HINES REAL ESTATE INVESTMENT TRUST INC – 10-K – Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis together with our consolidated financial statements and notes thereto included in this Annual Report on Form 10-K. The following information contains forward-looking statements, which are subject to risks and uncertainties. Should one or more of these risks or uncertainties materialize, actual results may differ materially from those expressed or implied by the forward-looking statements. Please see "Special Note Regarding Forward-Looking Statements" above for a description of these risks and uncertainties.

Executive Summary

Hines Real Estate Investment Trust, Inc. ("Hines REIT" and, together with its consolidated subsidiaries, "we", "us" or the "Company") and its subsidiary, Hines REIT Properties, L.P. (the "Operating Partnership") were formed in August 2003 for the purpose of investing in and owning interests in real estate. We have invested in real estate to satisfy our primary investment objectives including preserving invested capital, paying regular cash distributions and achieving modest capital appreciation of our assets over the long term. We have made investments directly through entities wholly owned by the Operating Partnership or indirectly through other entities such as through our investment in the Core Fund. As of December 31, 2011, we had direct and indirect interests in 57 properties. These properties consist of 43 office properties located throughout the United States, one industrial property in Dallas, Texas, one industrial property in Brazil and a portfolio of 12 grocery-anchored shopping centers located in five states primarily in the Southeastern United States (the "Grocery-Anchored Portfolio").

In order to provide capital for these investments, we raised over $2.5 billion through public offerings of our common stock since we commenced our initial public offering in June 2004. In consideration of market conditions and other factors, our board of directors determined to cease sales of our shares to new investors pursuant to our third public offering (the "Third Offering") as of January 1, 2010. However, we have continued to sell shares under our dividend reinvestment plan. Based on market conditions and other considerations, we do not currently expect to commence any future offerings other than those related to shares issued under our dividend reinvestment plan.

As we have disclosed previously, we were required to revalue our common shares 18 months after the close of our primary offering. Hines REIT was closed to new investors as of January 1, 2010. Accordingly, after considering many factors, effective May 24, 2011, our board of directors established an estimated value per share of $7.78. The primary driver of the decrease in our estimated share value was the economic environment's impact on the commercial real estate markets during the global recession. The rise in vacancies combined with lower market rental rates and reduced investment sales activity have resulted in lower valuations of properties. Additionally, our notes payable valuations were lower due to the current low interest rate environment and the shorter terms remaining on our loans. Lower property values, together with lower debt valuations, resulted in the lower estimated value of our shares. Additionally, the financial services sector, which represents the second largest tenant concentration in our portfolio, was one of the hardest hit in this downturn, and institutions such as banks, insurance companies and mortgage companies were forced to reduce expenditures and cut staff. Many had to reduce space or move to lesser-quality space to save on rent. Please see "Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities" for a discussion of the factors considered by our board of directors in connection with the establishment of the estimated per share value.

We pay distributions to our shareholders on a quarterly basis. Beginning July 1, 2010, the annual distribution rate was decreased from $0.00165699 to $0.00138082 per share, per day, which represented a change in the annualized distribution rate from 6% to 5% (based on our prior primary offering share price of $10.08 per share).

With the authorization of its board of directors, we have continued to declare distributions in the amount of $0.00138082 per share, per day through April 30, 2012, which represents an annual distribution rate of 6.5%, based on our estimated share value of $7.78, effective on May 24, 2011 (assuming the current distribution rate is maintained for a twelve-month period).

These distributions declared for July 2011 through April 2012 will be paid from two sources. Approximately 70% have been or will be paid from funds generated by our operations and approximately 30% have been or will be special distributions from the proceeds on sales of certain properties. These special distributions represent a return of our shareholders' invested capital.

Economic Update

Although U.S. real gross domestic product ("GDP") has grown for ten consecutive quarters, the economic recovery appears to have slowed. In fact, GDP was up only 1.7% for 2011 compared to a 3.0% increase in 2010. While GDP has shown some growth, unemployment remains high, notwithstanding that the U.S. economy has added jobs in 16 consecutive months and jobs are up on a net basis since its employment lows in February 2010. Additionally, concerns and uncertainty resulting from raising the debt ceiling in the U.S. and confusion about Europe's strategy to fight its worsening debt crisis appear to have diminished investor confidence in the global economy and have caused instability in the global markets.

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Commercial real estate is starting to show signs of recovery following the global financial crisis. The NCREIF Property Index (NPI) reported positive total returns of 3.4%, 3.9%, 3.3% and 3.0% in each quarter of 2011, which represents eight consecutive quarters of positive total return. Additionally, NCREIF is reporting that average office occupancy is 85.5%, which is up 0.5% from December 31, 2010 and up 0.9% from its lows at September 30, 2010. Although real estate fundamentals have improved, the lasting effects of the recession are still being felt and have had an adverse impact on tenant demand, overall occupancies, leasing velocity, rental rates, subletting and tenant defaults.

As with most commercial real estate, our portfolio of assets has not been immune to the effects of a recession; however, due to the quality and diversification of our portfolio, we continue to believe that our portfolio is relatively well-positioned to recover from the negative impact as a result of the recent down cycle. In spite of the challenges presented by the uncertain economy and markets, our portfolio was 87% leased as of December 31, 2011 and 89% leased as of December 31, 2010. Our management closely monitors the portfolio's lease expirations, which for each of the years ending December 31, 2012 through December 31, 2016 approximate, 7.4%, 10.7%, 5.2%, 8.4% and 6.8%, respectively, of leasable square feet. We believe this level of expirations is manageable, and we will remain focused on filling tenant vacancies with high-quality tenants in each of the markets in which we operate. Although we continue to be leased to a diverse tenant base over a variety of industries, our portfolio is approximately 17% leased to over 100 companies in the legal industry, approximately 13% leased to over 190 companies in the financial and insurance industries, approximately 13% leased to over 40 companies in the manufacturing industry and approximately 12% leased to over 90 companies in the information technology industry.

