Alexandria Real Estate Equities - 10-Q quarterly report FY

See accompanying notes.

Alexandria Real Estate Equities, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(Unaudited)
(DOLLARS IN THOUSANDS)

Nine Months Ended
September 30,
----------------------
2003 2002
---------- ----------
Operating ActivitiesNet income $46,292 $30,578
Adjustments to reconcile net income to net cash
provided by operating activities:
Loss on early extinguishment of debt - 1,002
Gain/loss on sales of property (8,322) -
Depreciation and amortization 29,034 25,376
Amortization of loan fees and costs 1,513 1,957
Amortization of premiums on secured notes (259) (270)
Stock compensation expense 1,974 2,736
Changes in operating assets and liabilties:
Tenant security deposits and other restricted cash (1,226) 484
Tenant receivables 820 1,606
Deferred rent (5,044) (3,620)
Other assets (6,508) (11,678)
Accounts payable, accrued expenses and tenant
security deposits (2,865) (9,575)
---------- ----------
Net cash provided by operating activities 55,409 38,596
---------- ----------Investing ActivitiesPurchase of rental properties (3,677) (50,325)
Proceeds from sales of property 33,478 -
Additions to rental properties (34,290) (41,166)
Additions to properties under development (68,234) (34,691)
Additions to investments, net (5,348) (12,031)
---------- ----------
Net cash used in investing activities (78,071) (138,213)
---------- ----------Financing ActivitiesProceeds from secured notes payable 64,667 44,663
Proceeds from exercise of stock options 2,648 3,551
Proceeds from issuance of common stock - 97,601
Proceeds from issuance of preferred stock - 55,129
Proceeds from repayment of note receivable - 6,000
Principal reductions to unsecured line of credit (4,000) (64,000)
Principal reductions of secured notes payable (4,847) (12,419)
Dividends paid on common stock (29,697) (24,427)
Dividends paid on preferred stock (6,674) (5,264)
---------- ----------
Net cash provided by financing activities 22,097 100,834
---------- ----------
Net (decrease) increase in cash and cash equivalents (565) 1,217
Cash and cash equivalents at beginning of period 3,790 2,376
---------- ----------
Cash and cash equivalents at end of period $3,225 $3,593
========== ==========

See accompanying notes.

Alexandria Real Estate Equities, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements
(Unaudited)

1. Background and Basis of Presentation

Background

Alexandria Real Estate Equities, Inc. is a real estate investment trust ("REIT") formed in 1994. We are engaged primarily in the ownership, operation, management, acquisition, expansion and selective redevelopment and development of properties containing a combination of office and laboratory space. We refer to these properties as "life science facilities". Our life science facilities are designed and improved for lease primarily to pharmaceutical, biotechnology, life science product and service companies, not-for-profit scientific research institutions, universities and related government agencies. As of September 30, 2003, our portfolio consisted of 87 properties in nine states with approximately 5.6 million rentable square feet.

We have prepared the accompanying interim financial statements in accordance with accounting principles generally accepted in the United States and in conformity with the rules and regulations of the Securities and Exchange Commission. In our opinion, the interim financial statements presented herein reflect all adjustments, consisting solely of normal and recurring adjustments, which are necessary to fairly present the interim financial statements. The results of operations for the interim period are not necessarily indicative of the results that may be expected for the year ending December 31, 2003. These financial statements should be read in conjunction with the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2002.

Basis of Presentation and Significant Accounting Policies

The accompanying condensed consolidated financial statements include the accounts of Alexandria Real Estate Equities, Inc. and its subsidiaries. All significant intercompany balances and transactions have been eliminated.

Reclassifications

Certain prior year amounts have been reclassified to conform to the current year presentation.

