##### 



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, DC 20549
 FORM 10-Q
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934
 For the quarterly period ended September 30, 2006
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
 For the transition period from
 to .
  FIRST POTOMAC REALTY TRUST
  MARYLAND
    
    37-1470730(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)
 7600 Wisconsin Avenue, 11thFloor, Bethesda, MD
    
    20814(Address of principal executive offices)
    
    (Zip Code)
 (301) 986-9200
  þ o
  o þ o
 o þ




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##### 



FIRST POTOMAC REALTY TRUST
FORM 10-Q
 INDEX
 PagePart I: Financial InformationItem 1. Financial StatementsCondensed consolidated balance sheets as of September 30, 2006 (unaudited) and December 31, 2005
    
    
    3Condensed consolidated statements of operations (unaudited) for the three and nine months ended September 30,
2006 and 2005
    
    
    4Condensed consolidated statements of cash flows (unaudited) for the nine months ended September 30, 2006 and 2005
    
    
    5Notes to condensed consolidated financial statements (unaudited)
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    18Item 3. Quantitative and Qualitative Disclosure about Market Risk
    
    
    29Item 4. Controls and Procedures
    
    
    29Part II: Other InformationItem 1. Legal Proceedings
    
    
    30Item 1A. Risk Factors
    
    
    30Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    30Item 3. Defaults Upon Senior Securities
    
    
    30Item 4. Submission of Matters to a Vote of Security Holders
    
    
    30Item 5. Other Information
    
    
    30Item 6. Exhibits
    
    
    30Signatures
 2




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##### 



FIRST POTOMAC REALTY TRUST
 September 30, 2006(unaudited)
    
    
    December 31, 2005Assets:Rental property, net
    
    $
    840,433
    
    
    $
    668,730Cash and cash equivalents
    
    
    3,201
    
    
    
    3,356Escrows and reserves
    
    
    11,527
    
    
    
    9,818Accounts and other receivables, net of
allowance for doubtful accounts of $289 and
$339, respectively
    
    
    2,995
    
    
    
    2,705Accrued straight-line rents, net of
allowance for doubtful accounts of $46 and
$35, respectively
    
    
    4,304
    
    
    
    3,638Deferred costs, net
    
    
    8,514
    
    
    
    6,676Prepaid expenses and other assets
    
    
    6,085
    
    
    
    3,322Intangible assets, net
    
    
    33,070
    
    
    
    29,518Total assets
    
    $
    910,129
    
    
    $
    727,763Liabilities:Mortgage loans
    
    $
    389,950
    
    
    $
    369,266Senior notes
    
    
    75,000
    
    
    
    Credit facility
    
    
    28,800
    
    
    
    26,999Accounts payable and accrued expenses
    
    
    5,048
    
    
    
    4,734Accrued interest
    
    
    3,334
    
    
    
    1,618Rents received in advance
    
    
    2,616
    
    
    
    2,932Tenant security deposits
    
    
    4,663
    
    
    
    3,973Deferred market rent
    
    
    8,942
    
    
    
    7,281Total liabilities
    
    
    518,353
    
    
    
    416,803Minority interests
    
    
    14,334
    
    
    
    21,629Shareholders equity:Common stock, $0.001 par value, 100,000,000
shares authorized: 24,102,261 and 20,072,755
shares issued and outstanding at September 30,
2006 and
December 31, 2005, respectively
    
    
    24
    
    
    
    20Additional paid-in capital
    
    
    437,327
    
    
    
    338,564Dividends in excess of accumulated earnings
    
    
    (59,909
    )
    
    
    (49,253
    )Total shareholders equity
    
    
    377,442
    
    
    
    289,331Total liabilities and shareholders equity
    
    $
    910,129
    
    
    $
    727,763
  3




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##### 



FIRST POTOMAC REALTY TRUST
 Three Months Ended September 30,
    
    
    Nine Months Ended September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Revenues:Rental revenue
    
    $
    22,865
    
    
    $
    16,315
    
    
    $
    64,277
    
    
    $
    45,825Tenant reimbursements and other
    
    
    4,264
    
    
    
    4,095
    
    
    
    12,450
    
    
    
    8,464Total revenues
    
    
    27,129
    
    
    
    20,410
    
    
    
    76,727
    
    
    
    54,289Operating expenses:Property operating
    
    
    5,536
    
    
    
    3,277
    
    
    
    14,652
    
    
    
    9,411Real estate taxes and insurance
    
    
    2,257
    
    
    
    1,610
    
    
    
    6,578
    
    
    
    4,462General and administrative
    
    
    2,436
    
    
    
    2,054
    
    
    
    7,500
    
    
    
    5,691Depreciation and amortization
    
    
    9,174
    
    
    
    6,577
    
    
    
    24,993
    
    
    
    17,411Total operating expenses
    
    
    19,403
    
    
    
    13,518
    
    
    
    53,723
    
    
    
    36,975Operating income
    
    
    7,726
    
    
    
    6,892
    
    
    
    23,004
    
    
    
    17,314Other expenses (income):Interest expense
    
    
    7,155
    
    
    
    5,407
    
    
    
    20,998
    
    
    
    14,424Interest and other income
    
    
    (175
    )
    
    
    (41
    )
    
