KBS Real Estate Investment Trust II, Inc. - Quarter Report: 2017 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

______________________________________________________

FORM 10-Q

______________________________________________________

(Mark One)



x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2017



¨	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 000-53649

______________________________________________________

KBS REAL ESTATE INVESTMENT TRUST II, INC.

(Exact Name of Registrant as Specified in Its Charter)

______________________________________________________



Maryland		26-0658752
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)
800 Newport Center Drive, Suite 700 Newport Beach, California		92660
(Address of Principal Executive Offices)		(Zip Code)

(949) 417-6500

(Registrant’s Telephone Number, Including Area Code)

______________________________________________________________________

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, 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 x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):



Large Accelerated Filer	¨		Accelerated Filer	¨
Non-Accelerated Filer	x	(Do not check if a smaller reporting company)	Smaller reporting company	¨
			Emerging growth company	¨

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

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

As of November 9, 2017, there were 187,759,131 outstanding shares of common stock of the registrant.

Table of Contents

KBS REAL ESTATE INVESTMENT TRUST II, INC.

FORM 10-Q

September 30, 2017

INDEX



PART I.	FINANCIAL INFORMATION		2
	Item 1.	Financial Statements	2
		Consolidated Balance Sheets as of September 30, 2017 (unaudited) and December 31, 2016	2
		Consolidated Statements of Operations (unaudited) for the Three and Nine Months Ended September 30, 2017 and 2016	3
		Consolidated Statements of Comprehensive Income (unaudited) for the Three and Nine Months Ended September 30, 2017 and 2016	4
		Consolidated Statements of Stockholders’ Equity for the Year Ended December 31, 2016 and the Nine Months Ended September 30, 2017 (unaudited)	5
		Consolidated Statements of Cash Flows (unaudited) for the Nine Months Ended September 30, 2017 and 2016	6
		Condensed Notes to Consolidated Financial Statements as of September 30, 2017 (unaudited)	7
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	24
	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	38
	Item 4.	Controls and Procedures	38
PART II.	OTHER INFORMATION		39
	Item 1.	Legal Proceedings	39
	Item 1A.	Risk Factors	39
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	39
	Item 3.	Defaults upon Senior Securities	40
	Item 4.	Mine Safety Disclosures	40
	Item 5.	Other Information	40
	Item 6.	Exhibits	41
SIGNATURES			42

Table of Contents


PART I.	FINANCIAL INFORMATION


Item 1.	Financial Statements

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share amounts)



	September 30, 2017			December 31, 2016
	(unaudited)
Assets
Real estate:
Land	$	188,592		$	188,592
Buildings and improvements	989,213			980,863
Tenant origination and absorption costs	61,001			64,117
Total real estate held for investment, cost	1,238,806			1,233,572
Less accumulated depreciation and amortization	(173,278		)	(141,830		)
Total real estate held for investment, net	1,065,528			1,091,742
Real estate held for sale, net	—			33,994
Total real estate, net	1,065,528			1,125,736
Real estate loan receivable, net	13,964			14,079
Total real estate and real estate-related investments, net	1,079,492			1,139,815
Cash and cash equivalents	75,951			48,009
Restricted cash	3,750			—
Rents and other receivables, net	61,387			59,152
Above-market leases, net	2,701			4,466
Assets related to real estate held for sale	—			3,565
Prepaid expenses and other assets	31,045			31,773
Total assets	$	1,254,326		$	1,286,780
Liabilities and stockholders’ equity
Notes payable, net	521,262			523,771
Accounts payable and accrued liabilities	18,784			18,422
Due to affiliate	51			41
Distributions payable	4,241			4,493
Below-market leases, net	1,665			2,876
Liabilities related to real estate held for sale	—			17
Other liabilities	10,666			10,253
Total liabilities	556,669			559,873
Commitments and contingencies (Note 11)
Redeemable common stock	5,400			10,000
Stockholders’ equity:
Preferred stock, $.01 par value; 10,000,000 shares authorized, no shares issued and outstanding	—			—
Common stock, $.01 par value; 1,000,000,000 shares authorized, 187,882,112 and 188,719,952 shares issued and outstanding as of September 30, 2017 and December 31, 2016, respectively	1,879			1,887
Additional paid-in capital	1,679,532			1,679,524
Cumulative distributions in excess of net income	(989,154		)	(964,504		)
Total stockholders’ equity	692,257			716,907
Total liabilities and stockholders’ equity	$	1,254,326		$	1,286,780

See accompanying condensed notes to consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

(in thousands, except share and per share amounts)



	Three Months Ended September 30,				Nine Months Ended September 30,
	2017		2016		2017		2016
Revenues:
Rental income	$	30,649	$	33,214	$	95,384	$	101,674
Tenant reimbursements	3,401		3,389		10,842		11,114
Interest income from real estate loans receivable	267		270		795		806
Other operating income	1,827		1,729		5,441		5,191
Total revenues	36,144		38,602		112,462		118,785
Expenses:
Operating, maintenance, and management	8,315		9,002		25,600		25,785
Real estate taxes and insurance	5,014		5,099		15,092		15,223
Asset management fees to affiliate	2,899		2,955		8,746		8,850
General and administrative expenses	1,119		1,299		3,307		5,125
Depreciation and amortization	13,458		14,210		40,771		43,391
Interest expense	4,558		4,066		12,947		12,727
Total expenses	35,363		36,631		106,463		111,101
Other income:
Other income	118		474		167		516
Gain on sale of real estate	—		—		7,863		9,101
Total other income	118		474		8,030		9,617
Net income	$	899	$	2,445	$	14,029	$	17,301
Net income per common share, basic and diluted	$	—	$	0.01	$	0.07	$	0.09
Weighted-average number of common shares outstanding, basic and diluted	188,085,093		189,002,569		188,390,374		189,208,324

See accompanying condensed notes to consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited)

(in thousands)



	Three Months Ended September 30,				Nine Months Ended September 30,
	2017		2016		2017		2016
Net income	$	899	$	2,445	$	14,029	$	17,301
Other comprehensive income:
Reclassification of realized losses recognized on interest rate swaps (effective portion)	—		—		—		60
Total other comprehensive income	—		—		—		60
Total comprehensive income	$	899	$	2,445	$	14,029	$	17,361

See accompanying condensed notes to consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

For the Year Ended December 31, 2016 and the Nine Months Ended September 30, 2017 (unaudited)

(dollars in thousands)



						Additional Paid-in Capital			Cumulative Distributions and Net Income (Loss)			Accumulated Other Comprehensive Income (Loss)			Total Stockholders’ Equity
	Common Stock
	Shares		Amounts
Balance, December 31, 2015	189,556,185		$	1,895		$	1,684,206		$	(928,111	)	$	(60	)	$	757,930
Net income	—		—			—			16,747			—			16,747
Other comprehensive income	—		—			—			—			60			60
Redemptions of common stock	(836,233	)	(8		)	(4,682		)	—			—			(4,690		)
Distributions declared	—		—			—			(53,140		)	—			(53,140		)
Balance, December 31, 2016	188,719,952		$	1,887		$	1,679,524		$	(964,504	)	$	—		$	716,907
Net income	—		—			—			14,029			—			14,029
Redemptions of common stock	(837,840	)	(8		)	(4,592		)	—			—			(4,600		)
Transfers from redeemable common stock	—		—			4,600			—			—			4,600
Distributions declared	—		—			—			(38,679		)	—			(38,679		)
Balance, September 30, 2017	187,882,112		$	1,879		$	1,679,532		$	(989,154	)	$	—		$	692,257

See accompanying condensed notes to consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

(in thousands)



	Nine Months Ended September 30,
	2017			2016
Cash Flows from Operating Activities:
Net income	$	14,029		$	17,301
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	40,771			43,391
Noncash interest income on real estate-related investments	3			3
Deferred rent	(1,549		)	(5,114		)
Bad debt expense	264			247
Amortization of above- and below-market leases, net	540			(244		)
Amortization of deferred financing costs	841			1,423
Unrealized gains on derivative instruments	(101		)	(321		)
Gain on sale of real estate, net	(7,863		)	(9,101		)
Changes in operating assets and liabilities:
Rents and other receivables	(1,163		)	(1,707		)
Prepaid expenses and other assets	(2,302		)	(4,606		)
Accounts payable and accrued liabilities	(1,097		)	2,541
Due to affiliates	10			58
Other liabilities	520			739
Net cash provided by operating activities	42,903			44,610
Cash Flows from Investing Activities:
Proceeds from sale of real estate	45,689			41,218
Improvements to real estate	(10,131		)	(32,125		)
Principal repayments on real estate loans receivable	112			91
Net cash provided by investing activities	35,670			9,184
Cash Flows from Financing Activities:
Proceeds from note payable	—			17,000
Principal payments on notes payable	(2,615		)	(39,800		)
Payments of deferred financing costs	(735		)	(878		)
Payments to redeem common stock	(4,600		)	(3,867		)
Distributions paid to common stockholders	(38,931		)	(40,177		)
Net cash used in financing activities	(46,881		)	(67,722		)
Net increase (decrease) in cash and cash equivalents and restricted cash	31,692			(13,928		)
Cash and cash equivalents and restricted cash, beginning of period	48,009			72,687
Cash and cash equivalents and restricted cash, end of period	$	79,701		$	58,759
Supplemental Disclosure of Cash Flow Information:
Interest paid	$	12,076		$	11,703
Supplemental Disclosure of Noncash Transactions:
Increase in accrued improvements to real estate	$	1,421		$	—

See accompanying condensed notes to consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(unaudited)


1.	ORGANIZATION

KBS Real Estate Investment Trust II, Inc. (the “Company”) was formed on July 12, 2007 as a Maryland corporation that elected to be taxed as a real estate investment trust (“REIT”) beginning with the taxable year ended December 31, 2008. The Company conducts its business primarily through KBS Limited Partnership II, a Delaware limited partnership formed on August 23, 2007 (the “Operating Partnership”), and its subsidiaries. The Company is the sole general partner of and directly owns a 0.1% partnership interest in the Operating Partnership. The Company’s wholly-owned subsidiary, KBS REIT Holdings II LLC, a Delaware limited liability company formed on August 23, 2007 (“KBS REIT Holdings II”), owns the remaining 99.9% partnership interest in the Operating Partnership and is its sole limited partner.

The Company invested in a diverse portfolio of real estate and real estate-related investments. As of September 30, 2017, the Company owned ten real estate properties (consisting of nine office properties and an office campus consisting of eight office buildings). In addition, as of September 30, 2017, the Company owned one real estate loan receivable.

Subject to certain restrictions and limitations, the business of the Company is managed by KBS Capital Advisors LLC (the “Advisor”), an affiliate of the Company, pursuant to an advisory agreement the Company renewed with the Advisor on May 21, 2017 (the “Advisory Agreement”). The Advisory Agreement may be renewed for an unlimited number of one-year periods upon the mutual consent of the Advisor and the Company. Either party may terminate the Advisory Agreement upon 60 days’ written notice. The Advisor owns 20,000 shares of the Company’s common stock.

Upon commencing its initial public offering (the “Offering”), the Company retained KBS Capital Markets Group LLC (the “Dealer Manager”), an affiliate of the Advisor, to serve as the dealer manager of the Offering. The Company ceased offering shares of common stock in its primary offering on December 31, 2010 and terminated its primary offering on March 22, 2011. The Company terminated its dividend reinvestment plan effective May 29, 2014.

The Company sold 182,681,633 shares of common stock in its primary offering for gross offering proceeds of $1.8 billion. The Company sold 30,903,504 shares of common stock under its dividend reinvestment plan for gross offering proceeds of $298.2 million. Also as of September 30, 2017, the Company had redeemed 25,723,025 shares sold in the Offering for $244.6 million.


2.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

There have been no significant changes to the Company’s accounting policies since it filed its audited financial statements in its Annual Report on Form 10-K for the year ended December 31, 2016. For further information about the Company’s accounting policies, refer to the Company’s consolidated financial statements and notes thereto for the year ended December 31, 2016 included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”).

Principles of Consolidation and Basis of Presentation

The accompanying unaudited consolidated financial statements and condensed notes thereto have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information as contained within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) and the rules and regulations of the SEC, including the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, the unaudited consolidated financial statements do not include all of the information and footnotes required by GAAP for audited financial statements. In the opinion of management, the financial statements for the unaudited interim periods presented include all adjustments, which are of a normal and recurring nature, necessary for a fair and consistent presentation of the results for such periods. Operating results for the three and nine months ended September 30, 2017 are not necessarily indicative of the results that may be expected for the year ending December 31, 2017.

The consolidated financial statements include the accounts of the Company, KBS REIT Holdings II, the Operating Partnership, and their direct and indirect wholly owned subsidiaries. All significant intercompany balances and transactions are eliminated in consolidation.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

Use of Estimates

The preparation of the consolidated financial statements and condensed notes thereto in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and condensed notes. Actual results could materially differ from those estimates.

Per Share Data

Basic net income (loss) per share of common stock is calculated by dividing net income (loss) by the weighted-average number of shares of common stock issued and outstanding during such period. Diluted net income (loss) per share of common stock equals basic net income (loss) per share of common stock as there were no potentially dilutive securities outstanding during the nine months ended September 30, 2017 and 2016, respectively.

Distributions declared per common share were $0.069 and $0.205 in the aggregate for the three and nine months ended September 30, 2017, respectively, and $0.070 and $0.210 in the aggregate for the three and nine months ended September 30, 2016, respectively. Distributions declared per common share assumes each share was issued and outstanding each day that was a record date for distributions and were based on a monthly record date for each month during the periods commencing January 2017 through September 2017 and January 2016 through September 2016.

Segments

The Company invested in core real estate properties and real estate-related investments with the goal of acquiring a portfolio of income-producing investments. The Company’s real estate properties exhibit similar long-term financial performance and have similar economic characteristics to each other. Beginning with the reporting period commencing on January 1, 2016, the Company aggregated its investments into one reportable business segment. The Company considered both quantitative and qualitative thresholds and determined that its investment in a real estate loan receivable does not constitute a reportable segment. Prior to the reporting period commencing on January 1, 2016, the Company had identified two reportable business segments based on its investment types: real estate and real estate-related. However, based on the Company’s current investment portfolio, the Company does not believe that its investment in a real estate-related investment is a reportable segment.

