<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------
Form 10-Q/A
(MarkOne)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended September 30, 1998; or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the transition period from ____________ to
____________ .
Commission file number 1-8383
Mission West Properties
(Exact name of registrant as specified in its charter)
California 95-2635431
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
10050 Bandley Drive
Cupertino, California 95014-2188
(Address of principal executive offices)
Registrant's telephone number, including area code is (408) 725-0700
-----------
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which
Common, no par value Registered
American Stock Exchange
Pacific Exchange, Incorporated
Securities registered pursuant to Section 12(g) of the Act:
None
-----------
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.
(1) Yes X No (2) Yes X No
------ ----- ----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock no par value 1,698,536 shares
------------------------------ ------------------------------
------------------------------ ------------------------------
(Class) (Outstanding at October 15,
1998)
-1-
<PAGE>
Mission West Properties
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
INDEX
<TABLE>
<CAPTION>
Page
Part I Financial Information
Item 1 Financial Statements:
<S> <C>
Consolidated Balance Sheets as of September 30, 1998
and December 31, 1997........................................3
Consolidated Statements of Operations for the three
and nine months ended September 30, 1998 and 1997............4
Consolidated Statements of Cash Flows for the
nine months ended September 30, 1998 and 1997................5
Notes to Consolidated Financial Statements...................6
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations.........................11
Part II Other Information
Item 5 Other Information...........................................16
Item 6 Exhibits and Reports on Form 8-K............................16
Signatures..........................................................17
</TABLE>
-2-
<PAGE>
===============================================================================
Part I - Financial Information
ITEM 1
CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
MISSION WEST PROPERTIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
-----
September December 31,
30, 1998 1997
-------------- --------------
(Unaudited)
ASSETS
<S> <C> <C>
Real estate assets, at cost
Land $86,715 -
Buildings and improvements 422,043 -
-------------- --------------
508,758 -
Less accumulated depreciation (2,638) -
-------------- --------------
Net real estate assets 506,120 -
Cash and cash equivalents 2,777 $5,569
Deferred rent 752 -
Other assets 2,559 194
-------------- --------------
Total assets $512,208 $5,763
============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Lines of credit $39,044
Mortgage notes payable 162,222 -
Mortgage notes payable (related parties) 18,780 -
Interest payable (related parties) 3,183 -
Security deposits 1,793 -
Prepaid rental income 3,127 -
Accounts payable and accrued expenses 3,375 $552
-------------- --------------
Total liabilities 231,524 552
Minority interest 273,740 -
Shareholders' equity:
Common stock, no par value, 200,000,000
shares authorized 1,698,536 and
1,501,104 shares issued and
outstanding at September 30, 1998
and December 31, 1997, respectively 27,596 26,707
Less, amounts receivable on private
placement (941) (334)
-------------- --------------
26,655 26,373
Accumulated (deficit) in excess of
dividends paid (19,711) (21,162)
-------------- --------------
Total shareholders' equity 6,944 5,211
-------------- --------------
Total liabilities and shareholders'
equity $512,208 $5,763
============== ==============
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
-3-
<PAGE>
<TABLE>
<CAPTION>
MISSION WEST PROPERTIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)
---------
Three months ended Nine months ended
September 30, September 30,
------------------------ -----------------------
1998 1997 1998 1997
----------- ------------ ----------- -----------
<S> <C> <C> <C> <C>
Revenue:
Rental revenues from
real estate $13,317 - $13,317 $741
Tenant reimbursements 2,101 - 2,101 -
Other income, including
interest 37 $43 178 302
----------- ------------ ----------- -----------
15,455 43 15,596 1,043
----------- ------------ ----------- -----------
Expenses:
Operating expenses 1,296 262 1,296 363
Real estate taxes 1,373 - 1,373 -
Depreciation of real
estate 2,638 - 2,638 131
General and
administrative 279 295 846 721
Interest 1,167 - 1,167 178
Interest (related
parties) 3,183 - 3,183 -
----------- ------------ ----------- -----------
Total expenses 9,936 557 10,503 1,393
----------- ------------ ----------- -----------
Income/(loss) before gain
on sale of real estate,
income taxes and
minority interest 5,519 (514) 5,093 (350)
Gain on sale of real
estate - 60 - 4,736
----------- ------------ ----------- -----------
Income/(loss) before
income taxes and
minority interest 5,519 (454) 5,093 4,386
(Benefit)/provision for
income taxes - (204) - 1,181
----------- ------------ ----------- -----------
Income before minority
interest 5,519 (250) 5,093 3,205
Minority interest (5,389) - (5,389) -
----------- ------------ ----------- -----------
Net income/(loss) $130 $(250) $(296) $3,205
=========== ============ =========== ===========
Basic and diluted net
income / (loss) per
share $0.08 $(2.19) $(0.18) $44.83
=========== ============ =========== ===========
Weighted average number
of common shares
outstanding (basic and
diluted) 1,698,536 114,126 1,634,220 71,492
============ =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
-4-
<PAGE>
<TABLE>
<CAPTION>
MISSION WEST PROPERTIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands, except per share amounts)
(unaudited)
-----
Nine months
ended September 30,
------------------
1998 1997