1. Background and Basis of Presentation (continued)

Accumulated Other Comprehensive Income

Accumulated other comprehensive income consists of the following (in thousands):

September 30, December 31,
2003 2002
------------ ------------Unrealized gain on
marketable securities $558 $214
Unrealized loss on intere
rate swap agreements (7,662) (9,038)
------------ ------------
($7,104) ($8,824)
============ ============

The following table provides a reconciliation of comprehensive income (in thousands):

Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2003 2002 2003 2002
--------- --------- --------- ---------Net income $21,594 $10,755 $46,292 $30,578
Unrealized (loss) gain on
marketable securities (177) (388) 344 (2,198)
Unrealized gain (loss) on
interest rate swap agreemen 1,776 (1,913) 1,376 (902)
--------- --------- --------- ---------
Comprehensive income $23,193 $8,454 $48,012 $27,478
========= ========= ========= =========

Investments

We hold equity investments in certain publicly traded companies and privately held entities primarily involved in the life science industry. All of our investments in publicly traded companies are considered "available for sale" under the provisions of Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS 115"), and are recorded at fair value and included in other assets in the accompanying balance sheets. Fair value has been determined by the closing trading price at the balance sheet date, with unrealized gains and losses shown as a separate component of stockholders' equity. The classification of investments under SFAS 115 is determined at the time each investment is made, and such determination is reevaluated at each balance sheet date. The cost of investments sold is determined by the specific identification method, with realized gains and losses included in interest and other income.

Investments in privately held entities are included in other assets and accounted for under the provisions of Accounting Principles Board Opinion No. 18, "The Equity Method of Accounting for Investments in Common Stock". Investments in privately held entities are generally accounted for under the cost method because we do not influence any operating or financial policies of the entities in which we invest.

1. Background and Basis of Presentation (continued)

Investments in privately held entities as of September 30, 2003, totaled $43,314,000 and are included in other assets in the accompanying balance sheets.

For all of our investments, if a decline in the fair value of an investment below its carrying value is determined to be other than temporary, such investment is written down to its estimated fair value with a non-cash charge to current earnings.

The following table summarizes our available-for-sale securities (in thousands):

September 30, December 31,
2003 2002
----------- -----------Adjusted cost of available-for-sale
securities $ 1,470 $ 1,876
Gross unrealized gains 558 214
Gross unrealized losses - -
----------- -----------
Fair value of
available-for-sale securities $ 2,028 $ 2,090
=========== ===========

Impact of Recently Issued Accounting Standards

In May 2003, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity"("SFAS 150"), which establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. We adopted SFAS 150 in the third quarter of 2003. The adoption of SFAS 150 did not have an impact on our financial statements.

In April 2003, the FASB issued Statement of Financial Accounting Standards No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS 149"), which amends and clarifies financial accounting and reporting for derivative instruments and hedging activities under FASB Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities". SFAS 149, among other things, clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative, clarifies when a derivative contains a financing component and amends the definition of an "underlying" to conform it to language used in FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others". SFAS 149 is effective for contracts entered into or modified after September 30, 2003 and for hedging relationships designated after September 30, 2003. The adoption of SFAS 149 did not have an impact on our financial statements.

1. Background and Basis of Presentation (continued)

In January 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities", an interpretation of Accounting Research Bulletin No. 51 ("FIN 46"), which requires the consolidation of entities with respect to which an enterprise absorbs a majority of the entity's expected losses, receives a majority of the entity's expected residual returns, or both, as a result of ownership, contractual or other financial interests in the entity. Currently, an entity is generally consolidated by an enterprise when it has a controlling financial interest through ownership of a majority voting interest in the entity. FIN 46 applies immediately to variable interest entities created after January 31, 2003 and is generally effective December 31, 2003 for variable interest entities acquired before February 1, 2003. The adoption of FIN 46 did not have an impact on our financial statements.

In April 2002, the FASB issued Statement of Accounting Standards No. 145, "Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections" ("SFAS 145"), which requires any gain or loss on early extinguishment of debt that was previously classified as an extraordinary item that does not meet certain criteria, be reclassified from extraordinary items to continuing operations. In accordance with SFAS 145, in 2003 we reclassified the loss on early extinguishment of debt recognized in 2002, totaling $1,002,000 to continuing operations.