Debt capital was more difficult and expensive to obtain during the economic downturn, however the debt markets have shown signs of improvement and financing has become more readily available at attractive pricing for well-located, high quality assets. See "Financial Condition, Liquidity and Capital Resources - Cash Flows From Financing Activities - Debt Financings" below for further discussion concerning current financing activity in our portfolio. We have managed our portfolio to date in an effort to minimize our exposure to volatility in the debt capital markets. We have done this by using moderate levels of long-term fixed-rate debt and minimizing our exposure to short-term variable-rate debt which is more likely to be impacted by market volatility. Our portfolio was 55% leveraged as of December 31, 2011, with all of our debt in the form of fixed-rate mortgage loans (some of which are effectively fixed through the use of interest rate swaps). By comparison, our portfolio was 59% leveraged as of December 31, 2010. This leverage percentage is calculated using the estimated aggregate value of our real estate investments (including our pro rata share of real estate assets and related debt owned through our investments in other entities such as the Core Fund), cash and cash equivalents and restricted cash on hand as of that date.

As discussed above, while Hines REIT has not been isolated from these and other challenges, we believe the fundamentals of our high-quality portfolio remain intact. We are optimistic that the portfolio will benefit in the coming years as the broader economic and real estate recovery takes hold. We have already seen improved property values and real estate fundamentals in some markets, and we believe we are well-positioned to benefit in the future from improving market conditions and rising values.

Critical Accounting Policies

Our discussion and analysis of financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). Each of our critical accounting policies involves the use of estimates that require management to make judgments that are subjective in nature. Management relies on its experience, collects historical and current market data, and analyzes these assumptions in order to arrive at what it believes to be reasonable estimates. Under different conditions or assumptions, materially different amounts could be reported related to the accounting policies described below. Additionally, application of our accounting policies involves exercising judgments regarding assumptions as to future uncertainties. Actual results may differ from these estimates under different assumptions or conditions.

Basis of Presentation

Our consolidated financial statements included in this annual report include the accounts of Hines REIT and the Operating Partnership (over which Hines REIT exercises financial and operating control) and the Operating Partnership's wholly-owned subsidiaries as well as the related amounts of noncontrolling interests. All intercompany balances and transactions have been eliminated in consolidation.

We evaluate the need to consolidate investments based on standards set forth by GAAP. Our joint ventures are evaluated based upon GAAP to determine whether or not the investment qualifies as a variable interest entity ("VIE"). If the investment qualifies as a VIE, an analysis is then performed to determine if we are the primary beneficiary of the VIE by reviewing a combination of qualitative and quantitative measures including analyzing the expected investment portfolio using various assumptions to estimate the net income from the underlying assets. The projected cash flows are then analyzed to determine whether or not we are the primary beneficiary by analyzing if we have both the power to direct the entity's significant economic activities and the obligation to absorb potentially significant losses or receive potentially significant benefits. In addition to this analysis, we also consider the rights and

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decision making abilities of each holder of variable interest entity. We will consolidate joint ventures that are determined to be variable interest entities for which we are the primary beneficiary. We will also consolidate joint ventures that are not determined to be variable interest entities, but for which we exercise significant influence over major operating decisions, such as approval of budgets, selection of property managers, asset management, investment activity and changes in financing.

Our investments in partially owned real estate joint ventures and partnerships are reviewed for impairment periodically if events or circumstances change indicating that the carrying amount of its investments may not be recoverable. In such an instance, we will record an impairment charge if we determine that a decline in the value of an investment below its fair value is other than temporary. Our analysis will be dependent on a number of factors, including the performance of each investment, current market conditions, and our intent and ability to hold the investment to full recovery. Based on our analysis of the facts and circumstances at each reporting period, no impairment was recorded related to our investments in partially owned real estate joint ventures and partnerships for the years ended December 31, 2011, 2010, and 2009. However, if market conditions deteriorate in the future and result in lower valuations or reduced cash flows of our investments, impairment charges may be recorded in future periods. See "Results of Operations ? Our Interest in the Core Fund" for more information regarding an impairment charge recorded by the Core Fund during 2011.

Investment Property and Lease Intangibles

Real estate assets that we own directly are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method. The estimated useful lives for computing depreciation are generally 10 years for furniture and fixtures, 15-20 years for electrical and mechanical installations and 40 years for buildings. Major replacements that extend the useful life of the assets are capitalized and maintenance and repair costs are expensed as incurred.

Real estate assets are reviewed for impairment if events or changes in circumstances indicate that the carrying amount of the individual property may not be recoverable. In such an event, a comparison will be made of the current and projected operating cash flows of each property on an undiscounted basis to the carrying amount of such property. Such carrying amount would be adjusted, if necessary, to estimated fair values to reflect impairment in the value of the asset. Based on our analysis of the facts and circumstances, no impairment was recorded for the year ended December 31, 2011. During 2010 and 2009, we recorded impairment charges of approximately $811,000 and $3.4 million, respectively in connection with the sale of a land parcel. See "Cash Flows from Investing Activities - Sales of Investment Property" for additional information.

Management estimates the fair value of assumed mortgage notes payable based upon indications of then-current market pricing for similar types of debt with similar maturities. Assumed mortgage notes payable are initially recorded at their estimated fair value as of the assumption date, and the difference between such estimated fair value and the note's outstanding principal balance is amortized over the life of the mortgage note payable.

Deferred Leasing Costs

Direct leasing costs, primarily consisting of third-party leasing commissions and tenant inducements, are capitalized and amortized over the life of the related lease. Tenant inducement amortization is recorded as an offset to rental revenue and the amortization of other direct leasing costs is recorded in amortization expense.

We consider a number of different factors to evaluate whether we or the lessee is the owner of the tenant improvements for accounting purposes. These factors include: 1) whether the lease stipulates how and on what a tenant improvement allowance may be spent; 2) whether the tenant or landlord retains legal title to the improvements; 3) the uniqueness of the improvements; 4) the expected economic life of the tenant improvements relative to the term of the lease; and 5) who constructs or directs the construction of the improvements. The determination of who owns the tenant improvements for accounting purposes is subject to significant judgment. In making that determination, we consider all of the above factors. No one factor, however, necessarily establishes any determination.

