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, 1997

                                       OR

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

For the transition period from ____________ to _____________

Commission File Number:             1-8063


                                  CAPITAL TRUST
             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                           <C>
California                                                                         94-6181186
--------------------------------------------------             --------------------------------------------------
(State or other jurisdiction of                                       (I.R.S. Employer Identification No.)
incorporation or organization)

605 Third Avenue, 26th Floor, New York, NY                                                  10016
-----------------------------------------------------------------------------------------------------------------
(Address of principal executive offices)                                                         (Zip Code)
</TABLE>


                                 (212) 655-0220
              (Registrant's telephone number, including area code)


         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.

Yes[ X ]    No[   ]





<PAGE>



                      APPLICABLE ONLY TO CORPORATE ISSUERS:

         Indicate the number of shares outstanding of each of the issuer's
classes of common stock as of the close of the latest practical date.

<TABLE>
<S>                                                               <C>
Class                                                                                 Outstanding at September 30, 1997
-------------------------------------------------------            ----------------------------------------------------
Class A Common Shares of Beneficial Interest,                                           9,138,325
$1.00 par value ("Class A Common Shares")
</TABLE>





<PAGE>



                                  CAPITAL TRUST
                                      INDEX
<TABLE>
<CAPTION>
                                                                                                               Page
<S>                                                                                                            <C>
Part I.       Financial Information

              Item 1:      Financial Statements...................................................................1

                           Consolidated Balance Sheets -
                                    September 30, 1997 and December 31, 1996......................................1

                           Consolidated Statements of Operations -
                                    Three and Nine Months Ended
                                    September 30, 1997 and 1996...................................................2

                           Consolidated Statement of Shareholders' Equity -
                                    Nine Months Ended September 30, 1997..........................................3

                           Consolidated Statements of Cash Flows -
                                    Nine Months Ended September 30, 1997 and 1996.................................4

                           Notes to Consolidated Financial Statements.............................................5

              Item 2:      Management's Discussion and Analysis of Financial Condition and
                                    Results of Operations........................................................25

              Item 3:      Quantitative and Qualitative Disclosure about Market Risk.............................31

Part II. Other Information

              Item 1:      Legal Proceedings.....................................................................32

              Item 2:      Changes in Securities and Use of Proceeds.............................................32

              Item 3:      Defaults Upon Senior Securities.......................................................32

              Item 4:      Submission of Matters to a Vote of Security Holders...................................32

              Item 5:      Other Information.....................................................................34

              Item 6:      Exhibits and Reports on Form 8-K......................................................35
</TABLE>





<PAGE>



                         Capital Trust and Subsidiaries
                           Consolidated Balance Sheets
                    September 30, 1997 and December 31, 1996
                                 (in thousands)
                                    (audited)


<TABLE>
<CAPTION>
                                                                                   September 30,           December 31,
                                           Assets                                      1997                    1996
                                                                                -------------------     -------------------
<S>                                                                                     <C>                      <C>
Cash and cash equivalents                                                               $     4,063              $    4,698
Available-for-sale securities                                                                13,030                  14,115
Investment and lending transactions, net of $155 and $0 reserve for possible
    credit losses at September 30, 1997 and December 31, 1996, respectively                  88,358                   1,010
Rental properties                                                                             --                      8,585
Excess of purchase price over net tangible assets acquired, net                                 337                   --
Deposits and other receivables                                                                3,795                   1,273
Prepaid and other assets                                                                      2,712                     355
                                                                                        -----------              ----------
       Total assets                                                                      $  112,295              $   30,036
                                                                                         ==========              ==========



                            Liabilities and Shareholders' Equity

Liabilities:
    Accounts payable and accrued expenses                                              $      2,738           $         326
    Notes payable                                                                             4,867                   5,169
    Credit facility                                                                          11,715                   --
    Repurchase obligations                                                                   36,881                   --
    Deferred revenue                                                                            725                   --
    Other liabilities                                                                         --                         70
                                                                                        -----------              ----------
    Total liabilities                                                                        56,926                   5,565
                                                                                         ==========              ==========

Commitments and contingencies

Shareholders' equity:
    Class A Preferred Shares, $1.00 par value, 12,639 shares authorized, 12,268
       and 0 shares issued and outstanding at September 30, 1997 and
       December 31, 1996, respectively                                                       12,268                   --
    Class A Common Shares, $1.00 par value; unlimited shares authorized,
       9,138 shares issued and outstanding                                                    9,138                   9,138
    Additional paid-in capital                                                               75,719                  55,117
    Unrealized gain on available-for-sale securities                                            459                    (22)
    Accumulated deficit                                                                    (42,215)                (39,762)

Total shareholders' equity                                                                   55,369                  24,471
                                                                                        -----------              ----------

Total liabilities and shareholders' equity                                             $    112,295           $      30,036
                                                                                         ==========              ==========
</TABLE>

          See accompanying notes to consolidated financial statements.

  
                                                            -1-

<PAGE>



                         Capital Trust and Subsidiaries
                      Consolidated Statements of Operations
             (in thousands, except per share data and share amounts)

<TABLE>
<CAPTION>
                                                           Three Months Ended                         Nine Months Ended
                                                              September 30,                             September 30,
                                                  -------------------------------------      ------------------------------------
                                                        1997                 1996                 1997                 1996
                                                  ----------------      ---------------      ---------------      ---------------
                                                               (unaudited)                      (audited)           (unaudited)
<S>                                               <C>                      <C>                 <C>                     <C>
Income from investment and lending transactions:
    Interest and related income                       $      1,787         $         69            $   1,863            $     444
    Interest and related expenses                              790                --                     790                --
                                                  ----------------
      Net income from investment and lending
        transactions                                           997                   69                1,073                  444
                                                  ----------------      ---------------      ---------------      ---------------

Other revenues:
    Advisory and asset management fees                         529                --                     529                --
    Rental income                                                8                  482                  313                1,585
    Other interest income                                      405                  220                1,008                  393
                                                  ----------------      ---------------      ---------------      ---------------
      Total other revenues                                     942                  702                1,850                1,978
                                                  ----------------      ---------------      ---------------      ---------------

Other expenses:
    General and administrative                               3,329                  313                4,470                1,149
    Other interest expense                                      21                  136                  144                  410
    Rental property expenses                                 --                     149                  123                  475
    Depreciation and amortization                               27                   20                   52                   45
                                                  ----------------      ---------------      ---------------      ---------------
      Total other expenses                                   3,377                  618                4,789                2,079
                                                  ----------------      ---------------      ---------------      ---------------

    Net income (loss) before gain (loss) 
      on sale of rental properties, 
      provision for possible credit
      losses and income taxes                               (1,438)                  153              (1,866)                  343
Gain (loss) on sale of investments and properties             --                     517                (432)                1,113
Provision for possible credit losses                          (155)              (1,184)                (155)              (1,743)
                                                   ----------------      ---------------      ---------------      ---------------
      Loss before income taxes                              (1,593)                (514)              (2,453)                (287)
Provision for income taxes                                     --                    --                   --                    --
                                                   ----------------      ---------------      ---------------      ---------------
      Net loss                                              (1,593)                (514)              (2,453)                (287)
Less:  Preferred Share dividend requirement                   (679)                   --                (679)                   --
                                                   ----------------      ---------------      ---------------      ---------------
      Net loss allocable to Class A Common Shares       $   (2,272)         $      (514)          $   (3,132)         $      (287)
                                                   ================      ===============      ===============      ===============

Per share information:
      Net loss per Class A Common Share
        Primary and fully diluted                      $     (0.25)         $     (0.06)          $    (0.34)         $     (0.03)
                                                   ================      ===============      ===============      ===============
      Weighted average Class A Common Shares
        outstanding
        Primary and fully diluted                         9,138,325            9,138,325            9,138,325            9,138,325
                                                   ================      ===============      ===============      ===============
</TABLE>


          See accompanying notes to consolidated financial statements.

  
                                                             -2-

<PAGE>



                         Capital Trust and Subsidiaries
                 Consolidated Statement of Shareholders' Equity
                  For the Nine Months Ended September 30, 1997
                                 (in thousands)
                                    (audited)


<TABLE>
<CAPTION>
                                                                               
                                  Preferred Shares          Common Shares      Additional
                                ---------------------   ---------------------   Paid-In      Unrealized   
                                 Number      Amount      Number      Amount      Capital         Gain     
                                ---------   ---------   ---------   ---------  -----------   ------------ 
<S>                             <C>          <C>            <C>       <C>       <C>           <C>         
Balance at December 31, 1996      --        $ --            9,138    $  9,138    $  55,117     $     (22) 
Change in unrealized gain on
    available-for-sale securities --          --          --          --           --                 481 
Issuance of preferred shares       12,268      12,268     --          --            20,602        --      
Net loss                          --          --          --          --           --             --      
                                ---------   ---------   ---------   ---------  -----------   ------------ 
Balance at September 30, 1997      12,268     $12,268       9,138    $  9,138    $  75,719     $      459 
                                =========   =========   =========   =========  ===========   ============ 



                                   Accumulated
                                     Deficit         Total     
                                  --------------  -----------  
Balance at December 31, 1996           $(39,762)    $  24,471  
Change in unrealized gain on                                   
    available-for-sale securities        --               481  
Issuance of preferred shares             --            32,870  
Net loss                                 (2,453)      (2,453)  
                                  --------------  -----------  
Balance at September 30, 1997          $(42,215)    $  55,369  
                                  ==============  ===========  
</TABLE>



          See accompanying notes to consolidated financial statements.


  
                                       -3-

<PAGE>



                         Capital Trust and Subsidiaries
                      Consolidated Statements of Cash Flows
                                 (in thousands)


<TABLE>
<CAPTION>
                                                                                           Nine Months Ended September 30,
                                                                                      ------------------------------------------
                                                                                             1997                   1996

                                                                                      ------------------     -------------------
                                                                                          (audited)              (unaudited)
<S>                                                                                       <C>                      <C>
Cash flows from operating activities:
    Net loss                                                                                $    (2,453)            $      (287)
Adjustments to reconcile net loss to net cash (used in) provided by operating
    activities:
    Depreciation and amortization                                                                     52                      45
    Unrealized gain on available-for-sale securities                                                 481                   --
    (Gain) loss on sale of investments and properties                                                432                 (1,113)
    Provision for possible credit losses                                                             155                   1,743
    Changes in assets and liabilities net of effects from subsidiaries
purchased:
      Deposits and receivables                                                                     (804)                     (5)
      Prepaid and other assets                                                                   (2,846)                    (61)
      Deferred revenue                                                                              725                   --
      Accounts payable and accrued expenses                                                        2,877                      48
      Other liabilities                                                                             (64)                   --
Net cash (used in) provided by operating activities                                              (1,445)                     370
                                                                                      ------------------     -------------------

Cash flows from investing activities:
    Purchases of available-for-sale securities                                                     --                   (15,849)
    Origination and purchase on investment and lending transactions                             (87,626)                   --
    Principal collections of investment and lending transactions                                     123                      29
    Purchases of equipment and leasehold improvements                                              (421)                   --
    Improvements to rental properties                                                              --                      (123)
    Proceeds from sale of investments and rental properties                                        8,153                  13,841
    Principal collections on available-for-sale securities                                         3,483                     257
    Acquisition of Victor Capital Group, L.P., net of cash acquired                              (4,066)                   --
                                                                                                             -------------------
Net cash used in investing activities                                                           (80,354)                 (1,845)
                                                                                      ------------------     -------------------

Cash flows from financing activities:
    Proceeds from repurchase obligations                                                          54,166                   --
    Termination of repurchase obligations                                                       (17,285)                   --
    Proceeds from credit facility                                                                 11,715                   --
    Proceeds from notes payable                                                                    4,001                   --
    Repayment of notes payable                                                                   (4,303)                    (55)
    Net proceeds from issuance of preferred shares                                                32,870                   --
Net cash provided by (used in) financing activities                                               81,164                    (55)
                                                                                      ------------------     -------------------

Net decrease in cash and cash equivalents                                                          (635)                 (1,530)
Cash and cash equivalents at January 1, 1997                                                       4,698                   4,778
                                                                                      ------------------     -------------------
Cash and cash equivalents at September 30, 1997                                               $    4,063              $    3,248
                                                                                      ==================     ===================

Supplemental disclosure of cash flow information
    Interest paid during the period                                                         $        858           $         411
                                                                                      ==================     ===================
</TABLE>

          See accompanying notes to consolidated financial statements.

