, we may lose existing or potential tenants and we may be pressured to reduce our rental rates below those we currently charge or to offer more substantial rent abatements, tenant improvements, early termination rights or below-market renewal options in order to retain tenants when our tenants’ leases expire or to entice new tenants to lease space in our properties. In that case, our financial condition, results of operations, cash flow, per share trading price of our Listed Common Stock and ability to satisfy our debt service obligations and to pay dividends may be adversely affected.

Employment

During 2010, we were externally advised by our Advisor and did not have any employees of our own.  Effective as of February 1, 2011, we internalized our management by acquiring our Advisor along with its employees.  We now employ our executive officers and other employees through our former Advisor, Pacific Office Management, which is now our subsidiary.  As of March 29, 2011, we had 55 total employees, all of whom are full-time employees.  None of these employees are represented by a labor union.

 
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Available Information

Our website is located at http://www.pacificofficeproperties.com. We make available free of charge, on or through our website, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission, or the SEC. You can also read and copy any materials we file with the SEC at its Public Reference Room at 100 F Street, NE, Washington, DC 20549 (1-800-SEC-0330), on official business days during the hours of 10:00 am to 3:00 pm. The SEC maintains an Internet site (http://www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

ITEM 1A.  -  RISK FACTORS

The following section sets forth material factors that may adversely affect our business and operations.  This is not an exhaustive list, and additional factors could adversely affect our business and financial performance.  Moreover, we operate in a very competitive and rapidly changing environment.  New risk factors emerge from time to time and it is not possible for us to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.  This discussion of risk factors includes many forward-looking statements.  For cautions about relying on forward-looking statements, please refer to the section entitled “Note Regarding Forward Looking Statements” in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations. “

Risks Related To Our Business And Properties

We need to raise additional capital, which may not be available to us.

Our business is capital intensive and our ability to maintain our operations depends on our cash flow from operations and our ability to raise additional capital on acceptable terms. We have not achieved positive cash flow since our formation transactions were consummated in March 2008. Moreover, in February 2011, we terminated our registered continuous public offering of Senior Common Stock, so this offering is no longer a source of capital for us. We expect that our funds from operations will be insufficient to fund discretionary leasing capital and tenant improvements. Accordingly, we expect that we will need to sell existing properties, contribute existing properties to joint ventures with third parties or raise additional capital, either from debt or equity, to meet these needs. We cannot be certain that we will be able to raise additional capital on acceptable terms or at all. If we are unable to raise needed capital, our ability to operate our properties may suffer and our ability to operate the company will be impaired.
 
We are prohibited from disposing of or refinancing certain properties under certain circumstances until March 2018, which may further restrict our ability to raise additional capital.

A sale of any of the properties contributed by POP Venture, LLC, or Venture, in connection with our formation transactions in March 2008 (specifically, our Waterfront Plaza, Davies Pacific Center, Pan Am Building, First Insurance Center, Pacific Business News Building, Clifford Center, Sorrento Technology Center, City Square and Seville Plaza properties) that would not provide continued tax deferral to Venture is contractually prohibited for ten years after the closing of the transactions related to such properties. These restrictions on the sale of such properties may prevent us from selling the properties or may adversely impact the terms available to us upon a disposition. In addition, we have agreed that, during such ten-year period, we will not prepay or defease any mortgage indebtedness of such properties, other than in connection with a concurrent refinancing with non-recourse mortgage debt of an equal or greater amount and subject to certain other restrictions. These restrictions limit our ability to refinance indebtedness on those properties and to manage our debt structure. As a result, we may be unable to access certain capital resources that would otherwise be available to us. Furthermore, if any such sale or defeasance is foreseeable, 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. These contractual obligations may limit our operating flexibility and compel us to take actions or enter into transactions that we otherwise would not undertake. If we fail to comply with any of these requirements, we will be liable for a make-whole cash payment to Venture, the cost of which could be material and could adversely affect our liquidity.

We have a substantial amount of debt outstanding, which may affect our ability to pay dividends, may expose us to interest rate fluctuation risk and may expose us to the risk of additional default under our debt obligations.

As of December 31, 2010, our total consolidated indebtedness was approximately $441.2 million. Our unconsolidated joint venture properties are also leveraged with an aggregate of $365.6 million in indebtedness as of December 31, 2010.

Payments of principal and interest on borrowings may leave our property-owning entities with insufficient cash resources to operate our properties and/or pay distributions to us so that we can make distributions to stockholders. Furthermore, any property-owning entity may default on its obligations and the lenders or mortgagees may foreclose on our properties and execute on any collateral that secures their loans. For tax purposes, a foreclosure of any of our properties would be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property, we would recognize taxable income on foreclosure, but we would not receive any cash proceeds.

 
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Our substantial outstanding debt, and the limitations imposed on us by our debt agreements, could have significant other adverse consequences, including the following:

·  
our cash flow may be insufficient to meet our required principal and interest payments;

·  
we may be unable to borrow additional funds as needed or on favorable terms, which could adversely affect our liquidity;

·  
we may be forced to dispose of one or more of our properties, possibly on disadvantageous terms; and

·  
we will be exposed to interest and future interest rate volatility with respect to indebtedness that is variable rate.

If any one of these events were to occur, our financial condition, results of operations, cash flow, per share trading price of our Listed Common Stock and ability to satisfy our debt service obligations and to pay dividends could be adversely affected. In addition, any foreclosure on our properties could create taxable income without accompanying cash proceeds, which could adversely affect our ability to meet the REIT distribution requirements imposed by the Code.

We may be unable to refinance, extend or repay our substantial indebtedness at maturity, including $64.4 million in aggregate consolidated principal indebtedness that is matured and unpaid.

We cannot assure you that we will be able to refinance, extend or repay our substantial indebtedness on acceptable terms or at all.  The ability to refinance our indebtedness is negatively affected by the current condition of the credit markets, which have significantly reduced the capacity levels of commercial lending, and may also be negatively affected by the real or perceived decline in the value of our properties based on general economic conditions.

We have $64.4 million in aggregate principal indebtedness secured by our City Square and Pacific Business News Building properties that is matured and unpaid as of December 31, 2010.  As of December 31, 2010, interest was being incurred at the default rate of the stated rate plus 5% for each of the matured loans, except for the City Square loan (Senior Note) in connection with which we signed a forbearance agreement with the lender on October 15, 2010.  Under this forbearance agreement, the default interest of 5% in excess of the stated rate and late charge penalties in the amount of approximately $1.9 million will be forgiven if the loan is repaid in full prior to April 29, 2011.  We are currently in negotiations with the lenders in connection with the remaining matured and unpaid debt, which consists of a $11.6 million loan secured by our Pacific Business News Building property and a $25.3 million mezzanine loan secured by a pledge of the ownership interests in the entities owning the City Square property, but there can be no assurance that we will be able to retain our ownership of these properties.  These properties together account for approximately $12.9 million in annualized rent as of December 31, 2010 (see Item 2 - Properties).  These loans are non-recourse obligations of their respective borrowers, except for customary recourse carve-outs for borrower misconduct and environmental liabilities.  We are currently not aware of the occurrence of any event that would constitute a recourse carve-out on these loans.

In addition, as of December 31, 2010, our unconsolidated joint venture properties have, in the aggregate, approximately $96.5 million of debt maturing in 2011 and an additional $177.5 million of debt maturing in 2012.  If we or our joint venture partners are unable to service this debt, the lenders may foreclose on our joint venture properties or the joint ventures may have to deed properties back to the applicable lenders or otherwise dispose of properties, possibly on disadvantageous terms.  If any of our joint ventures deed properties back to the applicable lenders, we would be required to write off our investment in the applicable joint venture, which could have a material adverse effect on our business, financial condition or results of operations.  There can be no assurance that joint venture operations or contributions by us and/or our joint venture partners will be sufficient to repay these loans.
 
Our organizational documents have no limitation on the amount of indebtedness that we may incur. As a result, we may become more highly leveraged in the future, which could adversely affect our financial condition.

Our organizational documents contain no limitations regarding the maximum level of debt that we may incur nor do they restrict the form of our debt (including recourse, non-recourse and cross-collateralized debt). Accordingly, we could, without stockholder approval, become more highly leveraged, which could result in an increase in our debt service, could materially adversely affect our cash flow and our ability to make distributions to our stockholders and/or the distributions required to maintain our REIT qualification, and could harm our financial condition. Higher leverage will also increase the risk of default on our obligations.

 
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All of our properties are located in southern California, Honolulu and Phoenix. We are dependent on the southern California, Honolulu and Phoenix office markets and economies, and are therefore susceptible to risks of events in those markets that could adversely affect our business, such as adverse market conditions, changes in local laws or regulations, and natural disasters.

Because all of our properties are concentrated in southern California, Honolulu and Phoenix, we are exposed to greater economic risks than if we owned a more geographically dispersed portfolio. Our consolidated portfolio is particularly concentrated in Honolulu, where six of our eight wholly-owned properties are located, representing 79.2% of our annualized rent from our wholly-owned properties as of December 31, 2010. We are susceptible to adverse developments in the southern California, Honolulu and Phoenix economic and regulatory environments (such as business layoffs or downsizing, industry slowdowns, relocations of businesses, increases in real estate and other taxes, costs of complying with governmental regulations or increased regulation and other factors) as well as natural disasters that occur in these areas (such as earthquakes, hurricanes, floods, wildfires and other events). In particular, California is regarded as more litigious and more highly regulated and taxed than many states, which may reduce demand for office space in California. Any adverse developments in the economy or real estate markets in southern California, Honolulu or Phoenix, or any decrease in demand for office space resulting from the southern California, Honolulu or Phoenix regulatory or business environments, could adversely impact our financial condition, results of operations and cash flow, the per share trading price of our Listed Common Stock and our ability to satisfy our debt service obligations and to pay dividends to stockholders.

The illiquidity of real estate investments could significantly impede our ability to respond to adverse changes in the performance of our properties and harm our financial condition.

