**U.S. SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON, D.C.  20549**

 

**FORM 10-Q**

 

**(Mark One)**

 

**ý****        QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934**

 

**FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30,2005**

 

**o****        TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACTOF 1934**

 

**FOR THE TRANSITION PERIOD FROM               TO               **

 

**CommissionFile Number   333-76609**

 

**CORNERSTONEREALTY FUND, LLC**

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITSCHARTER)

 
| **California**                                                   | ** ** | **33-0827161**                      |
|------------------------------------------------------------------|------------|-------------------------------------|
| (State or  other jurisdiction  of incorporation or organization) |       | (IRS  Employer  Identification No.) |

 

**4590 MACARTHUR BLVD., SUITE 610,NEWPORT BEACH, CALIFORNIA 92660**

(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)

 

**949-852-1007**

(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREACODE)

 

**NotApplicable**

(FORMER NAME, FORMER ADDRESS AND FORMER FISCALYEAR, IF CHANGED SINCE LASTREPORT)

 

CHECK WHETHER THE ISSUER (1) FILED ALL REPORTSREQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE EXCHANGE ACT OF1934 DURING THE PAST 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANTWAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCHFILING REQUIREMENTS FOR THE PAST 90 DAYS.

 

YES ý         NO o

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Rule 12b-2 of the Act).  o  Yes ý  No

 

INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS ASHELL COMPANY (AS DEFINED IN RULE 12B-2 OF THE ACT).o  YES ý  NO

 

As of November 4, 2005, theFund had 100,000 units of membership interest issued and outstanding.

 

 

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| **PART I - FINANCIAL INFORMATION**                                                                                                                     |                     |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------|--------------------------|
|                                                                                                                                                        |                     |
| **Item 1.**                                                                                                                                                 | **Financial Statements** |   |
|                                                                                                                                                        |                     |
| **Cornerstone  Realty Fund, LLC**                                                                                                                           |                     |
|                                                                                                                                                        |                     |
| Condensed Balance Sheets at September 30,  2005 (unaudited) and December 31, 2004                                                                 |                     |
|                                                                                                                                                        |                     |
| Condensed Statements of  Operations for the Three Months and Nine Months ended September 30, 2005  (unaudited) and September 30, 2004 (unaudited) |                     |
|                                                                                                                                                        |                     |
| Condensed Statements of  Members’ Capital for the Nine Months ended September 30, 2005  (unaudited)                                               |                     |
|                                                                                                                                                        |                     |
| Condensed Statements of Cash  Flows for the Nine Months ended September 30, 2005 (unaudited) and September 30,  2004 (unaudited)                  |                     |
|                                                                                                                                                        |                     |
| Notes to Condensed Financial Statements  (unaudited)                                                                                                        |                     |
|                                                                                                                                                             |                          |  |

 

2

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**CORNERSTONE REALTY FUND, LLC**

**(aCalifornia limited liability company)**

**CONDENSED BALANCE SHEETS**

 
| ** **                                                                                                                                       | ** ** | **September 30, 2005** | ** ** | **December 31, 2004(A)** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|-------------------------------|------------|
| ** **                                                                                                                                       | ** ** | **(unaudited)**             | ** ** | ** **                    | ** ** |
| **ASSETS**                                                                                                                                       |       |                        |       |                          |       |
| Assets                                                                                                                                           |       |                        |       |                          |       |
| Cash and  cash equivalents                                                                                                                       |       | $                           | 13,850,580 |                          | $          | 11,793,822 |   |
|                                                                                                                                             |       |                        |       |                          |       |
| Investments  in real estate                                                                                                                      |       |                        |       |                          |       |
| Land                                                                                                                                             |       | 8,297,490                   |       | 4,539,400                     |       |
| Buildings  and improvements, less accumulated depreciation of $609,984 in 2005 and  $342,697 in 2004                                             |       | 18,363,541                  |       | 7,628,745                     |       |
| Intangible  lease value, less accumulated amortization of $31,434 in 2005                                                                        |       | 518,566                     |       | —                        |       |
| Intangible  asset – in place leases, less accumulated amortization of $277,189 in 2005  and $118,911 in 2004                                |       | 643,660                     |       | 48,503                        |       |
|                                                                                                                                             |       | 27,823,257                  |       | 12,216,648                    |       |
| Other assets                                                                                                                                     |       |                        |       |                          |       |
| Escrow  deposit and other costs                                                                                                                  |       | 8,004                       |       | 275,052                       |       |
| Tenant and  other receivables                                                                                                                    |       | 174,543                     |       | 31,876                        |       |
| Prepaid  insurance                                                                                                                               |       | 13,061                      |       | 30,737                        |       |
| Leasing  commissions, less accumulated amortization of $38,975 in 2005 and $15,282 in  2004                                                      |       | 89,052                      |       | 47,477                        |       |
|                                                                                                                                             |       |                        |       |                          |       |
| Total assets                                                                                                                                     |       | $                           | 41,958,497 |                          | $          | 24,395,612 |   |
|                                                                                                                                             |       |                        |       |                          |       |
| **LIABILITIES AND MEMBERS’ CAPITAL**                                                                                                        |       |                        |       |                          |       |
|                                                                                                                                             |       |                        |       |                          |       |
| Liabilities                                                                                                                                      |       |                        |       |                          |       |
| Accounts  payable and accrued liabilities                                                                                                        |       | $                           | 475,482    |                          | $          | 173,535 |   |
| Tenant  security deposits                                                                                                                        |       | 240,028                     |       | 135,294                       |       |
| Total liabilities                                                                                                                                |       | 715,510                     |       | 308,829                       |       |
|                                                                                                                                             |       |                        |       |                          |       |
| Members’  capital (100,000 units authorized, 100,000 units issued and outstanding at  2005 and 59,097 units issued and outstanding at 2004) |       | 41,242,987                  |       | 24,086,783                    |       |
| Total  liabilities and members’ capital                                                                                                     |       | $                           | 41,958,497 |                          | $          | 24,395,612 |   |

