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

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 1999

[_] 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 1-12675

KILROY REALTY CORPORATION
(Exact name of registrant as specified in its charter)

Maryland 95-4598246
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)

2250 East Imperial Highway, Suite 1200, El Segundo, California 90245
(Address of principal executive offices)

(310) 563-5500
(Registrant's telephone number, including area code)

N/A
(Former name, former address and former fiscal year, if changed since last
report)

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

As of November 12, 1999, 27,894,210 shares of common stock, par value $.01
per share, were outstanding.

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KILROY REALTY CORPORATION

QUARTERLY REPORT FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1999

TABLE OF CONTENTS

Page
----
PART I--FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS (unaudited)
Consolidated Balance Sheets as of September 30, 1999 and
December 31, 1998.............................................. 3
Consolidated Statements of Operations for the Three and Nine
Months Ended
September 30, 1999 and 1998..................................... 4
Consolidated Statements of Cash Flows for the Nine Months Ended
September 30, 1999 and 1998..................................... 5
Notes to the Consolidated Financial Statements.................. 6
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS........................................... 13
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...... 27

PART II--OTHER INFORMATION

Item 1. LEGAL PROCEEDINGS............................................... 30
Item 2. CHANGES IN SECURITIES........................................... 30
Item 3. DEFAULTS UPON SENIOR SECURITIES................................. 30
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............. 30
Item 5. OTHER INFORMATION............................................... 30
Item 6. EXHIBITS AND REPORTS ON FORM 8-K................................ 30
SIGNATURES...................................................... 31

PART I--FINANCIAL INFORMATION

ITEM 1. Financial Statements

KILROY REALTY CORPORATION

CONSOLIDATED BALANCE SHEETS
(unaudited, in thousands, except share data)

September 30, December 31,
1999 1998
------------- ------------

ASSETS
------
INVESTMENT IN REAL ESTATE (Note 2):
Land and improvements.............................. $ 279,499 $ 253,500
Buildings and improvements......................... 935,152 828,425
Undeveloped land and construction in progress, net. 139,392 112,359
---------- ----------
Total investment in real estate................... 1,354,043 1,194,284
Accumulated depreciation and amortization.......... (165,000) (145,437)
---------- ----------
Investment in real estate, net.................... 1,189,043 1,048,847

CASH AND CASH EQUIVALENTS............................ 6,857 6,443
RESTRICTED CASH...................................... 7,451 6,896
TENANT RECEIVABLES, NET.............................. 17,006 15,630
NOTES RECEIVABLE FROM RELATED PARTIES................ 8,798
DEFERRED FINANCING AND LEASING COSTS, NET............ 22,160 16,168
PREPAID EXPENSES AND OTHER ASSETS.................... 2,403 3,146
---------- ----------
TOTAL ASSETS...................................... $1,244,920 $1,105,928
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
LIABILITIES:
Mortgage debt (Note 3)............................. $ 236,667 $ 133,383
Unsecured line of credit (Note 3).................. 290,000 272,000
Accounts payable and accrued expenses.............. 16,334 16,791
Accrued distributions (Note 8)..................... 13,567 12,895
Rents received in advance and tenant security
deposits.......................................... 16,222 14,460
---------- ----------
Total liabilities................................. 572,790 449,529
---------- ----------
COMMITMENTS AND CONTINGENCIES
MINORITY INTERESTS (Note 4):
8.075% Series A Cumulative Redeemable Preferred
unitholders....................................... 73,716 73,718
9.375% Series C Cumulative Redeemable Preferred
unitholders....................................... 34,464 34,410
Common unitholders................................. 75,646 72,372
Development LLCs................................... 9,766
---------- ----------
Total minority interests.......................... 193,592 180,500
---------- ----------
STOCKHOLDERS' EQUITY (Note 5):
Preferred stock, $.01 par value,
27,200,000 shares authorized,
none issued and outstanding ......................
8.075% Series A Cumulative Redeemable
Preferred stock, $.01 par value,
1,700,000 shares authorized,
none issued and outstanding.......................
Series B Junior Participating
Preferred stock, $.01 par value,
400,000 shares authorized, none issued and
outstanding.......................................
9.375% Series C Cumulative Redeemable
Preferred stock, $.01 par value,
700,000 shares authorized, none issued and
outstanding.......................................
Common stock, $.01 par value, 150,000,000 shares
authorized, 27,894,210 and 27,639,210 shares
issued and outstanding, respectively.............. 279 276
Additional paid-in capital......................... 493,409 487,467
Distributions in excess of earnings................ (15,150) (11,844)
---------- ----------
Total stockholders' equity........................ 478,538 475,899
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY........ $1,244,920 $1,105,928
========== ==========

See accompanying notes to consolidated financial statements.

KILROY REALTY CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited, in thousands, except share and per share data)

Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
1999 1998 1999 1998
----------- ----------- ----------- -----------

REVENUES (Note 6):
Rental income...................... $ 34,959 $ 30,369 $ 101,941 $ 84,817
Tenant reimbursements.............. 4,214 3,768 12,530 10,845
Interest income.................... 239 308 860 1,191
Other income....................... 790 74 1,722 941
----------- ----------- ----------- -----------
Total revenues................... 40,202 34,519 117,053 97,794
----------- ----------- ----------- -----------
EXPENSES:
Property expenses.................. 5,054 4,732 15,517 13,769
Real estate taxes.................. 3,108 2,800 8,969 7,358
General and administrative
expenses.......................... 2,266 1,797 6,781 5,499
Ground leases...................... 331 302 1,002 897
Interest expense................... 6,501 5,263 18,420 14,642
Depreciation and amortization...... 7,900 6,740 22,577 19,159
----------- ----------- ----------- -----------
Total expenses................... 25,160 21,634 73,266 61,324
----------- ----------- ----------- -----------
INCOME FROM OPERATIONS BEFORE GAIN ON
SALE OF OPERATING PROPERTIES, EQUITY
IN (LOSS) INCOME OF UNCONSOLIDATED
SUBSIDIARY AND MINORITY INTERESTS... 15,042 12,885 43,787 36,470
GAIN ON SALE OF OPERATING PROPERTIES. 75 75
EQUITY IN (LOSS) INCOME OF
UNCONSOLIDATED SUBSIDIARY........... (8) 1 (22) (24)
----------- ----------- ----------- -----------
INCOME BEFORE MINORITY INTERESTS..... 15,109 12,886 43,840 36,446
----------- ----------- ----------- -----------
MINORITY INTERESTS:
Distributions on Cumulative
Redeemable Preferred units........ (2,334) (1,450) (7,003) (3,704)
Minority interest in earnings of
Operating Partnership............. (1,830) (1,451) (5,186) (4,093)
Minority interest in earnings of
Development LLCs.................. (34) (34)
----------- ----------- ----------- -----------
Total minority interests......... (4,198) (2,901) (12,223) (7,797)
----------- ----------- ----------- -----------
NET INCOME........................... $ 10,911 $ 9,985 $ 31,617 $ 28,649
=========== =========== =========== ===========
Net income per common share-basic
(Note 7)............................ $ 0.39 $ 0.36 $ 1.14 $ 1.07
=========== =========== =========== ===========
Net income per common share-diluted
(Note 7)............................ $ 0.39 $ 0.36 $ 1.14 $ 1.07
=========== =========== =========== ===========
Weighted average shares outstanding-
basic (Note 7)...................... 27,658,014 27,647,688 27,640,016 26,770,445
=========== =========== =========== ===========
Weighted average shares outstanding-
diluted (Note 7).................... 27,676,512 27,647,688 27,674,515 26,865,274
=========== =========== =========== ===========

See accompanying notes to consolidated financial statements.

KILROY REALTY CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited, in thousands)

Nine Months Ended
September 30,
--------------------
1999 1998
--------- ---------

CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................................................... $ 31,617 $ 28,649
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization................................................................. 22,577 19,159
Provision for uncollectable tenant receivables and deferred rent.............................. 1,744 1,059
Minority interest in earnings of Operating Partnership........................................ 5,186 4,093
Minority interest in earnings of Development LLCs............................................. 34
Restricted stock compensation................................................................. 381 405
Gain on sale of operating properties.......................................................... (75)
Gain on sale of undeveloped land.............................................................. (539)
Other......................................................................................... (213) (262)
Changes in assets and liabilities:
Tenant receivables........................................................................... (3,120) (6,494)
Deferred leasing costs....................................................................... (2,127) (401)
Prepaid expenses and other assets............................................................ 505 561
Accounts payable and accrued expenses........................................................ 466 4,596
Rents received in advance and tenant security deposits....................................... 1,762 2,395
Accrued distributions to Cumulative Redeemable Preferred unitholders......................... 52 757
--------- ---------
Net cash provided by operating activities................................................... 58,250 54,517
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for operating properties......................................................... (37,428) (216,168)
Expenditures for undeveloped land and construction in progress................................ (115,601) (65,353)
Proceeds from sale of operating properties.................................................... 11,000
Proceeds from sale of undeveloped land........................................................ 5,051
Cash paid for note receivable to related party................................................ (6,655)
Decrease in escrow deposits................................................................... 295 4,713
Net advances to unconsolidated subsidiary..................................................... (935) (382)
--------- ---------
Net cash used in investing activities....................................................... (137,618) (283,845)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuances of common stock................................................... 82,146
Net proceeds from issuances of Cumulative Redeemable Preferred units.......................... 72,961
Net borrowings on unsecured line of credit.................................................... 18,000 128,000
Proceeds from issuance of mortgage debt....................................................... 125,000 5,000
Principal payments on mortgage debt........................................................... (21,716) (2,443)
Financing costs............................................................................... (918) (1,335)
Increase in restricted cash................................................................... (555) (616)
Distributions paid to common stockholders and common unitholders.............................. (40,029) (36,003)
--------- ---------
Net cash provided by financing activities................................................... 79,782 247,710
--------- ---------
Net increase in cash and cash equivalents...................................................... 414 18,382
Cash and cash equivalents, beginning of period................................................. 6,443 8,929
--------- ---------
Cash and cash equivalents, end of period ...................................................... $ 6,857 $ 27,311
========= =========

SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest, net of capitalized interest........................................... $ 17,287 $ 13,580
========= =========
Distributions paid to Cumulative Redeemable Preferred unitholders............................. $ 6,930 $ 2,947
========= =========
NON-CASH TRANSACTIONS:
Accrual of distributions payable (Note 8)..................................................... $ 13,567 $ 12,811
========= =========
Issuance of common limited partnership units of the Operating Partnership to acquire operating
properties and undeveloped land (Note 2)..................................................... $ 9,915 $ 16,031
========= =========
Minority interest recorded in connection with Development LLC undeveloped land acquisitions
(Notes 2 and 4).............................................................................. $ 9,733
=========
Note receivable from related party satisfied in connection with Development LLC undeveloped
land acquisition (Note 2).................................................................... $ 2,267
=========

See accompanying notes to consolidated financial statements.