    
    (743
    )
    
    
    (78
    )Loss on interest-rate lock agreement
    
    
    
    
    
    
    
    
    
    
    671
    
    
    
    Loss on early retirement of debt
    
    
    
    
    
    
    
    
    
    
    121
    
    
    
    Total other expenses
    
    
    6,980
    
    
    
    5,366
    
    
    
    21,047
    
    
    
    14,346Income from continuing operations before minority
interests
    
    
    746
    
    
    
    1,526
    
    
    
    1,957
    
    
    
    2,968Minority interests
    
    
    (28
    )
    
    
    (95
    )
    
    
    (95
    )
    
    
    (204
    )Income from continuing operations
    
    
    718
    
    
    
    1,431
    
    
    
    1,862
    
    
    
    2,764Discontinued operations:Income from operations of disposed property
    
    
    
    
    
    
    139
    
    
    
    376
    
    
    
    390Gain on sale of disposed property
    
    
    
    
    
    
    
    
    
    
    7,475
    
    
    
    Minority interests in discontinued operations
    
    
    
    
    
    
    (9
    )
    
    
    (386
    )
    
    
    (28
    )Income from discontinued operations
    
    
    
    
    
    
    130
    
    
    
    7,465
    
    
    
    362Net income
    
    $
    718
    
    
    $
    1,561
    
    
    $
    9,327
    
    
    $
    3,126Basic net income per share:Income from continuing operations
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.09
    
    
    $
    0.18Income from discontinued operations
    
    
    
    
    
    
    
    
    
    
    0.35
    
    
    
    0.02Net income per share
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.44
    
    
    $
    0.20Weighted average common shares outstanding 
basic
    
    
    23,168
    
    
    
    16,540
    
    
    
    21,257
    
    
    
    15,748Diluted net income per share:Income from continuing operations
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.09
    
    
    $
    0.18Income from discontinued operations
    
    
    
    
    
    
    
    
    
    
    0.34
    
    
    
    0.02Net income per share
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.43
    
    
    $
    0.20Weighted average common shares outstanding 
diluted
    
    
    23,444
    
    
    
    16,780
    
    
    
    21,530
    
    
    
    15,952
  4




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##### 



FIRST POTOMAC REALTY TRUST
 Nine Months Ended September 30,2006
    
    
    2005Cash flows from operating activitiesNet income
    
    $
    9,327
    
    
    $
    3,126Adjustments to reconcile net income to net cash provided by
operating activities:Discontinued operations:Gain on sale of property disposed
    
    
    (7,475
    )
    
    
    Depreciation and amortization
    
    
    3
    
    
    
    106Minority interests
    
    
    386
    
    
    
    28Depreciation and amortization
    
    
    25,266
    
    
    
    17,482Bad debt (recovery) expense
    
    
    (58
    )
    
    
    382Stock based compensation
    
    
    1,344
    
    
    
    339Amortization of deferred market rent
    
    
    (1,705
    )
    
    
    (884
    )Amortization of deferred financing costs
    
    
    655
    
    
    
    670Amortization of rent abatement
    
    
    146
    
    
    
    92Minority interests
    
    
    95
    
    
    
    204Loss from early retirement of debt
    
    
    121
    
    
    
    Changes in assets and liabilities:Escrows and reserves
    
    
    (1,709
    )
    
    
    (1,830
    )Accounts and other receivables
    
    
    (250
    )
    
    
    (1,489
    )Accrued straight-line rents
    
    
    (648
    )
    
    
    (1,009
    )Prepaid expenses and other assets
    
    
    (2,509
    )
    
    
    (1,733
    )Tenant security deposits
    
    
    690
    
    
    
    678Accounts payable and accrued expenses
    
    
    451
    
    
    
    449Accrued interest
    
    
    1,716
    
    
    
    812Rent received in advance
    
    
    (316
    )
    
    
    743Deferred costs
    
    
    (1,355
    )
    
    
    (806
    )Total adjustments
    
    
    14,848
    
    
    
    14,234Net cash provided by operating activities
    
    
    24,175
    
    
    
    17,360Cash flows from investing activitiesPurchase deposit on future acquisitions
    
    
    (500
    )
    
    
    (2,030
    )Proceeds from sale of real estate assets
    
    
    14,939
    
    
    
    Additions to rental property
    
    
    (6,793
    )
    
    
    (3,192
    )Additions to construction in process
    
    
    (2,381
    )
    
    
    (101
    )Acquisition of land parcels
    
    
    (716
    )
    
    
    Acquisition of rental property and associated intangible assets
    
    
    (168,041
    )
    
    
    (78,393
    )Net cash used in investing activities
    
    
    (163,492
    )
    
    
    (83,716
    )Cash flows from financing activitiesFinancing costs
    
    
    (2,087
    )
    
    
    (1,863
    )Repayments of debt
    
    
    (96,578
    )
    
    
    (115,065
    )Dividends to shareholders
    
    
    (19,983
    )
    
    
    (12,999
    )Distributions to minority interests
    
    
    (1,082
    )
    
    
    (1,034
    )Proceeds from debt
    
    
    168,300
    
    
    
    153,800Proceeds from issuance of stock, net
    
    
    90,057
    
    
    
