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Essex Property Trust 10-Q 2010
form10q.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

 
FORM 10-Q
 

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

For the quarterly period ended June 30, 2010

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934>

For the transition period from ________to _________

Commission file number 001-13106

ESSEX PROPERTY TRUST, INC.
(Exact name of Registrant as Specified in its Charter)

Maryland
77-0369576
(State or Other Jurisdiction of Incorporation or Organization)
(I.R.S. Employer Identification Number)

925 East Meadow Drive
Palo Alto, California    94303
(Address of Principal Executive Offices including Zip Code)

(650) 494-3700
(Registrant's Telephone Number, Including Area Code)
 



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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x  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  x
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 x

APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date:  30,329,994 shares of Common Stock as of August 4, 2010.>
 


 
 

 

 
ESSEX PROPERTY TRUST, INC.
FORM 10-Q
INDEX

   
Page No.
PART I. FINANCIAL INFORMATION
 
     
Item 1.
3
     
 
4
     
 
5
     
 
6
     
 
7
     
 
8
     
Item 2.
20
     
Item 3.
29
     
Item 4.
30
     
PART II. OTHER INFORMATION
 
     
Item 1.
31
     
Item 1A.
31
     
Item 6
31
     
32

 
2


Part I -- Financial Information

Item 1: Condensed Financial Statements (Unaudited)

"Essex" or the "Company" means Essex Property Trust, Inc., a real estate investment trust incorporated in the State of Maryland, or where the context otherwise requires, Essex Portfolio, L.P., a limited partnership (the "Operating Partnership") in which Essex Property Trust, Inc. is the sole general partner.

The information furnished in the accompanying unaudited condensed consolidated balance sheets, statements of operations, stockholders' equity, noncontrolling interest, and comprehensive income and cash flows of the Company reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of the aforementioned condensed consolidated financial statements for the interim periods and are normal and recurring in nature, except as otherwise noted.

The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the notes to such unaudited condensed consolidated financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations herein.  Additionally, these unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 2009.

 
3


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(Unaudited)
(Dollars in thousands, except per share amounts)

   
June 30,
   
December 31,
 
Assets
 
2010
   
2009
 
Real estate:
           
Rental properties:
           
Land and land improvements
  $ 689,752     $ 684,955  
Buildings and improvements
    2,761,375       2,727,975  
      3,451,127       3,412,930  
Less accumulated depreciation
    (811,114 )     (749,464 )
      2,640,013       2,663,466  
Real estate under development
    331,266       274,965  
Co-investments
    137,740       70,783  
      3,109,019       3,009,214  
Cash and cash equivalents-unrestricted
    8,367       20,660  
Cash and cash equivalents-restricted
    19,429       17,274  
Marketable securities
    92,510       134,844  
Notes and other receivables
    55,209       36,305  
Prepaid expenses and other assets
    25,662       21,349  
Deferred charges, net
    13,986       14,991  
Total assets
  $ 3,324,182     $ 3,254,637  
                 
Liabilities and  Equity
               
Mortgage notes payable
  $ 1,639,955     $ 1,603,549  
Lines of credit
    264,000       239,000  
Exchangeable bonds
    3,193       4,893  
Accounts payable and accrued liabilities
    41,471       38,514  
Construction payable
    14,073       10,327  
Dividends payable
    34,624       33,750  
Cash flow hedge liabilities
    72,196       30,156  
Other liabilities
    17,548       16,558  
Total liabilities
    2,087,060       1,976,747  
Commitments and contingencies
               
Cumulative convertible preferred stock; $.0001 par value:
               
4.875% Series G - 5,980,000 issued and 178,249 outstanding
    4,349       4,349  
Stockholders' equity and noncontrolling interest:
               
Common stock, $.0001 par value, 649,702,178 shares authorized 29,555,874 and 28,849,779 shares issued and outstanding
    3       3  
Cumulative redeemable preferred stock; $.0001 par value:
               
7.8125% Series F - 1,000,000 shares authorized, issued and outstanding, liquidation value
    25,000       25,000  
Additional paid-in capital
    1,324,328       1,275,251  
Distributions in excess of accumulated earnings
    (260,966 )     (222,952 )
Accumulated other comprehensive (loss) income
    (68,791 )     (24,206 )
Total stockholders' equity
    1,019,574       1,053,096  
Noncontrolling interest
    213,199       220,445  
Total stockholders' equity and noncontrolling interest
    1,232,773       1,273,541  
Total liabilities and equity
  $ 3,324,182     $ 3,254,637  
 
See accompanying notes to the unaudited condensed consolidated financial statements.

 
4


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARES
Condensed Consolidated Statements of Operations
(Unaudited)
(Dollars in thousands, except per share amounts)

   
Three Months Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
   
2010
   
2009
   
2010
   
2009
 
Revenues:
                       
Rental and other property
  $ 99,614     $ 102,476     $ 199,320     $ 206,390  
Management and other fees from affiliates
    1,022       1,156       2,500       2,354  
      100,636       103,632       201,820       208,744  
Expenses:
                               
Property operating, excluding real estate taxes
    25,249       24,844       49,920       48,924  
Real estate taxes
    9,749       8,989       19,276       18,032  
Depreciation and amortization
    31,261       28,903       61,748       57,868  
General and administrative
    6,219       5,852       11,837       12,084  
Impairment and other charges
    -       -       -       5,752  
      72,478       68,588       142,781       142,660  
                                 