Reclassifications

Certain amounts in the Company’s prior period consolidated financial statements have been reclassified to conform to the current period presentation. These reclassifications have not changed the results of operations of prior periods. During the nine months ended September 30, 2017, the Company sold an office property. As a result, certain assets and liabilities were reclassified to held for sale on the consolidated balance sheets for all periods presented. Additionally, during the year ended December 31, 2016, the Company elected to early adopt ASU No. 2016-18 (as defined below). As a result, the Company no longer presents the changes within restricted cash in the consolidated statements of cash flows. Instead, restricted cash is included with cash and cash equivalents when reconciling the beginning of period and end of period total amounts shown on the consolidated statements of cash flows.

Square Footage, Occupancy and Other Measures

Any references to square footage, occupancy or annualized base rent are unaudited and outside the scope of the Company’s independent registered public accounting firm’s review of the Company’s financial statements in accordance with the standards of the United States Public Company Accounting Oversight Board.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

Recently Issued Accounting Standards Update

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU No. 2014-09”). ASU No. 2014-09 requires an entity to recognize the revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. ASU No. 2014-09 supersedes the revenue requirements in Revenue Recognition (Topic 605) and most industry-specific guidance throughout the Industry Topics of the Codification. ASU No. 2014-09 does not apply to lease contracts within the scope of Leases (Topic 840). ASU No. 2014-09 was to be effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, and is to be applied retrospectively, with early application not permitted. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date (“ASU No. 2015-14”), which defers the effective date of ASU No. 2014-09 by one year. Early adoption is permitted but not before the original effective date. The primary source of revenue for the Company is generated through leasing arrangements, which are excluded from this standard. The Company’s revenues that may be impacted by this standard primarily include other operating income, sales of real estate and other ancillary income earned at its properties. In 2016, other operating income and other ancillary income were approximately 6% of consolidated revenue. The Company is in process of evaluating how this standard will impact sales of real estate. The Company continues to evaluate the impact that the standard will have on its consolidated financial statements. The Company expects to adopt the standard using the modified retrospective approach, which requires a cumulative effect adjustment as of the date of the adoption.

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU No. 2016-01”). The amendments in ASU No. 2016-01 address certain aspects of recognition, measurement, presentation and disclosure of financial instruments. ASU No. 2016-01 primarily affects accounting for equity investments and financial liabilities where the fair value option has been elected. ASU No. 2016-01 also requires entities to present financial assets and financial liabilities separately, grouped by measurement category and form of financial asset in the balance sheet or in the accompanying notes to the financial statements. ASU No. 2016-01 is effective for annual periods beginning after December 15, 2017, including interim periods within those fiscal years. Early application of certain provisions of the standard is permitted for financial statements that have not been previously issued. The Company does not expect the adoption of ASU No. 2016-01 to have a significant impact on its financial statements.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) (“ASU No. 2016-02”). The amendments in ASU No. 2016-02 change the existing accounting standards for lease accounting, including requiring lessees to recognize most leases on their balance sheets and making targeted changes to lessor accounting. ASU No. 2016-02 is effective for annual periods beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption of ASU No. 2016-02 as of its issuance is permitted. The new leases standard requires a modified retrospective transition approach for all leases existing at, or entered into after, the date of initial application, with an option to use certain transition relief. The Company is currently evaluating the impact of adopting the new leases standard on its consolidated financial statements.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses of Financial Instruments (“ASU No. 2016-13”). ASU No. 2016-13 affects entities holding financial assets and net investments in leases that are not accounted for at fair value through net income. The amendments in ASU No. 2016-13 require a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. ASU No. 2016-13 also amends the impairment model for available-for-sale securities. An entity will recognize an allowance for credit losses on available-for-sale debt securities as a contra-account to the amortized cost basis rather than as a direct reduction of the amortized cost basis of the investment, as is currently required. ASU No. 2016-13 also requires new disclosures. For financial assets measured at amortized cost, an entity will be required to disclose information about how it developed its allowance for credit losses, including changes in the factors that influenced management’s estimate of expected credit losses and the reasons for those changes. For financing receivables and net investments in leases measured at amortized cost, an entity will be required to further disaggregate the information it currently discloses about the credit quality of these assets by year of the asset’s origination for as many as five annual periods. For available for sale securities, an entity will be required to provide a roll-forward of the allowance for credit losses and an aging analysis for securities that are past due. ASU No. 2016-13 is effective for annual periods beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is still evaluating the impact of adopting ASU No. 2016-13 on its financial statements, but does not expect the adoption of ASU No. 2016-13 to have a material impact on its financial statements.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (“ASU No. 2016-15”). ASU No. 2016-15 is intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. The amendments in ASU No. 2016-15 provide guidance on eight specific cash flow issues, including the following that are or may be relevant to the Company: (a) Cash payments for debt prepayment or debt extinguishment costs should be classified as cash outflows for financing activities; (b) Cash payments relating to contingent consideration made soon after an acquisition’s consummation date (i.e., approximately three months or less) should be classified as cash outflows for investing activities. Payments made thereafter should be classified as cash outflows for financing activities up to the amount of the original contingent consideration liability. Payments made in excess of the amount of the original contingent consideration liability should be classified as cash outflows for operating activities; (c) Cash payments received from the settlement of insurance claims should be classified on the basis of the nature of the loss (or each component loss, if an entity receives a lump-sum settlement); and (d) In the absence of specific guidance, an entity should classify each separately identifiable cash source and use on the basis of the nature of the underlying cash flows. For cash flows with aspects of more than one class that cannot be separated, the classification should be based on the activity that is likely to be the predominant source or use of cash flow. ASU No. 2016-15 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The Company is still evaluating the impact of adopting ASU No. 2016-15 on its financial statements, but does not expect the adoption of ASU No. 2016-15 to have a material impact on its financial statements.

In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (“ASU No. 2016-18”). ASU No. 2016-18 requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, restricted cash and restricted cash equivalents. Therefore, amounts generally described as restricted cash should be included with cash and cash equivalents when reconciling the beginning of period and end of period total amounts shown on the statement of cash flows. ASU No. 2016-18 is effective for annual periods beginning after December 15, 2017, including interim periods within those fiscal years. The Company elected to early adopt ASU No. 2016-18 for the reporting period ended December 31, 2016 and it was applied retrospectively. As a result of the adoption of ASU No. 2016-18, the Company no longer presents the changes within restricted cash in the consolidated statements of cash flows.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


3.	REAL ESTATE HELD FOR INVESTMENT

As of September 30, 2017, the Company’s portfolio of real estate held for investment was composed of nine office properties and an office campus consisting of eight office buildings, encompassing in the aggregate approximately 4.9 million rentable square feet. As of September 30, 2017, the Company’s real estate portfolio was 83% occupied. The following table summarizes the Company’s real estate portfolio as of September 30, 2017 (in thousands):



Property	Date Acquired	City	State	Property Type	Total Real Estate at Cost		Accumulated Depreciation and Amortization			Total Real Estate, Net
100 & 200 Campus Drive Buildings	09/09/2008	Florham Park	NJ	Office	$	143,687	$	(10,023	)	$	133,664
300-600 Campus Drive Buildings	10/10/2008	Florham Park	NJ	Office	162,131		(14,899		)	147,232
Willow Oaks Corporate Center	08/26/2009	Fairfax	VA	Office	103,753		(18,137		)	85,616
Pierre Laclede Center	02/04/2010	Clayton	MO	Office	80,531		(9,491		)	71,040
Horizon Tech Center	06/17/2010	San Diego	CA	Office	29,540		(2,095		)	27,445
Union Bank Plaza	09/15/2010	Los Angeles	CA	Office	186,119		(20,151		)	165,968
Emerald View at Vista Center	12/09/2010	West Palm Beach	FL	Office	31,029		(6,582		)	24,447
Granite Tower	12/16/2010	Denver	CO	Office	154,386		(41,655		)	112,731
Fountainhead Plaza	09/13/2011	Tempe	AZ	Office	119,383		(16,414		)	102,969
Corporate Technology Centre	03/28/2013	San Jose	CA	Office	228,247		(33,831		)	194,416
					$	1,238,806	$	(173,278	)	$	1,065,528

As of September 30, 2017, the following properties represented more than 10% of the Company’s total assets:



Property	Location	Rentable Square Feet	Total Real Estate, Net (in thousands)		Percentage of Total Assets		Annualized Base Rent (in thousands) ⁽¹⁾		Average Annualized Base Rent per Sq. Ft.		Occupancy
Corporate Technology Centre	San Jose, CA	610,083	$	194,416	15.5	%	$	18,635	$	30.54	100	%
Union Bank Plaza	Los Angeles, CA	627,334	165,968		13.2	%	20,697		40.23		82	%
300-600 Campus Drive Buildings	Florham Park, NJ	578,424	147,232		11.7	%	17,923		33.63		92	%
100 & 200 Campus Drive Buildings	Florham Park, NJ	586,405	133,664		10.7	%	12,164		31.34		66	%

_____________________

⁽¹⁾Annualized base rent represents annualized contractual base rental income as of September 30, 2017, adjusted to straight-line any contractual tenant concessions (including free rent), rent increases and rent decreases from the lease’s inception through the balance of the lease term.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

Operating Leases

The Company’s real estate properties are leased to tenants under operating leases for which the terms and expirations vary. As of September 30, 2017, the leases had remaining terms, excluding options to extend, of up to 14.1 years with a weighted-average remaining term of 5.1 years. Some of the leases have provisions to extend the term of the leases, options for early termination for all or part of the leased premises after paying a specified penalty, rights of first refusal to purchase the property at competitive market rates, and other terms and conditions as negotiated. The Company retains substantially all of the risks and benefits of ownership of the real estate assets leased to tenants. Generally, upon the execution of a lease, the Company requires a security deposit from the tenant in the form of a cash deposit and/or a letter of credit. The amount required as a security deposit varies depending upon the terms of the respective lease and the creditworthiness of the tenant, but generally is not a significant amount. Therefore, exposure to credit risk exists to the extent that a receivable from a tenant exceeds the amount of its security deposit. Security deposits received in cash related to tenant leases are included in other liabilities in the accompanying consolidated balance sheets and totaled $2.6 million and $2.5 million as of September 30, 2017 and December 31, 2016, respectively.

During the nine months ended September 30, 2017 and 2016, the Company recognized deferred rent from tenants, net of lease incentive amortization, of $1.5 million and $5.1 million, respectively. As of September 30, 2017 and December 31, 2016, the cumulative deferred rent balance was $60.1 million and $57.9 million, respectively, and is included in rents and other receivables on the accompanying balance sheets. The cumulative deferred rent balance included $10.0 million and $10.9 million of unamortized lease incentives as of September 30, 2017 and December 31, 2016, respectively.

As of September 30, 2017, the future minimum rental income from the Company’s properties under non-cancelable operating leases was as follows (in thousands):



October 1, 2017 through December 31, 2017	$	31,057
2018	120,037
2019	106,671
2020	100,749
2021	89,760
Thereafter	275,199
	$	723,473

As of September 30, 2017, the Company had approximately 190 tenants over a diverse range of industries and geographic areas. The Company’s highest tenant industry concentrations (greater than 10% of annualized base rent) were as follows:



Industry	Number of Tenants	Annualized Base Rent ⁽¹⁾ (in thousands)		Percentage of Annualized Base Rent
Finance	33	$	28,081	22.6	%
Mining, Oil & Gas Extraction	5	16,939		13.6	%
Computer System Design & Programming	5	15,638		12.6	%
Legal Services	33	15,146		12.2	%
		$	75,804	61.0	%

_____________________

⁽¹⁾ Annualized base rent represents annualized contractual base rental income as of September 30, 2017, adjusted to straight-line any contractual tenant concessions (including free rent), rent increases and rent decreases from the lease’s inception through the balance of the lease term.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

No other tenant industries accounted for more than 10% of annualized base rent. The Company had not identified any material tenant credit issues as of September 30, 2017. During the nine months ended September 30, 2017 and 2016, the Company recorded bad debt expense of $0.3 million and $0.2 million, respectively. As of September 30, 2017, the Company had a bad debt expense reserve of approximately $0.6 million, which represented less than 1% of its annualized base rent.

As of September 30, 2017, the Company had a concentration of credit risk related to the following tenant lease that represented more than 10% of the Company’s annualized base rent:

Annualized Base Rent Statistics

Tenant

Property

Tenant Industry

Square Feet

% of Portfolio

(Net Rentable Sq. Ft.)

Annualized Base Rent

(in thousands) ⁽¹⁾

% of Portfolio Annualized Base Rent

Annualized Base Rent per Sq. Ft.

Lease Expiration ^{(2) (3)}

Union Bank

Union Bank Plaza

Finance

342,712

8.5%

14,182

11.4%

41.38

01/31/2022

_____________________

⁽²⁾ Represents the expiration date of the lease as of September 30, 2017 and does not take into account any tenant renewal or termination options.

⁽³⁾ Union Bank has two options to extend the term of this lease for three, four, five, six or seven years per option term, provided that the combined renewal option terms do not exceed 10 years. If Union Bank elects to exercise its extension options, it must extend the lease on (i) the entire office premises or (ii) no less than 200,000 rentable square feet consisting of full floors only plus either all or none of both the retail and vault space.

No other tenant accounted for more than 10% of annualized base rent.