 

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(A) Derived from the audited financial statements as of December 31, 2004.

 

The accompanying notes are anintegral part of these interim financial statements.

 

3

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**CORNERSTONEREALTY FUND, LLC**

**(aCalifornia limited liability company)**

 

**CONDENSED STATEMENTS OF OPERATIONS**

**(Unaudited)**

 
| ** **                                            | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended**  | ** ** |
|-------------------------------------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                                            | ** ** | **September 30,** | ** ** | **September 30,** | ** ** |
| ** **                                            | ** ** | **2005**               | ** ** | **2004**               | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                            | ** ** | ** **             | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenues                                              |       |                   |       |                   |       |   |   |   |   |
| Rental  revenues                                      |       | $                      | 522,740    |                   | $          | 316,985 |   | $ | 1,445,735 |   | $ | 904,360 |   |
| Amortization  of in-place leases                      |       | (52,980                | )          | (25,553                | )          | (158,278 | ) | (95,957 | ) |
| Tenant  reimbursements and other income               |       | 64,980                 |       | 46,547                 |       | 208,251 |   | 169,623 |   |
|                                                  |       | 534,740                |       | 337,979                |       | 1,495,708 |   | 978,026 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Expenses                                              |       |                   |       |                   |       |   |   |   |   |
| Property  operating and maintenance                   |       | 124,583                |       | 55,423                 |       | 350,035 |   | 206,685 |   |
| Property  taxes                                       |       | 88,624                 |       | 30,331                 |       | 265,725 |   | 150,907 |   |
| General and  administrative                           |       | 94,101                 |       | 24,220                 |       | 249,037 |   | 141,971 |   |
| Depreciation  and amortization                        |       | 121,672                |       | 53,888                 |       | 322,414 |   | 156,788 |   |
|                                                  |       | 428,980                |       | 163,862                |       | 1,187,211 |   | 656,351 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Operating  income                                     |       | 105,760                |       | 174,117                |       | 308,497 |   | 321,675 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Interest,  dividends and other Income                 |       | 92,170                 |       | 7,968                  |       | 173,120 |   | 10,174 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Net income                                            |       | $                      | 197,930    |                   | $          | 182,085 |   | $ | 481,617 |   | $ | 331,849 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Net income  allocable to managing member              |       | $                      | 19,793     |                   | $          | 18,209 |   | $ | 48,162 |   | $ | 33,185 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Net income  allocable to unitholders                  |       | $                      | 178,137    |                   | $          | 163,876 |   | $ | 433,455 |   | $ | 298,664 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Per unit  amounts:                                    |       |                   |       |                   |       |   |   |   |   |
| Basic and  diluted income allocable to unitholders    |       | $                      | 1.84       |                   | $          | 3.55 |   | $ | 5.50 |   | $ | 7.37 |   |
|                                                  |       |                   |       |                   |       |   |   |   |   |
| Basic and  diluted weighted average units outstanding |       | 96,609                 |       | 46,143                 |       | 78,778 |   | 40,532 |   |

 

The accompanying notes are anintegral part of these interim financial statements.