    44,923Stock option exercises
    
    
    535
    
    
    
    3Net cash provided by financing activities
    
    
    139,162
    
    
    
    67,765Net increase (decrease) in cash and cash equivalents
    
    
    (155
    )
    
    
    1,409Cash and cash equivalents, beginning of period
    
    
    3,356
    
    
    
    2,532Cash and cash equivalents, end of period
    
    $
    3,201
    
    
    $
    3,941
  5




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##### 



FIRST POTOMAC REALTY TRUST
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (1) Summary of Significant Accounting Policies
 (a) Description of Business
    (b) Principles of Consolidation
    (c) Reclassifications
  (d) Use of Estimates
  6




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##### 



(e) Revenue Recognition
 Accounting for Leases
  (f) Cash and Cash Equivalents
  (g) Escrows and Reserves
  (h) Rental Property
  Buildings
    
    39 yearsBuildings improvements
    
    5 to 15 yearsFurniture, fixtures, and equipment
    
    5 to 15 yearsTenant improvements
    
    Shorter of the useful lives of the assets or the terms of the related leases
   7




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##### 



Capitalization of Interest Cost
 (i) Purchase Accounting
  
    
    value of leases based on the leasing origination costs at the date of the acquisition,
which approximates the market value of the lease origination costs had the in-place leases
been originated on the date of acquisition; the value of in-place leases represents
absorption costs for the estimated lease-up period in which vacancy and foregone revenue
are incurred;
    
    the value of above and below market in-place leases based on the present values (using a
discount rate that reflects the risks associated with the leases acquired) of the
difference between the contractual rent amounts and market rents over the remaining
non-cancelable lease terms, ranging from one to eleven years; and
    
    the intangible value of tenant or customer relationships.
  (j) Intangible Assets
 Business Combinations
  8




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##### 



Goodwill and Other Intangibles
 (k) Derivatives
    (l) Income Taxes
  (m) Minority Interests
    9




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##### 



(n) Earnings Per Share
   Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Numerator for basic and diluted per share
calculations:Income from continuing operations
    
    $
    718
    
    
    $
    1,431
    
    
    $
    1,862
    
    
    $
    2,764Income from discontinued operations
    
    
    
    
    
    
    130
    
    
    
    7,465
    
    
    
    362Net income
    
    $
    718
    
    
    $
    1,561
    
    
    $
    9,327
    
    
    $
    3,126Denominator for basic and diluted per share
calculations:Weighted average shares outstanding  basic
    
    
    23,168
    
    
    
    16,540
    
    
    
    21,257
    
    
    
    15,748Effect of dilutive shares:Employee stock options and nonvested shares
    
    
    276
    
    
    
    240
    
    
    
    273
    
    
    
    204Weighted average shares outstanding  diluted
    
    
    23,444
    
    
    
    16,780
    
    
    
    21,530
    
    
    
    15,952Basic net income per share:Continuing operations
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.09
    
    
    $
    0.18Discontinued operations
    
    
    
    
    
    
    
    
    
    
    0.35
    
    
    
    0.02Net income
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.44
    
    
    $
    0.20Diluted net income per share:Continuing operations
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.09
    
    
    $
    0.18Discontinued operations
    
    
    
    
    
    
    
    
    
    
    0.34
    
    
    
    0.02Net income
    
    $
    0.03
    
    
    $
    0.09
    
    
    $
    0.43
    
    
    $
    0.20
 (o) Share Based Compensation
 Share-Based Payment
 Accounting for Stock Based
Compensation Accounting for Stock Issued to
Employees
 10




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##### 



Option Awards
   WeightedAverageRemaining
    
    
    AggregateWeighted Average
    
    
    Contractual
    
    
    IntrinsicShares
    
    
    Exercise Price
    
    
    Term
    
    
    ValueOutstanding, December 31, 2005
    
    
    588,595
    
    
    $
    15.49Granted
    
    
    66,650
    
    
    
    26.60Exercised
    
    
    (7,000
    )
    
    
    15.54Forfeited
    
    
    (3,000
    )
    
    
    23.31Outstanding, March 31, 2006
    
    
    645,245
    
    
    $
    17.70
    
    
    8.0 years
    
    $
    6,558,819Granted
    
    
    
    
    
    
    Exercised
    
    
    (2,343
    )
    
    
    17.51Forfeited
    
    
    (1,094
    )
    
    
    25.32Outstanding, June 30, 2006
    
    
    641,808
    
    
    $
    17.69
    
    
    7.8 years
    
    $
    7,510,286Granted
    
    
    
    
    
    
    Exercised
    
    
    (23,812
    )
    
    
    16.17Forfeited
    
    
    (6,088
    )
    
    
    24.94Outstanding, September 30, 2006
    
    
    611,908
    
    
    $
    17.68
    
    
    7.5 years
    
    $
    7,445,947Exercisable, September 30, 2006
    
    
    316,941
    
    
    $
    16.24
    
    
    7.3 years
    
    $
    4,431,802Options
expected to vest, September 30, 2006
    
    
    292,212
    
    
    $
    19.18
    
    
    7.9 years
    
    $
    3,225,872
   11




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##### 



2006
    
    2005Weighted average risk free interest rate
    
    
    4.31
    %
    
    
    3.68
    %Expected volatility
    
    
    21.0
    %
    
    
    15.4
    %Expected dividend yield
    
    
    5
    %
    
    
    5
    %Weighted average expected life of options
    
    5 years
    
    5 years
 Nonvested share awards
     Weighted-Average GrantNonvested shares
    
    Shares
    
    
    Date Fair ValueNonvested at December 31, 2005
    
    
    56,124
    
    
    $
    26.40Granted
    
    
    8,167
    
    
    $
    27.72Vested
    
    
    (22,198
    )
    