  
                                       -4-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements 
                               September 30, 1997


1.       Organization

         Capital Trust (the "Company") is a specialty  finance company  designed
to take  advantage of  high-yielding  lending and  investment  opportunities  in
commercial real estate and related assets.  The Company makes or intends to make
investments  in  various  types  of  income  producing  commercial  real  estate
including  senior  and  junior  commercial  mortgage  loans,   preferred  equity
investments,  direct equity investments and subordinate  interests in commercial
mortgage-backed  securities  ("CMBS").  The Company  also  provides  real estate
investment   banking,   advisory  and  asset  management  services  through  its
subsidiary, Victor Capital Group, L.P. ("Victor Capital").

          The Company, which was formerly known as California Real Estate
Investment Trust, was organized under the laws of the State of California
pursuant to a declaration of trust dated September 15, 1966. On December 31,
1996, 76% of the Company's outstanding common shares of beneficial interest,
$1.00 par value ("Old Common Shares") were held by the Company's former parent
("Former Parent"). On January 3, 1997, the Former Parent sold its entire 76%
ownership interest (consisting of 6,959,593 Old Common Shares) in the Company to
CalREIT Investors Limited Partnership ("CRIL"), an affiliate of Equity Group
Investments, Inc. ("EGI") and Samuel Zell, the Company's current chairman of the
board of trustees, for an aggregate price of approximately $20.2 million. Prior
to the purchase, which was approved by the then-incumbent board of trustees, EGI
and Victor Capital, a then privately held company owned by two of the current
trustees of the Company, presented to the Company's then-incumbent board of
trustees a proposed new business plan in which the Company would cease to be a
real estate investment trust ("REIT") and instead become a specialty finance
company as discussed above. EGI and Victor Capital also proposed that they
provide the Company with a new management team to implement the business plan
and invest, through an affiliate, a minimum of $30 million in a new class of
preferred shares to be issued by the Company. In connection with the foregoing,
the Company subsequently agreed that, concurrently with the consummation of the
proposed preferred equity investment, it would acquire for $5 million Victor
Capital's real estate investment banking, advisory and asset management
businesses, including the services of its experienced management team. See Note
2.

         On  July  15,  1997,  the  proposed   preferred  share  investment  was
consummated and 12,267,658 class A 9.5% cumulative  convertible preferred shares
of  beneficial  interest,  $1.00 par value,  in the Company  ("Class A Preferred
Shares") were sold to Veqtor Finance  Company,  LLC ("Veqtor"),  an affiliate of
Samuel Zell and the principals of Victor Capital for an aggregate purchase price
of $33 million (the "Investment").  Concurrently with the foregoing transaction,
Veqtor  purchased from  CRIL the 6,959,593 Old Common  Shares  held by it for an
aggregate  purchase  price of  approximately  $21.3  million  (which shares were
reclassified on that date as class A common shares of beneficial interest, $1.00
par value, in the Company ("Class A Common Shares")  pursuant to the terms of an
amended and restated  declaration of trust, dated July 15, 1997, adopted on that
date (the "Amended and Restated Declaration of Trust")). See Note 9.

         As a result of these  transactions,  a change of control of the Company
occurred with Veqtor beneficially owning 19,227,251, or approximately 90% of the
outstanding voting shares of the Company.

  
                                       -5-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


Pursuant to the Amended and Restated  Declaration  of Trust,  the Company's name
was changed to "Capital Trust". As a result of the  aforementioned  events,  the
Company, as intended, commenced full implementation of the new business plan and
thereby terminated its status as a REIT.


2.       Acquisition of Victor Capital

         On July 15,  1997,  the  Company  consummated,  for $5.0  million,  the
acquisition of the real estate investment banking, advisory and asset management
businesses  of Victor  Capital and certain  affiliated  entities  including  the
following wholly-owned subsidiaries: VCG Montreal Management, Inc., Victor Asset
Management Partners, L.L.C., VP Metropolis Services, L.L.C., and 970 Management,
LLC.

         Victor  Capital  provides  services to real estate  investors,  owners,
developers and financial  institutions in connection  with mortgage  financings,
securitizations,  joint  ventures,  debt and  equity  investments,  mergers  and
acquisitions,  portfolio  evaluations,  restructurings and disposition programs.
Victor Capital's wholly-owned subsidiaries provide asset management and advisory
services  relating  to various  mortgage  pools and real estate  properties.  In
addition,  VCG Montreal Management,  Inc. holds a nominal interest in a Canadian
real estate venture.

         The purchase price of $5.0 million is evidenced by non-interest bearing
acquisition  notes,  payable in ten semi-annual equal  installments of $500,000.
The  acquisition  notes have been discounted to $3.9 million based on an imputed
interest rate of 9.5%. The acquisition has been accounted for under the purchase
method of  accounting.  The excess of the purchase  price of the  acquisition in
excess of net tangible assets acquired approximated $342,000.

         Had the  acquisition  occurred on January 1, 1997, pro forma  revenues,
net loss (after giving effect to the Preferred Share dividend  requirement)  and
net loss  per  common  share  (primary  and  fully  diluted)  would  have  been:
$6,534,000, $2,451,000 and $0.27, respectively.


3.        Summary of Significant Accounting Policies

         Principles of Consolidation

         At December 31, 1996, the Company owned  commercial  rental property in
Sacramento,  California  through a 59% limited partner  interest in Totem Square
L.P., a Washington  limited  partnership  ("Totem"),  and an indirect 1% general
partner  interest in Totem through its  wholly-owned  subsidiary  Cal-REIT Totem
Square, Inc. Totem Square Associates, an unrelated party, held the remaining 40%
interest.

         The  consolidated  financial  statements  of the  Company  include  the
accounts of the Company and Victor Capital and related wholly-owned subsidiaries
(included in the consolidated statement of operations since their acquisition on
July 15, 1997) and the results from the  disposition of its rental property held
by

  
                                       -6-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


Totem,  which was sold on March 4, 1997 prior to  commencement  of the Company's
new  business  plan.  See  Note 1. All  significant  intercompany  balances  and
transactions have been eliminated in consolidation.

         Revenue Recognition

         Interest  income for the Company's  mortgage  loans and  investments is
recognized  over  the life of the  investment  using  the  interest  method  and
recognized on the accrual basis.

         Fees received in connection  with loan  commitments  are deferred until
the loan is  advanced  and are then  recognized  over the term of the loan as an
adjustment to yield.  Fees on  commitments  that expire unused are recognized at
expiration.

         Income  recognition is generally  suspended for loans at the earlier of
the date at which  payments  become 90 days past due or when,  in the opinion of
management,  a full recovery of income and principal  becomes  doubtful.  Income
recognition  is  resumed  when  the  loan  becomes   contractually  current  and
performance is demonstrated to be resumed.

         Fees from professional  advisory  services are generally  recognized at
the point at which all Company  services have been  performed and no significant
contingencies  exist with  respect to  entitlement  to payment.  Fees from asset
management services are recognized as services are rendered.

         Reserve for Possible Credit Losses

         The  provision  for possible  credit  losses is the charge to income to
increase the reserve for  possible  credit  losses to the level that  management
estimates  to  be  adequate  considering  delinquencies,   loss  experience  and
collateral  quality.  Other factors  considered  relate to geographic trends and
product  diversification,  the  size  of  the  portfolio  and  current  economic
conditions.  When it is probable  that the Company will be unable to collect all
amounts  contractually  due,  the  account  is  considered  impaired.  Where  an
impairment is indicated,  a valuation  write-down or write-off is measured based
upon the excess of the recorded investment amount over the net fair value of the
collateral,  as reduced for selling costs.  Any deficiency  between the carrying
amount of an asset and the net sales price of repossessed  collateral is charged
to the reserve for credit losses.

         Cash and Cash Equivalents

         The  Company   classifies  highly  liquid   investments  with  original
maturities  of  three  months  or  less  from  the  date  of  purchase  as  cash
equivalents.  At September 30, 1997, cash equivalents  consisted primarily of an
investment in a money market fund that invests in Treasury bills.


  
                                       -7-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


         Available-for-Sale Securities

         Available-for-sale  securities are reported on the consolidated balance
sheet at fair market value with any corresponding change in value reported as an
unrealized  gain or loss  (if  assessed  to be  temporary),  as a  component  of
shareholders' equity, after giving effect to taxes.

         Commercial Mortgage-Backed Securities

         The  Company  has the  intent  and  ability  to hold  its  subordinated
investment in CMBS until maturity. See Note 6. Consequently,  this investment is
classified as held to maturity and is carried at amortized cost at September 30,
1997.

         Income from CMBS is recognized  based on the effective  interest method
using the anticipated  yield over the expected life of the investments.  Changes
in yield  resulting from  prepayments  are recognized over the remaining life of
the  investment.  The  Company  recognizes  impairment  on its CMBS  whenever it
determines  that the impact of  expected  future  credit  losses,  as  currently
projected, exceeds the impact of the expected future credit losses as originally
projected.  Impairment losses are determined by comparing the current fair value
of a CMBS to its existing carrying amount,  the difference being recognized as a
loss in the current  period in the  consolidated  statement  of income.  Reduced
estimates of credit  losses are  recognized  as an  adjustment to yield over the
remaining life of the portfolio.

         Derivative Financial Instruments

         The Company uses interest rate swaps to effectively  convert fixed rate
assets  to  variable  rate  assets  for  proper   matching  with  variable  rate
liabilities.  The  differential  to be paid or received on these  agreements  is
recognized as an adjustment to the interest income related to the earning asset.

         Each  derivative  used as a hedge is matched with an asset or liability
with which it has a high correlation.  The swap agreements are generally held to
maturity  and the Company  does not use  derivative  financial  instruments  for
trading  purposes.  Upon early  termination of the  designated  matched asset or
liability,  the related  derivative  is matched to another  appropriate  item or
marked to fair value.

