PS BUSINESS PARKS, INC./MD - Quarter Report: 2008 March (Form 10-Q)

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

þ		Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended March 31, 2008

o		Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from ____________ to ____________

PS BUSINESS PARKS, INC.

(Exact name of registrant as specified in its charter)

California (State or Other Jurisdiction of Incorporation)		95-4300881 (I.R.S. Employer Identification Number)

701 Western Avenue, Glendale, California 91201-2397
(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (818) 244-8080

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 þ No o

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

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No þ

As of April 30, 2008, the number of shares of the registrant’s common stock, $0.01 par value per share, outstanding was 20,426,361.

 

 

PS BUSINESS PARKS, INC.
INDEX

				Page
PART I. FINANCIAL INFORMATION
		Item 1. Financial Statements
		Consolidated balance sheets as of March 31, 2008 (unaudited) and December 31, 2007		3
		Consolidated statements of income (unaudited) for the three months ended March 31, 2008 and 2007		4
		Consolidated statement of shareholders’ equity (unaudited) for the three months ended March 31, 2008		5
		Consolidated statements of cash flows (unaudited) for the three months ended March 31, 2008 and 2007		6
		Notes to consolidated financial statements		7
		Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
		Item 3. Quantitative and Qualitative Disclosures about Market Risk		34
		Item 4. Controls and Procedures		34
PART II. OTHER INFORMATION
		Item 1. Legal Proceedings		34
		Item 1A. Risk Factors		35
		Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		40
		Item 6. Exhibits		41
EXHIBIT 12
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1

PS BUSINESS PARKS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)

		March 31,				December 31,
		2008				2007
		(Unaudited)
ASSETS
Cash and cash equivalents		$	26,943			$	35,041
Real estate facilities, at cost:
Land			494,849				494,849
Buildings and equipment			1,493,105				1,484,049
			1,987,954				1,978,898
Accumulated depreciation			(565,304	)			(539,857	)
			1,422,650				1,439,041
Land held for development			7,869				7,869
			1,430,519				1,446,910
Rent receivable			3,763				2,240
Deferred rent receivable			21,833				21,927
Other assets			6,632				10,465
Total assets		$	1,489,690			$	1,516,583
LIABILITIES AND SHAREHOLDERS’ EQUITY
Accrued and other liabilities		$	49,209			$	51,058
Mortgage notes payable			60,381				60,725
Total liabilities			109,590				111,783
Minority interests:
Preferred units			94,750				94,750
Common units			149,918				154,470
Commitments and contingencies
Shareholders’ equity:
Preferred stock, $0.01 par value, 50,000,000 shares authorized, 28,650 shares issued and outstanding at March 31, 2008 and December 31, 2007			716,250				716,250
Common stock, $0.01 par value, 100,000,000 shares authorized, 20,426,361 and 20,777,219 shares issued and outstanding at March 31, 2008 and December 31, 2007, respectively			204				207
Paid-in capital			356,302				371,267
Cumulative net income			568,627				552,069
Cumulative distributions			(505,951	)			(484,213	)
Total shareholders’ equity			1,135,432				1,155,580
Total liabilities and shareholders’ equity		$	1,489,690			$	1,516,583

See accompanying notes.

PS BUSINESS PARKS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited, in thousands, except per share data)

		For the Three Months
		Ended March 31,
		2008				2007
Revenues:
Rental income		$	70,111			$	65,124
Facility management fees			195				183
Total operating revenues			70,306				65,307
Expenses:
Cost of operations			22,490				20,439
Depreciation and amortization			25,447				21,640
General and administrative			2,046				1,702
Total operating expenses			49,983				43,781
Other income and expenses:
Interest and other income			328				1,801
Interest expense			(993	)			(1,107	)
Total other income and expenses			(665	)			694
Income before minority interests			19,658				22,220
Minority interests:
Minority interest in income — preferred units			(1,752	)			(1,599	)
Minority interest in income — common units			(1,348	)			(2,030	)
Total minority interests			(3,100	)			(3,629	)
Net income			16,558				18,591
Net income allocable to preferred shareholders:
Preferred stock distributions			12,756				12,668
Net income allocable to common shareholders		$	3,802			$	5,923
Net income per common share:
Basic		$	0.19			$	0.28
Diluted		$	0.18			$	0.27
Weighted average common shares outstanding:
Basic			20,435				21,316
Diluted			20,629				21,690

See accompanying notes.

PS BUSINESS PARKS, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
FOR THE THREE MONTHS ENDED MARCH 31, 2008
(Unaudited, in thousands, except share data)

																														Total
		Preferred Stock								Common Stock								Paid-in				Cumulative				Cumulative				Shareholders’
		Shares				Amount				Shares				Amount				Capital				Net Income				Distributions				Equity
Balances at December 31, 2007			28,650			$	716,250				20,777,219			$	207			$	371,267			$	552,069			$	(484,213	)		$	1,155,580
Repurchase of common stock			—				—				(370,042	)			(3	)			(18,321	)			—				—				(18,324	)
Exercise of stock options			—				—				5,000				—				114				—				—				114
Stock compensation			—				—				14,184				—				554				—				—				554
Net income			—				—				—				—				—				16,558				—				16,558
Distributions:
Preferred stock			—				—				—				—				—				—				(12,756	)			(12,756	)
Common stock			—				—				—				—				—				—				(8,982	)			(8,982	)
Adjustment to minority interests underlying ownership			—				—				—				—				2,688				—				—				2,688
Balances at March 31, 2008			28,650			$	716,250				20,426,361			$	204			$	356,302			$	568,627			$	(505,951	)		$	1,135,432

See accompanying notes.

PS BUSINESS PARKS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)

		For the Three Months
		Ended March 31,
		2008				2007
Cash flows from operating activities:
Net income		$	16,558			$	18,591
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization expense			25,447				21,640
In-place lease adjustment			(48	)			27
Lease incentives net of tenant improvement reimbursements			(31	)			58
Amortization of mortgage premium			(63	)			(60	)
Minority interest in income			3,100				3,629
Stock compensation expense			554				638
Decrease in receivables and other assets			2,201				2,643
Increase in accrued and other liabilities			1,737				1,600
Total adjustments			32,897				30,175
Net cash provided by operating activities			49,455				48,766
Cash flows from investing activities:
Capital improvements to real estate facilities			(9,056	)			(7,422	)
Acquisition of real estate facilities			—				(113,812	)
Net cash used in investing activities			(9,056	)			(121,234	)
Cash flows from financing activities:
Principal payments on mortgage notes payable			(281	)			(322	)
Repayment of mortgage note payable			—				(4,950	)
Net proceeds from the issuance of preferred units			—				11,665
Net proceeds from the issuance of preferred stock			—				139,567
Exercise of stock options			114				125
Shelf registration costs			—				(88	)
Repurchase of common stock			(21,626	)			—
Redemption of preferred stock			—				(50,000	)
Distributions paid to preferred shareholders			(12,756	)			(12,668	)
Distributions paid to minority interests — preferred units			(1,752	)			(1,599	)
Distributions paid to common shareholders			(8,982	)			(6,183	)
Distributions paid to minority interests — common units			(3,214	)			(2,119	)
Net cash (used in) provided by financing activities			(48,497	)			73,428
Net (decrease) increase in cash and cash equivalents			(8,098	)			960
Cash and cash equivalents at the beginning of the period			35,041				67,017
Cash and cash equivalents at the end of the period		$	26,943			$	67,977
Supplemental schedule of non cash investing and financing activities:
Adjustment to minority interest to underlying ownership:
Minority interest — common units		$	(2,688	)		$	(1,183	)
Paid-in capital		$	2,688			$	1,183

See accompanying notes.

PS BUSINESS PARKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2008

1.

Organization and description of business

PS Business Parks, Inc. (“PSB”) was incorporated in the state of California in 1990. As of March 31, 2008, PSB owned approximately 73.7% of the common partnership units of PS Business Parks, L.P. (the “Operating Partnership” or “OP”). The remaining common partnership units were owned by Public Storage (“PS”). PSB, as the sole general partner of the Operating Partnership, has full, exclusive and complete responsibility and discretion in managing and controlling the Operating Partnership. PSB and the Operating Partnership are collectively referred to as the “Company.”

The Company is a fully-integrated, self-advised and self-managed real estate investment trust (“REIT”) that acquires, develops, owns and operates commercial properties, primarily multi-tenant flex, office and industrial space. As of March 31, 2008, the Company owned and operated approximately 19.6 million rentable square feet of commercial space located in eight states. The Company also manages approximately 1.4 million rentable square feet on behalf of PS and its affiliated entities.

Any reference to the number of properties or square footage 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 Public Company Accounting Oversight Board (United States).

2.

Summary of significant accounting policies

     Basis of presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2008 are not necessarily indicative of the results that may be expected for the year ended December 31, 2008. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007.

The accompanying consolidated financial statements include the accounts of PSB and the Operating Partnership. All significant inter-company balances and transactions have been eliminated in the consolidated financial statements.

     Use of estimates

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

     Allowance for doubtful accounts

The Company monitors the collectibility of its receivable balances including the deferred rent receivable on an ongoing basis. Based on these reviews, the Company maintains an allowance for doubtful accounts for estimated losses resulting from the possible inability of tenants to make required rent payments to us. A provision for doubtful accounts is recorded during each period. The allowance for doubtful accounts, which represents the cumulative allowances less write-offs of uncollectible rent, is netted against tenant and other receivables on the

consolidated balance sheets. Tenant receivables are net of an allowance for uncollectible accounts totaling $300,000 at March 31, 2008 and December 31, 2007.

     Financial instruments

The methods and assumptions used to estimate the fair value of financial instruments are described below. The Company has estimated the fair value of financial instruments using available market information and appropriate valuation methodologies. Considerable judgment is required in interpreting market data to develop estimates of market value. Accordingly, estimated fair values are not necessarily indicative of the amounts that could be realized in current market exchanges.

The Company considers all highly liquid investments with a remaining maturity of three months or less at the date of purchase to be cash equivalents. Due to the short period to maturity of the Company’s cash and cash equivalents, accounts receivable, other assets and accrued and other liabilities, the carrying values as presented on the consolidated balance sheets are reasonable estimates of fair value. Based on borrowing rates currently available to the Company, the carrying amount of debt approximates fair value.

Financial assets that are exposed to credit risk consist primarily of cash and cash equivalents and receivables. Cash and cash equivalents, which consist primarily of short-term investments, including commercial paper, are only invested in entities with an investment grade rating. Receivables are comprised of balances due from a large number of customers. Balances that the Company expects to become uncollectible are reserved for or written off.