    $
    26.88Forfeited
    
    
    
    
    
    
    Nonvested at March 31, 2006
    
    
    42,093
    
    
    $
    26.40Granted
    
    
    80,049
    
    
    $
    22.49Vested
    
    
    
    
    
    
    Forfeited
    
    
    
    
    
    
    Nonvested at
June 30, 2006
    
    
    122,142
    
    
    $
    23.84Granted
    
    
    
    
    
    
    Vested
    
    
    (17,032
    )
    
    $
    26.61Forfeited
    
    
    
    
    
    
    Nonvested at
September 30, 2006
    
    
    105,110
    
    
    $
    23.41
 12




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##### 



Three Months
    
    
    Nine MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2005
    
    
    2005Net income, as reported
    
    $
    1,561
    
    
    $
    3,126Add: total stock-based compensation
included in reported net income
    
    
    156
    
    
    
    318Deduct: total stock-based employee
compensation expense determined under
fair value based method for all awards,
net of minority interests
    
    
    (224
    )
    
    
    (523
    )Pro forma net income
    
    $
    1,493
    
    
    $
    2,921Net income per share, as reported 
basic and diluted
    
    $
    0.09
    
    
    $
    0.20Pro forma net income per share  basic
    
    $
    0.09
    
    
    $
    0.19Pro forma net income per share  diluted
    
    $
    0.09
    
    
    $
    0.18
 (p) Application of New Accounting Standards
 Accounting for Uncertainty in
Income Taxes, and Interpretation of FASB Statement No. 109 Accounting for Income Taxes
 Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements
 Fair Value Measurements
 13




---



##### 



(2) Rental Property
  September 30, 2006
    
    
    December 31, 2005Land
    
    $
    208,587
    
    
    $
    153,762Buildings and improvements
    
    
    652,184
    
    
    
    529,673Construction in process
    
    
    2,503
    
    
    
    169Tenant improvements
    
    
    24,135
    
    
    
    17,558Furniture, fixtures and equipment
    
    
    9,880
    
    
    
    9,794897,289
    
    
    
    710,956Less: accumulated depreciation
    
    
    (56,856
    )
    
    
    (42,226
    )$
    840,433
    
    
    $
    668,730
 Acquisitions
      Above andAcquired
    
    
    
    
    
    In-place
    
    Customer
    
    (below)tenant
    
    Building and
    
    leases
    
    relations
    
    market leasesLand
    
    improvements
    
    improvements
    
    intangible
    
    intangible
    
    acquired, net
    
    TotalRivers Bend Center
    
    $
    3,153
    
    
    $
    1,976
    
    
    $
    24,816
    
    
    $
    2,130
    
    
    $
    
    
    
    $
    (729
    )
    
    $
    31,346Northridge I & II
    
    
    1,172
    
    
    
    870
    
    
    
    6,683
    
    
    
    628
    
    
    
    
    
    
    
    (460
    )
    
    
    8,893Crossways I
    
    
    2,657
    
    
    
    769
    
    
    
    10,981
    
    
    
    1,183
    
    
    
    16
    
    
    
    12
    
    
    
    15,618Sterling Park Business Center
    
    
    19,898
    
    
    
    376
    
    
    
    10,418
    
    
    
    732
    
    
    
    
    
    
    
    (360
    )
    
    
    31,0641408 Stephanie Way
    
    
    1,292
    
    
    
    
    
    
    
    3,872
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,164Airpark Business Center
    
    
    250
    
    
    
    33
    
    
    
    2,761
    
    
    
    168
    
    
    
    
    
    
    
    38
    
    
    
    3,250Chesterfield Business Center
    
    
    900
    
    
    
    188
    
    
    
    13,145
    
    
    
    630
    
    
    
    
    
    
    
    (228
    )
    
    
    14,635Hanover Business Center
    
    
    1,795
    
    
    
    425
    
    
    
    11,289
    
    
    
    817
    
    
    
    7
    
    
    
    (350
    )
    
    
    13,983Gateway 270 West
    
    
    18,321
    
    
    
    1,289
    
    
    
    19,559
    
    
    
    1,407
    
    
    
    
    
    
    
    (699
    )
    
    
    39,877Davis Drive
    
    
    1,614
    
    
    
    179
    
    
    
    3,454
    
    
    
    251
    
    
    
    
    
    
    
    (49
    )
    
    
    5,449Indian Creek Court
    
    
    5,673
    
    
    
    615
    
    
    
    16,468
    
    
    
    1,460
    
    
    
    
    
    
    
    309
    
    
    
    24,525Total
    
    $
    56,725
    
    
    $
    6,720
    
    
    $
    123,446
    
    
    $
    9,406
    
    
    $
    23
    
    
    $
    (2,516
    )
    