Revenue Recognition and Valuation of Receivables

We are required to recognize minimum rent revenues on a straight-line basis over the terms of tenant leases, including rent holidays and bargain renewal options, if any. Revenues associated with tenant reimbursements are recognized in the period in which the expenses are incurred based upon the tenant's lease provision. Revenues related to lease termination fees are recognized at the time that the tenant's right to occupy the space is terminated and when we have satisfied all obligations under the lease and are included in other revenue in the accompanying consolidated statements of operations. To the extent our leases provide for rental increases at specified intervals, we will record a receivable for rent not yet due under the lease terms. Accordingly, our management must determine, in its judgment, to what extent the unbilled rent receivable applicable to each specific tenant is collectible. We review unbilled rent receivables on a quarterly basis and take into consideration the tenant's payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area in which the property is located.

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In the event that the collectability of unbilled rent with respect to any given tenant is in doubt, we would be required to record an increase in our allowance for doubtful accounts or record a direct write-off of the specific rent receivable, which would have an adverse effect on our net income for the year in which the reserve is increased or the direct write-off is recorded and would decrease our total assets and shareholders' equity.

Treatment of Management Compensation, Expense Reimbursements and Operating Partnership Participation Interest

We outsource management of our operations to the Advisor and certain other affiliates of Hines. Fees related to these services are accounted for based on the nature of the service and the relevant accounting literature. Fees for services performed that represent period costs of the Company are expensed as incurred. Such fees include acquisition fees and asset management fees paid to the Advisor and property management fees paid to Hines. In addition to cash payments for acquisition fees and asset management fees paid to the Advisor, an affiliate of the Advisor has received a profits interest in the Operating Partnership related to these services (the "Participation Interest"). As the percentage interest of the Participation Interest is adjusted, the value attributable to such adjustment is charged against earnings and a liability is recorded until it is repurchased for cash or converted into common shares of the Company. In addition, the liability is remeasured at fair value at each balance sheet date with related adjustments charged to earnings in accordance with GAAP. The fair value of the shares underlying the Participation Interest liability is determined based on the related redemption price in place as of each balance sheet date. The determination of the adjustment for the Participation Interest is subject to significant judgment.

The conversion and redemption features of the participation interest are accounted for in accordance with GAAP. Redemptions of the Participation Interest for cash will be accounted for as a reduction to the liability discussed above to the extent of such liability, with any additional amounts recorded as a reduction to equity. Conversions into common shares of the Company will be recorded as an increase to the outstanding common shares and additional paid-in capital accounts and a corresponding reduction in the liability discussed above. Redemptions and conversions of the Participation Interest will result in a corresponding reduction in the percentage attributable to the Participation Interest and will have no impact on the calculation of subsequent increases in the Participation Interest.

Financial Condition, Liquidity and Capital Resources

General

Our principal cash requirements are for property-level operating expenses, capital improvements and leasing costs, debt service, corporate-level general and administrative expenses, distributions and redemptions. We have four primary sources of capital for meeting our cash requirements:

   • proceeds from our dividend reinvestment plan;   • debt financings, including secured or unsecured facilities;   • proceeds from the sale of our properties; and   • cash flow generated by our real estate investments and operations.   

We are focused on maintaining a strong cash position and managing our capital needs. Historically, our operating cash needs were primarily met through cash flow generated by our properties and distributions from unconsolidated entities. However, due to the effects of the economic recession on commercial real estate fundamentals and the corresponding reduction in our net operating income in recent years, an increasing portion of our operating cash needs was met through the sale of our investment properties.

During the year ended December 31, 2011, we received proceeds of $128.7 million from the sale of Atrium on Bay, a mixed-use office and retail complex located in the Downtown North submarket of the central business district of Toronto, Canada. During the year ended December 31, 2010, we received proceeds of $141.9 million from the sale of three industrial properties in Brazil and a land parcel in Houston, Texas. Additionally, we are continually evaluating each of our investments to determine the appropriate time to sell assets in order to achieve attractive returns and provide additional liquidity to the Company.

The Core Fund has also sold interests in some of its investment properties in order to realize gains and provide it with additional liquidity. During the year ended December 31, 2011, the Core Fund received net proceeds of $198.5 million from the sale of Three First National Plaza, an office building located in the business and financial district of Chicago, Illinois and $189.9 million from the sale of a 49% noncontrolling interest in One North Wacker, an office building located in the West Loop submarket of Chicago'sCentral Business District in Chicago, Illinois.

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Mortgage Financing

We have a $159.5 million mortgage loan expiring in 2012 and three mortgage loans expiring in 2013 with outstanding principal balances totaling $456.0 million. We expect to refinance these mortgages, but if we are unable to refinance or are required to make principal payments upon refinancing, we expect to use cash flows from operating activities, proceeds from the sale of other real estate investments or proceeds from our revolving line of credit. To the extent we are required to use these sources, we will have less cash available to fund distributions. During 2011, we refinanced two mortgage loans with an aggregate outstanding principal balance of $109.1 million and a weighted average interest rate of 6.2% with two mortgage loans with an aggregate outstanding principal balance of $120.0 million and a weighted average interest rate of 4.8%.

In addition to our expiring mortgage loans, we could be required to post additional collateral or provide certain leasing or capital guarantees under our secured credit facility with HSH Nordbank in future periods. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Cash Flows from Financing Activities - Debt Financings" below for additional information.

Cash Flows from Operating Activities

Our direct investments in real estate assets generate cash flow in the form of rental revenues, which are reduced by debt service, direct leasing costs and property-level operating expenses. Property-level operating expenses consist primarily of salaries and wages of property management personnel, utilities, cleaning, insurance, security and building maintenance costs, property management and leasing fees and property taxes. Additionally, we have incurred corporate-level debt service, general and administrative expenses, asset management and acquisition fees.

Net cash provided by operating activities was $8.6 million, $28.9 million and $69.0 million for the years ended December 31, 2011, 2010 and 2009, respectively. The decrease in the current year compared to prior periods is primarily due to increased leasing costs, which we have incurred as we continue to focus on maintaining our occupancy levels across the portfolio. Other items which also have negative effects on our operating cash flows are the impact of the sales of our Brazilian industrial properties during 2010 and Atrium on Bay in 2011 and adverse effects of the economic recession on commercial real estate fundamentals and the corresponding reduction in our operating results. To the extent we continue to sell properties, our operating cash flow will continue to decrease.

