As filed with the Securities and Exchange Commission on October 23, 1998

    


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

                                   FORM 10-K/A

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

[X]   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
      ACT OF 1934 For the fiscal year ended December 31, 1997
                                            -----------------

[ ]   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
      EXCHANGE ACT OF 1934 For the Transition period from _____________ to
      _______________

Commission File Number 1-8063

                                  Capital Trust
                                  -------------
             (Exact name of registrant as specified in its charter)

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

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

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

Securities registered pursuant to Section 12(b) of the Act:

                                                          Name of Each Exchange
             Title of Each Class                           on Which Registered
             -------------------                           -------------------
Class A Common Shares of Beneficial Interest,            New York Stock Exchange
  $1.00 par value ("Class A Common Shares")              Pacific Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:  None

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

Indicate by check mark if disclosure of delinquent  filers  pursuant to Item 405
of Regulation S-K (ss.229.405 of this chapter) is not contained herein, and will
not be contained,  to the best of registrant's knowledge, in definitive proxy or
information  statements  incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. [ ]


<PAGE>




                                  MARKET VALUE
                                  ------------

Based on the closing sales price of $10.00 per share, the aggregate market value
of the outstanding Class A Common Shares held by non-affiliates of the
registrant as of February 18, 1998 was $111,433,570.

                               OUTSTANDING SHARES
                               ------------------

As of February 18, 1998 there were 18,157,150 outstanding Class A Common Shares.
The Class A Common Shares are listed on the New York and Pacific Stock Exchanges
(trading symbol "CT"). Trading is reported in many newspapers as "CapitalTr".

                       DOCUMENTS INCORPORATED BY REFERENCE
                       -----------------------------------

Part III incorporates information by reference from the Registrant's definitive
Proxy Statement to be filed with the Commission within 120 days after the close
of the Registrant's fiscal year.




<PAGE>


------------------------------------------------------------------------------

                                  CAPITAL TRUST

------------------------------------------------------------------------------

<TABLE>
<CAPTION>

------------------------------------------------------------------------------

PART I                                                                                   PAGE

------------------------------------------------------------------------------

<S>        <C>                                                                           <C>
   
Item 1.    Business                                                                         1
Item 2.    Properties                                                                      12
Item 3.    Legal Proceedings                                                               12
Item 4.    Submission of Matters to a Vote of Security Holders                             12
------------------------------------------------------------------------------

PART II

------------------------------------------------------------------------------

Item 5.    Market for the Registrant's Common Equity and Related Security
                    Holder Matters                                                         13
Item 6.    Selected Financial Data                                                         14
Item 7.    Management's Discussion and Analysis of Financial Condition and
                    Results of Operations                                                  15
Item 8.    Financial Statements and Supplementary Data                                     22
Item 9.    Changes in and Disagreements with Accountants on Accounting
                    and Financial Disclosure                                               23
------------------------------------------------------------------------------
    

Signatures                                                                                 24

Index to Consolidated Financial Statements                                                F-1

</TABLE>



                                      -i-
<PAGE>



EXPLANATORY  NOTE FOR PURPOSES OF THE "SAFE HARBOR PROVISIONS" OF SECTION 21E OF
--------------------------------------------------------------------------------
THE SECURITIES AND EXCHANGE ACT OF 1934, AS AMENDED
---------------------------------------------------

      EXCEPT FOR HISTORICAL  INFORMATION CONTAINED HEREIN, THIS ANNUAL REPORT ON
FORM 10-K CONTAINS FORWARD-LOOKING  STATEMENTS WITHIN THE MEANING OF THE SECTION
21E OF THE  SECURITIES  AND  EXCHANGE  ACT OF 1934,  AS AMENDED,  WHICH  INVOLVE
CERTAIN RISKS AND  UNCERTAINTIES.  FORWARD-LOOKING  STATEMENTS ARE INCLUDED WITH
RESPECT TO, AMONG OTHER THINGS,  THE COMPANY'S  CURRENT BUSINESS PLAN,  BUSINESS
STRATEGY AND PORTFOLIO MANAGEMENT.  THE COMPANY'S ACTUAL RESULTS OR OUTCOMES MAY
DIFFER  MATERIALLY FROM THOSE  ANTICIPATED.  IMPORTANT  FACTORS THAT THE COMPANY
BELIEVES MIGHT CAUSE SUCH DIFFERENCES ARE DISCUSSED IN THE CAUTIONARY STATEMENTS
PRESENTED  UNDER THE CAPTION  "FACTORS  WHICH MAY AFFECT THE COMPANY'S  BUSINESS
STRATEGY" IN ITEM 1 OF THIS FORM 10-K OR OTHERWISE ACCOMPANY THE FORWARD-LOOKING
STATEMENTS CONTAINED IN THIS FORM 10-K. IN ASSESSING FORWARD-LOOKING  STATEMENTS
CONTAINED HEREIN,  READERS ARE URGED TO READ CAREFULLY ALL CAUTIONARY STATEMENTS
CONTAINED IN THIS FORM 10-K.




                                      -ii-

<PAGE>



                                     PART I
------------------------------------------------------------------------------

Item 1.           Business

------------------------------------------------------------------------------

General
-------

      Capital Trust (together with its subsidiaries the "Company") is a recently
recapitalized   specialty   finance  company   designed  to  take  advantage  of
high-yielding lending and investment opportunities in commercial real estate and
related   assets.   The  Company   makes   investments   in  various   types  of
income-producing  commercial  real  estate and its  current  investment  program
emphasizes  senior  and  junior  commercial  mortgage  loans,  preferred  equity
investments,  direct equity investments and subordinated interests in commercial
mortgage-backed   securities  ("CMBS").  The  Company's  current  business  plan
contemplates that a majority of the loans and other assets held in its portfolio
for the  long-term  will be  structured  so that  the  Company's  investment  is
subordinate to third-party  financing but senior to the owner/operator's  equity
position. The Company also provides real estate investment banking, advisory and
asset management  services through its wholly owned  subsidiary,  Victor Capital
Group, L.P. ("Victor Capital"). The Company anticipates that it will invest in a
diverse  array  of real  estate  and  finance-related  assets  and  enterprises,
including operating companies, which satisfy its investment criteria.

      In executing its business  plan,  the Company  utilizes the extensive real
estate industry  contacts and  relationships of Equity Group  Investments,  Inc.
("EGI").  EGI is a privately  held real  estate and  corporate  investment  firm
controlled  by Samuel  Zell,  who serves as chairman of the Board of Trustees of
the Company.  EGI's affiliates include Equity Office Properties Trust and Equity
Residential  Properties  Trust, the largest U.S. real estate  investment  trusts
("REITs")  operating  in  the  office  and  multifamily   residential   sectors,
respectively.  The Company also draws upon the extensive client roster of Victor
Capital for potential investment opportunities.

Developments  with Respect to  Implementation  of the Company's Current Business
--------------------------------------------------------------------------------
Plan During Fiscal Year 1997
----------------------------

      During the past fiscal  year,  the  Company  ceased  operations  as a real
estate  investment trust following full  implementation  of its current business
plan  in  July  1997.  This  action  coincided  with  the  appointment  of a new
management  team  following  the  acquisition  of Victor  Capital  and a private
placement  of $33 million of preferred  equity in the Company to Veqtor  Finance
Company,  LLC ("Veqtor"),  an affiliate of certain members of the new management
team that currently owns  19,227,251 (or  approximately  63%) of the outstanding
voting shares of the Company.

      In connection  with the  implementation  of its current  business plan, in
September 1997, the Company entered into a credit  arrangement with a commercial
lender that  provides for a three-year  $150 million line of credit (the "Credit
Facility").  In  addition,  in December  1997,  the  Company  completed a public
securities  offering (the  "Offering")  by issuing  9,000,000 new class A common
shares of beneficial interest, $1.00 par value ("Class A Common Shares"), in the
Company at $11.00 per share. The Company raised  approximately  $91.4 million in
net proceeds from the Offering.  The Company  believes that the Credit  Facility
and the proceeds of the Offering provide the Company with the capital  necessary
to expand and diversify its portfolio of loans and other  investments and enable
the  Company to compete  for and  consummate  larger  transactions  meeting  the
Company's target risk/return profile.

      Since  initiating full  implementation  of the current  business plan, the
Company has completed twelve loan and investment  transactions.  The Company has
originated or acquired six Mortgage Loans (as defined  herein)  totaling  $169.7
million (one of which was satisfied prior to December 31, 1997),  five Mezzanine
Loans (as defined  herein)  totaling  $75.0  million  and one CMBS  subordinated
interest for $49.6 million.


                                       1
<PAGE>


   
      As of December  31, 1997,  the  Company's  portfolio  of financial  assets
consisted of five Mortgage  Loans,  five  Mezzanine  Loans and three Other Loans
originated prior to the commencement of the new business plan  (collectively the
"Loan   Portfolio")  and  one  CMBS   Subordinated   Interest.   There  were  no
delinquencies  or losses on such assets as of December 31, 1997 and for the year
then  ended.  The table set forth  below  details  the  composition  of the Loan
Portfolio at December 31, 1997.

<TABLE>
<CAPTION>

                   Underlying
                   Property    Number                     Outstanding       Unfunded
Type of Loan          Type     of Loans    Commitment       Balance        Commitment    Maturity   Interest Rate
-------------      ----------  --------    ----------    -------------     ----------    --------   -------------

<S>                <C>            <C>     <C>            <C>             <C>            <C>        <C>   
Senior Mortgage    Office         2        $ 69,977,000   $ 54,642,000    $ 15,335,000   1998 to    Fixed: 11.00%
   Loans                                                                                   2000     Variable: LIBOR +
                                                                                                    3.75%

Subordinate        Office         3          81,300,000     69,707,000      11,561,000   1999 to    Variable: LIBOR +
   Mortgage Loans                                                                          2000      5.00% to LIBOR +
                                                                                                     8.66%

Mezzanine          Office /       5          76,395,000     76,373,000         --        2000 to    Fixed: 11.62% to
   Loans(1)        Assisted                                                                2007       12.00%
                   Living                                                                           Variable: LIBOR +
                                                                                                      5.50%

Other Loans        Retail         3           2,550,000      2,062,000         --        1999 to    Fixed: 8.50% to 9.50%
                                                                                           2017
                                 ---       ------------   ------------    ------------
     Total                                 $230,222,000   $202,784,000    $ 26,896,000
                                           ============   ============    ============

---------------------
</TABLE>

(1)  Includes a $22.0 million mezzanine financing in the form of a customized
     preferred equity interest in a property owning limited liability company.