     Real estate facilities

Real estate facilities are recorded at cost. Costs related to the renovation or improvement of the properties are capitalized. Expenditures for repairs and maintenance are expensed as incurred. Expenditures that are expected to benefit a period greater than two years and exceed $2,000 are capitalized and depreciated over the estimated useful life. Buildings and equipment are depreciated on the straight-line method over the estimated useful lives, which are generally 30 and five years, respectively. Leasing costs in excess of $1,000 for leases with terms greater than two years are capitalized and depreciated over their estimated useful lives. Leasing costs for leases of less than two years or less than $1,000 are expensed as incurred. Interest cost and property taxes incurred during the period of construction of real estate facilities are capitalized.

     Intangible assets/liabilities

Intangible assets and liabilities include above-market and below-market in-place lease values of acquired properties based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market and below-market lease values (included in other assets and accrued liabilities in the accompanying consolidated balance sheets) are amortized, net, to rental income over the remaining non-cancelable terms of the respective leases. The Company recorded net amortization of $48,000 and $27,000 of intangible assets and liabilities resulting from the above and below market lease values during the three months ended March 31, 2008 and 2007, respectively. As of March 31, 2008, the value of in-place leases resulted in a net intangible asset of $359,000, net of $833,000 of accumulated amortization, and a net intangible liability of $909,000, net of $448,000 of accumulated amortization. As of December 31, 2007 the value of in-place leases resulted in a net intangible asset of $419,000, net of $773,000 of accumulated amortization, and a net intangible liability of $1.0 million, net of $340,000 of accumulated amortization.

     Evaluation for asset impairments

The Company evaluates its assets used in operations by identifying indicators of impairment and by comparing the sum of the estimated undiscounted future cash flows for each asset to the asset’s carrying value. When indicators of impairment are present and the sum of the undiscounted future cash flows is less than the carrying value of such asset, an impairment loss is recorded equal to the difference between the asset’s current carrying value and its value based on discounting its estimated future cash flows. In addition, the Company evaluates its assets held for disposition for impairment. Assets held for disposition are reported at the lower of their carrying value or fair value, less cost of disposition. At March 31, 2008, the Company did not consider any assets to be impaired.

     Stock-based compensation

Stock-based compensation is accounted for in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 123(R) “Share-Based Payment,” which requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. See Note 11.

     Revenue and expense recognition

Revenue is recognized in accordance with Staff Accounting Bulletin No. 104 of the Securities and Exchange Commission, Revenue Recognition in Financial Statements (“SAB 104”). SAB 104 requires that four basic criteria must be met before revenue can be recognized: persuasive evidence of an arrangement exists; the delivery has occurred or services rendered; the fee is fixed or determinable; and collectibility is reasonably assured. All leases are classified as operating leases. Rental income is recognized on a straight-line basis over the terms of the leases. Straight-line rent is recognized for all tenants with contractual increases in rent that are not included on the Company’s credit watch list. Deferred rent receivables represent rental revenue recognized on a straight-line basis in excess of billed rents. Reimbursements from tenants for real estate taxes and other recoverable operating expenses are recognized as revenues in the period the applicable costs are incurred. Property management fees are recognized in the period earned.

Costs incurred in connection with leasing (primarily tenant improvements and lease commissions) are capitalized and amortized over the lease period.

     Gains from sales of real estate

The Company recognizes gains from the sale of real estate at the time of the sale using the full accrual method, provided that various criteria related to the terms of the transactions and any subsequent involvement by the Company with the properties sold are met. If the criteria are not met, the Company defers the gains and recognizes them when the criteria are met or using the installment or cost recovery methods as appropriate under the circumstances.

     General and administrative expense

General and administrative expense includes executive and other compensation, office expense, professional fees, state income taxes, cost of acquisition personnel and other such administrative items.

     Income taxes

The Company qualified and intends to continue to qualify as a REIT, as defined in Section 856 of the Internal Revenue Code. As a REIT, the Company is not subject to federal income tax to the extent that it distributes its taxable income to its shareholders. A REIT must distribute at least 90% of its taxable income each year. In addition, REITs are subject to a number of organizational and operating requirements. If the Company fails to

qualify as a REIT in any taxable year, the Company will be subject to federal income tax (including any applicable alternative minimum tax) based on its taxable income using corporate income tax rates. Even if the Company qualifies for taxation as a REIT, the Company may be subject to certain state and local taxes on its income and property and to federal income and excise taxes on its undistributed taxable income. The Company believes it met all organizational and operating requirements to maintain its REIT status during 2007 and intends to continue to meet such requirements for 2008. Accordingly, no provision for income taxes has been made in the accompanying consolidated financial statements.

In July 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 is an interpretation of FASB Statement No. 109, “Accounting for Income Taxes,” and it seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. In addition, FIN 48 provides guidance on derecognition, classification, interest and penalties, and accounting in interim periods and requires expanded disclosure with respect to the uncertainty in income taxes. The Company adopted FIN 48 as of January 1, 2007 and did not record any adjustment as a result of such adoption.

     Accounting for preferred equity issuance costs

In accordance with Emerging Issues Task Force (“EITF”) Topic D-42, the Company records its issuance costs as a reduction to paid-in capital on its balance sheet at the time the preferred securities are issued and reflects the carrying value of the preferred stock at the stated value. The Company records issuance costs as non-cash preferred equity distributions at the time it notifies the holders of preferred stock or units of its intent to redeem such shares or units.

     Net income per common share

Per share amounts are computed using the number of weighted average common shares outstanding. “Diluted” weighted average common shares outstanding includes the dilutive effect of stock options and restricted stock units under the treasury stock method. “Basic” weighted average common shares outstanding excludes such effect. Earnings per share has been calculated as follows (in thousands, except per share amounts):

		For the Three Months
		Ended March 31,
		2008				2007
Net income allocable to common shareholders		$	3,802			$	5,923
Weighted average common shares outstanding:
Basic weighted average common shares outstanding			20,435				21,316
Net effect of dilutive stock compensation — based on treasury stock method using average market price			194				374
Diluted weighted average common shares outstanding			20,629				21,690
Net income per common share — Basic		$	0.19			$	0.28
Net income per common share — Diluted		$	0.18			$	0.27

Options to purchase approximately 62,000 shares for the three months ended March 31, 2008 were not included in the computation of diluted net income per share because such options were considered anti-dilutive. No options to purchase shares were considered anti-dilutive for the three months ended March 31, 2007.

     Segment reporting

The Company views its operations as one segment.

		Reclassifications
		Certain reclassifications have been made to the consolidated financial statements for 2007 in order to conform to the 2008 presentation.
3.		Real estate facilities
		The activity in real estate facilities for the three months ended March 31, 2008 is as follows (in thousands):

						Buildings and				Accumulated
		Land				Equipment				Depreciation				Total
Balances at December 31, 2007		$	494,849			$	1,484,049			$	(539,857	)		$	1,439,041
Capital improvements, net			—				9,056				—				9,056
Depreciation expense			—				—				(25,447	)			(25,447	)
Balances at March 31, 2008		$	494,849			$	1,493,105			$	(565,304	)		$	1,422,650

		In accordance with SFAS No. 141, “Business Combinations,” the purchase price of acquired properties is allocated to land, buildings and equipment and identified tangible and intangible assets and liabilities associated with in-place leases (including tenant improvements, unamortized lease commissions, value of above-market and below-market leases, acquired in-place lease values, and tenant relationships, if any) based on their respective estimated fair values.
		In determining the fair value of the tangible assets of the acquired properties, management considers the value of the properties as if vacant as of the acquisition date. Management must make significant assumptions in determining the value of assets and liabilities acquired. Using different assumptions in the allocation of the purchase cost of the acquired properties would affect the timing of recognition of the related revenue and expenses. Amounts allocated to land are derived from comparable sales of land within the same region. Amounts allocated to buildings and improvements, tenant improvements and unamortized lease commissions are based on current market replacement costs and other market information. The amount allocated to acquired in-place leases is determined based on management’s assessment of current market conditions and the estimated lease-up periods for the respective spaces.
		The following table summarizes the assets and liabilities acquired during the three months ended March 31, 2007 (in thousands):

Land		$	44,979
Buildings			71,264
In-place leases			(1,075	)
Total purchase price			115,168
Net operating assets and liabilities acquired			(1,356	)
Total cash paid		$	113,812

No assets or liabilities were acquired during the three months ended March 31, 2008.

4.		Leasing activity
		The Company leases space in its real estate facilities to tenants primarily under non-cancelable leases generally ranging from one to 10 years. Future minimum rental revenues excluding recovery of operating expenses as of March 31, 2008 under these leases are as follows (in thousands):

2008		$	161,839
2009			178,655
2010			132,657
2011			92,169
2012			62,444
Thereafter			90,994
Total		$	718,758

		In addition to minimum rental payments, certain tenants reimburse the Company for their pro-rata share of specified operating expenses. Such reimbursements amounted to $13.0 million and $10.0 million for the three months ended March 31, 2008 and 2007, respectively. These amounts are included as rental income in the accompanying consolidated statements of income.
		Leases accounting for approximately 5.0% of the leased square footage are subject to termination options which include leases for approximately 2.9% of the total leased square footage having termination options exercisable through December 31, 2008. In general, these leases provide for termination payments should the termination options be exercised. The above table is prepared assuming such options are not exercised.
5.		Bank loans
		The Company has a line of credit (the “Credit Facility”) with Wells Fargo Bank. The Credit Facility has a borrowing limit of $100.0 million and matures on August 1, 2008. Interest on outstanding borrowings is payable monthly. At the option of the Company, the rate of interest charged is equal to (i) the prime rate or (ii) a rate ranging from the London Interbank Offered Rate (“LIBOR”) plus 0.50% to LIBOR plus 1.20% depending on the Company’s credit ratings and coverage ratios, as defined (currently LIBOR plus 0.65%). In addition, the Company is required to pay an annual commitment fee ranging from 0.15% to 0.30% of the borrowing limit (currently 0.20%). In connection with the modification of the Credit Facility, the Company paid a fee of $450,000, which is being amortized over the life of the Credit Facility. The Company had no balance outstanding as of March 31, 2008 or December 31, 2007. The Credit Facility requires the Company to meet certain covenants, and the Company was in compliance with all such covenants at March 31, 2008.