Cash Flows from Investing Activities

Net cash provided by investing activities was $129.3 million and $149.3 million for the years ended December 31, 2011 and 2010, respectively, compared to net cash used in investing activities of $108.9 million for the year ended December 31, 2009. During the years ended December 31, 2011 and 2010, cash flows from investing activities were primarily generated through sales of our properties. During the year ended December 31, 2009, cash used in investing activities primarily related to $106.1 million in collateral payments made to HSH Nordbank to rebalance our pooled mortgage facility, as described further below.

In addition, we have described certain other transactions below which may be helpful in understanding changes in our investing cash flows during the years ended December 31, 2011, 2010 and 2009.

Sales of Investment Property

On June 1, 2011, we sold Atrium on Bay, a mixed-use office and retail complex located in the Downtown North submarket of the central business district of Toronto, Canada. We acquired Atrium on Bay in February 2007 for 250.0 million CAD ($215.5 million USD, based on the exchange rate in effect on the date of acquisition). The contract sales price for Atrium on Bay was 344.8 million CAD ($353 million USD, based on the exchange rate in effect on the date of sale), exclusive of transaction costs. The net proceeds received from this sale were $128.7 million after transaction costs, assumption of related mortgage debt by the purchaser and local taxes.

In January 2010, we sold Distribution Park Araucaria and in April 2010, we sold Distribution Parks Elouveira and Vinhedo. The sale of these properties resulted in gains due to the strengthening of the Brazilian Real (BRL).These properties were acquired in December 2008 for a contract purchase price of $114.9 million (269.9 million BRL translated at a rate of R$2.349 per USD on the date of the transaction). The sales price of Distribution Park Araucaria was $38.4 million (69.9 million BRL translated at a rate of R$1.818 per USD on the date of the transaction) and the sales price for Distribution Parks Elouveira and Vinhedo was $102.5 million (181.0 million BRL translated at a rate of R$1.765 per USD). Net proceeds received after taxes and expenses were .

On September 14, 2010, we sold a land parcel located in Houston, Texas, which was acquired in connection with our purchase of Williams Tower. The sales price of the land parcel was $12.8 million. Net proceeds received after closing costs and fees were $11.8 million.

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In December 2009, we sold a land parcel located in Redmond, Washington which was acquired in connection with our purchase of the Laguna Buildings. We received $1.2 million as compensation for this transaction, which was recorded in proceeds from sale of land and improvements in the accompanying statement of cash flows for the year ended December 31, 2009.

Other Investing Cash Flows

We have made investments in and receive distributions from our unconsolidated entities. Distributions up to our equity in earnings for the period are recorded in cash flows from operating activities. Distributions from our unconsolidated entities are recorded in cash flows from investing activities to the extent that they exceed our equity in earnings for the period. During the year ended December 31, 2009, we made an additional $23.1 million contribution relating to our investment in Weingarten to acquire the remaining four properties in our Grocery-Anchored Portfolio.

During the years ended December 31, 2011, 2010 and 2009, respectively, we had cash outflows related to investments in property of $8.5 million, $5.0 million and $8.6 million primarily as a result of capital expenditures at our properties. During the year ended December 31, 2009 we had net cash inflows of $1.2 million for master leases entered into in connection with our acquisitions. We received no such payments subsequent to December 31, 2009.

During the fourth quarter of 2009, we made collateral payments totaling $106.1 million to HSH Nordbank in order to rebalance the collateral for the properties under the Company's pooled mortgage facility. The increase in the cash collateral since that time is due to interest earned on these payments, which accrue to us and is reflected as an increase in the balance. In May 2011, we replaced the HSH Nordbank Collateral deposit with a letter of credit from the Bank of Montreal. As collateral for the letter of credit, the Company posted a cash deposit of $107.0 million with the Bank of Montreal, which is classified as restricted cash in the consolidated balance sheet.

The decrease in restricted cash during 2010 compared to 2009 was primarily related to escrows required by the mortgage for Airport Corporate Center, which were eliminated as part of the refinancing of its mortgage debt. See "Cash Flows from Financing Activities - Debt Financings" in this section for additional information. Additionally, during the year ended December 31, 2009, we had an increase in restricted cash primarily related to rent held in escrow of $10.7 million at one of our properties required by its mortgage agreement to be restricted as of year-end, which was subsequently released.

Cash Flows from Financing Activities

Public Offerings

During the years ended December 31, 2010 and 2009, respectively, we raised proceeds of $1.6 million and $250.4 million, excluding proceeds from the dividend reinvestment plan. The decrease in proceeds received in 2010 was caused by our board of directors' decision to cease new sales of primary shares through the Third Offering effective January 1, 2010.

We funded redemptions of $11.7 million for the year ended December 31, 2011 compared to $9.7 million and $152.5 million, respectively, for the years ended December 31, 2010 and 2009. The decrease in 2011 and 2010 is a result of our board of directors' decision on November 30, 2009 to suspend our share redemption program with the exception of redemption requests made in connection with the death or disability of a stockholder.

Payment of Offering Costs

In addition to making investments in accordance with our investment objectives, we have used our capital resources to pay Hines Securities, Inc. (the "Dealer Manager") and the Advisor for services they provided to us during the various phases of our offerings and operations. Pursuant to the terms of the Third Offering, we were not obligated to pay organizational and offering costs related to the Third Offering, other than selling commissions and the dealer manager fee. As a result, we did not incur or pay any organizational or offering costs related to the Third Offering during 2009. Under a new advisory agreement executed July 1, 2010, we agreed to reimburse the Advisor for any offering-related issuer costs that it incurs on our behalf. The costs incurred related to the DRP Offering have not been substantial.

During the year ended December 31, 2011 and 2010, we paid offering costs of approximately $63,000 and $320,000, respectively. During the year ended December 31, 2009, we paid offering costs of $21.5 million, which primarily included selling commissions and dealer manager fees paid to the Dealer Manager in relation to the Third Offering, which was terminated effective January 1, 2010.