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

1. Organization and Basis of Presentation

Organization

Kilroy Realty Corporation (the "Company") develops, owns, and operates
office and industrial real estate, primarily in Southern California. The
Company, which operates as a self-administered real estate investment trust
("REIT"), commenced operations upon the completion of its initial public
offering in January 1997. As of September 30, 1999, the Company's stabilized
portfolio consisted of 88 office properties and 88 industrial properties,
which encompassed approximately 6.2 million and 6.4 million rentable square
feet, respectively, and was 95.5% occupied. The Company's stabilized portfolio
consists of all of the Company's office and industrial properties excluding
properties recently developed by the Company that have not yet reached 95.0%
occupancy ("lease-up" properties) and projects currently under construction or
in pre-development. As of September 30, 1999, the Company had seven office
properties under construction which when completed are expected to encompass
an aggregate of 810,900 rentable square feet. In addition, the Company had
recently completed construction on two industrial properties encompassing an
aggregate of 558,100 rentable square feet, which were in lease-up at September
30, 1999. Lease-up properties are included in land and improvements and
building and improvements on the consolidated balance sheets upon building
shell completion. The Company owns its interests in all of its properties
through Kilroy Realty, L.P. (the "Operating Partnership") and Kilroy Realty
Finance Partnership, L.P. and conducts substantially all of its operations
through the Operating Partnership. The Company owned an 86.4% general
partnership interest in the Operating Partnership as of September 30, 1999.

The majority of the Company's properties are located in Southern California.
The ability of the tenants to honor the terms of their respective leases is
dependent upon the economic, regulatory and social factors affecting the
communities and industries in which the tenants operate.

Basis of Presentation

The accompanying interim financial statements have been prepared by the
Company's management in accordance with generally accepted accounting
principles and in conjunction with the rules and regulations of the Securities
and Exchange Commission ("SEC"). Certain information and footnote disclosures
required for annual financial statements have been condensed or excluded
pursuant to SEC rules and regulations. Accordingly, the interim financial
statements do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements. In
the opinion of management, the interim financial statements presented herein
reflect all adjustments of a normal and recurring nature which are considered
necessary for a fair presentation of the results for the interim periods
presented. The results of operations for the interim period are not
necessarily indicative of the results that may be expected for the year ended
December 31, 1999. These financial statements should be read in conjunction
with the audited consolidated financial statements and the notes thereto
included in the Company's Annual Report on Amendment 1 to Form 10-K on Form
10K-A for the year ended December 31, 1998.

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

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

2. Acquisitions and Dispositions

Acquisitions

In February 1999, the Company acquired three acres of undeveloped land in
San Diego, California for $0.4 million in cash and 119,460 common limited
partnership units of the Operating Partnership valued at $2.5 million based
upon the closing share price of the Company's common stock as reported on the
New York Stock Exchange ("NYSE") at the time the property was acquired. The
undeveloped land was acquired from The Allen Group, a group of affiliated real
estate development companies based in Visalia, California. A former Executive
Vice President of the Company received 76,896 of the total 119,460 common
units issued in connection with the acquisition. The acquisition was based
upon terms that the Company believes were comparable to terms obtainable from
third-parties based on arm's-length negotiations and was funded primarily from
existing working capital.

In March 1999, the Company acquired one office property containing 126,000
aggregate rentable square feet in San Diego, California for $17.5 million in
cash and 168,402 common limited partnership units of the Operating Partnership
valued at $3.6 million based upon the closing share price of the Company's
common stock as reported on the NYSE at the time the property was acquired.
The office property, which is 100% leased through February 2014, was acquired
pursuant to an existing agreement executed by the Company and The Allen Group
in October 1997. In connection with this anticipated transaction, the Company
entered into an agreement in May 1998 to loan up to $2.3 million to a limited
liability company controlled by Richard S. Allen, a former member of the
Company's Board of Directors, to finance tenant improvements to this property.
The $2.3 million balance of the note and the related interest, which accrued
at a rate of Prime plus 1.00%, were repaid to the Company in connection with
the acquisition. A former Executive Vice President of the Company received
98,476 of the total 168,402 common units issued in connection with the
acquisition. The acquisition was based upon terms that the Company believes
were comparable to terms obtainable from third-parties based on arm's-length
negotiations and was funded primarily from existing working capital and
borrowings on the Company's revolving credit facility.

During the first quarter of 1999, the Company acquired a 50% interest in 55
acres of undeveloped land in San Diego, California for $16.1 million and
184,172 common limited partnership units of the Operating Partnership valued
at $3.8 million based upon the closing share price of the Company's common
stock as reported on the NYSE at the time the property was acquired. The
undeveloped land was acquired pursuant to an existing agreement executed by
the Company and The Allen Group in October 1997 that provided for the joint
development of two office projects with approximately 1.1 million aggregate
rentable square feet over the next five years. Both the Company and The Allen
Group contributed their respective 50% interests in the undeveloped land to
two limited liability companies (the "Development LLCs"). In connection with
this anticipated transaction, the Company entered into an agreement in May
1998 to loan up to $8.5 million to a limited partnership controlled by Richard
S. Allen to finance infrastructure improvements on the undeveloped land. The
$8.5 million balance of the note was assumed by one of the Development LLCs.
The related interest, which accrued at a rate of LIBOR plus 1.85%, was paid to
the Company by the limited partnership. A former Executive Vice President of
the Company received 69,694 of the total 184,172 common units issued in
connection with the acquisition. The acquisition was based upon terms that the
Company believes were comparable to terms obtainable from third-parties based
on arm's-length negotiations and was funded primarily from existing working
capital and borrowings on the Company's revolving credit facility.

In March 1999, the Company acquired construction materials for its Kilroy
Airport Center, Long Beach development project from a partnership controlled
by John B. Kilroy, Sr., the Chairman of the Company's Board

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

of Directors, and John B. Kilroy, Jr., the Company's President and Chief
Executive Officer, for approximately $4.3 million. The acquisition of the
construction materials was based upon terms that the Company believes were
comparable to terms obtainable from third-parties based upon arm's-length
negotiations and was funded primarily with existing working capital and
borrowings on the Company's revolving credit facility.

In April 1999, the Company acquired nine acres of undeveloped land in San
Diego, California from an unaffiliated third party for $4.3 million in cash.
The Company acquired the undeveloped land by exercising an option obtained in
connection with the acquisition of the adjacent office property in April 1998.
Prior to the acquisition, the Company had leased the undeveloped land from the
seller under a ground lease. The acquisition of
the undeveloped land was funded primarily from existing working capital and
borrowings on the Company's revolving credit facility.

In May 1999, the Company acquired the 12.5% minority interest in a three-
building office complex in Diamond Bar, California from an unaffiliated third
party for $1.2 million in cash. The Company had originally purchased its 87.5%
interest in the office complex in September 1997. The acquisition of the
minority interest was funded primarily from existing working capital and
borrowings on the Company's revolving credit facility.

In July 1999, the Company acquired one office property containing
approximately 50,900 aggregate rentable square feet in San Diego, California
for $9.5 million in cash. The office property, which is 100% leased through
July 2004, was acquired from an unaffiliated third party. The acquisition was
funded primarily from existing working capital and borrowings on the Company's
revolving credit facility.

Dispositions

In February 1999, the Company sold eight acres of its 18-acre undeveloped
land parcel in Calabasas, California to the City of Calabasas for a total sales
price of $1.4 million. The land is part of a 66-acre development site which is
presently entitled for over 1.0 million rentable square feet of office, retail
and hotel development. The Company presently plans to develop 213,000 rentable
square feet of office space on the remaining ten acres it currently owns. The
infrastructure improvements on the land were financed with public facility
bonds which were refinanced in February 1999. In connection with the
refinancing, the portion of the original obligation that related to the eight
acres the Company sold to the City of Calabasas was defeased. The refinanced
bonds, which were sponsored by the City of Calabasas, currently have a
principal balance of $12.5 million. The bonds do not contain cross-
collateralization provisions and therefore if one property owner defaulted on
their special tax payments, the other property owners would not be obligated to
repay the defaulted taxes. Based on the planned development of the total site,
the Company's maximum obligation for its portion of the development site is
currently estimated at $5.5 million, but may decrease depending on the actual
size and number of buildings built. Because the assessment on each individual
property owner is dependent upon the rate of development of the entire
development site and therefore is not fixed and determinable, the Company did
not record the obligation. The periodic assessments are currently capitalized
as development costs and will be charged to operations upon the completion of
construction. The gain on sale of $0.1 million from the sale of the eight acres
of undeveloped land is included in other income in the consolidated statements
of operations. The Company used the proceeds to fund development expenditures.

In May 1999, the Company sold five acres of undeveloped land in San Diego,
California to an unaffiliated third party for a total sales price of $3.7
million in cash. The gain on sale of $0.4 million is included in other income
in the consolidated statements of operations. The Company used the sale
proceeds to repay outstanding borrowings under its revolving credit facility
and to fund development expenditures.

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

In August 1999, the Company sold, in two separate transactions with
unaffiliated third parties, two industrial properties totaling approximately
279,100 aggregate rentable square feet for an aggregate sales price of
$11.0 million. The properties are located in Ontario and Ventura, California.
The total gain on sale of $0.1 million from these two dispositions is reported
after income from operations on the consolidated statements of operations. The
Company used the sale proceeds to repay outstanding borrowings under its
revolving credit facility and to fund development expenditures.