 

4

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**CORNERSTONEREALTY FUND, LLC**

**(aCalifornia limited liability company)**

 

**CONDENSED STATEMENT OF MEMBERS’ CAPITAL**

**(Unaudited)**

 
| Balance, December 31,  2004                   |   | $          | 24,086,783 |   |
|----------------------------------------------------|--------|------------|------------|--------|
|                                               |   |       |       |
| Net proceeds  from offering                        |   | 18,286,508 |       |
| Contribution  from managing member                 |   | 412,035    |       |
| Distributions  to unit holders                     |   | (1,204,376 | )          |
| Deferred  offering costs repaid to managing member |   | (819,580   | )          |
| Net income                                         |   | 481,617    |       |
|                                               |   |       |       |
| Balance, September 30,  2005                  |   | $          | 41,242,987 |   |

 

The accompanying notes are anintegral part of these interim financial statements.

 

5

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**CORNERSTONEREALTY FUND, LLC**

**(aCalifornia limited liability company)**

 

**CONDENSED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

 
| ** **                                                                         | ** ** | **Nine Months Ended**  | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                         | ** ** | **September 30,** | ** ** |
| ** **                                                                         | ** ** | **2005**               | ** ** | **2004** | ** ** |
| ** **                                                                         | ** ** | ** **             | ** ** | ** ** | ** ** |
| OPERATING  ACTIVITIES                                                              |       |                   |       |   |   |
| Net income                                                                         |       | $                      | 481,617    |   | $ | 331,849 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities: |       |                   |       |   |   |
| Depreciation  and amortization                                                     |       | 480,692                |       | 252,745 |   |
| Changes in  operating assets and liabilities:                                      |       |                   |       |   |   |
| Other assets                                                                       |       | 76,789                 |       | (31,034 | ) |
| Accounts  payable, accrued liabilities and security deposits                       |       | 406,682                |       | (15,694 | ) |
|                                                                               |       |                   |       |   |   |
| Net cash  provided by operating activities                                         |       | 1,445,780              |       | 537,866 |   |
|                                                                               |       |                   |       |   |   |
| INVESTING  ACTIVITIES                                                              |       |                   |       |   |   |
| Real estate  additions                                                             |       | (16,063,609            | )          | (181,030 | ) |
|                                                                               |       |                   |       |   |   |
| Net cash  used in investing activities                                             |       | (16,063,609            | )          | (181,030 | ) |
|                                                                               |       |                   |       |   |   |
| FINANCING  ACTIVITIES                                                              |       |                   |       |   |   |
| Advances  from managing member                                                     |       | 412,035                |       | — |   |
| Net proceeds  from offering                                                        |       | 18,286,508             |       | 7,025,230 |   |
| Distributions  to members                                                          |       | (1,204,376             | )          | (656,930 | ) |
| Deferred  offering costs repaid to managing member                                 |       | (819,580               | )          | (315,660 | ) |
|                                                                               |       |                   |       |   |   |
| Net cash  provided by financing activities                                         |       | 16,674,587             |       | 6,052,640 |   |
|                                                                               |       |                   |       |   |   |
| Net increase  in cash                                                              |       | 2,056,758              |       | 6,409,476 |   |
|                                                                               |       |                   |       |   |   |
| Cash and  cash equivalents at beginning of period                                  |       | 11,793,822             |       | 1,464,206 |   |
|                                                                               |       |                   |       |   |   |
| Cash and  cash equivalents at end of period                                        |       | $                      | 13,850,580 |   | $ | 7,873,682 |   |

 

The accompanying notes are anintegral part of these interim financial statements.

 

6

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**CORNERSTONEREALTY FUND, LLC**

**(aCalifornia Limited Liability Company)**

 

**NOTES TO CONDENSED FINANCIAL STATEMENTS**

**(Unaudited)**

 

**1.**                                      Organization and Business

** **

Cornerstone Realty Fund, LLC, a California limitedliability company (the “Fund”) (formerly Cornerstone Multi-Tenant IndustrialBusiness Parks Fund, LLC and Cornerstone Industrial Properties Income andGrowth Fund I, LLC), was formed on October 28, 1998.  The members of the Fund are CornerstoneIndustrial Properties, LLC, a California limited liability company, as theManaging Member (“Managing Member”), Terry G. Roussel, an individual, and othervarious unitholders as described below. The purpose of the Fund is to acquire, operate and sell multi-tenantindustrial properties.  On August 18,2005, the Fund completed its public offering equity interests (“units”) in theFund.  As of that date, the Fund hadissued 100,000 units to unitholders for gross offering proceeds of $50,000,000,before discounts of $19,780.