Real estate investments, especially office properties like the properties we currently own, are relatively illiquid and may become even more illiquid during periods of economic downturn. In particular, these risks could arise from weakness in or even the lack of an established market for a property, changes in the financial condition or prospects of prospective purchasers, changes in national or international economic conditions and changes in laws, regulations or fiscal policies of jurisdictions in which the property is located. As a result, we may not be able to sell a property or properties quickly or on favorable terms and realize our investment objectives, or otherwise promptly modify our portfolio, in response to changing economic, financial and investment conditions when it otherwise may be prudent to do so. This inability to respond quickly to changes in the performance of our properties and sell an unprofitable property could adversely affect our cash flows and results of operations, thereby limiting our ability to make distributions to our stockholders. Our financial condition could also be adversely affected if we were, for example, unable to sell one or more of our properties in order to meet our debt obligations upon maturity.

The Code imposes restrictions on a REIT’s ability to dispose of properties that are not applicable to other types of real estate companies. In particular, the tax laws applicable to REITs require that we hold our properties for investment, rather than primarily for sale in the ordinary course of business, which may cause us to forego or defer sales of properties that otherwise would be in our best interest. Therefore, we may not be able to vary our portfolio in response to economic or other conditions promptly or on favorable terms, which may adversely affect our cash flows, financial condition and results of operations, the market price of our Listed Common Stock and our ability to pay distributions to our stockholders.
 
In addition, our ability to dispose of some of our properties could be constrained by their tax attributes. Properties which we own for a significant period of time or which we acquire through tax deferred contribution transactions in exchange for units in our Operating Partnership may have low tax bases. If we dispose of these properties outright in taxable transactions, we may need to distribute a significant amount of the taxable gain to our stockholders under the requirements of the Code for REITs or pay federal income tax at regular corporate rates on the amount of any gain, which in turn would impact our cash flow and increase our leverage. To dispose of low basis or tax-protected properties efficiently, we may from time to time use like-kind exchanges, which qualify for non-recognition of taxable gain, but can be difficult to consummate and result in the property for which the disposed assets are exchanged inheriting their low tax bases and other tax attributes (including tax protection covenants).


 
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Our operating performance is subject to risks associated with the real estate industry.

Real estate investments are subject to various risks and fluctuations and cycles in value and demand, many of which are beyond our control. Certain events may decrease cash available for dividends, as well as the value of our properties. These events include, but are not limited to:

·  
adverse changes in economic and demographic conditions;

·  
vacancies or our inability to rent space on favorable terms;

·  
adverse changes in financial conditions of buyers, sellers and tenants of properties;

·  
inability to collect rent from tenants;

·  
competition from other real estate investors with significant capital, including other real estate operating companies, publicly traded REITs and institutional investment funds;

·  
reductions in the level of demand for office space, including trends such as telecommuting and flexible workplaces, and changes in the relative popularity of properties;

·  
increases in the supply of office space;

·  
declining real estate valuations and impairment charges;

·  
fluctuations in interest rates, which could adversely affect our ability, or the ability of buyers and tenants of properties, to obtain financing on favorable terms or at all;

·  
increases in expenses, including insurance costs, labor costs, energy prices, real estate assessments and other taxes and costs of compliance with laws, regulations and governmental policies, and our inability to pass on some or all of these increases to our tenants; and

·  
changes in, and changes in enforcement of, laws, regulations and governmental policies, including, without limitation, health, safety, environmental, zoning and tax laws, governmental fiscal policies and the ADA.

In addition, periods of economic slowdown or recession, rising interest rates or declining demand for real estate, or the public perception that any of these events may occur, could result in a general decline in rents or an increased incidence of defaults under existing leases without a corresponding decrease in expenses. Costs associated with real estate investments, such as real estate taxes, ground lease payments, insurance, loan payments and maintenance, generally will not be reduced even if the vacancy rate at a property increases or rental rates decrease. If we cannot operate our properties so as to meet our financial expectations, our financial condition, results of operations, cash flow, per share trading price of our Listed Common Stock and ability to satisfy our debt service obligations and to pay dividends to our stockholders could be adversely affected. There can be no assurance that we can achieve our economic objectives.
 
We may be adversely affected by trends in the office real estate industry.

Some businesses are rapidly evolving to make employee telecommuting, flexible work schedules, open workplaces and teleconferencing increasingly common. These practices enable businesses to reduce their space requirements. A continuation of the movement towards these practices could over time erode the overall demand for office space and, in turn, place downward pressure on occupancy, rental rates and property valuations, each of which could have an adverse effect on our financial position, results of operations, cash flows and ability to make distributions to our shareholders.

Prior to the internalization of our management in February 2011, we were externally managed by an entity controlled by the Chairman of our board of directors and certain of our executive officers and related parties; we do not have any operating history as a REIT that is self-administered and self-managed.

Prior to the internalization of our management, we were externally managed by Pacific Office Management, Inc., referred to as our Advisor, an entity controlled by the Chairman of our board of directors and certain of our executive officers and related parties. Effective as of February 1, 2011, we acquired our Advisor and thereby became internally managed. We cannot assure you that our past performance with external management will be indicative of internal management’s ability to function effectively and successfully operate our company. We do not have any operating history with internal management and do not know if we will be able to successfully integrate our former external management. Now that we are internally managed, our direct expenses include general and administrative costs previously borne by our Advisor. We also now employ and pay the executive officers and other employees through our former Advisor, Pacific Office Management, which is now a subsidiary. By employing personnel, we are subject to potential liabilities commonly faced by employers, such as workers’ disability and compensation claims, potential labor disputes and other employee-related liabilities and grievances. Our failure to successfully integrate the operations of our Advisor could have a negative effect on our operations.

 
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We expect our operating expenses to increase following the internalization of our management and that they may further increase in the future, even if our revenues do not increase, causing our results of operations to be adversely affected.

Prior to the internalization of our management, we were externally advised by our Advisor. Our Advisor bore the cost and was not reimbursed by us for any expenses incurred by it in the course of performing operational advisory services for us, including salaries and wages, office rent, equipment costs, travel costs, insurance costs, telecommunications and supplies. Our Advisor’s expenses for performing operational advisory services for us exceeded the advisory fees that we paid to it. We therefore expect our operating costs, specifically general and administrative costs, to increase following the internalization of our management. Other factors that may adversely affect our ability to control operating costs include the need to pay for insurance and other operating costs, including real estate taxes, which could increase over time, the need periodically to repair, renovate and re-lease space, the cost of compliance with governmental regulation, including zoning and tax laws, the potential for liability under applicable laws, interest rate levels and the availability of financing. If our operating costs increase as a result of any of the foregoing factors, our results of operations may be adversely affected.

Our success depends on key personnel with extensive experience dealing with the real estate industry, and the loss of these key personnel could threaten our ability to operate our business successfully.

Our future success depends, to a significant extent, on the continued services of our management team. In particular, we depend on the efforts of Mr. Shidler, the Chairman of our board of directors, Mr. Ingebritsen, our President and Chief Executive Officer, and our other executive officers. Each of these persons has a national or regional reputation in the real estate industry based on their extensive experience in running public and private companies, including REITs, devoted to real estate investment, management and development. Each member of our management team has developed informal relationships through past business dealings with numerous members of the real estate community, including current and prospective tenants, lenders, real estate brokers, developers and managers. We expect that their reputations afford us a “first call” advantage in attracting business and investment opportunities before the active marketing of properties and assist us in negotiations with lenders, existing and potential tenants, and industry personnel. If we lost their services, our relationships with such lenders, existing and prospective tenants, and industry personnel could suffer.

We face intense competition, which may decrease, or prevent increases of, the occupancy and rental rates of our properties.

We compete with a number of developers, owners and operators of office real estate, many of which own properties similar to ours in the same markets in which our properties are located. If our competitors offer space at rental rates below current market rates, or below the rental rates we currently charge our tenants, we may lose existing or potential tenants and we may be pressured to reduce our rental rates below those we currently charge or to offer more substantial rent abatements, tenant improvements, early termination rights or below-market renewal options in order to retain tenants when our tenants’ leases expire or to entice new tenants to lease space in our properties. In that case, our financial condition, results of operations, cash flow, per share trading price of our Listed Common Stock and ability to satisfy our debt service obligations and to pay dividends to our stockholders may be adversely affected.

The actual rents we receive for the properties in our portfolio may be less than our asking rents, and we may experience lease roll down from time to time, which would negatively impact our ability to generate cash flow growth.

We may be unable to realize our asking rents across the properties in our portfolio because of:

·  
competitive pricing pressure in our markets;

·  
adverse conditions in the southern California, Honolulu or Phoenix real estate markets;

 
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·  
general economic downturn; and

·  
the desirability of our properties compared to other properties in our markets.

In addition, the degree of discrepancy between our asking rents and the actual rents we are able to obtain may vary both from property to property and among different leased spaces within a single property. If we are unable to achieve our asking rents across our portfolio, then our ability to generate cash flow growth will be negatively impacted. In addition, depending on asking rental rates at any given time as compared to expiring leases in our portfolio, from time to time rental rates for expiring leases may be higher than starting rental rates for new leases.

The expense of owning and operating a property is not necessarily reduced when circumstances such as market factors and competition cause a reduction in income from the property. As a result, if revenues decline, we may not be able to reduce our expenses accordingly. If a property is mortgaged and we are unable to meet the mortgage payments, the lender could foreclose on the mortgage and take possession of the property, resulting in a further reduction in net income.

Leases representing approximately 13.7% of the rentable square feet of our total portfolio are scheduled to expire in 2011.  We may be unable to renew leases or lease vacant space at favorable rates or at all, which would negatively impact our ability to generate cash flow.

As of December 31, 2010, leases representing approximately 13.7% of the 4,762,777 rentable square feet of our total portfolio (including our consolidated and joint venture properties) were scheduled to expire in 2011, and an additional 16.6% of the square footage of our total portfolio was available for lease. These leases may not be renewed, or may be re-leased at rental rates equal to or below existing rental rates. In addition, some of our leases include early termination provisions that permit the lessee to terminate all or a portion of its lease with us after a specified date or upon the occurrence of certain events with little or no liability to us. Substantial rent abatements, tenant improvements, early termination rights or below-market renewal options may be offered to attract new tenants or retain existing tenants. Portions of our properties may remain vacant for extended periods of time. In addition, some existing leases currently provide tenants with options to renew the terms of their leases at rates that are less than the current market rate or to terminate their leases prior to the expiration date thereof. If we are unable to obtain rental rates that are on average comparable to our asking rents across our portfolio, then our ability to generate cash flow growth will be negatively impacted.