         Equipment and Leasehold Improvements, Net

         Equipment and leasehold improvements,  net, are stated at original cost
less accumulated  depreciation and amortization.  Depreciation is computed using
the straight-line method based on the estimated lives of the depreciable assets.
Amortization is computed over the remaining terms of the related leases.

         Expenditures  for  maintenance  and  repairs  are  charged  directly to
expense at the time incurred. Expenditures determined to represent additions and
betterments are capitalized. Cost of assets sold or retired

  
                                       -8-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


and the related  amounts of accumulated  depreciation  are  eliminated  from the
accounts  in the year of sale or  retirement.  Any  resulting  profit or loss is
reflected in the consolidated statement of operations.

         Sales of Real Estate

         The Company  complies  with the  provisions  of  Statement of Financial
Accounting Standards No. 66, "Accounting for Sales of Real Estate".

         Deferred Debt Issuance Costs

         The  Company  capitalizes  costs  incurred  related to the  issuance of
long-term debt. These costs are deferred and amortized on a straight-line  basis
over the life of the related  debt and  recognized  as a  component  of interest
expense.

         Income Taxes

         Prior to commencement of full  implementation  of the new business plan
on July 15,  1997,  the  Company had elected to be taxed as a REIT and, as such,
was not taxed on that  portion of its taxable  income which was  distributed  to
shareholders, provided that at least 95% of its real estate trust taxable income
was  distributed  and that the Company met certain other REIT  requirements.  At
July 15, 1997, the Company did not meet the requirements to continue to be taxed
as a REIT and will therefore not be considered a REIT  retroactive to January 1,
1997.

         The Company has adopted Financial  Accounting Standards Board Statement
No. 109,  "Accounting for Income Taxes" ("SFAS No. 109"). SFAS No. 109, utilizes
the liability  method for computing  tax expenses.  Under the liability  method,
deferred  income taxes are  recognized  for the tax  consequences  of "temporary
differences"  by applying  statutory  tax rates to future  years to  differences
between the financial  statement  carrying amounts and the tax bases of existing
assets  and  liabilities.  Deferred  tax  assets are  recognized  for  temporary
differences  that will  result in  deductible  amounts  in future  years and for
carryforwards. A valuation allowance is recognized if it is more likely than not
that some portion of the deferred asset will not be recognized.  When evaluating
whether a valuation allowance is appropriate, SFAS No. 109 requires a company to
consider such factors as previous operating  results,  future earning potential,
tax planning strategies and future reversals of existing temporary  differences.
The  valuation  allowance  is  increased  or  decreased in future years based on
changes in these criteria.

         Amortization  of the Excess of Purchase Price Over Net Tangible  Assets
Acquired

         The Company  recognized  the excess of purchase price over net tangible
assets  acquired  in  a  business  combination   accounted  for  as  a  purchase
transaction  and is amortizing it on a  straight-line  basis over a period of 15
years.  The  carrying  value of the excess of purchase  price over net  tangible
assets  acquired is analyzed  quarterly  by the Company  based upon the expected
revenue and profitability levels of the acquired enterprise to determine whether
the value and future benefit may indicate a decline in value.

  
                                       -9-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


If the  Company  determines  that  there has been a decline  in the value of the
acquired enterprise, the Company writes down the value of the excess of purchase
price over net tangible assets acquired to the revised fair value.

         Use of Estimates

         The  preparation of financial  statements in conformity  with generally
accepted  accounting  principals  requires  management  to  make  estimates  and
assumptions  that  affect the  reported  amounts of assets and  liabilities  and
disclosure of  contingent  assets and  liabilities  at the date of the financial
statements  and the  reported  amounts  of  revenues  and  expenses  during  the
reporting period. Actual results could differ from those estimates.

         Earnings Per Class A Common Share

         Primary earnings per Class A Common Share is computed by dividing net
income (loss), after deduction of preferred share dividends declared or
required, by the weighted average number of Class A Common Shares outstanding
during the period. Fully diluted earnings per Class A Common Share is computed
by dividing net income (loss), after deduction of preferred share dividends
declared or required, by the weighted average number of Class A Common Shares
outstanding and dilutive potential Class A Common Shares (convertible preferred
share and share options) that were outstanding during the period. At September
30, 1997, the preferred shares and share options were not considered Class A
Common Share equivalents for purposes of calculating fully diluted earnings per
share as they were antidilutive. Accordingly, at September 30, 1997, there was
no difference between primary and fully diluted loss per share or weighted
average Class A Common Shares outstanding.

         Reclassifications

         Certain  reclassifications  have  been  made  to  amounts  reported  in
previous financial statements to conform to classifications adopted in 1997.

         New Accounting Pronouncements

         In February 1997,  the Financial  Accounting  Standards  Board ("FASB")
issued Statement of Financial Accounting Standards No. 128, "Earnings per Share"
("SFAS No. 128")  effective for periods ending after December 15, 1997. SFAS No.
128  simplifies  the  standard for  computing  earnings per share and makes them
comparable  with  international  earnings  per share  standards.  The  statement
replaces  primary earnings per share with Basic Earnings per Share ("Basic EPS")
and fully diluted  earnings per share with Diluted  Earnings per Share ("Diluted
EPS").  Basic EPS is computed  based on the income  applicable to Class A Common
Shares (which is net loss reduced by the dividends on preferred  shares) divided
by the  weighted-average  number of Class A Common Shares outstanding during the
period.  Diluted EPS is based on the net earnings  applicable  to Class A Common
Shares plus dividends on convertible  preferred shares,  divided by the weighted
average  number of Class A Common Shares and dilutive  potential  Class A Common
Shares that were  outstanding  during the  period.  Dilutive  potential  Class A
Common Shares

  
                                      -10-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


include the convertible preferred shares and dilutive share options. The Company
will adopt this accounting  standard  effective  December 31, 1997, as required.
The adoption of this  accounting  standard  would have no effect on the reported
September 30, 1997 earnings per share amounts.

         In  June  1997,   the  FASB  issued   Statement  No.  130,   "Reporting
Comprehensive  Income"  ("SFAS No. 130")  effective  for fiscal years  beginning
after December 15, 1997, although earlier application is permitted. SFAS No. 130
establishes  standards for reporting and display of comprehensive income and its
components in a full set of general-purpose  financial statements.  SFAS No. 130
requires that all  components of  comprehensive  income shall be reported in the
financial statements in the period in which they are recognized.  Furthermore, a
total  amount for  comprehensive  income  shall be  displayed  in the  financial
statement where the components of other comprehensive  income are reported.  The
Company  was not  previously  required  to present  comprehensive  income or the
components therewith under generally accepted accounting principles. The Company
intends  to  adopt  the  requirements  of this  pronouncement  in its  financial
statements for the year ended December 31, 1998.

         In June 1997,  the FASB  issued  Statement  No.131,  "Disclosure  about
segments of an Enterprise and Related  Information"  ("SFAS No. 131")  effective
for financial  statements  issued for periods beginning after December 15, 1997.
SFAS No. 131 requires  disclosures  about  segments of an enterprise and related
information  regarding  the different  types of business  activities in which an
enterprise engages and the different economic environments in which it operates.
The  Company  intends to adopt the  requirements  of this  pronouncement  in its
financial  statements for the year ended December 31, 1998. The adoption of SFAS
No. 131 is not  expected to have a material  impact on the  Company's  financial
statement disclosures.


4.       Interest Rate Risk Management

         Effective September 12, 1997, the Company entered into an interest rate
swap agreement for a notional amount of $15 million with a financial institution
counterparty  whereby the Company swapped a fixed rate instrument for a floating
rate instrument  based on the London Interbank  Offered Rate ("LIBOR").  Amounts
arising from the differential are recognized as an adjustment to interest income
related to the earning asset. See Note 6. The agreement  terminates on April 12,
2006.

         The Company is exposed to credit  loss in the event of  non-performance
by the  counterparty  to the  agreement,  although it does not  anticipate  such
non-performance.


  
                                      -11-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


5.       Available-for-Sale Securities

         At September  30, 1997,  the  Company's  available-for-sale  securities
consisted of the following (in thousands):

<TABLE>
<CAPTION>
                                                                                  Gross Unrealized
                                                                                  ----------------
                                                                                                              Estimated
                                                                         Cost       Gains     Losses          Fair Value
                                                                         ----       -----     ------          ----------
<S>                                                                   <C>           <C>       <C>            <C>
Federal National Mortgage Association, adjustable rate interest
   currently at 7.923%, due April 1, 2024.............................   $  2,359     $   --   $      (2)    $  2,357
Federal Home Loan Mortgage Association, adjustable rate interest
   currently at 7.944%, due June 1, 2024..............................        812          1         --           813
Federal National Mortgage Association, adjustable rate interest
   currently at 7.360%, due May 1, 2025...............................        532         --          (2)         530
Federal National Mortgage Association, adjustable rate interest
   currently at 7.094%, due May 1, 2026...............................      2,205         --         (19)       2,186
Federal National Mortgage Association, adjustable rate interest
   currently at 7.146%, due June 1, 2026..............................      4,865         64         --         4,929
SL Green Realty Corp. Common Stock, 85,600 shares.....................      1,798        417         --         2,215
                                                                         --------    -------   ----------    --------
                                                                          $12,571     $  482   $     (23)     $13,030
                                                                          =======     ======   ==========     =======
</TABLE>

         The maturity dates of debt securities are not necessarily indicative of
expected maturities as principal is often prepaid on such instruments.

         The 85,600  shares of SL Green Realty Corp.  Common Stock were received
as partial payment for advisory  services rendered by Victor Capital to SL Green
Realty Corp.  These shares are restricted  from sale by the Company for a period
of one year from the date of issuance, August 20, 1997.

         The  cost  of  securities   sold  is  determined   using  the  specific
identification method.



  
                                      -12-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


6.       Investment and Lending Transactions

         At  September   30,  1997,   the  Company's   investment   and  lending
transactions consisted of the following (in thousands):


         (1) CMBS subordinated interest.......................    $49,491
         (2) Participation in mezzanine loan..................     15,617
         (3) Second mortgage transition financing.............     11,532
         (4) Mortgage note acquisition bridge financing.......      9,800
         (5) Other mortgage loans receivable..................      2,073
                                                               -----------
                                                                   88,513
         Less: Reserve for possible credit losses.............       (155)
                                                               -----------
         Total investment and lending transactions............    $88,358
                                                               ===========

         At September 30, 1997, $86.4 million of the  aforementioned  investment
and lending transactions bear interest at floating rates ranging from LIBOR plus
410 basis points to LIBOR plus 600 basis points.  The remaining  $2.1 million of
investment and lending transactions were financed at fixed rates ranging from 8%
to 9.5% at September 30, 1997.  The average  earning rate in effect at September
30, 1997 was 10.8%.

         (1) On June 30, 1997 the Company  completed an  investment in a junior,
subordinated  class of CMBS. The CMBS  investment  consists of securities with a
face value of $49.6  million  purchased  at a discount  for $49.2  million  plus
accrued fees. The investment is collateralized  by twenty short-term  commercial
notes receivable with original  maturities  ranging from two to three years. 75%
of the purchase price was financed  (approximately  $36.9 million) pursuant to a
reverse repurchase  agreement and is collateralized by the Company's  investment
in the CMBS.