2. Rental Properties

Rental properties consist of the following (in thousands):

September 30,December 31,
2003 2002
----------- -----------Land $145,939 $151,297
Buildings and improvements 812,127 829,739
Tenant and other improvements 118,567 108,863
----------- -----------
1,076,633 1,089,899
Less accumulated depreciation (133,839) (113,477)
----------- -----------
$942,794 $976,422
=========== ===========

3. Unsecured Line of Credit

We have an unsecured line of credit under which we may borrow up to $440 million. As of September 30, 2003, the line of credit had a maturity date of July 2005, which could be extended at our sole option for an additional one-year period. Borrowings under our unsecured line of credit bear interest at a floating rate based on our election of either a LIBOR based rate or the higher of the bank's reference rate and the Federal Funds rate plus 0.5%. For each LIBOR-based advance, we must elect a LIBOR period of one, two, three or six months.

Our line of credit contains financial covenants, including, among other things, maintenance of minimum net worth, a total liabilities to gross asset value ratio, and a fixed charge coverage ratio. In addition, the terms of the line of credit restrict, among other things, certain investments, indebtedness, distributions and mergers. As of September 30, 2003, borrowings outstanding on the line of credit carried a weighted average interest rate of 2.75%.

3. Unsecured Line of Credit (continued)

The line of credit contains provisions which limit aggregate borrowings under the line. This limit is calculated based on the net operating income derived from a pool of unencumbered assets not to exceed the full amount available under the line of credit of $440 million. As of September 30, 2003, the maximum permitted borrowings under the line of credit were limited to $419 million.

We utilize interest rate swap agreements to hedge certain of our exposure to variable interest rates associated with our unsecured line of credit. These agreements involve the exchange of fixed and floating interest payments without the exchange of the underlying principal amount (the "notional amount"). Interest received under all of our swap agreements is based on the one-month LIBOR rate. The net difference between the interest paid and interest received is reflected as an adjustment to interest expense.

In November 2003, we amended our line of credit to extend its maturity date to November 2006 and we also obtained a five year unsecured term loan for $150 million. See footnote 8, Subsequent Events.

The following table summarizes our interest rate swap agreements as of September 30, 2003 (dollars in thousands):

Notional Interest
Transaction Dates Effective Dates Amounts Pay Rates Termination Dates Fair Values
- --------------- ---------------- ------------- ---------- ----------------- ------------March 2002 December 31, 2002 $ 50,000 5.364% December 31, 2004 $ (2,582)
July 2002 January 1, 2003 $ 25,000 3.855% June 30, 2005 (1,016)
July 2002 January 1, 2003 $ 25,000 3.865% June 30, 2005 (1,021)
December 2002 January 2, 2003 $ 25,000 3.285% June 30, 2006 (791)
December 2002 January 2, 2003 $ 25,000 3.285% June 30, 2006 (791)
November 2002 June 1, 2003 $ 25,000 3.115% December 31, 2005 (719)
November 2002 June 1, 2003 $ 25,000 3.155% December 31, 2005 (742)
----------
Total $ (7,662)
==========

4. Stockholders' Equity

In September 2003, we declared a cash dividend on our common stock aggregating $10,731,000 ($ 0.56 per share) for the calendar quarter ended September 30, 2003. In September 2003, we declared a cash dividend on our Series A preferred stock aggregating $916,000 ($ 0.59375 per share) for the period from July 16, 2003 through October 15, 2003. In September 2003, we also declared a cash dividend on our Series B preferred stock aggregating $1,308,000 ($0.56875 per share) for the period July 16, 2003 through October 15, 2003. We paid these dividends on October 15, 2003.