Earnings from operations
    28,158       35,044       59,039       66,084  
                                 
Interest expense
    (21,004 )     (21,509 )     (41,841 )     (41,713 )
Interest and other income
    7,085       2,867       14,941       6,154  
Equity (loss) income in co-investments
    (360 )     158       (401 )     696  
(Loss) gain on early retirement of debt
    (10 )     -       (10 )     6,124  
Income before discontinued operations
    13,869       16,560       31,728       37,345  
Income from discontinued operations
    -       892       -       3,446  
Net income
    13,869       17,452       31,728       40,791  
Net income attributable to noncontrolling interest
    (3,844 )     (4,453 )     (8,034 )     (9,396 )
Net income attributable to controlling interest
    10,025       12,999       23,694       31,395  
Dividends to preferred stockholders
    (543 )     (1,584 )     (1,085 )     (3,410 )
Excess of the carrying amount of preferred stock redeemed over the cash paid to redeem preferred stock
    -       -       -       25,695  
Net income available to common stockholders
  $ 9,482     $ 11,415     $ 22,609     $ 53,680  
                                 
Per common share data:
                               
Basic:
                               
Income before discontinued operations available to common stockholders
  $ 0.32     $ 0.39     $ 0.78     $ 1.90  
Income from discontinued operations
    -       0.04       -       0.12  
Net income available to common stockholders
  $ 0.32     $ 0.43     $ 0.78     $ 2.02  
Weighted average number of common shares outstanding during the period
    29,329,273       26,831,307       29,149,562       26,529,802  
                                 
Diluted:
                               
Income before discontinued operations available to common stockholders
  $ 0.32     $ 0.39     $ 0.77     $ 1.84  
Income from discontinued operations
    -       0.04       -       0.12  
Net income available to common stockholders
  $ 0.32     $ 0.43     $ 0.77     $ 1.96  
Weighted average number of common shares outstanding during the period
    29,402,635       26,853,693       29,213,613       29,000,129  
Dividend per common share
  $ 1.033     $ 1.030     $ 2.065     $ 2.060  

See accompanying notes to the unaudited condensed consolidated financial statements.

 
5


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Stockholders' Equity, Noncontrolling Interest, and
Comprehensive Income for the six months ended June 30, 2010
(Unaudited)
(Dollars and shares in thousands)

                                 
Distributions
   
Accumulated
             
   
Series F
               
Additional
   
in excess of
   
other
             
   
Preferred stock
   
Common stock
   
paid-in
   
accumulated
   
comprehensive
   
Noncontrolling
       
   
Shares
   
Amount
   
Shares
   
Amount
   
capital
   
earnings
   
income (loss)
   
Interest
   
Total
 
Balances at December 31, 2009
    1,000     $ 25,000       28,849     $ 3     $ 1,275,251     $ (222,952 )   $ (24,206 )   $ 220,445     $ 1,273,541  
Comprehensive income:
                                                                       
Net income
    -       -       -       -       -       23,694       -       8,034       31,728  
Reversal of unrealized gains upon the sale of marketable securites
    -       -       -       -       -       -       (7,981 )     (654 )     (8,635 )
Change in fair value of cash flow hedges and amortization of swap settlements
    -       -       -       -       -       -       (39,363 )     (3,223 )     (42,586 )
Change in fair value of marketable securities
    -       -       -       -       -       -       2,759       227       2,986  
Comprehensive income
                                                                    (16,507 )
Issuance of common stock under:
                                                                       
Stock option and restricted stock plans
    -       -       64       -       2,680       -       -       -       2,680  
Sale of common stock
    -       -       642       -       63,003       -       -       -       63,003  
Equity based compensation costs
    -       -       -       -       (164 )     -       -       1,436       1,272  
Retirement of exchangeable bonds
    -       -       -       -       (95 )     -       -       -       (95 )
Contributions from noncontrolling interest
    -       -       -       -       -       -       -       3,990       3,990  
Distributions to noncontrolling interest
    -       -       -       -       -       -       -       (12,338 )     (12,338 )
Dividends declared
    -       -       -       -       -       (61,708 )     -       -       (61,708 )
Redemptions of noncontrolling interest
    -       -       -       -       (16,347 )     -       -       (4,718 )     (21,065 )
Balances at June 30, 2010
    1,000     $ 25,000       29,555     $ 3     $ 1,324,328     $ (260,966 )   $ (68,791 )   $ 213,199     $ 1,232,773  

See accompanying notes to the unaudited condensed consolidated financial statements.

 
6


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(Dollars in thousands)

   
Six Months Ended
 
   
June 30,
 
   
2010
   
2009
 
Net cash provided by operating activities
  $ 89,414     $ 89,234  
                 
Cash flows used in investing activities:
               
Additions to real estate:
               
Acquisitions
    (6,757 )     -  
Improvements to recent acquisitions
    (725 )     (251 )
Redevelopment expenditures
    (6,951 )     (14,372 )
Revenue generating capital expenditures
    (358 )     (143 )
Non-revenue generating capital expenditures
    (10,962 )     (8,953 )
Additions to real estate under development
    (53,414 )     (49,957 )
Dispositions of real estate
    -       26,692  
Changes in restricted cash and refundable deposits
    (5,733 )     20,693  
Purchases of marketable securities
    (18,276 )     (88,498 )
Sales and maturities of marketable securities
    65,919       15,200  
Proceeds from tax credit investor
    -       3,762  
Purchases of and advances under notes and other receivables
    (21,227 )     (1,482 )
Collections of notes and other receivables
    1,826       2,938  
Contributions to co-investments
    (66,498 )     (270 )
Net cash used in investing activities
    (123,156 )     (94,641 )
                 
Cash flows from financing activities:
               
Borrowings under mortgage and other notes payable and lines of credit
    212,764       227,386  
Repayment of mortgage and other notes payable and lines of credit
    (163,817 )     (84,640 )
Additions to deferred charges
    (623 )     (1,712 )
Retirement of exchangeable bonds
    (1,842 )     (66,460 )
Retirement of common stock
    -       (20,271 )
Retirement of preferred stock, Series G
    -       (32,572 )
Net proceeds from stock options exercised
    2,212       546  
Net proceeds from issuance of common stock
    63,003       75,828  
Contributions from noncontrolling interest
    3,990       -  
Distributions to noncontrolling interest
    (12,337 )     (10,824 )
Redemptions of noncontrolling interest
    (21,065 )     (739 )
Common and preferred stock dividends paid
    (60,836 )     (57,609 )
Net cash provided by financing activities
    21,449       28,933  
                 