    $
    193,804
  14




---



##### 



Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,
    
    September 30,
    
    September 30,2006
    
    2005
    
    2006
    
    2005Pro forma total revenues
    
    $
    27,702
    
    
    $
    28,573
    
    
    $
    82,175
    
    
    $
    81,693Pro forma net income
from
continuing operations
    
    $
    763
    
    
    $
    1,344
    
    
    $
    2,492
    
    
    $
    2,709Pro forma
income from
continuing
operations per share,
basic and diluted
    
    $
    0.03
    
    
    $
    0.06
    
    
    $
    0.10
    
    
    $
    0.11
 (3) Discontinued Operations
   Three Months Ended September 30,
    
    Nine Months Ended September 30,2006
    
    2005
    
    2006
    
    2005Revenue
    
    
    
    
    
    $
    303
    
    
    $
    443
    
    
    $
    884Income from operations of
disposed property
    
    
    
    
    
    
    139
    
    
    
    376
    
    
    
    390Gain on sale of disposed property
    
    
    
    
    
    
    
    
    
    
    7,475
    
    
    
    
 (4) Mortgage and Other Debt
  September 30,
    
    
    December 31,2006
    
    
    2005Mortgage debt, with fixed interest rates ranging from 5.13% to 8.53%
maturing at various dates through June 2021
    
    $
    389,950
    
    
    $
    369,266Series A senior notes, with a fixed interest rate of 6.41%, matures June 2013
    
    
    37,500
    
    
    
    Series B senior notes, with a fixed interest rate of 6.55%, matures June 2016
    
    
    37,500
    
    
    
    Credit facility, with a variable interest rate of LIBOR + 1.30%, matures May
2009
    
    
    28,800
    
    
    
    26,999$
    493,750
    
    
    $
    396,265
 15




---



##### 



(a) Fixed Rate Mortgage Debt
  Contractual
    
    
    Effective
    
    
    Earliest Maturity
    
    
    September 30,
    
    
    December 31,Property
    
    Interest Rate
    
    
    Interest Rate
    
    
    Date
    
    
    2006
    
    
    2005Interstate Plaza
    
    
    7.45
    %
    
    
    5.30
    %
    
    January 2007
    
    $
    8,344
    
    
    $
    8,546Herndon Corporate Center
    
    
    5.11
    %
    
    
    5.66
    %
    
    April 2008
    
    
    8,682
    
    
    
    8,764Norfolk Commerce Park II
    
    
    6.90
    %
    
    
    5.28
    %
    
    August 2008
    
    
    7,516
    
    
    
    7,700Suburban Maryland Portfolio
    
    
    6.71
    %
    
    
    5.54
    %
    
    September 2008
    
    
    76,409
    
    
    
    78,012Glenn Dale Business Center
    
    
    7.83
    %
    
    
    5.13
    %
    
    May 2009
    
    
    8,905
    
    
    
    9,1284200 Tech Court
    
    
    8.07
    %
    
    
    8.07
    %
    
    October 2009
    
    
    1,781
    
    
    
    1,7984212 Tech Court
    
    
    8.53
    %
    
    
    8.53
    %
    
    June 2010
    
    
    1,735
    
    
    
    1,748Enterprise Center
    
    
    8.03
    %
    
    
    5.20
    %
    
    December 2010
    
    
    19,567
    
    
    
    20,016Indian Creek Court
    
    
    7.80
    %
    
    
    5.90
    %
    
    January 2011
    
    
    13,647
    
    
    
    4612 Navistar Drive
    
    
    7.48
    %
    
    
    5.20
    %
    
    July 2011
    
    
    14,081
    
    
    
    14,371403 and 405 Glenn Drive
    
    
    7.60
    %
    
    
    5.50
    %
    
    July 2011
    
    
    9,098
    
    
    
    9,265Campus at Metro Park North
    
    
    7.11
    %
    
    
    5.25
    %
    
    February 2012
    
    
    25,768
    
    
    
    26,2591434 Crossways Boulevard
    
    
    7.05
    %
    
    
    5.38
    %
    
    August 2012
    
    
    10,930
    
    
    
    11,158Crossways Commerce Center
    
    
    6.70
    %
    
    
    6.70
    %
    
    October 2012
    
    
    25,812
    
    
    
    26,054Newington Business Park Center
    
    
    6.70
    %
    
    
    6.70
    %
    
    October 2012
    
    
    16,282
    
    
    
    16,435Prosperity Business Center
    
    
    6.25
    %
    
    
    5.75
    %
    
    January 2013
    
    
    3,991
    
    
    
    4,058Aquia Commerce Center I
    
    
    6.50
    %
    
    
    6.50
    %
    
    February 2013
    
    
    857
    
    
    
    9311434 Crossways Boulevard
    
    
    6.25
    %
    
    
    5.38
    %
    
    March 2013
    
    
    9,280
    
    
    
    9,447Linden Business Center
    
    
    6.01
    %
    
    
    5.58
    %
    
    October 2013
    
    
    7,676
    
    
    
    7,760Owings Mills Business Center
    
    
    5.85
    %
    
    
    5.75
    %
    
    March 2014
    
    
    5,850
    
    
    