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Distributions

In order to meet the requirements for being treated as a REIT under the Internal Revenue Code of 1986 and to pay regular cash distributions to our shareholders, which is one of our investment objectives, we have declared and expect to continue to declare distributions to shareholders (as authorized by our board of directors) as of daily record dates and aggregate and pay such distributions quarterly. With the authorization of its board of directors, we have declared distributions monthly and aggregated and paid such distributions quarterly. We intend to continue this distribution policy for so long as our board of directors decides this policy is in our best interests. Beginning July 1, 2010, the annual distribution rate was decreased from $0.00165699 to $0.00138082 per share, per day, which represented a change in the annualized distribution rate from 6% to 5% (based on our prior primary offering price of $10.08 per share). With the authorization of our board of directors, we have continued to declare distributions in the amount of $0.00138082 per share, per day through April 30, 2012, which represents an annual distribution rate of 6.5%, based on our new estimated share value of $7.78, determined on May 24, 2011 (assuming the current distribution rate is maintained for a twelve-month period).

With respect to the $0.00138082 per share, per day distributions declared for July 2011 through April 2012, $0.00041425 of the per share, per day distributions were or will be designated by us as special distributions which represent a return of a portion of the shareholders' invested capital and, as such, reduce their remaining investment in the Company. The special distributions were or will be funded with a portion of the proceeds from sales of investment property. The above designations of a portion of the distributions as special distributions does not impact the tax treatment of the distributions to our shareholders. The remaining 70% of our distributions was or will be paid from funds generated by our operations.

In addition, for the period from July 1, 2011 through December 31, 2012, our Advisor has agreed to waive a portion of its monthly cash asset management fee such that the fee will be reduced from 0.0625% to 0.0417% (0.75% to 0.50% on an annual basis) of the net equity capital we have invested in real estate investments as of the end of each month. As a result of the waiver of these fees, cash flow from operations that would have been paid to the Advisor will be available to pay distributions to shareholders. This fee waiver is not a deferral and accordingly, these fees will not be paid to the Advisor in cash at any time in the future.

The table below outlines our total distributions declared to shareholders and noncontrolling interests for each of the years ended December 31, 2011, 2010 and 2009, including the breakout between the distribution paid in cash and those reinvested pursuant to our dividend reinvestment plan (all amounts are in thousands).

                                                                                      Noncontrolling                                           Shareholders                                 Interests                                             Distributions Year Ended         Cash Distributions        Reinvested         Total Declared      Total Declared December 31, 2011 $             64,734    $         48,890     $       113,624      $         5,014 December 31, 2010 $             64,165    $         58,183     $       122,348      $         4,524 December 31, 2009 $             62,365    $         66,838     $       129,203      $         4,065   

For the year ended December 31, 2011 and 2010, we funded our cash distributions with cash flows from operating activities, distributions received from our unconsolidated investments and proceeds from the sales of our real estate investments. For the years ended December 31, 2009, we funded our cash distributions with cash flows from operating activities and distributions received from our unconsolidated entities.

Debt Financings

We use debt financing from time to time for property improvements, tenant improvements, leasing commissions and other working capital needs. Most of our debt is in the form of secured mortgage loans, which we entered into at the time each real estate asset was acquired. As of December 31, 2011 our debt financing had a weighted average interest rate of 5.6% (including the effect of interest rate swaps) compared to a weighted average interest rate of 5.7% (including the effect of interest rate swaps) as of December 31, 2010. Additionally, as of December 31, 2011 our portfolio was approximately 55% leveraged compared with 59% and 58% leveraged, at December 31, 2010 and 2009, respectively. This leverage percentage is calculated using the estimated aggregate value of our real estate investments (including our pro rata share of real estate assets through our investments in other entities such as the Core Fund), cash and cash equivalents and restricted cash on hand as of that date.

In August 2011, we executed a mortgage agreement with John Hancock Life Insurance Company (USA) to refinance Airport Corporate Center's$65.0 million mortgage. The new mortgage is a 10-year, $79.0 million mortgage with a fixed rate of 5.14%. The mortgage requires interest payments for the first two years, at which time the mortgage begins amortizing until its maturity. Previously in March 2010, we refinanced Airport Corporate Center's$77.9 million mortgage with a $65.0 million mortgage with Westdeutsche Immobilienbank AG.

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In August 2011, the Company executed a mortgage agreement with Metropolitan Life Insurance Company and retired an existing $45.0 million note payable that was secured by our interest in 1515 S. Street. The new mortgage is an amortizing five year, $41.0 million loan with a fixed rate of 4.25% and is secured by our interest in 1515 S. Street.

During the year ended December 31, 2011, we received debt proceeds of $43.0 million and made payments of $43.0 million related to borrowings under our revolving credit facility. Additionally, during the year ended December 31, 2010, we received debt proceeds of $29.0 million and made payments of $90.5 million related to borrowings under our revolving credit facility. We used proceeds from our revolving credit facility to make capital contributions related to our properties and fund general working capital needs. Our revolving credit facility expired in October 2010 and we did not exercise our option to extend this facility. We entered into a new $45.0 million revolving line of credit with KeyBank on February 3, 2011. This facility (as amended) provided for an original expiration date of August 3, 2011, subject to an extension at the Company's election for an additional 18-month period. On August 2, 2011, we exercised our option to extend the maturity date to February 3, 2013.

As of December 31, 2011, we had $520.0 million outstanding under a secured credit facility with HSH Nordbank. HSH Nordbank has the right to have the properties serving as collateral under this credit facility appraised every two years. Should the aggregate outstanding principal amounts under this facility exceed 55% of the lender's appraised values, we must rebalance through making a partial payment or providing additional collateral to eliminate such excess. Subject to this requirement in 2009, we posted additional cash collateral of approximately $106.1 million to rebalance the collateral for the properties under this credit facility which is included in additional cash collateral on notes payable in the consolidated statement of cash flows. This cash collateral was primarily funded with a borrowing under our revolving credit facility. If real estate values decline in the future, the Company could be required to pay additional amounts to rebalance the collateral for the properties under this credit facility.

During the year ended December 31, 2009, we received debt proceeds of $290.0 million and made payments of $244.5 million related to borrowings under our revolving credit facility. In addition, we made a principal payment of $13.1 million to reduce the outstanding principal balance of the original Airport Corporate Center loan and made $1.0 million of debt payments related to amortizing loans at certain of our properties.