Net (decrease) increase in cash and cash equivalents
    (12,293 )     23,526  
Cash and cash equivalents at beginning of period
    20,660       41,909  
Cash and cash equivalents at end of period
  $ 8,367     $ 65,435  
                 
Supplemental disclosure of cash flow information:
               
Cash paid for interest, net of $5.8 million and $5.9 million capitalized in 2010 and 2009, respectively
  $ 40,048     $ 39,149  
Supplemental disclosure of noncash investing and financing activities:
               
Change in accrual of dividends
  $ 874     $ 666  
Change in value of cash flow hedge liabilities
  $ 42,040     $ 42,110  
Change in fair value of marketable securities
  $ 5,650     $ 5,417  
Mortgage note assumed in connection with purchase of real estate including the loan premium recorded
  $ 12,444     $ -  
Change in construction payable
  $ 3,746     $ 9,943  
Accrual for the purchase of marketable securities
  $ -     $ 10,741  

See accompanying notes to the unaudited condensed consolidated financial statements.

 
7


 ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(1)  Organization and Basis of Presentation

The unaudited condensed consolidated financial statements of the Company are prepared in accordance with U.S. generally accepted accounting principles for interim financial information and in accordance with the instructions to Form 10-Q.  In the opinion of management, all adjustments necessary for a fair presentation of the financial position, results of operations and cash flows for the periods presented have been included and are normal and recurring in nature, except as otherwise noted.  These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 2009.

All significant intercompany balances and transactions have been eliminated in the condensed consolidated financial statements.

The unaudited condensed consolidated financial statements for the three and six months ended June 30, 2010 and 2009 include the accounts of the Company and Essex Portfolio, L.P. (the "Operating Partnership", which holds the operating assets of the Company).  The Company is the sole general partner in the Operating Partnership, with a 93.1% general partnership interest as of June 30, 2010.  Total Operating Partnership units outstanding were 2,202,907 and 2,398,479 as of June 30, 2010 and December 31, 2009, respectively, and the redemption value of the units, based on the closing price of the Company’s common stock totaled $214.9 million and $200.6 million, as of June 30, 2010 and December 31, 2009, respectively.

As of June 30, 2010, the Company owned or had ownership interests in 134 apartment communities, (aggregating 27,405 units) (collectively, the “Communities”, and individually, a “Community”), five office and commercial buildings and five active development projects (collectively, the “Portfolio”).  The Communities are located in Southern California (Los Angeles, Orange, Riverside, Santa Barbara, San Diego, and Ventura counties), Northern California (the San Francisco Bay Area) and the Seattle metropolitan area.

Fund Activities

Essex Apartment Value Fund II, L.P. (“Fund II”) is an investment fund formed by the Company to add value through rental growth and asset appreciation, utilizing the Company’s development, redevelopment and asset management capabilities.  Fund II has eight institutional investors, and the Company, with combined partner equity contributions of $265.9 million.  The Company contributed $75.0 million to Fund II, which represents a 28.2% interest as general partner and limited partner.  Fund II utilized leverage equal to approximately 55% upon the initial acquisition of the underlying real estate.  Fund II invested in apartment communities in the Company’s targeted West Coast markets and, as of June 30, 2010, owned 14 apartment communities.  The Company records revenue for its asset management, property management, development and redevelopment services when earned, and promote income when realized if Fund II exceeds certain financial return benchmarks.

 
8


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

Marketable Securities

As of June 30, 2010, marketable securities consisted primarily of investment-grade unsecured bonds, a mortgage backed security and investment funds that invest in U.S. treasury or agency securities.  As of June 30, 2010, the Company classified its investment in the mortgage backed security as held to maturity, which matures November 2019, and accordingly, this security is stated at its amortized cost of $17.7 million.  The estimated fair vale of the mortgage backed security (a level 2 security) is approximately equal to the carrying value.  As of June 30, 2010 the Company classified the following marketable securities as available for sale (dollars in thousands):

   
June 30, 2010
 
         
Gross
       
   
Amortized
   
Unrealized
   
Fair
 
   
Cost
   
Gain/(Loss)
   
Value
 
Investment-grade unsecured bonds
  $ 53,218     $ 5,743     $ 58,961  
Investment funds - US treasuries
    15,696       129       15,825  
Total
  $ 68,914     $ 5,872     $ 74,786  
                         
   
December 31, 2009
 
           
Gross
         
   
Amortized
   
Unrealized
   
Fair
 
   
Cost
   
Gain/(Loss)
   
Value
 
Investment-grade unsecured bonds
  $ 110,338     $ 12,718     $ 123,056  
Investment funds - US treasuries
    12,040       (252 )     11,788  
Total
  $ 122,378     $ 12,466     $ 134,844  

The Company uses the specific identification method to determine the cost basis of a security sold and to reclassify amounts from accumulated other comprehensive income for securities sold.  For the three and six months ended June 30, 2010, the proceeds from sales of available for sale securities totaled $22.5 million and $64.7 million, respectively.  These sales all resulted in gains, which totaled $4.0 million and $9.0 million for the three and six months ended June 30, 2010, respectively.

Contractual maturities of the marketable securities classified as available for sale as of June 30, 2010 were as follows:

   
Amount
 
Due in 1-5 years
  $ 45,469  
Due in 5-10 years
    29,317  
Total
  $ 74,786  

The Company reports its available for sale securities at fair value, based on quoted market prices (Level 2 for the unsecured bonds and level 1 for the investment funds, as defined by the Financial Accounting Standards Board (“FASB”) standard entitled “Fair Value Measurements and Disclosures” as discussed later in Note 1), and any unrealized gain or loss is recorded as other comprehensive income (loss).  There were no impairment charges for the three and six months ended June 30, 2010 and 2009.  Realized gains and losses and interest income are included in interest and other income on the condensed consolidated statement of operations.  Amortization of unearned discounts is included in interest income.