 

The interim unaudited condensed financial statementsof the Fund have been prepared in accordance with accounting principlesgenerally accepted in the United States for interim financial information andin accordance with the rules and regulations of the Securities andExchange Commission.  As permitted by theSecurities and Exchange Commission filing requirements for Form 10-Q, thecondensed financial statements do not include all of the information andfootnotes required by accounting principles generally accepted in the UnitedStates for complete financial statements. The condensed financial statements included herein should be read inconjunction with the Fund’s Annual Report on Form 10-K for the year ended December 31,2004.

 

The interim unaudited condensed financial statementshave been prepared in accordance with the Fund’s customary accountingpractices.  In the opinion of management,all adjustments (consisting of normal recurring accruals) considered necessaryfor a presentation in accordance with accounting principles generally acceptedin the United States have been included. Operating results for the three and nine months ended September 30,2005 are not necessarily indicative of the results that may be expected for theyear ending December 31, 2005.

 

Each member’s liability is limited pursuant to theprovisions of the Beverly-Killea Limited Liability Company Act.  The term of the Fund shall continue until December 31,2010, unless terminated sooner pursuant to the operating agreement.

 

The operating agreement, as amended and restated,provides, among other things, for the following:

 

The Managing Member generally has complete andexclusive discretion in the management and control of the Fund; however,unitholders holding the majority of all outstanding and issued units havecertain specified voting rights which include the removal and replacement ofthe Managing Member.

 

Net Cash Flow from Operations, as defined, will bedistributed 90% to the unitholders and 10% to the Managing Member until theunitholders have received either an 8% or 12% cumulative, non-compounded annualreturn on their Invested Capital Contributions, as defined. The 12% return appliesto specified early investors for the twelve-month period subsequent to the dateof their Invested Capital Contributions and is in lieu of the 8% return duringthat period.

 

7

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Net Sales Proceeds, as defined, will be distributedfirst, 100% to the unitholders in an amount equal to their Invested CapitalContributions; then, 90% to the unitholders and 10% to the Managing Memberuntil the unitholders have received an amount equal to the unpaid balance of theiraggregate cumulative, non-compounded annual return on their Invested CapitalContributions; and thereafter, 50% to the unitholders and 50% to the ManagingMember.

 

Net Income, as defined, is allocated first, 10% tothe Managing Member and 90% to the unitholders until Net Income allocatedequals cumulative Net Losses, as defined, previously allocated in suchproportions; second, in proportion to and to the extent of Net Cash Flow fromOperations and Net Sales Proceeds previously distributed to the members,exclusive of distributions representing a return of Invested CapitalContributions; and then 50% to the Managing Member and 50% to the unitholders.

 

Net Loss is allocated first, 50% to the ManagingMember and 50% to the unitholders, until Net Loss allocated equals cumulativeNet Income previously allocated in such proportions; then remaining Net Loss isallocated 10% to the Managing Member and 90% to the unitholders.

 

All allocations and distributions to the unitholdersare to be pro rata in proportion to their ownership shares.

 

**2.****                                     ****Summary of SignificantAccounting Policies**

 

*Use of Estimates*

 

The preparation of financial statements inconformity with accounting principles generally accepted in the United Statesrequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities as of the date of the financial statementsand the reported amount of revenue and expenses during the reportingperiods.  Actual results could materiallydiffer materially from the estimates in the near term.

 

*Cash and Cash Equivalents*

 

Cash and cash equivalents consist primarily ofinterest-bearing investments with original maturities of 90 days or less at thedate of purchase.  Included in cash andcash equivalents at September 30, 2005 is $240,028 related to tenantsecurity deposits.  The Fund places itscash with major financial institutions. Approximately $13.2 million in cash balances was in excess of federallyinsured limits as of September 30, 2005.

 

*Investments in Real Estate*

 

Investments in real estate are stated at cost andinclude land, buildings and building improvements.  Expenditures for ordinary maintenance andrepairs are expensed to operations as incurred. Significant replacements, betterments and tenant improvements, whichimprove or extend the useful lives of the buildings, are capitalized.  Depreciation of the buildings and buildingimprovements is computed on a straight-line basis over their estimated usefullives of either 10 or 39 years.  Tenantimprovements are depreciated over the shorter of the useful asset life or therelated lease term.

 

The Fund evaluates the carrying value forinvestments in real estate in accordance with Financial Accounting StandardsBoard (“FASB”) Statement No. 144, *Accounting for the Impairmentor Disposal of Long-Lived Assets* (“FAS 144”).  FAS 144 requires that when events or changesin circumstances indicate that the carrying amount of the assets might not berecoverable, companies should evaluate the need for an impairment write-down.  When an impairment write-down is required,the related assets are adjusted to their estimated fair value.