3. Unsecured Line of Credit and Mortgage Debt

As of September 30, 1999, the Company had borrowings of $290 million
outstanding under its revolving unsecured line of credit (the "Credit
Facility") and availability of approximately $41.1 million. In November 1999,
the Company increased its borrowing capacity and obtained a new $400 million
unsecured revolving credit facility (the "$400 million Credit Facility") to
replace the existing $350 million Credit Facility which was scheduled to
mature in February 2000. The $400 million Credit Facility, which will bear
interest at a rate between LIBOR plus 1.13% and LIBOR plus 1.75% depending
upon the Company's leverage ratio at the time of borrowing and will mature in
November 2002, was syndicated to a group of 15 banks led by Morgan Guaranty
Trust Company of New York and The Chase Manhattan Bank. The Company expects to
use the $400 million Credit Facility to finance development expenditures, to
fund acquisitions and for general corporate uses.

In March 1999, the Company borrowed $95.0 million under a mortgage loan that
is secured by nine office and industrial properties, requires monthly
principal and interest payments based on a fixed annual interest rate of
7.20%, amortizes over 25 years and matures in April 2009. The Company used the
proceeds from the mortgage loan to repay outstanding borrowings under the
Credit Facility and to fund development expenditures.

In April 1999, the Company borrowed $30.0 million under a mortgage loan that
is secured by one office property and the related ground leases, requires
monthly principal and interest payments based on a fixed annual interest rate
of 7.15% and matures in May 2017. The Company used the proceeds from the loan
to repay an existing variable rate mortgage loan with an outstanding balance
of $19.0 million, to repay outstanding borrowings under the Credit Facility
and to fund development expenditures.

In October 1999, the Company borrowed $90.0 million under a debt facility
that is secured by 13 office properties, requires monthly interest-only
payments based on a floating interest rate of LIBOR plus 1.75% and matures in
October 2003. The Company used the proceeds from the secured debt facility to
repay outstanding borrowings under the Credit Facility and to fund development
expenditures.

Total interest capitalized for the three months ended September 30, 1999 and
1998 was $3.2 million and $2.2 million, respectively. Total interest
capitalized for the nine months ended September 30, 1999 and 1998 was $8.1
million and $6.2 million, respectively.

4. Minority Interests

Minority interests represent the preferred and common limited partnership
interests in the Operating Partnership and interests held by The Allen Group
in the Development LLCs.

During the nine months ended September 30, 1999, the Operating Partnership
issued 472,034 common limited partnership units of the Operating Partnership
in connection with operating property and undeveloped

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

land acquisitions (see Note 2). In addition, 265,000 common limited partnership
units of the Operating Partnership were exchanged in September 1999 into shares
of the Company's common stock on a one-for-one basis (see Note 5). The Company
owned an 86.4% general partnership interest in the Operating Partnership as of
September 30, 1999.

During the first quarter of 1999, the Company became a 50% managing member in
each of the Development LLCs as a result of the acquisition of certain
undeveloped land and the contribution of such land to the Development LLCs (see
Note 2). The Development LLCs are consolidated for financial reporting purposes
because the Company holds a 50% ownership interest combined with the ability to
control all significant development decisions.

5. Stockholders Equity

During 1999, the Company filed two registration statements on Form S-3 with
the SEC which registered the potential issuance and resale of up to a total of
3,867,850 shares of the Company's common stock in exchange for 3,867,850 common
limited partnership units of the Operating Partnership previously issued in
connection with certain 1997 and 1998 property acquisitions. The SEC declared
the registration statements effective in September and October 1999. The common
limited partnership units may be exchanged at the Company's option into shares
of the Company's common stock on a one-for-one basis. Neither the Company nor
the Operating Partnership will receive any of the proceeds from the issuance of
the common stock to the identified common unitholders. In September 1999,
265,000 common limited partnership units of the Operating Partnership owned by
John B. Kilroy, Sr., the Chairman of the Company's Board of Directors, and
Kilroy Industries, an entity owned by John B. Kilroy, Sr. and John B. Kilroy,
Jr., the Company's President and Chief Executive Officer, were exchanged into
shares of the Company's common stock.

In September 1999, the SEC declared effective the Company's registration
statement on Form S-3 with respect to 1,000,000 shares of the Company's common
stock to be issued under the Company's Dividend Reinvestment and Direct
Purchase Plan (the "Plan"). The Plan, which is designed to provide the
Company's stockholders and other investors with a convenient and economical
method to purchase shares of the Company's common stock, consists of three
programs: the Dividend Reinvestment Program (the "DRIP"), the Cash Option
Purchase Plan (the "COPP") and the Waiver Discount Plan (the "WDP"). The DRIP
provides existing common stockholders with the opportunity to purchase
additional shares of the Company's common stock by automatically reinvesting
all or a portion of their cash dividends. The COPP provides existing common
stockholders and other investors with the opportunity to purchase additional
shares of the Company's common stock by making optional cash purchases, at no
discount to market, between $100 to $5,000 and $750 to $5,000, respectively, in
any calendar month. The WDP provides existing common stockholders and other
investors with the opportunity to purchase additional shares of the Company's
common stock by making optional cash purchases, at a discount to market of up
to 2.00% of the average per share price reported on the NYSE, of greater than
$5,000 in any calendar month. The Plan will acquire shares of the Company's
common stock from either new issuances directly from the Company or from the
open market or from privately negotiated transactions, except for transactions
executed under the WDP which will be purchased only from previously unissued
shares of common stock. Participation in the Plan is entirely voluntary, and
can be terminated at any time. As of September 30, 1999, there have been no
shares issued under the Plan.

In May 1999, the Company filed a registration statement on Form S-8 with the
SEC that registered the potential issuance and resale of up to 1,500,000 shares
of the Company's common stock issuable to the Company's employees and directors
under the 1997 Stock Option and Incentive Plan.

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

6. Segment Disclosure

The Company evaluates the performance of its segments based upon net
operating income. Net operating income is defined as operating revenues
(rental income, tenant reimbursements and other property income) less property
and related expenses (property expenses, real estate taxes and ground leases)
and does not include interest income and expense, depreciation and
amortization and corporate general and administrative expenses. All operating
revenues are comprised of amounts received from external tenants.

Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- -----------------
1999 1998 1999 1998
--------- --------- -------- -------
(in thousands)

Revenues and Expenses:
Office Properties:
Operating revenues.................. $ 27,270 $ 24,205 $ 80,039 $68,386
Property and related expenses....... 6,798 6,132 19,995 17,627
--------- --------- -------- -------
Net operating income, as defined.... 20,472 18,073 60,044 50,759
--------- --------- -------- -------
Industrial Properties:
Operating revenues.................. 12,693 10,006 36,154 28,217
Property and related expenses....... 1,695 1,702 5,493 4,397
--------- --------- -------- -------
Net operating income, as defined.... 10,998 8,304 30,661 23,820
--------- --------- -------- -------
Total Reportable Segments:
Operating revenues.................. 39,963 34,211 116,193 96,603
Property and related expenses....... 8,493 7,834 25,488 22,024
--------- --------- -------- -------
Net operating income, as defined.... 31,470 26,377 90,705 74,579
--------- --------- -------- -------
Reconciliation to Consolidated Net
Income:
Total net operating income, as
defined, for reportable segments... 31,470 26,377 90,705 74,579
Other unallocated revenues:
Interest income................... 239 308 860 1,191
Other unallocated expenses:
General and administrative
expenses......................... 2,266 1,797 6,781 5,499
Interest expense.................. 6,501 5,263 18,420 14,642
Depreciation and amortization..... 7,900 6,740 22,577 19,159
--------- --------- -------- -------
Net income from operations before
gain on sale of operating
properties, equity in (loss) income
of unconsolidated subsidiary and
minority interests................. 15,042 12,885 43,787 36,470
Gain on sale of industrial operating
properties......................... 75 75
Equity in (loss) income of
unconsolidated subsidiary.......... (8) 1 (22) (24)
Minority interests.................. (4,198) (2,901) (12,223) (7,797)
--------- --------- -------- -------
Net income.......................... $ 10,911 $ 9,985 $ 31,617 $28,649
========= ========= ======== =======

KILROY REALTY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Nine Months Ended September 30, 1999 and 1998
(Unaudited)

7. Earnings Per Share

Basic earnings per share is computed by dividing net income by the weighted-
average number of common shares outstanding for the period. Diluted earnings
per share is computed by dividing net income by the sum of the weighted-
average number of common shares outstanding for the period plus the number of
common shares issuable assuming the exercise of all dilutive securities. The
Company does not consider common units of the Operating Partnership to be
dilutive since the exchange of common units into common stock is on a one-for-
one basis and would not have any effect on diluted earnings per share. The
following table reconciles the numerator and denominator of the basic and
diluted per-share computations for net income.

Three Months Ended Three Months Ended
September 30, 1999 September 30, 1998
------------------------------------ -----------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ---------
(in thousands, except share and per share amounts)

Basic................... $10,911 27,658,014 $0.39 $ 9,985 27,647,688 $0.36
Effect of dilutive
securities:
Stock options granted. 18,498
------- ---------- ----- ------- ---------- -----
Diluted................. $10,911 27,676,512 $0.39 $ 9,985 27,647,688 $0.36
======= ========== ===== ======= ========== =====

Nine Months Ended Nine Months Ended
September 30, 1999 September 30, 1998
------------------------------------ -----------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ---------
(in thousands, except share and per share amounts)

Basic................... $31,617 27,640,016 $1.14 $28,649 26,770,445 $1.07
Effect of dilutive
securities:
Stock options granted. 34,499 94,829
------- ---------- ----- ------- ---------- -----
Diluted................. $31,617 27,674,515 $1.14 $28,649 26,865,274 $1.07
======= ========== ===== ======= ========== =====

At September 30, 1999, Company employees and directors held options to
purchase 1,343,000 shares of the Company's common stock that were antidilutive
to the diluted earnings per share computation. These options could become
dilutive in future periods if the average market price of the Company's common
stock exceeds the exercise price of the outstanding options.

8. Subsequent Events

On October 15, 1999, aggregate distributions of $13.6 million were paid to
common stockholders and common unitholders of record on September 30, 1999.

On October 22, 1999, the Company executed a $90.0 million secured debt
facility (see Note 3).

On November 8, 1999, the Company increased its borrowing capacity and
obtained a new $400 million unsecured revolving credit facility to replace the
existing $350 million Credit Facility which was scheduled to mature in
February 2000. (see Note 3).

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

The following discussion relates to the consolidated financial statements of
the Company and should be read in conjunction with the financial statements
and notes thereto appearing elsewhere in this report. Statements contained in
this "Management's Discussion and Analysis of Financial Condition and Results
of Operations" that are not historical facts may be forward-looking
statements. Such statements are subject to certain risks and uncertainties,
which could cause actual results to differ materially from those projected.
You are cautioned not to place undue reliance on these forward-looking
statements.