    5,911Chesterfield Business Center:Chesterfield Buildings ABEF
    
    
    7.45
    %
    
    
    6.63
    %
    
    August 2015
    
    
    2,985
    
    
    
    Chesterfield Buildings CDGH
    
    
    8.50
    %
    
    
    6.63
    %
    
    August 2015
    
    
    2,797
    
    
    
    Plaza 500, Van Buren Office Park,
Rumsey Center, Snowden Center,
Greenbrier Technology Center II,
Norfolk Business Center and
Alexandria Corporate Park
    
    
    5.19
    %
    
    
    5.19
    %
    
    August 2015
    
    
    100,000
    
    
    
    100,000Hanover Business Center:Hanover Building D
    
    
    8.88
    %
    
    
    6.63
    %
    
    August 2015
    
    
    1,077
    
    
    
    Hanover Building II B
    
    
    4.00
    %
    
    
    8.00
    %
    
    June 2016
    
    
    1,959
    
    
    
    Hanover Building C
    
    
    7.88
    %
    
    
    6.63
    %
    
    December 2017
    
    
    1,475
    
    
    
    Gateway Centre
    
    
    7.35
    %
    
    
    5.88
    %
    
    November 2016
    
    
    1,818
    
    
    
    1,905Airpark Business Center
    
    
    7.45
    %
    
    
    6.63
    %
    
    June 2021
    
    
    1,628
    
    
    
    $
    389,950
    
    
    $
    369,266
 (b) Credit Facility
  (c) Senior Notes
  (5) Segment Information
  16




---



##### 



(6) Supplemental Disclosure of Cash Flow Information
  2006
    
    2005Cash paid for interest
    
    $
    20,560
    
    
    $
    14,656Non-cash investing and financing activities:Issuance of common shares to trustees
    
    
    137
    
    
    
    56Debt assumed in connection with acquisitions of
real estate
    
    
    25,764
    
    
    
    52,589Conversion of operating partnership units into
common shares
    
    
    6,694
    
    
    
    3,664
  (7) Shareholders Equity
  (8) Subsequent Events
   17




---



##### 



The following discussion and analysis of the Companys financial condition and results of
operations should be read in conjunction with the financial statements and notes thereto appearing
elsewhere in this Form 10-Q . The discussion and analysis is derived from the consolidated
operating results and activities of First Potomac Realty Trust.
   Executive Summary
   Significant Third Quarter Transactions
 Acquisition Activity
  
    
    Gateway 270 West, a six-building 254,625-square-foot flex/office property in
Clarksburg, Maryland, for $39.5 million. The acquisition was funded with proceeds
from the Companys common stock offering and borrowings on the Companys credit
facility;
    
    Davis Drive, a 52,581-square-foot flex/office property in Sterling, Virginia, for
$5.4 million. The acquisition cost was funded with borrowings on the Companys
credit facility; and
    
    Indian Creek Court, a four-building 186,691-square-foot flex/industrial property
in Beltsville, Maryland, for $23.5 million. The acquisition was funded with
borrowings under the credit facility and the assumption of a $12.8 million mortgage
loan.
 18




---



##### 



Development Activity
   
    
    John Marshall Highway  a 112,000 square-foot warehouse building addition/expansion
is underway and fully pre-leased to the current sole tenant of this property. The
total estimated cost of the building is approximately $8.6 million. Development costs
incurred include architectural design, site and building engineering, site work and
concrete construction activities;
    
    Crossways Commerce Center I  a 30,000 square-foot office building addition is
planned. The development costs incurred include architectural design, site and
building engineering, and site planning;
    
    Snowden Center  a 4,500 square-foot new retail building is planned. Development
costs incurred through September 30, 2006 include architectural design, site and
building engineering, and site planning;
    
    Sterling Park Business Center  a 50,000 square-foot flex building is planned. The
Company began development efforts on approximately 8 percent of the total developable
land. Development costs incurred to date include master planning design, site
planning, geotechnical and wetland studies, and access road completion expenditures;
and
    
    1400 Cavalier Boulevard  a 96,000 square-foot warehouse building is planned with
initial development costs incurred during the third quarter of 2006.
  Other Activity
 
    
    The Company completed a public offering of 3,450,000 common shares of beneficial
interest priced at $27.46 per share, which generated net proceeds of $90.1 million;
    
    The Company executed new leases for 33,061 square-feet at 1408 Stephanie Way, 17,019
square-feet at Rumsey Center and 15,246 square-feet at Owings Mills Business Center.
Rent will commence under the terms of these leases during the fourth quarter of 2006 or
the first quarter of 2007;
    
    The Company recognized a $0.2 million stock-based compensation charge associated with
restricted shares that vested in August upon achieving certain total shareholder return
performance measures; and
    
    The Company announced the termination of its contingent lease with Northrop Grumman
Systems Corporation for space in the Companys 2000 Gateway Boulevard property. The
lease was contingent on Northrop Grumman being awarded a specific contract that was
awarded to another contractor.
 Critical Accounting Policies and Estimates
  19




---



##### 



Revenue Recognition
   Investments in Real Estate and Real Estate Entities
   Buildings
    