-------- --------
Cash flows from operating activities:
<S> <C> <C>
Net (loss) / income $(296) $3,205
Adjustments to reconcile net income to net cash
used in operating activities:
Minority interest 5,389 -
Net gain on sale of real estate assets - (4,736)
Depreciation 2,638 131
Tax effect of cancelled stock options - (33)
Changes in assets and liabilities:
Deferred rent (752) -
Other assets (2,001) 1,725
Interest payable (related parties) 3,183 -
Security deposits 52 -
Prepaid rental income 449 -
Accounts payable and accrued liabilities 1,974 (1,634)
-------- --------
Net cash provided by (used in) operating
activities 10,636 (1,342)
-------- --------
Cash flows from investing activities:
Improvements to real estate assets (118) -
Net proceeds from sales of real estate - 46,443
-------- --------
Net cash (used in) provided by investing
activities (118) 46,443
-------- --------
Cash flows from financing activities:
Proceeds from mortgage notes payable 130,000 -
Principal payments on mortgage notes payable (14,553) (30,753)
Principal payments on mortgage notes payable
(related parties) (129,039) -
Proceeds from issuance of common stock 293 876
Proceeds from stock options exercised - 759
Repurchase of common stock (11) -
Dividends paid - (13,798)
-------- --------
Net cash (used in) financing activities (13,310) (42,916)
-------- --------
Net (decrease) increase in cash and cash
equivalents (2,792) 2,185
Cash and cash equivalents, beginning 5,569 3,164
-------- --------
Cash and cash equivalents, ending $2,777 $5,349
======== ========
Supplemental information:
Cash paid for interest $1,073 $178
======== ========
Cash paid for income taxes $115 $1,099
======== ========
Supplemental schedule of non-cash investing
and financing activities:
Note receivable in connection with the issuance
of Common Stock $900 -
======== ========
Assumption of lines of credit $39,044 -
======== ========
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
-5-
<PAGE>
MISSION WEST PROPERTIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except per share amounts)
(unaudited)
-----
1. ACQUISITIONS
The Company completed its acquisition of the sole general partner interests,
representing approximately 12.11% of the total partnership interests, in each of
four existing limited partnerships (referred to collectively as the "Operating
Partnerships") owning approximately 4.34 million square feet of leased buildings
used for office, research and development, light manufacturing and assembly
located in the portion of the San Francisco Bay Area known as "Silicon Valley",
effective as of July 1, 1998. The Company effected the closing by issuing to
each of the Operating Partnerships a demand note ("Demand Note") bearing
interest at a rate of 7.25% per annum. The total principal amount of the Demand
Notes issued in conjunction with the Partnership Closing was $35,200. Each
demand note is payable no later than July 1, 2000.
Prior to the Company's acquisition of its general partner interests in the
Operating Partnerships, three of the four partnerships (Mission West Properties,
L.P., Mission West Properties, L.P. I, and Mission West Properties L.P. II) were
controlled by Carl E. Berg and his brother Clyde J. Berg (the "Berg
Properties"). The fourth Operating Partnership, Mission West Properties, L.P.
III, was previously controlled by John T. Kontrabecki, another Silicon Valley
developer, as its sole general partner, and Carl and Clyde Berg owned 50% of
that partnership as limited partners.
An agreement between the Company and the Operating Partnerships provided for
reallocations of interests and adjustments in the amounts payable by the Company
to each Operating Partnership in exchange for its general partnership interest
based upon differences between the amount of debt encumbering the Properties of
an Operating Partnership as of the effective date of the Partnership Closing and
the amount of such debt on May, 14, 1998. In conjunction with the Partnership
Closing and certain refinancings, final closing accounting entries and
adjustments as of June 30, 1998 were made on the books of the predecessors of
the four Operating Partnerships. Due to higher than estimated closing debt
balances, the total number of L.P. Units was reduced by 7,426,773 from
66,906,406 L.P. Units to 59,479,633 L.P. Units to reflect the number of L.P.
Units properly outstanding as of July 1, 1998, computed with reference to the
agreed upon valuation of $4.50 per outstanding share and the net equity value
determined for the predecessors of the Operating Partnerships as of June 30,
1998. Due to the reduction in total L.P. Units, the Company's recomputed
interest in the Operating Partnerships increased automatically to 12.11%.
The acquisition was accounted for as a purchase with the results of the
Operating Partnerships included from July 1, 1998. The fair value of the assets
acquired was $509,004 and liabilities assumed totaled $238,907. The fair value
of real estate assets acquired was determined by multiplying the annualized base
rentals under the leases for the Properties using the rental rates in effect on
January 1, 1998 by a multiple of 10 for the Berg Properties and 11.4 for the
properties previously controlled by John Kontrabecki. Both multiples were
selected with reference to multiples used for purchases and sales of similar
properties within the Silicon Valley known to Berg & Berg Developers at the
time, all of which exceeded the two multiples used by the Company and the Bergs
to value the Properties at July 1, 1998 (such multiples are the reciprocals of
the capitalization rates used in the transactions). The higher multiple of 11.4
times annualized rents used to value the Kontrabecki Properties resulted from
negotiations between the Company and Mr. Kontrabecki. Both valuation multiples
also were reviewed and agreed upon by the investors' representative for the
offer of 5,800,000 shares in the Company's May 1998 private placement
transactions.