Geographic Concentration Risk

As of September 30, 2017, the Company’s net investments in real estate in California and New Jersey represented 30.9% and 22.4% of the Company’s total assets, respectively. As a result, the geographic concentration of the Company’s portfolio makes it particularly susceptible to adverse economic developments in the California and New Jersey real estate markets. Any adverse economic or real estate developments in these markets, such as business layoffs or downsizing, industry slowdowns, relocations of businesses, changing demographics and other factors, or any decrease in demand for office space resulting from the local business climate, could adversely affect the Company’s operating results and its ability to make distributions to stockholders.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


4.	TENANT ORIGINATION AND ABSORPTION COSTS, ABOVE-MARKET LEASE ASSETS AND BELOW-MARKET LEASE LIABILITIES

As of September 30, 2017 and December 31, 2016, the Company’s tenant origination and absorption costs, above-market lease assets and below-market lease liabilities (excluding fully amortized assets and liabilities and accumulated amortization) were as follows (in thousands):



	Tenant Origination and Absorption Costs						Above-Market Lease Assets						Below-Market Lease Liabilities
	September 30, 2017			December 31, 2016			September 30, 2017			December 31, 2016			September 30, 2017			December 31, 2016
Cost	$	61,001		$	64,117		$	13,650		$	13,740		$	(10,170	)	$	(11,249	)
Accumulated amortization	(37,651		)	(33,577		)	(10,949		)	(9,274		)	8,505			8,373
Net amount	$	23,350		$	30,540		$	2,701		$	4,466		$	(1,665	)	$	(2,876	)

Increases (decreases) in net income as a result of amortization of the Company’s tenant origination and absorption costs, above-market lease assets and below-market lease liabilities for the three and nine months ended September 30, 2017 and 2016 were as follows (in thousands):



	Tenant Origination and Absorption Costs						Above-Market Lease Assets						Below-Market Lease Liabilities
	For the Three Months Ended September 30,						For the Three Months Ended September 30,						For the Three Months Ended September 30,
	2017			2016			2017			2016			2017		2016
Amortization	$	(2,281	)	$	(2,811	)	$	(593	)	$	(606	)	$	383	$	571



	Tenant Origination and Absorption Costs						Above-Market Lease Assets						Below-Market Lease Liabilities
	For the Nine Months Ended September 30,						For the Nine Months Ended September 30,						For the Nine Months Ended September 30,
	2017			2016			2017			2016			2017		2016
Amortization	$	(7,218	)	$	(9,116	)	$	(1,765	)	$	(1,935	)	$	1,225	$	2,179

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


5.	REAL ESTATE LOAN RECEIVABLE

As of September 30, 2017 and December 31, 2016, the Company, through an indirect wholly owned subsidiary, had originated the following real estate loan receivable (dollars in thousands):

Loan Name

Location of Related Property or Collateral

Date Acquired/ Originated

Property Type

Loan Type

Outstanding Principal Balance as of

September 30,

2017 ⁽¹⁾

Book Value as of

September 30,

2017 ⁽²⁾

Book Value as of

December 31, 2016 ⁽²⁾

Contractual Interest Rate ⁽³⁾

Annualized Effective Interest Rate⁽³⁾

Maturity Date

Sheraton Charlotte Airport Hotel First Mortgage

Charlotte, North Carolina

07/11/2011

Hotel

Mortgage

13,961

13,964

14,079

7.5%

7.6%

08/01/2018

_____________________

⁽¹⁾Outstanding principal balance as of September 30, 2017 represents original principal balance outstanding under the loan, increased for any subsequent fundings and reduced for any principal paydowns.

⁽²⁾Book value represents outstanding principal balance, adjusted for unamortized acquisition discounts, origination fees and direct origination and acquisition costs.

⁽³⁾Contractual interest rate is the stated interest rate on the face of the loan. Annualized effective interest rate is calculated as the actual interest income recognized in 2017, using the interest method, annualized and divided by the average amortized cost basis of the investment during 2017. The contractual interest rate and annualized effective interest rate presented are as of September 30, 2017.

The following summarizes the activity related to the real estate loan receivable for the nine months ended September 30, 2017 (in thousands):



Real estate loan receivable - December 31, 2016	$	14,079
Principal repayments received on the real estate loan receivable	(112		)
Amortization of closing costs and origination fees on the real estate loan receivable	(3		)
Real estate loan receivable - September 30, 2017	$	13,964

For the nine months ended September 30, 2017 and 2016, interest income from the real estate loan receivable consisted of the following (in thousands):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2017			2016			2017			2016
Contractual interest income	$	268		$	271		$	798		$	809
Amortization of closing costs and origination fees	(1		)	(1		)	(3		)	(3		)
Interest income from real estate loan receivable	$	267		$	270		$	795		$	806

As of September 30, 2017 and December 31, 2016, the borrower under the Company’s real estate loan receivable was current on its debt obligations.


6.	REAL ESTATE HELD FOR SALE

In accordance with ASU No. 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (“ASU No. 2014-08”), results of operations from properties that are classified as held for sale in the ordinary course of business on or subsequent to January 1, 2014 would generally be included in continuing operations on the Company’s consolidated statements of operations. Results of operations from properties that were classified as held for sale in financial statements issued prior to January 1, 2014 will remain in discontinued operations on the Company’s consolidated statements of operations. Prior to the adoption of ASU No. 2014-08, the results of operations of properties held for sale or to be disposed of and the aggregate net gains recognized upon their disposition were presented as discontinued operations in the accompanying consolidated statements of operations for all periods presented.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

During the nine months ended September 30, 2017, the Company disposed of one office property. During the year ended December 31, 2016, the Company disposed of one office/flex property. The results of operations for the properties sold during the nine months ended September 30, 2017 and the year ended December 31, 2016 are included in continuing operations on the Company’s consolidated statements of operations. As of September 30, 2017, the Company did not have any real estate properties held for sale. The following table summarizes certain revenue and expenses related to the Company’s real estate properties that were sold during the year ended December 31, 2016 and the three and nine months ended September 30, 2017, which were included in continuing operations (in thousands):



	Three Months Ended September 30,				Nine Months Ended September 30,
	2017		2016		2017		2016
Revenues
Rental income	$	—	$	1,337	$	2,379	$	5,148
Tenant reimbursements	—		17		33		389
Total revenues	—		1,354		2,412		5,537
Expenses
Operating, maintenance, and management	—		336		633		1,124
Real estate taxes and insurance	—		213		334		848
Asset management fees to affiliate	—		94		169		395
General and administrative expenses	—		9		15		64
Depreciation and amortization	—		488		157		1,931
Interest expense	—		108		88		835
Total expenses	$	—	$	1,248	$	1,396	$	5,197

The following summary presents the major components of assets and liabilities related to real estate held for sale as of September 30, 2017 and December 31, 2016 (in thousands). No real estate properties were held for sale as of September 30, 2017.



	September 30, 2017		December 31, 2016
Assets related to real estate held for sale
Total real estate, at cost	$	—	$	42,276
Accumulated depreciation and amortization	—		(8,282		)
Real estate held for sale, net	—		33,994
Other assets	—		3,565
Total assets related to real estate held for sale	$	—	$	37,559
Liabilities related to real estate held for sale
Other liabilities	—		17
Total liabilities related to real estate held for sale	$	—	$	17

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


7.	NOTES PAYABLE

As of September 30, 2017 and December 31, 2016, the Company’s notes payable consisted of the following (dollars in thousands):



	Book Value as of September 30, 2017			Book Value as of December 31, 2016			Contractual Interest Rate as of September 30, 2017 ⁽¹⁾	Effective Interest Rate as of September 30, 2017 ⁽¹⁾	Payment Type	Maturity Date ⁽²⁾
Amended and Restated Portfolio Revolving Loan Facility ⁽³⁾	$	52,638		$	52,638		One-month LIBOR + 1.80%	3.0%	Interest Only	06/21/2018
Union Bank Plaza Mortgage Loan ⁽⁴⁾	105,000			105,000			One-month LIBOR + 1.65%	2.9%	Interest Only	01/12/2018
Portfolio Mortgage Loan #1 ⁽⁵⁾	77,651			78,033			One-month LIBOR + 2.15%	3.4%	Interest Only	10/20/2017
Portfolio Mortgage Loan #3 ⁽⁶⁾	54,000			54,000			One-month LIBOR + 1.75% - 1.85%	3.0%	Interest Only	03/01/2018
Corporate Technology Centre Mortgage Loan ⁽⁷⁾	138,892			140,000			3.50%	3.5%	⁽⁷⁾	04/01/2020
300-600 Campus Drive Revolving Loan ⁽⁸⁾	93,500			94,625			One-month LIBOR + 2.05%	3.3%	⁽⁸⁾	02/01/2018
Total notes payable principal outstanding	$	521,681		$	524,296
Deferred financing costs, net	(419		)	(525		)
Total notes payable, net	$	521,262		$	523,771

_____________________

⁽¹⁾ Contractual interest rate represents the interest rate in effect under the loan as of September 30, 2017. Effective interest rate is calculated as the actual interest rate in effect as of September 30, 2017, using interest rate indices as of September 30, 2017, where applicable. For further information regarding the Company’s derivative instruments, see Note 8, “Derivative Instruments.”

⁽²⁾ Represents the initial maturity date or the maturity date as extended as of September 30, 2017; subject to certain conditions, the maturity dates of certain loans may be extended beyond the maturity date shown.

⁽³⁾ On June 23, 2017, the Company exercised its first extension option with the lender to extend the maturity date of the Amended and Restated Portfolio Revolving Loan Facility to June 21, 2018. As of September 30, 2017, the Amended and Restated Portfolio Revolving Loan Facility was secured by Pierre Laclede Center.

⁽⁴⁾ On September 15, 2017, the Company extended the maturity date of the Union Bank Plaza Mortgage Loan to January 12, 2018. As of September 30, 2017, $105.0 million of the Union Bank Plaza Mortgage Loan had been disbursed to the Company with the remaining loan balance of $14.3 million available for future disbursements, subject to certain conditions set forth in the loan agreement.

⁽⁵⁾ On June 28, 2017, the Company entered into a loan modification agreement with the lender and extended the maturity date of Portfolio Mortgage Loan #1 to October 20, 2017. As of September 30, 2017, Portfolio Mortgage Loan #1 was secured by Horizon Tech Center and Granite Tower. On October 19, 2017, the Company exercised its extension option with the lender to extend the maturity date of Portfolio Mortgage Loan #1 to April 20, 2018.

⁽⁶⁾ On March 1, 2017, the Company exercised its second extension option with the lender to extend the maturity date of Portfolio Mortgage Loan #3 to March 1, 2018 and reduced the loan commitment amount to $54.0 million. As of September 30, 2017, the principal balance under Portfolio Mortgage Loan #3 consisted of the $32.4 million non-revolving portion and $21.6 million revolving portion. As of September 30, 2017, Portfolio Mortgage Loan #3 was secured by the 100 & 200 Campus Drive Buildings and Willow Oaks Corporate Center.

⁽⁷⁾ Monthly payments were initially interest-only. On May 1, 2017, monthly payments for the Corporate Technology Centre Mortgage Loan began to include principal and interest with principal payments calculated using an amortization schedule of 30 years for the balance of the loan term, with the remaining principal balance, all accrued and unpaid interest and any other amounts due at maturity.

⁽⁸⁾ As of September 30, 2017, the principal balance of the 300-600 Campus Drive Revolving Loan consisted of the $93.5 million non-revolving portion. The revolving portion of $25.0 million remained available for future disbursements, subject to certain terms and conditions contained in the loan documents. On the first day of each calendar quarter, commencing on October 1, 2016, and each succeeding January 1, April 1, July 1 and October 1 thereafter, the Company repays principal outstanding under the 300-600 Campus Drive Revolving Loan in equal installments of $375,000.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

During the three and nine months ended September 30, 2017, the Company incurred $4.6 million and $12.9 million of interest expense, respectively. During the three and nine months ended September 30, 2016, the Company incurred $4.1 million and $12.7 million of interest expense, respectively. As of September 30, 2017 and December 31, 2016, $1.4 million and $1.3 million, respectively, of interest expense were payable. Included in interest expense for the three and nine months ended September 30, 2017 was $0.2 million and $0.8 million of amortization of deferred financing costs, respectively. Included in interest expense for the three and nine months ended September 30, 2016 were $0.6 million and $1.4 million of amortization of deferred financing costs, respectively. During the nine months ended September 30, 2017, the Company recorded a reduction to interest expense of $10,000 as a result of the Company’s interest rate swap agreements. Interest expense incurred as a result of the Company’s interest rate swap agreements for the nine months ended September 30, 2016 was $0.6 million.

The following is a schedule of maturities, including principal amortization payments, for all notes payable outstanding as of September 30, 2017 (in thousands):



October 1, 2017 through December 31, 2017	$	78,699
2018	307,513
2019	2,848
2020	132,621
	$	521,681

The Company plans to exercise its extension options available under its loan agreements, if applicable, or pay off or refinance the related notes payable prior to their maturity dates.

Certain of the Company’s notes payable contain financial debt covenants. As of September 30, 2017, the Company was in compliance with these debt covenants.


8.	DERIVATIVE INSTRUMENTS

The Company enters into derivative instruments for risk management purposes to hedge its exposure to cash flow variability caused by changing interest rates. The primary goal of the Company’s risk management practices related to interest rate risk is to prevent changes in interest rates from adversely impacting the Company’s ability to achieve its investment return objectives. The Company does not enter into derivatives for speculative purposes.

The Company enters into interest rate swaps as a fixed rate payer to mitigate its exposure to rising interest rates on its variable rate notes payable. The value of interest rate swaps is primarily impacted by interest rates, market expectations about interest rates, and the remaining life of the instrument. In general, increases in interest rates, or anticipated increases in interest rates, will increase the value of the fixed rate payer position and decrease the value of the variable rate payer position. As the remaining life of the interest rate swap decreases, the value of both positions will generally move towards zero.

The following table summarizes the notional amount and other information related to the Company’s interest rate swaps as of September 30, 2017 and December 31, 2016. The notional amount is an indication of the extent of the Company’s involvement in each instrument at that time, but does not represent exposure to credit, interest rate or market risks (dollars in thousands):

Derivative Instruments

September 30, 2017

December 31, 2016

Reference Rate as of September 30, 2017

Fix Pay Rate

Remaining

Term in Years

Number of Instruments

Notional Amount

Number of Instruments

Notional Amount

Interest Rate Swaps ⁽¹⁾

—

$106,638

⁽¹⁾

_____________________

⁽¹⁾ As of June 1, 2017, all of the Company’s remaining interest rate swaps had expired. As of December 31, 2016, none of the Company’s interest rate swaps were designated as cash flow hedges.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

The following table sets forth the fair value of the Company’s derivative instruments as well as their classification on the consolidated balance sheets as of September 30, 2017 and December 31, 2016 (dollars in thousands):



Derivative Instruments	Balance Sheet Location	September 30, 2017			December 31, 2016
Derivative Instruments	Balance Sheet Location	Number of Instruments ⁽¹⁾	Fair Value		Number of Instruments	Fair Value
Interest Rate Swaps	Prepaid expenses and other assets, at fair value	—	$	—	2	$	6
Interest Rate Swaps	Other liabilities, at fair value	—	$	—	1	$	(107	)

_____________________

⁽¹⁾ As of June 1, 2017, all of the Company’s remaining interest rate swaps had expired.