We may be required to make significant capital expenditures to improve our properties in order to retain and attract tenants.  If we are unable to do so, this could cause a decline in operating revenues and a reduction in cash available for debt service and distributions to stockholders.

We expect that, upon expiration of leases at our properties, we may be required to make rent or other concessions to tenants, accommodate requests for renovations, build-to-suit remodeling and other improvements or provide additional services to our tenants. As a result, we may have to pay for significant leasing costs or tenant improvements in order to retain tenants whose leases expire and to attract new tenants in sufficient numbers. Additionally, we may need to raise capital to make such expenditures. If we are unable to do so or capital is otherwise unavailable, we may be unable to make the required expenditures. This could result in non-renewals by tenants upon expiration of their leases, which would result in declines in revenues from operations and reduce cash available for debt service and distributions to stockholders.

We depend on tenants for our revenue, and accordingly, lease terminations and/or tenant defaults, particularly by one of our larger tenants, could adversely affect the income produced by our properties, which may harm our operating performance.

The success of our investments materially depends on the financial stability of our tenants, any of whom may experience a change in their business at any time. For example, the economic crisis already may have adversely affected or may in the future adversely affect one or more of our tenants. As a result, our tenants may delay lease commencements, decline to extend or renew their leases upon expiration, fail to make rental payments when due or declare bankruptcy. Any of these actions could result in the termination of the tenants’ leases, expiration of existing leases without renewal and the loss of rental income attributable to the terminated or expired leases. In the event of a tenant default or bankruptcy, we may experience delays in enforcing our rights as a landlord and may incur substantial costs in protecting our investment and re-letting our property. It is unlikely that a bankrupt tenant will pay, in full, amounts owed to us under a lease. If significant leases are terminated or defaulted upon, we may be unable to lease the property for the rent previously received or sell the property without incurring a loss. In addition, significant expenditures, such as mortgage payments, real estate taxes and insurance and maintenance costs, are generally fixed and do not decrease when revenues at the related property decrease, so tenant defaults or departures could decrease our cash from operations, liquidity and net income.

 
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Our current and future joint venture investments could be adversely affected by a lack of sole decision-making authority and our reliance on joint venture partners’ financial condition and liquidity.

We own properties through “joint venture” investments in which we co-invest with another investor. In the future, we may acquire office properties through joint ventures and/or sell to institutions partial ownership of properties that we wholly own. Joint venture investments involve certain risks, including:

·  
joint venture partners may control or share certain approval rights over major decisions, such as decisions related to the development, financing, leasing, management and other aspects of the project, which may prevent us from taking actions that are opposed by our joint venture partners;

·  
joint venture partners may fail to fund their share of any required capital commitments;

·  
joint venture partners might have economic or other business interests or goals that are inconsistent with our business interests or goals that would affect our ability to operate the property;

·  
joint venture partners may have the power to act contrary to our instructions and policies, including our current policy with respect to maintaining our REIT qualification;

·  
joint venture agreements often restrict the transfer of a member’s or joint venture partner’s interest, provide for a buyout of a joint venture partner’s interest in certain instances or may otherwise restrict our ability to sell the interest when we desire or on advantageous terms;

·  
our relationships with our joint venture partners are contractual in nature and may be terminated or dissolved under the terms of the applicable joint venture agreements and, in such event, we may not continue to own or operate the interests or assets underlying such relationship or may need to purchase such interests or assets at a premium to the market price to continue ownership;

·  
disputes between us and our joint venture partners may result in litigation or arbitration that would increase our expenses and divert attention from other elements of our business and result in subjecting the properties owned by the applicable joint venture to additional risk; and

·  
we may in certain circumstances be liable for the actions of our joint venture partners.

The occurrence of one or more of the events described above could adversely affect our financial condition, results of operations, cash flow and our ability to pay dividends.

Volatility in the capital and credit markets could adversely impact our ability to obtain financing and the pricing of real estate assets.

Volatility in the capital and credit markets could adversely affect our ability to obtain financing, including refinancing of our existing indebtedness, by causing lenders and credit rating agencies to tighten their underwriting standards. This directly affects a lender’s ability to provide debt financing and increases the cost of available debt financing. As a result, we may not be able to obtain favorable debt financing in the future or at all. Furthermore, any turmoil in the capital or credit markets could adversely impact the overall amount of capital and debt financing available to invest in real estate, which may result in decreases in price or value of real estate assets.

Adverse market and economic conditions could cause us to recognize additional impairment charges.

We review our real estate assets for impairment indicators, such as a decline in a property’s occupancy or the market price for our common stock, in accordance with accounting principles generally accepted in the United States, or GAAP. If we determine that indicators of impairment are present, we review the properties affected by these indicators to determine whether an impairment charge is required. We use considerable judgment in making determinations about impairments, from analyzing whether there are indicators of impairment to the assumptions used in calculating the fair value of the investment. Accordingly, our subjective estimates and evaluations may not be accurate, and such estimates and evaluations are subject to change or revision.
 
 
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Ongoing adverse market and economic conditions and market volatility will likely continue to make it difficult to value the real estate assets owned by us as well as the value of our joint venture investments. There may be significant uncertainty in the valuation, or in the stability of the cash flows, discount rates and other factors related to such assets due to the adverse market and economic conditions that could result in a substantial decrease in their value. We recorded non-cash asset and goodwill impairment charges in the aggregate amount of $40.3 million during the fourth quarter of 2010 to reflect the reduction in carrying values of our properties. We may be required to recognize additional asset and goodwill impairment charges in the future, which could materially and adversely affect our business, financial condition and results of operations.

If we are deemed an “investment company” under the Investment Company Act of 1940, it could have a material adverse effect on our business.

We do not expect to operate as an “investment company” under the Investment Company Act of 1940, as amended, or the Investment Company Act. However, the analysis relating to whether a company qualifies as an investment company can involve technical and complex rules and regulations. If we own assets that qualify as “investment securities” as such term is defined under the Investment Company Act and the value of such assets exceeds 40% of the value of our total assets, we could be deemed to be an investment company and be required to register under the Investment Company Act. Registered investment companies are subject to a variety of substantial requirements that could significantly impact our operations. The costs and expenses we would incur to register and operate as an investment company, as well as the limitations placed on our operations, could have a material adverse impact on our operations and your investment return. In order to operate in a manner to avoid being required to register as an investment company, we may be unable to sell assets we would otherwise want to sell or we may need to sell assets we would otherwise wish to retain. In addition, we may also have to forgo opportunities to acquire interests in companies or entities that we would otherwise want to acquire.

Potential losses may not be covered by insurance and we could incur significant costs and lose our equity in the damaged properties.

We carry comprehensive liability, fire, extended coverage, business interruption and rental loss insurance covering all of our properties under blanket insurance policies. The insurance coverage contains policy specifications and insured limits customarily carried for similar properties and business activities. However, we do not carry insurance for certain losses, including, but not limited to, losses caused by war or by certain environmental conditions, such as mold or asbestos. In addition, if a loss or damages are suffered at one or more of our properties, the insurer may attempt to limit or void coverage by arguing that the loss resulted from facts or circumstances not covered by our policy. Furthermore, our title insurance policies may not insure for the current aggregate market value of our portfolio, and we do not intend to increase our title insurance coverage as the market value of our portfolio increases. As a result, we may not have sufficient coverage against all losses that we may experience, including from adverse title claims. If we experience a loss that is uninsured or that exceeds policy limits, we could incur significant costs and lose the capital invested in the damaged or otherwise adversely affected properties as well as the anticipated future cash flows from those properties.

Our business operations in southern California, Honolulu and Phoenix are susceptible to, and could be significantly affected by, adverse weather conditions and natural disasters such as earthquakes, tsunamis, hurricanes, volcanoes, wind, floods, landslides, drought and fires. These adverse weather conditions and natural disasters could cause significant damage to the properties in our portfolio, the risk of which is enhanced by the concentration of our properties’ locations. Our insurance may not be adequate to cover business interruption or losses resulting from adverse weather or natural disasters. In addition, our insurance policies include customary deductibles and limitations on recovery. As a result, we may be required to incur significant costs in the event of adverse weather conditions and natural disasters. We may discontinue earthquake or any other insurance coverage on some or all of our properties in the future if the cost of premiums for any of these policies in our judgment exceeds the value of the coverage discounted for the risk of loss.

In addition, our properties may not be able to be rebuilt to their existing height or size at their existing location under current land-use laws and policies. In the event that we experience a substantial or comprehensive loss of one of our properties, we may not be able to rebuild such property to its existing specifications or may be required to upgrade such property in connection with any rebuilding to meet current code requirements.


 
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We face possible risks associated with climate change.
 
We cannot predict with certainty whether global warming or cooling is occurring and, if so, at what rate. However, the physical effects of climate change could have a material adverse effect on our properties, operations and business. All of our properties are located in southern California, Honolulu and Phoenix. To the extent climate change causes changes in weather patterns, our markets could experience increases in storm intensity and rising sea-levels. Over time, these conditions could result in declining demand for office space in our buildings or the inability of us to operate the buildings at all. Climate change may also have indirect effects on our business by increasing the cost of (or making unavailable) property insurance on terms we find acceptable and increasing the cost of energy at our properties. Moreover, compliance with new laws or regulations related to climate change, including compliance with “green” building codes, may require us to make improvements to our existing properties or increase taxes and fees assessed on us or our properties. There can be no assurance that climate change will not have a material adverse effect on our properties, operations or business.

Terrorism and other factors affecting demand for our properties could harm our operating results.