Variable Interest Entities

The Company consolidates 19 DownREIT limited partnerships (comprising twelve communities), an office building that is subject to loans made by the Company, and 55 low income housing units since the Company is the primary beneficiary of these variable interest entities (“VIEs”).  Total DownREIT units outstanding were 1,124,980 and 1,129,205 as of June 30, 2010 and December 31, 2009 respectively, and the redemption value of the units, based on the closing price of the Company’s common stock totaled $109.7 million and $94.5 million, as of June 30, 2010 and December 31, 2009, respectively.  The consolidated total assets and liabilities related to these VIEs, net of intercompany eliminations, were approximately $230.5 million and $157.8 million, respectively, as of June 30, 2010 and $237.9 million and $164.4 million, respectively, as of December 31, 2009.  Interest holders in VIEs consolidated by the Company are allocated net income equal to the cash payments made to those interest holders or distributions from cash flow.  The remaining results of operations are generally allocated to the Company.  As of June 30, 2010 and December 31, 2009, the Company did not have any VIE’s of which it was not deemed to be the primary beneficiary.

 
9


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

Stock-Based Compensation

The Company accounts for share based compensation using the fair value method of accounting.  The estimated fair value of stock options granted by the Company is being amortized over the vesting period of the stock options.  The estimated grant date fair values of the long term incentive plan units (discussed in Note 13, “Stock Based Compensation Plans,” in the Company’s Form 10-K for the year ended December 31, 2009) are being amortized over the expected service periods.

Stock-based compensation expense for options and restricted stock totaled $0.3 million and $0.2 million for the three months ended June 30, 2010 and 2009, respectively, and $0.5 million for the six months ended June 30, 2010 and 2009, respectively.  The intrinsic value of the stock options exercised during the three months ended June 30, 2010 and 2009 totaled $0.5 million and $0.0, and $1.5 million and $0.4 million for the six months ended June 30, 2010 and 2009, respectively.  As of June 30, 2010, the intrinsic value of the stock options outstanding and fully vested totaled $5.6 million.  As of June 30, 2010, total unrecognized compensation cost related to unvested share-based compensation granted under the stock option and restricted stock plans totaled $3.6 million.  The cost is expected to be recognized over a weighted-average period of 1 to 3 years for the stock option plans and is expected to be recognized straight-line over 7 years for the restricted stock awards.

The Company has adopted an incentive program involving the issuance of Series Z and Series Z-1 Incentive Units (collectively referred to as “Z Units”) of limited partnership interest in the Operating Partnership.  Stock-based compensation expense for Z Units totaled $0.8 million and $0.4 million for the three months ended June 30, 2010 and 2009, respectively, and $1.4 million and $0.8 million for the six months ended June 30, 2010 and 2009, respectively.

During June 2010, the Operating Partnership issued 108,000 Series Z-1 Incentive Units (the “2010 Z-1 Units”) of limited partner interest to twenty executives of the Company in exchange for cash from seven executive officers of the Company, and a capital commitment from the remaining thirteen executives of $1.00 per 2010 Z-1 Unit.  The 2010 Z-1 Units are convertible one-for-one into common units of the Operating Partnership (which, in turn, are convertible into common stock of the Company) upon the earlier to occur of 100 percent vesting of the units or the year 2025.  The conversion ratchet (accounted for as vesting) of the 2010 Z-1 Units into common units, will increase to 20 percent effective January 1, 2011 if the Company achieves the FFO target of $4.75 per diluted share in 2010.  Each year thereafter, vesting of the 2010 Z-1 Units will be consistent with the Company’s annual FFO growth, but is not to be less than zero or greater than 14 percent.  The 2010 Z-1 Unit holders are entitled to receive 10 percent of dividends distributed to common stockholders in 2010, and if the Company achieves the FFO target of $4.75 per diluted share in 2010, the 2010 Z-1 Unit holders will be entitled to 25 percent of annual dividends paid in 2011.  Each year thereafter, the percent of distributions received by the 2010 Z-1 Unit holders will increase by the same percentage amounts that the 2010 Z-1 Units vesting increases, provided that once the 2010 Z-1 Units holders receive distributions of 30 percent, such distribution percentage will not increase further until the 2010 Z-1 Unit vesting is at the 30 percent level.  Once such vesting percentage is at the 30 percent level, subsequent distribution for 2010 Z-1 Unit holders will be equal to the vesting percentage with the 2010 Z-1 units.

Stock-based compensation capitalized for stock options, restricted stock awards, and the Z Units totaled $0.2 million and $0.1 million for the three months ended June 30, 2010 and 2009, respectively, and $0.4 and $0.2 for the six months ended June 30, 2010 and 2009, respectively.  As of June 30, 2010, the intrinsic value of the Z Units subject to future vesting totaled $15.0 million.  As of June 30, 2010, total unrecognized compensation cost related to Z Units subject to future vesting totaled $9.9 million.  The unamortized cost is expected to be recognized over the next year to fifteen years subject to the achievement of the stated performance criteria.

 
10


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

Fair Value of Financial Instruments

The Company values its financial instruments based on the fair value hierarchy of valuation techniques described in the FASB statement entitled “Fair Value Measurements and Disclosures”.  Level 1 inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.  Level 2 inputs include quoted prices for similar assets and liabilities in active markets and inputs other than quoted prices observable for the asset or liability.   Level 3 inputs are unobservable inputs for the asset or liability.

The Company uses Level 1 inputs for the fair values of its cash equivalents and its marketable securities except for unsecured bonds and mortgage backed securities.  The Company uses Level 2 inputs for its investments in unsecured bonds, mortgage backed securities, notes receivable, notes payable, and cash flow hedges.  These inputs include interest rates for similar financial instruments.  The Company’s valuation methodology for cash flow hedges is described in more detail in Note 8.  The Company does not use Level 3 inputs to estimate fair values of any of its financial instruments.  The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability. 