     Included in the Subordinate  Mortgage Loans described in the table above is
a $45.3 million second mortgage loan (the "1325 Mortgage Loan") to 1325 Limited
Partnership  (the "1325  Borrower").  Proceeds  from the 1325 Mortgage Loan were
used to repay  existing debt secured by the  commercial  office tower located at
1325  Avenue of the  Americas in New York City (the "1325  Property").  The 1325
Mortgage Loan is secured by a second mortgage on the 1325 Property. In addition,
the 1325  Mortgage  Loan is  secured  by  various  other  collateral  owned by a
principal  of the 1325  Borrower as well as a limited  personal  guarantee  of a
principal of the 1325 Borrower.  Collection under the personal guarantee and the
other  collateral  is  limited  to  $10.0  million.  The 1325  Mortgage  Loan is
subordinate  to a first  mortgage  on the 1325  Property of  approximately  $185
million.  The 1325 Mortgage Loan has a term of two years,  which may be extended
by the 1325 Borrower for an additional  year,  upon payment of an extension fee,
and bears  interest at a specified  rate above LIBOR,  which such rate increases
during the extension period. Under certain circumstances,  the 1325 Borrower may
defer a portion of the  interest  accrued on the 1325  Mortgage  Loan during the
initial  two-year term subject to a specified  minimum  rate.  The 1325 Mortgage
Loan is interest  only during the  initial  two-year  term with excess cash flow
after determined reserves going towards  amortization during the extension term.
The 1325 Property, which was completed in 1990, is a 34-story office building in
New York City containing approximately 750,000 square feet. The 1325 Property is
approximately  99%  occupied.  In  assessing  the  1325  Property,  the  Company
considered  several  material  factors,  including,  but not  limited  to  those
described below.

     With  respect to sources  of  revenue,  the  Company  considered:  the 1325
Property's occupancy rate of 99% as compared to the overall sub-market occupancy
rate of  approximately  91%; the 1325  Property's  average annual rental rate of
approximately  $37.60 per occupied square foot as compared to competitive office
rental  rates in the  sub-market  ranging from $38.00 to $46.00 per square foot;
the principal businesses,  occupations, and professions of the tenants operating
at the 1325 Property,  including office tenants such as Warner  Brothers,  which
occupies  approximately  18% of the 1325 Property (with a lease  expiration date
which is no earlier  than 2010, a base rental rate which  compares  favorably to
the marketplace,  and two five-year renewal options); and the stability afforded
by the 1325 Property's long-term  credit-oriented  office tenants,  nine of whom
occupy approximately 65% of the 1325 Property with lease expiration dates beyond
ten  years.  With  respect to  factors  relating  to  expenses,  the  Registrant
considered:  the utility rates at the 1325 Property for electricity,  steam, and
water and sewer;  the taxes at the 1325  Property  which were  comparable to tax
rates for similar  properties;  maintenance and operating expenses which were in
line for similar  properties which are operated and maintained in a professional
manner;  and the relatively recent  construction of the 1325 Property  including
significant expenditures for tenant improvement installations.

                                       2
<PAGE>



     Included in the Senior  Mortgage  Loans  described  in the table above is a
$62.6 million mortgage loan obligation (the "Cortlandt Mortgage Loan") purchased
at a premium of approximately  102%. The Cortlandt Mortgage Loan is secured by a
first  mortgage  on an  approximately  668,000  square  foot  office  and retail
property  located  at 22  Cortlandt  Street  in New York  City  (the  "Cortlandt
Property").  Approximately  $47.3  million  of the  loan  has  been  funded  and
approximately  $15.3 million of the loan  represents  an unfunded  obligation to
fund reserves for interest,  tenant improvements,  and leasing commissions.  The
Cortlandt  Mortgage  Loan,  which matures in January 2001,  bears  interest at a
fixed spread over LIBOR for its term.  Prepayment of the Cortlandt Mortgage Loan
is  permitted  during the entire loan period.  The  Cortlandt  Mortgage  Loan is
subject to a prepayment penalty during the first eighteen months of the loan and
carries no prepayment  premium or penalty for the final  eighteen  months of the
loan.  A  specified  fee is due  from  the  borrower  to the  Company  upon  the
satisfaction  of  the  Cortlandt  Mortgage  Loan.  In  assessing  the  Cortlandt
Property,  the Company considered several material factors,  including,  but not
limited to those described below.

     With respect to sources of revenue,  the Company  considered  the Cortlandt
Property's  occupancy  rate of  82.5%  as  compared  to the  overall  sub-market
occupancy rate of  approximately  91%; the Cortlandt  Property's  average annual
rental rate of approximately  $17 per occupied square foot (including the retail
space) and an average  annual  rental  rate of  approximately  $22 per  occupied
square foot for office space as compared to  competitive  office rental rates in
the  sub-market  ranging  from $22 to $26 per  square  foot,  and the  principal
businesses,  occupations,  and  professions  of  the  tenants  operating  at the
Cortlandt Property, including tenants such as Century 21, a retail tenant, which
occupies  approximately  22% of the Cortlandt  Property (with a lease expiration
beyond 50 years, a base rental rate which is below  comparable base rental rates
in the marketplace,  and no renewal  options),  the State of New York, an office
tenant, which occupies  approximately 13% of the Cortlandt Property (with leases
expiring  between 2000 and 2002, a base rental rate which compares  favorably to
the  marketplace,  and no renewal  options),  and the Municipal Credit Union, an
office tenant, which occupies  approximately 10% of the Cortlandt Property (with
a lease  expiration date which is no earlier than 2014, a base rental rate which
compares  favorably to the  marketplace,  and one five-year  extension  option).
During the next four  years,  three  leases  representing  approximately  48,000
square feet or  approximately  7% of the Cortlandt  Property will mature.  These
leases  represent  approximately  $1.4  million  of gross  revenue  per annum or
approximately  17% of the 1998  estimated  annual gross revenue of the Cortlandt
Property.  With respect to factors relating to expenses, the Company considered:
the utility rates at the Cortlandt Property for electricity, steam and water and
sewer which are comparable to utility rates for similar properties; the taxes at
the  Cortlandt   Property  which  were  comparable  to  tax  rates  for  similar
properties;  maintenance  and operating  expenses which were in line for similar
properties which are operated and maintained in a professional  manner;  and the
recent  expenditures  for  tenant  improvement  installations  at the  Cortlandt
Property.

     The  Company's  portfolio of financial  assets as of December 31, 1997 also
included an entire junior subordinated class of CMBS, known as the Class B Owner
Trust  Certificates,  that provides for both interest and principal  repayments.
The CMBS  investment  consists of a security  with a face value of $49.6 million
purchased at a discount for $49.2 million plus accrued fees.  The investment was
originally  collateralized by twenty short-term commercial notes receivable with
original maturities ranging from two to three years. At the time of acquisition,
the  investment  was  subordinated  to  approximately  $351.3  million of senior
securities.  At December  31,  1997,  the CMBS  investment  (including  interest
receivable) was $49.5 million and had a yield of 8.96%.
    

Real Estate Lending and Investment Market
-----------------------------------------

     The Company  believes  that the  significant  recovery in  commercial  real
estate property values,  coupled with fundamental structural changes in the real
estate capital markets (primarily  related to the growth in CMBS issuance),  has
created   significant   market-driven   opportunities   for  finance   companies
specializing in commercial real estate lending and investing. Such opportunities
are expected to result from the following developments:

     o   Scale and Rollover.  The U.S. commercial mortgage market--a market that
         is comparable in size to the corporate and municipal bond  markets--has
         approximately  $1 trillion in total  mortgage debt  outstanding,  which
         debt is primarily held privately.  In addition, a significant amount of
         commercial  mortgage  loans  held by  U.S.  financial  institutions  is
         scheduled to mature in the near future.


                                       3

<PAGE>


      o  Rapid  Growth  of  Securitization.   With  annual  issuance  volume  of
         approximately   $44  billion,   the  total  amount  of  CMBS  currently
         outstanding  has  grown to over  $170  billion  from  approximately  $6
         billion in 1990. To date, the CMBS market  expansion has been fueled in
         large part by  "conduits"  which  originate  whole loans  primarily for
         resale to financial intermediaries,  which in turn package the loans as
         securities for distribution to public and private investors.

         The Company  believes that as securitized  lenders replace  traditional
         lenders  such as banks  and life  insurance  companies  as the  primary
         source  for  commercial  real  estate  finance,   borrowers  are  often
         constrained by relatively inflexible underwriting standards,  including
         lower  loan-to-value  ratios,  thereby creating  significant demand for
         mezzanine   financing   (typically   between   65%  and  90%  of  total
         capitalization).  In addition,  since many high  quality  loans may not
         immediately qualify for securitization,  due primarily to rating agency
         guidelines,  significant opportunities are created for shorter-maturity
         bridge and transition mortgage financings.

      o  Consolidation.  As the real  estate  market  continues  to evolve,  the
         Company  expects  that  consolidation  will occur and  efficiency  will
         increase.  Over time,  the Company  believes that the market leaders in
         the  real  estate  finance  sector  will be  fully  integrated  finance
         companies capable of originating,  underwriting,  structuring, managing
         and retaining real estate risk.

     The Company  believes that the commercial  real estate capital  markets for
both debt and equity are in the midst of dramatic  structural  change.  Although
the  issuance  volume of CMBS has grown to $44 billion per annum,  the terms and
conditions  of  securitized  debt are  driven  significantly  by  rating  agency
criteria,  resulting  in  restrictive  underwriting  parameters  and  relatively
inflexible transaction structures.  At the same time, existing equity owners are
faced with high levels of maturing debt that will need to be refinanced, and new
buyers are seeking  greater  leverage  than is  available  from  securitized  or
traditional  providers.  As a result, the need for mezzanine  investment capital
has grown significantly.  The Company,  through its current business plan, seeks
to capitalize on this market opportunity.

Business Strategy
-----------------

     The  Company  believes  that it is well  positioned  to  capitalize  on the
resultant  opportunities,  which,  if  carefully  underwritten,  structured  and
monitored, represent attractive investments that pose potentially less risk than
direct equity ownership of real property. Further, the Company believes that the
rapid growth of the CMBS market has given rise to opportunities  for the Company
to selectively  acquire  non-investment  grade tranches of such securities which
the Company  believes  are priced  inefficiently  in terms of their  risk/reward
profile.

     The  Company  seeks to  generate  returns  from a  portfolio  of  leveraged
investments.  The Company currently pursues investment and lending opportunities
designed to capitalize on  inefficiencies  in the real estate capital,  mortgage
and  finance  markets.  The  Company  also earns  revenue  from its real  estate
investment banking, investment and management services.

     The Company's  investment  program  emphasizes,  but is not limited to, the
following general categories of real estate and finance-related assets:

      o  Mortgage Loans. The Company pursues opportunities to originate and fund
         senior and junior mortgage loans ("Mortgage  Loans") to commercial real
         estate owners and property  developers  who require  interim  financing
         until permanent financing can be obtained. The Company's Mortgage Loans
         are  generally  not intended to be permanent in nature,  but rather are
         intended to be of a  relatively  short-term  duration,  with  extension
         options as deemed appropriate,  and typically require a balloon payment
         of  principal  at  maturity.  The Company may also  originate  and fund
         permanent  Mortgage  Loans in which  the  Company  intends  to sell the
         senior tranche, thereby creating a Mezzanine Loan.

      o  Mezzanine Loans. The Company  originates  high-yielding  loans that are
         subordinate to first lien mortgage loans on commercial  real estate and
         are  secured  either  by a second  lien  mortgage  or a  pledge  of the
         ownership interests in the borrowing property owner. Alternatively, the
         Company's  mezzanine  loans  can take the  form of a  preferred  equity
         investment   in  the  borrower   with   substantially   similar   terms
         (collectively,  "Mezzanine Loans").  Generally, the Company's Mezzanine

                                       4
<PAGE>


         Loans have a longer  anticipated  duration than its Mortgage  Loans and
         are not intended to serve as transitional mortgage financing.

      o  Subordinated   Interests.   The  Company   pursues  rated  and  unrated
         investments in public and private subordinated interests ("Subordinated
         Interests") in commercial  collateralized  mortgage obligations ("CMOs"
         or "CMO Bonds") and other CMBS.

      o  Other  Investments.  The  Company  intends to  assemble  an  investment
         portfolio of commercial real estate and finance-related  assets meeting
         the Company's target risk/return profile. The Company is not limited in
         the kinds of commercial real estate and finance-related assets in which
         it  can  invest  and  believes   that  it  is   positioned   to  expand
         opportunistically  its  financing  business.  The  Company  may  pursue
         investments  in, among other  assets,  construction  loans,  distressed
         mortgages,  foreign real estate and finance-related  assets,  operating
         companies, including loan origination and loan servicing companies, and
         fee interests in real property (collectively, "Other Investments").