The pro forma results listed below are unaudited and assume the acquisition
occurred at the beginning of each period presented:
<TABLE>
<CAPTION>
Nine Nine
Months Months
Ended Ended
September September
30, 1998 30, 1997
------------ ------------
<S> <C> <C>
Total Revenues $46,093 $39,230
------------ ------------
Expenses:
Operating expenses 7,099 6,247
General and administrative 846 721
Interest expense (including related
parties) 11,682 11,860
Depreciation and amortization 7,936 7,936
------------ ------------
Total expenses 27,563 26,764
------------ ------------
Income before minority interest, gain
on sale of real estate and income taxes 18,530 12,466
Minority interest 18,129 12,799
------------ ------------
Income / (loss) before gain on sale of
real estate and income taxes 401 (333)
Gain on sale of real estate - 4,736
------------ ------------
Income / (loss) before income taxes $401 $4,403
(Provision) for income taxes - (1,181)
------------ ------------
Net income $401 $3,222
============ ============
Basic and diluted net income per share $0.25 $45.07
============ ============
</TABLE>
2. SUMMARY OF SIGNIFICANT POLICIES
BASIS OF PRESENTATION:
The accompanying consolidated financial statements include the accounts of
the Company and its subsidiaries, including the Operating Partnerships.
All significant intercompany balances have been eliminated in
consolidation.
The financial statements have been prepared in accordance with generally
accepted accounting principles applicable to interim financial information
and pursuant to the rules and regulations of the Securities and Exchange
Commission. Accordingly, certain information and footnote disclosures
normally included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. However, in the opinion of
management, all adjustments, consisting only of normal recurring
adjustments, necessary for a fair presentation have been
-6-
<PAGE>
included. The Company presumes that users of the interim financial
information herein have read or have access to the audited financial
statements for the preceding fiscal year and that the adequacy of
additional disclosure needed for a fair presentation may be determined in
that context.
REVENUE RECOGNITION:
Rental income is recognized on a straight-line method of accounting under
which contractual rent payment increases are recognized evenly over the
lease term. Certain lease agreements contain terms which provide for
additional rents based on reimbursement of certain costs. These additional
rents are reflected on the accrual basis.
RENTAL PROPERTY:
Property and equipment is stated at the lower of cost or fair value. Cost
includes expenditures for improvements or replacements. Maintenance and
repairs are charged to expense as incurred. Gains and losses from sales
are included in income in accordance with Statement of Financial
Accounting Standard No. 66, Accounting for Sales of Real
Estate.
Investments in real estate are stated at the lower of depreciated cost or
estimated fair value. On a property-by-property basis, fair value for
financial reporting purposes is periodically evaluated by the Company
using undiscounted cash flows. If any potential impairments are
identified, they are measured by the property's fair value based on either
the property's expected net cash flow or sales comparables, less estimated
carrying costs throughout the anticipated holding period, plus the
estimated sales proceeds from the ultimate disposition. Should the
carrying value of a property exceed the estimated fair value, a provision
for the decrease in net realizable value is recorded. Estimated fair value
is not necessarily an indication of the property's current value or the
amount that would be realized upon the ultimate disposition. As of
September 30, 1998, no properties had carrying values that exceeded the
estimated fair values.
DEPRECIATION:
Depreciation is computed using the straight-line method over estimated
useful lives of 40 years for buildings and improvements.
NET INCOME PER SHARE:
The computation of net income per share is based on the weighted average
number of common shares outstanding during the period. Common stock
options and other potentially diluted securities have not been included in
the computation since their inclusion would have no effect on net income
per share.
INCOME TAXES:
The Company intends to qualify and elect to be taxed as a real estate
investment trust under the Internal Revenue Code of 1986, as amended,
commencing with the taxable year ending December 31, 1998. Accordingly, no
provision has been made for federal income taxes for the three and nine
month periods ended September 30, 1998.
-7-
<PAGE>
3. DEBT
The following table sets forth certain information regarding debt outstanding as
of September 30, 1998:
<TABLE>
<CAPTION>
Debt Description Collateral Properties Balance Maturity Date Interest Rate
- ---------------------------- -------------------------------------- ---------------- --------------- ------------------
($ in thousands)
LINES OF CREDIT:
<S> <C> <C> <C> <C>
Wells Fargo 1810 McCandless Drive, Milpitas, CA $39,044 10/99 (1)
1740 McCandless Drive, Milpitas, CA
1680 McCandless Drive, Milpitas, CA
1600 McCandless Drive, Milpitas, CA
1500 McCandless Drive, Milpitas, CA
1450 McCandless Drive, Milpitas, CA
1350 McCandless Drive, Milpitas, CA
1325 McCandless Drive, Milpitas, CA
1425 McCandless Drive, Milpitas, CA
1526 McCandless Drive, Milpitas, CA
1575 McCandless Drive, Milpitas, CA
1625 McCandless Drive, Milpitas, CA