The strength and profitability of our business depends on demand for and the value of our properties. Future terrorist attacks in the United States, such as the attacks that occurred in New York and Washington, D.C. on September 11, 2001, and other acts of terrorism or war may have a negative impact on our operations. Such terrorist attacks could have an adverse impact on our business even if they are not directed at our properties. In addition, the terrorist attacks of September 11, 2001 have substantially affected the availability and price of insurance coverage for certain types of damages or occurrences, and our insurance policies for terrorism include large deductibles and co-payments. Although we maintain terrorism insurance coverage on our portfolio, the lack of sufficient insurance for these types of acts could expose us to significant losses and could have a negative impact on our operations.

Because we own real property, we are subject to extensive environmental regulation which creates uncertainty regarding future environmental expenditures and liabilities.

Environmental laws regulate, and impose liability for, releases of hazardous or toxic substances into the environment. Under some of these laws, an owner or operator of real estate may be liable for costs related to soil or groundwater contamination on or migrating to or from its property. In addition, persons who arrange for the disposal or treatment of hazardous or toxic substances may be liable for the costs of cleaning up contamination at the disposal site. These laws often impose liability regardless of whether the person knew of, or was responsible for, the presence of the hazardous or toxic substances that caused the contamination. The presence of, or contamination resulting from, any of these substances, or the failure to properly remediate them, may adversely affect our ability to sell or rent our property or to borrow funds using the property as collateral. In addition, persons exposed to hazardous or toxic substances may sue for personal injury damages. For example, some laws impose liability for release of or exposure to materials containing asbestos, a substance known to be present in a number of our buildings. In addition, some of our properties may have been affected by contamination from past operations or from off-site sources. As a result, we may be potentially liable for investigation and cleanup costs, penalties and damages under environmental laws.

Although most of our properties have been subjected to preliminary environmental assessments, known as Phase I assessments, by independent environmental consultants that identify conditions that could pose potential environmental liabilities, Phase I assessments are limited in scope, and may not include or identify all potential environmental liabilities or risks associated with the property. Unless required by applicable law or our lenders, we may decide not to further investigate, remedy or ameliorate the liabilities disclosed in the Phase I assessments. Further, these or other environmental studies may not identify all potential environmental liabilities or accurately assess whether we will incur material environmental liabilities in the future. If we do incur material environmental liabilities in the future, we may face significant remediation costs, and we may find it difficult to sell or finance any affected properties.

Compliance with the ADA and fire, safety and other regulations may require us to make unanticipated expenditures that could significantly reduce the cash available for distribution to our stockholders.

Our properties must comply with Title III of the ADA to the extent that such properties are “public accommodations” as defined by the ADA. Under the ADA, all public accommodations must meet federal requirements related to access and use by disabled persons. The ADA may require removal of structural barriers to access by persons with disabilities in certain public areas of our properties where such removal is readily achievable. The obligation to make readily achievable accommodations is an ongoing one, and continual assessment of the properties is required. Although we believe that our properties in the aggregate substantially comply with present requirements of the ADA, we have not conducted a
 
 
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comprehensive audit or investigation of all of our properties to determine compliance, and we are aware that some properties may not be in compliance with the ADA. If one or more of our currently owned properties or future properties is not in compliance with the ADA, then we would be required to incur additional costs to bring the property into compliance. Noncompliance could result in the imposition of fines by the U.S. government or an award of damages and/or attorneys’ fees to private litigants, or both. Additional federal, state and local laws also may require us to modify properties or could restrict our ability to renovate properties. Complying with the ADA or other legislation at noncompliant properties could be very expensive. If we incur substantial costs to comply with such laws, our financial condition, results of operations, cash flow, per share trading price of our common stock, our ability to satisfy our debt service obligations and our ability to pay distributions to our stockholders could be adversely affected. We cannot predict the ultimate amount of the cost of compliance with the ADA or other legislation.

In addition, our properties are subject to various federal, state and local regulatory requirements, such as state and local fire and life safety requirements. Although we believe that our properties in the aggregate substantially comply with these regulatory requirements, we have not conducted a comprehensive review of all of our properties, and we are aware that some properties may not be in compliance with applicable regulatory requirements. If we were to fail to comply with these various requirements, we might incur governmental fines or private damage awards. If we incur substantial costs to comply with these regulatory requirements, our financial condition, results of operations, cash flow, market price of our Listed Common Stock and our ability to satisfy our debt service obligations and to pay distributions to our stockholders could be adversely affected. Local regulations, including municipal or local ordinances, zoning restrictions and restrictive covenants imposed by community developers may restrict our use of our properties and may require us to obtain approval from local officials or community standards organizations at any time with respect to our properties, including prior to acquiring a property or when undertaking renovations of any of our existing properties.

If we default on the ground leases to which certain of our properties are subject, our business could be adversely affected.

We hold long-term ground leasehold interests in our Clifford Center and Waterfront Plaza properties (as well as Bank of Hawaii Waikiki Center, which is ground leased to a joint venture in which we hold a minority interest). For these properties, instead of owning fee title to the land, we (or our joint venture) are the lessee under a long-term ground lease. If we default under the terms of these leases, we may be liable for damages and could lose our leasehold interest in the property. If any of these events were to occur, our business and results of operations would be adversely affected.

Our property taxes could increase due to property tax rate changes or reassessment, which would impact our cash flows.

We are required to pay state and local taxes on our properties. The real property taxes on our properties may increase as property tax rates change or as our properties are assessed or reassessed by taxing authorities. Therefore, the amount of property taxes we pay in the future may increase substantially and we may be unable to fully recover these increased costs from our tenants. If the property taxes we pay increase and we are unable to fully recover these increased costs from our tenants, our cash flow would be impacted, and our ability to pay dividends to our stockholders could be adversely affected.

We may become subject to litigation, which could have a material adverse effect on our financial condition.

In the future, we may become subject to litigation, including claims relating to our operations, the internalization of our management, offerings and otherwise in the ordinary course of business. Some of these claims may result in significant defense costs and potentially significant judgments against us, some of which are not, or cannot be, insured against. Resolution of these types of matters against us may result in our having to pay significant fines, judgments or settlements, which, if uninsured, or if the fines, judgments and settlements exceed insured levels, could adversely impact our earnings and cash flows, thereby impacting our ability to service debt and make distributions to our stockholders. Certain litigation or the resolution of certain litigation may affect the availability or cost of some of our insurance coverage, which could adversely impact our results of operations and cash flows, expose us to increased risks that would be uninsured, and/or adversely impact our ability to attract officers and directors. Even if we are successful in defending ourselves, certain litigation may require significant attention from our senior management team and distract them from the management of our operations, adversely affecting our financial condition and results of operations.


 
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If we fail to satisfy the regulatory requirements of Section 404 of the Sarbanes-Oxley Act of 2002, or if our disclosure controls or internal control over financial reporting is not effective, investors could lose confidence in our reported financial information, which could adversely affect the perception of our business and the trading price of our common stock.

As a public company, Section 404 of the Sarbanes-Oxley Act of 2002, or Sarbanes-Oxley, requires that we evaluate the effectiveness of our internal control over financial reporting as of the end of each fiscal year, and to include a management report assessing the effectiveness of our internal control over financial reporting in all annual reports. The design and effectiveness of our disclosure controls and procedures and internal control over financial reporting may not prevent all errors, misstatements, or misrepresentations. Although management will continue to review the effectiveness of our disclosure controls and procedures and internal control over financial reporting, there can be no guarantee that our internal control over financial reporting will be effective in accomplishing all control objectives all of the time. Deficiencies, including any material weakness, in our internal control over financial reporting which may occur in the future could result in misstatements of our results of operations, restatements of our financial statements, a decline in the trading price of our common stock, or otherwise materially adversely affect our business, reputation, results of operations, financial condition, or liquidity.


Risks Related to Conflicts of Interest and Certain Relationships

There may be various conflicts of interest resulting from the relationships among us, our management and other parties.

There may be conflicts of interest among us, our management and other parties. These potential conflicts of interest include the following:

·  
In the event that the sale by us of any of the Contributed Properties would be beneficial to us but would negatively impact the tax treatment of Venture, it is possible that any of our directors or officers with a financial interest in Venture may experience a conflict of interest.

·  
In the registration rights agreement we entered into with Venture, we retained certain rights to defer registration in circumstances where such registration would be detrimental to us. It is possible that any of our directors or officers having a financial interest in Venture or its affiliates may experience a conflict of interest in circumstances where a registration would be advantageous to such persons, but detrimental to us.

·  
Certain entities affiliated with us hold promissory notes payable by our Operating Partnership. Those entities have rights under the promissory notes, and their exercise of these rights and pursuit of remedies may be affected by their relationship with each other.

·  
The debt encumbering certain of our properties and, in the case of our Honolulu property known as “Clifford Center,” obligations under the ground lease, are secured, in part, by certain guaranty and indemnity obligations of Messrs. Shidler and Reynolds. Our Operating Partnership has entered into certain indemnity agreements with Messrs. Shidler and Reynolds in order to indemnify each of them under these guaranties and indemnities. Our Operating Partnership’s specific indemnity obligation in each of these indemnity agreements is basically to defend, indemnify and hold harmless Mr. Shidler or Mr. Reynolds from and against any and all demands, claims, causes of action, judgments, losses, costs, damages and expenses, including attorneys’ fees and costs of litigation arising from or relating to any or all of the guaranty or indemnity obligations of Mr. Shidler or Mr. Reynolds following formation.

·  
An entity controlled by Mr. Shidler has pledged a certificate of deposit in the amount of $25 million as security for our Operating Partnership’s credit agreement with First Hawaiian Bank, for which the Operating Partnership has agreed to pay certain fees and provide certain indemnification rights.

These conflicts may result in terms that are more favorable to our management and/or our other affiliates than would have been obtained on an arm’s-length basis, and may operate to the detriment of our stockholders.


 
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We are controlled by Jay H. Shidler.