5. Stock Option Plan

For 2002 and all prior years, we elected to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations in accounting for our employee and non-employee director stock options, stock grants and stock appreciation rights. Under APB 25, because the exercise price of the options we granted equals the market price of the underlying stock on the date of grant, no compensation expense has been recognized.

In December 2002, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure" ("SFAS 148"), which addresses alternative methods of transition for an entity that voluntarily changes to the fair value based method of accounting for stock-based employee compensation. Effective January 1, 2003, we have adopted the fair value recognition provisions of Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), prospectively to all employee awards granted, modified or settled after January 1, 2003.

The following table provides pro forma disclosures of the estimated fair value of the options amortized to expense over the option vesting periods as if we had accounted for our stock option awards for all periods under the fair value method under SFAS 123 from the date they were granted (in thousands, except per share information):

 Three Months Ended Nine Months Ended
September 30, September 30,
----------------- -----------------
2003 2002 2003 2002
-------- -------- -------- --------Net income available to common
stockholders, as reported $19,369 $8,530 $39,618 $24,224
Add: Stock-based employee compensation
expense included in reported net in - - - -
Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all awa (329) (340) (997) (821)
-------- -------- -------- --------
Pro forma net income available to
common stockholders $19,040 $8,190 $38,621 $23,403
======== ======== ======== ========
Earnings per share:
Basic - as reported $1.02 $0.47 $2.09 $1.41
======== ======== ======== ========
Basic - pro forma $1.00 $0.45 $2.04 $1.36
======== ======== ======== ========
Diluted - as reported $1.00 $0.46 $2.06 $1.39
======== ======== ======== ========
Diluted - pro forma $0.99 $0.44 $2.01 $1.34
======== ======== ======== ========

6. Net Income Per Share

The following table shows the computation of net income per share of our common stock outstanding (dollars in thousands, except per share amounts):

Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------Net income available to common
stockholders $19,369 $8,530 $39,618 $24,224
=========== =========== =========== ===========
Weighted average shares of
common stock outstanding - basic 19,023,162 18,329,443 18,957,609 17,169,003
Add: dilutive effect of
stock options and stock grants 253,770 226,857 233,412 294,724
----------- ----------- ----------- -----------
Weighted average shares of
common stock outstanding - diluted 19,276,932 18,556,300 19,191,021 17,463,727
=========== =========== =========== ===========
Net income per common share:
- Basic $1.02 $0.47 $2.09 $1.41
=========== =========== =========== ===========
- Diluted $1.00 $0.46 $2.06 $1.39
=========== =========== =========== ===========
Common dividends declared per share $0.56 $0.50 $1.62 $1.50
=========== =========== =========== ===========

7. Discontinued Operations

On January 1, 2002, Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS 144") became effective. SFAS 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. Under SFAS 144, a property is classified as held for sale when all of the following criteria for a plan of sale have been met: 1) management, having the authority to approve the action, commits to a plan to sell the property, 2) the property is available for immediate sale in its present condition, subject only to terms that are usual and customary, 3) an active program to locate a buyer, and other actions required to complete the plan to sell, have been initiated, 4) the sale of the property is probable and is expected to be completed within one year, 5) the property is being actively marketed for sale at a price that is reasonable in relation to its current fair value, and 6) actions necessary to complete the plan indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn. When all of these criteria have been met, the property is classified as held for sale and its operations are classified as discontinued operations. Amounts from prior periods are reclassified from continuing operations to discontinued operations. A loss is recognized for any initial adjustment of the asset's carrying amount to fair value less costs to sell in the period the asset qualifies as held for sale. Depreciation of assets is discontinued commencing on the date they are designated as "held for sale". The accompanying statements have been presented in compliance with SFAS 144.