         In addition,  the Company was named  "special  servicer" for the entire
loan  portfolio  of $413  million in which  capacity  the Company  will earn fee
income for management of the  collection  process should any of the loans become
non-performing. At September 30, 1997, no fees relating to the special servicing
arrangement were earned.

         (2)  On  September  19,  1997,  the  Company  completed  a  fixed  rate
investment  in the form of a $15.0  million  portion of a ten year $80.0 million
mezzanine  loan  secured by a pledge of the  ownership  interest in the entities
that own an office  building in New York City.  Additionally,  the investment is
secured by a full  payment  guarantee  by the  principal  owner of the  property
owning entities,  in the event of certain  circumstances,  including bankruptcy.
The investment was purchased at a premium for  approximately  $15.6 million.  In
the event that excess cash flow  available,  as defined,  is insufficient to pay
the loan's interest  currently,  up to 2% can be accrued and added to principal.
Scheduled maturity of the note is April 2007, with prepayment prohibited for the
first  five  years but  permitted  during  the  following  four years with yield
maintenance.  The loan is fully  prepayable  with no  premium  or penalty in the
tenth year.  The purchase price was financed 75%  (approximately  $11.7 million)
pursuant to a reverse  repurchase  agreement.  Effective  September 12, 1997, in
order to hedge its interest rate risk under the transaction, the Company entered
into

  
                                      -13-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


an interest rate swap agreement.  See Note 4. Effective  September 30, 1997, the
reverse repurchase agreement was terminated and refinanced with an $11.7 million
borrowing under the Company's Credit Facility (as hereinafter defined). See Note
8.

         (3) On August 4, 1997,  the Company  originated,  and funded in part, a
$35.0 million commitment for a subordinated  mortgage loan for improvements to a
mixed-use  property  in Chicago,  Illinois.  The loan is  subordinate  to senior
indebtedness  and is secured by the  mixed-use  property and two mortgage  notes
aggregating  $9.6 million on nearby  development  sites. The loan has a two-year
initial term with a one-year extension option available to the borrower, subject
to certain  conditions,  and is payable upon the sale of the property unless the
Company  approves the assumption of the debt by an  institutional  investor.  On
August 4, 1997,  the Company  funded $19.0  million  against the  aforementioned
commitment  and,  subsequently,  on August 19, 1997, the Company  entered into a
participation agreement with a third party (the "Participant") pursuant to which
the  Company  assigned a 42.9%  interest  in the loan.  In  connection  with the
participation  agreement the Participant paid to the Company  approximately $8.2
million or 42.9% of the $19.0 million  previously funded by the Company.  During
September  1997,  the  Company and the  Participant  funded  additional  amounts
aggregating  $1.2  million,  of which  $506,000  was funded by the  Participant.
Through  September 30, 1997, the Company's portion of the funding provided under
the mortgage loan aggregated $11.5 million.

         As of  September  30,  1997,  the  Company's  remaining  share  of  the
commitment amounts to $8.5 million.

          (4) On August 13, 1997, the Company originated and funded a
LIBOR-based $9.8 million short-term loan. The proceeds of the loan were used
primarily for the acquisition of a first mortgage note that is secured by an
office/warehouse facility located in Philadelphia, Pennsylvania and for general
corporate purposes. The loan is secured by a pledge of the first mortgage note,
a pledge of a $4.4 million mortgage note secured by an industrial/warehouse
facility in Queens, New York and a $2.3 million pool of secured home loans to
owners of cooperative apartments located in Brooklyn, New York. The loan is
further secured by a pledge of various other loans owned by the borrower.

         The loan has a term of one year which may be extended  by the  borrower
for an additional year.


  
                                      -14-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)



         (5) The mortgage  loans  receivable are  collateralized  by real estate
properties in California and Arizona.  These mortgage loans receivable mature at
varying dates between February 11, 1999 and March 31, 2012.

         At September  30, 1997,  the Company has letters of intent  outstanding
for  various  other  lending  transactions,  the  terms of  which  have not been
finalized.



  
                                      -15-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)



7.       Notes Payable

         At September 30, 1997, the Company has notes payable  aggregating  $4.9
million.

         In  connection  with the  acquisition  of Victor  Capital  and  related
entities,  $5.0 million of non-interest bearing notes ("Acquisition Notes") were
issued to the sellers,  payable in ten  semi-annual  payments of  $500,000.  The
Acquisition  Notes  have been  discounted  to $3.9  million  based on an imputed
interest  rate of 9.5%.  At  September  30, 1997,  the net present  value of the
Acquisition Notes amounted to approximately $4.0 million.

         The  Company  is  also  indebted  under  a note  payable  due to a life
insurance company. The note bears interest at 9.50% per annum with principal and
interest  payable monthly until August 7, 2017 when the entire unpaid  principal
balance and any unpaid interest is due. The life insurance company has the right
to call the entire note due and payable upon ninety days prior  written  notice.
At September 30, 1997, the balance of the note payable amounted to approximately
$866,000.


8.       Long-Term Debt

         Credit Facility

         Effective  September  30,  1997,  the  Company  entered  into a  credit
agreement with a commercial  lender that provides for a three-year  $150 million
line of credit  (the  "Credit  Facility").  The  Credit  Facility  provides  for
advances  to fund  lender-approved  loans and  investments  made by the  Company
("Funded

  
                                      -16-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


Portfolio  Assets").  Prior  to  the  execution  of  the  Credit  Facility,  the
commercial  lender  provided  financing  to the Company of  approximately  $11.7
million pursuant to a reverse repurchase agreement.  The agreement bore interest
at LIBOR plus 2.25% and upon execution of the Credit Facility, the agreement was
terminated and the $11.7 million was refinanced with an advance under the Credit
Facility.

         The  obligations  of the Company  under the Credit  Facility  are to be
secured by pledges of the Funded  Portfolio  Assets acquired with advances under
the Credit Facility.  Borrowings under the Credit Facility will bear interest at
specified  rates over LIBOR,  (averaging  approximately  7.9% for the  borrowing
outstanding  at September  30, 1997),  which rate may  fluctuate  based upon the
credit quality of the Funded  Portfolio  Assets.  Upon the signing of the credit
agreement,  a  commitment  fee was due and when the  total  borrowing  under the
agreement  exceeds $75 million an additional fee will be due. In addition,  each
advance requires payment of a drawdown fee. Future repayments and redrawdowns of
amounts  previously  subject to the drawdown fee will not require the Company to
pay any  additional  fees.  The Credit  Facility  provides  for margin  calls on
asset-specific  borrowings  in the event of asset  quality  and/or  market value
deterioration  as determined  under the credit  agreement.  The Credit  Facility
contains customary representations and warranties,  covenants and conditions and
events of default.  The Credit Facility also contains a covenant  obligating the
Company  to avoid  undergoing  an  ownership  change  that  results  in Craig M.
Hatkoff,  John R. Klopp or Samuel Zell no longer  retaining their senior offices
and  trusteeships  with the  Company  and  practical  control  of the  Company's
business and operations.

         On September 30, 1997,  the unused Credit  Facility  amounted to $138.3
million.

         Repurchase Obligation

         The  Company  entered  into a  reverse  repurchase  agreement  with the
counter  party of the CMBS  transaction  described in Note 6. At  September  30,
1997, the balance of $36.9 million bears interest at a specified rate over LIBOR
(6.75% at September 30, 1997), and has a one year term with quarterly extensions
available every 90 days.


9.      Shareholders' Equity

         Authorized Capital

         Pursuant to the Company's  Amended and Restated  Declaration  of Trust,
all of the Company's previously issued common shares of beneficial interest, par
value $1.00,  were  reclassified  as Class A Common Shares on July 15, 1997. The
total  number of  authorized  capital  shares of the  Company is  unlimited  and
currently consists of (i) Class A Preferred Shares, (ii) class B 9.5% cumulative
convertible non-voting preferred shares of beneficial interest, $1.00 par value,
in the Company ("Class B Preferred  Shares"),  (iii) Class A Common Shares,  and
(iv) class B common  shares of  beneficial  interest,  $1.00 par  value,  in the
Company  ("Class  B Common  Shares").  As of  September  30,  1997,  there  were
12,267,658 Class A Preferred Shares issued and outstanding, no Class B Preferred
Shares issued and outstanding,

  
                                      -17-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


9,138,325  Class A Common  Shares issued and  outstanding  and no Class B Common
Shares issued and outstanding. The Board of Trustees is authorized, with certain
exceptions,  to provide  for the  issuance  of  additional  preferred  shares of
beneficial interest in one or more classes or series.

         Common Shares

         Except as  described  herein or as required by law,  all Class A Common
Shares  and  Class B  Common  Shares  are  identical  and  entitled  to the same
dividend,  liquidation  and other  rights.  The Class A Common Shares are voting
shares  entitled to vote on all  matters  presented  to a vote of  shareholders,
except as  provided  by law or subject to the voting  rights of any  outstanding
preferred  shares.  The Class B Common  Shares do not have voting rights and are
not  counted in  determining  the  presence of a quorum for the  transaction  of
business at any meeting of the shareholders. Holders of record of Class A Common
Shares and Class B Common Shares on the record date fixed by the Company's Board
of Trustees  are  entitled to receive  such  dividends as may be declared by the
Board of  Trustees  subject  to the  rights  of the  holders  of any  series  of
preferred shares.

         Each Class A Common  Share is  convertible  at the option of the holder
thereof into one Class B Common Share and, subject to certain  conditions,  each
Class B Common  Share is  convertible  at the option of the holder  thereof into
Class A Common Share.

         The Company is restricted from declaring or paying any dividends on its
Class A Common  Shares or Class B Common  Shares  unless all  accrued and unpaid
dividends with respect to the Preferred Shares have been paid in full.

         Preferred Shares

         In connection with the adoption of the Amended and Restated Designation
of Trust,  the  Company  created two classes of  preferred  shares,  the Class A
Preferred Shares and the Class B Preferred Shares (collectively,  the "Preferred
Shares").  Each class of  Preferred  Shares  consists of  12,639,405  authorized
shares,  as specified in the certificate of designation,  preferences and rights
thereof adopted on July 15, 1997 (the "Certificate of Designation"). On July 15,
1997, Veqtor purchased from the Company  12,267,658 Class A Preferred Shares for
an aggregate purchase price of approximately $33 million.

         Except as  described  herein or as  required  by law,  both  classes of
Preferred  Shares are identical and entitled to the same  dividend,  liquidation
and other rights as provided in the  Certificate of Designation and the Restated
Declaration. The Class A Preferred Shares are entitled to vote together with the
holders of the Class A Common Shares as a single class on all matters  submitted
to a vote of  shareholders.  Each Class A Preferred  Share  entitles  the holder
thereof  to a number of votes per  share  equal to the  number of Class A Common
Shares into which such Class A Preferred  Share is then  convertible.  Except as
described herein, the Class B Preferred Shares do not have voting rights and are
not  counted in  determining  the  presence of a quorum for the  transaction  of
business at a shareholders' meeting. The affirmative vote of the shareholders of
a majority of the outstanding  Preferred  Shares,  voting together as a separate
single class, except in

  
                                      -18-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


certain  circumstances,  have the right to approve any merger,  consolidation or
transfer of all or  substantially  all of the assets of the Company.  Holders of
the Preferred Shares are entitled to receive,  when and as declared by the Board
of  Trustees,  cash  dividends  per share at the rate of 9.5% per annum on a per
share price of $2.69. Such dividends shall accrue (whether or not declared) and,
to the extent not paid for any dividend period, will be cumulative. Dividends on
the  Preferred  Shares are  payable,  when and as  declared,  semi-annually,  in
arrears, on December 26 and June 25 of each year commencing December 26, 1997.