The change in fair value of the effective portion of a derivative instrument that is designated as a cash flow hedge is recorded as other comprehensive income (loss) in the accompanying consolidated statements of comprehensive income (loss) and as other comprehensive income in the accompanying consolidated statements of stockholders’ equity. Amounts in other comprehensive income (loss) will be reclassified into earnings in the periods in which earnings are affected by the hedged cash flow. The change in fair value of the ineffective portion is recognized directly in earnings. With respect to swap agreements that were terminated for which it remains probable that the original hedged forecasted transactions (i.e., LIBOR-based debt service payments) will occur, the loss related to the termination of these swap agreements is included in accumulated other comprehensive income (loss) and is reclassified into earnings over the period of the original forecasted hedged transaction. The change in fair value of a derivative instrument that is not designated as a cash flow hedge is recorded as interest expense in the accompanying consolidated statements of operations. The following table summarizes the effects of derivative instruments on the Company’s consolidated statements of operations (in thousands):



	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2017		2016			2017			2016
Derivatives designated as hedging instruments ⁽¹⁾⁽²⁾
Amount of loss recognized on interest rate swaps (effective portion)	$	—	$	—		$	—		$	60
	—		—			—			60
Derivatives not designated as hedging instruments ⁽²⁾
Realized loss recognized on interest rate swaps	—		164			91			671
Unrealized gains on interest rate swaps	—		(245		)	(101		)	(321		)
Losses related to swap terminations	—		—			—			156
	—		(81		)	(10		)	506
Increase (decrease) in interest expense as a result of derivatives	$	—	$	(81	)	$	(10	)	$	566

_____________________

⁽¹⁾ All of the Company’s interest rate swap agreements were initially designated as cash flow hedges. During 2014, the Company dedesignated all of its interest rate swap instruments due to the anticipated early repayment of debt in connection with asset sales, and therefore, certain hedged forecasted transactions were no longer probable beyond the projected asset sale date.

⁽²⁾ As of June 1, 2017, all of the Company’s remaining interest rate swaps had expired.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


9.	FAIR VALUE DISCLOSURES

Under GAAP, the Company is required to measure certain financial instruments at fair value on a recurring basis. In addition, the Company is required to measure other non-financial and financial assets at fair value on a non-recurring basis (e.g., carrying value of impaired real estate loans receivable and long-lived assets). Fair value is defined as the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The GAAP fair value framework uses a three-tiered approach. Fair value measurements are classified and disclosed in one of the following three categories:


•	Level 1: unadjusted quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities;


•	Level 2: quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-derived valuations in which significant inputs and significant value drivers are observable in active markets; and


•	Level 3: prices or valuation techniques where little or no market data is available that requires inputs that are both significant to the fair value measurement and unobservable.

The fair value for certain financial instruments is derived using a combination of market quotes, pricing models and other valuation techniques that involve significant management judgment. The price transparency of financial instruments is a key determinant of the degree of judgment involved in determining the fair value of the Company’s financial instruments. Financial instruments for which actively quoted prices or pricing parameters are available and for which markets contain orderly transactions will generally have a higher degree of price transparency than financial instruments for which markets are inactive or consist of non-orderly trades. The Company evaluates several factors when determining if a market is inactive or when market transactions are not orderly. The following is a summary of the methods and assumptions used by management in estimating the fair value of each class of assets and liabilities for which it is practicable to estimate the fair value:

Cash and cash equivalents, rent and other receivables, and accounts payable and accrued liabilities: These balances approximate their fair values due to the short maturities of these items.

Real estate loan receivable: The Company’s real estate loan receivable is presented in the accompanying consolidated balance sheets at its amortized cost net of recorded loan loss reserves (if applicable) and not at fair value. The fair value of the real estate loan receivable was estimated using an internal valuation model that considered the expected cash flows for the loan, underlying collateral value (for collateral-dependent loans) and estimated yield requirements of institutional investors for loans with similar characteristics, including remaining loan term, loan-to-value, type of collateral and other credit enhancements. The Company classifies these inputs as Level 3 inputs.

Notes payable: The fair value of the Company’s notes payable is estimated using a discounted cash flow analysis based on management’s estimates of current market interest rates for instruments with similar characteristics, including remaining loan term, loan-to-value ratio, type of collateral and other credit enhancements. Additionally, when determining the fair value of liabilities in circumstances in which a quoted price in an active market for an identical liability is not available, the Company measures fair value using (i) a valuation technique that uses the quoted price of the identical liability when traded as an asset or quoted prices for similar liabilities when traded as assets or (ii) another valuation technique that is consistent with the principles of fair value measurement, such as the income approach or the market approach. The Company classifies these inputs as Level 3 inputs.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

The following were the face values, carrying amounts and fair values of the Company’s real estate loan receivable and notes payable as of September 30, 2017 and December 31, 2016, which carrying amounts do not generally approximate the fair values (in thousands):



	September 30, 2017						December 31, 2016
	Face Value		Carrying Amount		Fair Value		Face Value		Carrying Amount		Fair Value
Financial assets:
Real estate loan receivable	$	13,961	$	13,964	$	13,945	$	14,073	$	14,079	$	14,089
Financial liabilities:
Notes payable	$	521,681	$	521,262	$	519,070	$	524,296	$	523,771	$	522,296

Disclosure of the fair values of financial instruments is based on pertinent information available to the Company as of the period end and requires a significant amount of judgment. Low levels of transaction volume for certain financial instruments have made the estimation of fair values difficult and, therefore, both the actual results and the Company’s estimate of value at a future date could be materially different.


10.	RELATED PARTY TRANSACTIONS

The Company has entered into the Advisory Agreement with the Advisor. This agreement entitles the Advisor to specified fees upon the provision of certain services with regard to the management of the Company’s investments, among other services, and the disposition of investments, as well as reimbursement of certain costs incurred by the Advisor in providing services to the Company. In addition, the Advisor is entitled to certain other fees, including an incentive fee upon achieving certain performance goals, as detailed in the Advisory Agreement. The Company has also entered into a fee reimbursement agreement with the Dealer Manager pursuant to which the Company agreed to reimburse the Dealer Manager for certain fees and expenses it incurs for administering the Company’s participation in the Depository Trust & Clearing Corporation Alternative Investment Product Platform with respect to certain accounts of the Company’s investors serviced through the platform. The Advisor and Dealer Manager also serve as the advisor and dealer manager, respectively, for KBS Real Estate Investment Trust, Inc., KBS Real Estate Investment Trust III, Inc., KBS Strategic Opportunity REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc. and KBS Growth & Income REIT, Inc.

On January 6, 2014, the Company, together with KBS Real Estate Investment Trust, Inc. (“KBS REIT I”), KBS Real Estate Investment Trust III, Inc., KBS Strategic Opportunity REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc., the Dealer Manager, the Advisor and other KBS-affiliated entities, entered into an errors and omissions and directors and officers liability insurance program where the lower tiers of such insurance coverage are shared. The cost of these lower tiers is allocated by the Advisor and its insurance broker among each of the various entities covered by the program, and is billed directly to each entity. The allocation of these shared coverage costs is proportionate to the pricing by the insurance marketplace for the first tiers of directors and officers liability coverage purchased individually by each REIT. The Advisor’s and the Dealer Manager’s portion of the shared lower tiers’ cost is proportionate to the respective entities’ prior cost for the errors and omissions insurance. In June 2015, KBS Growth & Income REIT, Inc. was added to the insurance program at terms similar to those described above. In June 2017, the Company renewed its participation in the program, and the program is effective through June 30, 2018. As KBS REIT I is implementing its plan of of liquidation, at renewal in June 2017, KBS REIT I elected to cease participation in the program and obtain separate insurance coverage.

During the nine months ended September 30, 2017 and 2016, no other business transactions occurred between the Company and KBS REIT I, KBS Real Estate Investment Trust III, Inc., KBS Strategic Opportunity REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc. and KBS Growth & Income REIT, Inc.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)

Pursuant to the terms of these agreements, summarized below are the related-party costs incurred by the Company for the three and nine months ended September 30, 2017 and 2016, respectively, and any related amounts payable as of September 30, 2017 and December 31, 2016 (in thousands):



	Incurred								Payable as of
	Three Months Ended September 30,				Nine Months Ended September 30,				September 30,		December 31,
	2017		2016		2017		2016		2017		2016
Expensed
Asset management fees	$	2,899	$	2,955	$	8,746	$	8,850	$	—	$	—
Reimbursement of operating expenses ⁽¹⁾	63		71		188		217		51		41
Disposition fees ⁽²⁾	—		—		470		423		—		—
	$	2,962	$	3,026	$	9,404	$	9,490	$	51	$	41

_____________________

⁽¹⁾ Reimbursable operating expenses primarily consists of internal audit personnel costs, accounting software and cybersecurity related expenses incurred by the Advisor under the Advisory Agreement. The Company has reimbursed the Advisor for the Company’s allocable portion of the salaries, benefits and overhead of internal audit department personnel providing services to the Company. These amounts totaled $63,000 and $64,000 for the three months ended September 30, 2017 and 2016, respectively, and $167,000 and $162,000 for the nine months ended September 30, 2017 and 2016, respectively, and were the only type of employee costs reimbursed under the Advisory Agreement for the nine months ended September 30, 2017 and 2016. The Company will not reimburse for employee costs in connection with services for which the Advisor earns acquisition, origination or disposition fees (other than reimbursement of travel and communication expenses) or for the salaries or benefits the Advisor or its affiliates may pay to the Company’s executive officers. In addition to the amounts above, the Company reimburses the Advisor for certain of the Company’s direct costs incurred from third parties that were initially paid by the Advisor on behalf of the Company.

⁽²⁾ Disposition fees with respect to real estate sold are included in the gain on sale of real estate, net, in the accompanying consolidated statements of operations. Disposition fees with respect to real estate loans receivable sold are included in the gain on payoff or sale of real estate loans receivable in the accompanying consolidated statements of operations.

During the nine months ended September 30, 2017, the Advisor paid the Company a $0.1 million property insurance rebate.


11.	COMMITMENTS AND CONTINGENCIES

Economic Dependency

The Company is dependent on the Advisor for certain services that are essential to the Company, including the disposition of real estate and real estate-related investments; management of the daily operations of the Company’s real estate and real estate-related investment portfolio; and other general and administrative responsibilities. In the event the Advisor is unable to provide any of these services, the Company will be required to obtain such services from other sources.

Environmental

As an owner of real estate, the Company is subject to various environmental laws of federal, state and local governments. Compliance with existing environmental laws is not expected to have a material adverse effect on the Company’s financial condition and results of operations as of September 30, 2017.

Legal Matters

From time to time, the Company is party to legal proceedings that arise in the ordinary course of its business. Management is not aware of any legal proceedings of which the outcome is probable or reasonably possible to have a material adverse effect on the Company’s results of operations or financial condition, which would require accrual or disclosure of the contingency and possible range of loss. Additionally, the Company has not recorded any loss contingencies related to legal proceedings in which the potential loss is deemed to be remote.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 1.	Financial Statements (continued)

KBS REAL ESTATE INVESTMENT TRUST II, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

September 30, 2017

(unaudited)


12.	SUBSEQUENT EVENTS

The Company evaluates subsequent events up until the date the consolidated financial statements are issued.

Distributions Paid

On October 2, 2017, the Company paid distributions of $4.2 million, which related to distributions declared for September 2017 in the amount of $0.02256164 per share of common stock to stockholders of record as of the close of business on September 20, 2017. On November 1, 2017, the Company paid distributions of $4.4 million, which related to distributions declared for October 2017 in the amount of $0.02331370 per share of common stock to stockholders of record as of the close of business on October 20, 2017.

Distributions Declared

On November 14, 2017, the Company’s board of directors declared a November 2017 distribution in the amount of $0.02256164 per share of common stock to stockholders of record as of the close of business on November 20, 2017, which the Company expects to pay in December 2017, and a December 2017 distribution in the amount of $0.02331370 per share of common stock to stockholders of record as of the close of business on December 20, 2017, which the Company expects to pay in January 2018.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with the accompanying financial statements of KBS Real Estate Investment Trust II, Inc. and the notes thereto. As used herein, the terms “we,” “our” and “us” refer to KBS Real Estate Investment Trust II, Inc., a Maryland corporation, and, as required by context, KBS Limited Partnership II, a Delaware limited partnership, which we refer to as the “Operating Partnership,” and to their subsidiaries.

Forward-Looking Statements

Certain statements included in this Quarterly Report on Form 10-Q are forward-looking statements. Those statements include statements regarding the intent, belief or current expectations of KBS Real Estate Investment Trust II, Inc. and members of our management team, as well as the assumptions on which such statements are based, and generally are identified by the use of words such as “may,” “will,” “seeks,” “anticipates,” “believes,” “estimates,” “expects,” “plans,” “intends,” “should” or similar expressions. Actual results may differ materially from those contemplated by such forward-looking statements. Further, forward-looking statements speak only as of the date they are made, and we undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time, unless required by law.

The following are some of the risks and uncertainties, although not all of the risks and uncertainties, that could cause our actual results to differ materially from those presented in our forward-looking statements:

•

All of our executive officers and some of our directors and other key real estate and debt finance professionals are also officers, directors, managers, key professionals and/or holders of a direct or indirect controlling interest in our advisor, the entity that acted as our dealer manager and/or other KBS-affiliated entities. As a result, they face conflicts of interest, including significant conflicts created by our advisor’s compensation arrangements with us and other KBS-sponsored programs and KBS-advised investors and conflicts in allocating time among us and these other programs and investors. These conflicts could result in unanticipated actions.


•	We pay substantial fees to and expenses of our advisor and its affiliates. These payments increase the risk that our stockholders will not earn a profit on their investment in us and increase the risk of loss to our stockholders.

•

We have used proceeds from financings, when necessary, to fund a portion of our distributions during our operational stage. We currently expect that our distributions will generally be paid from cash flow from operations and funds from operations from current or prior periods. We also expect to fund other distributions from the net proceeds from the sale of real estate and from the receipt of principal payments from, or the sale of, our real estate-related loan receivable. We can give no assurance regarding the timing, amount or source of future distributions.

•

We depend on tenants for the revenue generated by our real estate investments and, accordingly, the revenue generated by our real estate investments is dependent upon the success and economic viability of our tenants. Revenues from our properties could decrease due to a reduction in occupancy (caused by factors including, but not limited to, tenant defaults, tenant insolvency, early termination of tenant leases and non-renewal of existing tenant leases) and/or lower rental rates, making it more difficult for us to meet our debt service obligations and limiting our ability to pay distributions to our stockholders.