6.		Mortgage notes payable
		Mortgage notes consist of the following (in thousands):

		March 31,				December 31,
		2008				2007
7.29% mortgage note, secured by one commercial property with a net book value of $6.3 million, principal and interest payable monthly, due February, 2009		$	5,280			$	5,323
5.73% mortgage note, secured by one commercial property with a net book value of $30.1 million, principal and interest payable monthly, due March, 2013			14,450				14,510
6.15% mortgage note, secured by one commercial property with a net book value of $30.5 million, principal and interest payable monthly, due November, 2031 (1)			17,239				17,348
5.52% mortgage note, secured by one commercial property with a net book value of $15.0 million, principal and interest payable monthly, due May, 2013			10,220				10,274
5.68% mortgage note, secured by one commercial property with a net book value of $17.8 million, principal and interest payable monthly, due May, 2013			10,228				10,281
5.61% mortgage note, secured by one commercial property with a net book value of $3.4 million, principal and interest payable monthly, due January, 2011 (2)			2,964				2,989
Total		$	60,381			$	60,725

2008		$	1,051
2009			6,442
2010			1,376
2011			19,428
2012			856
Thereafter			31,228
Total		$	60,381

7.		Minority interests
		Common partnership units
		The Company presents the accounts of PSB and the Operating Partnership on a consolidated basis. Ownership interests in the Operating Partnership that can be redeemed for common stock, other than PSB’s interest, are classified as minority interest — common units in the consolidated financial statements. Minority interest in income consists of the minority interests’ share of the consolidated operating results after allocation to preferred

		units and shares. Beginning one year from the date of admission as a limited partner (common units) and subject to certain limitations described below, each limited partner other than PSB has the right to require the redemption of its partnership interest.
		A limited partner (common units) that exercises its redemption right will receive cash from the Operating Partnership in an amount equal to the market value (as defined in the Operating Partnership Agreement) of the partnership interests redeemed. In lieu of the Operating Partnership redeeming the partner for cash, PSB, as general partner, has the right to elect to acquire the partnership interest directly from a limited partner exercising its redemption right, in exchange for cash in the amount specified above or by issuance of one share of PSB common stock for each unit of limited partnership interest redeemed.
		A limited partner (common units) cannot exercise its redemption right if delivery of shares of PSB common stock would be prohibited under the applicable articles of incorporation, if the general partner believes that there is a risk that delivery of shares of common stock would cause the general partner to no longer qualify as a REIT, would cause a violation of the applicable securities laws, or would result in the Operating Partnership no longer being treated as a partnership for federal income tax purposes.
		At March 31, 2008, there were 7,305,355 common units owned by PS, which are accounted for as minority interests. On a fully converted basis, assuming all 7,305,355 minority interest common units were converted into shares of common stock of PSB at March 31, 2008, the minority interest units would convert into approximately 26.3% of the common shares outstanding. Combined with PS’s common stock ownership, on a fully converted basis, PS has a combined ownership of approximately 45.9% of the Company’s common equity. At the end of each reporting period, the Company determines the amount of equity (book value of net assets) which is allocable to the minority interest based upon the ownership interest, and an adjustment is made to the minority interest, with a corresponding adjustment to paid-in capital, to reflect the minority interests’ equity in the Company.
		Preferred partnership units
		Through the Operating Partnership, the Company has the following preferred units outstanding as of March 31, 2008 and December 31, 2007 (in thousands):

								March 31, 2008								December 31, 2007
				Earliest Potential		Dividend		Units								Units
Series		Issuance Date		Redemption Date		Rate		Outstanding				Amount				Outstanding				Amount
Series G		October, 2002		October, 2007		7.950%			800			$	20,000				800			$	20,000
Series J		May & June, 2004		May, 2009		7.500%			1,710				42,750				1,710				42,750
Series N		December, 2005		December, 2010		7.125%			800				20,000				800				20,000
Series Q		March, 2007		March, 2012		6.550%			480				12,000				480				12,000
Total									3,790			$	94,750				3,790			$	94,750

		During the first quarter of 2007, the Company completed a private placement of $12.0 million of preferred units through its Operating Partnership. The 6.550% Series Q Cumulative Redeemable Preferred Units are non-callable for five years and have no mandatory redemption.
		The Operating Partnership has the right to redeem preferred units on or after the fifth anniversary of the applicable issuance date at the original capital contribution plus the cumulative priority return, as defined, to the redemption date to the extent not previously distributed. The preferred units are exchangeable for Cumulative Redeemable Preferred Stock of the respective series of PSB on or after the tenth anniversary of the date of issuance at the option of the Operating Partnership or a majority of the holders of the respective preferred units. The Cumulative Redeemable Preferred Stock will have the same distribution rate and par value as the corresponding preferred units and will otherwise have equivalent terms to the other series of preferred stock described in Note 9. As of March 31, 2008, the Company had $2.7 million of deferred costs in connection with the issuance of preferred units, which the Company will report as additional distributions upon notice of redemption.

8.		Related party transactions
		Pursuant to a cost sharing and administrative services agreement, the Company shares costs with PS and affiliated entities for certain administrative services, which are allocated among PS and its affiliates in accordance with a methodology intended to fairly allocate those costs. These costs totaled $97,000 and $80,000 for the three months ended March 31, 2008 and 2007, respectively.
		The Operating Partnership manages industrial, office and retail facilities for PS and its affiliated entities. These facilities, all located in the United States, operate under the “Public Storage” or “PS Business Parks” names.
		Under the property management contracts, the Operating Partnership is compensated based on a percentage of the gross revenues of the facilities managed. Under the supervision of the property owners, the Operating Partnership coordinates rental policies, rent collections, marketing activities, the purchase of equipment and supplies, maintenance activities, and the selection and engagement of vendors, suppliers and independent contractors. In addition, the Operating Partnership assists and advises the property owners in establishing policies for the hire, discharge and supervision of employees for the operation of these facilities, including property managers and leasing, billing and maintenance personnel.
		The property management contract with PS is for a seven-year term with the agreement automatically extending for an additional one-year period upon each one-year anniversary of its commencement (unless cancelled by either party). Either party can give notice of its intent to cancel the agreement upon expiration of its current term. Management fee revenues under these contracts were $195,000 and $183,000 for the three months ended March 31, 2008 and 2007, respectively.
		In December, 2006, PS began providing property management services for the mini storage component of two assets owned by the Company. These mini storage facilities, located in Palm Beach County, Florida, operate under the “Public Storage” name.
		Under the property management contracts, PS is compensated based on a percentage of the gross revenues of the facilities managed. Under the supervision of the Company, PS coordinates rental policies, rent collections, marketing activities, the purchase of equipment and supplies, maintenance activities, and the selection and engagement of vendors, suppliers and independent contractors. In addition, PS assists and advises the Company in establishing policies for the hire, discharge and supervision of employees for the operation of these facilities, including on-site managers, assistant managers and associate managers.
		Both the Company and PS can cancel the property management contract upon 60 days notice. Management fee expense under the contract was approximately $11,000 and $12,000 for the three months ended March 31, 2008 and 2007, respectively.
		The Company had amounts due from PS of $434,000 and $717,000 at March 31, 2008 and December 31, 2007, respectively, for these contracts, as well as for certain operating expenses paid by the Company on behalf of PS.

9.		Shareholders’ equity
		Preferred stock
		As of March 31, 2008 and December 31, 2007, the Company had the following preferred stock outstanding (in thousands, except share data):

								March 31, 2008								December 31, 2007
				Earliest Potential		Dividend		Shares								Shares
Series		Issuance Date		Redemption Date		Rate		Outstanding				Amount				Outstanding				Amount
Series H		January & October, 2004		January, 2009		7.000%			8,200			$	205,000				8,200			$	205,000
Series I		April, 2004		April, 2009		6.875%			3,000				75,000				3,000				75,000
Series K		June, 2004		June, 2009		7.950%			2,300				57,500				2,300				57,500
Series L		August, 2004		August, 2009		7.600%			2,300				57,500				2,300				57,500
Series M		May, 2005		May, 2010		7.200%			3,300				82,500				3,300				82,500
Series O		June & August, 2006		June, 2011		7.375%			3,800				95,000				3,800				95,000
Series P		January, 2007		January, 2012		6.700%			5,750				143,750				5,750				143,750
Total									28,650			$	716,250				28,650			$	716,250

		On January 17, 2007, the Company issued 5.8 million depositary shares, each representing 1/1,000 of a share of the 6.700% Cumulative Preferred Stock, Series P, at $25.00 per depositary share for gross proceeds of $143.8 million.
		The Company recorded $12.8 million and $12.7 million in distributions to its preferred shareholders for the three months ended March 31, 2008 and 2007, respectively.
		Holders of the Company’s preferred stock will not be entitled to vote on most matters, except under certain conditions. In the event of a cumulative arrearage equal to six quarterly dividends, the holders of the preferred stock will have the right to elect two additional members to serve on the Company’s Board of Directors until all events of default have been cured.
		Except under certain conditions relating to the Company’s qualification as a REIT, the preferred stock is not redeemable prior to the previously noted redemption dates. On or after the respective redemption dates, the respective series of preferred stock will be redeemable, at the option of the Company, in whole or in part, at $25 per depositary share, plus any accrued and unpaid dividends. As of March 31, 2008, the Company had $23.7 million of deferred costs in connection with the issuance of preferred stock, which the Company will report as additional non-cash distributions upon notice of its intent to redeem such shares.
		Common stock
		The Company’s Board of Directors previously authorized the repurchase, from time to time, of up to 6.5 million shares of the Company’s common stock on the open market or in privately negotiated transactions. During the three months ended March 31, 2008, the Company repurchased 370,042 shares of common stock at an aggregate cost of $18.3 million or an average cost per share of $49.52. Since inception of the program, the Company has repurchased an aggregate of 4.3 million shares of common stock at an aggregate cost of $152.8 million or an average cost per share of $35.84. Under existing board authorizations, the Company can repurchase an additional 2.2 million shares.
		The Company paid $9.0 million ($0.44 per common share) and $6.2 million ($0.29 per common share) in distributions to its common shareholders for the three months ended March 31, 2008 and 2007, respectively. Pursuant to restrictions imposed by the Credit Facility, distributions may not exceed 95% of funds from operations, as defined therein.