         Each Class A Preferred Share is convertible at the option of the holder
thereof  into an equal number of Class B Preferred  Shares,  or into a number of
Class A Common  Shares  equal to the ratio of (x) $2.69 plus an amount  equal to
all  dividends  per share  accrued  and  unpaid  thereon  as of the date of such
conversion  to (y)  the  Conversion  Price  in  effect  as of the  date  of such
conversion.  Each Class B Preferred  Share is  convertible  at the option of the
holder thereof,  subject to certain conditions,  into an equal number of Class A
Preferred Shares or into a number of Class B Common Shares equal to the ratio of
(x) $2.69 plus an amount  equal to all  dividends  per share  accrued and unpaid
thereon as of the date of such conversion to (y) the Conversion  Price in effect
as of the date of such conversion. The Conversion Price as of September 30, 1997
is $2.69.


10.      Income Taxes

          The Company and its subsidiaries will elect to file a consolidated
federal income tax return for the year ending December 31, 1997. Due to the net
loss and its net operating loss carryforwards available, there was no provision
for either federal or state income taxes for the three and nine months ended
September 30, 1997.

         The Company has federal net operating loss carryforwards ("NOLs") as of
September 30, 1997 of  approximately  $16.4  million.  Such NOLs expire  through
2011.  The Company also had a federal  capital loss  carryover of  approximately
$1.6  million that can be used to offset  future  capital  gains.  Due to CRIL's
purchase of 6,959,593 Class A Common Shares from the Company's  Former Parent in
January 1997 and another prior  ownership  change,  NOLs are limited for federal
income tax purposes to approximately  $1.5 million annually.  Any unused portion
of such annual limitation can be carried forward to future periods.

         The Company recorded a valuation allowance to fully reserve its net
deferred assets. Under SFAS 109, this valuation allowance will be adjusted in
future years, as appropriate. However, the timing and extent of such future
adjustments cannot presently be determined.


  
                                      -19-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


11.      Employee Benefit Plans

         1997 Long-Term Incentive Share Plan

         On May 23,  1997,  the Board of  Trustees  adopted  the 1997  Long-Term
Incentive  Plan (the  "Incentive  Share  Plan"),  which  became  effective  upon
shareholder approval on July 15, 1997 at the 1997 annual meeting of shareholders
(the "1997  Annual  Meeting").  The  Incentive  Share Plan  permits the grant of
nonqualified share option ("NQSO"),  incentive share option ("ISO"),  restricted
share, share appreciation right ("SAR"), performance unit, performance share and
share unit awards.  The Company has  reserved an aggregate of 2,000,000  Class A
Common Shares for issuance pursuant to awards under the Incentive Share Plan and
the Trustee Share Plan (as defined below). The maximum number of shares that may
be subject of awards to any employee  during the term of the plan may not exceed
500,000 shares and

  
                                      -20-

<PAGE>

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


the  maximum  amount  payable  in  cash  to any  employee  with  respect  to any
performance  period pursuant to any performance unit or performance  share award
is $1.0 million.  Through  September 30, 1997, the Company had outstanding  ISOs
and NQSOs (the  "Grants")  pursuant to the  Incentive  Share Plan to purchase an
aggregate of 607,000 Class A Common  Shares with an exercise  price of $6.00 per
share (the closing Class A Common Share price on the date of the grant). None of
the  options are  exercisable  at  September  30, 1997 and they have a remaining
contractual life of 93/4 years.

         The ISOs shall be  exercisable  no more than ten years after their date
of grant and five  years  after the grant in the case of a 10%  shareholder  and
vest over a period of three  years with  one-third  vesting at each  anniversary
date.  Payment of an option may be made with cash, with previously owned Class A
Common  Shares,  by  foregoing   compensation  in  accordance  with  performance
compensation  committee or  compensation  committee rules or by a combination of
these.

         SFAS No. 123,  "Accounting for Stock-Based  Compensation" was issued by
the FASB in  October  1995.  SFAS  No.  123  encourages  the  adoption  of a new
fair-value based accounting method for employee stock-based  compensation plans.
SFAS No. 123 also  permits  companies  to continue  accounting  for  stock-based
compensation  plans as  prescribed  by APB  Opinion No. 25.  However,  companies
electing to continue accounting for stock-based compensation plans under the APB
Opinion No. 25, must make pro forma  disclosures  as if the company  adopted the
cost recognition  requirements  under SFAS No. 123. The Company has continued to
account for stock-based  compensation under the APB Opinion No. 25. Accordingly,
no  compensation  cost has been  recognized for the Incentive  Share Plan or the
Trustee Share Plan in the accompanying  consolidated  statement of operations as
the exercise price of the Grant equaled the market price of the underlying stock
on the date of the Grant.

         The fair value of each option  grant is  estimated on the date of grant
using the  Black-Scholes  option-  pricing  model  with the  following  weighted
average assumptions used for grants in 1997, respectively: (1) dividend yield of
zero; (2) expected  volatility of 40%; (3) risk-free  interest rate of 6.15% and
(4) an expected  life of five years.  The  weighted  average  fair value of each
share option granted during the nine months ended September 30, 1997 was $2.67.

         The  Black-Scholes  option  valuation  model was  developed  for use in
estimating the fair value of traded  options which have no vesting  restrictions
and are fully  transferable.  In addition,  option  valuation models require the
input of highly  subjective  assumptions  including  the  expected  stock  price
volatility.  Because the Company's  employee share options have  characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially  affect the fair value estimate,  in
management's  opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee share options.

          For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. Pro forma net
loss, after giving effect to the Class A Preferred Share dividend requirement,
and primary and fully diluted


                                      -21-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


loss per share, after giving effect to the fair value of the grants would be
$3.3 million and $0.36, respectively, for the nine months ended September 30,
1997 and $2.5 million and $0.27, respectively, for the three months ended
September 30, 1997.

         The pro forma information  presented above is not representative of the
effect share options will have on pro forma net income or earnings per share for
future years.

         1997 Non-Employee Trustee Share Plan

         On May 23, 1997,  the Board of Trustees  adopted the 1997  Non-Employee
Trustee  Share Plan (the  "Trustee  Share Plan"),  which became  effective  upon
shareholder  approval on July 15, 1997 at the 1997 Annual  Meeting.  The Trustee
Share Plan permits the grant of NQSO,  restricted shares, SAR, performance unit,
share and share unit awards.  The Company has reserved an aggregate of 2,000,000
Class A Common  Shares for issuance  pursuant to awards under the Trustee  Share
Plan and the  Incentive  Share Plan.  Through  September  30, 1997,  the Company
issued to each of two  trustees  pursuant  to the  Trustee  Share  Plan NQSOs to
purchase  25,000 Class A Common Shares with an exercise price of $6.00 per share
(the closing Class A Common Share price on the date of grant).

         The purchase  price per Class A Common Share  covered by a NQSO granted
under the  Trustee  Share Plan  shall be  determined  by the Board of  Trustees.
Payment of a NQSO may be made with cash,  with  previously  owned Class A Common
Shares,  by  foregoing  compensation  in  accordance  with  Board  rules or by a
combination  of these.  SARs may be granted under the plan in lieu of NQSOS,  in
addition to NQSOS,  independent of NQSOs or as a combination of the foregoing. A
holder of a SAR is entitled upon exercise to receive Class A Common  Shares,  or
cash or a combination of both, as the Board of Trustees may determine,  equal in
value on the date of exercise  to the amount by which the fair  market  value of
one Class A Common  Share on the date of  exercise  exceeds the  exercise  price
fixed by the Board on the date of grant (which price shall not be less than 100%
of the market price of a Class A Common  Share on the date of grant)  multiplied
by the number of shares in respect of which the SARs are exercised.

         Restricted  shares may be  granted  under the  Trustee  Share Plan with
performance  goals and  periods  of  restriction  as the Board of  Trustees  may
designate.  The  performance  goals may be based on the  attainment  of  certain
objective and/or subjective measures. The Trustee Share Plan also authorizes the
grant of share units at any time and from time to time on such terms as shall be
determined  by the Board of  Trustees.  Share  units shall be payable in Class A
Common  Shares upon the  occurrence  of certain  trigger  events.  The terms and
conditions  of  the  trigger  events  may  vary  by  share  unit  award,  by the
participant, or both.

12.      Supplemental Schedule of Non-Cash and Financing Activities

         The following is a summary of the  significant  non-cash  investing and
financing activities during the three and nine months ended September 30, 1997:


         Stock received as partial compensation for advisory services $1,798



                                      -22-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


         In connection  with the sale of properties  and notes  receivable,  the
Company  entered into various  non-cash  transactions as follows during the nine
months ended September 30, 1997:


            Sales price less selling costs     $ 8,396

            Amount due from buyer..........     (1,090)
                                               --------

            Net cash received..............    $ 7,306
                                               ========


13.      Transactions with Related Parties

         The Company entered into a consulting  agreement,  dated as of July 15,
1997, with a Trustee of the Company.  The consulting agreement has a term of one
year and provides for a consulting  fee of $150,000.  Pursuant to the agreement,
the Trustee provides  consulting  services for the Company  including  strategic
planning, identifying and negotiating mergers, acquisitions,  joint ventures and
strategic  alliances,  and advising as to capital structure matters.  During the
nine months  ended  September  30,  1997 the Company has  incurred an expense of
$37,000 in connection with this agreement.

         The Company pays EGI, an affiliate under common control of the Chairman
of the Board of Trustees, for certain corporate services. These services include
consulting on legal matters,  tax matters,  risk management,  investor relations
and  investment  banking.  During the nine months ended  September 30, 1997, the
Company has incurred $22,000 of expenses in connection with these services.

         Prior to January 7, 1997,  the Company had an oral  agreement  with the
Company's  former  parent  whereby  certain  general  administrative  costs were
allocated  to the  Company  based upon a formula  agreed to by the  parties.  At
September  30,  1997,  the Company had no amounts  due to the  Company's  former
parent pursuant to the cost allocation arrangement.

         During the nine months ended  September 30, 1997, the Company,  through
two of its acquired  subsidiaries,  earned  asset  management  fees  pursuant to
agreements with entities in which two of the executive  officers and trustees of
the  Company  have an equity  interest  and serve as  officers,  members or as a
general  partner  thereof.  During the nine months ended September 30, 1997, the
Company  earned  $233,000 from such  agreements,  which has been included in the
consolidated statement of operations.


14.       Commitments and Contingencies


         Litigation

         In the normal  course of  business,  the  Company is subject to various
legal proceeding and claims,  the resolution of which, in management's  opinion,
will not have a material adverse effect on the consolidated  financial  position
or the results of operations of the company.

         Employment Agreements

         At September 30, 1997, the Company has employment agreements with three
of its executives.