     The Company seeks to maximize yield through the use of leverage, consistent
with  maintaining an acceptable  level of risk.  Although there may be limits to
the leverage  that can be applied to certain of the Company's  investments,  the
Company does not intend to exceed a debt-to-equity ratio of 5:1. At December 31,
1997, the Company's debt-to-equity ratio was 1.17:1.

     Other than  restrictions  which result from the  Company's  intent to avoid
regulation under the Investment Company Act of 1940, as amended (the "Investment
Company Act"),  the Company is not subject to any restrictions on the particular
percentage  of its  portfolio  invested  in any  of the  above-referenced  asset
classes,  nor is it limited in the kinds of assets in which it can  invest.  The
Company has no predetermined  limitations or targets for  concentration of asset
type or geographic  location.  Instead of adhering to any  prescribed  limits or
targets,  the Company makes  acquisition  decisions through asset and collateral
analysis,  evaluating  investment  risks on a case-by-case  basis. To the extent
that the Company's  assets become  concentrated  in a few states or a particular
region,  the Company's  return on investment  will become more  dependent on the
economy of such states or region.  Until appropriate  investments are made, cash
available for investment may be invested in readily marketable  securities or in
interest-bearing deposit accounts.

Principal Investment Categories
-------------------------------

     The  discussion   below  describes  the  principal   categories  of  assets
emphasized in the Company's current business plan.

     Mortgage Loans. The Company actively pursues opportunities to originate and
fund  Mortgage  Loans to real estate  owners and  property  developers  who need
interim  financing  until  permanent  financing  can be obtained.  The Company's
Mortgage  Loans  generally  are not intended to be  "permanent"  in nature,  but
rather are intended to be of a relatively  short-term  duration,  with extension
options  as deemed  appropriate,  and  generally  require a balloon  payment  at
maturity.  These types of loans are  intended to be  higher-yielding  loans with
higher interest rates and commitment fees.  Property owners or developers in the
market for these types of loans  include,  but are not limited to,  promoters of
pre-formation  REITs desiring to acquire attractive  properties to contribute to
the REIT before the formation process is complete,  traditional  property owners
and  operators  who  desire to  acquire a  property  before  it has  received  a
commitment  for a long-term  mortgage  from a  traditional  commercial  mortgage
lender,  or a property  owner or investor who has an opportunity to purchase its
existing  mortgage  debt or third party  mortgage  debt at a  discount;  in each
instance,  the Company's  loan would be secured by a Mortgage  Loan. The Company
may also originate traditional, long-term mortgage loans and, in doing so, would
compete  with  traditional  commercial  mortgage  lenders.  In  pursuing  such a
strategy,  the Company generally intends to sell or refinance the senior portion
of the mortgage loan, individually or in a pool, and retain a Mezzanine Loan. In
addition,  the  Company  believes  that,  as a result of the recent  increase in
commercial real estate  securitizations,  there are attractive  opportunities to
originate  short-term  bridge loans to owners of mortgaged  properties  that are
temporarily prevented as a result of timing and structural reasons from securing
long-term mortgage financing through securitization.

     Mezzanine  Loans.  The Company seeks to take advantage of  opportunities to
provide mezzanine financing on commercial property that is subject to first lien
mortgage debt.  The Company  believes that there is a growing need for mezzanine
capital (i.e.,  capital  representing  the level between 65% and 90% of 


                                       5
<PAGE>

property value) as a result of current  commercial  mortgage  lending  practices
setting  loan-to-value  targets as low as 65%. The Company's mezzanine financing
takes the form of subordinated loans, commonly known as second mortgages, or, in
the case of loans originated for  securitization,  partnership loans (also known
as pledge loans) or preferred equity  investments.  For example, on a commercial
property subject to a first lien mortgage loan with a principal balance equal to
70% of the  value of the  property,  the  Company  could  lend the  owner of the
property  (typically a partnership) an additional 15% to 20% of the value of the
property.  The Company believes that as a result of (i) the significant  changes
in  the  lending  practices  of  traditional  commercial  real  estate  lenders,
primarily  relating  to more  conservative  loan-to-value  ratios,  and (ii) the
significant  increase in securitized  lending with strict  loan-to-value  ratios
imposed by the rating agencies,  there will continue to be an increasing  demand
for mezzanine capital by property owners.

     Typically in a Mezzanine Loan, as security for its debt to the Company, the
property  owner would pledge to the Company  either the property  subject to the
first lien (giving the Company a second lien  position  typically  subject to an
inter-creditor  agreement) or the limited partnership and/or general partnership
interest in the owner. If the owner's general  partnership  interest is pledged,
then the  Company  would be in a  position  to take  over the  operation  of the
property  in the event of a default  by the  owner.  By  borrowing  against  the
additional value in their  properties,  the property owners obtain an additional
level of  liquidity  to apply to  property  improvements  or  alternative  uses.
Mezzanine Loans generally provide the Company with the right to receive a stated
interest rate on the loan balance plus various  commitment  and/or exit fees. In
certain  instances,  the Company may  negotiate to receive a  percentage  of net
operating income or gross revenues from the property,  payable to the Company on
an ongoing  basis,  and a percentage  of any increase in value of the  property,
payable upon maturity or  refinancing of the loan, or the Company will otherwise
seek terms to allow the Company to charge an interest rate that would provide an
attractive risk-adjusted return. Alternatively, the Mezzanine Loans can take the
form of a non-voting  preferred  equity  investment in a single  purpose  entity
borrower with substantially similar terms.

     In connection  with its mezzanine  lending and  investing  activities,  the
Company may elect to pursue strategic  alliances with lenders such as commercial
banks and Wall Street  conduits who do not have a mezzanine  lending  capability
and are  therefore  perceived to be at a competitive  disadvantage.  The Company
believes that such alliances  could  accelerate  the Company's loan  origination
volume,  assist in performing  underwriting  due diligence and reduce  potential
overhead.

     Subordinated Interests. The Company acquires rated and unrated Subordinated
Interests in commercial  mortgage-backed  securities issued in public or private
transactions.  CMBS  typically are divided into two or more  classes,  sometimes
called "tranches." The senior classes are higher "rated"  securities,  which are
rated from low  investment  grade  ("BBB") to higher  investment  grade ("AA" or
"AAA").  The  junior,  subordinated  classes  typically  include a lower  rated,
non-investment grade "BB" and "B" class, and an unrated,  high yielding,  credit
support  class  (which  generally  is required to absorb the first losses on the
underlying  mortgage loans). The Company currently invests in the non-investment
grade tranches of Subordinated Interests. The Company may pursue the acquisition
of performing and non-performing (i.e., defaulted) Subordinated Interests.  CMBS
generally are issued either as CMOs or  pass-through  certificates  that are not
guaranteed  by an entity having the credit  status of a  governmental  agency or
instrumentality,  although they generally are structured with one or more of the
types of credit  enhancement  arrangements  to reduce  credit risk. In addition,
CMBS may be illiquid.

     The credit  quality of CMBS depends on the credit quality of the underlying
mortgage  loans  forming  the  collateral  for the  securities.  CMBS are backed
generally by a limited number of commercial or  multifamily  mortgage loans with
larger  principal  balances than those of single  family  mortgage  loans.  As a
result,  a loss on a single  mortgage loan underlying a CMBS will have a greater
negative effect on the yield of such CMBS, especially the Subordinated Interests
in such CMBS.

     Before  acquiring  Subordinated  Interests,  the Company  performs  certain
credit underwriting and stress testing to attempt to evaluate future performance
of the mortgage collateral  supporting such CMBS,  including (i) a review of the
underwriting  criteria used in making  mortgage  loans  comprising  the Mortgage
Collateral for the CMBS, (ii) a review of the relative  principal amounts of the
loans,  their  loan-to-value  ratios as well as the mortgage  loans' purpose and
documentation,  (iii) where available, a review of the historical performance of
the  loans  originated  by the  particular  originator  and (iv)  some  level of
re-underwriting the underlying mortgage loans, including, selected site visits.


                                       6
<PAGE>


     Unlike the owner of mortgage loans, the owner of Subordinated  Interests in
CMBS ordinarily does not control the servicing of the underlying mortgage loans.
In this  regard,  the Company  attempts to  negotiate  for the right to cure any
defaults on senior CMBS classes and for the right to acquire such senior classes
in the event of a default or for other  similar  arrangements.  The  Company may
also seek to  acquire  rights to service  defaulted  mortgage  loans,  including
rights to  control  the  oversight  and  management  of the  resolution  of such
mortgage loans by workout or modification of loan provisions,  foreclosure, deed
in lieu of  foreclosure or otherwise,  and to control  decisions with respect to
the preservation of the collateral generally,  including property management and
maintenance  decisions ("Special Servicing Rights") with respect to the mortgage
loans  underlying CMBS in which the Company owns a Subordinated  Interest.  Such
rights to cure defaults and Special  Servicing Rights may give the Company,  for
example,  some control over the timing of  foreclosures  on such mortgage  loans
and, thus, may enable the Company to reduce losses on such mortgage  loans.  The
Company is currently a special  servicer with respect to one of its Subordinated
Interest investments, but is not currently a rated special servicer. The Company
may seek to  become  rated as a special  servicer,  or  acquire a rated  special
servicer.  Until the Company  can act as a rated  special  servicer,  it will be
difficult to obtain Special  Servicing Rights with respect to the mortgage loans
underlying  Subordinated  Interests.  Although  the  Company's  strategy  is  to
purchase  Subordinated  Interests  at a price  designed to return the  Company's
investment  and generate a profit  thereon,  there can be no assurance that such
goal will be met or,  indeed,  that the Company's  investment in a  Subordinated
Interest will be returned in full or at all.