Overview and Background

Results of Operations

During the nine months ended September 30, 1999, the Company acquired three
office buildings encompassing 176,900 rentable square feet, for a total
purchase price of $30.6 million. During 1998, the Company acquired 25 office
and 16 industrial buildings totaling 1.4 million and 674,000 aggregate
rentable square feet, respectively, for an aggregate acquisition cost of
approximately $254 million. Operating results for acquired properties are
included in the consolidated financial statements of the Company subsequent to
their respective acquisition dates.

During the nine months ended September 30, 1999, the Company completed the
development of four office and two industrial projects encompassing an
aggregate of 419,800 rentable square feet and 390,300 rentable square feet,
respectively. During the fourth quarter of 1998, the Company completed the
development of three industrial projects encompassing an aggregate of 723,800
rentable square feet. Of these development projects completed subsequent to
September 30, 1998, all but five industrial buildings encompassing an
aggregate of 558,100 rentable square feet were included in the Company's
portfolio of stabilized operating properties at September 30, 1999. The
Company's stabilized portfolio of operating properties consists of all of the
Company's office and industrial properties excluding properties recently
developed by the Company that have not yet reached 95% occupancy ("lease-up
properties") and projects currently under construction or in pre-development.
The five industrial buildings encompassing an aggregate of 558,100 rentable
square feet were in lease-up as of September 30, 1999.

As a result of the properties acquired and the projects developed by the
Company subsequent to September 30, 1998, rentable square footage in the
Company's portfolio of stabilized operating properties increased 1.5 million
rentable square feet, or 13.5% to 12.6 million rentable square feet at
September 30, 1999 compared to 11.1 million rentable square feet at September
30, 1998. As of September 30, 1999, the Company's stabilized portfolio was
comprised of 88 office properties (the "Office Properties") encompassing 6.2
million rentable square feet and 88 industrial properties (the "Industrial
Properties" and together with the Office Properties, the "Properties")
encompassing 6.4 million rentable square feet. The stabilized portfolio
occupancy rate at September 30, 1999 was 95.5%, with the Office and Industrial
Properties 93.2% and 97.6% occupied, respectively.

Three Months Ended September 30, 1999 Compared to Three Months Ended September
30, 1998

Three Months
Ended
September 30,
--------------- Dollar Percentage
1999 1998 Change Change
------- ------- ------ ----------
(dollars in thousands)

Revenues:
Rental income............................. $34,959 $30,369 $4,590 15.1%
Tenant reimbursements..................... 4,214 3,768 446 11.8
Interest income........................... 239 308 (69) (22.4)
Other income.............................. 790 74 716 967.6
------- ------- ------
Total revenues.......................... 40,202 34,519 5,683 16.5
------- ------- ------
Expenses:
Property expenses......................... 5,054 4,732 322 6.8
Real estate taxes......................... 3,108 2,800 308 11.0
General and administrative expenses....... 2,266 1,797 469 26.1
Ground leases............................. 331 302 29 9.6
Interest expense.......................... 6,501 5,263 1,238 23.5
Depreciation and amortization............. 7,900 6,740 1,160 17.2
------- ------- ------
Total expenses.......................... 25,160 21,634 3,526 16.3
------- ------- ------
Income from operations before gain on sale
of operating properties, equity in (loss)
income of unconsolidated subsidiary and
minority interests......................... $15,042 $12,885 $2,157 16.7%
======= ======= ======

Rental Operations

Management evaluates the operations of its portfolio based on operating
property type. The following tables compare the net operating income, defined
as operating revenues less property and related expenses (property expenses,
real estate taxes and ground leases) before depreciation, for the Office and
Industrial Properties for the three months ended September 30, 1999 and 1998.

Office Properties

Three Months
Ended
September 30,
--------------- Dollar Percentage
1999 1998 Change Change
------- ------- ------ ----------
(dollars in thousands)

Operating revenues:
Rental income.............................. $23,829 $21,316 $2,513 11.8%
Tenant reimbursements...................... 2,729 2,827 (98) (3.5)
Other income............................... 712 62 650 1048.4
------- ------- ------
Total.................................... 27,270 24,205 3,065 12.7
------- ------- ------
Property and related expenses:
Property expenses.......................... 4,502 4,097 405 9.9
Real estate taxes.......................... 1,965 1,733 232 13.4
Ground leases.............................. 331 302 29 9.6
------- ------- ------
Total.................................... 6,798 6,132 666 10.9
------- ------- ------
Net operating income, as defined............. $20,472 $18,073 $2,399 13.3%
======= ======= ======

Total revenues from Office Properties increased $3.1 million, or 12.7% to
$27.3 million for the three months ended September 30, 1999 compared to $24.2
million for the three months ended September 30, 1998. Rental income from
office properties increased $2.5 million, or 11.8% to $23.8 million for the
three months ended September 30, 1999 compared to $21.3 million for the three
months ended September 30, 1998. Of this increase, $1.5 million was generated
by the office properties acquired during 1999 and 1998 (the "Office
Acquisitions") and $1.0 million was generated by the office properties
developed by the Company in 1999 and in 1998 (the "Office Development
Properties"). Rental income generated by the stabilized office properties
owned at January 1, 1998 and still owned at September 30, 1999 (the "Core
Office Portfolio") remained consistent for the three months ended September
30, 1999 as compared to the same period in 1998. Average occupancy in the Core
Office Portfolio decreased 2.3% to 91.8% for the three months ended September
30, 1999 compared to 94.1% for the same period in 1998. The decrease in rental
income resulting from the decrease in occupancy was offset by an increase in
rental rates.

Tenant reimbursements from Office Properties decreased $0.1 million, or 3.5%
from $2.7 million for the three months ended September 30, 1999 compared to
$2.8 million for the three months ended September 30, 1998. An increase of
$0.1 million in tenant reimbursements generated by the Office Acquisitions and
the Office Development Properties was offset by a decrease of $0.2 million in
tenant reimbursements generated by the Core Office Portfolio. The decrease was
attributable to the decrease in occupancy in this portfolio. Other income from
Office Properties increased $0.6 million or 1048.4% to $0.7 million for the
three months ended September 30, 1999 compared to $0.1 million for the three
months ended September 30, 1998. For the three months ended September 30,
1999, other income from Office Properties included a $0.5 million lease
termination fee from one tenant at Kilroy Airport Center Long Beach, a Core
Office Portfolio property. The termination of this lease was initiated by the
Company in order to provide an additional 27,000 square feet of space to a
tenant that leased 100% of the recently completed 136,000 square foot office
project at Kilroy Airport Center, Long Beach. Both leases expire on October
31, 2009. The remaining amounts in other income from Office Properties for the
three months ended September 30, 1999 and total other income from Office
Properties for the three months ended September 30, 1998 consisted primarily
of additional lease termination fees, management fees and tenant late charges.

Total expenses from Office Properties increased $0.7 million, or 10.9% to
$6.8 million for the three months ended September 30, 1999 compared to $6.1
million for the three months ended September 30, 1998. Property expenses
increased $0.4 million, or 9.9% to $4.5 million for the three months ended
September 30, 1999 compared to $4.1 million for the same period in 1998. The
total increase of $0.4 million in property expenses from Office Properties was
attributable to the Office Acquisitions and the Office Development Properties.
Property expenses for the Core Office Portfolio remained consistent for the
three months ended September 30, 1999 compared to the comparable period in
1998 due to management's implementation of cost saving measures. Real estate
taxes increased $0.2 million, or 13.4% to $1.9 million for the three months
ended September 30, 1999 as compared to $1.7 million for the comparable period
in 1998. This increase was primarily attributable to real estate taxes on the
Office Acquisitions and Office Development Properties. Property taxes for the
Core Office Portfolio remained consistent for the three months ended September
30, 1999 as compared to the same period in 1998. Ground lease expense from
Office Properties remained consistent for the three months ended September 30,
1999 compared to the same period in 1998.

Net operating income, as defined, from Office Properties increased $2.4
million, or 13.3% to $20.5 million for the three months ended September 30,
1999 compared to $18.1 million for the three months ended September 30, 1998.
Of this increase, $2.1 million was generated by the Office Acquisitions and
the Office Development Properties. The remaining increase of $0.3 million was
generated by the Core Office Portfolio and represented a 2.4% increase in net
operating income for the Core Office Portfolio.

Industrial Properties

Three Months Ended
September 30,
------------------- Dollar Percentage
1999 1998 Change Change
--------- --------- ------ ----------
(dollars in thousands)

Operating revenues:
Rental income.......................... $ 11,130 $ 9,053 $2,077 22.9%
Tenant reimbursements.................. 1,485 941 544 57.8
Other income........................... 78 12 66 550.0
--------- --------- ------
Total................................ 12,693 10,006 2,687 26.9
--------- --------- ------
Property and related expenses:
Property expenses...................... 552 635 (83) (13.1)
Real estate taxes...................... 1,143 1,067 76 7.1
--------- --------- ------
Total................................ 1,695 1,702 (7) (0.4)
--------- --------- ------
Net operating income, as defined......... $ 10,998 $ 8,304 $2,694 32.4%
========= ========= ======

Total revenues from Industrial Properties increased $2.7 million, or 26.9%
to $12.7 million for the three months ended September 30, 1999 compared to
$10.0 million for the three months ended September 30, 1998. Rental income
from Industrial Properties increased $2.1 million, or 22.9% to $11.1 million
for the three months ended September 30, 1999 compared to $9.0 million for the
three months ended September 30, 1998. Of this increase, $0.7 million was
generated by the industrial properties acquired during 1999 and 1998 and two
industrial properties disposed of by the Company in August 1999 (the
"Industrial Acquisitions and Dispositions") and $1.1 million was generated by
the industrial properties developed by the Company in 1999 and 1998 (the
"Industrial Development Properties"). The remaining $0.3 million of the
increase was generated by the stabilized industrial properties owned at
January 1, 1998 and still owned at September 30, 1999 (the "Core Industrial
Portfolio") and represented a 3.4% increase in rental income for the Core
Industrial Portfolio. Average occupancy in the Core Industrial Portfolio
increased 1.9% to 98.4% for the three months ended September 30, 1999 as
compared to 96.5% for the same period in 1998 which contributed to the
increase in rental income. The remaining increase in rental income generated
by the Core Industrial Portfolio was attributable to increases in rental
rates.