		Equity Stock
		In addition to common and preferred stock, the Company is authorized to issue 100.0 million shares of Equity Stock. The Articles of Incorporation provide that the Equity Stock may be issued from time to time in one or more series and give the Board of Directors broad authority to fix the dividend and distribution rights, conversion and voting rights, redemption provisions and liquidation rights of each series of Equity Stock.
10.		Commitments and contingencies
		The Company currently is neither subject to any material litigation nor, to management’s knowledge, is any material litigation currently threatened against the Company other than routine litigation and administrative proceedings arising in the ordinary course of business.
11.		Stock-based compensation
		PSB has a 1997 Stock Option and Incentive Plan (the “1997 Plan”) and a 2003 Stock Option and Incentive Plan (the “2003 Plan”), each covering 1.5 million shares of PSB’s common stock. Under the 1997 Plan and 2003 Plan, PSB has granted non-qualified options to certain directors, officers and key employees to purchase shares of PSB’s common stock at a price no less than the fair market value of the common stock at the date of grant. Additionally, under the 1997 Plan and 2003 Plan, PSB has granted restricted stock units to officers and key employees.
		No options were granted during the three months ended March 31, 2008 and 2007.
		The weighted average grant date fair value of restricted stock units granted during the three months ended March 31, 2008 and 2007 were $52.35 and $71.25, respectively. The Company calculated the fair value of each restricted stock unit grant using the market value on the date of grant.
		At March 31, 2008, there were a combined total of 1.2 million options and restricted stock units authorized to grant. Information with respect to outstanding options and nonvested restricted stock units granted under the 1997 Plan and 2003 Plan is as follows:

										Weighted				Aggregate
						Weighted				Average				Intrinsic
		Number of				Average				Remaining				Value
Options:		Options				Exercise Price				Contract Life				(in thousands)
Outstanding at December 31, 2007			572,587			$	37.86
Granted			—				—
Exercised			(5,000	)		$	22.88
Forfeited			—				—
Outstanding at March 31, 2008			567,587			$	37.99			5.21 Years				$	8,599
Exercisable at March 31, 2008			425,987			$	33.64			4.43 Years				$	7,810
						Weighted
		Number of				Average Grant
Restricted Stock Units:		Units				Date Fair Value
Nonvested at December 31, 2007			228,227			$	53.91
Granted			38,650			$	52.35
Vested			(22,069	)		$	51.39
Forfeited			(900	)		$	46.23
Nonvested at March 31, 2008			243,908			$	54.17

		Included in the Company’s consolidated statements of income for the three months ended March 31, 2008 and 2007, was $106,000 and $70,000, respectively, in net stock option compensation expense related to stock options. Net compensation expense of $880,000 and $542,000 related to restricted stock units was recognized during the three months ended March 31, 2008 and 2007, respectively.
		As of March 31, 2008, there was $984,000 of unamortized compensation expense related to stock options expected to be recognized over a weighted average period of 2.9 years. As of March 31, 2008, there was $8.6 million of unamortized compensation expense related to restricted stock units expected to be recognized over a weighted average period of 3.5 years.
		Cash received from 5,000 stock options exercised during the three months ended March 31, 2008 was $114,000. Cash received from 4,000 stock options exercised during the three months ended March 31, 2007 was $125,000. The aggregate intrinsic value of the stock options exercised during the three months ended March 31, 2008 and 2007 was $105,000 and $181,000, respectively.
		During the three months ended March 31, 2008, 22,069 restricted stock units vested; in settlement of these units, 14,184 shares were issued, net of shares applied to payroll taxes. The aggregate fair value of the shares vested for the three months ended March 31, 2008 was $1.1 million. During the three months ended March 31, 2007, 16,773 restricted stock units vested; in settlement of these units, 10,664 shares were issued, net of shares applied to payroll taxes. The aggregate fair value of the shares vested for the three months ended March 31, 2007 was $1.2 million.
		In May of 2004, the shareholders of the Company approved the issuance of up to 70,000 shares of common stock under the Retirement Plan for Non-Employee Directors (the “Director Plan”). Under the Director Plan, the Company grants 1,000 shares of common stock for each year served as a director up to a maximum of 5,000 shares issued upon retirement. The Company recognizes compensation expense with regards to grants to be issued in the future under the Director Plan. As a result, included in the Company’s consolidated statements of income was $25,000 in compensation expense for the three months ended March 31, 2008 and 2007. As of March 31, 2008 and 2007, there was $286,000 and $388,000, respectively, of unamortized compensation expense related to these shares.
12.		Recent accounting pronouncements
		Effective January 1, 2008, the Company adopted, on a prospective basis, SFAS No. 157, “Fair Value Measurements” (“SFAS 157”) as amended by FASB Staff Position SFAS 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” (“FSP FAS 157-1”) and FASB Staff Position SFAS 157-2, “Effective Date of FASB Statement No. 157” (“FSP FAS 157-2”). SFAS 157 defines fair value, establishes a framework for measuring fair value in GAAP and provides for expanded disclosure about fair value measurements. SFAS 157 applies prospectively to all other accounting pronouncements that require or permit fair value measurements. FSP FAS 157-1 amends SFAS 157 to exclude from the scope of SFAS 157 certain leasing transactions accounted for under SFAS No. 13, “Accounting for Leases.” FSP FAS 157-2 amends SFAS 157 to defer the effective date of SFAS 157 for all non-financial assets and non-financial liabilities except those that are recognized or disclosed at fair value in the financial statements on a recurring basis to fiscal years beginning after November 15, 2008.
		The adoption of SFAS 157 did not have a material impact on the Company’s consolidated financial statements. Management is evaluating the impact that SFAS 157 will have on its non-financial assets and non-financial liabilities since the application of SFAS 157 for such items was deferred to January 1, 2009. The Company believes that the impact of these items will not be material to its consolidated financial statements.

Effective January 1, 2008, the Company adopted, on a prospective basis, SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The objective of the guidance is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The adoption of SFAS 159 did not have a material impact on the Company’s consolidated financial statements since the Company did not elect to apply the fair value option for any of its eligible financial instruments or other items on the January 1, 2008 effective date.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements: Forward-looking statements are made throughout this Quarterly Report on Form 10-Q. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “may,” “believes,” “anticipates,” “plans,” expects,” “seeks,” “estimates,” “intends,” and similar expressions are intended to identify forward-looking statements. There are a number of important factors that could cause the results of the Company to differ materially from those indicated by such forward-looking statements, including those detailed under the heading “Item 1A. Risk Factors” in Part II of this quarterly report on Form 10-Q. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. Moreover, we assume no obligation to update these forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting such forward-looking statements.

Overview

The Company owns and operates approximately 19.6 million rentable square feet of flex, industrial and office properties located in eight states.

The Company focuses on increasing profitability and cash flow aimed at maximizing shareholder value. The Company strives to maintain high occupancy levels while increasing rental rates when market conditions allow. The Company also acquires properties which it believes will create long-term value, and disposes of properties which no longer fit within the Company’s strategic objectives or in situations where the Company believes it can optimize cash proceeds. Operating results are driven by income from rental operations and are therefore substantially influenced by rental demand for space within our properties.

During the first three months of 2008, the Company successfully leased or re-leased 1.5 million square feet of space while experiencing relatively flat rental rates and a 21.8% increase in transaction costs compared to the first three months of 2007. Fluctuations in transaction costs will vary from quarter to quarter depending on the nature of leases and the timing of the related expenditures. Total net operating income for the three months ended March 31, 2008 increased $2.9 million or 6.6% compared to the three months ended March 31, 2007. See further discussion of operating results below.

Critical Accounting Policies and Estimates:

Our accounting policies are described in Note 2 to the consolidated financial statements included in this Form 10-Q. We believe our most critical accounting policies relate to revenue recognition, allowance for doubtful accounts, impairment of long-lived assets, depreciation, accruals of operating expenses and accruals for contingencies, each of which we discuss below.

Revenue Recognition: We recognize revenue in accordance with Staff Accounting Bulletin No. 104 of the Securities and Exchange Commission, Revenue Recognition in Financial Statements (“SAB 104”), as amended. SAB 104 requires that the following four basic criteria must be met before revenue can be recognized: persuasive evidence of an arrangement exists; the delivery has occurred or services rendered; the fee is fixed or determinable; and collectibility is reasonably assured. All leases are classified as operating leases. Rental income is recognized on a straight-line basis over the terms of the leases. Straight-line rent is recognized for all tenants with contractual increases in rent that are not included on the Company’s credit watch list. Deferred rent receivables represent rental revenue recognized on a straight-line basis in excess of billed rents. Reimbursements from tenants for real estate taxes and other recoverable operating expenses are recognized as rental income in the period the applicable costs are incurred.

Property Acquisitions: In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations,” we allocate the purchase price of acquired properties to land, buildings and equipment and identified tangible and intangible assets and liabilities associated with in-place leases (including tenant improvements, unamortized lease commissions, value of above-market and below-market leases, acquired in-place lease values, and tenant relationships, if any) based on their respective estimated fair values.

In determining the fair value of the tangible assets of the acquired properties, management considers the value of the properties as if vacant as of the acquisition date. Management must make significant assumptions in determining the value of assets and liabilities acquired. Using different assumptions in the allocation of the purchase cost of the acquired properties would affect the timing of recognition of the related revenue and expenses. Amounts allocated to land are derived from comparable sales of land within the same region. Amounts allocated to buildings and improvements, tenant improvements and unamortized lease commissions are based on current market replacement costs and other market rate information.

The value allocable to the above or below market in-place lease values of acquired properties is determined based upon the present value (using a discount rate which reflects the risks associated with the acquired leases) of the difference between (i) the contractual rents to be paid pursuant to the in-place leases, and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The amounts allocated to above or below market leases are included in other assets or other liabilities in the accompanying consolidated balance sheets and are amortized on a straight-line basis as an increase or reduction of rental income over the remaining non-cancelable term of the respective leases.

Allowance for Doubtful Accounts: Rental revenue from our tenants is our principal source of revenue. We monitor the collectibility of our receivable balances including the deferred rent receivable on an ongoing basis. Based on these reviews, we maintain an allowance for doubtful accounts for estimated losses resulting from the possible inability of our tenants to make required rent payments to us. Tenant receivables and deferred rent receivables are carried net of the allowances for uncollectible tenant receivables and deferred rent. As discussed below, determination of the adequacy of these allowances requires significant judgments and estimates. Our estimate of the required allowance is subject to revision as the factors discussed below change and is sensitive to the effect of economic and market conditions on our tenants.

Tenant receivables consist primarily of amounts due for contractual lease payments, reimbursements of common area maintenance expenses, property taxes and other expenses recoverable from tenants. Determination of the adequacy of the allowance for uncollectible current tenant receivables is performed using a methodology that incorporates specific identification, aging analysis, an overall evaluation of the historical loss trends and the current economic and business environment. The specific identification methodology relies on factors such as the age and nature of the receivables, the payment history and financial condition of the tenant, the assessment of the tenant’s ability to meet its lease obligations, and the status of negotiations of any disputes with the tenant. The allowance also includes a reserve based on historical loss trends not associated with any specific tenant. This reserve as well as the specific identification reserve is reevaluated quarterly based on economic conditions and the current business environment.

Deferred rent receivable represents the amount that the cumulative straight-line rental income recorded to date exceeds cash rents billed to date under the lease agreement. Given the longer-term nature of these types of receivables, determination of the adequacy of the allowance for unbilled deferred rent receivable is based primarily on historical loss experience. Management evaluates the allowance for unbilled deferred rent receivable using a specific identification methodology for significant tenants designed to assess their financial condition and ability to meet their lease obligations.

Impairment of Long-Lived Assets: The Company evaluates a property for potential impairment whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. On a quarterly basis, the Company evaluates the whole portfolio for impairment based on current operating information. In the event that

these periodic assessments reflect that the carrying amount of a property exceeds the sum of the undiscounted cash flows (excluding interest) that are expected to result from the use and eventual disposition of the property, the Company would recognize an impairment loss to the extent the carrying amount exceeded the estimated fair value of the property. The estimation of expected future net cash flows is inherently uncertain and relies on subjective assumptions dependent upon future and current market conditions and events that affect the ultimate value of the property. It requires management to make assumptions related to the property such as future rental rates, tenant allowances, operating expenditures, property taxes, capital improvements, occupancy levels and the estimated proceeds generated from the future sale of the property. These assumptions could differ materially from actual results in future periods. Since SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” provides that the future cash flows used in this analysis be considered on an undiscounted basis, our intent to hold properties over the long term directly decreases the likelihood of recording an impairment loss. If our strategy changes or if market conditions otherwise dictate an earlier sale date, an impairment loss could be recognized and such loss could be material.