•

Our investments in real estate and our mortgage loan investment may be affected by unfavorable real estate market and general economic conditions, which could decrease the value of those assets and reduce the investment return to our stockholders. Revenues from our properties and the property and other assets directly securing our loan investment could decrease. Such events would make it more difficult for the borrower under our loan investment to meet its payment obligations to us. It could also make it more difficult for us to meet our debt service obligations and limit our ability to pay distributions to our stockholders.


•	Disruptions in the financial markets and uncertain economic conditions could adversely affect our ability to implement our business strategy and generate returns to our stockholders.


•	Certain of our debt obligations have variable interest rates and related payments that vary with the movement of LIBOR or other indexes. Increases in these indexes could increase the amount of our debt payments and limit our ability to pay distributions to our stockholders.

•

Our share redemption program provides only for redemptions sought upon a stockholder’s death, “qualifying disability” or “determination of incompetence” (each as defined in the share redemption program document, and, together with redemptions sought in connection with a stockholder’s death, “Special Redemptions”). The dollar amounts available for such redemptions are determined by the board of directors and may be reviewed and adjusted from time to time. Additionally, redemptions are further subject to limitations described in our share redemption program. We currently do not expect to have funds available for ordinary redemptions in the future.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

•

Since we have terminated our dividend reinvestment plan, we may have to use a greater proportion of our cash flow from operations to meet cash requirements for general corporate purposes, including, but not limited to, capital expenditures, tenant improvement costs and leasing costs related to our real estate properties; reserves required by financings of our real estate properties; the repayment of debt; and Special Redemptions under our share redemption program. This may reduce cash available for distributions.

•

During the nine months ended September 30, 2017, we sold one office property. During the year ended December 31, 2016, we sold one office/flex property. As a result of our disposition activity, our general and administrative expenses, which are not directly related to the size of our portfolio, have increased as a percentage of our cash flow from operations and will continue to increase to the extent we sell additional assets.

•

Although the Special Committee (defined below) engaged a financial advisor to assist with the exploration of strategic alternatives for us, we are not obligated to enter into any particular transaction or any transaction at all. Further, although we are exploring strategic alternatives and are marketing some of our assets for sale, there is no assurance that this process will result in stockholder liquidity, or provide a return to stockholders that equals or exceeds our estimated value per share. We do not expect to provide additional updates regarding our review of strategic alternatives until such time, if any, that we are prepared to announce a material transaction or to conclude the strategic review.

All forward-looking statements should be read in light of the risks identified in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the Securities and Exchange Commission (the “SEC”).

Overview

We were formed on July 12, 2007 as a Maryland corporation that elected to be taxed as a real estate investment trust (“REIT”) beginning with the taxable year ended December 31, 2008 and we intend to continue to operate in such a manner. We conduct our business primarily through our Operating Partnership, of which we are the sole general partner. Subject to certain restrictions and limitations, our business is managed by our advisor, KBS Capital Advisors LLC, pursuant to an advisory agreement. KBS Capital Advisors conducts our operations and manages our portfolio of real estate and real estate-related investments. Our advisor owns 20,000 shares of our common stock. We have no paid employees.

We invested in a diverse portfolio of real estate and real estate-related investments. As of September 30, 2017, we owned ten real estate properties (consisting of nine office properties and an office campus consisting of eight office buildings). In addition, as of September 30, 2017, we owned one real estate loan receivable.

On September 27, 2007, we filed a registration statement on Form S-11 with the SEC to offer a maximum of 280,000,000 shares of common stock for sale to the public, of which 200,000,000 shares were registered in our primary offering and 80,000,000 shares were registered under our dividend reinvestment plan. We ceased offering shares of common stock in our primary offering on December 31, 2010. We sold 182,681,633 shares of common stock in our primary offering for gross offering proceeds of $1.8 billion. We terminated the offering under our dividend reinvestment plan effective May 29, 2014. We sold 30,903,504 shares of common stock under our dividend reinvestment plan for gross offering proceeds of $298.2 million. Also as of September 30, 2017, we had redeemed 25,723,025 shares sold in our offering for $244.6 million.

On January 27, 2016, our board of directors formed a special committee (the “Special Committee”) composed of all of our independent directors to explore the availability of strategic alternatives involving us. As part of the process of exploring strategic alternatives, on February 23, 2016, the Special Committee engaged Evercore Group L.L.C. (“Evercore”) to act as our financial advisor and to assist us and the Special Committee with this process. Under the terms of the engagement, Evercore provided various financial advisory services, as requested by the Special Committee as customary for an engagement in connection with exploring strategic alternatives. Although the Special Committee engaged Evercore to assist us and the Special Committee with the exploration of strategic alternatives for us, we are not obligated to enter into any particular transaction or any transaction at all.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

While the Special Committee continues to explore strategic alternatives for us, the Special Committee has determined that it would be in our best interest and the best interest of our stockholders to market some of our assets for sale. Based on the results of this sales effort, the board of directors may conclude that it would be in our best interest and the best interest of our stockholders to sell additional assets and, depending on the scope of the proposed asset sales, thereafter to adopt a plan of liquidation that would involve the sale of our remaining assets. In the event of such a determination, the proposed plan of liquidation would be presented to our stockholders for approval. Alternatively, based on the results of the initial sales effort, the board of directors may conclude that it would be in our best interest and the best interest of our stockholders for us to engage in a limited number of asset sales and continue to operate as a going concern, but with a portfolio that is smaller than the present portfolio. Although we are exploring strategic alternatives and are marketing some of our assets for sale, there is no assurance that this process will result in stockholder liquidity, or provide a return to stockholders that equals or exceeds our estimated value per share.

Our focus in 2017 is to: continue to strategically sell assets and consider special distributions to stockholders; negotiate lease renewals or new leases that facilitate the sales process and enhance property stability for prospective buyers; complete capital projects, such as renovations or amenity enhancements, to attract quality buyers; and finalize the strategic alternatives assessment and decide on a course of action.

Market Outlook – Real Estate and Real Estate Finance Markets

The following discussion is based on management’s beliefs, observations and expectations with respect to the real estate and real estate finance markets.

The global economy is broadly improving albeit at an uneven pace. European economic growth has recently picked up, with improving employment data in most of the European Union countries. The U.K. and China remain areas of concern. The U.K. is working through its BREXIT process, whereas the Chinese economy has shown signs of stabilization, but is still struggling with uncertainty in its banking system in relation to bad loans. Against this backdrop, the central banks of the world’s major industrialized economies are beginning to back away from their strong monetary accommodation. Quantitative easing (“QE”) in Japan and Europe is slowing, but the liquidity generated from these programs continues to impact the global capital markets.

At a duration of 100 months (as of the end of third quarter 2017), the current business cycle, which commenced in June 2009, is the third longest in U.S. history, behind only the periods between 1961 - 1969 and 1991 - 2001. In June 2017, the U.S. Federal Reserve (the “Fed”) increased interest rates for the fourth time in three years. Expectations are that the Fed will increase rates again in December, citing low unemployment and strong economic growth. The Fed is still attempting to normalize the level of interest rates in the United States. U.S. interest rates are relatively high when compared to Europe, where the European Central Bank is still engaging in QE. Global inflation is starting to show signs of life as U.S. inflation has grown to approximately 1.9% versus 2.9% in the U.K. and 1.5% in the Eurozone. Real gross domestic product (“GDP”) in the United States has had two consecutive quarters of 3.0% or greater growth, and the U.S. unemployment rate is currently a relatively low 4.2%. Personal income growth has started to pick up and unemployment statistics indicate that labor market conditions are finally showing real improvements. Political uncertainty surrounding the current administration’s budget, tax reform plans, and the continued weakness in retailers, all may adversely impact business and consumer confidence.

In 2017 the U.S. commercial real estate market has seen a decline in transaction volume and a slowing of price increases. In the aggregate, property level operating income growth has begun to slow, while lending standards have tightened. The United States continues to benefit from inflows of foreign capital, albeit at a slowing rate. The capital flows from China have dropped as the Chinese government has successfully imposed constraints on capital leaving the country. The industrial property sector is a standout for investors, as internet sales volumes continue to increase the demand for warehouses and logistics-related assets. Traditional sources of capital are favoring a “risk-off” approach, as capital flows have shifted equity towards debt, or secured, investing. Commercial real estate returns are increasingly being driven by property income (yield), as opposed to price appreciation through cap rate compression.

Lenders with long memories remain disciplined in their underwriting of investments. For balance sheet lenders, such as banks and insurance companies, underwriting standards for commercial real estate have tightened. This has resulted in lower loan-to-value and higher debt coverage ratios. CMBS originations rebounded in the third quarter as banks and insurance companies tightened loan terms. CMBS volumes are on pace to beat 2016 issuance volumes. This is a positive for the U.S. commercial real estate markets as it illustrates the virtues of having a diversified set of funding sources.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Impact on Our Real Estate Investments

The volatility in the global financial markets and political environment continues to cause a level of uncertainty in our outlook for the performance of the U.S. commercial real estate markets. Both the investing and leasing environments are highly competitive. While foreign capital continues to flow into U.S. real estate markets, albeit at a slower rate, concerns regarding the political, regulatory and economic environments have introduced uncertainty into the markets. Possible future declines in rental rates, slower or potentially negative net absorption of leased space and expectations of future rental concessions, including free rent to renew tenants early, to retain tenants who are up for renewal or to attract new tenants, may result in decreases in cash flows. Historically low interest rates could help offset some of the impact of these potential decreases in operating cash flow for properties financed with variable rate mortgages; however, interest rates in the United States have started to increase. The Fed raised interest rates four times between the period December 2015 and June 2017. The real estate and finance markets anticipate further rate increases if the economy remains strong, but a flattening U.S. treasury yield curve is signaling a weakening in economic conditions, and highlights the degree of uncertainty surrounding the near-term U.S. economic prospects. Management continuously reviews our debt financing strategies to optimize the cost of our debt exposure.

Impact on Our Real Estate-Related Investment

Our real estate loan receivable is directly secured by commercial real estate. As a result, our real estate-related investment, in general, has been and likely will continue to be impacted by the same factors impacting our real estate properties. The higher yields and the improving credit position of many U.S. tenants and borrowers have attracted global capital. However, the real estate and capital markets are fluid, and the positive trends can reverse quickly. Economic conditions remain relatively volatile and can have a negative impact on the performance of collateral securing our loan investment, and therefore may impact the ability of the borrower under our loan to make contractual interest payments to us.

As of September 30, 2017, we had a fixed-rate real estate loan receivable with an outstanding principal balance of $14.0 million and a carrying value (including unamortized origination and closing costs) of $14.0 million that matures in 2018.

Impact on Our Financing Activities

In light of the risks associated with potentially volatile operating cash flows from some of our real estate properties, and the increase in the cost of financing due to higher interest rates, we may have difficulty refinancing some of our debt obligations prior to or at maturity or we may not be able to refinance these obligations at terms as favorable as the terms of our existing indebtedness. Short-term interest rates in the United States have increased, and are expected to increase again by the end of the year. Market conditions can change quickly, potentially negatively impacting the value of our investments.

As of September 30, 2017, we had debt obligations in the aggregate principal amount of $521.7 million with a weighted-average remaining term of one year. We had a total of $138.9 million of fixed rate notes payable and $382.8 million of variable rate notes payable as of September 30, 2017. As of September 30, 2017, we had a total of $382.8 million of debt obligations scheduled to mature within 12 months of that date. We plan to exercise our extension options available under our loan agreements, if applicable, or pay off or refinance the related notes payable prior to their maturity dates.

Liquidity and Capital Resources

Our principal demands for funds during the short- and long-term are and will be for: the payment of operating expenses, capital expenditures and general and administrative expenses; payments under debt obligations; Special Redemptions of common stock pursuant to our share redemption program; and payments of distributions to stockholders.

We intend to use our cash on hand, cash flow generated by our real estate properties and real estate-related investment, proceeds from debt financing, proceeds from the sale of real estate properties and possibly the principal repayment on or sale of our real estate loan receivable as our primary sources of immediate and long-term liquidity. As of September 30, 2017, we had an aggregate of $25.0 million available for future disbursements under one credit facility, subject to certain conditions and restrictions set forth in the loan agreement.

Our share redemption program provides only for Special Redemptions. During each calendar year, such Special Redemptions are limited to an annual dollar amount determined by the board of directors, which may be reviewed during the year and increased or decreased upon ten business days’ notice to our stockholders. Special Redemptions are made at a price per share equal to the most recent estimated value per share of our common stock as of the applicable redemption date. We currently do not expect to make ordinary redemptions in the future. On December 9, 2016, our board of directors approved an annual dollar limitation of $10.0 million in the aggregate for the calendar year 2017 (subject to review and adjustment during the year by the board of directors), and further subject to the limitations described in the share redemption program. As of September 30, 2017, we had $5.4 million available for Special Redemptions for the remainder of 2017.

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Our investments in real estate generate cash flow in the form of rental revenues and tenant reimbursements, which are reduced by operating expenditures, debt service payments, the payment of asset management fees and corporate general and administrative expenses. Cash flow from operations from our real estate investments is primarily dependent upon the occupancy level of our portfolio, the net effective rental rates on our leases, the collectibility of rent and operating recoveries from our tenants and how well we manage our expenditures. As of September 30, 2017, our real estate properties were 83% occupied and our bad debt reserve was less than 1% of annualized base rent.

Our real estate-related investment generates cash flow in the form of interest income, which is reduced by the payment of asset management fees and corporate general and administrative expenses. Cash flow from operations from our real estate-related investment is primarily dependent on the operating performance of the underlying collateral and the borrower’s ability to make debt service payments. As of September 30, 2017, the borrower under our real estate loan receivable was current on its debt service payments to us.

For the nine months ended September 30, 2017, our cash needs for capital expenditures and the payment of debt obligations were met with the proceeds from the payoff or sale of real estate loans receivable and proceeds from the sales of real estate properties. Operating cash needs during the same period were met with cash flow generated by our real estate and real estate-related investments. We made distributions to our stockholders during the nine months ended September 30, 2017 using cash flows from operations and cash on hand. We believe that our cash on hand, cash flow from operations, availability under our credit facility, proceeds from the sales of real estate properties and the repayment of or sale of our real estate loan receivable will be sufficient to meet our liquidity needs for the foreseeable future. As of September 30, 2017, we had a total of $382.8 million of debt obligations scheduled to mature within 12 months of that date. We plan to exercise our extension options available under our loan agreements, if applicable, or pay down or refinance the related notes payable prior to their maturity dates.