1745 McCandless Drive, Milpitas, CA
1765 McCandless Drive, Milpitas, CA
MORTGAGE NOTES PAYABLE (RELATED PARTIES):
2033-2043 Samaritan, San Jose, CA 18,780 3/99 7.25%
2133 Samaritan, San Jose, CA
2233-2243 Samaritan, San Jose, CA
MORTGAGE NOTES PAYABLE:
Great West Life & Annuity
Insurance Company 6320 San Ignacio Ave., San Jose, CA 7,769 2/04 7.0%
Great West Life & Annuity
Insurance Company 6540 Via del Oro, San Jose, CA 3,707 5/04 7.0%
6385 San Ignacio Ave., San Jose, CA
National Electrical
Contractors Association
Pension Benefit
Trust Fund 2251 Lawson Lane, Santa Clara, CA 4,625 1/09 -
Prudential Capital Group 20400 Mariani, Cupertino, CA 2,065 3/09 8.75%
New York Life Insurance
Company 10440 Bubb Road, Cupertino, CA 436 8/09 9.625%
Home Savings & Loan
Association 10460 Bubb Road, Cupertino, CA 536 1/07 9.5%
Amdahl Corporation 3120 Scott, Santa Clara, CA 6,993 3/14 9.5%
Citicorp U.S.A. Inc. 2800 Bayview Drive, Fremont, CA 3,105 4/00 (2)
Mellon Mortgage Company 3530 Bassett, Santa Clara, CA 2,986 6/01 8.125%
Prudential Secured Loan 10300 Bubb, Cupertino, CA 130,000 10/08 6.56%
10500 N. DeAnza, Cupertino, CA
4050 Starboard, Fremont, CA
45700 Northpoint Loop, Fremont, CA
45738 Northpoint Loop, Fremont, CA
450-460 National, Mountain View, CA
4949 Hellyer, San Jose, CA
6311 San Ignacio, San Jose, CA
6321 San Ignacio, San Jose, CA
6325 San Ignacio, San Jose, CA
6331 San Ignacio, San Jose, CA
6341 San Ignacio, San Jose, CA
6351 San Ignacio, San Jose, CA
3236 Scott, Santa Clara, CA
3560 Bassett, Santa Clara, CA
3570 Bassett, Santa Clara, CA
3580 Bassett, Santa Clara, CA
1135 Kern, Sunnyvale, CA
1212 Bordeaux, Sunnyvale, CA
1230 E. Arques, Sunnyvale, CA
1250 E. Arques, Sunnyvale, CA
1170 Morse, Sunnyvale, CA
3540 Bassett, Santa Clara, CA
3542 Bassett, Santa Clara, CA
3544 Bassett, Santa Clara, CA
3550 Bassett, Santa Clara, CA
----------------
Mortgage Notes Payable Sub-total 162,222
================
Total $220,046
================
</TABLE>
(1)The lesser of Wells Fargo prime rate in effect on the first day of each
calendar month, or the LIBOR or the Wells Fargo Purchased Funds Rate quoted
on the first day of each calendar month plus 1.65%. Average rates for the
nine months ended September 30, 1998 and the year ended December 31, 1997 was
7.25%.
(2) One month LIBOR plus 1.625% adjusted monthly.
On September 23, 1998, the Company, in its capacity as the general partner of
the Operating Partnerships, obtained a loan from Prudential Insurance Company of
America in the amount of $130,000. The loan is cross-collateralized and secured
by a single deed of trust encumbering 18 properties improved with 24 buildings
and consisting of approximately 1.7 million square feet of space, all of which
are owned by the Operating Partnerships. The loan bears interest at a fixed rate
of 6.56% per annum and is payable in monthly installments of $827 which includes
principal (based upon a 30 year amortization) and interest. The net proceeds of
the loans were used to pay off approximately $14,553 of mortgage notes payable
with the remaining amount used to reduce the outstanding principal balance owed
under the mortgage notes payable (related parties).
-8-
<PAGE>
Costs and fees incurred in connection with obtaining this loan aggregated
approximately $900.
On September 30, 1998, the Operating Partnerships assumed lines of credit with
Wells Fargo Bank N.A. (the "Wells Fargo Line") from the Berg Group. The Wells
Fargo Line matures October 1999 and bears interest at the lesser of the Wells
Fargo prime rate in effect on the first day of each calendar month, or LIBOR or
the Wells Fargo Funds Rate quoted on the first day of each calendar month plus
1.65%. Borrowings outstanding at September 30, 1998 were $39,044. Availability
under the Wells Fargo Line was $60,956. The Wells Fargo Line is currently
collateralized by 14 properties owned the Operating Partnerships.
Scheduled principal payments on debt, are as follows:
<TABLE>
<CAPTION>
Lines Mortgage Mortgage
of Notes Notes Total
Credit Payable Payable
(Related
Parties)
-------- --------- -------------- -------
<S> <C> <C> <C> <C>
Three months ending December 31, 1998 $475 $475
Year ending December 31, 1999 $39,044 2,479 $18,780 60,303
Year ending December 31, 2000 5,776 5,776
Year ending December 31, 2001 5,488 5,488
Year ending December 31, 2002 2,966 2,966
Year ending December 31, 2003 3,196 3,196
Thereafter 141,842 141,842
======== ========= ============== =======
$39,044 $162,222 $18,780 $220,046
======== ========= ============== =======
</TABLE>
4. RELATED PARTY TRANSACTIONS
As a result of the acquisition of the Company's sole general partnership
interest in the Operating Partnerships, the Company's outstanding debt includes
amounts payable to BBE which are collateralized by certain of the properties
owned by the Operating Partnerships. This amount is included in mortgage notes
payable (related parties) on the consolidated balance sheet. Such amounts are
due March 1999 and accrue interest at a rate equal to that charged on the Wells
Fargo Line. Interest expense incurred in connection with this debt was $3,183
for the three and nine months ended September 30, 1998 and is included in
interest expense (related parties) in the consolidated financial statement of
operations.
The Company currently leases space owned by Berg & Berg Enterprises, Inc.
("BBE"), an affiliate of Carl E. Berg and Clyde J. Berg. Rental amounts and
overhead reimbursements paid to BBE were $20 and $40 for the three months and
nine months ended September 30, 1998, respectively.