Tenant reimbursements from Industrial Properties increased $0.5 million, or
57.8% to $1.5 million for the three months ended September 30, 1999 compared
to $1.0 million for three months ended September 30, 1998. Of this increase,
$0.3 million was attributable to the Industrial Acquisitions, net of
Industrial Dispositions, and the Industrial Development Properties. The
remaining $0.2 million was generated by the Core Industrial Portfolio and was
attributable to the increase in occupancy for this portfolio. Other income
from Industrial Properties increased by $0.1 million for the three months
ended September 30, 1999 compared to the same period in 1998 primarily due to
a $0.1 million lease termination fee from a Core Industrial Portfolio tenant.

Total expenses from Industrial Properties remained consistent for the three
months ended September 30, 1999 compared to the same period in 1998. Property
expenses from Industrial Properties decreased by $0.1 million, or 13.1% to
$0.5 million for the three months ended September 30, 1999 compared to $0.6
million for the three months ended September 30, 1998. The decrease in
property expenses from Industrial Properties was attributable to management's
implementation of cost saving measures portfolio wide. Real estate taxes from
Industrial properties increased by $0.1 million, or 7.1% to $1.2 million for
the three months ended September 30, 1999 compared to $1.1 million for the
same period in 1998. The increase was primarily due to real estate taxes at
the Industrial Development Properties. Real estate taxes for the Core
Industrial Portfolio remained consistent for the three months ended September
30, 1999 compared to the same period in 1998.

Net operating income, as defined, from Industrial Properties increased $2.7
million, or 32.4% to $11.0 million for the three months ended September 30,
1999 compared to $8.3 million for the three months

ended September 30, 1998. Of this increase, $2.2 million was generated by the
Industrial Acquisitions and Dispositions and the Industrial Development
Properties. The remaining $0.5 million was generated by the Core Industrial
Portfolio and represented an 8.0% increase in net operating income for the
Core Industrial Portfolio.

Non-Property Related Income and Expenses

Interest income decreased $0.1 million, or 22.4% to $0.2 million for the
three months ended September 30, 1999 compared to $0.3 million for the three
months ended September 30, 1998. The decrease was due primarily to the receipt
of interest income on notes receivable from related parties during the three
months ended September 30, 1998.

General and administrative expenses increased $0.5 million, or 26.1% to $2.3
million for the three months ended September 30, 1999 compared to $1.8 million
for the three months ended September 30, 1998 due to increased management,
administrative and personnel costs associated with the Company's increased
portfolio size.

Interest expense increased $1.2 million, or 23.5% to $6.5 million for the
three months ended September 30, 1999 compared to $5.3 million for the
comparable period in 1998, primarily due to a net increase in aggregate
indebtedness. The Company's weighted average interest rate decreased 0.16% to
7.15% at September 30, 1999 as compared to 7.31% at September 30, 1998.

Depreciation and amortization increased $1.2 million, or 17.2% to $7.9
million for the three months ended September 30, 1999 compared to $6.7 million
for the comparable period in 1998. The increase was due primarily to a full
quarter of depreciation on properties acquired and developed by the Company
during 1998 and depreciation on properties acquired and developed by the
Company during 1999.

Nine Months Ended September 30, 1999 Compared to Nine Months Ended September
30, 1998

Nine Months
Ended
September 30,
---------------- Dollar Percentage
1999 1998 Change Change
-------- ------- ------- ----------
(dollars in thousands)

Revenues:
Rental income........................... $101,941 $84,817 $17,124 20.2%
Tenant reimbursements................... 12,530 10,845 1,685 15.5
Interest income......................... 860 1,191 (331) (27.8)
Other income............................ 1,722 941 781 83.0
-------- ------- -------
Total revenues........................ 117,053 97,794 19,259 19.7
-------- ------- -------
Expenses:
Property expenses....................... 15,517 13,769 1,748 12.7
Real estate taxes....................... 8,969 7,358 1,611 21.9
General and administrative expenses..... 6,781 5,499 1,282 23.3
Ground leases........................... 1,002 897 105 11.7
Interest expense........................ 18,420 14,642 3,778 25.8
Depreciation and amortization........... 22,577 19,159 3,418 17.8
-------- ------- -------
Total expenses........................ 73,266 61,324 11,942 19.5
-------- ------- -------
Income from operations before gain on sale
of operating properties, equity in (loss)
income of unconsolidated subsidiary and
minority interests....................... $ 43,787 $36,470 $ 7,317 20.1%
======== ======= =======

Rental Operations

Office Properties

Nine Months Ended
September 30,
----------------- Dollar Percentage
1999 1998 Change Change
-------- -------- ------- ----------
(dollars in thousands)

Operating revenues:
Rental income............................ $ 69,931 $ 59,412 $10,519 17.7%
Tenant reimbursements.................... 8,513 8,137 376 4.6
Other income............................. 1,595 837 758 90.6
-------- -------- -------
Total.................................. 80,039 68,386 11,653 17.0
-------- -------- -------
Property and related expenses:
Property expenses........................ 13,538 12,027 1,511 12.6
Real estate taxes........................ 5,455 4,703 752 16.0
Ground leases............................ 1,002 897 105 11.7
-------- -------- -------
Total.................................. 19,995 17,627 2,368 13.4
-------- -------- -------
Net operating income, as defined........... $ 60,044 $ 50,759 $ 9,285 18.3%
======== ======== =======

Total revenues from Office Properties increased $11.6 million, or 17.0% to
$80.0 million for the nine months ended September 30, 1999 compared to $68.4
million for the nine months ended September 30, 1998. Rental income from
Office Properties increased $10.5 million, or 17.7% to $69.9 million for the
nine months ended September 30, 1999 compared to $59.4 million for the nine
months ended September 30, 1998. Of this increase, $6.2 million was generated
by the office properties acquired during 1999 and 1998 (the "Office
Acquisitions") and $2.7 million was generated by the office properties
developed by the Company in 1999 and 1998 (the "Office Development
Properties"). The remaining $1.6 million of the increase was generated by the
stabilized office properties owned at January 1, 1998 and still owned at
September 30, 1999 (the "Core Office Portfolio"), and represented a 3.2%
increase in rental income for the Core Office Portfolio. Average occupancy in
the Core Office Portfolio decreased 0.8% to 93.3% for the nine months ended
September 30, 1999 compared to 94.1% for the same period in 1998. The increase
in rental income generated by the Core Office Portfolio was attributable to
increases in rental rates.

Tenant reimbursements from Office Properties increased $0.4 million, or 4.6%
to $8.5 million for the nine months ended September 30, 1999 compared to $8.1
million for the nine months ended September 30, 1998. An increase of $0.6
million in tenant reimbursements generated by the Office Acquisitions and the
Office Development Properties was offset by a decrease of $0.2 million in
tenant reimbursements generated by the Core Office Portfolio. This decrease in
tenant reimbursements for the Core Office Portfolio correlates with a decrease
in property expenses for this portfolio of properties. Other income from
Office Properties increased $0.8 million, or 90.6% to $1.6 million for the
nine months ended September 30, 1999 compared to $0.8 million for the same
period in 1998. For the nine months ended September 30, 1999, other income
from Office Properties included $0.5 million in gains from the sale of 13
acres of undeveloped land in Calabassas and San Diego, California and
$0.8 million in lease termination fees at Core Office Portfolio properties.
Other income from Office Properties for the nine months ended September 30,
1998 included a $0.5 million consulting fee for assisting an existing tenant
with potential expansion plans. The remaining amounts in other income from
Office Properties for both periods consisted primarily of management fees and
tenant late charges.

Total expenses from Office Properties increased $2.4 million, or 13.4% to
$20.0 million for the nine months ended September 30, 1999 compared to $17.6
million for the nine months ended September 30, 1998. Property expenses from
Office Properties increased $1.5 million, or 12.6% to $13.5 million for the
nine months ended September 30, 1999 compared to $12.0 million for the nine
months ended September 30, 1998. Of this increase, $1.6 million was
attributable to the Office Acquisitions and the Office Development Properties.
This increase was offset by a $0.1 million decrease in property expenses for
the Core Office Portfolio, which was due primarily to management's
implementation of cost saving measures. Real estate taxes from Office
Properties increased $0.8 million, or 16.0% to $5.5 million for the nine
months ended September 30, 1999 compared to $4.7 million for the nine months
ended September 30, 1998. This increase was solely attributable to real estate
taxes at the Office Acquisitions and Office Development Properties. Real
estate taxes for the Core Office Portfolio remained consistent for the nine
months ended September 30, 1999 compared to the comparable period in 1998.
Ground lease expense from Office Properties increased $0.1 million, or 11.7%
for the nine months ended September 30, 1999 compared to the same period in
1998 primarily due to a full nine months of ground lease expense at one of the
1998 Office Acquisitions.

Net operating income, as defined, from Office Properties increased $9.3
million, or 18.3% to $60.0 million for the nine months ended September 30,
1999 compared to $50.7 million for the nine months ended September 30, 1998.
Of this increase, $7.2 million was generated by the Office Acquisitions and
the Office Development Properties. The remaining increase of $2.1 million was
generated by the Core Office Portfolio and represented a 4.9% increase in net
operating income for the Core Office Portfolio.

Industrial Properties

Nine Months Ended
September 30,
---------------- Dollar Percentage
1999 1998 Change Change
-------- ------- ------ ----------
(dollars in thousands)

Operating Revenues:
Rental income............................... $32,010 $25,405 $6,605 26.0%
Tenant reimbursements....................... 4,017 2,708 1,309 48.3
Other income................................ 127 104 23 22.1
------- ------- ------
Total..................................... 36,154 28,217 7,937 28.1
------- ------- ------
Property and related expenses:
Property expenses........................... 1,979 1,742 237 13.6
Real estate taxes........................... 3,514 2,655 859 32.4
------- ------- ------
Total..................................... 5,493 4,397 1,096 24.9
------- ------- ------
Net operating income, as defined.............. $30,661 $23,820 $6,841 28.7%
======= ======= ======

Total revenues from Industrial Properties increased $7.9 million, or 28.1%
to $36.1 million for the nine months ended September 30, 1999 compared to
$28.2 million for the nine months ended September 30, 1998. Rental income from
Industrial Properties increased $6.6 million, or 26.0% to $32.0 million for
the nine months ended September 30, 1999 compared to $25.4 million for the
nine months ended September 30, 1998. Of this increase, $2.8 million was
generated by the industrial properties acquired during 1999 and 1998 and the
two industrial properties disposed of by the Company in August 1999 (the
"Industrial Acquisitions and Dispositions") and $3.4 million was generated by
the industrial properties developed by the Company in 1999 and 1998 (the
"Industrial Development Properties"). The remaining $0.4 million increase was
generated by the stabilized industrial properties owned at January 1, 1998 and
still owned at September 30, 1999 (the "Core Industrial Portfolio") and
represented a 1.9% increase in rental income for the Core Industrial
Portfolio. Average occupancy in the Core Industrial Portfolio remained
consistent for the nine months ended September 30, 1999 compared to the same
period in 1998. The increase in rental income from the Core Industrial
Portfolio was primarily attributable to increases in rental rates.