Jay H. Shidler is the Chairman of our board of directors, controls Venture and, prior to the internalization of our management, was a stockholder and a director of our Advisor. As part of our formation transactions, we issued to our Advisor one share of Proportionate Voting Preferred Stock, which is entitled to cast a number of votes equal to the total number of shares of Listed Common Stock issuable upon redemption for shares of the Common Units and Preferred Units that we issued in connection with the formation transactions. In connection with the internalization of our management, our Advisor sold the share of Proportionate Voting Preferred Stock to Pacific Office Holding, Inc., a corporation owned by Mr. Shidler and certain of our executive officers and other affiliates, for nominal consideration.  Pacific Office Holding, Inc. has agreed to cast its Proportionate Voting Preferred Stock votes on any matter in direct proportion to votes that are cast by limited partners of our Operating Partnership holding the Common Units and Preferred Units issued in the formation transactions. Venture holds those Common Units and Preferred Units and is controlled by Mr. Shidler. As of December 31, 2010, the one share of Proportionate Voting Preferred Stock represented approximately 88% of our voting power. Therefore, because of his position with us, Venture and Pacific Office Holding, Inc. and the additional shares of our Listed Common Stock that he holds, Mr. Shidler has the ability to effectively vote approximately 89% of our currently outstanding voting securities and has significant influence over our policies and strategy and the operations and control of our business and the business of our Operating Partnership. The interests of Mr. Shidler in these matters may conflict with the interests of our other stockholders. As a result, Mr. Shidler could cause us or our Operating Partnership to take actions that our other stockholders do not support.

Jay H. Shidler may compete with us and, therefore, may have conflicts of interest with us.

We have entered into a Noncompetition Agreement with Mr. Shidler, who is the Chairman of our board of directors. The Noncompetition Agreement with Mr. Shidler prohibits, without our prior written consent, Mr. Shidler from investing in certain office properties in the counties of San Diego and Los Angeles, California, the city and county of Honolulu, Hawaii, the county of Maricopa, Arizona, and any other county during such time as we own an office property in such county. However, this covenant not to compete does not restrict:

·  
investments in which Mr. Shidler obtained an interest prior to our formation transactions;

·  
investments by Mr. Shidler in areas in which we do not own office property at the time of such investment;

·  
activities of First Industrial Realty Trust, Inc., Corporate Office Properties Trust and their respective affiliates;

·  
investment opportunities considered and rejected by us; and

·  
investments by Mr. Shidler in any entity as long as Mr. Shidler does not own more than 4.9% of the entity and is not actively engaged in the management of such entity.

It is therefore possible, despite the limitations imposed by his Noncompetition Agreement, that a property in which Mr. Shidler or an affiliate of Mr. Shidler has an interest may compete with us in the future if we were to invest in a property similar in type and in close proximity to that property.

Risks Related to our Capital Stock, our Corporate Structure and our Status as a REIT

Unless our Listed Common Stock meets all applicable listing standards, it could be suspended or delisted from the NYSE Amex, which may decrease the liquidity of our Listed Common Stock, make capital raising efforts more difficult and harm our financial condition and business.

Our Listed Common Stock is listed and traded on the NYSE Amex under the symbol “PCE.”  If we were to fail to meet any of the continued listing standards of the NYSE Amex, our Listed Common Stock could be suspended or delisted from the exchange.  The NYSE Amex will consider the suspension or removal of a listed security when, in the opinion of the NYSE Amex:

·  
the financial condition and/or operating results of the issuer appear to be unsatisfactory,

·  
it appears that the extent of public distribution or the aggregate market value of the security has become so reduced as to make further dealings on the NYSE Amex inadvisable,

 
15

 
·  
the issuer has sold or otherwise disposed of its principal operating assets or has ceased to be an operating company,

·  
the issuer has failed to comply with its listing agreements with the NYSE Amex, or

·  
any other event occurs or any condition exists which makes further dealings on the NYSE Amex unwarranted.

As of December 31, 2010, our stockholders’ equity was below the exchange’s minimum threshold for that specific metric under the NYSE Amex’s continued listing standards.  Because we are not currently in compliance with the exchange’s minimum threshold for stockholders’ equity, there can be no assurance that the NYSE Amex will not consider initiating suspension or delisting procedures.  In the event that we were to receive a formal deficiency notice, we would be required to issue a press release and to file the appropriate report with the SEC. We would then expect to have an opportunity to regain compliance within a specified period of time or to provide the exchange with a plan to regain compliance with the appropriate listing standard or, if the exchange were to fail to accept such a plan, appeal any decision by the exchange to delist our Listed Common Stock. There can be no assurance that we would provide such a plan to the exchange, that the exchange would accept such a plan, that any such plan would be successful, or that any appeals by us to the exchange would be successful.  Any suspension or delisting could adversely affect the market price and the liquidity of our Listed Common Stock and negatively impact our financial condition and business.

Our Listed Common Stock price may be volatile.

Although a trading market for our Listed Common Stock currently exists, the trading volume has not been significant and there can be no assurance that an active trading market for our Listed Common Stock will increase or be sustained in the future or that shares of our Listed Common Stock will be resold at or above their purchase price. The market value of our Listed Common Stock could be substantially affected by many factors, including our financial condition and performance, our quarterly and annual operating results, our decision to suspend our Listed Common Stock dividend beginning with the first quarter of 2011 and any future actions with respect to dividends, the general reputation of REITs and the attractiveness of their equity securities in comparison to other equity securities (including securities issued by other real estate-based companies), and general market conditions.

Our ability to pay dividends is limited, and we cannot provide assurance that we will be able to pay dividends regularly or at all.

Substantially all of our assets are owned through our general partnership interest in our Operating Partnership.  Our Operating Partnership holds substantially all of its properties and assets through subsidiaries, including subsidiary limited liability companies and a corporation that has elected to be treated as a taxable REIT subsidiary.  Our Operating Partnership therefore derives substantially all of its cash flow from cash distributions to it by its subsidiaries and we, in turn, derive substantially all of our cash flow from cash distributions to us by our Operating Partnership.  The creditors and preferred securityholders, if any, of each of our direct and indirect subsidiaries are entitled to payment of that subsidiary’s obligations to them, when due and payable, before that subsidiary may make distributions to us.  Thus, our Operating Partnership’s ability to make distributions to its partners, including us, depends on its subsidiaries’ ability first to satisfy obligations to their creditors and preferred securityholders, if any, and then to make distributions to our Operating Partnership.  Similarly, our ability to pay dividends to holders of our Listed Common Stock depends on our Operating Partnership’s ability first to satisfy its obligations to its creditors and preferred unitholders (including us with respect to the outstanding Senior Common Units of our Operating Partnership, and then to the holder of the outstanding Preferred Units of our Operating Partnership) and then to make distributions to us with respect to our general partnership interest.  Our Operating Partnership may not make distributions to the holders of its outstanding Common Units (including us with respect to our general partnership interest) unless full cumulative distributions have been paid on its outstanding Senior Common Units and Preferred Units, and we may not pay dividends on our Listed Common Stock unless full cumulative dividends have been paid on our outstanding Senior Common Stock.

Any dividends or other distributions we pay in the future will depend upon our legal and contractual obligations, including the provisions of the Senior Common Stock, as well as actual results of operations, economic conditions, debt service requirements and other factors. Our actual results of operations will be affected by a number of factors, including the revenue we receive from our properties, our operating expenses, interest expense, the ability of our tenants to meet their obligations and unanticipated expenditures. We cannot guarantee that we will be able to pay dividends on a regular basis or at all in the future.

 
16

 
The partnership units of our Operating Partnership, future offerings of debt, securities and preferred stock may dilute the holdings of our existing stockholders.

We may attempt to increase our capital resources by making additional offerings of debt or equity securities, including commercial paper, medium term notes, senior or subordinated notes and classes of preferred stock, convertible preferred units or common stock. Upon liquidation, holders of our debt securities, holders of our Senior Common Stock or any preferred stock with preferential distribution rights that we may issue and lenders with respect to other borrowings would receive a distribution of our available assets prior to the holders of our Listed Common Stock. Future equity offerings and the issuance of Listed Common Stock in exchange for partnership units of our Operating Partnership may dilute the holdings of our existing stockholders. If we decide to issue preferred stock in addition to our Proportionate Voting Preferred Stock already issued, it could have a preference on liquidation distributions or a preference on dividend payments that could limit our ability to make a dividend distribution to our existing stockholders.  Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings.

Provisions in our charter, bylaws and Maryland law may delay or prevent our acquisition by a third party, even if such acquisition were in the best interests of our stockholders.

Certain provisions of Maryland law and our charter and bylaws could have the effect of discouraging, delaying or preventing transactions that involve an actual or threatened change in control of us, and may have the effect of entrenching our management and members of our board of directors, regardless of their performance.  These provisions cover, among other topics, the following:

·  
removal of directors;

·  
limitation on stockholder-requested special meetings;

·  
advance notice provisions for stockholder nominations and proposals;

·  
exclusive power of our board to amend our bylaws;

·  
issuance of preferred stock;

·  
restrictions on transfer and ownership of shares of our stock; and

·  
duties of directors with respect to unsolicited takeovers;

Our board of directors may classify or reclassify any unissued common stock or preferred stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and terms or conditions of redemption of any such stock. Thus, our board of directors could authorize the issuance of preferred stock with priority as to distributions and amounts payable upon liquidation over the rights of our existing stockholders. Such preferred stock could also have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price to our existing stockholders.  Our board of directors may also, without stockholder approval, amend our charter to increase or decrease the aggregate number of shares of our stock or the number of shares of stock of any class or series that we have authority to issue.

If we fail to remain qualified as a REIT in any taxable year, our operations and ability to make distributions will be adversely affected because we will be subject to U.S. federal income tax on our taxable income at regular corporate rates with no deduction for distributions made to stockholders.

We believe that we are organized and operate in conformity with the requirements for qualification and taxation as a REIT under the Code, and that our method of operation enables us to continue to meet the requirements for qualification and taxation as a REIT under the Code. However, qualification as a REIT requires us to satisfy highly technical and complex Code provisions for which only limited judicial and administrative authorities exist, and which are subject to change, potentially with retroactive effect. Even a technical or inadvertent mistake could jeopardize our REIT status. Our continued qualification as a REIT will depend on our satisfaction of certain asset, income, organizational, distribution, stockholder ownership and other requirements on a continuing basis. In particular, our ability to qualify as a REIT depends on the relative values of our common stock and our other classes of equity, which are susceptible to fluctuations, and on the actions of third parties in which we may own an interest but over which we have no control or limited influence.