    39 yearsBuildings improvements
    
    5 to 15 yearsFurniture, fixtures and equipment
    
    5 to 15 yearsTenant improvements
    
    Shorter of the useful lives of the
assets or the terms of the related
leases
    20




---



##### 



Purchase Accounting
  
    
    value of leases based on the leasing origination costs at the date of the acquisition,
which approximates the market value of the lease origination costs had the in-place leases
been originated on the date of acquisition; the value of in-place leases represents
absorption costs for the estimated lease-up period in which vacancy and foregone revenue
are incurred;
    
    the value of above and below market in-place leases based on the present values (using a
discount rate that reflects the risks associated with the leases acquired) of the
difference between the contractual rent amounts including amounts related to the
reimbursement of fixed operating costs and market rents over the remaining non-cancelable
lease terms, ranging from one to eleven years; and
    
    the intangible value of tenant or customer relationships.
  Results of Operations
 Comparison of the Three and Nine Months Ended September 30, 2006 to the Three and Nine Months
Ended September 30, 2005
  2006 Acquisitions
  2005 Acquisitions
   Total Revenues
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Increase
    
    Change
    
    Increase
    
    ChangeRental revenue
    
    $
    22,865
    
    
    $
    16,315
    
    
    $
    64,277
    
    
    $
    45,825
    
    
    $
    6,550
    
    
    
    40
    %
    
    $
    18,452
    
    
    
    40
    %Tenant reimbursements & other
    
    $
    4,264
    
    
    $
    4,095
    
    
    $
    12,450
    
    
    $
    8,464
    
    
    $
    169
    
    
    
    4
    %
    
    $
    3,986
    
    
    
    47
    %
 21




---



##### 



Rental Revenues
   Tenant Reimbursement and Other Revenues
  Total Expenses
 Property Operating Expenses
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Increase
    
    Change
    
    Increase
    
    ChangeProperty operating expenses
    
    $
    5,536
    
    
    $
    3,277
    
    
    $
    14,652
    
    
    $
    9,411
    
    
    $
    2,259
    
    
    
    69
    %
    
    $
    5,241
    
    
    
    56
    %Real estate taxes & insurance
    
    $
    2,257
    
    
    $
    1,610
    
    
    $
    6,578
    
    
    $
    4,462
    
    
    $
    647
    
    
    
    40
    %
    
    $
    2,116
    
    
    
    47
    %




---



##### 



Other Operating Expenses
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Increase
    
    Change
    
    Increase
    
    Change$
    2,436
    
    
    $
    2,054
    
    
    $
    7,500
    
    
    $
    5,691
    
    
    $
    382
    
    
    
    19
    %
    
    $
    1,809
    
    
    
    32
    %
 Share-Based Payment
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Increase
    
    Change
    
    Increase
    
    Change$
    9,174
    
    
    $
    6,577
    
    
    $
    24,993
    
    
    $
    17,411
    
    
    $
    2,597
    
    
    
    39
    %
    
    $
    7,582
    
    
    
    44
    %
  Other Expense
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Increase
    
    Change
    
    Increase
    
    Change$
    7,155
    
    
    $
    5,407
    
    
    $
    20,998
    
    
    $
    14,424
    
    
    $
    1,748
    
    
    
    32
    %
    
    $
    6,574
    
    
    
    46
    %
  23




---



##### 



Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Change
    
    Change
    
    Change
    
    Change$
    175
    
    
    $
    41
    
    
    $
    743
    
    
    $
    78
    
    
    $
    134
    
    
    
    327
    %
    
    $
    665
    
    
    
    853
    %
   Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Change
    
    Change
    
    Change
    
    Change
    
    
    
    
    
    
    $
    671
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    671
    
    
    
    
   Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Change
    
    Change
    
    Change
    
    Change
    
    
    
    
    
    
    $
    121
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    121
    
    
    
    
  24




---



##### 



Minority Interests from Continuing Operations
  Three Months Ended
    
    Nine Months Ended
    
    Three Months
    
    Nine MonthsSeptember 30,
    
    September 30,
    
    
    
    
    
    Percent
    
    
    
    
    
    Percent(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005
    
    Change
    
    Change
    
    Change
    
    Change$
    28
    
    
    $
    95
    
    
    $
    95
    
    
    $
    204
    
    
    $
    (67
    )
    
    
    (71
    %)
    
    $
    (109
    )
    
    
    (53
    %)
  Income from Discontinued Operations
  Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,(amounts in thousands)
    
    2006
    
    2005
    
    2006
    
    2005Income from operations of disposed property
    
    
    
    
    
    
    139
    
    
    
    376
    
    
    
    390Gain on sale of disposed property
    
    
    
    
    
    
    
    
    
    
    7,475
    
    
    
    Minority interests in discontinued operations
    
    
    
    
    
    
    (9
    )
    
    
    (386
    )
    
    
    (28
    )Income from discontinued operations
    
    
    
    
    
    
    130
    
    
    
    7,465
    
    
    
    362
  Liquidity and Capital Resources
     25




---



##### 



Cash Flows
  Nine Months EndedSeptember 30,(amounts in thousands)
    
    2006
    
    2005
    
    ChangeCash provided by operating activities
    
    $
    24,175
    
    
    $
    17,360
    
    
    $
    6,815Cash used in investing activities
    
    $
    (163,492
    )
    