Results of Operations

Year ended December 31, 2011 compared to the year ended December 31, 2010

Results for our Directly-Owned Properties

We owned 21 properties directly that were 86% leased as of December 31, 2011 compared to 22 properties that were 89% leased as of December 31, 2010. The following table presents the same store property-level revenues and expenses for the year ended December 31, 2011, as compared to the same period in 2010. Please note the following analysis excludes the activity of Atrium on Bay for both periods which was sold during 2011 and our Brazilian properties sold in 2010. All amounts are in thousands, except for percentages:

                                           Years Ended December 31,               Change                                            2011            2010             $            % Property revenues in excess of expenses Property revenues                      $     278,332     $ 290,545      $ (12,213)       (4.2) % Less: property expenses (1)                  116,856       118,516         (1,660)       (1.4) % Total property revenues in excess of expenses                               $     161,476     $ 172,029      $ (10,553)       (6.1) %  

Other

 Depreciation and amortization          $      92,518     $ 102,012      $  (9,494)       (9.3) % Other losses, net                      $           -     $     802      $    (802)     (100.0) % Interest expense                       $      81,207     $  80,889      $     318         0.4  % Interest income                        $         514     $     270      $     244        90.4  % Income tax expense                     $         494     $     543      $     (49)       (9.0) %   __________  (1)  Property expenses include property operating expenses, real      property taxes and property management fees.                                            42

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Table of Contents

Property revenues from the operations of our properties for the year ended December 31, 2011 declined as compared to the same period in 2010 as a result of the following:

   1) Decrease of $4.6 million due to out-of-market lease amortization.   Out-of-market lease amortization was an increase to revenue of $7.6 million in   2011 compared to $12.2 million in 2010 resulting from fully amortized lease   intangibles.      2) Decrease of $4.2 million due to tenant inducement amortization.  Tenant   inducement amortization was a decrease to revenue of $12.3 million in 2011   compared to $8.1 million in 2010.      3) Decrease due to the adverse effects of the economic recession on commercial   real estate fundamentals. For example, decreases in tenant demand and leasing   velocity have led to declining rental rates and increased tenant incentives on   lease renewals. Additionally, we have also experienced increases in tenant   defaults. See "Economic Update" for additional information regarding the   effects of the economy on our real estate portfolio.   

Depreciation and amortization decreased during the year ended December 31, 2011 as compared to the same period in 2010 due to fully amortized in-place lease intangibles.

Additionally, we are continually evaluating each of our investments to determine the ideal time to sell assets in order to achieve attractive total returns and provide additional liquidity to the Company. As a result of future potential disposals and other factors, our results of operations for the year ended December 31, 2011 could differ from our results of operations in future periods.

Discontinued Operations

On January 22, 2010, we sold Distribution Park Araucaria, an industrial property located in Curitiba, Brazil, which we acquired in December 2008. The sales price was $38.4 million (69.9 million BRL translated at a rate of R$1.818 per USD). In connection with the sale of Distribution Park Araucaria, we incurred a disposition fee payable to our Advisor of approximately $384,000.

On April 22, 2010, we sold Distribution Parks Elouveira and Vinhedo, two industrial properties located in Sao Paolo, Brazil, which we acquired in December 2008. The collective sales price for both properties was $102.5 million (181.0 million BRL translated at a rate of R$1.765 per USD on the date of the transaction). In connection with the sale of Distribution Parks Elouveira and Vinhedo we incurred a disposition fee payable to our Advisor of $1.0 million.

On June 1, 2011, we sold Atrium on Bay, a mixed-use office and retail complex located in the Downtown North submarket of the central business district of Toronto, Canada, which we acquired in February 2007. The contract sales price for Atrium on Bay was $344.8 million CAD ($353 million USD, based on the exchange rate in effect on the date of sale). We acquired Atrium on Bay in February 2007 for 250.0 million CAD ($215.5 million USD, based on the exchange rate in effect on the date of acquisition).

The results of operations of Distribution Parks Araucaria, Elouveira, Vinhedo and Atrium on Bay and the gain realized on these properties for the years ended December 31, 2011 and 2010 were as follows:

                                                        2011            2010                                                            (In thousands) Revenues: Rental revenue                                       $  17,298       $  42,223 Other revenue                                            2,365           5,443    Total revenues                                       19,663          47,666 Expenses: Property operating expenses                              5,332          12,171 Real property taxes                                      4,225           9,800 Property management fees                                   475           1,111 Depreciation and amortization                            3,770           9,772    Total expenses                                       13,802          32,854 Income from discontinued operations before interest income, taxes and gain on sale                  5,861          14,812 Interest expense                                        (4,426)        (10,103) Interest income                                             33             119 (Provision) benefit for income taxes                        75            (320) Income from discontinued operations                      1,543           4,508 Gain on sale of discontinued operations                107,241          22,537 Income from discontinued operations                  $ 108,784       $  27,045                                            43 

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  Table of Contents    Results for our Indirectly-Owned Properties

Our Interest in the Core Fund

As of December 31, 2011, we owned a 27.5% non-managing general partner interest in the Core Fund, which held interests in 23 properties that were 87% leased. As of December 31, 2010, we owned a 26.8% non-managing general partner interest in the Core Fund, which held interests in 24 properties that were 87% leased. Our equity in losses related to our investment in the Core Fund for the year ended December 31, 2011 was $7.5 million compared to equity in earnings of $2.7 million for the year ended December 31, 2010. The change in our equity in earnings (losses) for the year ended December 31, 2011 primarily resulted from our portion of an impairment charge recorded at five of the Core Fund's properties located in suburban Sacramento ($18.0 million) offset by our portion of a gain on the sale of Three First National Plaza during the third quarter of 2011 ($20.5 million) and our portion of a gain on the sale of 600 Lexington Avenue during the second quarter of 2010 ($12.5 million). Each of these is described further below.

On August 26, 2011, the Core Fund sold Three First National Plaza, an office building located in Chicago, Illinois, which it acquired in March 2005 for a contract purchase price of $245.3 million. The contract sales price was $344.0 million. As a result of the sale, the Core Fund recognized a gain on sale of $114.1 million. We recognized a gain of $20.5 million in relation to this sale, which is included in equity in earnings (losses) of unconsolidated entities, net in the consolidated statements of operations.