 
17

 
If we were to fail to qualify as a REIT in any tax year, then:

·  
we would not be required to make distributions to our stockholders;

·  
we would not be allowed to deduct distributions to our stockholders in computing our taxable income;

·  
we would be subject to federal income tax, including any applicable alternative minimum tax, at regular corporate rates; and

·  
any resulting tax liability could be substantial and could require us to borrow money or sell assets to pay such liability, and would reduce the amount of cash available for distribution to stockholders. Unless we were entitled to relief under applicable statutory provisions, we would be disqualified from treatment as a REIT for the subsequent four taxable years following the year during which we lost our qualification, and thus, our cash available for distribution to stockholders would be reduced for each of the years during which we did not qualify as a REIT.

The Internal Revenue Service could take the position that our predecessor failed to comply with the REIT asset tests for certain periods and such failures were not due to reasonable cause and resulted in the loss of our REIT status for one or more taxable years.

In connection with our formation transactions, we received a representation from our predecessor, AZL, that it qualified as a REIT under the provisions of the Code. However, during 2009 we became aware that, prior to the consummation of our formation transactions, AZL historically invested excess cash from time to time in money market funds that, in turn, were invested exclusively or primarily in short-term federal government securities. Additionally, during 2009 we became aware that AZL made two investments in local government obligations. Our predecessor, AZL, with no objection from outside advisors, treated these investments as qualifying assets for purposes of the 75% asset test. However, if these investments were not qualifying assets for purposes of the 75% asset test, then AZL would not have satisfied the REIT asset tests for certain quarters, in part, because they would have exceeded 5% of the gross value of AZL’s assets. If these investments resulted in AZL’s noncompliance with the REIT asset tests, however, we and our predecessor, AZL, would retain qualification as a REIT pursuant to certain mitigation provisions of the Code, which provide that so long as any noncompliance was due to reasonable cause and not due to willful neglect, and certain other requirements are met, qualification as a REIT may be retained but a penalty tax would be owed. Any potential noncompliance with the asset tests would be due to reasonable cause and not due to willful neglect so long as we exercised ordinary business care and prudence in attempting to satisfy such tests. Based on our review of the circumstances surrounding the investments, we believe we exercised ordinary business care and prudence in attempting to satisfy the REIT asset tests, including the 5% asset test and, accordingly, that any noncompliance was due to reasonable cause and not due to willful neglect. Additionally, we believe that we have complied with the other requirements of the mitigation provisions of the Code with respect to such potential noncompliance with the asset tests (and have paid the appropriate penalty tax), and, therefore, our qualification, and that of our predecessor, AZL, as a REIT should not be affected. The Internal Revenue Service, or IRS, is not bound by our determination, however, and no assurance can be provided that the IRS will not assert that AZL failed to comply with the REIT asset tests as a result of the money market fund investments and the local government securities investments and that such failures were not due to reasonable cause. If the IRS were to successfully challenge this position, then it could determine that we and AZL failed to qualify as a REIT in one or more of our taxable years.

Our ownership of taxable REIT subsidiaries will be limited, and we will be required to pay a 100% penalty tax on certain income or deductions if our transactions with our taxable REIT subsidiaries are not conducted on arm’s length terms.

Following the internalization of our management, we own an interest in a taxable REIT subsidiary, Pacific Office Management, Inc. and may acquire securities in additional taxable REIT subsidiaries in the future. A taxable REIT subsidiary is a corporation other than a REIT in which a REIT directly or indirectly holds stock, and that has made a joint election with such REIT to be treated as a taxable REIT subsidiary. If a taxable REIT subsidiary owns more than 35% of the total voting power or value of the outstanding securities of another corporation, such other corporation will also be treated as a taxable REIT subsidiary. Other than some activities relating to lodging and health care facilities, a taxable REIT subsidiary may generally engage in any business, including the provision of customary or non-customary services to tenants of its parent REIT. A taxable REIT subsidiary is subject to federal income tax as a regular C corporation. In addition, a 100% excise tax will be imposed on certain transactions between a taxable REIT subsidiary and its parent REIT that are not conducted on an arm’s-length basis.

 
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A REIT’s ownership of securities of a taxable REIT subsidiary is not subject to the 5% or 10% asset tests applicable to REITs. However, not more than 25% of our total assets may be represented by securities of one or more taxable REIT subsidiaries, other than those securities includable in the 75% asset test. We anticipate that the aggregate value of the stock and securities of our taxable REIT subsidiaries will be less than 25% of the value of our total assets, and we will monitor the value of these investments to ensure compliance with applicable ownership limitations. In addition, we intend to structure our transactions with our taxable REIT subsidiaries to ensure that they are entered into on arm’s length terms to avoid incurring the 100% excise tax described above. There can be no assurance, however, that we will be able to comply with the 25% limitation or to avoid application of the 100% excise tax discussed above.

Even if we remain qualified as a REIT, we may face other tax liabilities that reduce our cash flow.

Even if we remain qualified for taxation as a REIT, we may be subject to certain federal, state and local taxes on our income and assets, including taxes on any undistributed income and any taxable REIT subsidiary will be subject to federal, state and local taxes on its income. Any of these taxes would decrease the amount of cash available for distribution to our stockholders. In addition, in order to meet the REIT qualification requirements, or to avert the imposition of a 100% prohibited transactions tax that generally applies to certain gains derived by a REIT from dealer property or inventory, we may in the future hold some of our assets through taxable REIT subsidiaries, which (unlike REITs) are taxed on their taxable income, whether or not distributed.

Dividends payable by REITs do not qualify for the reduced tax rates available for some dividends.

The maximum tax rate applicable to income from “qualified dividends” payable to U.S. stockholders that are individuals, trusts and estates has been reduced by legislation to 15% (through December 31, 2012). Dividends payable by REITs, however, generally are not eligible for the reduced tax rates. Although this legislation does not adversely affect the taxation of REITs or dividends payable by REITs, the more favorable rates applicable to regular corporate qualified dividends could cause investors who are individuals, trusts and estates to perceive investments in REITs to be relatively less attractive than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the market price of the stock of REITs, including our Listed Common Stock.

Complying with REIT requirements may force us to borrow or take other adverse actions to make distributions to stockholders.

As a REIT, we must generally distribute at least 90% of our annual REIT taxable income, subject to certain adjustments, to our stockholders. If we satisfy the REIT distribution requirement but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we will be subject to a 4% nondeductible excise tax if the actual amount that we pay to our stockholders in a calendar year is less than a minimum amount specified under federal tax laws.

From time to time, we may generate taxable income greater than our cash flow available for distribution to stockholders (for example, due to substantial non-deductible cash outlays, such as capital expenditures or principal payments on debt). In order to avoid income and excise taxes in these situations, we could be required to fund distributions from working capital, liquidate assets at prices or times that we regard as unfavorable or borrow to provide funds for distributions, or we may make distributions in the form of a taxable stock dividend. As a result, having to comply with the distribution requirement could cause us to sell assets in adverse market conditions, borrow on unfavorable terms or distribute amounts that would otherwise be invested in future acquisitions, capital expenditures or repayment of debt. These alternatives could increase our operating costs or diminish our levels of growth.

We may in the future choose to pay dividends in our own stock, in which case you may be required to pay tax in excess of the cash you receive.

We may distribute taxable dividends that are payable in our stock. Under recent IRS guidance, up to 90% of any such taxable dividend with respect to calendar years through 2011, and in some cases declared as late as December 31, 2012, could be payable in our stock. Taxable stockholders receiving such dividends will be required to include the full amount of the dividend as ordinary income to the extent of our current and accumulated earnings and profits for federal income tax purposes. As a result, a U.S. stockholder may be required to pay tax
 
 
19

 
with respect to such dividends in excess of the cash received. If a U.S. stockholder sells the stock it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the dividend, depending on the market price of our stock at the time of the sale. Furthermore, with respect to non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such dividends, including in respect of all or a portion of such dividend that is payable in stock. In addition, if a significant number of our stockholders determine to sell shares of our stock in order to pay taxes owed on dividends, such sales may have an adverse effect on the per share trading price of our Listed Common Stock.

REIT restrictions on ownership of our capital stock may delay or prevent our acquisition by a third party, even if an acquisition is in the best interests of our stockholders.

In order for us to qualify as a REIT, not more than 50% of the value of our capital stock may be owned, directly or indirectly, by five or fewer individuals during the last half of any taxable year.

Our charter provides that, subject to certain exceptions, no person, including entities, may own, or be deemed to own by virtue of the attribution provisions of the Code, more than 4.9% in economic value of the aggregate of the outstanding shares of capital stock, or more than 4.9% in economic value or number of shares, whichever is more restrictive, of our outstanding shares of common stock. While these restrictions may prevent any five individuals from owning more than 50% of the shares, they could also discourage a change in control of our company. These restrictions may also deter tender offers that may be attractive to stockholders or limit the opportunity for stockholders to receive a premium for their shares if an investor seeks to acquire a block of shares of our capital stock.

Complying with REIT requirements may affect our profitability and may force us to liquidate or forgo otherwise attractive investments.

To qualify as a REIT, we must continually satisfy tests concerning, among other things, the nature and diversification of our assets, the sources of our income and the amounts we distribute to our stockholders. We may be required to liquidate or forgo otherwise attractive investments in order to satisfy the asset and income tests or to qualify under certain statutory relief provisions. We also may be required to make distributions to stockholders at disadvantageous times or when we do not have funds readily available for distribution. Accordingly, satisfying the REIT requirements could have an adverse effect on our business results, profitability and ability to execute our business plan. Moreover, if we are compelled to liquidate our investments to meet any of these asset, income or distribution tests, or to repay obligations to our lenders, we may be unable to comply with one or more of the requirements applicable to REITs or may be subject to a 100% tax on any resulting gain if such sales constitute prohibited transactions.