 

8

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The Fund accounts for its acquisitions in accordancewith Statement of Financial Accounting Standard (“SFAS”) No. 141, *Business Combinations*and SFAS No. 142, *Goodwill and Other Intangible Assets*.  SFAS No. 141 and No. 142 requirethe Fund to record at acquisition an intangible asset or liability for thevalue attributable to in-place leases. As of September 30, 2005, the Fund has recorded $920,849, as anintangible asset attributable to the value of the leases in place as of thedate of acquisition. Accumulated amortization was $277,189 as of September 30,2005.  As of September 30, 2005, theFund has recorded $550,000 as an intangible asset attributable to the currentvalue of billboard and cell site leases as of the date of acquisition.  Accumulated amortization was $31,434 as of September 30,2005.

 

*Leasing Commissions*

 

Leasing commissions are stated at cost and amortizedon a straight-line basis over the related lease term.

 

*Revenue Recognition*

 

Rental revenues are recorded on an accrual basis asthey are earned over the lives of the respective tenant leases on astraight-line basis.  Included in this calculationare contractual rent increases and amounts paid to tenants as tenantimprovement allowances.  Rentalreceivables are periodically evaluated for collectibility.

 

*Fair Value of Financial Instruments*

 

The Fund believes that the recorded values of allfinancial instruments approximate their current values.

 

*Income Tax Matters*

 

It is the intent of the Fund and its members thatthe Fund be treated as a partnership for income tax purposes.  As a limited liability company, the Fund issubject to certain minimal taxes and fees; however, income taxes on the incomeor losses realized by the Fund are generally the obligation of the members.

 

*Concentration of Credit Risk*

 

The Fund maintains its cash at banks with federallyinsured accounts and uninsured money market funds.  The amounts are substantially uninsured.  No losses have been experienced related tosuch amounts.

 

**3.****                                     ****Investments in Real Estate**

 

On September 27, 2002, the Fund acquired anexisting multi-tenant industrial business park known as Normandie BusinessCenter, located in Torrance, California for $3,901,696.  Normandie Business Center consists of twosingle-story buildings containing a total of 48,711 leasable square feet.

 

On December 27, 2002, the Fund acquired anexisting multi-tenant industrial business park known as the Sky Harbor BusinessPark, located in Northbrook, Illinois for $2,553,996.  Sky Harbor Business Park consists of asingle-story building containing a total of 41,422 leasable square feet.

 

9

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On December 10, 2003, the Fund acquired anexisting multi-tenant industrial park known as Arrow Business Center located inIrwindale, California for $5,910,579. The property consists of three single-story buildings containing a totalof 69,592 leasable square feet.

 

On January 25, 2005, the Fund acquired anexisting multi-tenant business park in Glenview, Illinois known as Zenith DriveCentre for $5,243,732.  Zenith DriveCentre is a single-story three building property built in 1978 of approximately38,088 square feet on approximately 2.54 acres of land.

 

Included in the acquisition and purchase price ofZenith Drive Centre were a billboard sign and cellular relay antenna located onthe property leased to a large media company and communications company,respectively.  Management separatelyvalued these leases and the resulting amounts are included in intangible leasevalue.  The value of these leases isamortized over the remaining respective terms.

 

On April 28, 2005, the Fund purchased an existingmulti-tenant industrial park known as Paramount Business Center for$3,143,733.  Paramount Business Center isa single-story two building property of approximately 30,157 square feet onapproximately 1.66 acres of land located in Paramount, California.

 

On September 30, 2005, the Fund purchased amulti-tenant industrial park in Tempe, Arizona, near the Phoenix airport, for$7,584,772 from an independent third party seller.  This property consists of four buildingstotaling 83,205 square feet of leaseable space situated on approximately 5.02acres of land.  At acquisition, theproperty was 82% leased, excluding approximately 14,727 square feet leased backto the seller for a period of up to six months.

 

Industrial space in the properties is generally leasedto tenants under lease terms that provide for the tenants to pay increases inoperating expenses in excess of specified amounts.

 

**4.****                                     ****Related Party Transactions**

 

The Managing Member incurs specific incrementalcosts in connection with the offering of membership units.  Reimbursement of such offering costs islimited to 4% of the gross proceeds of the related offerings.  Any offering costs incurred by the ManagingMember that are not reimbursed by the Fund will be reflected as a capitalcontribution to the Fund by the Managing Member, with an offsetting expenserecognized in the Fund’s statement of operations.