During the second quarter of 2011, the Core Fund recorded an impairment loss of $101.1 million related to five of its properties located in suburban Sacramento. The Company's pro rata share of this loss was approximately $18.0 million which has been included in equity in earnings losses for the year ended December 31, 2011.

                                           44 

                                             Years Ended December 31,               Change                                             2011             2010              $           %  

            6,740            6,925           (185)      (2.7) %    

                                          45 

                                           Years Ended December 31,              Change                                            2010            2009             $           % Property revenues in excess of expenses Property revenues                      $     290,545     $ 316,892      $ (26,347)      (8.3) % Less: property expenses (1)                  118,516       126,960         (8,444)      (6.7) % Total property revenue in excess of expenses                               $     172,029     $ 189,932      $ (17,903)      (9.4) %  

 Depreciation and amortization          $     102,012     $ 111,255      $  (9,243)      (8.3) % Other losses, net                      $         802     $   3,441      $  (2,639)     (76.7) % Interest expense                       $      80,889     $  82,371      $  (1,482)      (1.8) % Interest income                        $         270     $     401      $    (131)     (32.7) % Income tax expense                     $         543     $     550      $      (7)      (1.3) %   __________  (1)  Property expenses include property operating expenses, real      property taxes and property management fees.   

   1) Decrease of $3.1 million due to tenant inducement amortization. Tenant   inducement amortization was a decrease to revenue of $8.1 million in 2010   compared to $5.0 million in 2009.      2) Decrease due to the adverse effects of the economic recession on commercial   real estate fundamentals. For example, decreases in tenant demand and leasing   velocity have led to declining rental rates and increased tenant incentives on   lease renewals. We have also experienced increases in tenant defaults, which   have negatively impacted our revenues between the periods.   

                                          46 

                                                            2010              2009                                                               (In thousands) Revenues: Rental revenue                                         $      42,223      $   48,763 Other revenue                                                  5,443           4,166       Total revenues                                          47,666          52,929 Expenses: Property operating expenses                                   12,171          10,643 Real property taxes                                            9,800           8,804 Property management fees                                       1,111           1,098 Depreciation and amortization                                  9,772          14,816       Total expenses                                          32,854          35,361

                                14,812          17,568 Interest expense                                            (10,103)         (9,167) Interest income                                                  119              71 Income taxes                                                   (320)         (1,543) Income from discontinued operations                            4,508           6,929 Gain on sale of discontinued operations                       22,537               - Income from discontinued operations                           27,045      $    6,929                                             47

  Table of Contents    Results for our Indirectly-Owned Properties

                                             Years Ended December 31,           Change                                             2010             2009           $        %  

            6,925            6,108        817     13.4 %                                             48

                                          49 

  derivative instruments related to our interest rate swaps. Although we expect   to hold these instruments to maturity, if we were to settle these instruments   currently, it would have an impact on our operating performance.     

  written down to current market valuations. Although these losses are included   in the calculation of net income (loss), we have excluded them from MFFO   because we believe doing so more appropriately presents the operating   performance of our real estate investments on a comparative basis.   

                                                       Year Ended December 31,                                                  2011           2010          2009 Net income (loss)                            $     43,914    $  (35,383)   $   6,685 Depreciation and amortization (1)                  96,289       111,784      126,071 Gain on sale of investment property (2)                                              (107,241)      (22,562)        (612) Adjustments to equity in earnings (losses) from unconsolidated entities, net (3)                   52,172        26,652       39,269 Adjustments for noncontrolling interests (4)                                      (3,550)       (2,962)      (5,203) Funds from operations                              81,584        77,529      166,210 (Gain) loss on derivative instruments (5)                                    24,590        18,525      (49,297) Impairment on land parcel (6)                           -           811        3,412 Other components of revenues and expenses (7)                                       (2,430)      (13,255)     (17,871) Acquisition fees and expenses (8)                       -             -        1,160 Adjustments to equity in earnings (losses) from unconsolidated entities, net (3)                  (18,619)         (156)         753 Adjustments for noncontrolling interests (4)                                        (203)         (119)       1,868 Modified Funds From Operations               $     84,922    $   83,335    $ 106,235  Modified Funds From Operations Per Common Share                                 $       0.38    $     0.38    $    0.51 Weighted Average Shares Outstanding               225,442       220,896      207,807      1)   Represents the depreciation and amortization of various real       estate assets. Historical cost accounting for real estate assets       in accordance with GAAP implicitly assumes that the value of       real estate assets diminishes predictably over time. Since real       estate values have historically risen or fallen with market       conditions, we believe that such depreciation and amortization       may be of limited relevance in evaluating current operating       performance and, as such, these items are excluded from our       determination of FFO. This amount includes $3.8 million, $9.8       million and $14.8 million of depreciation and amortization       related to discontinued operations for the years ended December       31, 2011, 2010 and 2009, respectively.   2)   Represents the gain on disposition of certain real estate       investments. Although this gain is included in the calculation       of net income (loss), we have excluded it from FFO because       we believe doing so more appropriately presents the operating       performance of our real estate investments on a comparative       basis.   3)   Includes adjustments to equity in earnings (losses) of       unconsolidated entities, net, similar to those described in       Notes 1, 2, 4, 6 and 7 for our unconsolidated entities, which       are necessary to convert our share of income (loss) from       unconsolidated entities to FFO and MFFO.   4)   Includes income attributable to noncontrolling interests and all       adjustments to eliminate the noncontrolling interests' share of       the adjustments to convert our net income (loss) to FFO and       MFFO.                                            50