Liquidation of collateral may jeopardize our REIT status.

To continue to qualify as a REIT, we must comply with requirements regarding our assets and our sources of income. If we are compelled to liquidate investments to satisfy our obligations to our lenders, we may be unable to comply with these requirements, ultimately jeopardizing our status as a REIT.

Complying with REIT requirements may limit our ability to hedge effectively.

The REIT provisions of the Code may limit our ability to hedge our operations. Under current law, any income that we generate from derivatives or other transactions intended to hedge our interest rate risks, or any income from foreign currency or other hedges, will generally be treated as nonqualifying income for purposes of the REIT 75% and 95% gross income tests unless specified requirements are met. As a result of these rules, we may have to limit our use of hedging techniques that might otherwise be advantageous, which could result in greater risks associated with interest rate or other changes than we would otherwise incur.

We may be subject to adverse legislative or regulatory tax changes that could reduce the market price of our Listed Common Stock.

At any time, the federal income tax laws governing REITs, or the administrative interpretations of those laws, may be amended. Any of those new laws or interpretations may take effect retroactively and could adversely affect us or you as a stockholder.

ITEM 1B.  -  UNRESOLVED STAFF COMMENTS

Not applicable.

 
20

 
 
ITEM 2.  -  PROPERTIES

Our property portfolio is comprised primarily of institutional-quality office buildings located principally in selected long-term growth markets in southern California and Hawaii. Each property is owned either through entities wholly-owned by us or through joint ventures.  We hold managing ownership interests in six of our seven joint ventures.

As of December 31, 2010, we owned 24 office properties, including the interests in our joint venture properties, comprising approximately 4.7 million rentable square feet in 45 buildings. The following tables contain descriptive information about all of our properties as of December 31, 2010.

 
 
PROPERTY
 
NO. OF BUILDINGS
   
YEAR BUILT/
RENOVATED
   
RENTABLE SQ. FT. (1)
   
ANNUALIZED RENT (2)(3)
   
PERCENTAGE OWNERSHIP
 
 
 
INTEREST
                                 
Wholly-Owned Properties
                               
                                 
Waterfront Plaza
    1       1988/2006       554,695     $ 18,733,757       100.00 %
Leasehold
500 Ala Moana Boulevard
                                         
Honolulu, HI 96813
                                         
                                           
Davies Pacific Center
    1       1972/2006       375,021       10,274,961       100.00 %
Fee Simple
841 Bishop Street
                                         
Honolulu, HI 96813
                                         
                                           
Pan Am Building
    1       1969/2005       225,847       6,829,432       100.00 %
Fee Simple
1600 Kapiolani Boulevard
                                         
Honolulu, HI 96814
                                         
                                           
First Insurance Center
    1       1960       215,527       7,293,007       100.00 %
Fee Simple
1100 Ward Avenue
                                         
Honolulu, HI 96814
                                         
                                           
Pacific Business News Building
    1       1964/2006       96,309       2,043,970       100.00 %
Fee Simple
1833 Kalakaua Avenue
                                         
Honolulu, HI 96815
                                         
                                           
Clifford Center
    1       1964/2005       77,655       1,798,751       100.00 %
Leasehold
810 Richards Street
                                         
Honolulu, HI 96813
                                         
                                           
City Square
    3       1961/1988       742,304       10,809,501       100.00 %
Fee Simple
3800 North Central Avenue
            1971/1994                            
3838 North Central Avenue
            1965/2000                            
4000 North Central Avenue
                                         
Phoenix, AZ 85012
                                         
                                           
Sorrento Technology Center
    2       1985       63,363       1,557,514       100.00 %
Fee Simple
10140 Barnes Canyon Road
                                         
10180 Barnes Canyon Road
                                         
San Diego, CA 92121
                                         
                                           
 Total Wholly-Owned Properties
    11               2,350,721     $ 59,340,893            

 
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PROPERTY
 
NO. OF BUILDINGS
   
YEAR BUILT/
RENOVATED
   
RENTABLE SQ. FT. (1)
   
ANNUALIZED RENT (2)(3)
   
PERCENTAGE OWNERSHIP
 
 
 
INTEREST
                                 
Joint Venture Properties
                               
                                 
Seville Plaza
    3       1976/2002       139,335     $ 2,477,365       7.50 %
Fee Simple
5469 Kearny Villa Road
                                         
5471 Kearny Villa Road
                                         
5473 Kearny Villa Road
                                         
San Diego, CA 92123
                                         
                                           
U.S. Bank Center
    2       1976/2000-05       372,606       6,234,127       7.50 %
Fee Simple
101 North First Avenue
            1954                            
21 West Van Buren Street
                                         
Phoenix, AZ 85003
                                         
                                           
Bank of Hawaii Waikiki Center
    1       1980/1989       152,288       7,403,672       17.50 %
Leasehold
2155 Kalakaua Avenue
                                         
Honolulu, HI 96815
                                         
                                           
Black Canyon Corporate Center
    1       1980/2006       218,694       3,011,979       17.50 %
Fee Simple
16404 North Black Canyon Highway
                                         
Phoenix, AZ 85053
                                         
                                           
Palomar Heights Corporate Center
    1       1999       67,862       1,467,590       32.17 %
Fee Simple
5857 Owens Avenue
                                         
Carlsbad, CA 92008
                                         
                                           
Torrey Hills Corporate Center
    1       1998       23,478       107,916       32.17 %
Fee Simple
11250 El Camino Real
                                         
San Diego, CA 92130
                                         
                                           
Scripps Ranch Business Park
    2       1984/2006       47,441       576,736       32.17 %
Fee Simple
9775 Business Park Avenue
                                         
10021 Willow Creek Road
                                         
San Diego, CA 92131
                                         
                                           
Palomar Heights Plaza
    3       2001       45,538       830,047       32.17 %
Fee Simple
5860 Owens Avenue
                                         
5868 Owens Avenue
                                         
5876 Owens Avenue
                                         
Carlsbad, CA 92008
                                         
                                           
Carlsbad Corporate Center
    1       1996       120,483       2,385,812       10.00 %
Fee Simple
1950 Camino Vida Roble
                                         
Carlsbad, CA 92008
                                         

 
22

 


 
 
PROPERTY
 
NO. OF BUILDINGS
   
YEAR BUILT/
RENOVATED
   
RENTABLE SQ. FT. (1)
   
ANNUALIZED RENT (2)(3)
   
PERCENTAGE OWNERSHIP
 
 
 
INTEREST
Via Frontera Business Park
    2       1979/1996       75,651       703,432       10.00 %
Fee Simple
10965 Via Frontera Drive
                                         
10993 Via Frontera Drive
                                         
San Diego, CA 92127
                                         
                                           
Poway Flex
    1       1991       111,258       1,487,442       10.00 %
Fee Simple
13550 Stowe Drive
                                         
Poway, CA 92064
                                         
                                           
Savi Tech Center
    4       1989       371,098       7,232,310       10.00 %
Fee Simple
22705 Savi Ranch Parkway
                                         
22715 Savi Ranch Parkway
                                         
22725 Savi Ranch Parkway
                                         
22745 Savi Ranch Parkway
                                         
Yorba Linda, CA 92887
                                         
                                           
Yorba Linda Business Park
    5       1988       164,121       1,396,828       10.00 %
Fee Simple
22833 La Palma Avenue
                                         
22343 La Palma Avenue
                                         
22345 La Palma Avenue
                                         
22347 La Palma Avenue
                                         
22349 La Palma Avenue
                                         
Yorba Linda, CA 92887
                                         
                                           
South Coast Executive Center
    1       1980/1997       60,703       775,246       10.00 %
Fee Simple
1503 South Coast Dr.
                                         
Costa Mesa, CA 92626
                                         
                                           
Gateway Corporate Center
    1       1987       84,996       2,024,731       10.00 %
Fee Simple
1370 Valley Vista Drive
                                         
Diamond Bar, CA 91765
                                         
Yorba Linda Business Park
                                         
                                           
Seaview Corporate Center
    5       1983-2001/       356,504       9,947,425       5.00 %
Fee Simple
10180 Telesis Court
            2005                            
10190 Telesis Court
                                         
10182 Telesis Court
                                         
10188 Telesis Court
                                         
Parking Structure/Café
                                         
San Diego, CA 92121
                                         
                                           
 Total Joint Venture Properties
    34               2,412,056     $ 48,062,658            
                                           
 Total Portfolio(4)
    45               4,762,777     $ 107,403,551            
                                           
 
(1)   Based on Building Owners and Managers Association (BOMA) 1996 remeasurement.
(2)  Annualized rent represents the monthly contractual rent under commenced leases as of December 31, 2010. This amount reflects total rent before abatements and includes contractual expense reimbursements, which are estimated by annualizing December 2010 actual expense reimbursement billings. Total abatements committed to as of December 31, 2010 for the 12 months ending December 31, 2011 were approximately $0.7 million for our wholly-owned properties and $2.5 million for our joint venture properties.
(3)  Annualized rent for the joint venture properties is reported with respect to each property in its entirety, rather than the portion of the property represented by our ownership interest. No portion of the joint venture properties’ annualized rent is consolidated in our consolidated financial statements because our interests in our joint venture properties are accounted for under the equity method of accounting.
(4)  Rentable square feet and annualized rent for the Total Portfolio are reported as the sum of the amounts reported for each property in its entirety, rather than the portion of the property represented by our ownership interest.

 
23

 
Occupancy Rates and Annualized Rents

The following table sets forth the occupancy rate and average annualized rent per square foot for each of our properties at December 31st of each of the past five years commencing with the year of the property’s acquisition by either the Company or affiliates of The Shidler Group.