Tenant reimbursements from Industrial Properties increased $1.3 million, or
48.3% to $4.0 million for the nine months ended September 30, 1999 compared to
$2.7 million for the nine months ended September 30, 1998. Of this increase,
$0.9 million was attributable to the Industrial Acquisitions and the
Industrial Development Properties. The remaining $0.4 million was generated by
to the Core Industrial Portfolio and was primarily due to an increase in real
estate taxes reimbursable by tenants. Other income from Industrial Properties
remained consistent for the nine months ended September 30, 1999 compared to
the nine months ended September 30, 1998.

Total expenses from Industrial Properties increased $1.1 million, or 24.9%
to $5.5 million for the nine months ended September 30, 1999 compared to $4.4
million for the nine months ended September 30, 1998. Property expenses from
Industrial Properties increased $0.2 million, or 13.6% to $2.0 million for the
nine months ended September 30, 1999 compared to $1.8 million for the nine
months ended September 30, 1998. This increase was attributable solely to the
Industrial Acquisitions and Dispositions and the Industrial Development
Properties. Property expenses for the Core Industrial Portfolio remained
consistent for the nine months ended September 30, 1999 compared to the same
period in 1998. Real estate taxes from Industrial Properties increased $0.9
million, or 32.4% to $3.5 million for the nine months ended September 30, 1999
compared to $2.6 million for the nine months ended September 30, 1998. Of this
increase, $0.5 million was attributable to the Industrial Acquisitions and
Dispositions and the Industrial Development Properties. The remaining $0.4
million increase was generated by the Core Industrial Portfolio and was
primarily due to acquisition-related assessments on properties acquired by the
Company in 1997.

Net operating income, as defined, from Industrial Properties increased $6.8
million, or 28.7% to $30.6 million for the nine months ended September 30,
1999 compared to $23.8 million for the nine months ended September 30, 1998.
Of this increase, $6.4 million was generated by the Industrial Acquisitions
and Dispositions and the Industrial Development Properties. The remaining $0.4
million was generated by the Core Industrial Portfolio and represented a 2.3%
increase in net operating income for the Core Industrial Portfolio.

Non-Property Related Income and Expenses

Interest income decreased $0.3 million, or 27.8% to $0.9 million for the
nine months ended September 30, 1999 compared to $1.2 million for the nine
months ended September 30, 1998. The Company had higher outstanding cash
balances during 1998 due to proceeds received from equity offerings and
preferred unit transactions.

General and administrative expenses increased $1.3 million, or 23.3% to $6.8
million for the nine months ended September 30, 1999 compared to $5.5 million
for the nine months ended September 30, 1998 due to increased management,
administrative and personnel costs associated with the Company's increased
portfolio size.

Interest expense increased $3.8 million, or 25.8% to $18.4 million for the
nine months ended September 30, 1999 compared to $14.6 million for the
comparable period in 1998, primarily due to a net increase in aggregate
indebtedness. The Company's weighted average interest rate decreased 0.16% to
7.15% at September 30, 1999 as compared to 7.31% at September 30, 1998.

Depreciation and amortization increased $3.4 million, or 17.8% to $22.6
million for the nine months ended September 30, 1999 compared to $19.2 million
for the comparable period in 1998. The increase was due primarily to a full
nine months of depreciation on properties acquired during 1998, and
depreciation on properties developed by the Company during 1998 and 1999.

Liquidity and Capital Resources

facility (the "$400 million Credit Facility") to replace the existing $350
million Credit Facility which was scheduled to mature in February 2000. The
$400 million Credit Facility, which will bear interest at a rate between LIBOR
plus 1.13% and LIBOR plus 1.75% depending upon the Company's leverage ratio at
the time of borrowing, will mature in November 2002. The Company expects to
use the $400 million Credit Facility to finance development expenditures, to
fund acquisitions and for general corporate uses.

In March 1999, the Company borrowed $95.0 million under a mortgage loan that
is secured by nine office and industrial properties, requires monthly
principal and interest payments based on a fixed annual interest rate of
7.20%, amortizes over 25 years and matures in April 2009. The Company used the
proceeds from the mortgage loan to repay borrowings under the Credit Facility
and to fund development expenditures.

In September 1999, the SEC declared effective the Company's registration
statement on Form S-3 with respect to 1,000,000 shares of the Company's common
stock to be issued under the Company's Dividend Reinvestment and Direct
Purchase Plan (the "Plan"). The Plan, which is designed to provide the
Company's stockholders and other investors with a convenient and economical
method to purchase shares of the Company's common stock, consists of three
programs: the DRIP, the COPP and the WDP. The DRIP provides existing common
stockholders with the opportunity to purchase additional shares of the
Company's common stock by automatically reinvesting all or a portion of their
cash dividends. The COPP provides existing common stockholders and other
investors with the opportunity to purchase additional shares of the Company's
common stock by making optional cash purchases, at no discount to market,
between $100 to $5,000 and $750 to $5,000, respectively, in any calendar
month. The WDP provides existing common stockholders and other investors with
the opportunity to purchase additional shares of the Company's common stock by
making optional cash purchases, at a discount to market of up to 2.00% of the
average per share price reported on the NYSE, of greater than $5,000 in any
calendar month. The Plan will acquire shares of the Company's common stock
from either new issuances directly from the Company, from the open market or
from privately negotiated transactions, except for transactions executed under
the WDP which will be purchased only from previously unissued shares of common
stock. Participation in the Plan is entirely voluntary, and can be terminated
at any time. The Company intends to use the proceeds received from the Plan,
less transaction costs, for development and investment activities, repayment
of outstanding indebtedness and general corporate uses. As of September 30,
1999, there have been no shares issued under the Plan.

In February 1998, the SEC declared effective the Company's "shelf"
registration statement on Form S-3 with respect to $400 million of the
Company's equity securities. As of November 12, 1999, an aggregate of $313
million of equity securities were available for issuance under the
registration statement.

Capital Expenditures

As of September 30, 1999, the Company had approximately 1.1 million rentable
square feet of office space that was either under construction or committed
for construction at a total budgeted cost of approximately $219 million. The
Company has spent an aggregate of $78.9 million on these projects as of
September 30, 1999. The Company intends to finance the presently budgeted $140
million of remaining development costs with construction loan financing,
borrowings under the Credit Facility and working capital.

In connection with an agreement signed with The Allen Group in October 1997,
the Company has agreed to purchase one office property encompassing 128,000
rentable square feet, subject to the property meeting certain occupancy
thresholds. The purchase price for this property will be determined at the
time of acquisition based on the property's net operating income at that time.
If the acquisition is completed, it would be financed with borrowings under
the Credit Facility and the issuance of common limited partnership units of
the Operating Partnership.

The agreement with The Allen Group also provides for the development of two
office projects in San Diego, California with approximately 1.1 million
aggregate rentable square feet for an estimated aggregate development cost of
approximately $150 million. During the first quarter of 1999, the Company
purchased a 50% managing interest in both of the development projects. The
Company has the option to purchase The Allen Group's remaining interest in
both projects for a purchase price to be determined upon completion of the
projects. Construction of phase I of the first office project was completed
during the second quarter of 1999. With respect to construction of the second
office project, phase I is scheduled to be completed during the fourth quarter
of 1999, phases II and III commenced during the second and third quarters of
1999, respectively, and phase IV is scheduled to begin during the second
quarter of 2000. The total presently budgeted investment of $87.0 million for
these four phases of the second office project is included in the total
budgeted cost of $219 million discussed above. The Company has spent an
aggregate of $32.3 million on these four phases as of September 30, 1999 which
is included in the total $78.9 million of expenditures discussed above. The
Company intends to finance the remaining development costs for these four
phases with construction loan financing and borrowing under the Credit
Facility.

The Company believes that it will have sufficient capital resources to
satisfy its obligations and planned capital expenditures for the next twelve
months. The Company expects to meet its long-term liquidity requirements
including possible future development and property acquisitions, through
retained cash flow, long-term secured and unsecured borrowings, the issuance
of debt or equity securities or the issuance of common or preferred units of
the Operating Partnership.

Building and Lease Information

The following tables set forth certain information regarding the Company's
Office and Industrial Properties at September 30, 1999:

Occupancy by Segment Type

Square Feet
Number of -------------------------------
Region Buildings Total Leased Available Occupancy
- ------ --------- ---------- ---------- --------- ---------

Office Properties:
Los Angeles................. 28 2,554,365 2,362,882 191,483 92.5%
Orange County............... 27 1,021,882 823,990 197,892 80.6
San Diego................... 27 1,923,395 1,905,174 18,221 99.1
Other....................... 6 709,614 696,310 13,304 98.1
--- ---------- ---------- -------
88 6,209,256 5,788,356 420,900 93.2
--- ---------- ---------- -------
Industrial Properties:
Los Angeles................. 7 554,225 539,723 14,502 97.4
Orange County............... 66 4,423,353 4,307,719 115,634 97.4
San Diego................... 3 199,351 199,351 -- 100.0
Other....................... 12 1,173,925 1,153,986 19,939 98.3
--- ---------- ---------- -------
88 6,350,854 6,200,779 150,075 97.6
--- ---------- ---------- -------
Total Portfolio............. 176 12,560,110 11,989,135 570,975 95.5%
=== ========== ========== =======

Lease Expirations by Segment Type

Percentage
of Total
Leased Annual Base
Total Square Square Feet Rent Under
Number of Footage of Represented Expiring
Expiring Expiring by Expiring Leases
Year of Lease Expiration Leases(1) Leases Leases(2) (in 000's)(3)
- ------------------------ --------- ------------ ----------- -------------

Office Properties:
Remaining 1999.................. 18 101,507 1.8% $ 1,647
2000............................ 104 433,901 7.7 7,644
2001............................ 98 1,079,395 19.1 15,221
2002............................ 66 608,176 10.7 9,063
2003............................ 36 219,551 3.9 3,827
2004............................ 41 736,421 13.0 16,448
--- --------- ---- -------
363 3,178,951 56.2 53,850
--- --------- -------
Industrial Properties:
Remaining 1999.................. 21 198,101 3.3 1,064
2000............................ 79 933,681 15.7 6,981
2001............................ 67 661,567 11.1 4,752
2002............................ 32 205,735 3.5 1,844
2003............................ 30 782,275 13.1 5,624
2004............................ 14 660,432 11.1 4,779
--- --------- ---- -------
243 3,441,791 57.8 25,044
--- --------- -------
Total Portfolio................. 606 6,620,742 57.0% $78,894
=== ========= =======

- --------
(1) Represents the total number of tenants. Some tenants have multiple leases.
Excludes leases for amenity, retail, parking and month to month tenants.
(2) Based on total leased square footage for the respective portfolios as of
September 30, 1999.
(3) Determined based upon aggregate base rent to be received over the term,
divided by the term in months, multiplied by 12, including all leases
executed on or before October 1, 1999.