         The  employment  agreements  with  two of the  executives  provide  for
five-year  terms of employment  commencing as of July 15, 1997.  Such agreements
contain  extension  options which extend such  agreements  automatically  unless
terminated by notice,  as defined,  by either party.  The employment  agreements
provide  for base annual  salaries of  $500,000,  which will be  increased  each
calendar year to reflect  increases in the cost of living and will  otherwise be
subject to increase in the discretion of the Board of Trustees.  Such executives
are also entitled to annual incentive cash bonuses to be determined by the Board
of Trustees based on individual performance and the profitability of the Company
and are  participants  in the Incentive  Share Plan and other  employee  benefit
plans of the Company.

         The employment agreement with another executive provides for a two year
employment term. Such agreement contains extension options which extend the
agreement automatically unless terminated by notice by either party. The
employment agreement provides for base annual salary of $300,000, annual
bonuses, as specified, at the end of 1997 and 1998, and participation in the
Incentive Share Plan and other employee benefit plans of the Company. Such
executive is also entitled to an annual incentive cash bonus to be determined by
the Board of Trustees based on individual performance and the profitability of
the Company.




                                      -23-

<PAGE>


                         Capital Trust and Subsidiaries
             Notes to Consolidated Financial Statements (continued)


15.      Subsequent Events

         On October 31, 1997 the Company  entered into an agreement to provide a
secured  second  mortgage  loan  of  $10  million,  which  is  secured  by a 64%
tenancy-in-common  interest in an office building  located in New York City; the
loan is further  secured by a pledge by the  members of the  borrower of 100% of
membership  interests  in the  borrower.  The loan is for five  years  and bears
interest at a fixed rate. The Company earns certain financing fees in connection
therewith  and  such  fees  will be  recognized  over the life of the loan as an
adjustment to yield. The Company financed the aforementioned  investment in part
by entering into a repurchase  agreement which is  collateralized  by certain of
the Company's debt securities.

         On October 6, 1997, the Company filed a Registration  Statement on Form
S-1 with the  Securities and Exchange  Commission  pursuant to which the Company
intends to register 9.2 million  Class A Common  Shares,  including  1.2 million
shares  that  may be  sold  under  an  over-allotment  option  available  to the
underwriters,  exercisable  for 30 days  after the  shares  are  registered.  On
November 13, 1997, the Company amended its Registration Statement. Included with
amendment No. 1 to the Company's  Registration  Statement were audited financial
statements as of and for the nine months ended September 30, 1997.




                                      -24-

<PAGE>



ITEM 2.  Management's Discussion and Analysis of Financial Condition and Results
         of Operations

         The  following  discussion  should  be read  in  conjunction  with  the
consolidated  financial statements and notes thereto appearing elsewhere in this
Form 10-Q.  Historical  results set forth are not necessarily  indicative of the
future  financial  position  and  results  of  operations  of the  Company.  The
following  discussion  reflects  the  reclassification  on July 15,  1997 of the
Company's  common shares of  beneficial  interest,  $1.00 par value,  as class A
common  shares of  beneficial  interest,  $1.00 par value  (the  "Class A Common
Shares").

Overview

          Prior to July 1997, the Company operated as a REIT, originating,
acquiring, operating or holding income-producing real property and
mortgage-related investments. Since the Company's 1997 annual meeting (the "1997
Annual Meeting"), the Company has pursued a new strategic direction with a focus
on becoming a specialty finance company designed primarily to take advantage of
high-yielding mezzanine investments and other real estate asset and finance
opportunities in commercial real estate. As contemplated by its new business
plan, the Company no longer qualifies for treatment as a REIT for federal income
tax purposes. Consequently, the information set forth below with regard to
historical results of operations for the three and nine months ended September
30, 1996 does not reflect any operating results from the Company's specialty
finance activities or real estate investment banking services nor the Company's
current investment portfolio. The results for the three and nine months ended
September 30, 1997 reflect partial implementation of the Company's new business
plan and reflect only the activity since June 30, 1997 from the Company's
specialty finance activities and reflect only the activity since July 15, 1997
from the Company's real estate investment banking services as discussed below.

Recent Developments

         On January 3, 1997, CalREIT Investors Limited  Partnership  ("CRIL"),an
affiliate of Equity Group Investments,  Inc. ("EGI") and Samuel Zell,  purchased
from the Company's former parent  6,959,593 Class A Common Shares  (representing
approximately  76%  of  the  then-outstanding  Class  A  Common  Shares)  for an
aggregate  purchase  price of  $20,222,011.  Prior to the  purchase,  which  was
approved by the then-incumbent board of trustees,  EGI and Victor Capital Group,
L.P.  ("Victor  Capital")  presented to the  Company's  then-incumbent  board of
trustees a proposed new business  plan in which the Company  would cease to be a
REIT and instead become a specialty  finance company designed  primarily to take
advantage  of  high-yielding  mezzanine  investment  and other real estate asset
opportunities  in commercial  real estate.  EGI and Victor Capital also proposed
that they  provide the  Company  with a new  management  team to  implement  the
business  plan and that they  invest  through  an  affiliate  a minimum of $30.0
million in a new class of preferred shares to be issued by the Company.

         The Board of Trustees  approved  CRIL's purchase of the former parent's
Class A Common  Shares,  the new business  plan and the issuance of a minimum of
$30.0  million of a new class of  preferred  shares of the  Company at $2.69 per
share,  such shares to be convertible  into Class A Common Shares of the Company
on a one-for-one basis. The Board of Trustees  considered a number of factors in
approving  the  foregoing,  including  the  attractiveness  of the  proposed new
business plan, the significant real estate  investment and financing  experience
of the proposed new management team and the significant amount of equity capital
the Company would obtain from the proposed preferred share investment. The Board
also considered the terms of previous  alternative offers to purchase the former
parent's interest in the Company


                                      -25-

<PAGE>



of which  the  Board  was  aware  and the fact  that  the  average  price of the
Company's shares of beneficial interest,  par value $1.00 ("Old Common Shares"),
during the 60 trading days preceding the Board of Trustees  meeting at which the
proposed  preferred  equity  investment  was approved  was $2.38 per share.  The
Company  subsequently  agreed that,  concurrently  with the  consummation of the
proposed preferred equity  investment,  it would acquire for $5.0 million Victor
Capital's  real  estate  investment  banking,   advisory  and  asset  management
businesses, including the services of its experienced management team.

         At the  1997  Annual  Meeting  held on July  15,  1997,  the  Company's
shareholders  approved  a  proposal  to issue and sell up to  approximately  $34
million of Class A 9.5%  Preferred  Shares,  $1.00 par value ("Class A Preferred
Shares") to Veqtor Finance Company, LLC ("Veqtor"),  an affiliate of Samuel Zell
and  the  principals  of  Victor  Capital  (the  "Investment").   The  Company's
shareholders  also approved an amended and restated  declaration of trust of the
Company (the "Restated  Declaration"),  which, among other things,  reclassified
the  Company's  Old  Common  Shares as Class A Common  Shares  and  changed  the
Company's name to "Capital Trust".

         Immediately  following  the 1997 Annual  Meeting,  the  Investment  was
consummated;  12,267,658  Class A  Preferred  Shares  were sold to Veqtor for an
aggregate  purchase price of $33,000,000  pursuant to the terms of the preferred
share purchase agreement,  dated as of June 16, 1997, by and between the Company
and  Veqtor  (the  "Investment  Agreement").  Concurrently  with  the  foregoing
transaction,  Veqtor  purchased the 6,959,593 Class A Common Shares held by CRIL
for an aggregate purchase price of approximately  $21.3 million.  As a result of
these  transactions,  Veqtor beneficially owns 19,227,251 (or approximately 90%)
of the outstanding voting shares of the Company. Veqtor funded the approximately
$54.3 million aggregate purchase price for the Class A Common Shares and Class A
Preferred Shares with $5.0 million of capital contributions from its members and
$50.0 million of borrowings  under the Veqtor Notes issued to the  Institutional
Investors.  The  Veqtor  Notes may in the  future  be  converted  for  preferred
interests  in Veqtor that may in turn be redeemed  for an aggregate of 9,899,710
voting shares of the Company.

         In  addition,  immediately  following  the  1997  Annual  Meeting,  the
acquisition  of the real  estate  services  businesses  of  Victor  Capital  was
consummated  and a new  management  team was appointed by the Company from among
the ranks of Victor  Capital's  professional  team and  elsewhere.  The  Company
thereafter  immediately  commenced full  implementation of the new business plan
under the direction of its newly  elected  Board of Trustees and new  management
team.

Overview of Financial Condition Following Implementation of the New Business
 Plan

         During  the  period  June 30,  1997  through  September  30,  1997,  in
connection  with the  Company's  implementation  of its new  business  plan as a
specialty  finance  company,  the Company  originated  four  investment and loan
transactions.  These transactions aggregated approximately $110 million, and the
Company's  portion,  which is net of  participations  and unfunded  commitments,
aggregated  approximately $86.4 million at September 30, 1997. These investments
and loans have yields  ranging  from 400 to 600 basis  points over LIBOR and are
consistent with the Company's targeted risk/reward parameters.  In addition, the
Company  entered  into the $150  million  Credit  Facility to finance,  in part,
investments  made  pursuant to the new business  plan. As of September 30, 1997,
all  of  the  Company's  new  investment  and  loan  assets  and   corresponding
liabilities  were based upon floating rates over LIBOR.  During the three months
ended  September 30, 1997,  significant  advisory  income, collected  during the
period, as a result of


                                      -26-

<PAGE>



the Company's acquisition of Victor Capital, was applied as a reduction in the
excess of the acquisition purchase price over net tangible assets acquired as
opposed to being reflected as a revenue item. In addition, the Company incurred
significant general and administrative expenses primarily related to the
commencement of operations as a specialty finance company. The Company expects
to consummate the Offering (as hereinafter defined) during the fourth quarter of
1997. The net proceeds from the Offering after repayment of outstanding Credit
Facility borrowings will be used to fund investments and loans made by the
Company and for working capital for ongoing operations and potential business
acquisitions. The Company's initial investments pursuant to the new business
plan are described below.

         On June 30, 1997, the Company  completed its first investment  pursuant
to its new business plan, an approximately $49.5 million investment in a junior,
subordinated class of commercial  mortgage-backed  securities ("CMBS"). The CMBS
investment,  which is secured by 20 short-term  commercial  mortgage  loans with
original  maturities  ranging  from two to three years which loans are  secured,
directly or indirectly, by properties located throughout the United States. This
investment was structured to provided an effective  yield of a specified  number
of basis points over LIBOR based on specified base case modeling assumptions.