Management believes that the carrying amounts of its amounts outstanding under lines of credit, notes receivable and other receivables from related parties, and notes and other receivables approximate fair value as of June 30, 2010 and December 31, 2009, because interest rates, yields and other terms for these instruments are consistent with yields and other terms currently available for similar instruments.  Management has estimated that the fair value of the Company’s $1.38 billion of fixed rate debt at June 30, 2010 is approximately $1.44 billion and the fair value of the Company’s $264.5 million of variable rate debt, excluding borrowings under the lines of credit, at June 30, 2010 is $242.0 million based on the terms of existing mortgage notes payable and variable rate demand notes compared to those available in the marketplace.  Management believes that the carrying amounts of cash and cash equivalents, restricted cash, accounts payable and accrued liabilities, other liabilities and dividends payable approximate fair value as of June 30, 2010 due to the short-term maturity of these instruments.  Marketable securities and cash flow hedge liabilities are carried at fair value as of June 30, 2010, as discussed further above and in Note 8.

Accounting Estimates and Reclassifications

The preparation of condensed consolidated financial statements, in accordance with U.S. generally accepted accounting principles, requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to acquiring, developing and assessing the carrying values of its real estate properties, its investments in and advances to joint ventures and affiliates, its notes receivables and its qualification as a Real Estate Investment Trust (“REIT”). The Company bases its estimates on historical experience, current market conditions, and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may vary from those estimates and those estimates could be different under different assumptions or conditions.

Reclassifications for discontinued operations have been made to prior year statements of operations balances in order to conform to current year presentation.  Such reclassifications have no impact on reported earnings, cash flows, total assets or total liabilities.

New Accounting Pronouncements

In June 2009, the FASB issued an accounting standard entitled, "Amendments to FASB Interpretation No. 46(R)”, that amends existing standards, which among other things, replaces the quantitative-based risks and rewards calculation for determining which enterprise, if any, has a controlling financial interest in a variable interest entity with an approach focused on identifying which enterprise has the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance and (1) the obligation to absorb losses of the entity or (2) the right to receive benefits from the entity.  The Company adopted the standard on January 1, 2010 and there was no impact on the Company’s condensed consolidated financial statements.

 
11


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(2)  Significant Transactions During the Second Quarter of 2010 and Subsequent Events

(a)  Acquisitions

In late June, the Company acquired Eagle Rim, a 156-unit community located in Redmond, Washington for $18.6 million, and in July the Company acquired 101 San Fernando, a 323-unit community with 9,200 square feet of retail located in downtown San Jose, California for $64.1 million and The Commons, a 264-unit garden-style community located in Campbell, California for $42.5 million.

(b) Equity

During the second quarter, the Company issued 437,200 shares of common stock at an average price of $106.11, for $45.7 million, net of fees and commissions.

(c) Marketable Securities

During the second quarter, the Company sold $22.5 million of investment grade unsecured bonds for a gain of $4.0 million.

(d) Notes Receivable>

As discussed in note 4, during May, the Company purchased a note secured by Santee Court, a 165-unit condo community with 38,500 square feet of retail located in downtown Los Angeles, California for $21.0 million.  The note was purchased at approximately a 20% discount to the principal value and the note is due in October 2010.

(e) Debt

In conjunction with the acquisition of Eagle Rim, the Company assumed an $11.9 million mortgage note liability at a fixed rate of 5.3% which matures in July 2019.  Based on currently available borrowing rates, the Company recorded a loan premium reducing the interest rate to be recognized on this loan to 4.5%.

In July 2010, the Company paid-off two maturing loans that were cross collateralized by five communities totaling $129.5 million, including a $73.6 million loan at a fixed rate of 8.2% and a $55.9 million loan at a fixed rate of 7.7%.  The Company obtained fixed rate mortgage loans totaling $130.1 million secured by Hillcrest Park and Bel Air for $72.2 million and $57.9 million, respectively, which mature in July 2020, at a fixed rate of 4.6%. These two communities were part of the cross collateralized loans paid-off in July, and the remaining three communities are now unencumbered.  The Company also settled $100 million of forward starting swaps in July for $16.7 million in payments to the counterparties, which increased the effective interest on these two mortgage loans to 6.0%.

In July 2010, the joint venture that owns Essex Skyline at MacArthur Place obtained an $80.0 million secured loan, for a four year term plus a one year extension, at an interest rate of LIBOR + 285 basis points.

In July 2010, the Company financed the acquisition of 101 San Fernando with $35.2 million of tax exempt bonds due in years 2037 and 2046 (the “Bonds”) with Citibank, N.A. (“Citibank”).  The Company entered into a total return swap transaction (the “Swap”) with respect to these Bonds with Citibank, and under the terms of the Swap, Essex pays a variable amount equal to the SIFMA Index (Securities Industry and Financial Markets Association), plus 150 basis points on a notional amount equal to the accreted value (accretion from the initial discount purchase price to the par amount on the call date of September 1, 2012 and thereafter) of the outstanding Bonds.  In return, Citibank pays an amount equal to the coupon on the Bonds multiplied by the par notional amount. The swap has a termination date of July 2013, and may be terminated by the Company at any time commencing after one year and by Citibank if certain events occur. Upon termination of the Swap, a payment equal to the change in value of the Bonds will occur, irrespective if the termination occurs before or on the stated termination date.  If the Bonds decline in value the Company will be obligated to make a payment equal to 100% of the price depreciation, and if the Bonds increase in value, Citibank will be obligated to make a payment equal to 85% of the price appreciation.  In addition to the change in value payment upon termination of the Swap, whether early or on the stated termination date, Citibank will be obligated to pay the Company an amount equal to the bond accretion (the difference between initial discount purchase price and accreted value as described above) on such termination date.