Depreciation: We compute depreciation on our buildings and equipment using the straight-line method based on estimated useful lives of generally 30 and five years, respectively. A significant portion of the acquisition cost of each property is allocated to building and building components. The allocation of the acquisition cost to building and building components, as well as the determination of their useful lives are based on estimates. If we do not appropriately allocate to these components or we incorrectly estimate the useful lives of these components, our computation of depreciation expense may not appropriately reflect the actual impact of these costs over future periods, which will affect net income. In addition, the net book value of real estate assets could be overstated or understated. The statement of cash flows, however, would not be affected.

Accruals of Operating Expenses: The Company accrues for property tax expenses, performance bonuses and other operating expenses each quarter based on historical trends and anticipated disbursements. If these estimates are incorrect, the timing and amount of expense recognized will be affected.

Accruals for Contingencies: The Company is exposed to business and legal liability risks with respect to events that may have occurred, but in accordance with U.S. generally accepted accounting principles (“GAAP”) has not accrued for such potential liabilities because the loss is either not probable or not estimable. Future events and the result of pending litigation could result in such potential losses becoming probable and estimable, which could have a material adverse impact on our financial condition or results of operations.

Effect of Economic Conditions on the Company’s Operations:

During the first three months of 2008, economic conditions in the United States were reflected in commercial real estate as the Company experienced relatively flat rental rates and an increase in transaction costs. The conditions in the sub-prime lending industry and housing market in late 2007 and early 2008 have caused a weakening in the credit market and overall economy. It is uncertain what impact a recession or similar economic conditions may have on the Company’s ability to maintain high occupancy levels and increase rents. While the Company has not experienced a significant impact from the slowed economy, conditions may change and the Company may be impacted by lower occupancy and a reduced ability to raise rents.

While the Company historically has experienced a low level of write-offs due to bankruptcy, there is inherent uncertainty in a tenant’s ability to continue paying rent when in bankruptcy. As of March 31, 2008, the Company had approximately 13,000 square feet occupied by tenants that are protected by Chapter 11 of the U.S. Bankruptcy Code. Given the historical uncertainty of these tenants’ ability to meet their lease obligations, we will continue to reserve any income that would have been realized on a straight-line basis. The Company has a 134,000 square foot tenant that has been in and out of default on their lease. The Company is monitoring the tenant closely and has reserved all related receivables. Several other tenants have contacted us, requesting early termination of their lease, reduction in space under lease, rent deferment or abatement. At this time, the Company cannot anticipate what impact, if any, the ultimate outcome of these discussions will have on our operating results.

Company Performance and Effect of Economic Conditions on Primary Markets:

The Company’s operations are substantially concentrated in 10 regions. Current market conditions for each region are summarized below. During the three months ended March 31, 2008, rental rates on new and renewed leases within the Company’s overall portfolio increased 0.3%. Excluding a 43,000 square foot lease executed during the quarter on a space previously occupied by a government tenant, the increase would have been 3.5%. These changes are based on comparisons to the most recent in-place rents prior to renewal or replacement. The Company has compiled the market occupancy information set forth below using third party reports for each respective market. The Company considers these sources to be reliable, but there can be no assurance that the information in these reports is accurate.

The Company owns approximately 4.0 million square feet in Southern California. Historically, this has been one of the most stable regions in our portfolio as it has experienced consistently low levels of vacancy. Market vacancies have increased due to the number of sub-prime lenders and mortgage brokers who have vacated space, creating significantly more competition for tenants. The effect of these vacancies is far less on flex space, which comprises 63.7% of the Company’s Southern California portfolio. Market vacancy rates, depending on submarkets, have increased throughout Southern California, primarily in the office market, and range from 1.6% to 15.9%. The Company’s vacancy rate in this region at March 31, 2008 was 5.0%. During the first quarter of 2008, the overall market experienced negative net absorption of 0.3%. The Company’s weighted average occupancy for the region increased from 94.0% for the first three months in 2007 to 95.3% for the first three months in 2008. Annualized realized rent per square foot increased 1.2% from $16.89 per square foot for the first three months in 2007 to $17.09 per square foot for the first three months in 2008. Although these markets continue to experience increasing rental rates, the Company has seen some signs of easing rental rate growth and increasing concessions due to high vacancies in the office market. Additionally, construction of Class A buildings, primarily in Orange County, could have an impact on the Company’s ability to maintain occupancy and generate measurable rental rate growth within the office portfolio.

The Company owns approximately 1.8 million square feet in Northern California with a concentration in Sacramento, the East Bay (Hayward and San Ramon) and Silicon Valley (San Jose). The vacancy rates in these submarkets are 15.8%, 19.1% and 14.9%, respectively. The Company’s vacancy rate in its Northern California portfolio at March 31, 2008 was 8.9%. Demand in this market has slowed for users over 20,000 square feet but has stabilized for users less than 10,000 square feet. During the first quarter of 2008, the combined submarkets experienced positive net absorption of 0.6%. The Company’s weighted average occupancy in this region outperformed the market despite a decrease from 92.4% for the first three months in 2007 to 91.6% for the first three months in 2008. Positively affected by the growth and stability of the technology industry, annualized realized rent per square foot increased 2.3% from $13.90 per square foot for the first three months in 2007 to $14.22 per square foot for the first three months in 2008.

The Company owns approximately 1.2 million square feet in Southern Texas, which includes the Austin and Houston markets. The market vacancy rates are 10.3% in the Austin market and 11.7% in the Houston market. The Company’s vacancy rate for the combined markets at March 31, 2008 was 4.4%. The job growth in both the Austin and Houston markets and the strong oil and gas industry in the Houston market increased leasing activity in the Company’s Southern Texas portfolio, which is evidenced in the occupancy and rental rate improvement within the portfolio. During the first quarter of 2008, the combined markets experienced positive net absorption of 0.3%. The Company’s weighted average occupancy in this region increased from 92.0% for the first three months in 2007 to 95.5% for the first three months in 2008. Annualized realized rent per square foot increased 5.7% from $10.49 per square foot for the first three months in 2007 to $11.09 per square foot for the first three months in 2008.

The Company owns approximately 1.7 million square feet in Northern Texas, which includes the Dallas Metroplex market. The market vacancy rate in Las Colinas, where most of the Company’s properties are located, is 10.0%. The Company’s vacancy rate at March 31, 2008 in this region was 6.7%. During the first quarter of 2008, the market experienced positive net absorption of 0.8% as the result of continued job growth in Northern Texas. During 2008, modest new construction continued, which included both speculative construction, as well as owner-user

construction. Despite the new construction, the Company has experienced a modest level of leasing activity during the first three months of 2008 with stable rental rates and higher occupancy levels. The Company’s weighted average occupancy for the region increased from 82.9% for the first three months in 2007 to 93.1% for the first three months in 2008. Annualized realized rent per square foot increased 2.0% from $10.38 per square foot for the first three months in 2007 to $10.59 per square foot for the first three months in 2008 as rental rates have increased modestly over expiring leases.

The Company owns approximately 3.6 million square feet in South Florida. The Company owns Miami International Commerce Center (“MICC”) located in the Airport West submarket of Miami-Dade County. While the saturation of the condominium and housing markets in Miami has negatively impacted its overall economy, the effect of this saturation has had little impact on international trade-based assets, such as industrial and flex space, which comprises 88.6% of the Company’s South Florida portfolio. MICC is also located less than one mile from the cargo entrance of the Miami International Airport, which is one of the most active ports in the United States. Leasing activity has remained strong, resulting in better than market occupancy. The Company acquired two assets in Palm Beach County at the end of 2006, comprising 398,000 square feet. The downturn in the housing market and the overall economy have adversely affected Palm Beach County. The market vacancy rates for Miami-Dade County and Palm Beach County are 7.2% and 9.0%, respectively, compared with the Company’s South Florida region vacancy rate of 3.4% at March 31, 2008. During the first quarter of 2008, the combined markets experienced positive net absorption of 7.6%. The Company’s weighted average occupancy in this region outperformed the market despite a decrease from 97.9% for the first three months in 2007 to 96.7% for the first three months in 2008. Annualized realized rent per square foot increased 4.9% from $8.80 per square foot for the first three months in 2007 to $9.23 for the first three months in 2008.

The Company owns approximately 3.0 million square feet in the Northern Virginia submarket of Washington D.C., where the average market vacancy rate is 11.1%. The Company’s vacancy rate in this market at March 31, 2008 was 2.8%. Most submarkets in the greater Washington D.C. market continue to demonstrate stable fundamentals. A major contributor to the market strength is tied to government contracting and defense spending. During the first quarter of 2008, the market experienced positive net absorption of 0.5%. However, during 2007 and continuing into 2008, construction of Class A buildings has had a modest impact on the Company’s portfolio. The amount of sublease space increased throughout the year which could limit the Company’s ability to generate measurable rental rate growth and place pressure on vacancy. Annualized realized rent per square foot increased 3.5% from $19.28 per square foot for the first three months in 2007 to $19.96 per square foot for the first three months in 2008. The Company’s weighted average occupancy increased from 93.1% for the first three months in 2007 to 96.8% for the first three months in 2008.

The Company owns approximately 1.8 million square feet in the Maryland submarket of Washington D.C. The Company’s portfolio is primarily located in Montgomery County and Silver Spring. The business of the federal government, healthcare and life sciences continue to be primary drivers within the Company’s portfolio. The Company’s vacancy rate in the region at March 31, 2008 was 8.8% compared to 10.8% for the market as a whole. During the first quarter of 2008, the market experienced negative net absorption of 0.4%. The Company’s weighted average occupancy decreased from 94.8% for the first three months in 2007 to 90.7% for the first three months in 2008, modestly outperforming the market. The decrease in occupancy was primarily related to a 67,000 square foot tenant vacating their space at the end of 2007. Annualized realized rent per square foot increased 3.2% from $22.71 per square foot for the first three months in 2007 to $23.44 per square foot for the first three months in 2008.

The Company owns approximately 1.3 million square feet in the Beaverton submarket of Portland, Oregon. The market vacancy rate in this region is 15.4%. The Company’s vacancy rate in this market was 13.0% at March 31, 2008. The recent economic trends and slowdown have limited the Company’s rental rate increases and increased vacancy and rent concessions in this market. Portland continues to experience modest levels of tenant retention and flat rental rates. During the first quarter of 2008, the market experienced negative net absorption of 0.1%. The Company’s weighted average occupancy decreased from 92.6% for the first three months in 2007 to 86.9% for the first three months in 2008 as a result of the slowing economy combined with the loss of three tenants during 2007

due to bankruptcy. Annualized realized rent per square foot increased 2.0% from $15.98 per square foot for the first three months in 2007 to $16.30 per square foot for the first three months in 2008.