7. Discontinued Operations (continued)

During the third quarter of 2003, we sold one property located in the Eastern Massachusetts market that had been designated as "held for sale" beginning the fourth quarter of 2002. The total sale price for the property was approximately $46.5 million. In connection with this sale, we recorded a gain on sale of property of approximately $8.8 million during the three months ended September 30, 2003. Interest expense included in discontinued operations represents interest related to a secured note payable which was assumed by the buyer in connection with the sale. During the first quarter of 2003, we sold one property located in the San Francisco Bay market which could not be redeveloped pursuant to our original strategic objectives and that had been designated as "held for sale" during the fourth quarter 2002. The total sale price for the property was approximately $6.8 million. In connection with this sale, we recorded a loss on sale of property of $455,000 during the three months ended March 31, 2003. Gains and losses on sales of these properties are included on the income statement in income from discontinued operations in 2003. Properties held for sale as of December 31, 2002, are included in rental properties in the consolidated balance sheets.

The following is a summary of operations and net assets of the properties designated as "held for sale" (in thousands):

Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- ---------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------Revenue $757 $1,200 $3,158 $3,604
Operating expenses 123 185 511 554
---------- ---------- ---------- ----------
Revenue less operating expenses 634 1,015 2,647 3,050
Interest 223 356 924 1,074
Depreciation - 248 - 734
Income before gain/loss on ---------- ---------- ---------- ----------
sales of property 411 411 1,723 1,242
Gain/loss on sales of property 8,777 - 8,322 -
Income from discontinued ---------- ---------- ---------- ----------
operations $9,188 $411 $10,045 $1,242
========== ========== ========== ==========

September 30,December 31,
2003 2002
---------- ----------Properties held for sale, net - $43,361
Cash and cash equivalents - 3
Tenant security deposits and other
restricted cash - 115
Tenant receivables -
Deferred rent - 1,081
Other assets - 97
---------- ----------
Total assets - $44,657
========== ==========
Secured note payable - 18,777
Accounts payable, accrued expenses
and tenant security deposits - 1,112
---------- ----------
Total liabilities - 19,889
---------- ----------
Net assets of discontinued operation - $24,768
========== ==========

8. Subsequent Events

In November 2003, we renewed our $440 million unsecured line of credit and extended its maturity date to November 2006. We have the right to extend the line of credit for an additional one year at our option.

In November 2003, we also obtained an unsecured term loan for $150 million. The loan, which is due in November 2008, contains financial covenants similar to our unsecured line of credit. The proceeds of the loan were used to pay down a portion of the outstanding balance on our unsecured line of credit.

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Certain information and statements included in this Quarterly Report on Form 10-Q, including, without limitation, statements containing the words "believes", "expects", "may", "will", "should", "seeks", "approximately", "intends", "plans", "estimates" or "anticipates", or the negative of these words or similar words, constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements involve inherent risks and uncertainties regarding events, conditions and financial trends that may affect our future plans of operation, business strategy, results of operations and financial position. A number of important factors could cause actual results to differ materially from those included within or contemplated by the forward-looking statements, including, but not limited to, those described below in this report and under the headings "Business Risks" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year ended December 31, 2002. We do not take any responsibility to update any of these factors or to announce publicly any revisions to any of the forward-looking statements contained in this or any other document, whether as a result of new information, future events or otherwise. Readers of this Form 10-Q should also read our Securities and Exchange Commission and other publicly filed documents for further discussion regarding such factors.

As used in this Form 10-Q, "we", "our", "ours" and "us" refer to Alexandria Real Estate Equities, Inc. and its subsidiaries.

The following discussion should be read in conjunction with the financial statements and notes appearing elsewhere in this report.

Overview

Since our formation in October 1994, we have devoted substantially all of our resources to the ownership, operation, management, acquisition, expansion and selective redevelopment and development of high quality, strategically located properties containing a combination of office and laboratory space leased principally to tenants in the life science industry. We refer to these properties as "life science facilities".

As of September 30, 2003, our portfolio consisted of 87 properties containing approximately 5.6 million rentable square feet of office/laboratory space. As of that date, our properties were approximately 94% leased, excluding those properties in our redevelopment program. Our primary source of revenue is rental income and tenant recoveries from leases at the properties we own. The comparability of financial data from period to period is affected by the timing of our property acquisition, development and redevelopment activities.