5. MINORITY INTEREST
Minority interest represents the separate private ownership in the amount of
87.89% of the Operating Partnerships. Minority interest has been calculated in
accordance with EITF 94-2. A reconciliation of minority interest as shown on the
face of the consolidated statements of operations is as follows:
<TABLE>
<CAPTION>
Three Months
Ended
September
30, 1998
--------------
<S> <C>
Income before minority interest $5,519
Interest income on Demand Notes 613
--------------
Income attributable to Operating Partnerships $6,132
Minority interest ownership percent 87.89%
==============
Income attributable to minority interest $5,389
==============
</TABLE>
The minority interest for the three months ended September 30, 1998 is the same
as that for the nine months ended September 30, 1998 because the Company did not
acquire its interests in the Operating Partnerships until July 1, 1998
In order to effect the closing of the Company's acquisition of the sole general
partnership interests in the Operating Partnerships, the Company issued to each
of the partnerships a Demand Note which bears interest at a rate of 7.25% and
the total principal amount of the Demand Notes issued was $35,200. Subsequent to
July 1, 1998, the Company has made a partial payment of approximately $1,331
under the Demand Notes, which have been eliminated in consolidation.
-9-
<PAGE>
The stand-alone financial statements of the Operating Partnerships include
interest income due from the Company related to $35,200 of Demand Notes. Such
interest income (interest expense to the Company) has been eliminated in the
consolidated statements of operations.
6. ISSUANCE OF COMMON STOCK
On March 30, 1998, the Company issued 200,000 shares of common stock at $4.50
per share to an executive officer of the Company in exchange for a $900 note
receivable payable to the Company. The note is a full recourse promissory note
bearing interest at 5.59% and is collateralized by a pledge of the shares.
Interest is payable annually and principal is due March 30, 2003.
During the second quarter of 1998, the Company received total payments of $293
relating to amounts receivable from the private placements of shares of Common
Stock in November 1997.
-10-
<PAGE>
===============================================================================
ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
(in thousands, except share, square footage and limited partnership unit
amounts)
This Management's Discussion and Analysis of Financial Condition and Results of
Operations should be read in conjunction with the accompanying condensed
consolidated financial statements and notes thereto contained herein and the
Company's consolidated financial statements and notes thereto contained in the
Company's Annual Report on Form 10-K as of and for the year ended December 31,
1997. The results for the three and nine month periods ended September 30, 1998
are not necessarily indicative of the results to be expected for the entire
fiscal year ending December 31, 1998. The following discussion includes
forward-looking statements, including but not limited to statements with respect
to the Company's future financial performance, operating results, plans and
objectives. Actual results may differ materially from those currently
anticipated depending upon a variety of factors, including those described below
under the sub-heading, "Forward-Looking Information."
OVERVIEW
Shareholders previously approved the sale of substantially all of the assets of
the Company and the distribution of the net proceeds of sale on a pro rata
basis. Subsequent to the distribution, Carl E. Berg approached the Company with
a proposal to purchase the Company, and, rather than dissolve the Company,
continue the business of the Company with a portfolio of new investment
properties. After the purchase of shares in the Company by one of Mr. Berg's
entities and other accredited investors and the final distribution to all
previous shareholders in October 1997, the AMEX halted trading of the Company's
Common Stock because the Company no longer met AMEX minimum listing
requirements.
In May 1998, the Company, Mr. Berg, members of his immediate family and certain
entities which they control (the "Berg Group") and certain other persons entered
into an agreement (the "Acquisition Agreement") providing, among other things
for the Company's acquisition of interests as the sole general partner in the
four existing limited partnerships (referred to collectively as the "Operating
Partnerships"), which hold approximately 4.34 million rentable square feet of
office/research and development/manufacturing space ("R&D Property") located in
the portion of the San Francisco Bay Area known as "Silicon Valley," effective
as of July 1, 1998, as well as rights to acquire additional R&D Properties, as
described below, after shareholder approval. In July 1998, the Company and all
parties to the Acquisition Agreement agreed to consummate the Company's
acquisition of the general partner interests in the Operating Partnerships,
effective for financial statement and income tax and reporting purposes as of
July 1, 1998 (the "Partnership Closing") to enable the Company to include
results of operations, assets and other financial data for the Operating
Partnerships with the Company's consolidated financial statements for the second
half of 1998. The Company effected the Partnership Closing by issuing to each of
the Operating Partnerships a demand note ("Demand Note") bearing 7.25% interest
aggregating $35.2 million of principal, as provided in the Acquisition Agreement
as amended by the parties effective as of July 1, 1998. Each Demand Note is
payable no later than July 1, 2000.
As a consequence of the Partnership Closing, the Company now controls the
Operating Partnerships, all of which are governed by the Delaware Revised
Uniform Limited Partnership Act ("DRULPA"). The individual Operating
Partnerships are named Mission West Properties, L.P. ("MWP"), Mission West
Properties, L.P. I ("MWP I"), Mission West Properties, L.P. II ("MWP II") and
Mission West Properties, L.P. III ("MWP III"). MWP was organized under the
DRULPA in 1995; MWP I and MWP II were general partnerships formed more than 15
years ago which converted to limited partnerships under the DRULPA in December
1997; and MWP III was formed in 1983 as a California limited partnership and
converted to a Delaware limited partnership under the DRULPA at the Partnership
Closing. No new entity has been created in connection with the Partnership
Closing, and the Company does not intend to create a new entity to conclude any
aspect of such closing. All limited partnership interests in the Operating
Partnerships were converted into 59,479,633 units of limited partnership
interest ("L.P. Units") in connection with the Partnership Closing. In the
aggregate those L.P. Units represent ownership of approximately 87.89% of the
Operating Partnerships.