     The  Company  believes  that it will not be, and  intends  to  conduct  its
operations  so as not to become,  regulated as an  investment  company under the
Investment  Company Act. The Investment  Company Act generally  exempts entities
that are "primarily engaged in purchasing or otherwise  acquiring  mortgages and
other liens on and  interests  in real  estate"  ("Qualifying  Interests").  The
Company  intends  to  rely  on  current  interpretations  by  the  staff  of the
Commission  in an effort  to  qualify  for this  exemption.  To comply  with the
foregoing guidance,  the Company, among other things, must maintain at least 55%
of its assets in  Qualifying  Interests  and also may be required to maintain an
additional  25% in  Qualifying  Interests or other real  estate-related  assets.
Generally,  the Mortgage  Loans and certain of the Mezzanine  Loans in which the
Company may invest constitute Qualifying Interests. While Subordinated Interests
generally  do not  constitute  Qualifying  Interests,  the  Company  may seek to
structure  such  investments  in  a  manner  where  the  Company  believes  such
Subordinated  Interests may  constitute  Qualifying  Interests.  The Company may
seek,  where  appropriate,  (i) to obtain  foreclosure  rights or other  similar
arrangements  (including  obtaining  Special  Servicing  Rights  before or after
acquiring or becoming a rated special  servicer)  with respect to the underlying
mortgage loans, although there can be no assurance that it will be able to do so
on acceptable terms or (ii) to acquire Subordinated Interests  collateralized by
whole pools of mortgage  loans.  As a result of  obtaining  such rights or whole
pools of mortgage  loans as  collateral,  the Company  believes that the related
Subordinated  Interests will constitute Qualifying Interests for purposes of the
Investment  Company  Act.  The  Company  does not  intend,  however,  to seek an
exemptive order,  no-action  letter or other form of interpretive  guidance from
the Commission or its staff on this position.  Any decision by the Commission or
its staff  advancing  a  position  with  respect to  whether  such  Subordinated
Interests  constitute  Qualifying Interests that differs from the position taken
by the Company could have a material adverse effect on the Company.

                                       7
<PAGE>

     Other  Investments  The Company may also pursue a variety of  complementary
commercial  real  estate  and  finance-related  businesses  and  investments  in
furtherance of executing its current business plan. Such activities include, but
are not limited to, investments in other classes of mortgage-backed  securities,
financial  asset   securitization   investment  trusts  ("FASITs"),   distressed
investing in non-performing  and  sub-performing  loans and fee owned commercial
real property,  whole loan  acquisition  programs,  foreign real  estate-related
asset investments, note financings, environmentally hazardous lending, operating
company  investing/lending,  construction and  rehabilitation  lending and other
types of financing activity.  Any lending with regard to the foregoing may be on
a secured or an  unsecured  basis and will be subject to risks  similar to those
attendant to  investing  in Mortgage  Loans,  Mezzanine  Loans and  Subordinated
Interests.  The  Company  seeks to  maximize  yield by  managing  credit risk by
employing its credit underwriting procedures, although there can be no assurance
that the Company  will be  successful  in this  regard.  The Company is actively
investigating potential business acquisition opportunities that it believes will
complement the Company's  operations  including firms engaged in commercial loan
origination, loan servicing, mortgage banking, financing activities, real estate
loan and property  acquisitions and real estate investment  banking and advisory
services  similar to or related to the  services  provided  by the  Company.  No
assurance  can be  given  that  any  such  transactions  will be  negotiated  or
completed or that any business  acquired can be efficiently  integrated with the
Company's ongoing operations.

Portfolio Management
--------------------

     The following describes some of the portfolio management practices that the
Company  may  employ  from  time to time to earn  income,  facilitate  portfolio
management   (including  managing  the  effect  of  maturity  or  interest  rate
sensitivity)  and mitigate risk (such as the risk of changes in interest rates).
There can be no assurance  that the Company will not amend or deviate from these
policies or adopt other policies in the future.

     Leverage and Borrowing.  The success of the Company's current business plan
is dependent upon the Company's ability to grow its portfolio of invested assets
through the use of leverage.  The Company intends to leverage its assets through
the use of, among other  things,  bank credit  facilities  including  the Credit
Facility,  secured and unsecured  borrowings,  repurchase  agreements  and other
borrowings,  when there is an  expectation  that such  leverage will benefit the
Company;  such  borrowings  may  have  recourse  to the  Company  in the form of
guarantees or other obligations.  If changes in market conditions cause the cost
of such  financing  to increase  relative to the income that can be derived from
investments made with the proceeds thereof, the Company may reduce the amount of
leverage it utilizes.  Obtaining  the  leverage  required to execute the current
business plan will require the Company to maintain  interest coverage ratios and
other  covenants  meeting  market  underwriting  standards.  In  leveraging  its
portfolio,  the Company plans not to exceed a  debt-to-equity  ratio of 5:1. The
Company  has also  agreed it will not incur any  indebtedness  if the  Company's
debt-to-equity  ratio would exceed 5:1 without the prior written  consent of the
holders of a majority of the outstanding Class A Preferred Shares.

     Leverage creates an opportunity for increased income,  but at the same time
creates  special risks.  For example,  leveraging  magnifies  changes in the net
worth of the  Company.  Although  the amount owed will be fixed,  the  Company's
assets may change in value  during  the time the debt is  outstanding.  Leverage
will create  interest  expense for the Company that can exceed the revenues from
the assets  retained.  To the extent the revenues  derived from assets  acquired
with  borrowed  funds exceed the interest  expense the Company will have to pay,
the  Company's  net income will be greater than if borrowing  had not been used.
Conversely, if the revenues from the assets acquired with borrowed funds are not
sufficient to cover the cost of borrowing, the net income of the Company will be
less than if borrowing had not been used.

     In order to grow and  enhance its return on equity,  the Company  currently
utilizes  two  sources for  liquidity  and  leverage:  the Credit  Facility  and
repurchase agreements.

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

     The  obligations of the Company under the Credit Facility are to be secured
by pledges of the Funded  Portfolio  Assets  acquired  with  advances  under the
Credit Facility. Borrowings under the Credit Facility bear interest at specified
rates over LIBOR,  which rate may fluctuate based upon the credit quality of the


                                       8
<PAGE>


Funded Portfolio Assets. Upon the signing of the credit agreement,  a commitment
fee was due and when  the  total  borrowings  under  the  agreement  exceed  $75
million, an additional fee is due. In addition, each advance requires payment of
a drawdown fee. The Credit Facility  provides for margin calls on asset-specific
borrowings in the event of asset quality  and/or market value  deterioration  as
determined under the credit agreement.  The Credit Facility  contains  customary
representations and warranties,  covenants and conditions and events of default.
The Credit  Facility  also contains a covenant  obligating  the Company to avoid
undergoing an ownership  change that results in Craig M. Hatkoff,  John R. Klopp
or Samuel Zell no longer  retaining their senior offices and  trusteeships  with
the Company and practical control of the Company's business and operations.

     On December 31, 1997, the unused Credit Facility  amounted to $70.1 million
providing the Company with adequate liquidity for its short term needs.

     Repurchase  Agreements.  The  Company  has  entered  into  four  repurchase
agreements  and may enter into other such  agreements  under  which the  Company
would  sell  assets  to a third  party  with the  commitment  that  the  Company
repurchase  such assets from the  purchaser  at a fixed price on an agreed date.
Repurchase  agreements  may be  characterized  as loans to the Company  from the
other party that are secured by the  underlying  assets.  The  repurchase  price
reflects the  purchase  price plus an agreed  market rate of interest,  which is
generally paid on a monthly basis.

Interest Rate Management Techniques
-----------------------------------

     The  Company  has  engaged in and will  continue  to engage in a variety of
interest rate  management  techniques  for the purpose of managing the effective
maturity or interest rate of its assets  and/or  liabilities.  These  techniques
also may be used to attempt to protect  against  declines in the market value of
the Company's  assets  resulting from general  trends in debt markets.  Any such
transaction  is subject  to risks and may limit the  potential  earnings  on the
Company's  investments in real  estate-related  assets.  Such techniques include
interest  rate swaps (the  exchange  of fixed rate  payments  for  floating-rate
payments)  and  interest  rate caps.  The Company uses  interest  rate swaps and
interest rate caps to hedge  mismatches in interest rate  maturities,  to reduce
the Company's  exposure to interest rate fluctuations and to provide more stable
spreads  between  investment  yields and the rates on their  financing  sources.
Amounts  arising  from the  differential  are  recognized  as an  adjustment  to
interest  income  related to the earning  asset.  In June 1998,  The FASB issued
statement  No.  133,   "Accounting   for  Derivative   Instruments  and  Hedging
Activities"  ("SFAS No. 133"),  effective for fiscal years  beginning after June
15, 1999,  although earlier  application is permitted.  The adoption of SFAS No.
133 is not expected to have a material impact on the Company's business strategy
or financial reporting.

Real Estate Investment Banking, Advisory and Asset Management Services
----------------------------------------------------------------------

     The Company  provides real estate  investment  banking,  advisory and asset
management  services  through its Victor  Capital  subsidiary,  which  commenced
operations in 1989. Victor Capital provides such services to an extensive client
roster of real estate investors,  owners,  developers and financial institutions
in connection with mortgage financings,  securitizations,  joint ventures,  debt
and  equity  investments,  mergers  and  acquisitions,   portfolio  evaluations,
restructurings and disposition  programs.  Victor Capital's senior professionals
average 16 years of experience in the real estate financial services industry.

     Real  Estate  Investment  Banking and  Advisory  Services.  Victor  Capital
provides an array of real estate  investment  banking and advisory services to a
variety of clients such as financial institutions, including banks and insurance
companies,  public  and  private  owners of  commercial  real  estate,  creditor
committees and investment funds. In such transactions,  Victor Capital typically
negotiates for a retainer  and/or a monthly fee plus  disbursements;  these fees
are  typically  applied  against  a  success-oriented  fee,  which  is  based on
achieving the client's  goals.  While  dependent upon the size and complexity of
the  transaction,  Victor  Capital's fees for capital  raising  assignments  are
generally  in the  range of 0.5% to 3% of the total  amount  of debt and  equity
raised. For pure real estate advisory assignments, a fee is typically negotiated
in advance and can take the form of a flat fee or a monthly retainer. In certain
instances,  Victor Capital  negotiates for the right to receive a portion of its
compensation in-kind, such as the receipt of stock in a publicly traded company.

     Real Estate Asset  Management  Services.  Victor Capital  provides its real
estate asset management  services  primarily to institutional  investors such as
public and private money management firms. Victor 


                                       9

<PAGE>

Capital's  services may include the  identification  and acquisition of specific
mortgage loans and/or  properties  and the  management and  disposition of these
assets.  As of the date  hereof,  Victor  Capital  had  seven  such  assignments
representing an asset value of  approximately  $1 billion and of approximately 7
million square feet.

Factors which may Affect the Company's Business Strategy
--------------------------------------------------------

     The success of the Company's business strategy depends in part on important
factors,  many  of  which  are  not  within  the  control  of the  Company.  The
availability of desirable loan and investment  opportunities  and the results of
the Company's  operations  will be affected by the amount of available  capital,
the level and volatility of interest rates,  conditions in the financial markets
and general economic conditions. There can be no assurances as to the effects of
unanticipated  changes in any of the foregoing.  The Company's business strategy
also depends on the ability to grow its portfolio of invested assets through the
use of  leverage.  There can be no  assurance  that the Company  will be able to
obtain  and  maintain  targeted  levels  of  leverage  or that  the cost of debt
financing  will  increase  relative  to the  income  generated  from the  assets
acquired  with such  financing  and cause the  Company  to reduce  the amount of
leverage it utilizes. The Company risks the loss of some or all of its assets or
a  financial  loss  if  the  Company  is  required  to  liquidate  assets  at  a
commercially inopportune time.

     The Company confronts the prospect that competition from other providers of
mezzanine  capital may lead to a lowering of the  interest  rates  earned on the
Company's  interest-earning  assets  that may not be offset  by lower  borrowing
costs.  Changes in interest  rates are also  affected  by the rate of  inflation
prevailing  in the economy.  A  significant  reduction  in interest  rates could
increase  prepayment rates and thereby reduce the projected  average life of the
Company's  CMBS  investments.  While the  Company  may  employ  various  hedging
strategies,  there can be no assurance  that the Company  would not be adversely
affected during any period of changing interest rates. In addition,  many of the
Company's assets will be at risk to the  deterioration in or total losses of the
underlying  real  property  securing  the  assets,  which may not be  adequately
covered by insurance  necessary to restore the Company's  economic position with
respect to the affected property.