 

Unrecovered offering costs incurred by the ManagingMember for the nine months ending September 30, 2005 are as follows:

 
| Balance, December 31,  2004 |   | $        | 443,690 |   |
|----------------------------------|--------|----------|---------|--------|
| Costs incurred                   |   | 380,210  |    |
| Costs paid                       |   | (819,580 | )       |
|                             |   |     |    |
| Balance, September 30, 2005 |   | $        | 4,320   |   |
|                                  |        |          |         |        |  |

 

Currently the Fund is distributing a 5% annualreturn paid quarterly.  During the ninemonths ended September 30, 2005, the Managing Member funded $412,035 tosubsidize the Fund’s distributions of $1,204,376 to the unit holders.  This funding by the Managing Member will notbe reimbursed to the Managing Member by the Fund.

 

10

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The Managing Member and/or its affiliates areentitled to receive various fees, compensation and reimbursements as specifiedin the Fund’s operating agreement, including commissions of 7%, marketing feesof 2% of gross proceeds from the offering of units, and expense allowances of1.5% of gross proceeds from the offering of units. During the nine months endedSeptember 30, 2005 and 2004, the total fees, compensation andreimbursements were $2,164,993 and $832,442, respectively.

 

**Item 2.****                                  ****Management’s Discussion andAnalysis of Financial Condition and Results of Operations**

 

The following “Management’s Discussion and Analysisof Financial Condition and Results of Operations” should be read in conjunctionwith the Fund’s financial statements and notes thereto contained elsewhere inthis report.  Certain statements in this section andelsewhere contain forward-looking statements within the meaning of the PrivateSecurities Litigation Reform Act of 1995. Such forward-looking statements may relate to risks and other factorsthat may cause the Fund’s future results of operations to be materiallydifferent than those expressed or implied herein.  Some of these risks and other factorsinclude, but are not limited to:  (i) noassurance that Fund properties will continue to experience the current level ofoccupancy; (ii) tenants may not be able to meet their financialobligations; (iii) rental revenues from the properties may not besufficient to meet the Fund’s cash requirements for operations, capitalrequirements and distributions; (iv) suitable investment properties maynot continue to be available; and (v) adverse changes to the generaleconomy may disrupt operations.

 

# **CriticalAccounting Policies**

#  

The Fund’s financial statements have been preparedin accordance with accounting principles generally accepted in the UnitedStates.  The preparation of thesefinancial statements requires management to make estimates and assumptions thataffect the reported amounts of assets and liabilities as of the date of thefinancial statements and the reported amount of revenue and expenses during thereporting period.  Actual results coulddiffer materially from the estimates in the near term.

 

## *RevenueRecognition*

## * *

Rental revenues are recorded on an accrual basis asthey are earned over the lives of the respective tenant leases on astraight-line basis.  Included in thiscalculation are contractual rent increases and amounts paid to tenants astenant improvement allowances.  Rentalreceivables are periodically evaluated for collectibility.

 

## *Investmentsin Real Estate*

## * *

Investments in real estate are stated at cost andinclude land, buildings and building improvements.  Expenditures for ordinary maintenance andrepairs are expensed to operations as incurred. Significant replacements, betterments and tenant improvements, whichimprove or extend the useful lives of the buildings, are capitalized.  Depreciation of the buildings and buildingimprovements is computed on a straight-line basis over their estimated usefullives of either 10 or 39 years.  Tenantimprovements are depreciated over the shorter of the useful asset life or therelated lease term.

 

The Fund evaluates the carrying value forinvestments in real estate in accordance with Financial Accounting StandardsBoard (“FASB”) Statement No. 144, *Accounting for theImpairment or Disposal of Long-Lived Assets* (“FAS 144”).  FAS 144 requires that when events or changesin circumstances indicate that the carrying amount of the assets might not berecoverable, companies should evaluate the need for an impairmentwrite-down.  When an impairmentwrite-down is required, the related assets are adjusted to their estimated fairvalue.

 

In June 2001 the FASB issued Statement ofFinancial Accounting Standard (“SFAS”) No. 141, *BusinessCombinations*and SFAS No. 142, *Goodwill andOther Intangible Assets*.  SFASNo. 141 and No. 142 require the Fund to record at acquisition anintangible asset or liability for the value attributable to in-placeleases.  The requirements are applicableto all acquisitions subsequent to July 1, 2001.  As of

 

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September 30, 2005, the Fund has recorded $920,849, as anintangible asset attributable to the value of the leases in place as of thedate of acquisition. Accumulated amortization was $277,189 as of September 30,2005.  As of September 30, 2005, theFund has recorded $550,000 as an intangible asset attributable to the currentvalue of billboard and cell site leases as of the date of acquisition.  Accumulated amortization was $31,434 as of September 30,2005.