Results of Operations

Comparison of Three Months Ended September 30, 2003 ("Third Quarter 2003") to Three Months Ended September 30, 2002 ("Third Quarter 2002")

Rental revenue increased by $3.0 million, or 11%, to $31.7 million for Third Quarter 2003 compared to $28.7 million for Third Quarter 2002. The increase resulted primarily from rental revenue from properties acquired, placed in service or redeveloped after July 1, 2002. Rental revenue from the properties operating continuously since July 1, 2002 (the "Third Quarter Same Properties") increased by $313,000, or 1.4%, primarily due to increases in rental rates. The average occupancy level of the Third Quarter Same Properties was 95.4% as of September 30, 2003, compared to 95.9% as of September 30, 2002.

Tenant recoveries increased by $444,000, or 6%, to $8.4 million for Third Quarter 2003 compared to $7.9 million for Third Quarter 2002. The increase resulted primarily from tenant recoveries from properties acquired, placed in service or redeveloped after July 1, 2002. Tenant recoveries for the Third Quarter Same Properties decreased by $105,000, or 1.6%, primarily due to decreases in certain recoverable operating expenses.

Interest and other income increased by $425,000, to $725,000, for Third Quarter 2003 compared to $300,000 for Third Quarter 2002. The increase resulted primarily from a general increase in miscellaneous sources of income.

Rental operating expenses increased by $208,000, or 3%, to $8.5 million for Third Quarter 2003 compared to $8.3 million for Third Quarter 2002. The increase resulted partially from rental operating expenses for properties acquired, placed in service or redeveloped after July 1, 2002. Operating expenses for the Third Quarter Same Properties decreased by $242,000, or 3.6%, primarily due to decreases in repairs and maintenance expenses, substantially all of which are recoverable from our tenants through tenant recoveries.

The following is a comparison of property operating data computed under accounting principles generally accepted in the United States ("GAAP Basis") and under accounting principles generally accepted in the United States, adjusted to exclude the effect of straight line rent adjustments required by GAAP ("Cash Basis") for the Third Quarter Same Properties (dollars in thousands):

For the Three Months
Ended September 30,
-----------------------
2003 2002 Change
----------- ----------- ---------GAAP BASIS (1):
Revenue $29,760 $29,527 0.8%
Operating expenses 6,389 6,631 -3.6%
----------- ----------- ---------
Revenue less operating expense $23,371 $22,896 2.1%
=========== =========== =========
CASH BASIS (1):
Revenue $29,052 $28,654 1.4%
Operating expenses 6,389 6,631 -3.6%
----------- ----------- ---------
Revenue less operating expense $22,663 $22,023 2.9%
=========== =========== =========

________

General and administrative expenses increased by $365,000, or 11%, to $3.6 million for Third Quarter 2003 compared to $3.2 million for Third Quarter 2002, mainly due to general increases in administrative costs, primarily payroll and related expenses.

Interest expense increased by $806,000, or 14%, to $6.5 million for Third Quarter 2003 compared to $5.7 million for Third Quarter 2002. The increase for Third Quarter 2003 resulted from approximately $51 million in additional secured indebtedness incurred since July 1, 2002, offset by a reduction in the floating interest rate on our unsecured line of credit. The weighted average interest rate on borrowings under our unsecured line of credit (excluding the effect of swap agreements) decreased from 3.31% as of September 30, 2002 to 2.75% as of September 30, 2003.

Depreciation and amortization increased by $1.5 million, or 18%, to $9.8 million for Third Quarter 2003 compared to $8.3 million for Third Quarter 2002. The increase resulted primarily from depreciation associated with the properties acquired, placed in service or redeveloped after July 1, 2002.