          On August 4, 1997, the Company originated, and funded in part, a $35
million short-term LIBOR- based commitment for a subordinated mortgage loan for
improvements to a mixed-use property (the Chicago Apparel Center) in Chicago,
Illinois. The mortgage loan is secured by the property, is subordinate to senior
indebtedness and is further secured by two mortgage notes (with an aggregate
principal amount of $9.6 million) on development sites located nearby. The loan
has a two-year initial term with a one-year extension option available to the
borrower, subject to certain conditions, and is payable upon the sale of the
property unless the Company approves the assumption of the debt by an
institutional investor. On August 4, 1997, the Company funded $19.0 million
against the aforementioned commitment and, subsequently, on August 19, 1997, the
Company entered into a participation agreement with a third party (the
"Participant") pursuant to which the Company assigned a 42.9% interest in the
loan. In connection with the participation agreement, the Participant paid to
the Company approximately $8.2 million or 42.9% of the $19.0 million previously
funded by the Company. During September 1997, the Company and the Participant
funded additional amounts aggregating $1.2 million, of which $506,000 was funded
by the Participant. Through September 30, 1997, the Company's portion of the
funding provided under the mortgage loan aggregated $11.5 million.

         On August 13, 1997, the Company originated and funded a LIBOR-based
$9.8 million mortgage loan. This loan is primarily secured by an $11.8 million
mortgage note on an approximately 281,000 square foot office/warehouse facility
located in Philadelphia, Pennsylvania. This loan is also secured by a pledge of
a $4.4 million mortgage note secured by an industrial/warehouse facility in
Queens, New York and a $2.3 million pool of secured home loans to owners of
cooperative apartments located in Brooklyn, New York. The mortgage loan is
further secured by a pledge of various other loans owned by the borrower. The
loan has a term of one year which may be extended by the borrower for an
additional year.

         On September 19, 1997, the Company completed a fixed rate investment in
the form of a $15.0 million  portion of a ten-year $80.0 million  mezzanine loan
secured by the pledge of the  ownership  interest in the  entities  that own the
approximately  1.75  million  square  foot office  building  located at 277 Park
Avenue in New York City.  The  investment  is further  secured by a full payment
guarantee by the principal  owner of the entities that own the property,  in the
event of certain  circumstances,  including bankruptcy.  Seventy-five percent of
the purchase  price  (approximately  $11.7  million) was financed  pursuant to a
reverse repurchase  agreement.  Effective  September 12, 1997, in order to hedge
its interest rate risk under the


                                      -27-

<PAGE>



transaction, the Company entered into an interest rate swap agreement. Effective
September 30, 1997, the reverse repurchase agreement was terminated and replaced
with an $11.7 million borrowing under the Credit Facility.

         As of January 1, 1997,  the  Company's  real  estate  portfolio,  which
included two commercial  properties,  was carried at a book value of $8,585,000.
The portfolio  included a shopping  center in  Sacramento,  California and a 60%
interest in a mixed-use  retail  property in  Kirkland,  Washington.  During the
first quarter, these two commercial properties were sold. The sale of Sacramento
property  closed on  February  14,  1997 and the sale of the  Kirkland  property
closed on March 3, 1997.

         The Company  completed the  investment and lending  transactions  above
with  cash on hand  and  funding  pursuant  to  reverse  repurchase  agreements,
including an agreement with the commercial lender on the Credit Facility made in
advance of the execution thereof.

Comparison  of the Nine Months  Ended  September  30, 1997  (Audited)  and Three
Months Ended September 30, 1997  (Unaudited) to the Nine Months and Three Months
Ended September 30, 1996 (Unaudited)

         Net loss  allocable to Class A Common Shares of $3,132,000 was reported
by the Company  during the nine months ended  September 30, 1997, an increase of
$2,845,000  from the loss reported for the nine months ended September 30, 1996.
Net loss  allocable to Class A Common Shares of  $2,272,000  was reported by the
Company  for  the  three  months  ended  September  30,  1997,  an  increase  of
$1,758,000, from the net loss allocable to Class A Common Shares of $514,000 for
the three months ended September 30, 1996.  These increases  resulted  primarily
from  costs  incurred  with  the   implementation  of  the  new  business  plan,
significant general and administrative  expenses associated with the acquisition
of Victor Capital and the retention of the Company's new management team and the
Preferred Share dividend requirement.  The increase in net loss further resulted
from losses from the sale of rental properties in 1997 as compared to gains from
such sales in 1996. Such increased losses were partially offset by a decrease in
the provision for possible credit losses during 1997.

         Net income from investment and lending transactions  increased $629,000
to  $1,073,000  for the nine months ended  September  30, 1997.  Net income from
investment and lending transactions increased $928,000 to $997,000 for the three
months ended September 30, 1997.  These increases are primarily  attributable to
the revenue  earned from the  Company's  significant  new  investments  and loan
originations offset by the interest paid on reverse repurchase agreements.

          Other revenues decreased $128,000 to $1,850,000 for the nine months
ended September 30, 1997. This decrease was primarily caused by a $1,272,000
decrease in rental income as the Company sold the remaining rental properties
during the first quarter of 1997. This decrease in rental income was
substantially offset by an increase in other interest income of $615,000, which
income was derived from the higher level of invested cash on hand and
investments and the addition of advisory and asset management fees generated by
Victor Capital. During the three months ended September 30, 1997, other revenues
increased $240,000 to $942,000 over the same period in 1996. As in the decrease
for the nine months ended September 30, 1997, there was a $474,000 decrease in
rental income as the Company sold the remaining rental properties during the
first quarter of 1997, an increase in other interest income of $185,000


                                      -28-

<PAGE>



from the higher level of invested cash on hand and  investments,  and a $529,000
addition of advisory and asset management fees generated by Victor Capital.

         Other  expenses  increased  by  $2,710,000  for the nine  months  ended
September  30, 1997 to  $4,789,000  and from $618,000 for the three months ended
September 30, 1996 to $3,377,000 for the three months ended  September 30, 1997.
These increases were primarily due to the additional  general and administrative
expenses  associated  with  the  acquisition  of  Victor  Capital  and the  full
implementation  of the Company's new business plan. The majority of the increase
in general and  administrative  expenses was  attributable to salaries and other
expenses  related to the  additional  employees  from  Victor  Capital and other
related  administrative  expenses  resulting  from  the  acquisition  of  Victor
Capital.

          During the first quarter of 1997, the Company sold its Sacramento,
California shopping center. The net loss recognized from the sale of such
property was approximately $34,000. The Company also sold its Kirkland,
Washington retail property. The net loss recognized from the sale of such
property was approximately $398,000, of which the majority was transfer taxes
and the elimination of unamortized tenant improvements and leasing commissions.

         The provision for possible credit losses  decreased to $155,000 for the
three and nine months  ended  September  30, 1997 as the rental properties  that
necessitated  the provision for possible  credit losses in 1996 had been sold in
1997.

Liquidity and Capital Resources

          At September 30, 1997, the Company had $4,063,000 in cash. Liquidity
in the remainder of 1997 will be provided primarily by cash on hand, cash
generated from operations, interest payments received on its investments, loans
and securities, additional borrowings under the Credit Facility and the net
proceeds from a public offering of Class A Common Shares expected to be
completed in the fourth quarter (the "Offering"). On October 6, 1997, the
Company filed a Registration Statement on Form S-1 with respect to the offer and
sale of 9.2 million shares of Class A Common Shares (including 1.2 million
shares subject to the underwriter's over-allotment option) in the proposed
Offering. The Company believes these sources of capital will adequately meet
future cash requirements. Consistent with its new business plan, the Company
expects that during the remainder of 1997 it will use a significant amount of
its available capital resources to originate and fund investment and lending
transactions. In connection with such investment and loan transactions, the
Company intends to employ significant leverage, up to a 5:1 debt-to-equity
ratio, to enhance its return on equity.

          The Company experienced a net decrease in cash of $635,000 for the
nine months ended September 30, 1997, compared to a net decrease in cash of
$1,530,000 for the nine months ended September 30, 1996, a difference of
$895,000. For the nine months ended September 30, 1997, cash used in operating
activities was $1,445,000, a difference of $1,815,000 from cash provided by
operations of $370,000 during the same period in 1996. Cash used in investing
activities during this same period increased by $78,509,000 to $80,354,000, up
from $1,845,000, primarily as a result of the investment and lending
transactions completed since June 30, 1997. Cash provided by financing
activities increased $81,219,000 due primarily from the proceeds of repurchase
obligations, borrowings under the Credit Facility and the net proceeds from the
issuance of Class A Preferred Shares.

         The Company has two outstanding  notes payable totaling  $4,867,000 and
outstanding  borrowings  of  $11,715,000  under the line of Credit  Facility  in
addition to the outstanding repurchase obligation of $36,881,000.


                                      -29-

<PAGE>



         The Company has entered  into the $150  million  Credit  Facility  with
German American Capital Corporation ("GACC").  The Credit Facility has a term of
three years,  including  extensions,  provided that the Company is in compliance
with the covenants and terms of the Credit Facility, there have been no material
adverse  changes in the  Company's  financial  position,  and the Company is not
otherwise in material  default of the terms of the Credit  Facility.  The Credit
Facility  provides for advances to fund lender-  approved  investments  ("Funded
Portfolio  Assets") made by the Company  pursuant to its business plan. Prior to
the execution of the Credit Facility,  GACC advanced approximately $11.7 million
to the Company pursuant to a reverse repurchase agreement. Upon the execution of
the Credit  Facility,  the  approximately  $11.7 million was refinanced  with an
advance under the Credit  Facility and the repurchase  agreement was terminated.
As of November  11,  1997,  outstanding  borrowings  under the Credit  Facility,
including accrued interest, totaled approximately $35 million.




                                      -30-

<PAGE>



ITEM 3.           QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

         The information  contained in Notes 3, 4 and 6 to the  Consolidated
Financial  Statements  of the Company as of December 31, 1996 and as of the nine
months ended September 30, 1997 included in Item I of Part I of this report with
respect  to an  interest  rate swap  agreement  for the  notional  amount of $15
million is  incorporated  herein by reference.  The Company had not entered into
any interest rate swaps at or during the year ended December 31, 1996.


                                      -31-

<PAGE>



PART II.          OTHER INFORMATION

ITEM 1:           Legal Proceedings

                  None.


ITEM 2:           Changes in Securities and Use of Proceeds

                  (a)      None.

                  (b)      None.

                  (c) On July 15, 1997, pursuant to the terms of the preferred
share agreement, dated as of June 16, 1997, by and between the Registrant and
Veqtor Finance Company, LLC ("Veqtor"), the Registrant issued 12,267,658 class A
9.5% cumulative convertible preferred shares of beneficial interest, $1.00 par
value, in the Company ("Class A Preferred Shares"). The issuance of the Class A
Preferred Shares was not subject to the registration requirements of Section 5
of the Securities Act of 1933, as amended, because the transaction was exempt
from registration under Section 4(2) thereof for transactions by an issuer not
involving a public offering. Each Class A Preferred Share is convertible at the
option of the holder thereof at any time and from time to time in whole or in
part into a number of class A common shares of beneficial interest, $1.00 par
value, in the Registrant ("Class A Common Shares") equal to the ratio of (x)
$2.69 plus an amount equal to all dividends per share accrued and unpaid thereon
as of the date of such conversion to (y) the Conversion Price in effect as of
the date of such conversion. The initial "Conversion Price" was set at $2.69,
but will be adjusted to provide the holders of Class A Preferred Shares with
customary anti-dilution protection, including protection for the issuance of
additional shares at a price less than $2.69 per share. At the initial
Conversion Price (which is in effect on the date hereof), the holders of Class A
Preferred Shares have the right to convert their shares into Class A Common
Shares at the rate of one Class A Common Share for each Class A Preferred Share.