 

*Off-balanceSheet Financings and Liabilities*

 

Other than lease commitments and legal contingenciesincurred in the normal course of business, the Fund does not have anyoff-balance sheet financing arrangements or liabilities.  The Fund doesnot have any majority-owned subsidiaries or any interests in, or relationshipswith, any special-purpose entities.

 

# **Results ofOperations**

#  

As of September 30, 2005, the Fund hadpurchased six multi-tenant industrial business park properties in three majormetropolitan areas.  The properties werepurchased from the proceeds from the sale of membership units, without debtfinancing. The properties were purchased in September 2002, December 2002,December 2003, and January, April and September 2005. As aresult of the dates of purchase, Fund operations for 2004 reflect the netincome from only three properties for all nine months of the prior period.

 

For the three months ended September 30, 2005,operating results reflect operations for the five properties owned for thethree months.  Operating results for thethird quarter of 2005 does not include any results for the property that waspurchased on September 30, 2005. The results of operations for thisproperty are immaterial for both the three and nine month periods ending September 30,2005.

 

For the nine months ended September 30, 2005,Fund operations reflect operations for nine months for the three propertiespurchased in prior years, plus operating results of eight and five monthsrespectively for the properties purchased in January and April 2005.

 

*Three months ended September 30, 2005 and 2004*

 

The Fund’s net income for the three months ended September 30,2005 and 2004 was $197,930 and $182,085, respectively.  Revenue increased from $337,979 to $534,740.  These increases primarily reflect theadditions of Zenith Centre Drive and Paramount Business Center in 2005.  Property operating and maintenance expenses,and property taxes increased from $85,754 in 2004 to $213,207 in 2005 due to theaddition of the aforementioned two properties. Depreciation and amortizationincreased from $53,888 to $121,672 due to the addition of properties.  General and administrative costs increasedfrom $24,220 to $94,101. Increased costs associated with investor services, professionalfees and additional accounting effort, due to the growth in the size of theFund, account for the majority of the increase.

 

Interest and other income increased to $92,170 forthe three months ended September 30, 2005 from $7,968 for the same periodin 2004.  The increase was primarily dueto a significant increase in invested cash balances and the rise in short-terminterest rates.

 

*Nine months ended September 30, 2005 and 2004*

 

TheFund’s net income for the nine months ended September 30, 2005 and 2004was $481,617 and $331,849, respectively. Revenue increased from $978,026 to $1,495,708. This increase primarilyreflects the additions of Zenith Center Drive and Paramount Business Park.  Property operating and maintenance expenses,and property taxes increased from $357,592 in 2004 to $615,760 in 2005 due to

 

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the addition of the aforementioned twoproperties.  Depreciation andamortization increased from $156,788 to $322,414 due to the addition ofproperties.  General and administrativecosts increased from $141,971 to $249,037. Increased costs associated with investor services, professional fees andadditional accounting effort, due to the growth in the size of the Fund,account for the majority of the increase.

 

Interest and other income increased to $173,120 forthe nine months ended September 30, 2005 from $10,174 for the same periodin 2004.  The increase was primarily dueto a significant increase in invested cash balances and the rise in short-terminterest rates.

 

**Liquidityand Capital Resources**

 

As of September 30, 2005, the Fund had received$50,000,000 of gross proceeds, before discounts of $19,780, from the sale ofmembership units, and $896,474 as a capital contribution from the ManagingMember.  As of September 30, 2005,the Fund has $13.9 million ($13.6 at November 4, 2005) in cash and cashequivalents.

 

Although the equity offering of the Fund is nowcomplete, the Fund intends to use the existing cash balance for the acquisitionof additional multi-tenant industrial business park properties, capitalimprovements to the properties, and for operating expenses and reserves.

 

The Fund expects to meet its short-term liquidityrequirements from net cash generated by operations, which we believe will beadequate to meet operating costs of the properties and the Fund, and allow forcash distributions to the unitholders. However, because offering proceeds arenot yet fully invested, current net cash generated by operations is notexpected to be sufficient to fund distributions to unitholders at thehistorical distribution rate of 5%.

 

The Managing Member has financed the Fund’s offeringand organizational activities.  A portionof those costs have been reimbursed to the Managing Member at the rate of 4% ofgross proceeds of the Fund’s unit sales pursuant to the prospectus for theoffering.  The Managing Member must raisefunds through the sale of its own debt or equity securities to obtain the cashnecessary to provide these advances. There can be no assurance as to the amount or timing of the ManagingMember’s receipt of funds.  The Fund willnot reimburse the Managing Member for any amounts advanced by it for offeringand organizational expenses, which exceed the amounts and percentages, setforth in the prospectus for the offering. Any such expenses incurred by the Managing Member on behalf of the Fundthat are not reimbursed by the Fund will be reflected as a capital contributionto the Fund by the Managing Member with an offsetting expense recognized in theFund’s statement of operations.