On December 14, 2016, our board of directors approved an estimated value per share of our common stock of $5.49 (unaudited) based on the estimated value of our assets less the estimated value of our liabilities, divided by the number of shares outstanding, all as of September 30, 2016. For a full description of the assumptions, methodologies and limitations used to value our assets and liabilities in connection with the calculation of our estimated value per share, see Part II, Item 5 of our Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on March 13, 2017. Based primarily on market feedback received during recent efforts to sell certain properties, our board of directors now believes that the value of our real estate portfolio may have decreased by approximately 5.0% to 7.0% from our December 14, 2016 valuation. Based solely on this estimated decrease in the value of our real estate portfolio, our December 14, 2016 estimated value per share may be reduced by $0.40 to $0.56 per share. We have not undertaken a full valuation of our assets and liabilities, and we are not establishing a new estimated value per share at this time. Consistent with our valuation policy, we will provide an updated estimated value per share annually, no later than December 2017.

Our cash flow from operations will continue to decrease in future periods as a result of our disposition activity, and we have adjusted our distribution policy with respect to the amount of monthly distribution payments to take into account our disposition activity and current real estate investments. We may continue to make additional strategic asset sales as opportunities become available in the market and may further adjust our distribution policy as a result. Any future special distributions we make from the proceeds of future dispositions will reduce our estimated value per share and this reduction will be reflected in our updated estimated value per share.

On January 27, 2016, our board of directors formed the Special Committee, which is composed of all of our independent directors, to explore the availability of strategic alternatives involving us. As part of the process of exploring strategic alternatives, on February 23, 2016, the Special Committee engaged Evercore to act as our financial advisor and to assist us and the Special Committee with this process. Under the terms of the engagement, Evercore provided various financial advisory services, as requested by the Special Committee as customary for an engagement in connection with exploring strategic alternatives. Although the Special Committee engaged Evercore to assist us and the Special Committee with the exploration of strategic alternatives for us, we are not obligated to enter into any particular transaction or any transaction at all.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Cash Flows from Operating Activities

As of September 30, 2017, we owned ten real estate properties (consisting of nine office properties and an office campus consisting of eight office buildings). In addition, as of September 30, 2017, we owned one real estate loan receivable.

During the nine months ended September 30, 2017, net cash provided by operating activities was $42.9 million, compared to $44.6 million during the nine months ended September 30, 2016. The decrease in net cash provided by operating activities was primarily due to the timing of rent collection and payments of lease incentives. We anticipate cash flows from operating activities to decrease as a result of the property sold during the nine months ended September 30, 2017 and to the extent we make additional asset sales.

Cash Flows from Investing Activities

Net cash provided by investing activities was $35.7 million for the nine months ended September 30, 2017, and primarily consisted of the following:


•	$45.7 million of proceeds from the sale of one office property; and


•	$10.1 million used for improvements to real estate.

Cash Flows from Financing Activities

During the nine months ended September 30, 2017, net cash used in financing activities was $46.9 million and consisted of the following:


•	$38.9 million of cash distributions;


•	$4.6 million of cash used for redemptions of common stock;


•	$2.6 million of principal payments on notes payable; and


•	$0.8 million of payments of deferred financing costs.

In addition to using our capital resources to meet our debt service obligations, for capital expenditures and for operating costs, we use our capital resources to make certain payments to our advisor. We paid our advisor fees in connection with the acquisition and origination of our assets and pay our advisor fees in connection with the management and disposition of our assets and for certain costs incurred by our advisor in providing services to us. Among the fees payable to our advisor is an asset management fee. With respect to investments in real estate, we pay our advisor a monthly asset management fee equal to one-twelfth of 0.75% of the amount paid or allocated to acquire the investment, plus the cost of any subsequent development, construction or improvements to the property. This amount includes any portion of the investment that was debt financed and is inclusive of acquisition fees and expenses related thereto. With respect to investments in loans and any investments other than real estate, we pay our advisor a monthly asset management fee calculated, each month, as one-twelfth of 0.75% of the lesser of (i) the amount paid or allocated to acquire or fund the loan or other investment (which amount includes any portion of the investment that was debt financed and is inclusive of acquisition or origination fees and expenses related thereto) and (ii) the outstanding principal amount of such loan or other investment, plus the acquisition or origination fees and expenses related to the acquisition or funding of such investment, as of the time of calculation. We also continue to reimburse our advisor and our dealer manager for certain stockholder services.

As of September 30, 2017, we had $76.0 million of cash and cash equivalents and up to $25.0 million available for future disbursements under one credit facility, subject to certain conditions and restrictions set forth in the loan agreement, to meet our operational and capital needs.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

In order to execute our investment strategy, we primarily utilized secured debt to finance a portion of our investment portfolio. Management remains vigilant in monitoring the risks inherent with the use of debt in our portfolio and is taking actions to ensure that these risks, including refinance and interest rate risks, are properly balanced with the benefit of using leverage. We limit our total liabilities to 75% of the cost (before deducting depreciation and other noncash reserves) of our tangible assets; however, we may exceed that limit if the majority of the conflicts committee approves each borrowing in excess of such limitation and we disclose such borrowings to our stockholders in our next quarterly report with an explanation from the conflicts committee of the justification for the excess borrowing. As of September 30, 2017, our borrowings and other liabilities were approximately 35% of both the cost (before deducting depreciation and other noncash reserves) and book value (before deducting depreciation) of our tangible assets, respectively.

Contractual Commitments and Contingencies

The following is a summary of our contractual obligations as of September 30, 2017 (in thousands):



			Payments Due During the Years Ending December 31,
Contractual Obligations	Total		Remainder of 2017		2018-2019		2020
Outstanding debt obligations ⁽¹⁾	$	521,681	$	78,699	$	310,361	$	132,621
Interest payments on outstanding debt obligations ⁽²⁾	16,391		3,704		11,144		1,543

_____________________

⁽¹⁾ Amounts include principal payments only.

⁽²⁾ Projected interest payments are based on the outstanding principal amounts, maturity dates and interest rates in effect as of September 30, 2017 (consisting of the contractual interest rate). We incurred interest expense of $12.2 million, excluding net unrealized gains on interest rate swap agreements of $0.1 million and amortization of deferred financing costs totaling $0.8 million during the nine months ended September 30, 2017.

Results of Operations

Overview

As of September 30, 2016, we owned ten office properties, an office campus consisting of eight office buildings and one real estate loan receivable. Subsequent to September 30, 2016, we sold one office property. As a result, as of September 30, 2017, we owned nine office properties, an office campus consisting of eight office buildings and one real estate loan receivable. The results of operations presented for the nine months ended September 30, 2017 and 2016 are not directly comparable due to the disposition of two real estate properties subsequent to January 1, 2016. In general, we expect income and expenses to decrease in future periods due to disposition activity.

Comparison of the three months ended September 30, 2017 versus the three months ended September 30, 2016

The following table provides summary information about our results of operations for the three months ended September 30, 2017 and 2016 (dollar amounts in thousands):



	Three Months Ended September 30,				Increase (Decrease)			Percentage Change		$ Change Due to Dispositions ⁽¹⁾			$ Change Due to Properties or Loans Held Throughout Both Periods ⁽²⁾
	2017		2016		Increase (Decrease)			Percentage Change		$ Change Due to Dispositions ⁽¹⁾
Rental income	$	30,649	$	33,214	$	(2,565	)	(8	)%	$	(1,337	)	$	(1,228	)
Tenant reimbursements	3,401		3,389		12			—	%	(17		)	29
Interest income from real estate loan receivable	267		270		(3		)	(1	)%	—			(3		)
Other operating income	1,827		1,729		98			6	%	—			98
Operating, maintenance and management costs	8,315		9,002		(687		)	(8	)%	(336		)	(351		)
Real estate taxes and insurance	5,014		5,099		(85		)	(2	)%	(213		)	128
Asset management fees to affiliate	2,899		2,955		(56		)	(2	)%	(94		)	38
General and administrative expenses	1,119		1,299		(180		)	(14	)%	n/a			n/a
Depreciation and amortization	13,458		14,210		(752		)	(5	)%	(488		)	(264		)
Interest expense	4,558		4,066		492			12	%	(108		)	600

_____________________

⁽¹⁾ Represents the dollar amount increase (decrease) for the three months ended September 30, 2017 compared to the three months ended September 30, 2016 related to real estate and real estate-related investments disposed of on or after July 1, 2016.

⁽²⁾ Represents the dollar amount increase (decrease) for the three months ended September 30, 2017 compared to the three months ended September 30, 2016 related to real estate and real estate-related investments owned by us throughout both periods presented.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Rental income and tenant reimbursements decreased from $36.6 million for the three months ended September 30, 2016 to $34.1 million for the three months ended September 30, 2017, primarily due to the disposition of one real estate property subsequent to July 1, 2016 and an early lease termination and lease expirations at properties held throughout both periods. Overall, we expect rental income and tenant reimbursements to decrease in future periods due to anticipated dispositions of real estate properties. For the three months ended September 30, 2016, rental income and tenant reimbursements from our real estate property sold were $1.4 million.

Interest income from our real estate loan receivable, recognized using the interest method, remained consistent at $0.3 million during the three months ended September 30, 2017 and 2016. Interest income from our real estate loan receivable in future periods compared to historical periods will decrease as a result of the anticipated payoff of our real estate loan receivable, which matures in August 2018.

Operating, maintenance and management costs decreased from $9.0 million for the three months ended September 30, 2016 to $8.3 million for the three months ended September 30, 2017 primarily due to the disposition of one real estate property subsequent to July 1, 2016 and a decrease in utility costs for properties held throughout both periods. We expect operating, maintenance and management costs to decrease in future periods due to anticipated dispositions of real estate properties, offset by inflation. For the three months ended September 30, 2016, operating, maintenance and management costs from our real estate property sold was $0.4 million.

Real estate taxes and insurance decreased slightly from $5.1 million for the three months ended September 30, 2016 to $5.0 million for the three months ended September 30, 2017. This decrease was primarily due to the disposition of one real estate property subsequent to July 1, 2016, partially offset by a higher property tax assessed value for one real estate property held throughout both periods. We expect real estate taxes and insurance to decrease in future periods due to anticipated dispositions of real estate properties. For the three months ended September 30, 2016, real estate taxes and insurance from our real estate property sold were $0.2 million.

General and administrative expenses decreased from $1.3 million for the three months ended September 30, 2016 to $1.1 million for the three months ended September 30, 2017 primarily due to lower transfer agent fees. General and administrative expenses consist primarily of legal fees, audit fees, transfer agent fees, state and local income taxes and other professional fees.

Depreciation and amortization decreased from $14.2 million for the three months ended September 30, 2016 to $13.5 million for the three months ended September 30, 2017 due to the disposition of one real estate property subsequent to July 1, 2016 and as a result of lease terminations and lease expirations related to a property held throughout both periods. We expect depreciation and amortization to decrease in future periods due to anticipated dispositions of real estate properties and an overall decrease in amortization of tenant origination costs related to lease expirations. For the three months ended September 30, 2016, depreciation and amortization from our real estate property sold was $0.5 million.

Interest expense increased from $4.1 million for the three months ended September 30, 2016 to $4.6 million for the three months ended September 30, 2017. The increase in interest expense is primarily due to a higher one-month LIBOR in our existing notes payable related to properties held throughout both periods, partially offset by an overall decrease in our total debt outstanding due to a loan repayment in connection with the disposition of one real estate property subsequent to July 1, 2016. Included in interest expense is the amortization of deferred financing costs of $0.6 million and $0.2 million for the three months ended September 30, 2016 and 2017, respectively. During the three months ended September 30, 2016 and 2017, we recorded $0.2 million and $0 of unrealized gains on interest rate swaps, respectively. In general, we expect interest expense to decrease in future periods due to debt repayments related to assets sold and anticipated asset sales, which may be offset by certain fees and costs that may be incurred due to the prepayment and refinancing of certain loans. Our interest expense in future periods will also vary based on fluctuations in one-month LIBOR (for our variable rate debt, to the extent that such variable rate debt is not subject to an interest rate swap agreement) and our level of future borrowings, which will depend on the availability and cost of debt financing, draws on our credit facility and any debt repayments we make. For the three months ended September 30, 2016, interest expense from the loan secured by our real estate property sold was $0.1 million.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Comparison of the nine months ended September 30, 2017 versus the nine months ended September 30, 2016

The following table provides summary information about our results of operations for the nine months ended September 30, 2017 and 2016 (dollar amounts in thousands):



	Nine Months Ended September 30,				Increase (Decrease)			Percentage Change		$ Change Due to Dispositions ⁽¹⁾			$ Change Due to Properties or Loans Held Throughout Both Periods ⁽²⁾
	2017		2016		Increase (Decrease)			Percentage Change		$ Change Due to Dispositions ⁽¹⁾
Rental income	$	95,384	$	101,674	$	(6,290	)	(6	)%	$	(2,769	)	$	(3,521	)
Tenant reimbursements	10,842		11,114		(272		)	(2	)%	(356		)	84
Interest income from real estate loan receivable	795		806		(11		)	(1	)%	—			(11		)
Other operating income	5,441		5,191		250			5	%	—			250
Operating, maintenance and management costs	25,600		25,785		(185		)	(1	)%	(491		)	306
Real estate taxes and insurance	15,092		15,223		(131		)	(1	)%	(514		)	383
Asset management fees to affiliate	8,746		8,850		(104		)	(1	)%	(226		)	122
General and administrative expenses	3,307		5,125		(1,818		)	(35	)%	n/a			n/a
Depreciation and amortization	40,771		43,391		(2,620		)	(6	)%	(1,774		)	(846		)
Interest expense	12,947		12,727		220			2	%	(747		)	967
Gain on sale of real estate, net	7,863		9,101		(1,238		)	(14	)%	(1,238		)	—

_____________________

⁽¹⁾ Represents the dollar amount increase (decrease) for the nine months ended September 30, 2017 compared to the nine months ended September 30, 2016 related to real estate and real estate-related investments disposed of on or after January 1, 2016.