    $
    (83,716
    )
    
    $
    (79,776
    )Cash provided by financing activities
    
    $
    139,162
    
    
    $
    67,765
    
    
    $
    71,397
    Dividends and Distributions
  26




---



##### 



Funds From Operations
     Three Months Ended September 30,
    
    
    Nine Months Ended September 30,(amounts in thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Net income
    
    $
    718
    
    
    $
    1,561
    
    
    $
    9,327
    
    
    $
    3,126Add: Depreciation and
amortization of real
estate assets
    
    
    9,174
    
    
    
    6,577
    
    
    
    24,993
    
    
    
    17,411Add: Discontinued
operations depreciation
and amortization
    
    
    
    
    
    
    36
    
    
    
    3
    
    
    
    107Add: Minority interests
    
    
    28
    
    
    
    104
    
    
    
    481
    
    
    
    232Less: Gain on sale of
disposed property
    
    
    
    
    
    
    
    
    
    
    (7,475
    )
    
    
    FFO available to common
shareholders and
unitholders
    
    $
    9,920
    
    
    $
    8,278
    
    
    $
    27,329
    
    
    $
    20,876Weighted average number
of diluted common shares
and Operating
Partnership units
outstanding
    
    
    24,440
    
    
    
    17,895
    
    
    
    22,634
    
    
    
    17,068
 27




---



##### 



Forward Looking Statements
  28




---



##### 



29




---



##### 



PART II: OTHER INFORMATION
 Item 1. Legal Proceedings
  Item 1A. Risk Factors
  Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
  Item 3. Defaults Upon Senior Securities
  Item 4. Submission of Matters to a Vote of Security Holders
  Item 5. Other Information
  Item 6. Exhibits
 No.
    
    Description3.1
    
    Amended and Restated Declaration of Trust of the Registrant (incorporated by reference to Exhibit
3.1 to the Registrants Registration Statement on Form S-11 (Registration No. 333-107172), as filed
with the SEC on October 1, 2003.3.2
    
    Amended and Restated Bylaws of the Registrant (incorporated by reference to Exhibit 3.2 to the
Registrants Registration Statement on Form S-11 (Registration No. 333-107172), as filed with the
SEC on October 1, 2003.4.1
    
    Amended and Restated Agreement of Limited Partnership of First Potomac Realty Investment, L.P. dated
September 15, 2003 (incorporated by reference to Exhibit 3.3 to the Registrants Registration
Statement on Form S-11 (Registration No. 333-107172), as filed with the SEC on October 1, 2003.4.2
    
    Form of First Potomac Realty Investment Limited Partnership 6.41% Senior Notes, Series A, due 2013
(incorporated by reference to Exhibit 4.1 to the Registrants Current Report on Form 8-K as filed
with the SEC
on June 23, 2006).4.3
    
    Form of First Potomac Realty Investment Limited Partnership 6.55% Senior Notes, Series B, due 2016
(incorporated by reference to Exhibit 4.2 to the Registrants Current Report on Form 8-K as filed
with the SEC
on June 23, 2006).31.1
    
    Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (This exhibit shall not be deemed filed for purposes
of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the
liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of
1934, as amended.)32.2
    
    Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (This exhibit shall not be deemed filed for purposes
of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the
liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of
1934, as amended.)
 30




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##### 



FIRST POTOMAC REALTY TRUSTDate: November 9, 2006
    
    /s/ Douglas J. DonatelliDouglas J. DonatelliPresident and Chief Executive OfficerDate: November 9, 2006
    
    /s/ Barry H. BassBarry H. BassExecutive Vice President and Chief Financial
Officer
 31




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##### 



EXHIBIT INDEX
 No.
    
    Description3.1
    
    Amended and Restated Declaration of Trust of the Registrant (incorporated by reference to Exhibit
3.1 to the Registrants Registration Statement on Form S-11 (Registration No. 333-107172), as filed
with the SEC on October 1, 2003.3.2
    
    Amended and Restated Bylaws of the Registrant (incorporated by reference to Exhibit 3.2 to the
Registrants Registration Statement on Form S-11 (Registration No. 333-107172), as filed with the
SEC on October 1, 2003.4.1
    
    Amended and Restated Agreement of Limited Partnership of First Potomac Realty Investment, L.P. dated
September 15, 2003 (incorporated by reference to Exhibit 3.3 to the Registrants Registration
Statement on Form S-11 (Registration No. 333-107172), as filed with the SEC on October 1, 2003.4.2
    
    Form of First Potomac Realty Investment Limited Partnership 6.41% Senior Notes, Series A, due 2013
(incorporated by reference to Exhibit 4.1 to the Registrants Current Report on Form 8-K as filed
with the SEC
on June 23, 2006).4.3
    
    Form of First Potomac Realty Investment Limited Partnership 6.55% Senior Notes, Series B, due 2016
(incorporated by reference to Exhibit 4.2 to the Registrants Current Report on Form 8-K as filed
with the SEC
on June 23, 2006).31.1
    
    Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities
Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (This exhibit shall not be deemed filed for purposes
of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the
liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of
1934, as amended.)32.2
    
    Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (This exhibit shall not be deemed filed for purposes
of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the
liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of
1934, as amended.)