 

**Contractual Obligations**

 

As of September 30, 2005, the Fund had nosignificant contractual obligations or commercial commitments, other than itsoperating leases with tenants in its commercial properties.

 

**Item 3.****                                  ****Quantitative and QualitativeDisclosures About Market Risk**

 

The Fund invests its cash and cash equivalents inFDIC insured savings and money market accounts, which, by their nature, aresubject to interest rate fluctuations.

 

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**Item 4.****                                  ****Controls and Procedures**

 

Since March 2005, the Fund has hired additionalaccounting personnel and believes that due to the increased number of personneland the implementation of several new procedures, that the previouslyidentified material weaknesses have been substantially mitigated.  However, during their most recent review, theFunds’s auditors reported several continuing significant control deficiencies.The Fund believes these significant deficiencies are the result of staffturnover, necessitating the use of interim personnel. The Fund expects itsaccounting group to be fully staffed by year end, facilitating the correctionof the recently noted deficiencies. The Fund has not undergone an audit of itsinternal control over financial reporting as it is not an accelerated filer,however, expects to undergo an examination for the year ended December 31,2007, or the further extended due date of compliance with the Sarbanes-OxleyAct of 2002.

 

The Fund’s disclosure controls and procedures aredesigned to ensure that information required to be disclosed in reports thatthe Fund files or submits under the Securities Exchange Act of 1934 isrecorded, processed, summarized and reported within the time periods specifiedin the rules and forms of the Securities and Exchange Commission and thatsuch information is accumulated and communicated to the Fund’s management, asappropriate, to allow timely decisions regarding required disclosure. The ChiefExecutive Officer and the Chief Financial Officer of Cornerstone Ventures, Inc.,the manager of the Managing Member of the Fund, have reviewed the effectivenessof the Fund’s disclosure controls and procedures and have concluded that thedisclosure controls and procedures were effective as of the end of the periodcovered by this report.

 

We are in the process of developing and implementinga formal set of internal controls and procedures for financial reporting asrequired by the Sarbanes-Oxley Act of 2002, the efficacy of the steps we havetaken to date and steps we are still in the process of completing is subject tocontinued management review supported by confirmation and testing by managementand by our auditors.  We anticipate that additional changes may be made toour internal controls and procedures.  Other than the foregoinginitiatives, no change in our internal control over financial reportingoccurred during the period covered by this report that has materially affected,or is reasonably likely to affect, our internal control over financialreporting.

 

It should be noted that any system of controls,however well designed and operated, can provide only reasonable, and notabsolute, assurance that the objectives of the system are met.  In addition, the design of any control systemis based in part upon certain assumptions about the likelihood of futureevents.  Because of these and otherinherent limitations of control systems, there can be no assurance that anydesign will succeed in achieving its stated goals under all potential futureconditions.

 

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**PART II - OTHER INFORMATION**

 

**Item 6.****                                  ****Exhibits**

 
| 31.1   |   | Certification of Chief Executive Officer pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                           |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                |
| 31.2   |   | Certification of Chief Financial Officer pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                           |
|   |   |                                                                                                                                                                                |
| 32     |   | Certification of Chief Executive Officer and Chief Financial Officer  Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |

 

**SIGNATURES**

 

Pursuant to the requirements of Section 13or 15(d) of the Securities Exchange Act of 1934, the registrant has dulycaused this quarterly report to be signed on its behalf by the undersigned,thereunto duly authorized this 11th day of November 2005.

 
|   | CORNERSTONE REALTY FUND, LLC |
|--------|------------------------------|
|   |                         |
|   | By:                          | CORNERSTONE INDUSTRIAL PROPERTIES, LLC |
|   |                         | its Managing Member |
|   |                         |   |
|   |                         | By: | CORNERSTONE VENTURES, INC. |
|   |                         |   | its Manager |
|   |                         |   |   |
|   |                         |   | By: |   /s/ TERRY G. ROUSSEL |   |
|   |                         |   |   |  Terry G. Roussel, President |
|   |                         |   |   | (Principal Executive Officer) |
|   |                         |   |   |   |
|   |                         |   |   |   |
|   |                         |   | By: |   /s/  SHARON C. KAISER |   |
|   |                         |   |   | Sharon C. Kaiser, |
|   |                         |   |   | Chief Financial Officer |
|   |                         |   |   | (Principal Financial Officer and |
|   |                         |   |   |  Principal Accounting Officer) |

 

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