⁽²⁾ Represents the dollar amount increase (decrease) for the nine months ended September 30, 2017 compared to the nine months ended September 30, 2016 related to real estate and real estate-related investments owned by us throughout both periods presented.

Rental income and tenant reimbursements decreased from $112.8 million for the nine months ended September 30, 2016 to $106.2 million for the nine months ended September 30, 2017, primarily due to the disposition of two real estate properties subsequent to January 1, 2016, an early lease termination related to a tenant in a property held throughout both periods during the nine months ended September 30, 2016 and an overall decrease in portfolio occupancy of 6% related to real estate held for investment, partially offset by an aggregate increase in average annualized base rent per square foot of 2.0% related to real estate held for investment. Overall, we expect rental income and tenant reimbursements to decrease in future periods due to the sale of an office property during the nine months ended September 30, 2017 and anticipated dispositions of real estate properties. For the nine months ended September 30, 2017 and 2016, rental income and tenant reimbursements from our real estate properties sold were $2.4 million and $5.5 million, respectively.

Interest income from our real estate loan receivable, recognized using the interest method, remained consistent at $0.8 million for the nine months ended September 30, 2017 and 2016. Interest income from our real estate loan receivable in future periods compared to historical periods will decrease as a result of the anticipated payoff of our real estate loan receivable, which matures in August 2018.

Operating, maintenance and management costs decreased from $25.8 million for the nine months ended September 30, 2016 to $25.6 million for the nine months ended September 30, 2017 primarily due to the sale of two real estate properties subsequent to January 1, 2016, partially offset by an increase in on-site wages and reimbursable parking expenses for properties held throughout both periods. We expect operating, maintenance and management costs to decrease in future periods due to the disposition of an office property during the nine months ended September 30, 2017 and anticipated dispositions of real estate properties, offset by inflation. For the nine months ended September 30, 2017 and 2016, operating, maintenance and management costs from our real estate properties sold were $0.6 million and $1.1 million, respectively.

Real estate taxes and insurance decreased slightly by $0.1 million primarily due to the disposition of two real estate properties subsequent to January 1, 2016, partially offset by a higher property tax assessed value for one real estate property held throughout both periods. We expect real estate taxes and insurance to decrease in future periods due to the sale of an office property during the nine months ended September 30, 2017 and anticipated dispositions of real estate properties. For the nine months ended September 30, 2017 and 2016, real estate taxes and insurance from our real estate properties sold were $0.3 million and $0.8 million, respectively.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Asset management fees with respect to our real estate and real estate-related investments decreased slightly from $8.9 million for the nine months ended September 30, 2016 to $8.7 million for the nine months ended September 30, 2017, primarily due to the disposition of two real estate properties subsequent to January 1, 2016 offset by higher asset management fees as a result of improvements made to properties held throughout both periods. All asset management fees incurred as of September 30, 2017 have been paid. We expect asset management fees to decrease in future periods due to the sale of an office property during the nine months ended September 30, 2017 and anticipated dispositions of real estate properties. For the nine months ended September 30, 2017 and 2016, asset management fees from our real estate properties sold were $0.2 million and $0.4 million, respectively.

General and administrative expenses decreased from $5.1 million for the nine months ended September 30, 2016 to $3.3 million for the nine months ended September 30, 2017. This decrease was primarily due to professional fees incurred related to the Special Committee’s engagement of Evercore to act as our financial advisor and legal fees related to the assessment of strategic alternatives during the nine months ended September 30, 2016. We did not incur such costs during the nine months ended September 30, 2017. See “—Liquidity and Capital Resources” for our discussion on the engagement of Evercore and assessment of strategic alternatives.

Depreciation and amortization decreased from $43.4 million for the nine months ended September 30, 2016 to $40.8 million for the nine months ended September 30, 2017 due to the disposition of two real estate properties subsequent to January 1, 2016 and as a result of lease terminations and lease expirations related to properties held throughout both periods. We expect depreciation and amortization to decrease in future periods due to anticipated dispositions of real estate properties and an overall decrease in amortization of tenant origination costs related to lease expirations. For the nine months ended September 30, 2017 and 2016, depreciation and amortization from our real estate properties sold were $0.2 million and $1.9 million, respectively.

Interest expense increased from $12.7 million for the nine months ended September 30, 2016 to $12.9 million for the nine months ended September 30, 2017. The increase in interest expense is primarily due to higher one-month LIBOR in our existing notes payable related to properties held throughout both periods, partially offset by an overall decrease in our total debt outstanding due to loan repayments in connection with the disposition of two real estate properties subsequent to January 1, 2016. Included in interest expense is the amortization of deferred financing costs of $1.4 million and $0.8 million for the nine months ended September 30, 2016 and 2017, respectively. Also included in interest expense during the nine months ended September 30, 2016 was $0.2 million of termination fees related to the payoff of a loan secured by one office/flex property sold during the nine months ended September 30, 2016. During the nine months ended September 30, 2017 and 2016, we recorded $0.1 million and $0.3 million of unrealized gains on interest rate swaps, respectively. In general, we expect interest expense to decrease in future periods due to debt repayments related to assets sold and anticipated asset sales, which may be offset by certain fees and costs that may be incurred due to the prepayment and refinancing of certain loans. Our interest expense in future periods will also vary based on fluctuations in one-month LIBOR (for our variable rate debt, to the extent that such variable rate debt is not subject to an interest rate swap agreement) and our level of future borrowings, which will depend on the availability and cost of debt financing, draws on our credit facility and any debt repayments we make. For the nine months ended September 30, 2017 and 2016, interest expense from the loans secured by our real estate properties sold was $88,000 and $0.8 million, respectively.

We recognized a gain on sale of real estate of $7.9 million related to the disposition of one office property during the nine months ended September 30, 2017. During nine months ended September 30, 2016, we recognized a gain on sale of real estate of $9.1 million related to the disposition of one office/flex property.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Funds from Operations and Modified Funds from Operations

We believe that funds from operations (“FFO”) is a beneficial indicator of the performance of an equity REIT. We compute FFO in accordance with the current National Association of Real Estate Investment Trusts (“NAREIT”) definition. FFO represents net income, excluding gains and losses from sales of operating real estate assets (which can vary among owners of identical assets in similar conditions based on historical cost accounting and useful-life estimates), impairment losses on real estate assets, depreciation and amortization of real estate assets, and adjustments for unconsolidated partnerships and joint ventures. We believe FFO facilitates comparisons of operating performance between periods and among other REITs. However, our computation of FFO may not be comparable to other REITs that do not define FFO in accordance with the NAREIT definition or that interpret the current NAREIT definition differently than we do. Our management believes that historical cost accounting for real estate assets in accordance with U.S. generally accepted accounting principles (“GAAP”) implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting to be insufficient by themselves. As a result, we believe that the use of FFO, together with the required GAAP presentations, provides a more complete understanding of our performance relative to our competitors and provides a more informed and appropriate basis on which to make decisions involving operating, financing, and investing activities.

Changes in accounting rules have resulted in a substantial increase in the number of non-operating and non-cash items included in the calculation of FFO. As a result, our management also uses modified funds from operations (“MFFO”) as an indicator of our ongoing performance as well as our dividend sustainability. MFFO excludes from FFO: acquisition fees and expenses (to the extent that such fees and expenses have been recorded as operating expenses); adjustments related to contingent purchase price obligations; amounts relating to straight-line rents and amortization of above and below market intangible lease assets and liabilities; accretion of discounts and amortization of premiums on debt investments; amortization of closing costs relating to debt investments; impairments of real estate-related investments; mark-to-market adjustments included in net income; and gains or losses included in net income for the extinguishment or sale of debt or hedges. We compute MFFO in accordance with the definition of MFFO included in the practice guideline issued by the Investment Program Association (“IPA”) in November 2010 as interpreted by management. Our computation of MFFO may not be comparable to other REITs that do not compute MFFO in accordance with the current IPA definition or that interpret the current IPA definition differently than we do.

We believe that MFFO is helpful as a measure of ongoing operating performance because it excludes non-operating items included in FFO. MFFO excludes non-cash items such as straight-line rental revenue. Additionally, we believe that MFFO provides investors with supplemental performance information that is consistent with the performance indicators and analysis used by management, in addition to net income and cash flows from operating activities as defined by GAAP, to evaluate the sustainability of our operating performance. MFFO provides comparability in evaluating the operating performance of our portfolio with other non-traded REITs which typically have limited lives with short and defined acquisition periods and targeted exit strategies. MFFO, or an equivalent measure, is routinely reported by non-traded REITs, and we believe often used by analysts and investors for comparison purposes.

FFO and MFFO are non-GAAP financial measures and do not represent net income as defined by GAAP. Net income as defined by GAAP is the most relevant measure in determining our operating performance because FFO and MFFO include adjustments that investors may deem subjective, such as adding back expenses such as depreciation and amortization and the other items described above. Accordingly, FFO and MFFO should not be considered as alternatives to net income as an indicator of our current and historical operating performance. In addition, FFO and MFFO do not represent cash flows from operating activities determined in accordance with GAAP and should not be considered an indication of our liquidity. We believe FFO and MFFO, in addition to net income and cash flows from operating activities as defined by GAAP, are meaningful supplemental performance measures; however, neither FFO nor MFFO reflects adjustments for the operations of properties and real estate-related investments sold or held for sale during the periods presented. During periods of significant disposition activity, FFO and MFFO are much more limited measures of future performance and dividend sustainability. In connection with our presentation of FFO and MFFO, we are providing information related to the proportion of MFFO related to properties sold and held for sale and real estate-related investments sold or repaid as of September 30, 2017.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Although MFFO includes other adjustments, the exclusion of straight-line rent, the amortization of above- and below-market leases, the amortization of discounts and closing costs, termination fees on derivative instruments and unrealized gains and losses on derivative instruments are the most significant adjustments for the periods presented. We have excluded these items based on the following economic considerations:

•

Adjustments for straight-line rent. These are adjustments to rental revenue as required by GAAP to recognize contractual lease payments on a straight-line basis over the life of the respective lease. We have excluded these adjustments in our calculation of MFFO to more appropriately reflect the current economic impact of our in-place leases, while also providing investors with a useful supplemental metric that addresses core operating performance by removing rent we expect to receive in a future period or rent that was received in a prior period;

•

Amortization of above- and below-market leases. Similar to depreciation and amortization of real estate assets and lease related costs that are excluded from FFO, GAAP implicitly assumes that the value of intangible lease assets and liabilities diminishes predictably over time and requires that these charges be recognized currently in revenue. Since real estate values and market lease rates in the aggregate have historically risen or fallen with local market conditions, management believes that by excluding these charges, MFFO provides useful supplemental information on the realized economics of the real estate;

•

Amortization of discounts and closing costs. Discounts and closing costs related to debt investments are amortized over the term of the loan as an adjustment to interest income. This application results in income recognition that is different than the underlying contractual terms of the debt investments. We have excluded the amortization of discounts and closing costs related to our debt investments in our calculation of MFFO to more appropriately reflect the economic impact of our debt investments, as discounts will not be economically recognized until the loan is repaid and closing costs are essentially the same as acquisition fees and expenses on real estate. We believe excluding these items provides investors with a useful supplemental metric that directly addresses core operating performance;


•	Termination fees on derivative instruments. Termination fees on derivative instruments are included in interest expense. Although these amounts reduce net income, we exclude them from MFFO to more appropriately reflect the ongoing impact of our interest rate swap agreements; and

•

Unrealized gains and losses on derivative instruments. These adjustments include unrealized gains and losses from mark-to-market adjustments on interest rate swaps and losses due to hedge ineffectiveness. The change in fair value of interest rate swaps not designated as a hedge and the change in fair value of the ineffective portion of interest rate swaps are non-cash adjustments recognized directly in earnings and are included in interest expense. We have excluded these adjustments in our calculation of MFFO to more appropriately reflect the economic impact of our interest rate swap agreements.

Our calculation of FFO, which we believe is consistent with the calculation of FFO as defined by NAREIT, is presented in the following table, along with our calculation of MFFO, for the three and nine months ended September 30, 2017 and 2016, respectively (in thousands). No conclusions or comparisons should be made from the presentation of these periods.



	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2017		2016			2017			2016
Net income	$	899	$	2,445		$	14,029		$	17,301
Depreciation of real estate assets	9,120		9,115			27,211			27,096
Amortization of lease-related costs	4,338		5,095			13,560			16,295
Gain on sale of real estate, net	—		—			(7,863		)	(9,101		)
FFO	14,357		16,655			46,937			51,591
Straight-line rent and amortization of above- and below-market leases	368		(1,866		)	(1,009		)	(5,358		)
Amortization of discounts and closing costs	1		1			3			3
Termination fees on derivative instruments	—		—			—			156
Unrealized gains on derivative instruments	—		(245		)	(101		)	(321		)
MFFO	$	14,726	$	14,545		$	45,830		$	46,071

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PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Our calculation of MFFO above includes amounts related to the operations of two real estate properties sold between January 1, 2016 and September 30, 2017. Please refer to the table below with respect to the proportion of MFFO related to the real estate properties sold as of September 30, 2017 (in thousands).



	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2017		2016		2017		2016
MFFO by component:
Assets held for investment	$	14,726	$	13,845	$	44,881	$	43,578
Real estate properties sold	—		700		949		2,493
MFFO	$	14,726	$	14,545	$	45,830	$	46,071

FFO and MFFO may also be used to fund all or a portion of certain capitalizable items that are excluded from FFO and MFFO, such as tenant improvements, building improvements and deferred leasing costs.

Distributions

Distributions declared, distributions paid and cash flow from operations were as follows for the first, second and third quarters of 2017 (in thousands, except per share amounts):



Period	Distributions Declared ⁽¹⁾		Distributions Declared Per Share⁽¹⁾		Distributions Paid ⁽²⁾		Cash Flow From Operations
First Quarter 2017	$	12,770	$	0.068	$	12,866	$	12,404
Second Quarter 2017	12,896		0.068		13,043		17,492
Third Quarter 2017	13,013		0.069		13,022		13,007
	$	38,679	$	0.205	$	38,931	$	42,903

_____________________

⁽¹⁾ Assumes each share was issued and outstanding each day that was a record date for distributions during the period presented.

⁽²⁾ Other than special distributions, distributions generally are paid on a monthly basis, on or about the first business day of the following month.