Prior to the Partnership Closing, MWP, MWP I and MWP II were controlled by Carl
E. Berg and his brother Clyde J. Berg, who have been engaged in developing,
owning, operating, acquiring and selling Silicon Valley R&D Properties under the
name "Berg & Berg Developers" ("Berg & Berg") for nearly 30 years. Another
Silicon Valley developer, John T. Kontrabecki ("Kontrabecki") controlled MWP III
as its sole general partner prior to the Partnership Closing, and Carl and Clyde
Berg owned 50% of that partnership as limited partners. Prior to the Partnership
Closing, certain members of the Berg Group held R&D Properties outside of MWP,
MWP I and MWP
-11-
<PAGE>
II, and Mr. Kontrabecki was a general partner in two other partnerships (in
which members of the Berg Group held substantial limited partner interests). To
consolidate title to those R&D Properties in a single entity, the parties agreed
pursuant to the Acquisition Agreement to contribute their respective R&D
Properties to MWP in exchange for L.P. Units. By amendment to the Acquisition
Agreement, all the proposed transfers to MWP occurred at the Partnership
Closing, except for the conveyance of certain R&D Properties representing
approximately 0.144 million rentable square feet (the "Fremont Properties")
which was consummated in September, 1998.
Of the total R&D Properties rentable square footage owned and operated by the
Operating Partnerships following the Partnerships' Closing, properties
representing approximately 3.78 million rentable square feet were owned or
controlled by members of the Berg Group and constitute the historical properties
managed by Berg & Berg (the "Berg Properties"). Other R&D Properties, consisting
of approximately 0.56 million rentable square feet, (the "Acquired Properties")
represent the Fremont Properties and certain R&D Properties (the "Kontrabecki
Properties") held by the three limited partnerships previously controlled by
Kontrabecki.
Under the Acquisition Agreement, all L.P. Units in the Operating Partnerships
may be exchanged for shares of Common Stock of the Company pursuant to the terms
of an Exchange Rights Agreement (the "Exchange Rights Agreement"). Under the
terms of the Acquisition Agreement, the Operating Partnerships and the Company
also have agreed to the terms of a Pending Projects Acquisition Agreement (the
"Pending Projects Acquisition Agreement"), which permits the acquisition by the
Operating Partnerships of approximately one million additional rentable square
feet upon the completion and leasing of a number of the Pending Development
Projects owned by certain members of the Berg Group and under current
development by Berg & Berg Enterprises, Inc. ("BBE").
The owners of the Pending Development Projects may obtain cash, or at their
option L.P. Units. A total of 33,919,072 L.P. Units may be issued in exchange
for the Pending Development Projects. Subject to shareholder approval of the
Pending Projects Acquisition Agreement, those units may be exchanged for
33,919,072 shares of Common Stock pursuant to the Exchange Rights Agreement. On
August 6, 1998, Berg & Berg and Microsoft Corporation ("Microsoft") signed a
lease with respect to an approximate 515,000 square foot property to be
constructed by Microsoft on L'Avenida in Mountain View, California, one of the
sites comprising the Pending Development Projects. Microsoft controls the
construction of this facility, which is scheduled to be completed in phases
between March and May 1999. The Company will acquire the R&D Properties to be
built on the L'Avenida site when and if construction has been completed and the
buildings have been fully leased. Upon any acquisition by the Company of the
Pending Development Projects, their owners may elect to receive cash or L.P.
Units from the Operating Partnerships. The Acquisition Agreement also gives the
Company an option to acquire, through the Operating Partnerships, any future R&D
Property developments on approximately 162 net acres of Silicon Valley land
owned by certain members of the Berg Group (the "Berg Land Holdings") under the
terms of the Berg Land Holdings Option Agreement (the "Option Agreement"). The
owners of the Berg Land Holdings may elect to receive cash or L.P. Units. The
Company will not acquire any of these properties directly, but rather will do
this through the Operating Partnership.
In May 1998, the Company entered into binding agreements, subject to certain
conditions, to sell 6,495,058 shares of Common Stock at $4.50 per share to
accredited investors in two private placement transactions ("the Private
Placement"), following shareholder approval as required by AMEX. Of the total
number of shares to be sold in the Private Placement, 5,800,000 shares were
offered in a placement managed by Ingalls & Snyder LLC ("Ingalls & Snyder"). The
purchasers of such shares have agreed to pay a placement fee of $0.05 per share
to Ingalls & Snyder, for which the company has no liability. The Company intends
to call a special meeting of shareholders (the "Special Meeting") to approve the
Private Placement, ratify the Company's acquisition of its general partner
interest in the Operating Partnerships, approve the Pending Projects Acquisition
Agreement, approve the Option Agreement, approve the issuance of up to
93,398,705 shares of Common Stock in exchange for L.P. Units pursuant to the
Exchange Rights Agreement and approve the Company's reincorporation under the
laws of the State of Maryland through a merger with the Company's wholly-owned
subsidiary Mission West Properties, Inc. (the "Reincorporation Merger").
RESULTS OF OPERATIONS
COMPARISON OF THE THREE AND NINE MONTH PERIODS ENDED SEPTEMBER 30, 1998 TO THE
THREE AND NINE MONTH PERIODS ENDED SEPTEMBER 30, 1997.