 
12


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(3) Co-investments

The Company has joint venture investments in co-investments, which are accounted for under the equity method.  The joint ventures own, operate and develop apartment communities.  The following table details the Company's co-investments (dollars in thousands):

   
June 30,
   
December 31,
 
   
2010
   
2009
 
             
Investments in joint ventures accounted for under the equity method of accounting:
           
             
Limited partnership interest of 27.2% and general partner interest of 1% in Essex Apartment Value Fund II, L.P ("Fund II")
  $ 70,294     $ 70,283  
Membership interest in a limited liability company that owns Essex Skyline at MacArthur Place
    66,946       -  
      137,240       70,283  
Investments accounted for under the cost method of accounting:
               
Series A Preferred Stock interest in Multifamily Technology Solutions, Inc
    500       500  
Total co-investments
  $ 137,740     $ 70,783  

The combined summarized balance sheet and statements of operations for co-investments, which are accounted for under the equity method, are as follows (dollars in thousands).

   
June 30,
   
December 31,
 
   
2010
   
2009
 
Balance sheets:
           
Rental properties and real estate under development
  $ 658,102     $ 489,352  
Other assets
    24,190       30,458  
Total assets
  $ 682,292     $ 519,810  
                 
Mortgage notes
  $ 300,321     $ 312,859  
Other liabilities
    5,617       6,645  
Equity
    376,354       200,306  
Total liabilities and equity
  $ 682,292     $ 519,810  
Company's share of equity
  $ 137,240     $ 70,283  
                 
 
 
 
Three Months Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
    2010     2009     2010     2009  
Statements of operations:
                               
Property revenues
  $ 12,482     $ 11,708     $ 24,810     $ 23,538  
Property operating expenses
    (5,533 )     (4,665 )     (10,662 )     (8,817 )
Net property operating income
    6,949       7,043       14,148       14,721  
Interest expense
    (2,950 )     (2,653 )     (5,911 )     (4,846 )
Depreciation and amortization
    (4,756 )     (3,769 )     (9,209 )     (7,381 )
Total net (loss) income
  $ (757 )   $ 621     $ (972 )   $ 2,494  
Company's share of net (loss) income
  $ (360 )   $ 158     $ (401 )   $ 696  

 
13


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(4) Notes and Other Receivables

Notes receivable secured by real estate, and other receivables consist of the following as of June 30, 2010 and December 31, 2009 (dollars in thousands):

   
June 30,
   
December 31,
 
   
2010
   
2009
 
             
Note receivable, secured, bearing interest at 4.95%, due October 2010
  $ 21,495     $ -  
Note receivable, secured, bearing interest at 8.0%, due November 2010
    971       971  
Note receivable, secured, bearing interest at LIBOR + 4.75%, due March 2011
    7,391       7,317  
Note receivable, secured, bearing interest at LIBOR + 3.69%, due June 2011
    6,527       6,742  
Note receivable, secured, bearing interest at 6.5%, due August 2011
    3,221       3,199  
Note receivable, secured, bearing interest at LIBOR + 3.25%, due December 2012
    10,939       12,551  
Other receivables
    4,665       5,525  
    $ 55,209     $ 36,305  

In May, 2010, the Company purchased a loan secured by the community known as “Santee Court” located in Los Angeles, California. This $25.8 million loan was purchased at a discount for $21.0 million.  The loan is interest only at 4.95%, and matures on October 31, 2010.

In the second quarter of 2010, the borrower on the bridge loan secured by 301 Ocean Avenue a 47-unit apartment community located in Santa Monica, California made a principal payment of $1.6 million and the Company extended the maturity of the loan until December 2012.  Also during the second quarter the borrower on the loan secured by Emeryville Marketplace, a mixed use commercial property located in Emeryville, California made a $0.2 million principal payment and extended the maturity of the loan until June 2011.

(5) Related Party Transactions

Management and other fees from affiliates include management, development and redevelopment fees from Fund II of $1.0 million and $1.2 million for the three months ended June 30, 2010 and 2009, respectively, and $2.0 million and $2.4 million for the six months ended June 30, 2010 and 2009 respectively and property acquisition fee of $0.5 million from the limited liability company that owns Skyline at MacArthur Place for the six months ended June 30, 2010.  All of these fees are net of intercompany amounts eliminated by the Company.

An Executive Vice President of the Company invested $4.0 million for a 6% limited partnership interest in a partnership with the Company that acquired a 50% interest in a limited liability company that acquired Essex Skyline at MacArthur Place.  The Executive Vice President’s investment is equal to a pro-rata share of the contributions, and distributions resulting from distributable cash generated by Essex Skyline at MacArthur Place will be calculated in the same manner as the calculation of distributions to the third party investor.  The Executive Vice President does not participate in any promote interest or fees paid to the Company by the Essex Skyline at MacArthur Place joint venture.

In May 2010, the Board of Directors approved the partial redemption for cash by the Operating Partnership, of limited Operating Partnership units that were held by the Company's Chairman and founder, Mr. George M. Marcus at $106.76 per unit representing a 2% discount from the closing price of the Company’s common stock on May 17, 2010.  The Operating Partnership purchased 187,334 units from Mr. Marcus. Under the Operating Partnership’s partnership agreement, limited partnership units are exchangeable on a one-for-one basis into shares of the Company’s common stock, or at the Company’s option, for cash.  This transaction reduced Mr. Marcus’ ownership from 1,063,056 limited partnership units in the Operating Partnership to 875,722 units and following the transaction Mr. Marcus beneficially owned 1,587,041 shares or share equivalents of the Company’s stock. The redemption was requested by the Chairman to achieve his estate planning objectives.