Leasing Activity by Segment Type

Number of Weighted
Leases Square Feet Average
----------- --------------- Retention Lease Term
New Renewal New(1) Renewal Rate (in months)
--- ------- ------- ------- --------- ----------

For the Three Months Ended
September 30, 1999:
Office Properties........... 26 17 157,842 56,833 34.3% 59
Industrial Properties....... 15 9 54,596 68,542 79.0 54
--- --- ------- ------- ---- ---
Total Portfolio............. 41 26 212,438 125,375 49.7% 57
=== === ======= ======= ==== ===
For the Nine Months Ended
September 30, 1999:
Office Properties........... 64 55 492,917 375,287 43.0% 68
Industrial Properties....... 58 38 442,787 305,774 55.5 53
--- --- ------- ------- ---- ---
Total Portfolio............. 122 93 935,704 681,061 47.8% 61
=== === ======= ======= ==== ===

- --------
(1) The lease-up of 212,438 and 935,704 square feet to new tenants for the
three and nine months ended September 30, 1999, respectively, includes re-
leasing of 169,519 and 608,895 square feet, respectively, and first
generation leasing of 42,919 and 326,809 square feet, respectively.

Historical Cash Flows

The Company's net cash provided by operating activities increased $3.8
million, or 6.8% to $58.3 million for the nine months ended September 30, 1999
compared to $54.5 million for the nine months ended September 30, 1998. The
increase was primarily due to the increase in net income resulting from the
1998 Office and Industrial Acquisitions and the Office and Industrial
Development Properties and an increase in net operating income, as defined,
generated by the Core Office and Industrial Portfolios. The increase was
partially offset by increased interest expense and general and administrative
expenses and a decrease in interest income.

Cash used in investing activities decreased $146 million, or 51.5% to $138
million for the nine months ended September 30, 1999 compared to $284 million
for the nine months ended September 30, 1998. Cash used in investing
activities for the nine months ended September 30, 1999 consisted primarily of
the purchase of two office properties for $24.7 million (net of $3.6 million
of contributed value in exchange for which the Company issued common limited
partnership units of the Operating Partnership and the satisfaction of an
existing $2.3 million note receivable), the purchase of the minority interest
in one office complex for $1.2 million, the purchase of 12 acres of
undeveloped land for $4.7 million (net of $2.5 million of contributed value in
exchange for which the Company issued common units of the Operating
Partnership), the acquisition of a 50% interest in 55 acres of undeveloped
land for $16.1 million (net of $3.8 million of contributed value in exchange
for which the Company issued common limited partnership units of the Operating
Partnership), expenditures for construction in progress of $94.8 million and
$11.4 million in additional tenant improvements and capital expenditures, net
of the sale of two industrial properties for $11.0 million and the sale of 13
acres of undeveloped land in two separate transactions for $5.1 million. Cash
used in investing activities for the nine months ended September 30, 1998
consisted primarily of the purchase of 38 office and industrial properties for
$208 million (net of $13.5 million of contributed value in exchange for which
the Company issued common units of the Operating Partnership), the purchase of
51 acres of undeveloped land for $21.9 million (net of $2.5 million of
contributed value in exchange for which the Company issued common units of the
Operating Partnership), disbursements for notes receivable from related
parties of $2.2 million, expenditures for construction in progress of $43.4
million and $8.2 million in additional tenant improvements and capital
expenditures.

Cash provided by financing activities decreased $168 million, or 67.8% to
$79.8 million for the nine months ended September 30, 1999 compared to $248
million for the nine months ended September 30, 1998. Cash provided by
financing activities for the nine months ended September 30, 1999 consisted
primarily of $121 million in net proceeds from the issuance of mortgage debt
and net borrowings under the Credit Facility partially offset by $40.0 million
in distributions paid to common stockholders and common unitholders. Cash
provided by financing activities for the nine months ended September 30, 1998
consisted of net proceeds of $82.1 million from common stock offerings, net
proceeds of $73.0 million from the issuance of 8.075% Series A Cumulative
Redeemable Preferred units, and $130 million in net proceeds from the issuance
of mortgage debt and borrowings under the Credit Facility, partially offset by
$36.0 million in distributions paid to common stockholders and common
unitholders.

Funds from Operations

Industry analysts generally consider Funds From Operations, as defined by
NAREIT, an alternative measure of performance for an equity REIT. Funds From
Operations is defined by NAREIT to mean net income (loss) before minority
interests of common 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 adjustment for unconsolidated partnerships and joint ventures. The
Company considers Funds From Operations an appropriate measure of performance
of an equity REIT because it is predicated on cash flow analyses. The Company
believes that in order to facilitate a clear understanding of the historical
operating results of the Company, Funds From Operations should be examined in
conjunction with net income as presented in the financial statements included
elsewhere in this report. The Company computes Funds From Operations in

accordance with standards established by the Board of Governors of NAREIT in
its March 1995 White Paper, which may differ from the methodologies used by
other equity REITs and, accordingly, may not be comparable to Funds From
Operations published by such other REITs. Funds From Operations should not be
considered as an alternative to net income (loss) (computed in accordance with
GAAP) as an indicator of the properties' financial performance or to cash flow
from operating activities (computed in accordance with GAAP) as an indicator
of the properties' liquidity, nor is it indicative of funds available to fund
the properties' cash needs, including the Company's ability to pay dividends
or make distributions.

The following table presents the Company's Funds From Operations for the
three and nine months ended September 30, 1999 and 1998.

Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
1999 1998 1999 1998
------- ------- ------- ------
(in thousands)

Net income................................... $10,911 $ 9,985 $31,617 $28,649
Adjustments:
Minority interest in earnings of
Operating Partnership................... 1,830 1,451 5,186 4,093
Depreciation and amortization............ 7,900 6,740 22,577 19,159
Gain on sale of operating properties..... (75) (75)
Other.................................... 127 175 381 405
------- ------- ------- -------
Funds From Operations........................ $20,693 $18,351 $59,686 $52,306
======= ======= ======= =======

Inflation

The majority of the Company's tenant leases require tenants to pay most
operating expenses, including real estate taxes and insurance, and increases
in common area maintenance expenses, which reduce the Company's exposure to
increases in costs and operating expenses resulting from inflation.

Year 2000

The Year 2000 issue ("Y2K") refers to the inability of certain computer
systems, as well as certain hardware and equipment containing date sensitive
data, to recognize accurate dates commencing on or after January 1, 2000. This
has the potential to affect those systems adversely. In 1997, the Company's
Information Technology Committee, which is comprised of representatives from
senior management and various departments including accounting, property
management and information systems, identified three phases in the Company's
Y2K efforts: discovery and assessment, remediation and implementation, and
testing and verification. Although many of the phases were completed
simultaneously, the following sections describe the activities that the
Company has performed to meet its Y2K objectives, as well as management's
assessment of the Company's risk of non-compliance.

The Company's State of Readiness

The initial phase of discovery and assessment consists of evaluating and
identifying all of the Company's information technology and non-information
technology systems that contain date sensitive data. The following summary
describes the classifications of systems that were identified and the
Company's current state of readiness for each classification.

Information Technology Systems

The Company's information technology systems fall into three general
categories: accounting and property management systems, network operating
systems, and desktop software. The Company replaced its accounting and
property management system, acquired all new network hardware and software,
and updated all of its

desktop systems and software after its IPO in early 1997. The new accounting
and property management system, which was tested upon its implementation in
1997, and all the Company's network hardware and software, desktop systems and
software packages are Y2K compliant as asserted by the software vendors. In
addition, management performed additional testing during 1999 by setting the
dates in the operating system and the accounting and property management
system ahead to the year 2000. Management believes there is no material Y2K
exposure with respect to its information technology systems.

Building Management Systems

The Company has identified five categories of building management systems
that could have potential Y2K exposure: building automation (e.g., HVAC),
security card access, fire and life safety, elevator, and office equipment.
During 1998, property management executives and personnel gathered data to
identify all of the Company's Y2K sensitive building management systems and to
assess whether such systems were Y2K compliant or would need to be modified or
replaced. Management completed the discovery and assessment phase and
determined the Company's state of readiness as to building management systems
in early 1999. During this process, management identified which building
systems needed system upgrades. In two cases, management determined that due
to the age of certain building automation systems, system replacement,
regardless of Y2K compliance, would be more appropriate. Management completed
the remediation and implementation phase and the testing and verification
phase in October 1999, except for the replacement and testing of the energy
management system at the Company's Kilroy Airport Center, El Segundo property,
where the Company's corporate headquarters are located. Management expects to
complete the replacement and testing of this building management system by the
end of November 1999.

Costs to Address the Company's Y2K Efforts

The replacement of the accounting and property management system, the
acquisition of new network hardware and software and the installation of
updated desktop systems and software was performed as a result of the Company
becoming a publicly traded REIT and not in response to Y2K compliance issues.
Phase 1 of the building management systems efforts were performed by 13
salaried Company employees who are not paid for overtime and who management
estimates spent approximately 10% of their annual working hours over a 2 to 3
year period focusing on Y2K compliance issues. Consequently, the Company's Y2K
costs incurred have been minimal to date and have not been material to the
Company's financial position or results of operations. In addition, management
believes that future Y2K expenses will also be minimal and will not have a
material effect on the Company's financial position or results of operations.
Further, management believes that a significant portion of the costs to
complete phases 2 and 3 for the building management systems will be treated as
operating expenses and reimbursed to the Company under most tenant leases.