ITEM 3:           Defaults Upon Senior Securities

                  None.


ITEM 4:           Submission of Matters to a Vote of Security Holders

                   The  Registrant  held its annual meeting of  shareholders  on
July 15, 1997. The Registrant's shareholders considered proposals to:

1.       approve  the  issuance  of the  Registrant's  class  A 9.5%  cumulative
         convertible  preferred shares, $1.00 par value, of beneficial interest
         in the  Registrant,  upon the  terms  and  conditions  set forth in the
         preferred share purchase  agreement,  dated as of June 16, 1997, by and
         between the Registrant and Veqtor Finance Company, LLC and in the
         certificate of designation, preferences and


                                      -32-

<PAGE>



         rights of the class A 9.5 % cumulative convertible preferred shares and
         the class B 9.5% cumulative  convertible non-voting preferred shares of
         the Registrant ("Proposal 1");

2.       (a) approve an amendment to the  existing  declaration  of trust of the
         Registrant (the "Existing  Declaration")  which reclassifies the common
         shares of beneficial  interest,  $1.00 par value,  of the Registrant as
         "class A common  shares" and creates  another  class of common  shares,
         "class B non-voting common shares"  ("Proposal  2(a)");  (b) approve an
         amendment   to  the  Existing   Declaration   which   revises   certain
         restrictions upon transactions between the Registrant and certain large
         shareholders  and  other  affiliates  ("Proposal  2(b)");  (c)  approve
         an-amendment  to the  Existing  Declaration  which  eliminates  certain
         provisions intended to assure the Registrant's continued treatment as a
         "real  estate  investment  trust" for federal tax  purposes  ("Proposal
         2(c)");  and (d) approve other  amendments to the Existing  Declaration
         ("Proposal 2(d)"), each of the foregoing  amendments to be contained in
         an amended and restated declaration of trust of the Registrant;

3.       elect Martin L. Edelman, Gary R. Garrabrant,  Craig M. Hatkoff, John R.
         Klopp, Sheli Z. Rosenberg, Lynne B. Sagalyn and Samuel Zell as trustees
         to serve until the Registrant's  next annual meeting of shareholders or
         until such  trustees'  successors  are elected and shall have qualified
         ("Proposal 3");

4.       ratify the appointment of Ernst & Young LLP as the independent auditors
         of the Registrant for fiscal year 1997 ("Proposal 4);

5.       approve a long-term incentive share plan ("Proposal 5"); and

6.       approve a non-employee trustee share plan ("Proposal 6").


                                      -33-

<PAGE>




         The following table sets forth the number of votes in favor, the number
of votes opposed the number of abstentions (or votes withheld in the case of the
election of trustees) and broker non-votes with respect to each of the foregoing
proposals.


                          Votes in          Votes        Abstentions    Broker
Proposal                   Favor           Opposed        (Withheld)   Non-Votes
--------                  --------         -------        ----------   ---------
Proposal 1                  7,637,601            77,231         35,750   784,029
Proposal 2(a)               7,635,887            64,091         50,604   784,029
Proposal 2(b)               7,635,044            68,278         40,260   784,029
Proposal 2(c)               7,593,678           118,262         38,642   784,029
Proposal 2(d)               7,584,600           115,087         50,895   784,029
Proposal 3
   Martin L. Edelman        8,474,895        --                 59,716    --
   Gary R. Garrabrant       8,485,499        --                 49,112    --
   Craig M. Hatkoff         8,485,499        --                 49,112    --
   John R. Klopp            8,485,499        --                 49,112    --
   Sheli Z. Rosenberg       8,485,499        --                 49,112    --
   Lynne B. Sagalyn         8,485,499        --                 49,112    --
   Samuel Zell              8,485,499        --                 49,112    --
Proposal 4                  8,460,551            38,549         35,511    --
Proposal 5                  7,591,933           113,232         45,417   784,029
Proposal 6                  7,581,740           120,627         48,215   784,029


              ITEM 5:          Other Information

                               None




                                      -34-

<PAGE>



              ITEM 6:          Exhibits and Reports on Form 8-K

                               (a)  Exhibits

              Exhibit
              Number           Description

              2.1              Interest Purchase Agreement, dated as of June 16,
                               1997,  by and  between  John R.  Klopp,  Craig M.
                               Hatkoff,  and Valentine  Wildove & Company,  Inc.
                               and the  Registrant  (filed as Exhibit 2.1 to the
                               Registrant's  Current Report on Form 8-K filed on
                               July  30,  1997  and is  incorporated  herein  by
                               reference).

              3.1              Amended and Restated  Declaration of Trust, dated
                               July  15,  1997  (filed  as  Exhibit  3.1  to the
                               Registrant's  Current Report on Form 8-K filed on
                               July  15,  1997  and is  incorporated  herein  by
                               reference).

              3.2              By-Laws of the  Registrant  (filed as Exhibit 3.2
                               to the  Registrant's  Current  Report on Form 8-K
                               filed on July 15, 1997 and is incorporated herein
                               by reference).

              4.1              Certificate  of   Designation,   Preferences  and
                               Rights   of  the   Class   A  9.5%   Cumulative
                               Convertible Preferred Shares and the Class B 9.5%
                               Cumulative   Convertible   Non-Voting   Preferred
                               Shares (filed as Exhibit 4.1 to the  Registrant's
                               Current Report on Form 8-K filed on July 15, 1997
                               and is incorporated herein by reference).

             10.1              Preferred Share Purchase  Agreement,  dated as of
                               June 16, 1997, by and between the  Registrant and
                               Veqtor Finance Company, LLC (filed as Exhibit
                               10.1 to the Registrant's Current Report on Form
                               8-K filed on July 30, 1997 and is incorporated
                               herein by reference).

              10.2             Non-Negotiable Notes of the Registrant payable to
                               John R. Klopp,  Craig M.  Hatkoff  and  Valentine
                               Wildove & Company, Inc. (filed as Exhibit 10.2 to
                               the Registrant's Current Report on Form 8-K filed
                               on July 30,  1997 and is  incorporated  herein by
                               reference).

               10.3            1997 Long-Term  Incentive  Share Plan, as amended
                               (filed  as  Exhibit  10.1  to  the   Registrant's
                               Current Report on Form 8-K filed on July 15, 1997
                               and is incorporated herein by reference).

              10.4             1997 Non-Employee  Trustee Share Plan, as amended
                               (filed  as  Exhibit  10.2  to  the   Registrant's
                               Current Report on Form 8-K filed on July 15, 1997
                               and is incorporated herein by reference).

              10.5             Employment Agreement,  dated as of July 15, 1997,
                               by and  between  the  Registrant  and John  Klopp
                               (filed  as  Exhibit  10.5  to  the   Registrant's
                               Registration  Statement  on  Form  S-1  filed  on
                               October  6,  1997 and is  incorporated  herein by
                               reference).



                                      -35-

<PAGE>



              10.6             Employment Agreement,  dated as of July 15, 1997,
                               by  and  between  the  Registrant  and  Craig  M.
                               Hatkoff   (filed   as   Exhibit   10.6   to   the
                               Registrant's  Registration  Statement on Form S-1
                               filed on  October  6,  1997  and is  incorporated
                               herein by reference).

              10.7             Employment Agreement,  dated as of July 15, 1997,
                               by and  between  the  Registrant  and  Donald  J.
                               Meyer.

              10.8             Consulting Agreement,  dated as of July 15, 1997,
                               by  and  between  the   Registrant  and  Gary  R.
                               Garrabrant   (filed  as   Exhibit   10.7  to  the
                               Registrant's  Registration  Statement on Form S-1
                               filed on  October  6,  1997  and is  incorporated
                               herein by reference).

              10.9             Sublease,  dated as of July 29, 1997, between New
                               York Job Development Authority and Victor Capital
                               Group,   L.P.  (filed  as  Exhibit  10.8  to  the
                               Registrant's  Registration  Statement on Form S-1
                               filed on  October  6,  1997  and is  incorporated
                               herein by reference).

              10.10            Credit Agreement, dated as of September 30, 1997,
                               between  the  Registrant   and  German   American
                               Capital  Corporation  ("GACC")  and Global  Note,
                               dated as of September 30, 1997,  made in favor of
                               GACC by the Registrant  (filed as Exhibit 10.9 to
                               Amendment No. 1 to the Registrant's  Registration
                               Statement  on Form S-1 filed on November 13, 1997
                               and is incorporated herein by reference).

              27.1             Financial Data Schedule.






                                      -36-

<PAGE>



                  (b)  Reports on Form 8-K

                  During  the fiscal  quarter  ended  September  30,  1997,  the
Registrant filed the following Current Reports on Form 8-K:

         (1)      Current Report on Form 8-K, dated June 30, 1997, as filed with
                  the  Commission  on July  15,  1997,  reporting  under  Item 2
                  "Acquisition  or  Disposition  of Assets" the completion of an
                  investment  in a  junior,  subordinated  class  of  commercial
                  mortgage-  backed  securities  and under Item 5 "Other Events"
                  the issuance of press  releases  reporting  the outcome of the
                  Registrant's 1997 annual meeting of shareholders and including
                  under  Item 7  "Financial  Statements  and  Exhibits"  certain
                  exhibits relating to the events reported under Item 2 and Item
                  5.

         (2)      Current Report on Form 8-K, dated July 15, 1997, as filed with
                  the  Commission  on July  30,  1997,  reporting  under  Item 1
                  "Changes  in  Control"  the  change in control  following  the
                  acquisition  by  Veqtor  Finance  Company,  LLC  of  6,959,593
                  reclassified  class A common  shares of  beneficial  interest,
                  $1.00 par value, in the Registrant and 12,267,658 class A 9.5%
                  cumulative   convertible   preferred   shares  of   beneficial
                  interest,  $1.00 par value,  in the  Registrant,  under Item 2
                  "Acquisition  or Disposition of Assets" the acquisition of all
                  partnership  interests  and  membership  interests  in  Victor
                  Capital  Group,  L.P.  and  including  under Item 7 "Financial
                  Statements  and  Exhibits"  certain  exhibits  relating to the
                  matters reported under Item 1 and Item 2.

         (3)      Current  Report on Form 8-K,  dated  August 4, 1997,  as filed
                  with the Commission on August 19, 1997, reporting under Item 2
                  "Acquisition  on  Disposition of Assets" the  origination  and
                  funding of a short-term mortgage loan.

         (4)      Current  Report on Form 8-K,  dated August 13, 1997,  as filed
                  with the Commission on August 28, 1997, reporting under Item 2
                  "Acquisition  or  Disposition of Assets" the  origination  and
                  funding of a short-term loan secured by a mortgage note.


                                      -37-

<PAGE>


                                   SIGNATURES

Pursuant  to the  requirement  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.


                                            CAPITAL TRUST



Date:  November 14, 1997                    /s/ John R. Klopp
       -----------------                    -----------------
                                            John R. Klopp
                                            Chief Executive Officer
                                            (principal executive officer)

                                           /s/ Edward L Shugrue III
                                           Edward L. Shugrue III
                                           Managing Director and
                                           Chief Financial Officer
                                           (principal financial officer)


                                      -38-