The Company owns approximately 679,000 square feet in the Phoenix and Tempe submarkets of Arizona. Market vacancies increased significantly due to the number of housing-related tenants who have vacated space, creating significantly more competition for tenants. The market vacancy rate is 9.3% compared to the Company’s vacancy rate of 12.0% at March 31, 2008 with neutral market absorption for the quarter. During 2007 and continuing into 2008, significant construction of buildings has impacted the Company’s portfolio and could increase lease concessions and limit the Company’s ability to generate measurable rental rate growth. Although average market rental rates have declined over the past several years as demand for space subsided, annualized realized rent per square foot increased 10.3% from $10.66 per square foot for the first three months in 2007 to $11.76 for the first three months in 2008. The Company’s weighted average occupancy in the region decreased from 91.4% for the first three months in 2007 to 87.4% for the first three months in 2008.

The Company owns approximately 521,000 square feet in the state of Washington. On February 16, 2007, the Company acquired Overlake Business Center, a 493,000 square foot multi-tenant office and flex business park located in Redmond, Washington. The commercial airline and technology industries continue to drive the market. As a result of these strong industries, the market experienced positive net absorption of 1.0% during the quarter. The Company’s vacancy rate in this region at March 31, 2008 was 6.0% compared to 8.9% for the market as a whole. The Company’s weighted average occupancy increased from 90.0% for the first three months in 2007 to 93.3% for the first three months in 2008. Annualized realized rent per square foot increased 13.0% from $16.75 per square foot for the first three months in 2007 to $18.93 for the first three months in 2008.

Growth of the Company’s Operations and Acquisitions and Dispositions of Properties:

The Company is focused on maximizing cash flow from its existing portfolio of properties by expanding its presence in existing and new markets through strategic acquisitions and through the disposition of non-strategic assets. The Company has historically maintained a low-leverage-level approach intended to provide the Company with the flexibility for future growth.

In 2007, the Company acquired 870,000 square feet for an aggregate cost of $140.6 million. The Company acquired Overlake Business Center, a 493,000 square foot multi-tenant office and flex business park located in Redmond, Washington, for $76.0 million; Commerce Campus, a 252,000 square foot multi-tenant office and flex business park located in Santa Clara, California, for $39.2 million; and Fair Oaks Corporate Center, a 125,000 square foot multi-tenant office park located in Fairfax, Virginia, for $25.4 million.

Scheduled Lease Expirations:

In addition to the 1.2 million square feet, or 6.0%, of currently available space in our total portfolio, leases representing approximately 15.3% of the leased square footage of our total portfolio are scheduled to expire during the remainder of 2008. Leases comprising approximately 306,000 square feet of currently vacant space have been executed as of the date of this report and are expected to commence during the second and third quarters of 2008. Our ability to re-lease available space depends upon the market conditions in the specific submarkets in which our properties are located.

Impact of Inflation:

Although inflation has not been significant in recent years, it remains a factor in our economy, and the Company continues to seek ways to mitigate its potential impact. A substantial portion of the Company’s leases require tenants to pay operating expenses, including real estate taxes, utilities, and insurance, as well as increases in common area expenses, partially reducing the Company’s exposure to inflation. During 2007 and 2008, the Company experienced

modest increases in certain operating costs, including repairs and maintenance, property insurance and utility costs affecting the Company’s overall profit margin.

Concentration of Portfolio by Region:

Rental income, cost of operations and rental income less cost of operations, excluding depreciation and amortization or net operating income prior to depreciation and amortization (defined as “NOI” for purposes of the following table) are summarized for the three months ended March 31, 2008 by major geographic region below. The Company uses NOI and its components as a measurement of the performance of its commercial real estate. Management believes that these financial measures provide them as well as the investor the most consistent measurement on a comparative basis of the performance of the commercial real estate and its contribution to the value of the Company. Depreciation and amortization has been excluded from these financial measures as they are generally not used in determining the value of commercial real estate by management or the investment community. Depreciation and amortization is generally not used in determining value as they consider the historical costs of an asset compared to its current value; therefore, to understand the effect of the assets’ historical cost on the Company’s results, investors should look at GAAP financial measures, such as total operating costs including depreciation and amortization. The Company’s calculation of NOI may not be comparable to those of other companies and should not be used as an alternative to measures of performance calculated in accordance with GAAP. The table below reflects rental income, operating expenses and NOI for the three months ended March 31, 2008 based on geographical concentration. The total of all regions is equal to the amount of rental income and cost of operations recorded by the Company in accordance with GAAP. As part of the table below, we have shown the effect of depreciation and amortization on NOI. We have reconciled NOI to consolidated income before minority interests in the table under “Results of Operations” below. The percent of totals by region reflects the actual contribution to rental income, cost of operations and NOI during the period (in thousands):

Three Months Ended March 31, 2008:

		Weighted
		Square				Percent				Rental				Percent				Cost of				Percent								Percent
Region		Footage				of Total				Income				of Total				Operations				of Total				NOI				of Total
Southern California			3,988				20.4	%		$	16,240				23.2	%		$	4,247				18.9	%		$	11,993				25.2	%
Northern California			1,819				9.3	%			5,917				8.4	%			1,701				7.6	%			4,216				8.8	%
Southern Texas			1,161				5.9	%			3,074				4.4	%			1,340				5.9	%			1,734				3.6	%
Northern Texas			1,689				8.6	%			4,165				5.9	%			1,438				6.4	%			2,727				5.7	%
South Florida			3,598				18.4	%			8,026				11.5	%			2,748				12.2	%			5,278				11.1	%
Virginia			3,019				15.4	%			14,577				20.8	%			4,641				20.6	%			9,936				20.9	%
Maryland			1,770				9.1	%			9,413				13.4	%			3,074				13.7	%			6,339				13.3	%
Oregon			1,313				6.7	%			4,652				6.6	%			1,816				8.1	%			2,836				6.0	%
Arizona			679				3.5	%			1,745				2.5	%			779				3.5	%			966				2.0	%
Washington			521				2.7	%			2,302				3.3	%			706				3.1	%			1,596				3.4	%
Total before depreciation and amortization			19,557				100.0	%			70,111				100.0	%			22,490				100.0	%			47,621				100.0	%
Depreciation and amortization											—								25,447								(25,447	)
Total										$	70,111							$	47,937							$	22,174

Concentration of Credit Risk by Industry:

The information below depicts the industry concentration of our tenant base as of March 31, 2008. The Company analyzes this concentration to understand significant industry exposure risk.

		% of Total
Industry		Annual Rents
Business Services			12.8	%
Government			10.8	%
Financial Services			9.9	%
Contractors			9.6	%
Computer Hardware, Software and Related Service			9.6	%
Warehouse, Transportation and Logistics			8.6	%
Health Services			7.3	%
Retail			5.9	%
Communications			5.6	%
Home Furnishings			3.9	%
Electronics			2.9	%
Total			86.9	%

The information below depicts the Company’s top 10 customers by annual rents as of March 31, 2008 (in thousands):

										% of Total
						Annualized				Annualized
Tenants		Square Footage				Rental Income(1)				Rental Income
U.S. Government			495			$	12,203				4.3	%
Kaiser Permanente			186				4,426				1.6	%
Wells Fargo			102				1,702				0.6	%
County of Santa Clara			97				1,660				0.6	%
AARP			102				1,610				0.6	%
Northrop Grumman			58				1,587				0.6	%
Intel			214				1,485				0.5	%
American Intercontinental University			75				1,330				0.5	%
Raytheon			78				1,270				0.5	%
MCI			72				1,268				0.4	%
Total			1,479			$	28,541				10.2	%

Comparative Analysis of the Three Months Ended March 31, 2008 to the Three Months Ended March 31, 2007

Results of Operations: In order to evaluate the performance of the Company’s overall portfolio over two comparable periods, management analyzes the operating performance of a consistent group of properties owned and operated throughout both periods (herein referred to as “Same Park”). Operating properties that the Company acquired subsequent to January 1, 2007 are referred to as “Non-Same Park.” For the three months ended March 31, 2008 and 2007, the Same Park facilities constitutes 18.7 million rentable square feet, which includes all assets the Company owned and operated from January 1, 2007 through March 31, 2008, representing approximately 95.6% of the total square footage of the Company’s portfolio as of March 31, 2008.

Rental income, cost of operations and rental income less cost of operations, excluding depreciation and amortization or net operating income prior to depreciation and amortization (defined as “NOI” for purposes of the following table) are summarized for the three months ended March 31, 2008 and 2007. The Company’s property operations account for substantially all of the net operating income earned by the Company. See “Concentration of Portfolio by Region” above for more information on NOI, including why the Company presents NOI and how the Company uses

NOI. The Company’s calculation of NOI may not be comparable to those of other companies and should not be used as an alternative to measures of performance calculated in accordance with GAAP.

The following table presents the operating results of the Company’s properties for the three months ended March 31, 2008 and 2007 in addition to other income and expense items affecting income from operations. The Company breaks out Same Park operations to provide information regarding trends for properties the Company has held for the periods being compared (in thousands, except per square foot data):

		For the Three Months Ended
		March 31,
		2008				2007				Change
Rental income:
Same Park (18.7 million rentable square feet) (1)		$	66,396			$	64,147				3.5	%
Non-Same Park (870,000 rentable square feet) (2)			3,715				977				280.2	%
Total rental income			70,111				65,124				7.7	%
Cost of operations:
Same Park			21,243				20,172				5.3	%
Non-Same Park			1,247				267				367.0	%
Total cost of operations			22,490				20,439				10.0	%
Net operating income (3):
Same Park			45,153				43,975				2.7	%
Non-Same Park			2,468				710				247.6	%
Total net operating income			47,621				44,685				6.6	%
Other income and expenses:
Facility management fees			195				183				6.6	%
Interest and other income			328				1,801				(81.8	%)
Interest expense			(993	)			(1,107	)			(10.3	%)
Depreciation and amortization			(25,447	)			(21,640	)			17.6	%
General and administrative			(2,046	)			(1,702	)			20.2	%
Income from operations before minority interests		$	19,658			$	22,220				(11.5	%)
Same Park gross margin (4)			68.0	%			68.6	%			(0.9	%)
Same Park weighted average for the period:
Occupancy			94.3	%			93.2	%			1.2	%
Realized rent per square foot (5)		$	15.07			$	14.73				2.3	%

The following table summarizes the Same Park operating results by major geographic region for the three months ended March 31, 2008 and 2007. In addition, the table reflects the comparative impact on the overall rental income, cost of operations and NOI from properties that have been acquired since January 1, 2007, and the impact of such is included in Non-Same Park facilities in the table below (in thousands):

Three Months Ended March 31, 2008 and 2007:

		Rental				Rental								Cost of				Cost of
		Income				Income								Operations				Operations								NOI				NOI
		March 31,				March 31,				Increase				March 31,				March 31,				Increase				March 31,				March 31,				Increase
Region		2008				2007				(Decrease)				2008				2007				(Decrease)				2008				2007				(Decrease)
Southern California		$	16,240			$	15,810				2.7	%		$	4,247			$	4,180				1.6	%		$	11,993			$	11,630				3.1	%
Northern California			5,200				5,037				3.2	%			1,416				1,300				8.9	%			3,784				3,737				1.3	%
Southern Texas			3,074				2,802				9.7	%			1,340				1,340				—				1,734				1,462				18.6	%
Northern Texas			4,165				3,637				14.5	%			1,438				1,534				(6.3	%)			2,727				2,103				29.7	%
South Florida			8,026				7,747				3.6	%			2,748				2,471				11.2	%			5,278				5,276				0.0	%
Virginia			13,795				12,991				6.2	%			4,358				4,065				7.2	%			9,437				8,926				5.7	%
Maryland			9,413				9,531				(1.2	%)			3,074				2,988				2.9	%			6,339				6,543				(3.1	%)
Oregon			4,652				4,860				(4.3	%)			1,816				1,581				14.9	%			2,836				3,279				(13.5	%)
Arizona			1,745				1,655				5.4	%			779				689				13.1	%			966				966				—
Washington			86				77				11.7	%			27				24				12.5	%			59				53				11.3	%
Total Same Park			66,396				64,147				3.5	%			21,243				20,172				5.3	%			45,153				43,975				2.7	%
Non-Same Park			3,715				977				280.2	%			1,247				267				367.0	%			2,468				710				247.6	%
Total before depreciation and amortization			70,111				65,124				7.7	%			22,490				20,439				10.0	%			47,621				44,685				6.6	%
Depreciation and amortization			—				—				—				25,447				21,640				17.6	%			(25,447	)			(21,640	)			17.6	%
Total based on GAAP		$	70,111			$	65,124				7.7	%		$	47,937			$	42,079				13.9	%		$	22,174			$	23,045				(3.8	%)

Revenues: Revenues increased $5.0 million for the three months ended March 31, 2008, over the same period in 2007 driven primarily by $2.7 million from assets acquired during 2007 and $2.2 million as a result of improved occupancy within the Company’s Same Park portfolio.

Facility Management Operations: The Company’s facility management operations account for a small portion of the Company’s net income. During the three months ended March 31, 2008, $195,000 in revenue was recognized from facility management operations compared to $183,000 for the same period in 2007.

Cost of Operations: Cost of operations for the three months ended March 31, 2008 was $22.5 million compared to $20.4 million for the same period in 2007, an increase of 10.0%. The Company’s Same Park facilities accounted for 5.3% of the increase with the remainder related to acquisition activity. Cost of operations as a percentage of rental income increased slightly from 32.1% for the three months ended March 31, 2008 compared to 31.4% for the three months ended March 31, 2007. The increase as a percentage of rental income is primarily due to an increase in property taxes of $577,000 as a result of tax rate increases and assessed values, repairs and maintenance costs of $546,000 and payroll costs of $291,000.

Depreciation and Amortization Expense: Depreciation and amortization expense for the three months ended March 31, 2008 was $25.4 million compared to $21.6 million for the same period in 2007. This increase is primarily due to the acquisition of 870,000 square feet during 2007, as well as depreciation expense on capital and tenant improvements acquired during 2007 and the first quarter of 2008.

General and Administrative Expense: General and administrative expense consisted of the following expenses (in thousands):

		For the Three Months Ended
		March 31,								Increase
		2008				2007				(Decrease)
Compensation expense		$	911			$	834				9.2	%
Stock compensation expense			688				363				89.5	%
Professional fees			186				168				10.7	%
Investor services			88				126				(30.2	%)
Other expenses			173				211				(18.0	%)
Total		$	2,046			$	1,702				20.2	%

For the three months ended March 31, 2008, general and administrative costs have increased $344,000 or 20.2% over the same period in 2007. The increase was primarily the result of higher stock compensation expense related to the long-term incentive plan for senior management.

Interest and Other Income: Interest and other income reflect earnings on cash balances in addition to miscellaneous income items. Interest income was $306,000 for the three months ended March 31, 2008 compared to $1.8 million for the same period in 2007. The decrease is attributable to lower cash balances and lower effective interest rates. Average cash balances and effective interest rates for the three months ended March 31, 2008 were $39.9 million and 3.1%, respectively, compared to $138.4 million and 5.1%, respectively, for the same period in 2007.

Interest Expense: Interest expense was $993,000 for the three months ended March 31, 2008 compared to $1.1 million for the same period in 2007. The decrease is primarily attributable to the repayment of mortgage note of $5.0 million during the three months ended March 31, 2007.

Minority Interest in Income: Minority interest in income reflects the income allocable to equity interests in the Operating Partnership that are not owned by the Company. Minority interest in income was $3.1 million ($1.8 million allocated to preferred unit holders and $1.3 million allocated to common unit holders) for the three months ended March 31, 2008 compared to $3.6 million ($1.6 million allocated to preferred unit holders and $2.0 million allocated to common unit holders) for the same period in 2007. The reduction was primarily due to the decrease in income allocated to common unit holders partially offset by an increase in cash distributions to preferred unit holders.

Liquidity and Capital Resources

Cash and cash equivalents decreased $8.1 million from $35.0 million at December 31, 2007 to $26.9 million at March 31, 2008. The decrease was primarily the result of the repurchase of common stock partially offset by retained cash from operations.

Net cash provided by operating activities for the three months ended March 31, 2008 and 2007 was $49.5 million and $48.8 million, respectively. Management believes that the Company’s internally generated net cash provided by operating activities will be sufficient to enable it to meet its operating expenses, capital improvements, debt service requirements and distributions to shareholders in addition to providing additional cash for future growth and debt repayment.

Net cash used in investing activities was $9.1 million and $121.2 million for the three months ended March 31, 2008 and 2007, respectively. The change of $112.2 million was primarily due to property acquisitions in Washington and California for a combined total of $113.8 million during the three months ended March 31, 2007 offset with an increase in capital improvements of $1.6 million.

Net cash used in financing activities for the three months ended March 31, 2008 was $48.5 million compared to net cash provided by financing activities for the three months ended March 31, 2007 of $73.4 million. The change of $121.9 million was primarily due to a decrease of $151.2 million in net proceeds from the issuance of preferred equity, an increase of cash paid for common stock repurchases of $21.6 million and an increase in preferred and common equity distributions of $4.1 million offset with a decrease of $50.0 million in preferred equity redemptions.

The Company’s preferred equity outstanding increased to 35.1% of its market capitalization during the three months ended March 31, 2008. The Company’s capital structure is characterized by a low level of leverage. As of March 31, 2008, the Company had six fixed-rate mortgages totaling $60.4 million, which represented 2.6% of its total market capitalization. The Company calculates market capitalization by adding (1) the liquidation preference of the Company’s outstanding preferred equity, (2) principal value of the Company’s outstanding mortgages and (3) the total number of common shares and common units outstanding at March 31, 2008 multiplied by the closing price of the stock on that date. The weighted average interest rate for the mortgages is approximately 5.9% per annum. The Company had approximately 7.2% of its properties, in terms of net book value, encumbered at March 31, 2008.

The Company focuses on retaining cash for reinvestment as we believe that this provides the greatest level of financial flexibility. During the three months ended March 31, 2008 and 2007, the Company generated approximately $10.8 million and $14.5 million, respectively, of retained cash. The Company defines retained cash as funds from operations less recurring capital expenditures, distributions and other non-cash adjustments. The amount of cash we retain depends in part on the amount of distributions we make to our stockholders, and, because the U.S. federal income tax rules applicable to real estate investment trusts (“REIT”) require us to distribute 90% of our taxable income to our stockholders, the amount of our distributions depends in part on the amount of our taxable income. Taxable income is a function of many factors which include, among others, the Company’s operating income, acquisition activity and preferred distributions. The Company takes these requirements into account when formulating strategies to increase the amount of its retained cash. As the Company continues to grow as a function of improving operating fundamentals and acquisitions, combined with the refinancing of high rate preferred equity, taxable income has and will likely continue to increase, requiring increased distributions to the Company’s common shareholders. During the second quarter of 2007, the Company increased its quarterly dividend from $0.29 per common share to $0.44 per common share. With retained cash of $10.8 million for the three months ended March 31, 2008, the Company believes it has sufficient cash flow to cover the increased dividend. Going forward, the Company will continue to monitor its taxable income and the corresponding dividend requirements.

In August of 2005, the Company modified the terms of its line of credit (the “Credit Facility”) with Wells Fargo Bank. The Credit Facility has a borrowing limit of $100.0 million and matures on August 1, 2008. Interest on outstanding borrowings is payable monthly. At the option of the Company, the rate of interest charged is equal to (i) the prime rate or (ii) a rate ranging from the London Interbank Offered Rate (“LIBOR”) plus 0.50% to LIBOR plus 1.20% depending on the Company’s credit ratings and coverage ratios, as defined (currently LIBOR plus 0.65%). In addition, the Company is required to pay an annual commitment fee ranging from 0.15% to 0.30% of the borrowing limit (currently 0.20%). In connection with the modification of the Credit Facility, the Company paid a fee of $450,000, which is being amortized over the life of the Credit Facility. The Company had no balance outstanding as of March 31, 2008 or December 31, 2007.

Non-GAAP Supplemental Disclosure Measure: Funds from Operations: Management believes that Funds from Operations (“FFO”) is a useful supplemental measure of the Company’s operating performance. The Company computes FFO in accordance with the White Paper on FFO approved by the Board of Governors of the National Association of Real Estate Investment Trusts (“NAREIT”). The White Paper defines FFO as net income, computed in accordance with GAAP, before depreciation, amortization, minority interest in income, gains or losses on asset dispositions and extraordinary items. Management believes that FFO provides a useful measure of the Company’s operating performance and when compared year over year, reflects the impact to operations from trends in occupancy rates, rental rates, operating costs, development activities, general and administrative expenses and interest costs, providing a perspective not immediately apparent from net income.

FFO should be analyzed in conjunction with net income. However, FFO should not be viewed as a substitute for net income as a measure of operating performance or liquidity as it does not reflect depreciation and amortization costs or the level of capital expenditure and leasing costs necessary to maintain the operating performance of the Company’s properties, which are significant economic costs and could materially impact the Company’s results from operations.

Management believes FFO provides useful information to the investment community about the Company’s operating performance when compared to the performance of other real estate companies, as FFO is generally recognized as the industry standard for reporting operations of REITs. Other REITs may use different methods for calculating FFO and, accordingly, our FFO may not be comparable to other real estate companies.