Competition
-----------

     The  Company is  engaged  in a highly  competitive  business.  The  Company
competes for loan and investment  opportunities  with many new entrants into the
specialty  finance business  emphasized in its current business plan,  including
numerous public and private real estate investment vehicles, including financial
institutions  (such as  mortgage  banks,  pension  funds,  and  REITs) and other
institutional   investors,   as  well  as  individuals.   Many  competitors  are
significantly larger than the Company, have well established operating histories
and may have access to greater  capital and other  resources.  In addition,  the
real estate  services  industry  is highly  competitive  and there are  numerous
well-established   competitors   possessing   substantially  greater  financial,
marketing,  personnel and other  resources than Victor  Capital.  Victor Capital
competes with national, regional and local real estate service firms.

Government Regulation
---------------------

     Capital Trust's activities,  including the financing of its operations, are
subject to a variety of federal and state  regulations  such as those imposed by
the Federal Trade Commission and the Equal Credit  Opportunity Act. In addition,
a majority of states have ceilings on interest rates  chargeable to customers in
financing transactions.

Employees
---------

     As of December 31, 1997,  the Company  employed 23 full-time  professionals
and six other full-time  employees.  None of the Company's employees are covered
by a collective  bargaining  agreement and management considers the relationship
with its employees to be good.


                                       10

<PAGE>


------------------------------------------------------------------------------

Item 2.           Properties

------------------------------------------------------------------------------

     The Company's principal executive and administrative offices are located in
approximately  18,700  square feet of office space  leased at 605 Third  Avenue,
26th Floor, New York, New York 10016 and its telephone number is (212) 655-0220.
The lease for such space expires in April 2000.  The Company  believes that this
office space is suitable for its current operations for the foreseeable future.


------------------------------------------------------------------------------

Item 3.           Legal Proceedings

------------------------------------------------------------------------------

     The Company is not a party to any material litigation or legal proceedings,
or to the best of its knowledge, any threatened litigation or legal proceedings,
which,  in the opinion of management,  individually  or in the aggregate,  would
have a  material  adverse  effect on its  results  of  operations  or  financial
condition.


------------------------------------------------------------------------------

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

------------------------------------------------------------------------------

     There were no matters  submitted to a vote of security  holders  during the
fourth quarter of 1997.



                                       11

<PAGE>



                                     PART II
------------------------------------------------------------------------------

Item 5.    Market for the Registrant's Common Equity and Related
                            Security Holder Matters

------------------------------------------------------------------------------

     Capital  Trust's Shares are listed on the New York Stock  Exchange  ("NYSE)
and the Pacific Stock  Exchange.  The trading symbol for Capital Trust's Class A
Common Shares is "CT". The Trust had approximately 1,577  shareholders-of-record
at February 20, 1998.

     The table  below sets  forth,  for the  calendar  quarters  indicated,  the
reported high and low sale prices of the Company's Class A Common Shares and the
Company's common shares of beneficial interest, $1.00 par value (the "Old Common
Shares"),  which were reclassified as the Class A Common Shares on July 15, 1997
in  connection  with  the  adoption  of  the  Company's   Amended  and  Restated
Declaration of Trust (the "Restated Declaration"), as reported on the NYSE based
on published financial sources.

                                                         High           Low
                                                         ----           ---
    1995
    First Quarter......................................$  17/8.......$  15/8
    Second Quarter........................................17/8..........11/2
    Third Quarter.........................................17/8..........11/2
    Fourth Quarter........................................15/8..........11/8

    1996
    First Quarter.........................................11/2..........11/8
    Second Quarter........................................17/8..........13/8
    Third Quarter.........................................23/4..........15/8
    Fourth Quarter........................................27/8..........17/8

    1997
    First Quarter.........................................67/8..........25/8
    Second Quarter........................................61/8..........41/2
    Third Quarter........................................113/8..........53/4
    Fourth Quarter.......................................151/8........913/16

     The Company paid no  dividends to holders of Class A Common  Shares (or Old
Common Shares) in 1997 and 1996.

     The  Company  does not expect to declare  or pay  dividends  on its Class A
Common  Shares in the  foreseeable  future.  The Company's  current  policy with
respect to  dividends is to reinvest  earnings to the extent that such  earnings
are in excess of the  dividend  requirements  on the Class A  Preferred  Shares.
Pursuant  to  the  certificate  of  designation,  preferences  and  rights  (the
"Certificate of Designation") of the class A 9.5% cumulative preferred shares of
beneficial interest,  $1.00 par value (the "Class A Preferred Shares"),  and the
class B 9.5% cumulative preferred shares of beneficial interest, $1.00 par value
(the "Class B Preferred  Shares and together with the Class A Preferred  Shares,
the Preferred  Shares"),  in the Company unless all accrued  dividends and other
amounts then accrued through the end of the last dividend period and unpaid with
respect to the  Preferred  Shares  have been paid in full,  the  Company may not
declare  or pay or set apart for  payment  any  dividends  on the Class A Common
Shares or Class B Common Shares.  The Certificate of Designation  provides for a
semi-annual  dividend of $0.1278 per share on the Class A Preferred Shares based
on a  dividend  rate of 9.5%,  amounting  to an  aggregate  annual  dividend  of
$3,135,000 based on the 12,267,658  shares of Class A Preferred Shares currently
outstanding. There are no Class B Preferred Shares currently outstanding.



                                       12
<PAGE>



------------------------------------------------------------------------------

Item 6.           Selected Financial Data

------------------------------------------------------------------------------

     Prior to July 1997, the Company operated as a REIT, originating, acquiring,
operating  or  holding   income-producing  real  property  and  mortgage-related
investments. Therefore, the Company's historical financial information as of and
for the years ended December 31, 1996, 1995, 1994, and 1993 does not reflect any
operating results from its specialty  finance or real estate investment  banking
services  operations.  The  following  selected  financial  data relating to the
Company have been derived from the historical financial statements as of and for
the years ended December 31, 1997,  1996,  1995,  1994, and 1993. Other than the
data for the year ended  December 31, 1997,  none of the following  data reflect
the results of the  acquisition of Victor Capital and the issuance of 12,267,658
Class A Preferred  Shares for $33  million,  both of which  occurred on July 15,
1997, or the Offering completed in December 1997. For these reasons, the Company
believes  that the  following  information  is not  indicative  of the Company's
current business.

<TABLE>
<CAPTION>

                                                                Years Ended December 31,
                                            -------------------------------------------------------------
                                               1997         1996        1995        1994         1993
                                            ------------ ----------- ------------------------ -----------
                                                      (in thousands, except for per share data)
STATEMENT OF OPERATIONS DATA:
REVENUES:
<S>                                            <C>          <C>         <C>         <C>          <C>
Interest and investment income.................$6,445       $ 1,136     $1,396      $ 1,675      $  924
Advisory and asset management fees..............1,698          --          --          --           --
Rental income.................................... 307        2,019       2,093       2,593        4,555
Gain (loss) on sale of investments...............(432)       1,069          66        (218)         131
Other............................................ --           --           46         519          --
                                            ------------ ----------- ------------------------ -----------
   Total revenues...............................8,018        4,224       3,601       4,569        5,610
                                            ------------ ----------- ------------------------ -----------
OPERATING EXPENSES:
Interest........................................2,379          547         815       1,044        1,487
General and administrative......................9,463        1,503         933         813          662
Rental property expenses......................... 124          781         688       2,034        2,797
Provision for possible credit losses............. 462        1,743       3,281         119        7,928
Depreciation and amortization....................  92           64         662         595          847
                                            ------------ ----------- ------------------------ -----------
   Total operating expenses....................12,520        4,638       6,379       4,605       13,721
                                            ------------ ----------- ------------------------ -----------
Loss before income tax expense.................(4,502)        (414)     (2,778)        (36)      (8,111)
Income tax expense                                (55)         --          --          --           --
                                            ------------ ----------- ------------------------ -----------
NET LOSS.......................................(4,557)        (414)     (2,778)        (36)      (8,111)
Less: Class A Preferred Share dividend and
   dividend requirement........................(1,471)         --          --          --           --
                                            ------------ ----------- ------------------------ -----------
Net loss allocable to Class A Common Shares...$(6,028)     $ (414)     $(2,778)    $  (36)      $(8,111)
                                            ============ =========== ======================== ===========
PER SHARE INFORMATION:
Net loss per Class A Common Share, basic       $ (0.63)     $ (0.05)    $ (0.30)    $ (0.00)     $ (0.88)
   and diluted..............................============ =========== ======================== ===========
Weighted average Class A Common Shares
   outstanding, basic and diluted...........    9,527        9,157       9,157       9,157        9,165
                                            ============ =========== ======================== ===========
</TABLE>

<TABLE>
<CAPTION>


                                                                As of December 31,
                                            -------------------------------------------------------------
                                               1997         1996        1995        1994         1993
                                            ------------ ----------- ------------------------ -----------
BALANCE SHEET DATA:
<S>                                           <C>          <C>         <C>         <C>          <C>    
Total assets..................................$317,366     $30,036     $33,532     $36,540      $42,194
Total liabilities............................. 174,077       5,565       8,625       8,855       13,583
Shareholders' equity.......................... 143,289      24,471      24,907      27,685       28,611

</TABLE>

     The average net loss per Class A Common  Share  amounts  prior to 1997 have
been  restated as required to comply with  Statement of Financial  Standards No.
128,  "Earnings  per Share"  ("Statement  No. 128").  For further  discussion of
Earnings per Class A Common Share and the impact of Statement  No. 128, see Note
3 to the Company's consolidated financial statements.


                                       13
<PAGE>



------------------------------------------------------------------------------

Item 7.    Management's Discussion and Analysis of Financial Condition and
           Results of Operations

------------------------------------------------------------------------------

Overview
--------

     Prior to July 1997, the Company operated as a REIT, originating, acquiring,
operating  or  holding   income-producing  real  property  and  mortgage-related
investments.  Since the Company's  1997 annual meeting of  shareholders  held on
July 15,  1997 (the  "1997  Annual  Meeting"),  the  Company  has  pursued a new
strategic  direction  with a focus  on  becoming  a  specialty  finance  company
designed primarily to take advantage of high-yielding  mezzanine investments and
other real estate asset and finance  opportunities in commercial real estate. As
contemplated  by its new  business  plan,  the Company no longer  qualifies  for
treatment  as  a  REIT  for  federal  income  tax  purposes.  Consequently,  the
information set forth below with regard to historical  results of operations for
the years  ended  December  31,  1996 and 1995 does not  reflect  any  operating
results  from  the  Company's   specialty  finance  activities  or  real  estate
investment  banking services nor the Company's current loan and other investment
portfolio.  The results for the year ended  December  31, 1997  reflect  partial
implementation of the Company's current business plan as discussed below.

     The discussion  contained  herein gives effect to the  reclassification  on
July 15, 1997 of the Old Common Shares as Class A Common Shares.