Efforts to Identify the Y2K Issues of Significant Third Parties

Due to the Company's diverse tenant base, the success of the Company's
business is not closely tied to the success of any one particular tenant.
Accordingly, management believes that there would not be a material adverse
effect on the Company's financial condition and results of operations if any
one of its tenants ceased to conduct business and pay rent due to Y2K related
problems. This would not necessarily be the case, however, if Y2K problems
affected the financial condition of a number of the Company's tenants.
Consequently, the Company distributed surveys to all of its tenants to
investigate whether any of them had identified Y2K system exposure that would
result in the interruption of the Company's operations. Based on the responses
received, including those from the Company's ten largest office tenants and
ten largest industrial tenants, which covered approximately 28.8% of the
Company's aggregate annual base rental revenue, management is not aware of any
material Y2K issues with respect to its tenants. As part of its efforts to
keep its tenants advised as to the steps the Company is taking to address Y2K
problems, the Company has requested that tenants advise management of any
significant Y2K readiness issues as they become apparent. To date, no tenants
have advised the Company of any such problems.

The success of the Company's business is not closely tied to the success of
any one particular vendor, supplier or manufacturer. Accordingly, if any of
the Company's vendors, suppliers or manufacturers ceased to conduct business
as a result of Y2K related issues, the Company expects it would be able to
contract with alternative providers without experiencing any material adverse
effect on the Company's financial condition and results of operations.

The Risks of Y2K Non-Compliance

Management does not believe that the impact of the Y2K issue will have a
material adverse effect on the Company's financial condition or results of
operations. This belief is based upon both the analysis of the Company's Y2K
issues and the Company's assessment of the Y2K exposure related to tenants,
vendors, and other significant third parties as discussed above. No assurance
can be given about facts and resultant effects of Y2K issues unknown to the
Company at this time.

The Company's worst case Y2K scenario would be that the Company's
information and building management systems fail. In the event that the
Company's information systems fail, the Company would be forced to manually
perform its accounting and property management record-keeping functions until
the information systems could be restored. In the event that the Company's
building management systems fail, the Company's tenants would not have access
to or be able to conduct their normal business activities at the Company's
properties until the building management systems could be restored or manually
overridden. These events could have a material adverse effect on the Company's
financial position and results of operations.

Developing Contingency Plans

The Company's contingency plan, which focuses on the potential failure of
building management systems, consists primarily of the strategic deployment of
teams consisting of property managers and facility engineers to monitor the
Company's properties. In the event of a Y2K building management systems
failure, these teams would be available to manually by-pass or override the
building management systems until such systems could be adequately repaired or
replaced. In addition, the Company has contacted each of its significant
building management systems vendors and security services vendors and has been
assured that they will commit additional support in the event it is necessary.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Changes in Primary Risk Exposures

In March 1999, the Company entered into a fixed rate mortgage loan with a
principal balance of $95.0 million, monthly principal and interest payments
based upon a fixed interest rate of 7.20% and a 25-year amortization schedule,
and a maturity date of April 2009. The Company used a portion of the proceeds
from this fixed rate mortgage loan to repay borrowings under its existing
variable rate Credit Facility. In April 1999, the Company entered into a
second fixed rate mortgage loan with a principal balance of $30.0 million,
monthly principal and interest payments based upon a fixed annual interest
rate of 7.15% and a maturity date of May 2017. The Company used the proceeds
from this $30.0 million fixed rate mortgage loan to pay off an existing $19.0
million variable rate mortgage loan and to repay borrowings under its existing
variable rate Credit Facility. As a result of the execution of the two new
mortgage loans totaling $125 million and the simultaneous repayment of a
portion of borrowings outstanding under the Credit Facility and a $19.0
million variable rate mortgage loan, the Company's ratio of fixed rate debt to
total debt (excluding Cumulative Redeemable Preferred units) increased 16.7%
from 28.2% at December 31, 1998 to 44.9% at September 30, 1999.

In October 1999, the Company executed a floating rate secured debt facility
with a principal balance of $90.0 million, monthly interest-only payments
based upon a floating rate of LIBOR plus 1.75%, and a maturity date of October
2003. The Company used the proceeds from the new $90.0 million secured debt
facility to repay borrowings under its existing variable rate Credit Facility
and to fund development expenditures. In November 1999, the Company increased
its borrowing capacity and obtained a new $400 million variable rate unsecured

revolving Credit Facility to replace the existing $350 million variable rate
Credit Facility which was scheduled to mature in February 2000. While the new
$400 million Credit Facility is also a LIBOR based variable rate facility and
therefore does not change the Company's interest rate risk profile, the
maturity date of the $400 million Credit Facility extends to November 2002. As
a result of the execution of the new $90.0 million secured debt facility, the
Company's ratio of fixed rate debt to total debt (excluding Cumulative
Redeemable Preferred units) decreased 2.0% from 44.9% at September 30, 1999 to
42.9% at October 31, 1999.

The tabular presentation below provides information about the Company's
interest rate sensitive financial and derivative instruments as of September
30, 1999. All of the Company's interest rate sensitive financial and
derivative instruments are designated as held for purposes other than trading.

For the Credit Facility, the table presents the assumption that the
outstanding principal balance at September 30, 1999 will be paid in November
2002, the maturity date under the Company's new $400 million Credit Facility.
The table also presents the related expected maximum interest rate index for
outstanding Credit Facility borrowings under the new $400 million Credit
Facility in 1999 through 2002.

For fixed rate mortgage debt, the table presents the assumption that the
outstanding principal balance at September 30, 1999 will be paid according to
scheduled contractual principal payments and that the Company will not prepay
any of the outstanding principal balance. The table also presents the related
weighted-average interest rate for outstanding fixed rate mortgage debt
borrowings from 1999 through 2003 and thereafter. The Company had no
outstanding variable rate mortgage debt at September 30, 1999.

For the Series A and Series C Cumulative Redeemable Preferred units (the
"Preferred units"), the table presents reflects the assumption that the
Company is not contractually obligated to repay the outstanding balance of the
Preferred units since the Preferred units will either remain outstanding or be
converted into shares of the Company's 8.075% Series A and 9.375% Series C
Cumulative Redeemable Preferred stock, respectively, in 2008 when the
Preferred units become exchangeable at the option of the majority of the
holders. The table also presents the related weighted-average interest rate
for outstanding Preferred units from 1999 through 2003 and thereafter.

For interest rate caps, the table presents notional amounts, average cap
rates and the related interest rate index upon which cap rates are based, by
contractual maturity date. Notional amounts are used solely to calculate the
contractual cash flow to be received under the contract and do not reflect
outstanding principal balances at September 30, 1999.

Interest Rate Risk Analysis-Tabular Presentation
Financial Assets and Liabilities
Outstanding Principal by Expected Maturity Date
(dollars in millions)

Maturity Date
------------------------------------------------------
Fair Value
There- at Sept. 30,
1999 2000 2001 2002 2003 after Total 1999
------ ------ ------ ------ ------ ------ ------ ------------

Liabilities:
Line of credit:
Variable rate............... $290.0 $290.0 $290.0
Average interest rate index. LIBOR LIBOR LIBOR LIBOR
+1.50% +1.50% +1.50% +1.50%

Mortgage debt:
Fixed rate.................. $ 1.0 $ 4.8 $ 5.1 $ 5.6 $ 6.1 $214.1 $236.7 $232.4
Average interest rate....... 7.75% 7.75% 7.75% 7.75% 7.75% 7.75%

Series A and C Preferred
units:
Fixed rate..................
Average interest rate....... 8.49% 8.49% 8.49% 8.49% 8.49% 8.49% $ 98.3

Interest Rate Risk Analysis-Tabular Presentation
Financial Derivative Instruments
Notional Amounts by Contractual Maturity
(dollars in millions)

Maturity Date
-----------------------------------------
Fair Value at
There- Sept. 30,
1999 2000 2001 2002 2003 after Total 1999
----- ------ ---- ---- ---- ------ ------ -------------

Interest Rate
Derivatives Used to
Hedge the Line of Cred-
it:
Interest rate cap
agreements:
Notional amount....... $150.0 $150.0 $0.1
Cap rate.............. 6.50% 6.50%
Forward rate index.... LIBOR LIBOR

PART II--OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

During the three and nine months ended September 30, 1999, no legal
proceedings were initiated against or on behalf of the Company, which if
determined unfavorably to the Company, would have a material adverse effect
upon the financial condition, results of operations and cash flows of the
Company.

ITEM 2. CHANGES IN SECURITIES

During the third quarter of 1999, common limited partnership unitholders of
the Operating Partnership exchanged 25,000 common limited partnership units
into shares of the Company's common stock on a one-for-one basis. The 25,000
shares of common stock issued in exchange for the common limited partnership
units were issued in reliance upon an exemption from registration provided by
Regulation D under the Securities Act as a transaction by an issuer not
involving a public offering.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES--None

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS--None

ITEM 5. OTHER INFORMATION--None

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits

Exhibit
Number Description
------- -----------

*10.1 Second Amended and Restated Revolving Credit Agreement and Form of
Notes Aggregating $400 million.
*10.2 Second Amended and Restated Guaranty of Payment.
*10.3 Credit Agreement and Form of Promissory Notes Aggregating $90.0
million.
*10.4 Variable Interest Rate Deed of Trust, Leasehold Deed of Trust,
Assignment of Rents, Security Agreement and Fixture Filing.
*10.5 Guaranty of Recourse Obligations of Borrowing.
*27.1 Financial Data Schedule.

- --------
* Filed herewith.

(b) Reports on Form 8-K--None

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized on November 12,
1999.

Kilroy Realty Corporation

/s/ John B. Kilroy, Jr
By: _________________________________
John B. Kilroy, Jr.
President and Chief
Executive Officer
(Principal Executive Officer)

/s/ Richard E. Moran Jr.
By: _________________________________
Richard E. Moran Jr.
Executive Vice President and
Chief Financial Officer
(Principal Financial Officer)

/s/ Ann Marie Whitney
By: _________________________________
Ann Marie Whitney
Vice President and Controller
(Principal Accounting Officer)