For the nine months ended September 30, 2017, we paid aggregate distributions of $38.9 million, all of which were paid in cash. FFO and cash flow from operations for the nine months ended September 30, 2017 were $46.9 million and $42.9 million, respectively. We funded our total distributions paid with $38.4 million of current period cash flow from operations and $0.5 million of cash on hand. For purposes of determining the source of our distributions paid, we assume first that we use cash flow from operations from the relevant periods to fund distribution payments. See the reconciliation of FFO to net income above.

Over the long term, we expect that our distributions will generally be paid from cash flow from operations and FFO from current or prior periods (except with respect to distributions related to sales of our assets and distributions related to the repayment of principal under our mortgage loan investment).

During the nine months ended September 30, 2017, we sold one office property. During the year ended December 31, 2016, we sold one office/flex property. Our cash flow from operations has decreased and will continue to decrease as a result of our disposition activity, and we have adjusted our distribution policy with respect to the amount of monthly distribution payments to take into account our disposition activity and current real estate investments. We may continue to make strategic asset sales as opportunities become available in the market. Any future special distributions we make from the proceeds of future dispositions will reduce our estimated value per share and this reduction will be reflected in our updated estimated value per share, which we expect to update no later than December 2017.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)

Our operating performance and ability to pay distributions from our cash flow from operations and/or the disposition of our assets cannot be accurately predicted and may deteriorate in the future due to numerous factors, including those discussed under “Forward — Looking Statements,” “Market Outlook — Real Estate and Real Estate Finance Markets,” “Liquidity and Capital Resources” and “Results of Operations” herein and the risks discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC. Those factors include: the future operating performance of our investments in the existing real estate and financial environment; the success and economic viability of our tenants; the ability of our borrower to continue to make debt service payments and/or to repay its loan upon maturity; our ability to refinance existing indebtedness at comparable terms; changes in interest rates on our variable rate debt obligations; our ability to successfully dispose of some of our assets; and the sources and amounts of cash we have available for distributions.

Critical Accounting Policies

Our consolidated interim financial statements and condensed notes thereto have been prepared in accordance with GAAP and in conjunction with the rules and regulations of the SEC. The preparation of our financial statements requires significant management judgments, assumptions and estimates about matters that are inherently uncertain. These judgments affect the reported amounts of assets and liabilities and our disclosure of contingent assets and liabilities as of the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. With different estimates or assumptions, materially different amounts could be reported in our financial statements. Additionally, other companies may utilize different estimates that may impact the comparability of our results of operations to those of companies in similar businesses. A discussion of the accounting policies that management considers critical in that they involve significant management judgments, assumptions and estimates is included in our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC. There have been no significant changes to our policies during 2017.

Subsequent Events

We evaluate subsequent events up until the date the consolidated financial statements are issued.

Distributions Paid

On October 2, 2017, we paid distributions of $4.2 million, which related to distributions declared for September 2017 in the amount of $0.02256164 per share of common stock to stockholders of record as of the close of business on September 20, 2017. On November 1, 2017, we paid distributions of $4.4 million, which related to distributions declared for October 2017 in the amount of $0.02331370 per share of common stock to stockholders of record as of the close of business on October 20, 2017.

Distributions Declared

On November 14, 2017, our board of directors declared a November 2017 distribution in the amount of $0.02256164 per share of common stock to stockholders of record as of the close of business on November 20, 2017, which we expect to pay in December 2017, and a December 2017 distribution in the amount of $0.02331370 per share of common stock to stockholders of record as of the close of business on December 20, 2017, which we expect to pay in January 2018.

Table of Contents


PART I.	FINANCIAL INFORMATION (CONTINUED)


Item 3.	Quantitative and Qualitative Disclosures about Market Risk

We are exposed to the effects of interest rate changes as a result of borrowings used to maintain liquidity, to fund the financing and refinancing of our real estate and real estate-related investment portfolio, and to fund our operations. Our profitability and the value of our investment portfolio may be adversely affected during any period as a result of interest rate changes. Our interest rate risk management objectives are to limit the impact of interest rate changes on earnings, prepayment penalties and cash flows and to lower overall borrowing costs. We have managed and will continue to manage interest rate risk by maintaining a ratio of fixed rate, long-term debt such that variable rate exposure is kept at an acceptable level. In addition, we may utilize a variety of financial instruments, including interest rate caps, floors, and swap agreements, in order to limit the effects of changes in interest rates on our operations. When we use these types of derivatives to hedge the risk of interest-earning assets or interest-bearing liabilities, we may be subject to certain risks, including the risk that losses on a hedge position will reduce the funds available for payments of distributions to our stockholders and that the losses may exceed the amount we invested in the instruments.

We borrow funds and made real estate-related investments at a combination of fixed and variable rates. Interest rate fluctuations will generally not affect our future earnings or cash flows on our fixed rate debt or fixed rate real estate loan receivable unless such instruments mature or are otherwise terminated. However, interest rate changes will affect the fair value of our fixed rate instruments. As of September 30, 2017, the fair value and carrying value of our fixed rate real estate loan receivable were $13.9 million and $14.0 million, respectively. The fair value estimate of our real estate loan receivable is calculated using an internal valuation model that considers the expected cash flows for the loan, underlying collateral value (for collateral-dependent loans) and the estimated yield requirements of institutional investors for loans with similar characteristics, including remaining loan term, loan-to-value, type of collateral and other credit enhancements. As of September 30, 2017, the fair value of our fixed rate debt was $136.6 million and the outstanding principal balance of our fixed rate debt was $138.9 million. The fair value estimate of our fixed rate debt is calculated using a discounted cash flow analysis utilizing rates we would expect to pay for debt of a similar type and remaining maturity if the loans were originated as of September 30, 2017. With respect to our fixed rate instruments, we do not expect that fluctuations in interest rates, and the resulting change in fair value of our fixed rate instruments, would have a significant impact on our ongoing operations.

Conversely, movements in interest rates on our variable rate debt would change our future earnings and cash flows, but not significantly affect the fair value of those instruments. However, changes in required risk premiums would result in changes in the fair value of variable rate instruments. As of September 30, 2017, we were exposed to market risks related to fluctuations in interest rates on $382.8 million of variable rate debt outstanding. Based on interest rates as of September 30, 2017, if interest rates were 100 basis points higher or lower during the 12 months ending September 30, 2018, interest expense on our variable rate debt would increase or decrease by $3.8 million.

The annual effective interest rate of our fixed rate real estate loan receivable as of September 30, 2017 was 7.6%. The annual effective interest rate represents the effective interest rate as of September 30, 2017, using the interest method, which we use to recognize interest income on our real estate loan receivable. The interest rate and weighted-average interest rate of our fixed rate debt and variable rate debt as of September 30, 2017 were 3.5% and 3.1%, respectively. The interest rate and weighted-average interest rate represents the actual interest rate in effect as of September 30, 2017, using interest rate indices as of September 30, 2017, where applicable.


Item 4.	Controls and Procedures

Disclosure Controls and Procedures

As of the end of the period covered by this report, management, including our principal executive officer and principal financial officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures. Based upon, and as of the date of, the evaluation, our principal executive officer and principal financial officer concluded that the disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports we file and submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and our principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

Internal Control Over Financial Reporting

There have been no changes in our internal control over financial reporting that occurred during the quarter ended September 30, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Table of Contents


PART II.	OTHER INFORMATION


Item 1.	Legal Proceedings

None.


Item 1A.	Risk Factors

Please see the risks discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC.


Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds


a)	During the period covered by this Form 10-Q, we did not sell any equity securities that were not registered under the Securities Act of 1933.


b)	Not applicable.

•

During each calendar year, Special Redemptions are limited to an annual dollar amount determined by the board of directors, which may be reviewed during the year and increased or decreased upon ten business days’ notice to our stockholders. We may provide notice by including such information (a) in a Current Report on Form 8-K or in our annual or quarterly reports, all publicly filed with the Securities and Exchange Commission or (b) in a separate mailing to the stockholders. On December 9, 2016, the board of directors approved the dollar amount limitation for Special Redemptions for calendar year 2017 of $10.0 million in the aggregate (subject to review and adjustment during the year by the board of directors), and further subject to the limitations described in the share redemption program.


•	During any calendar year, we may redeem no more than 5% of the weighted-average number of shares outstanding during the prior calendar year.


•	We have no obligation to redeem shares if the redemption would violate the restrictions on distributions under Maryland General Corporation Law, as amended from time to time, which prohibits distributions that would cause a corporation to fail to meet statutory tests of solvency.

If we cannot repurchase all shares presented for redemption in any month because of the limitations on redemptions set forth in our share redemption program, then we will honor redemption requests on a pro rata basis, except that if a pro rata redemption would result in a stockholder owning less than the minimum purchase requirement described in our currently effective, or our most recently effective, registration statement as such registration statement has been amended or supplemented, then we would redeem all of such stockholder’s shares.

Upon a transfer of shares, any pending redemption requests with respect to such transferred shares will be canceled as of the date the transfer is accepted by us. Stockholders wishing to continue to have a redemption request related to any transferred shares considered by us must resubmit their redemption request.

Pursuant to the share redemption program, redemptions made in connection with Special Redemptions are made at a price per share equal to the most recent estimated value per share of our common stock as of the applicable redemption date. We do not currently expect to have funds available for ordinary redemptions in the future.

The only redemptions we made under our share redemption program during the nine months ended September 30, 2017 were those that qualified as, and met the requirements for, Special Redemptions under our share redemption program and we fulfilled all redemption requests that qualified as Special Redemptions under our share redemption program. We funded redemptions during the nine months ended September 30, 2017 with existing cash on hand.

We may amend, suspend or terminate our share redemption program upon 30 days’ notice to our stockholders, provided that we may increase or decrease the funding available for the redemption of shares under the program upon ten business days’ notice to our stockholders. We may provide this notice by including such information in a Current Report on Form 8-K or in our annual or quarterly reports, all publicly filed with the SEC, or by a separate mailing to our stockholders.

Table of Contents


PART II.	OTHER INFORMATION (CONTINUED)


Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds (continued)

During the nine months ended September 30, 2017, we redeemed shares pursuant to our share redemption program as follows:



Month	Total Number of Shares Redeemed ⁽¹⁾	Average Price Paid Per Share ⁽²⁾		Approximate Dollar Value of Shares Available That May Yet Be Redeemed Under the Program
January 2017	54,480	$	5.49	⁽³⁾
February 2017	79,674	$	5.49	⁽³⁾
March 2017	55,953	$	5.49	⁽³⁾
April 2017	88,642	$	5.49	⁽³⁾
May 2017	82,827	$	5.49	⁽³⁾
June 2017	152,829	$	5.49	⁽³⁾
July 2017	125,633	$	5.49	⁽³⁾
August 2017	99,892	$	5.49	⁽³⁾
September 2017	97,910	$	5.49	⁽³⁾
Total	837,840

_____________________

⁽¹⁾ We announced the adoption and commencement of the program on April 8, 2008. We announced amendments to the program on May 13, 2009 (which amendment became effective on June 12, 2009), on March 11, 2011 (which amendment became effective on April 10, 2011), on May 18, 2012 (which amendment became effective on June 17, 2012), on June 29, 2012 (which amendment became effective on July 29, 2012), on October 18, 2012 (which amendment became effective on November 17, 2012), on March 8, 2013 (which amendment became effective on April 7, 2013), on October 17, 2013 (which amendment became effective on November 16, 2013) and on May 19, 2014 (which amendment became effective on June 18, 2014).

⁽²⁾ In accordance with our share redemption program, the redemption price for Special Redemptions is equal to the most recent estimated value per share of our common stock as of the redemption date. On December 14, 2016, our board of directors approved an estimated value per share of our common stock of $5.49 (unaudited) based on the estimated value of our assets less the estimated value of our liabilities, divided by the number of shares outstanding, all as of September 30, 2016. The change in the redemption price became effective for the December 30, 2016 redemption date and will be effective until the estimated value per share is updated. We expect to utilize our advisor and/or an independent valuation firm to update the estimated value per share no later than December 2017. For a full description of the methodologies used to value our assets and liabilities in connection with the calculation of the estimated value per share, see our Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on March 13, 2017.

⁽³⁾ We limit the dollar value of shares that may be redeemed under the share redemption program as described above. For the nine months ended September 30, 2017, we redeemed $4.6 million of shares, which represented all redemption requests received in good order and eligible for redemption through the September 2017 redemption date. Based on the redemption limitations described above and redemptions through September 30, 2017, we may redeem up to $5.4 million of shares in connection with Special Redemptions for the remainder of 2017.


Item 3.	Defaults upon Senior Securities

None.


Item 4.	Mine Safety Disclosures

None.


Item 5.	Other Information

None.

Table of Contents

PART II. OTHER INFORMATION (CONTINUED)


Item 6.	Exhibits



Ex.		Description

3.1		Second Articles of Amendment and Restatement of the Company, incorporated by reference to Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q for the period ended March 31, 2008, filed May 28, 2008

3.2		Fourth Amended and Restated Bylaws of the Company, incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed September 22, 2016

4.1		Statement regarding restrictions on transferability of shares of common stock (to appear on stock certificate or to be sent upon request and without charge to stockholders issued shares without certificates), incorporated by reference to Exhibit 4.2 to Pre-Effective Amendment No. 1 to the Company’s Registration Statement on Form S-11, Commission File No. 333-146341, filed February 19, 2008

31.1		Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2		Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1		Certification of Chief Executive Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002

32.2		Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002

99.1		Eighth Amended and Restated Share Redemption Program, incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form 8-K filed May 19, 2014

101.INS		XBRL Instance Document

101.SCH		XBRL Taxonomy Extension Schema

101.CAL		XBRL Taxonomy Extension Calculation Linkbase

101.DEF		XBRL Taxonomy Extension Definition Linkbase

101.LAB		XBRL Taxonomy Extension Label Linkbase

101.PRE		XBRL Taxonomy Extension Presentation Linkbase

Table of Contents

SIGNATURES

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




		KBS REAL ESTATE INVESTMENT TRUST II, INC.

Date:	November 14, 2017	By:	/S/ CHARLES J. SCHREIBER, JR.
			Charles J. Schreiber, Jr.
			Chairman of the Board, Chief Executive Officer and Director
			(principal executive officer)

Date:	November 14, 2017	By:	/S/ JEFFREY K. WALDVOGEL
			Jeffrey K. Waldvogel
			Chief Financial Officer
			(principal financial officer)