Recent Developments Preceding Implementation of the New Business Plan
---------------------------------------------------------------------

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

     The Board of Trustees approved CRIL's purchase of the former parent's Class
A Common  Shares,  the new business  plan and the issuance of a minimum of $30.0
million of a new class of  preferred  shares of the  Company at $2.69 per share,
such  shares to be  convertible  into Class A Common  Shares of the Company on a
one-for-one  basis.  The Board of  Trustees  considered  a number of  factors in
approving  the  foregoing,  including  the  attractiveness  of the  proposed new
business plan, the significant real estate  investment and financing  experience
of the proposed new management team and the significant amount of equity capital
the Company would obtain from the proposed preferred share investment. The Board
also considered the terms of previous  alternative offers to purchase the former
parent's  interest in the Company of which the Board was aware and the fact that
the average  price of the Company's Old Common Shares during the 60 trading days
preceding the Board of Trustees  meeting at which the proposed  preferred equity
investment  was approved was $2.38 per share.  The Company  subsequently  agreed
that,  concurrently  with the  consummation  of the  proposed  preferred  equity
investment,  it would  acquire for $5.0  million  Victor  Capital's  real estate
investment  banking,  advisory and asset  management  businesses,  including the
services of its experienced management team.

     At the  1997  Annual  Meeting,  the  Company's  shareholders  approved  the
investment,   pursuant  to  which  the  Company  would  issue  and  sell  up  to
approximately  $34.0 million of Class A Preferred Shares to Veqtor, an affiliate
of Samuel Zell and the  principals  of Victor  Capital (the  "Investment").  The
Company's  shareholders  also approved the Restated  Declaration,  which,  among
other  things,  reclassified  the  Company's Old Common Shares as Class A Common
Shares and changed the Company's name to "Capital Trust."



                                       14
<PAGE>


     Immediately   following  the  1997  Annual  Meeting,   the  Investment  was
consummated;  12,267,658  Class A  Preferred  Shares  were sold to Veqtor for an
aggregate  purchase price of $33,000,000  pursuant to the terms of the preferred
share purchase agreement,  dated as of June 16, 1997, by and between the Company
and Veqtor.  Concurrently with the foregoing  transaction,  Veqtor purchased the
6,959,593 Class A Common Shares held by CRIL for an aggregate  purchase price of
approximately  $21.3  million.  As a result  of these  transactions,  currently,
Veqtor  beneficially owns 19,227,251 (or  approximately  63%) of the outstanding
voting  shares of the Company.  Veqtor  funded the  approximately  $54.3 million
aggregate  purchase  price for the Class A Common  Shares and Class A  Preferred
Shares  with $5.0  million of capital  contributions  from its members and $50.0
million of borrowings  under the 12% convertible  redeemable  notes (the "Veqtor
Notes")  issued to four  institutional  investors.  The Veqtor  Notes may in the
future be  converted  into  preferred  interests  in Veqtor  that may in turn be
redeemed  for an aggregate  of  9,899,710  voting  shares of the Company held by
Veqtor.

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

Overview of Financial Condition Following Implementation of the New Business
Plan
----------------------------------------------------------------------------

     During 1997, the Company  completed two significant  equity capital raising
share issuance  transactions  and obtained its $150 million Credit Facility that
enabled the Company to grow its assets from $30.0 million to $317.4 million.  On
July 15, 1997, the Company sold  12,267,658  Class A Preferred  Shares to Veqtor
resulting in net proceeds to the Company of approximately  $32.9 million.  As of
September 30, 1997, the Company  obtained the $150 million Credit  Facility.  On
December  16,  1997,  the Company sold  9,000,000  Class A Common  Shares in the
Offering  resulting  in net  proceeds  to the  Company  of  approximately  $91.4
million.  This  significant  infusion  of cash  allowed  the  Company  to  fully
implement its current business plan as a specialty finance company.  The Company
used a combination  of its additional  capital and  borrowings  under the Credit
Facility to make the investments described in the following paragraph.

   
     Since June 30, 1997, the Company has  identified,  negotiated and committed
to fund or acquire  twelve loan and  investment  in  commercial  mortgage-backed
securities  transactions,  including six Mortgage Loans totaling  $169.7 million
(including unfunded commitments of $26.9 million which remain outstanding), five
Mezzanine  Loans  totaling  $75.0  million  and one CMBS  subordinated  interest
investment for $49.6 million.  The Company believes that these  investments will
provide  investment yields within the Company's target range of 400 to 600 basis
points above LIBOR. The Company  maximizes its return on equity by utilizing its
existing cash on hand and then employing leverage on its investments  (employing
a cash  optimization  model).  The Company may make investments with yields that
fall outside of the investment  range set forth above,  but that correspond with
the level of risk  perceived by the Company to be inherent in such  investments.
At  December  31,  1997,  the Company had loans and  investments  in  commercial
mortgage-backed  securities  totaling  in  excess  of $250  million  outstanding
resulting from  transactions  completed since the  implementation of its current
business plan and had existing  commitments for  approximately  $26.9 million of
additional funding under certain of the loans originated in such transactions.
    

     The Company  received  satisfaction on a Mortgage loan for $9.8 million and
sold portions of two Mortgage loans for $10.0 million (net of repurchases) and a
paid a premium of $1.4  million to acquire one Mortgage  loan.  The Company also
paid premiums  totaling $1.4 million to acquire two Mezzanine loans and received
payments of $100,000 on the CMBS subordinated interest investment.

   
     The Company's  assets are subject to various risks that can affect results,
including the level and volatility of prevailing interest rates, adverse changes
in general  economic  conditions and real estate markets,  the  deterioration of
credit  quality of borrowers  and the risks  associated  with the  ownership and
operation  of real estate.  Any  significant  compression  of the spreads of the
interest rates earned on interest-earning assets over the interest rates paid on
interest-bearing  liabilities  could  have  a  material  adverse  effect  on the
Company's  operating results.  Adverse changes in national and regional economic
conditions  can have an  effect on real  estate  values  increasing  the risk of
undercollateralization  to the extent that the fair market  value of  properties
serving as collateral  security for the Company's  assets are reduced.  Numerous
factors,  such as  adverse  changes  in local  market  conditions,  competition,
increases in operating expenses

                                       15

<PAGE>

and  uninsured  losses,  can affect a property  owner's  ability to  maintain or
increase  revenues  to cover  operating  expenses  and the debt  service  on the
property's  financing  and,  consequently,  lead to a  deterioration  in  credit
quality  or a loan  default  and  reduce the value of the  Company's  asset.  In
addition,  the yield to maturity on the Company's CMBS assets are subject to the
default and loss experience on the underlying  mortgage loans, as well as by the
rate and timing of payments of  principal.  If there are realized  losses on the
underlying loans, the Company may not recover the full amount, or possibly,  any
of its initial  investment in the affected  CMBS asset.  To the extent there are
prepayments on the underlying mortgage loans as a result of refinancing at lower
rates, the Company's CMBS assets may be retired substantially earlier than their
stated maturities leading to reinvestment in lower yielding assets. There can be
no assurance that the Company's  assets will not experience any of the foregoing
risks or that, as a result of any such experience, the Company will not suffer a
reduced return on investment or an investment loss.
    

     When  possible,  in connection  with the  acquisition of  investments,  the
Company obtains seller financing in the form of repurchase agreements.  Three of
the  transactions  described in the above paragraph were financed in this manner
for a total of $72.7  million.  These  financings  are  generally  completed  at
discounted terms from those available under the Credit  Facility.  The remaining
transactions  were funded with cash on hand from the proceeds of the sale of the
Company's shares and through  borrowings under the Credit Facility.  At December
31, 1997,  the Company had $79.9  million of  outstanding  borrowings  under the
Credit Facility.

   
     As of December 31, 1997,  the Company's new investment and loan assets have
been hedged so that the assets and the corresponding liabilities were matched at
floating  rates over LIBOR.  The Company has  entered  into  interest  rate swap
agreements  for  notional  amounts  totaling  approximately  $49.9  million with
financial  institution  counterparties  whereby the Company  swapped  fixed rate
instruments,  which averaged  approximately 6.22% at December 31, 1997 and 6.55%
for the year then  ended,  for  floating  rate  instruments  equal to the London
Interbank Offered Rate ("LIBOR") which averaged  approximately 5.94% at December
31, 1997 and 5.72% for the year then  ended.  The  agreements  mature at varying
times from December 1998 to April 2006.

     The Company  purchased an interest rate cap for a notional amount of $18.75
million at a cost of approximately  $71,000.  The interest rate cap provides for
payments  to the  Company  should  LIBOR  exceed  11.25%  during the period from
November 2003 to November 2007.

     The  Company is exposed to credit loss in the event of  non-performance  by
the counterparties (which are banks whose securities are rated investment grade)
to the interest rate swap and cap  agreements,  although it does not  anticipate
such  non-performance.  The counterparties  would bear the interest rate risk of
such transactions as market interest rates increase. If an interest rate swap or
interest rate cap is sold or terminated  and cash is received or paid,  the gain
or loss is deferred and recognized when the hedged asset is sold or matures.

     During the period  from July 15,  1997 to December  31,  1997,  significant
advisory income  collected,  as a result of the Company's  acquisition of Victor
Capital  was  applied as a  reduction  of  accounts  receivable  and thereby not
reflected as revenue.
    

Results of Operations
---------------------

     Total  Revenues.  Total revenues were  $8,450,000 in 1997, an increase from
$3,155,000 in 1996,  which were down from  $3,535,000  in 1995.  The increase in
1997 was due to the implementation of the Company's current business plan in the
second  half of the year.  The  Company  began to collect  interest on loans and
investments  originated  or  acquired  during  this period and began to generate
advisory and management fees from its newly acquired subsidiary, Victor Capital.
The Company also generated  additional  interest  income from bank deposits over
the amount  earned the previous  year due to  significant  cash balances on hand
from the sale of Class A Preferred  Shares in the  Investment and Class A Common
Shares in the  Offering.  These  increases  were  offset by a decrease in rental
income resulting from the disposition of all rental  properties  during 1996 and
1997. The decrease reported in 1996 was primarily  attributable to a decrease in
interest  revenue as a result of the  liquidation  of a portion of the Company's
note portfolio and decreased rental revenues.

     Interest  and  related  income  from  loans  and  other   investments   was
$4,992,000,  up from $470,000 in 1996,  which was down from  $1,148,000 in 1995.
The increase in 1997 was due to the  implementation  of the  Company's  business
plan in the second half of the year when the Company  began to collect  interest
on loans and investments  made during this period.  The decrease in 1996 was the
result  of a lower  amount  of  interest  received  due to the  sale of  certain
mortgage notes.

     Rental revenues at the Company's commercial properties were $307,000,  down
from  $2,019,000 in 1996,  which were down from $2,093,000 in 1995. The decrease
in 1997 from that received in 1996 was due to the sale of the properties  during
1996 and 1997 which were generating the income.  The decrease in rental revenues
reported in 1996 was attributable  primarily to the absence of rent collected at
the two properties  that were sold in the first half of 1996. No rental revenues
were  generated by the Company's  hotel  property in 1996,  which was foreclosed
upon after the Company suspended debt service payments.