   
Percent Leased(1)(2)
   
Annualized Rent Per Leased SF(3)
 
PROPERTY
 
2006
   
2007
   
2008
   
2009
   
2010
   
2006
   
2007
   
2008
   
2009
   
2010
 
Wholly-Owned Properties
                                                           
Waterfront Plaza
    94 %     91 %     86 %     94 %     93 %   $ 29.41     $ 31.37     $ 33.95     $ 37.12     $ 37.71  
Davies Pacific Center
    90 %     85 %     87 %     86 %     81 %     30.10       31.54       35.93       35.12       35.79  
Pan Am Building
    93 %     98 %     97 %     93 %     88 %     31.60       31.73       38.83       38.57       36.97  
First Insurance Center
    97 %     97 %     97 %     99 %     99 %     30.59       33.07       35.82       34.61       36.10  
Pacific Business News Building
    75 %     72 %     73 %     73 %     68 %     27.92       29.06       31.36       32.33       32.64  
Clifford Center
    79 %     79 %     81 %     83 %     74 %     24.36       27.18       29.39       31.95       33.09  
City Square
    73 %     77 %     77 %     72 %     71 %     18.39       18.29       20.35       20.64       20.64  
Sorrento Technology Center
    100 %     100 %     100 %     100 %     100 %     21.41       22.14       23.70       24.47       24.58  
Weighted Average: Wholly-Owned Properties
    86 %     86 %     85 %     85 %     83 %   $ 26.33     $ 27.27     $ 30.39     $ 31.26     $ 31.64  
Joint Venture Properties
                                                                               
Bank of Hawaii Waikiki Center
    -       88 %     87 %     86 %     87 %   $ -     $ 38.90     $ 54.05     $ 52.25     $ 56.21  
U.S. Bank Center
    77 %     79 %     80 %     80 %     72 %     18.64       20.53       22.37       22.26       23.32  
Black Canyon Corporate Center
    -       65 %     65 %     65 %     76 %     -       15.60       16.43       17.85       17.99  
Seville Plaza
    90 %     92 %     77 %     75 %     67 %     24.93       26.94       26.84       27.04       26.72  
Seaview Corporate Center
    -       -       -       92 %     97 %     -       -       -       31.05       31.09  
Scripps Ranch Business Park
    -       -       85 %     44 %     49 %     -       -       18.89       26.20       25.04  
Torrey Hills Corporate Center
    -       -       100 %     89 %     11 %     -       -       40.00       41.81       40.80  
Palomar Heights Corporate Center
    -       -       90 %     87 %     82 %     -       -       27.67       28.85       27.53  
Palomar Heights Plaza
    -       -       88 %     70 %     74 %     -       -       25.08       23.07       24.19  
Via Frontera Business Park
    70 %     93 %     93 %     100 %     51 %     17.21       16.47       19.39       18.68       18.08  
Poway Flex
    100 %     100 %     100 %     100 %     100 %     8.40       9.49       9.00       9.36       13.28  
Carlsbad Corporate Center
    44 %     44 %     67 %     95 %     100 %     15.15       15.42       16.47       17.60       19.63  
South Coast Executive Center
    100 %     80 %     60 %     51 %     65 %     24.34       24.10       25.43       25.82       19.51  
Savi Tech Center
    97 %     97 %     97 %     97 %     100 %     16.87       18.39       18.80       19.26       20.03  
Yorba Linda Business Park
    94 %     95 %     87 %     94 %     81 %     9.99       10.79       11.65       11.66       10.41  
Gateway Corporate Center
    84 %     94 %     94 %     91 %     90 %     24.62       25.90       27.45       26.65       27.47  
Weighted Average: Joint Venture  Properties
    85 %     84 %     84 %     85 %     83 %   $ 17.21     $ 19.95     $ 22.39     $ 23.73     $ 24.35  
                                                                                 
Weighted Average: Total Portfolio
    85 %     85 %     85 %     85 %     83 %   $ 22.70     $ 23.98     $ 26.60     $ 27.33     $ 27.91  
   
(1) Based on leases signed as of December 31 of each historical year.
 
(2) Based on rentable square footage.
 
(3) Annualized Rent represents the monthly contractual rent under commenced leases as of December 31, 2010. This amount reflects total rent before abatements and includes contractual expense reimbursements, which are estimated by annualizing December 2010 actual expense reimbursement billings. Annualized rent for the joint venture properties is reported with respect to each property in its entirety, rather than the portion of the property represented by our ownership interest. Annualized Rent per Leased Square Foot represents Annualized Rent divided by square feet of commenced leases as of December 31, 2010.
 

 
24

 

Tenant Diversification

The following tables provide information on the ten largest tenants, by annualized rent, in our wholly-owned and joint venture properties as of December 31, 2010. No single tenant accounts for 10% or more of our total consolidated revenues.


 
 
Tenant
 
Lease
Expiration
Rentable
Square
Feet
 
Annualized
Rent(1)
 
% of Total
Annualized
Rent
 
 
 
Property
 
 
Industry
                   
Wholly-Owned Properties
                 
First Insurance Company of Hawaii Ltd.
2/28/18
109,755   $ 4,148,186   6.99 %
First Insurance Center
Insurance – Direct Property and Casualty Ins. Carriers
Hawaii Insurance Consultants  Ltd
12/31/12
76,828   $ 2,972,395   5.00 %
Waterfront Plaza
Insurance – Agencies and Brokerages
AZ Dept of Economic Security
12/31/12
104,059   $ 1,974,856   3.33 %
City Square
Government – State
Straub Clinic & Hospital
1/31/13
55,910   $ 1,825,926   3.08 %
First Insurance Center
Health Care
General Services Administration
6/20/25
30,994   $ 1,371,361   2.31 %
Waterfront Plaza
Government – Federal
Oahu Publications  Inc.
1/31/18
30,399   $ 1,238,562   2.09 %
Waterfront Plaza
Publishing  Printing
McCorriston Miho Miller Mukai
12/31/11
34,543   $ 1,067,717   1.80 %
Waterfront Plaza
Legal services
AT&T Corp.
6/30/15
26,160   $ 1,061,472   1.79 %
Waterfront Plaza
Communications – All Other
Hilton Grand Vacations Company  LLC
4/16/13
19,263   $ 942,388   1.59 %
Pan Am Building
Travel and tourism services
Fujitsu Transaction Solutions  Inc.
12/31/10
37,886   $ 918,178   1.55 %
Sorrento Technology Center
Information
Total Annualized Rent for
                   
Top 10 Tenants-Wholly-Owned Properties
      $ 17,521,041   29.53 %    
                     
Total Annualized Rent - Wholly-Owned Properties
      $ 59,340,893          
                     
Joint Venture Properties
                   
Carefusion  Inc
2/28/15
130,000   $ 2,807,397   5.84 %
Savi Tech Center
Health Care
Nobel Biocare USA  Inc.
10/31/17
122,361   $ 2,506,798   5.22 %
Savi Tech Center
Health Care
Pfizer  Inc.
7/31/13
61,211   $ 2,124,994   4.42 %
Seaview Corporate Center
Pharmaceuticals
Bank of Hawaii
1/31/38
6,971   $ 2,002,771   4.18 %
Bank of Hawaii Waikiki Center
Banking/Finance - Commercial Banking
Adobe Systems  Inc.
1/31/13
61,211   $ 1,948,099   4.05 %
Seaview Corporate Center
Computer & Data Services
The Active Network  Inc.
10/31/17
61,587   $ 1,703,401   3.55 %
Seaview Corporate Center
Information
High-Tech Institute  Inc./Anthem College
4/4/18
92,974   $ 1,631,625   3.39 %
Black Canyon Corporate Center
Educational Services
JTB Hawaii  Inc.
12/31/12
35,623   $ 1,535,558   3.19 %
Bank of Hawaii Waikiki Center
Travel and tourism services
General Atomics Aeronautical Systems Inc.
5/31/15
112,000   $ 1,487,442   3.09 %
Poway Flex
Information
Valley Metro Rail  Inc.
6/30/16
57,007   $ 1,254,782   2.61 %
U.S. Bank Center
Commuter Rail Systems
Total Annualized Rent for
                   
Top 10 Tenants – Joint Venture Properties
      $ 19,002,867   39.54 %    
                     
Total Annualized Rent –
Joint Venture Properties
      $ 48,062,658          

____________________

 
(1) Annualized Rent represents the monthly contractual rent under commenced leases as of December 31, 2010. This amount reflects total rent before abatements and includes contractual expense reimbursements, which are estimated by annualizing December 2010 actual expense reimbursement billings.  Annualized rent for the tenants of our joint venture properties is reported with respect to each lease in its entirety, rather than the portion of the lease represented by our ownership interest.
 

 
25

 

The following table contains information about tenants who occupy more than 10% of any of our properties as of December 31, 2010. Four properties have no tenant that occupies more than 10% of the rentable area. No tenant occupies more than 10% of the aggregate rentable area of all of our properties combined.
 
 
 
 
Property/Tenant
 
 
 
Industry
 
 
Lease Expiration(1)
 
Renewal
Option
 
Total
Leased
Square feet
% of
Rentable
Square Feet
   
Annualized
Rent(2)
 
% of
Annualized
Rent
 
  Wholly-Owned Properties
                       
Waterfront Plaza
                       
 - Hawaii Insurance Consultants  Ltd
Insurance – Agencies and Brokerages
12/31/12
(3 ) 76,828 13.85 %   $ 2,972,395   15.87 %
First Insurance Center
                         
- First Insurance Company of Hawaii Ltd.
Insurance – Direct Property and Casualty Ins. Carriers
02/28/18
(4 ) 109,755 50.92 %     4,148,186   56.88 %
- Straub Clinic & Hospital
Health Care
01/31/13
(5 ) 55,910 25.94 %     1,825,926   25.04 %
Pacific Business News Building
                         
- Business Journal Publications  Inc.
Publishing  Printing
MTM
None
  9,632 10.00 %     273,982   13.40 %
Clifford Center
                         
- Clifford Projects Inc. 
Architectural & engineering
02/29/16
(6 ) 10,503 13.53 %     383,901   21.34 %
City Square
                         
 - AZ Dept of Economic Security
Government – State
12/31/12
(7 ) 104,059 14.02 %     1,974,856   18.27 %
Sorrento Technology Center
                         
- Fujitsu Transaction Solutions  Inc.
Information
12/31/10
None
  37,886 59.79 %     918,177   58.95 %
- Information Systems Laboratories  Inc.
Information
11/30/11
(8 ) 25,477 40.21