 
14


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(6) Segment Information

The Company defines its reportable operating segments as the three geographical regions in which its apartment communities are located: Southern California, Northern California and Seattle Metro.  Excluded from segment revenues are properties classified in discontinued operations, management and other fees from affiliates, and interest and other income.  Non-segment revenues and net operating income included in the following schedule also consist of revenue generated from commercial properties which are primarily office buildings.  Other non-segment assets include co-investments, real estate under development, cash and cash equivalents, marketable securities, notes receivable, other assets and deferred charges.  The revenues, net operating income, and assets for each of the reportable operating segments are summarized as follows for the three months ended June 30, 2010 and 2009 (dollars in thousands):

   
Three Months Ended
 
   
June 30,
 
   
2010
   
2009
 
Revenues:
           
Southern California
  $ 50,954     $ 51,809  
Northern California
    29,973       30,497  
Seattle Metro
    16,712       18,083  
Other real estate assets
    1,975       2,087  
Total property revenues
  $ 99,614     $ 102,476  
                 
Net operating income:
               
Southern California
  $ 34,009     $ 35,077  
Northern California
    19,243       20,361  
Seattle Metro
    10,124       11,622  
Other real estate assets
    1,240       1,583  
Total net operating income
    64,616       68,643  
                 
Depreciation and amortization
    (31,261 )     (28,903 )
Interest expense
    (21,004 )     (21,509 )
Interest and other income
    7,085       2,867  
General and administrative
    (6,219 )     (5,852 )
Management and other fees from affiliates
    1,022       1,156  
Equity (loss) income from co-investments
    (360 )     158  
(Loss) gain on early retirement of debt
    (10 )     -  
Income before discontinued operations
  $ 13,869     $ 16,560  

 
15


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

The revenues, net operating income, and assets of the reportable operating segments are summarized as follows or the six months ended June 30, 2010 and 2009 (dollars in thousands):

   
Six Months Ended
 
   
June 30,
 
   
2010
   
2009
 
Revenues:
           
Southern California
  $ 101,880     $ 104,105  
Northern California
    59,961       61,339  
Seattle Metro
    33,440       36,801  
Other real estate assets
    4,039       4,145  
Total property revenues
  $ 199,320     $ 206,390  
                 
Net operating income:
               
Southern California
  $ 68,021     $ 70,904  
Northern California
    39,043       41,739  
Seattle Metro
    20,698       24,027  
Other real estate assets
    2,362       2,764  
Total net operating income
    130,124       139,434  
                 
Depreciation and amortization
    (61,748 )     (57,868 )
Interest expense
    (41,841 )     (41,713 )
General and administrative
    (11,837 )     (12,084 )
Impairment and other charges
    -       (5,752 )
Management and other fees from affiliates
    2,500       2,354  
(Loss) gain on early retirement of debt
    (10 )     6,124  
Interest and other income
    14,941       6,154  
Equity (loss) income from co-investments
    (401 )     696  
Income before discontinued operations
  $ 31,728     $ 37,345  

Total assets for each of the reportable operating segments are summarized as follows as of June 30, 2010 and December 31, 2009:

   
June 30,
   
December 31,
 
   
2010
   
2009
 
Assets:
           
Southern California
  $ 1,220,391     $ 1,239,657  
Northern California
    908,048       923,103  
Seattle Metro
    428,508       417,708  
Other real estate assets
    83,066       82,998  
Net reportable operating segments - real estate assets
    2,640,013       2,663,466  
Real estate under development
    331,266       274,965  
Cash and cash equivalents
    27,796       37,934  
Marketable securities
    92,510       134,844  
Co-investments
    137,740       70,783  
Notes and other receivables
    55,209       36,305  
Other non-segment assets
    39,648       36,340  
Total assets
  $ 3,324,182     $ 3,254,637  

 
16


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(7)  Net Income Per Common Share>
(Amounts in thousands, except per share and unit data)

   
Three Months Ended
   
Three Months Ended
 
   
June 30, 2010
   
June 30, 2009
 
   
Income
   
Weighted-average Common Shares
   
Per Common Share Amount
   
Income
   
Weighted-average Common Shares
   
Per Common Share Amount
 
Basic:
                                   
Income from continuing operations available to common stockholders
  $ 9,482       29,329     $ 0.32     $ 10,581       26,831     $ 0.39  
Income (loss) from discontinued operations available to common stockholders
    -       29,329       -       834       26,831       0.04  
      9,482             $ 0.32       11,415             $ 0.43  
                                                 
Effect of Dilutive Securities (1)(2)
    -       73               -       22          
                                                 
Diluted:
                                               
Income from continuing operations available to common stockholders
  $ 9,482       29,402     $ 0.32     $ 10,581       26,853     $ 0.39  
Income from discontinued operations available to common stockholders
    -       29,402       -       834       26,853       0.04  
    $ 9,482             $ 0.32     $ 11,415             $ 0.43  
                                                 
                                                 
   
Six Months Ended
   
Six Months Ended
 
   
June 30, 2010
   
June 30, 2009
 
   
Income
   
Weighted Average Common Shares
   
Per Common Share Amount
   
Income
   
Weighted Average Common Shares
   
Per Common Share Amount
 
Basic:
                                               
Income before discontinued operations available to common stockholders
  $ 22,609       29,150     $ 0.78     $ 50,462       26,530     $ 1.90  
Income (loss) from discontinued operations available to common stockholders
    -       29,150       -       3,218       26,530       0.12  
      22,609             $ 0.78       53,680             $ 2.02  
                                                 
Effect of Dilutive Securities (1)(2)
    -       64               3,133       2,470          
                                                 
Diluted:
                                               
Income from continuing operations available to common stockholders (1)
  $ 22,609             $       $ 50,462             $    
Add: noncontrolling interests OP unitholders
    -                       2,905                  
Adjusted income from continuing operations available to common stockholders (1)
    22,609       29,214       0.77     $ 53,367       29,000       1.84  
Income (loss) from discontinued operations available to common stockholders
    -                       3,218                  
Add: noncontrolling interests OP unitholders
    -                       228                  
Adjusted income from discontinued operations available to common stockholders
    -       29,214       -       3,446       29,000       0.12  
    $ 22,609             $ 0.77     $ 56,813             $ 1.96  

 
17


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

(1)
Weighted convertible limited partnership units of 2,357,321 and 2,388,406 which includes vested Series Z incentive units, for the three and six months ended June 30, 2010, respectively, were not included in the determination of diluted EPS because they were anti-dilutive.  Convertible limited partnership units of 2,450,002 which includes vested Series Z incentive units, for the three months ended June 30, 2009 were excluded in the determination of diluted EPS because they were anti-dilutive.  Convertible limited partnership units of 2,447,390, which includes vested Series Z incentive units, for the six months ended June 30, 2009 were included in the determination of diluted EPS because they were dilutive.  The Company has the ability to redeem DownREIT limited partnership units for cash and does not consider them to be potentially dilutive securities.