     Other  interest  income was  $1,453,000  in 1997, up from $666,000 in 1996,
which was up from  $248,000  in 1995.  The  increase in 1997 was a result of the
Company  generating  additional  interest  income  from  bank  deposits  due  to
significant  cash balances on hand from sale of Class A Preferred  Shares in the
Investment  and Class A Common Shares in the Offering.  The increase in 1996 was
created by an  increase  in  interest  earned on cash  accounts  and  marketable
securities,  the  additional  cash balances  generated  from the sale of several
rental properties and notes receivable.

     Total  Expenses.  Total expenses were  $12,058,000,  up from  $2,895,000 in
1996,  which was down from  $3,098,000 in 1995. In 1997,  total expenses were up
due primarily to a $7,960,000  increase in general and  administrative  expenses
from the  implementation  of the current business plan and the related hiring of
executive officers and employees,  principally from the ranks of Victor Capital,
following  the  acquisition  thereof.  The  reduction  in  expenses  in 1996 was
primarily the result of the downsizing of the Company's portfolio, which reduced
depreciation, interest expense and associated property operating expenses.

     Interest  and  related  expense  from  loans  and  other   investments  was
$2,223,000,  up from $86,000 in 1996,  which was down from $370,000 in 1995. The
increase in 1997 was due to an increase in borrowing under the Company's  Credit
Facility and repurchase agreements to fund new loans and investments made in the
second half of 1997.  The  decrease in 1996 was the result of a lower  amount of
interest  received  due to the  sale of  certain  mortgage  notes  offset  by an
increase in interest earned on cash accounts and marketable securities.

     Other  interest  expense was $156,000 in 1997,  down from $461,000 in 1996,
which was consistent with the $445,000 amount in 1994. The decrease in 1997 from
the amounts in 1996 and 1995 resulted from the elimination of mortgage debt upon
sale of the Totem Square property.

     General  and   administrative   expenses   were   $9,463,000  in  1997,  up
significantly from $1,503,000 in 1996.  General and  administrative  expenses in
1996 were up from the  $933,000  reported in 1995.  The  increase in general and
administrative  costs  in 1997  was due  primarily  to the  addition  of the new
executive  officers  and  employees  hired in 1997 whose  salaries  and benefits
totaled   more  than  $5  million.   The  Company  also   incurred   significant
non-recurring  professional  fees (an  increase of more than $2 million over the
fees incurred in 1996) in conjunction  with the  reconstitution  of the Company,
the  termination  of its  REIT  status  and the  implementation  of its  current
business plan.  While the Company was able to lower a number of office  expenses
in 1996,  a net  increase  in general  and  administrative  costs  occurred  due
primarily to an  accelerated  investigation  of potential  merger or acquisition
transactions plus related due diligence costs.

     The 1997 non-cash depreciation charge was $92,000, an increase from $64,000
in 1996, which charge  decreased in 1996 compared to the depreciation  charge of
$662,000  in  1995.  The  increase  in 1997  came  as a  result  of the  Company
purchasing  additional equipment and leasehold  improvements to its newly leased
office space in New York City.  The decrease in 1996  reflected  the sale of two
properties and the disposition of the hotel property. In addition, the Company's
two remaining  properties  were not  depreciated in 1996 because they were being
held for sale.

     Rental property expenses were relatively  consistent when comparing 1995 to
1996 but decreased significantly, by $657,000, in 1997 when the remaining rental
properties were sold.

     Net  Loss.  The net  loss  for the  Company  in 1997  was  $4,557,000.  The
significant  increase in the loss was a result of the expenses  associated  with
the Company's hiring activity  outpacing its income  generation 


                                       17
<PAGE>

pursuant to the acquisition of Victor Capital and implementation of its business
plan. The net loss for the Company in 1996 was $414,000,  a substantial decrease
over the net loss of $2,778,000 reported in 1995. This improvement was primarily
the result of sales proceeds  received by the Company from property and mortgage
note dispositions offset by valuation losses discussed further below.

     Net Gain or Loss on Sale of Investments. Net Gain or Loss on Foreclosure or
Sale of Investments  was a loss of 432,000 in 1997, a gain of $1,069,000 in 1996
and a gain of $66,000 in 1995. The losses incurred in 1997 were due to the sales
of the two remaining rental properties during the first quarter of 1997.

     The net gain recognized from the sale of a property in the first quarter of
1996 was $299,000.  There was no gain or loss upon the  foreclosure of the motel
property in the first  quarter of 1996 as the net book value of the property was
equal to its debt.

     During  the  second  quarter of 1996,  the  Company  incurred a net loss of
$164,000 from the sale of a storage  facility  property.  Also during the second
quarter of 1996,  the Company sold two of its seven  mortgage  notes.  A gain of
$430,000 was recognized  upon the sale of the Company's  mortgage note which was
collateralized  by a first  deed of trust on an  office/commercial  building  in
Phoenix,  Arizona;  and a gain of $30,000  was  recognized  upon the sale of the
Company's  mortgage note which was collateralized by a second deed of trust on a
commercial  building in Pacheco,  California.  During the third quarter of 1996,
the Company sold two more mortgage notes. A gain of $115,000 was recognized upon
the sale of the Company's mortgage note which was collateralized by a first deed
of trust on an office  building in Scottsdale,  Arizona;  and a gain of $357,000
was  recognized  upon  the  sale  of  the  Company's  mortgage  note  which  was
collateralized  by a second  deed of trust on an  office/industrial  building in
Sunnyvale, California.

     In 1995, the Company  recognized a deferred gain from the partial principal
payment  received on one of its mortgage notes.  During the first five months of
1994, the Company's hotel property  experienced an average  operating loss after
debt service of $107,000 per month. With the execution of a lease with the hotel
management company in 1994, this amount was reduced to approximately  $8,600 per
month,  the  difference  between  the monthly  lease  payment of $20,000 and the
property's  monthly  debt  service   requirement  of  $28,600.   The  lease  was
renegotiated  in June 1995,  reducing the monthly lease payments from $20,000 to
approximately $9,000,  increasing the loss recorded by the Company. In 1994, the
Company  experienced  a gain of  $114,000  on the sale of one  property  and the
recognition of a deferred gain from the partial  principal payment on one of its
mortgage  notes.  This was  offset by a  $344,000  loss from the  release of and
default on two of the Company's mortgage notes held at that time.

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

     For the year ended December 31, 1997, the Company  recorded a provision for
possible credit losses of $462,000. During 1997, the Company had no known assets
which were considered impaired and as such no significant  additional provisions
were necessary.  Management believes that the reserve for possible credit losses
is adequate based on the factors detailed above.

     For the year ended December 31, 1996, the Company  reported a provision for
possible  credit losses of $1,743,000.  By year end, the Company had reduced the
book value of its Sacramento,  California  shopping center to $1,215,000 and the
book value of its Kirkland,  Washington  retail  property to  $7,370,000.  Since
these properties were no longer being held for investment,  but rather for sale,
their book value was reduced to more accurately reflect the then-current  market
value of the assets.  The decline in the shopping  center's value was the result
of the Company's  relatively short lease term on the land underlying the center,
the physical  condition of the property  and changed  market  conditions  in the
Sacramento area. Disposition efforts on behalf of retail property also indicated
the need to reduce this  property's  book value,  as it was no


                                       18
<PAGE>


longer being held for investment  purposes but actively  marketed for sale. Both
properties were sold during the first quarter of 1997.

   
     In 1995,  the provision for possible  credit losses of $3,281,000  resulted
from the  write-down  in value of two  commercial  properties  and five mortgage
notes.  These  credit  losses  were the result of a  diminution  in value of the
collateral  underlying  the  Company's  assets as a result of  adverse  economic
factors,  particularly  overbuilt  real estate markets which caused a decline in
lease renewal rates.
    

     Preferred  Share  Dividend and Dividend  Requirement.  The preferred  share
dividend  and  dividend  requirement  arose in 1997 as a result  of the  Company
issuing  $33  million of Class A Preferred  Shares on July 15,  1997.  Dividends
accrue  on these  shares  at a rate of 9.5% per  annum on a per  share  price of
$2.69.

Liquidity and Capital Resources
-------------------------------

     At December 31, 1997,  the Company had  $49,268,000  in cash.  Liquidity in
1998 will be provided primarily by cash on hand, cash generated from operations,
principal and interest payments  received on investments,  loans and securities,
and additional borrowings under the Credit Facility.  The Company believes these
sources of capital will  adequately  meet future cash  requirements.  Consistent
with its current business plan, the Company expects that during 1998 it will use
a significant  amount of its available  capital  resources to originate and fund
loans  and other  investments.  In  connection  with  such  investment  and loan
transactions,  the Company intends to employ significant  leverage,  up to a 5:1
debt-to-equity ratio, to enhance its return on equity.

     The  Company  experienced  a net  increase in cash of  approximately  $44.6
million for the year ended December 31, 1997, compared to a net decrease in cash
of $80,000 for the year ended December 31, 1996. For the year ended December 31,
1997,  cash provided by operating  activities was $2,901,000,  up  approximately
$2.4 million from cash provided by operations of $449,000 during the same period
in 1996. Cash used in investing  activities during this same period increased by
approximately  $242.7 million to approximately $243.2 million, up from $452,000,
primarily as a result of the loans and other  investments  completed  since June
30, 1997. Cash provided by financing activities  increased  approximately $284.9
million due  primarily to the  proceeds of  repurchase  obligations,  borrowings
under  the  Credit  Facility  and net  proceeds  from  the  issuance  of Class A
Preferred Shares and the Class A Common Shares.

     The Company has two  outstanding  notes  payable  totaling  $4,953,000  and
outstanding  borrowings of $79,864,000  under the Credit Facility in addition to
the outstanding repurchase obligations of $82,173,000.

     The  Company's  Credit  Facility  with a  commercial  lender  provided  for
borrowings  up to $150 million.  The Credit  Facility has a term that expires on
September  30,  2000,  including  extensions,  provided  that the  Company is in
compliance with the covenants and terms of the Credit Facility,  there have been
no material adverse changes in the Company's financial position, and the Company
is not otherwise in material  default of the terms of the Credit  Facility.  The
Credit  Facility  provides  for  advances  to fund  lender-approved  investments
("Funded  Portfolio  Assets") made by the Company pursuant to its business plan.
The Company is currently  negotiating with its commercial lender to the increase
the Credit Facility by $100 million thereby increasing liquidity.

     The  obligations of the Company under the Credit Facility are to be secured
by pledges of the Funded  Portfolio  Assets  acquired  with  advances  under the
Credit Facility. Borrowings under the Credit Facility bear interest at specified
rates over LIBOR, averaging  approximately 8.2% for those borrowings outstanding
as of December 31, 1997,  which rate may fluctuate based upon the credit quality
of the Funded Portfolio  Assets.  The Company incurred a commitment fee upon the
signing of the credit agreement and is obligated to pay an additional commitment
fee when total  borrowings  under the Credit  Facility  exceed $75  million.  In
addition, each advance requires payment of a drawdown fee. Future repayments and
redrawdowns of amounts  previously  subject to the drawdown fee will not require
the Company to pay any additional fees. The Credit Facility  provides for margin
calls on or collateral enhancement of asset-specific  borrowings in the event of
asset quality and/or market value  deterioration  as determined under the Credit
Facility. The Credit Facility contains customary representations and warranties,
covenants  and  conditions  and  events of  default.  The Credit  Facility  also
contains a covenant  obligating  the Company to avoid  undergoing  an  ownership
change that results in Craig M. Hatkoff,  John R. Klopp or Samuel Zell no longer
retaining  their senior  offices with the Company and  practical  control of the
Company's business and operations.