The Company's acquisition of the Properties during the third quarter of 1998
substantially altered the Company's operations. As a consequence, operating
results for that three-month period and the nine-month period ended September
30, 1998 are not meaningfully comparable to operating results for the same
periods of 1997.
-12-
<PAGE>
For the period from July 1, 1998 to September 30, 1998, rental revenues from
real estate were $13,317, which included a positive adjustment of $752 in order
to reflect rental revenues on a straight-line basis. Tenant reimbursements were
$2,101, and other income, including interest, was $37. Expenses in the three and
nine months ended September 30, 1998 of $9,936 and 10,503, respectively,
includes $9,657 of costs related directly to the Company's acquisition of its
general partnership interest in the Operating Partnerships, with the remaining
$279 and $846 resulting from general and administrative costs.
Income before minority interest was $5,519 and $5,093 for the three and nine
months ended September 30, 1998, respectively. Minority interest in income was
$5,389 for the three and nine months ended September 30, 1998, resulting in net
income of $130 and a net loss of $(296) for those same periods, respectively.
Minority interest represents the limited partners' ownership interest of 87.89%
in the Operating Partnerships, as calculated in accordance with EITF 94-4.
During the nine month period ended September 30, 1997, the Company sold its
entire real estate portfolio of 11 properties. Of the 11 real estate properties,
nine properties ("the nine properties") were sold during the first quarter of
1997. The nine properties consisted of occupied office, light industrial
buildings and vacant land in Chandler, Arizona. The remaining two properties
were sold in the second quarter of 1997 and consisted of leaseholds, together
with hangar and office buildings, thereon, comprising approximately 25 percent
of the land at Palomar-McClellan Airport in San Diego, California.
Upon completion of the sale of the nine properties, the Company received $47,200
in cash, from which it repaid all debt encumbering the properties (thus the
elimination of all future interest expense) and paid a majority of the related
transaction and closing costs, including $3,000 in "break-up" fees from
previously terminated sales transactions. Upon completing the sale of the
remaining two properties in the second quarter of 1997, the Company received
$3,000 cash, from which related transaction and closing costs were paid. The
Company recognized a net gain on the sale of the eleven properties of $4,676.
The Company declared a special dividend of $9.00 per share to shareholders
during February 1997. That dividend represented the available portion of the
proceeds from the sale of the nine properties.
Following the sale of all 11 properties, coupled with the cash dividends paid to
shareholders, only cash and receivables were left in the Company and, therefore,
the resulting corporate entity had insignificant revenue-generating and
cash-generating capabilities and minimal operations, aside from interest income
and general and administrative expenses, until the acquisition of the Properties
at the Partnership Closing in July 1998.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1998, the Company had total indebtedness remaining on the
Properties of approximately $220,000. The $130,000 Prudential Secured Loan bears
an interest rate of 6.56%, maturing October 15, 2008, and is payable in monthly
installments of principal (based upon a 30 year amortization) and interest of
$827. The Company has paid total fees of approximately $900 in connection with
this loan. The Company also has $60,956 available to borrow under two lines of
credit with Wells Fargo Bank N.A. (the "Wells Fargo Line") totaling $100,000,
which the Company and the Operating Partnerships assumed from the Berg Group
effective September 30, 1998. The Wells Fargo Line expires in October 1999 and
is secured by 14 Properties. The Company has additional secured loans (including
related party loans) totaling $51,000, which are secured by 13 Properties.
HISTORICAL CASH FLOWS
Net cash provided by operating activities for the nine months ended September
30, 1998 was $10,636 compared to net cash used in operating activities of
$(1,342) for the same period in 1997. The change was a direct result of the
Company's acquisition of a 12.11% general partnership interests in the Operating
Partnerships.
Net cash used in investing activities was $(118) for the nine months ended
September 30, 1998 compared to net cash provided by investing activities of
$46,443 for the same period in 1997. Cash used in investing activities during
1998 related solely to improvements made to existing real estate assets acquired
as part of the Company's investment in the Operating Partnerships. Net cash
provided by investing activities in 1997 related solely to the sales proceeds
realized by the Company on the final disposition of its real estate holdings
held prior to 1998.
Net cash used in financing activities was $(13,310) for the nine months ended
September 30, 1998 compared to $(42,916) for the same period in 1997. During
1998, the Company reduced debt outstanding by utilizing proceeds
-13-
<PAGE>
from new borrowings and cash provided by operating activities. For the nine
months ended September 30, 1997, the Company paid off all debt which existed at
that time, and also made dividend payments aggregating $13,798.
CAPITAL EXPENDITURES
The Properties require periodic investments of capital for tenant-related
capital expenditures and for general capital improvements. For the years ended
December 31, 1993 through December 31, 1997, the recurring tenant improvement
costs and leasing commissions incurred with respect to new leases and lease
renewals of the Berg Properties averaged approximately $1,500 annually. Of the
Acquired Properties, 83,902 square feet of space is subject to leases that
expire between January 1, 1998 and December 31, 2001. The Company will have
approximately 416,000 square feet under expiring leases annually from January 1,
1998 through December 31, 2000. The Company expects that the average annual cost
of recurring tenant improvements and leasing commissions, related to the
properties, will be approximately $1,500 from January 1, 1998 through December
31, 2000. It expects to recover substantially all of these sums from the tenants
under the new or renewed leases through increases in rental rates. The Company
expects to meet its long-term liquidity requirements for the funding of property
development, property acquisitions and other material non-recurring capital
improvements through long-term secured and unsecured indebtedness and the
issuance of additional equity securities by the Company.