  5)   Represents components of net income (loss) related to the       estimated changes in the values of our interest rate swap       derivatives. We have excluded these changes in value from our       evaluation of our operating performance and MFFO because we       expect to hold the underlying instruments to their maturity and       accordingly the interim gains or losses will remain unrealized.   6)   Represents impairment charges recorded in accordance with GAAP.       Although such charges are included in the calculation of net       income (loss), we have excluded them from MFFO because       we believe doing so more appropriately presents the operating       performance of our real estate investments on a comparative       basis.   7)   Includes the following components of revenues and expenses that       we do not consider in evaluating our operating performance and       determining MFFO for the years ended December 31, 2011, 2010 and       2009 (in thousands):                                                      Year Ended December 31,                                              2011         2010         2009 Straight-line rent adjustment (a)          $ (7,244)   $  (8,298)   $  (9,435) Amortization of lease incentives (b)         12,493        8,425        5,306 Amortization of out-of-market leases (b)     (8,524)     (14,212)     (14,748) Other                                           845          829        1,007                                            $ (2,430)   $ (13,256)   $ (17,870)           a )   Represents the adjustments to rental revenue as required by             GAAP to recognize minimum lease payments on a straight-line             basis over the respective lease terms. We have excluded these             adjustments from our evaluation of the operating performance of             the Company and in determining MFFO because we believe that the             rent that is billable during the current period is a more             relevant measure of the Company's operating performance for             such period.        b )   Represents the amortization of lease incentives and             out-of-market leases. As stated in Note 1 above, historical             cost accounting for real estate assets in accordance with GAAP             implicitly assumes that the value of real estate assets             diminishes predictably over time. Since real estate values have             historically risen or fallen with market conditions, we believe             that such amortization may be of limited relevance in             evaluating current operating performance and, as such, these             items are excluded from our determination of MFFO.     8 )  Represents acquisition expenses and acquisition fees paid to our         Advisor that are expensed in our consolidated statements of         operations. We fund such costs with proceeds from our offering and         acquisition-related indebtedness, and therefore do not consider         these expenses in evaluating our operating performance         and determining MFFO.   

  office building located in Chicago, Illinois. The Core Fund's net proceeds from   the sale of a 49% noncontrolling interest in One North Wacker after deducting   credits at closing and transaction costs were approximately $189.9 million. Our   effective ownership in this asset immediately prior to the completion of the   sale was 22%. See additional information in "Results of Operations for the Year   ended December 31, 2011 compared to the year ended December 31, 2010 - Results   for our Indirectly-owned Properties - Our Interest in the Core Fund" included   elsewhere in this Annual Report on Form 10-K.   

  property located in Chicago, Illinois, which it acquired in March 2005 for   $245.3 million. The Core Fund's net proceeds from the sale of Three First   National Plaza after deducting transaction costs, taxes and fees were   approximately $198.5 million. Our effective ownership in this asset immediately   prior to the completion of the sale was 18%. See additional information in   "Results of Operations for the Year ended December 31, 2011 compared to the   year ended December 31, 2010 - Results for our Indirectly-owned Properties -   Our Interest in the Core Fund" included elsewhere in this Annual Report on Form   10-K.     

  located in the Downtown North submarket of the central business district of   Toronto, Canada.  We acquired Atrium on Bay in February 2007 for 250.0 million   CAD ($215.5 million USD, based on the exchange rate in effect on the date of   acquisition). The contract sales price for Atrium on Bay was 344.8 million CAD   ($353 million USD, based on the exchange rate in effect on the date of sale),   exclusive of transaction costs. The net proceeds received from this sale were   $128.7 million after transaction costs, assumption of related mortgage debt by   the purchaser and local taxes.                                            51

  we acquired in connection with our purchase of Williams Tower. The sales price   of the land parcel was $12.8 million. Proceeds received after closing costs and   fees were $11.8 million. We recorded impairment charges of approximately   $811,000 and $3.4 million for the years ended December 31, 2010 and 2009,   respectively, which is included in other losses in the accompanying condensed   consolidated statements of operations but have been excluded from MFFO. See   Note 6 above.   

  in New York, New York, which it acquired in February 2004.  The Core Fund's   total cost basis in 600 Lexington was approximately $103.8 million and the net   proceeds from the sale after deducting transaction costs, taxes and fees were   approximately $185.9 million.  Our effective ownership in this asset   immediately prior to the completion of the sale was 11.67%. See additional   information in "Results of Operations for the Year ended December 31, 2011   compared to the year ended December 31, 2010 - Results for our Indirectly-owned   Properties - Our Interest in the Core Fund" included elsewhere in this Annual   Report on Form 10-K.       

  industrial properties located in Sao Paulo, Brazil, which we acquired in   December 2008 for $83.1 million. Net proceeds from the sale after deducting   transaction costs, fees and taxes were $93.3 million.   

  property located in Curitiba, Brazil, which we acquired in December 2008 for   $33.0 million. Net proceeds from the sale after deducting transaction costs,   fees and taxes were $34.6 million.   

  connection with the Laguna Buildings in December 2009. See additional   information in "Results of Operations for the Year ended December 31, 2010   compared to the year ended December 31, 2009 - Sales of Investment Property"   included elsewhere in this Annual Report on Form 10-K.   

  agreement, for the years ended December 31, 2011, 2010 and 2009, we received   distributions of approximately $2.9 million, $2.3 million and $2.6 million in   excess of our pro-rata share of the joint venture's MFFO, respectively.   

$2.8 million for the years ended December 31, 2011, 2010 and 2009,   respectively, and was deducted in determining MFFO.   

  through the Participation Interest. For the years ended December 31, 2011, 2010   and 2009, these amounts were $3.6 million, $15.5 million and $12.4 million,   respectively.   

  31, 2009. These leases were entered into in conjunction with certain asset   acquisitions.   

                                           52 

  The following table lists our known contractual obligations as of December 31, 2011. Specifically included are our obligations under long-term debt agreements (in thousands):                                                        Payments due by Period                               Less Than 1                                 More Than Contractual Obligation            Year        1-3 Years     3-5 Years      5 Years         Total Notes payable (1)             $   236,099    $  549,949    $  380,493    $  434,558    $  1,601,099 Total contractual obligations (2)               $   236,099    $  549,949    $  380,493    $  434,558    $  1,601,099   __________ 

    loans outstanding as of December 31, 2011. Interest payments due to     HSH Nordbank were determined using effective interest rates which     were fixed as a result of interest rate swaps. Under the terms of     each swap transaction, we have agreed to make monthly payments at     fixed rates of interest and will receive monthly payments from HSH     Nordbank based on 1-month LIBOR. See "Financial Condition,     Liquidity and Capital Resources - Debt Financings" for further     information. 

    million liability related to the Participation Interest. Although     we expect to settle this liability in the future, we are not     currently able to estimate the date on which the settlement will     occur. See Note 13 ? Fair Value Disclosures to our consolidated     financial statements for additional information.