FFO for the Company is computed as follows (in thousands):

		For the Three Months Ended
		March 31,
		2008				2007
Net income allocable to common shareholders		$	3,802			$	5,923
Depreciation and amortization			25,447				21,640
Minority interest in income — common units			1,348				2,030
Consolidated FFO allocable to common shareholders and minority interests			30,597				29,593
FFO allocated to minority interests — common units			(8,016	)			(7,546	)
FFO allocated to common shareholders		$	22,581			$	22,047

FFO allocated to common shareholders and minority interests for the three months ended March 31, 2008 increased 3.4% from the same period in 2007. The increase in FFO for the three months ended March 31, 2008 over the same period of 2007 was primarily due to an increase in net operating income partially offset by a decrease in interest income.

Capital Expenditures: During the three months ended March 31, 2008, the Company expended $8.7 million in recurring capital expenditures or $0.44 per weighted average square foot owned. The Company defines recurring capital expenditures as those necessary to maintain and operate its commercial real estate at its current economic value. During the three months ended March 31, 2007, the Company expended $7.3 million in recurring capital expenditures or $0.39 per weighted average square foot owned. The following table shows total capital expenditures for the stated periods (in thousands):

		For the Three Months
		Ended March 31,
		2008				2007
Recurring capital expenditures		$	8,656			$	7,295
Property renovations and other capital expenditures			400				127
Total capital expenditures		$	9,056			$	7,422

Stock Repurchase: The Company’s Board of Directors previously authorized the repurchase, from time to time, of up to 6.5 million shares of the Company’s common stock on the open market or in privately negotiated transactions. During the three months ended March 31, 2008, the Company repurchased 370,042 shares of common stock at an aggregate cost of $18.3 million or an average cost per share of $49.52. Since inception of the program, the Company has repurchased an aggregate of 4.3 million shares of common stock at an aggregate cost of $152.8 million or an average cost per share of $35.84. Under existing board authorizations, the Company can repurchase an additional 2.2 million shares.

Distributions: The Company has elected and intends to qualify as a REIT for federal income tax purposes. In order to maintain its status as a REIT, the Company must meet, among other tests, sources of income, share ownership and certain asset tests. As a REIT, the Company is not taxed on that portion of its taxable income that is distributed to its shareholders provided that at least 90% of its taxable income is distributed to its shareholders prior to the filing of its tax return.

Related Party Transactions: At March 31, 2008, Public Storage (“PS”) owned 26.5% of the outstanding shares of the Company’s common stock and 26.3% of the outstanding common units of the Operating Partnership (100% of the common units not owned by the Company). Assuming conversion of its partnership units, PS would own 45.9% of the outstanding shares of the Company’s common stock. Ronald L. Havner, Jr., the Company’s chairman, is also the Chief Executive Officer, President and a Director of PS. Harvey Lenkin is a Director of both the Company and PS.

Pursuant to a cost sharing and administrative services agreement, the Company shares costs with PS and affiliated entities for certain administrative services, which are allocated among PS and its affiliates in accordance with a

methodology intended to fairly allocate those costs. These costs totaled $97,000 and $80,000 for the three months ended March 31, 2008 and 2007, respectively. In addition, the Company provides property management services for properties owned by PS and its affiliates for a fee of 5% of the gross revenues of such properties in addition to reimbursement of direct costs. These management fee revenues recognized under management contracts with affiliated parties totaled $195,000 and $183,000 for each of the three months ended March 31, 2008 and 2007, respectively. In December, 2006, PS also began providing property management services for the mini storage component of two assets owned by the Company for a fee of 6% of the gross revenues of such properties in addition to reimbursement of certain costs. Management fee expense recognized under the management contracts with PS totaled approximately $11,000 and $12,000 for the three months ended March 31, 2008 and 2007, respectively.

Off-Balance Sheet Arrangements: The Company does not have any off-balance sheet arrangements.

Contractual Obligations: The Company is scheduled to pay cash dividends of approximately $58.0 million per year on its preferred equity outstanding as of March 31, 2008. Dividends are paid when and if declared by the Company’s Board of Directors and accumulate if not paid. Shares and units of preferred equity are redeemable by the Company in order to preserve its status as a REIT and are also redeemable five years after issuance.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

To limit the Company’s exposure to market risk, the Company principally finances its operations and growth with permanent equity capital consisting of either common or preferred stock. At March 31, 2008, the Company’s debt as a percentage of shareholders’ equity and minority interest (based on book values) was 4.4%.

The Company’s market risk sensitive instruments at March 31, 2008 include mortgage notes payable of $60.4 million and the Company’s Credit Facility. All of the Company’s mortgage notes payable bear interest at fixed rates. At March 31, 2008, the Company had no balance outstanding under its Credit Facility. See Notes 5 and 6 to the consolidated financial statements for terms, valuations and approximate principal maturities of the mortgage notes payable and line of credit as of March 31, 2008. Based on borrowing rates currently available to the Company, combined with the amount of fixed-rate debt financing, the difference between the carrying amount of debt and its fair value is insignificant.

ITEM 4. CONTROLS AND PROCEDURES

The Company’s management, with the participation of the Company’s chief executive officer and chief financial officer, evaluated the effectiveness of the Company’s disclosure controls and procedures as of March 31, 2008. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of the Company’s disclosure controls and procedures as of March 31, 2008, the Company’s chief executive officer and chief financial officer concluded that, as of such date, the Company’s disclosure controls and procedures were effective at the reasonable assurance level.

No change in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended March 31, 2008 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The information contained in Note 10 to the consolidated financial statements in this Form 10-Q regarding legal proceedings is incorporated by reference in this Item 1.

ITEM 1A. RISK FACTORS

In addition to the other information in this Form 10-Q, the following factors should be considered in evaluating our company and our business. There have been no material changes from the risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2007.

PS has significant influence over us.

At March 31, 2008, PS and its affiliates owned 26.5% of the outstanding shares of the Company’s common stock and 26.3% of the outstanding common units of the Operating Partnership (100% of the common units not owned by the Company). Assuming conversion of its partnership units, PS would own 45.9% of the outstanding shares of the Company’s common stock. Ronald L. Havner, Jr., the Company’s chairman, is also the Chief Executive Officer, President and a Director of PS. Harvey Lenkin is a Director of both the Company and PS. Consequently, PS has the ability to significantly influence all matters submitted to a vote of our shareholders, including electing directors, changing our articles of incorporation, dissolving and approving other extraordinary transactions such as mergers, and all matters requiring the consent of the limited partners of the Operating Partnership. PS’s interest in such matters may differ from other shareholders. In addition, PS’s ownership may make it more difficult for another party to take over our company without PS’s approval.

Provisions in our organizational documents may prevent changes in control.

Our articles generally prohibit owning more than 7% of our shares: Our articles of incorporation restrict the number of shares that may be owned by any other person, and the partnership agreement of our Operating Partnership contains an anti-takeover provision. No shareholder (other than PS and certain other specified shareholders) may own more than 7% of the outstanding shares of our common stock, unless our board of directors waives this limitation. We imposed this limitation to avoid, to the extent possible, a concentration of ownership that might jeopardize our ability to qualify as a REIT. This limitation, however, also makes a change of control much more difficult (if not impossible) even if it may be favorable to our public shareholders. These provisions will prevent future takeover attempts not approved by PS even if a majority of our public shareholders consider it to be in their best interests because they would receive a premium for their shares over market value or for other reasons.

Our board can set the terms of certain securities without shareholder approval: Our board of directors is authorized, without shareholder approval, to issue up to 50.0 million shares of preferred stock and up to 100.0 million shares of Equity Stock, in each case in one or more series. Our board has the right to set the terms of each of these series of stock. Consequently, the board could set the terms of a series of stock that could make it difficult (if not impossible) for another party to take over our company even if it might be favorable to our public shareholders. Our articles of incorporation also contain other provisions that could have the same effect. We can also cause our Operating Partnership to issue additional interests for cash or in exchange for property.

The partnership agreement of our Operating Partnership restricts mergers: The partnership agreement of our Operating Partnership generally provides that we may not merge or engage in a similar transaction unless the limited partners of our Operating Partnership are entitled to receive the same proportionate payments as our shareholders. In addition, we have agreed not to merge unless the merger would have been approved had the limited partners been able to vote together with our shareholders, which has the effect of increasing PS’s influence over us due to PS’s ownership of operating partnership units. These provisions may make it more difficult for us to merge with another entity.

Our Operating Partnership poses additional risks to us.

Limited partners of our Operating Partnership, including PS, have the right to vote on certain changes to the partnership agreement. They may vote in a way that is against the interests of our shareholders. Also, as general partner of our Operating Partnership, we are required to protect the interests of the limited partners of the Operating Partnership. The interests of the limited partners and of our shareholders may differ.

We would incur adverse tax consequences if we fail to qualify as a REIT.

Our cash flow would be reduced if we fail to qualify as a REIT: While we believe that we have qualified since 1990 to be taxed as a REIT, and will continue to be so qualified, we cannot be certain. To continue to qualify as a REIT, we need to satisfy certain requirements under the federal income tax laws relating to our income, assets, distributions to shareholders and shareholder base. In this regard, the share ownership limits in our articles of incorporation do not necessarily ensure that our shareholder base is sufficiently diverse for us to qualify as a REIT. For any year we fail to qualify as a REIT, we would be taxed at regular corporate tax rates on our taxable income unless certain relief provisions apply. Taxes would reduce our cash available for distributions to shareholders or for reinvestment, which could adversely affect us and our shareholders. Also we would not be allowed to elect REIT status for five years after we fail to qualify unless certain relief provisions apply.

We may need to borrow funds to meet our REIT distribution requirements: To qualify as a REIT, we must generally distribute to our shareholders 90% of our taxable income. Our income consists primarily of our share of our Operating Partnership’s income. We intend to make sufficient distributions to qualify as a REIT and otherwise avoid corporate tax. However, differences in timing between income and expenses and the need to make nondeductible expenditures such as capital improvements and principal payments on debt could force us to borrow funds to make necessary shareholder distributions.

Since we buy and operate real estate, we are subject to general real estate investment and operating risks.

Summary of real estate risks: We own and operate commercial properties and are subject to the risks of owning real estate generally and commercial properties in particular. These risks include:

	•		the national, state and local economic climate and real estate conditions, such as oversupply of or reduced demand for space and changes in market rental rates;
	•		how prospective tenants perceive the attractiveness, convenience and safety of our properties;
	•		difficulties in consummating and financing acquisitions and developments on advantageous terms and the failure of acquisitions and developments to perform as expected;
	•		our ability to provide adequate management, maintenance and insurance;
	•		our ability to collect rent from tenants on a timely basis;
	•		the expense of periodically renovating, repairing and reletting spaces;
	•		environmental issues;
	•		compliance with the Americans with Disabilities Act and other federal, state, and local laws and regulations;
	•		increasing operating costs, including real estate taxes, insurance and utilities, if these increased costs cannot be passed through to tenants;
	•		changes in tax, real estate and zoning laws;
	•		increase in new commercial properties in our market;
	•		tenant defaults and bankruptcies;
	•		tenants’ right to sublease space; and