The holders of the exchangeable notes may exchange, at the then applicable exchange rate, the notes for cash and, at the Company’s option, a portion of the notes may be exchanged for Essex common stock; the exchange rate as of June 30, 2010 was $100.65 per share of Essex common stock.  During the three months ended June 30, 2010 the weighted average common stock price exceeded the strike price and therefore common stock issuable upon exchange of the exchangeable notes of 754 shares were included in the diluted share count as the effect was dilutive.  During the six months ended June 30, 2010 the weighted average common stock price did not exceed the strike price and therefore common stock issuable upon exchange of the exchangeable notes were not included in the diluted share count as the effect was anti-dilutive.

Stock options of 131,664 and 263,721 for the three months ended June 30, 2010 and 2009, respectively, and 147,690 and 265,685 for the six months ended June 30, 2010 and 2009, respectively, were not included in the diluted earnings per share calculation because the exercise price of the options were greater than the average market price of the common shares for the three and six months ended and, therefore, were anti-dilutive.  Stock options of 73,362 and 22,386 for the three months ended June 30, 2010 and 2009, respectively, and 64,051 and 22,937 for the six months ended June 30, 2010 and 2009, respectively, were included in the determination of diluted EPS.

All shares of cumulative convertible preferred stock Series G have been excluded from diluted earnings per share for the three and six months ended June 30, 2010 and 2009, as the effect of the approximately 33 thousand shares that would be issued upon conversion were anti-dilutive.

(2)
For the three and six months ended June 30, 2010, net income allocated to convertible limited partnership units and vested Series Z units aggregating $0.8 million and $1.9 million, respectively, have been excluded from income available to common stock holders for the calculation of net income per common share since these units are excluded from the diluted weighted average common shares for the period. For the three months ended June 30, 2009, net income allocated to convertible limited partnership units and vested Series Z units aggregating $1.3 million has been excluded from income available to common stock holders for the calculation of net income per common share since these units are excluded in the diluted weighted average common shares for the period. For the six months ended June 30, 2009, net income allocated to convertible limited partnership units and vested Series Z units aggregating $3.1 million has been included in income available to common stock holders for the calculation of net income per common share since these units are included in the diluted weighted average common shares for the period.

(8)  Derivative Instruments and Hedging Activities

Currently, the Company uses interest rate swaps and interest rate cap contracts to manage certain interest rate risks. The valuation of these instruments is determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. The Company incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements.

 
18


ESSEX PROPERTY TRUST, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
June 30, 2010 and 2009
(Unaudited)

As of June 30, 2010 the Company had seven forward-starting interest rate swap contracts totaling a notional amount of $375.0 million with interest rates ranging from 5.1% to 5.9% and settlements dates ranging from October 2010 to October 2011.  These derivatives qualify for hedge accounting as they are expected to economically hedge the cash flows associated with future financing of debt between 2010 and 2011.  The Company had twelve interest rate cap contracts totaling a notional amount of $191.9 million that qualify for hedge accounting as they effectively limit the Company’s exposure to interest rate risk by providing a ceiling on the underlying variable interest rate for the Company’s $213.8 million of tax exempt variable rate debt.  The aggregate carrying value of the forward-starting interest rate swap contracts was a net liability of $72.5 million and the aggregate carrying value of the interest rate cap contracts was an asset of $0.3 million.  The overall fair value of the derivatives changed by $42.0 million during the six months ended June 30, 2010 to a net liability of $72.2 million as of June 30, 2010, and the derivative liability was recorded in cash flow hedge liabilities in the Company’s condensed consolidated financial statements.  During July, the Company settled $100 million of forward starting swaps for $16.7 million in payments to the counterparties which increased the effective interest rate on two mortgage loans obtained in July 2010 for $130.1 million from a fixed rate of 4.6% to an effective rate of 6.0%.  The changes in the fair values of the derivatives are reflected in other comprehensive (loss) income in the Company’s condensed consolidated financial statements.  No hedge ineffectiveness on cash flow hedges was recognized during the quarters ended June 30, 2010 and 2009.

(9)  Discontinued Operations

In the normal course of business, the Company will receive offers for sale of its communities, either solicited or unsolicited. For those offers that are accepted, the prospective buyer will usually require a due diligence period before consummation of the transaction.  It is not unusual for matters to arise that result in the withdrawal or rejection of the offer during this process.  The Company classifies real estate as "held for sale" when the sale is considered to be probable.

In the first quarter of 2009, the Company sold Carlton Heights Villas, a 70-unit property located in Santee, California and Grand Regency, a 60-unit property in Escondido, California for an aggregate gain of $2.4 million.  During the second quarter of 2009, the Company sold Mountain View Apartments, a 106-unit community located in Camarillo, California for a gain of $0.8 million.  During the third quarter of 2009, the Company sold Spring Lake, a 69-unit community located in Seattle, Washington.  During the fourth quarter of 2009, the Company sold Maple Leaf, a 48-unit community located in Seattle, Washington.  The operations for these sold communities are included in discontinued operations for the three and six months ended June 30, 2009.

The components of discontinued operations are outlined below and include the results of operations for the respective periods that the Company owned such assets, as described above (dollars in thousands).

   
Three Months Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
   
2010
   
2009
   
2010
   
2009
 
                         
Rental revenues
  $ -     $ 729     $ -     $ 1,653  
Property operating expenses
    -       (293 )     -       (649 )
Depreciation and amortization
    -       (170 )     -       (409 )
Income from real estate sold