Loss on early extinguishment of debt for Third Quarter 2002 of $1 million was incurred as the result of the early retirement of a $7.2 million secured loan. This loss is related to prepayment penalties and the write-off of loan costs. In 2002, this loss was classified as an extraordinary item as previously required under SFAS 4, "Reporting Gains and Losses from Extinguishment of Debt". Pursuant to SFAS 145, "Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections", in 2003 we reclassified the 2002 loss on early extinguishment of debt to continuing operations.

Income from discontinued operations of $9.2 million for Third Quarter 2003 reflects the results of operations of one property that was previously designated as held for sale and was sold during Third Quarter 2003. In connection with the sale, we recognized a gain on sale of property of approximately $8.8 million.

As a result of the foregoing, net income was $21.6 million for Third Quarter 2003 compared to $10.8 million for Third Quarter 2002.

Comparison of Nine Months Ended September 30, 2003 ("Nine Months 2003") to Nine Months Ended September 30, 2002 ("Nine Months 2002")

Rental revenue increased by $12.0 million, or 15%, to $95.0 million for Nine Months 2003 compared to $83.0 million for Nine Months 2002. The increase resulted primarily from rental revenue from properties acquired, placed in service or redeveloped after January 1, 2002. Rental revenue from the properties operating continuously since January 1, 2002 (the "Nine Months Same Properties") increased by $1.1 million, or 1.8%, primarily due to increases in rental rates. The average occupancy level of the Nine Months Same Properties for the nine months ended September 30, 2003 and 2002 was 96.9%.

Tenant recoveries increased by $3.6 million, or 17%, to $25.0 million for Nine Months 2003 compared to $21.3 million for Nine Months 2002. The increase resulted primarily from tenant recoveries from properties acquired, placed in service or redeveloped after January 1, 2002. Tenant recoveries for the Nine Months Same Properties increased by $1.5 million, or 9.0%, primarily due to increases in certain recoverable operating expenses.

Interest and other income increased by $394,000, or 36%, to $1.5 million for Nine Months 2003 compared to $1.1 million for Nine Months 2002. The increase resulted primarily from a general increase in miscellaneous sources of income.

Rental operating expenses increased by $3.8 million, or 17%, to $25.6 million for Nine Months 2003 compared to $21.8 million for Nine Months 2002. The increase resulted partially from rental operating expenses for properties acquired, placed in service or redeveloped after January 1, 2002. Operating expenses for the Nine Months Same Properties increased by $1.2 million, or 7.2%, primarily due to increases in property taxes and insurance, substantially all of which are recoverable from our tenants through tenant recoveries.

The following is a comparison of property operating data computed under accounting principles generally accepted in the United States ("GAAP Basis") and under accounting principles generally accepted in the United States, adjusted to exclude the effect of straight line rent adjustments required by GAAP ("Cash Basis"), for the Nine Months Same Properties (dollars in thousands):

For the Nine Months
Ended September 30,
-----------------------
2003 2002 Change
----------- ----------- ---------GAAP BASIS (1):
Revenue $81,881 $79,232 3.3%
Operating expenses 17,703 16,512 7.2%
----------- ----------- ---------
Revenue less operating expense $64,178 $62,720 2.3%
=========== =========== =========
CASH BASIS (1):
Revenue $80,034 $76,955 4.0%
Operating expenses 17,703 16,512 7.2%
----------- ----------- ---------
Revenue less operating expense $62,331 $60,443 3.1%
=========== =========== =========

_________

General and administrative expenses increased by $677,000, or 7%, to $10.7 million for Nine Months 2003 compared to $10.0 million for Nine Months 2002, mainly due to general increases in administrative costs, primarily payroll and related expenses.

Interest expense increased by $1.3 million, or 7%, to $19.9 million for Nine Months 2003 compared to $18.6 million for Nine Months 2002. The increase resulted from approximately $85 million in additional secured indebtedness incurred since January 1, 2002, offset by a reduction in the floating interest rate on our unsecured line of credit. The weighted average interest rate on borrowings under our unsecured line of credit (excluding the effect of swap agreements) decreased from 3.31% as of September 30, 2002 to 2.75% as of September 30, 2003.