FUNDS FROM OPERATIONS
As defined by the National Association of Real Estate Investment Trusts
("NAREIT"), FFO represents net income (loss) before minority interest of
unitholders (computed in accordance with GAAP), excluding gains (or losses) from
debt restructuring and sales of property, plus real estate related depreciation
and amortization (excluding amortization of deferred financing costs and
depreciation of non-real estate assets) and after adjustments for unconsolidated
partnerships and joint ventures. Management considers FFO an appropriate measure
of performance of an equity REIT because, along with cash flows from operating
activities, financing activities and investing activities, it provides investors
with an understanding of the Company's ability to incur and service debt, and
make capital expenditures. FFO should not be considered as an alternative for
net income as a measure of profitability nor is it comparable to cash flows
provided by operating activities determined in accordance with GAAP. FFO is not
comparable to similarly entitled items reported by other REITs that do not
define them exactly as the Company defines FFO. FFO, along with cash provided by
(used in) operating, investing and financing activities for the three and nine
months ended September 30, 1998 presented on a historical basis are summarized
in the following table:
<TABLE>
<CAPTION>
For the For the Nine
Three Months
Months Ended
Ended September
September 30, 1998
30, 1998
------------- -------------
Calculation of Funds
from Operations:
<S> <C> <C>
Net income / (loss) $130 $(296)
Add back:
Minority interest 5,389 5,389
Real estate depreciation 2,638 2,638
------------- -------------
Total funds from operations $8,157 $7,731
============= =============
Cach flow provided by (used in):
Operating activities $12,263 $10,636
Investing activities (118) (118)
Financing activities (13,592) (13,310)
</TABLE>
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
The Company does not believe recently issued accounting standards will
materially impact on the Company's financial statements.
YEAR 2000
The Company utilizes computer software for its corporate and real property
accounting records and to prepare its financial statements. The vendor of the
Company's current principal software accounting system has advised the Company
that it will provide a Year 2000 compliant software upgrade to the Company in
early 1999. If necessary, the Company could prepare all required accounting
entries manually without incurring material additional operating expenses.
Conceivably, tenants of the Properties could experience delays in processing
their accounting records and making required lease payments, if they encounter
Year 2000 compliance problems. The Company does not believe that any such delays
would have a material adverse effect on the Company.
-14-
<PAGE>
FORWARD LOOKING INFORMATION
This quarterly report contains forward-looking statements within the meaning of
the federal securities laws. The Company intends such forward-looking statements
to be covered by the safe harbor provisions for forward-looking statements
contained in the Private Securities Reform Act of 1995, and is including this
statement for purposes of complying with these safe harbor provisions.
Forward-looking statements, which are based on certain assumptions and describe
future plans, strategies and expectations of the Company, are generally
identifiable by use of the words "believe," "expect," "intend," "anticipate,"
"estimate," "project" or similar expressions. The Company's ability to predict
results or the actual effect of future plans or strategies is inherently
uncertain. Factors which could have a material adverse effect on the operations
and future prospects of the Company include, but are not limited to, changes in:
economic conditions generally and the real estate market specifically,
legislative or regulatory provisions affecting the Company (including changes to
laws governing the taxation of REITs), availability of capital, interest rates,
competition, supply of and demand for office and industrial properties in the
Company's current and proposed market areas, and general accounting principles,
policies and guidelines applicable to REITs. These risks and uncertainties,
together with the other risks described from time to time in the Company's
reports and documents filed with the Securities and Exchange Commission, should
be considered in evaluating forward-looking statements and undue reliance should
not be placed on such statements.
-15-
<PAGE>
===============================================================================
PART II - OTHER INFORMATION
ITEM 2
CHANGES IN SECURITIES AND USE OF PROCEEDS
The information provided in Part I, "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Overview" is incorporated by
reference in response to this item.
ITEM 5
OTHER INFORMATION
RECENT DEVELOPMENTS
The Company's Form S-4 Registration Statement No. 333-52835, filed on May 15,
1998, as amended on October 27, 1998 (the "S-4 Registration Statement"), is
incorporated by reference into this Form 10-Q. The section of the S-4
Registration Statement entitled "RISK FACTORS" is specifically incorporated by
reference into Item 2 Part I, "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
ITEM 6
EXHIBITS AND REPORTS ON FORM 8-K
a. EXHIBITS
None.
b. REPORTS ON FORM 8-K
During the quarter ended September 30, 1998, the Company filed no
reports on Form 8-K.
-16-
<PAGE>
===============================================================================
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.
Mission West Properties
(Registrant)
Date: November 12, 1998 By: /s/ Marianne K. Aguiar
---------------------------
Marianne K. Aguiar
Vice President of Finance and Controller
(Principal Accounting Officer)
-17-
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 2,777
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 508,758
<DEPRECIATION> 2,638
<TOTAL-ASSETS> 512,208
<CURRENT-LIABILITIES> 0
<BONDS> 0
0
0
<COMMON> 27,596
<OTHER-SE> (941)
<TOTAL-LIABILITY-AND-EQUITY> 512,208
<SALES> 0
<TOTAL-REVENUES> 15,596
<CGS> 0
<TOTAL-COSTS> 5,307
<OTHER-EXPENSES> 846
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,350
<INCOME-PRETAX> (296)
<INCOME-TAX> 0
<INCOME-CONTINUING> (296)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (296)
<EPS-PRIMARY> (0.18)
<EPS-DILUTED> (0.18)
</TABLE>