Depreciation and amortization increased by $4.4 million, or 18%, to $29.0 million for Nine Months 2003 compared to $24.6 million for Nine Months 2002. The increase resulted primarily from depreciation associated with the properties acquired, placed in service or redeveloped after January 1, 2002.

Loss on early extinguishment of debt for Nine Months 2002 of $1 million was incurred as the result of the early retirement of a $7.2 million secured loan. This loss is related to prepayment penalties and the write-off of loan costs. In 2002, this loss was classified as an extraordinary item as previously required under SFAS 4, "Reporting Gains and Losses from Extinguishment of Debt". Pursuant to SFAS 145, "Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections", in 2003 we reclassified the 2002 loss on early extinguishment of debt to continuing operations.

Income from discontinued operations of $10.0 million for Nine Months 2003 reflects the results of operations of two properties that were previously designated as held for sale. In the third quarter of 2003, we sold one property in the Eastern Massachusetts market. In the first quarter of 2003, we sold one property in the San Francisco Bay market. In connection with these sales, we recorded a net gain of approximately $8.3 million.

As a result of the foregoing, net income was $46.3 million for Nine Months 2003 compared to $30.6 million for Nine Months 2002.

Liquidity and Capital Resources

Cash flows

Net cash provided by operating activities for Nine Months 2003 increased by $16.8 million to $55.4 million compared to $38.6 million for Nine Months 2002. The increase resulted primarily from increases in cash flows from our portfolio of operating properties and increases in cash flows from favorable changes in other assets and accounts payable, accrued expenses and tenant security deposits.

Net cash used in investing activities decreased by $60.1 million to $78.1 million for Nine Months 2003 compared to $138.2 million for Nine Months 2002, primarily due to the proceeds from the sale of two properties and substantially lower acquisitions of rental properties, partially offset by substantially higher additions to properties under development for the Nine Months 2003.

Net cash provided by financing activities decreased by $78.7 million to $22.1 million for Nine Months 2003 compared to $100.8 million for Nine Months 2002, primarily due to the issuance of common and preferred stock in Nine Months 2002 (none was issued in Nine Months 2003) offset partially by higher proceeds from secured indebtedness and a lower reduction in borrowings under our line of credit for Nine Months 2003.

Contractual obligations and commitments

Contractual obligations as of September 30, 2003, consists of the following (dollars in thousands):

Payments by Period
---------------------------------------------
Total 2003 2004-2005 2006-2007 Thereafter
------------- -------- --------- --------- ----------
Contractual ObligationsSecured notes payable (1) $ 321,033 $ 1,278 $ 37,785 $ 40,694 $ 241,276
Ground lease obligations 31,289 215 1,721 1,721 27,632
Other obligations 858 121 737 - -
------------- -------- --------- --------- ----------
Total $ 353,180 $ 1,614 $ 40,243 $ 42,415 $ 268,908
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Secured notes payable as of September 30, 2003 include 16 notes secured by 39 properties.

Ground lease obligations as of September 30, 2003 include leases at five of our properties and one land development parcel. These lease obligations have remaining lease terms of 29 to 53 years, exclusive of extension options.

In addition to the above, as of September 30, 2003, we were committed under the terms of construction contracts to complete the development of buildings and related improvements at a remaining aggregate cost of $18.2 million.

As of September 30, 2003, we were also committed to fund approximately $25.8 million for the construction of building infrastructure improvements and for certain investments.

Tenant security deposits and restricted cash

Tenant security deposits and restricted cash as of September 30, 2003 consist of the following (in thousands):

Amount
---------Funds held in trust under the terms of certain
secured notes payable $6,993
Security deposit funds based on the terms of certain
lease agreements 1,891
Funds held in escrow to complete the development of
an office/laboratory facility 362
---------
$9,246
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