                                       19
<PAGE>


     On December 31, 1997, the unused Credit Facility amounted to $70.1 million.

Impact of Inflation
-------------------

     The Company's  operating  results depend in part on the difference  between
the  interest  income  earned on its  interest-earning  assets and the  interest
expense incurred in connection with its interest-bearing liabilities. Changes in
the general  level of interest  rates  prevailing  in the economy in response to
changes in the rate of inflation or otherwise can affect the Company's income by
affecting  the  spread  between  the  Company's   interest-earning   assets  and
interest-bearing  liabilities,  as well as, among other things, the value of the
Company's interest-earning assets and its ability to realize gains from the sale
of  assets  and the  average  life  of the  Company's  interest-earning  assets.
Interest  rates are highly  sensitive to many  factors,  including  governmental
monetary and tax  policies,  domestic and  international  economic and political
considerations, and other factors beyond the control of the Company. The Company
employs  the use of  hedging  strategies  to limit the  effects  of  changes  in
interest rates on its operations,  including engaging in interest rate swaps and
interest rate caps to minimize its exposure to changes in interest rates.  There
can be no assurance that the Company will be able to adequately  protect against
the  foregoing  risks or that the Company  will  ultimately  realize an economic
benefit from any hedging contract into which it enters.

Year 2000 Information
---------------------

     The Company has assessed  the  potential  impact of the Year 2000  computer
systems  issue in its  operations.  The  Company  believes  that no  significant
actions  are  required  to be taken by the  Company  to  address  the  issue and
therefore  the impact of the issue  will not  materially  affect  the  Company's
future operating results or financial condition.

                                       20

<PAGE>



------------------------------------------------------------------------------

Item 8.           Financial Statements and Supplementary Data

------------------------------------------------------------------------------

   
     The  financial  statements  required  by this item and the  reports  of the
independent accountants thereon required by Item 14(a)(2) appear on pages F-2 to
F-1. See accompanying  Index to the Consolidated  Financial  Statements on page
F-1. The  supplementary  financial  data required by Item 302 of Regulation  S-K
appears in Note 19 to the consolidated financial statements.
    


                                       21

<PAGE>



 ------------------------------------------------------------------------------

Item 9.           Changes in and Disagreements with Accountants on Accounting
                  and Financial Disclosure

------------------------------------------------------------------------------

     On April 14, 1997,  the Board of Trustees  adopted a resolution  (i) not to
retain Coopers & Lybrand L.L.P. ("C&L") as the Company's auditors for the fiscal
year ending  December 31, 1997 and (ii) to engage Ernst and Young LLP ("E&Y") as
the Company's independent auditors for the fiscal year ending December 31, 1997.

     The reports of C&L on the Company's consolidated financial statements as of
and for the two  years  ended  December  31,  1996 and 1995 did not  contain  an
adverse  opinion or a disclaimer  opinion nor were they qualified or modified as
to uncertainty, audit scope or accounting principles.

   
     During the  Company's  fiscal  years ended  December  31, 1996 and 1995 and
through  the  date of  their  replacement  on  April  14,  1997,  there  were no
disagreements  with C&L on any matter of  accounting  principals  or  practices,
financial  statement   disclosure,   or  auditing  scope  or  procedure,   which
disagreements,  if not resolved to the  satisfaction  of C&L,  would have caused
them to make  reference  thereto in their  report(s) on the Company's  financial
statements  for such  fiscal  year(s),  nor were there any  "reportable  events"
within the meaning of item  304(a)(1)(v) of regulation S-K promulgated under the
Securities Exchange Act of 1934, as amended (the "Exchange Act").
    


                                       22

<PAGE>



                                   SIGNATURES
                                   ----------

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

   
October 22, 1998                       /s/ John R. Klopp
----------------                       -----------------
Date                                   John R. Klopp   
                                       Vice Chairman and Chief Executive Officer
    




                                       23

<PAGE>



                   Index to Consolidated Financial Statements




<TABLE>

<S>                                                                                               <C>
Reports of Independent Auditors...................................................................F-2


Audited Financial Statements

Consolidated Balance Sheets as of December 31, 1997 and 1996......................................F-4

Consolidated Statements of Operations for the years ended December 31, 1997, 1996 and 1995........F-5

Consolidated Statements of Shareholders' Equity for the years
ended December 31, 1997, 1996 and 1995............................................................F-6

Consolidated Statements of Cash Flows for the years ended
December 31, 1997, 1996 and 1995..................................................................F-7

Notes to Consolidated Financial Statements........................................................F-8

</TABLE>

                                      F-1

<PAGE>







                         Report of Independent Auditors




The Board of Trustees
Capital Trust and Subsidiaries

We have audited the consolidated balance sheet of Capital Trust and Subsidiaries
(the "Company") as of December 31, 1997 and the related  consolidated  statement
of  operations,  shareholders'  equity and cash  flows for the year then  ended.
These consolidated  financial statements are the responsibility of the Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statements based on our audit.

We conducted our audit in accordance with generally accepted auditing standards.
Those standards  require that we plan and perform the audit to obtain reasonable
assurance   about  whether  the  financial   statements  are  free  of  material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.

In our opinion,  based on our audit, the financial  statements referred to above
present fairly, in all material respects, the consolidated financial position of
the  Company  at  December  31,  1997,  and the  consolidated  results  of their
operations  and their  cash  flows for the year then  ended in  conformity  with
generally accepted accounting principles.



                                                Ernst & Young LLP



New York, New York
January 23, 1998



                                      F-2
<PAGE>






   
                         Report of Independent Auditors




The Board of Trustees of Capital Trust
(f/k/a California Real Estate Investment Trust):

     We have  audited the  accompanying  consolidated  balance  sheet of Capital
Trust  (f/k/a  California  Real Estate  Investment  Trust and  Subsidiary)  (the
"Trust") as of December 31, 1996,  and the related  consolidated  statements  of
operations,  cash flows, and changes in shareholders' equity for each of the two
years in the period ended  December 31, 1996.  These  financial  statements  and
financial  statement schedules are the responsibility of the Trust's management.
Our responsibility is to express an opinion on these financial  statements based
on our audits.

     We conducted  our audits in accordance  with  generally  accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

     In our opinion,  the financial statements referred to above present fairly,
in all material respects,  the consolidated  financial position of Capital Trust
(f/k/a  California Real Estate  Investment  Trust and Subsidiary) as of December
31, 1996, and the consolidated  results of their operations and their cash flows
for each of the two years in the period ended  December 31, 1996,  in conformity
with generally accepted accounting principles.


                                                   Coopers & Lybrand L.L.P.

San Francisco, California
February 14, 1997
    


















                                      F-3
<PAGE>



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

<TABLE>

   
                                                                                         1997                  1996
                                                                                   ------------------    ------------------
                                     Assets
<S>                                                                                  <C>                   <C>           
Cash and cash equivalents                                                            $       49,268        $        4,698
Available-for-sale securities                                                                11,975                14,115
Commercial mortgage-backed securities                                                        49,490                 -
Loans receivable, net of $462 and $0 reserve for possible credit losses
   in 1997 and 1996, respectively                                                           202,322                 1,576
Rental properties                                                                              -                    8,585
Excess of purchase price over net tangible assets acquired, net                                 331                 -
Deposits and other receivables                                                                  284                   707
Accrued interest receivable                                                                     818                 -
Prepaid and other assets                                                                      2,878                   355
                                                                                   ------------------    ------------------
Total assets                                                                           $    317,366          $     30,036
                                                                                   ==================    ==================

                      Liabilities and Shareholders' Equity

Liabilities:
   Accounts payable and accrued expenses                                             $        5,718        $          396
   Notes payable                                                                              4,953                 5,169
   Credit facility                                                                           79,864                 -
   Repurchase obligations                                                                    82,173                 -
   Deferred origination fees and other revenue                                                1,369                 -
                                                                                   ------------------    ------------------
Total liabilities                                                                           174,077                 5,565
                                                                                   ------------------    ------------------

Commitments and contingencies

Shareholders' equity:
   Class A Convertible Preferred Shares, $1.00 par value; $0.26 cumulative
     annual dividend; 12,639 shares authorized, 12,268 shares issued and
     outstanding at December 31, 1997 and no shares issued and outstanding
     at December 31, 1996; (liquidation preference of $33,000)                                  12,268                 -
   Class A Common Shares, $1.00 par value; unlimited shares authorized, 18,157
     shares issued and outstanding at December 31, 1997 and 9,157 shares issued
     and outstanding at December 31, 1996                                                    18,157                 9,157
   Additional paid-in capital                                                               158,137                55,098
   Unrealized gain (loss) on available-for-sale securities                                      387                   (22)
   Accumulated deficit                                                                      (45,660)              (39,762)
                                                                                   ------------------    ------------------
Total Shareholders' equity                                                                  143,289                24,471
                                                                                   ------------------    ------------------

Total liabilities and Shareholders' equity                                             $    317,366          $     30,036
                                                                                   ==================    ==================

See accompanying notes to consolidated financial statements.


</TABLE>
                                      F-4



<PAGE>



                         Capital Trust and Subsidiaries
                      Consolidated Statements of Operations
              For the Years Ended December 31, 1997, 1996 and 1995
                      (in thousands, except per share data)

<TABLE>

                                                                        1997                 1996                 1995
                                                                   ----------------    -----------------    -----------------
<S>                                                                <C>                 <C>                  <C>    
Income from loans and other investments:
   Interest and related income                                       $       4,992       $         470        $       1,148
   Less:  Interest and related expenses                                      2,223                  86                  370
                                                                   ----------------    -----------------    -----------------
     Net income from loans and other investments                             2,769                 384                  778
                                                                   ----------------    -----------------    -----------------

Other revenues:
   Advisory and asset management fees                                        1,698                -                    -
   Rental income                                                               307               2,019                2,139
   Other interest income                                                     1,453                 666                  248
   (Loss) gain on sale of rental properties and investments                   (432)              1,069                   66
                                                                   ----------------    -----------------    -----------------
     Total other revenues                                                    3,026               3,754                2,453
                                                                   ----------------    -----------------    -----------------

 Other expenses:
   General and administrative                                                9,463               1,503                  933
   Other interest expense                                                      156                 461                  445
   Rental property expenses                                                    124                 781                  688
   Depreciation and amortization                                                92                  64                  662
   Provision for possible credit losses                                        462               1,743                3,281
                                                                   ----------------    -----------------    -----------------
     Total other expenses                                                   10,297               4,552                6,009
                                                                   ----------------    -----------------    -----------------
   Loss before income taxes                                                                       (414)              (2,778)
                                                                            (4,502)
Provision for income taxes                                                      55                -                    -
                                                                   ----------------    -----------------    -----------------
   Net loss                                                                 (4,557)               (414)              (2,778)
                                                                                                     
Less:  Class A Preferred Share dividend                                     (1,341)               -                    -
          Class A Preferred Share dividend requirement                        (130)               -                    -
                                                                   ----------------    -----------------    -----------------
   Net loss allocable to Class A Common Shares                     $        (6,028)    $          (414)     $        (2,778)
                                                                   ================    =================    =================

Per share information:
   Net loss per Class A Common Share
     Basic and Diluted                                             $         (0.63)    $         (0.05)     $         (0.30)
                                                                   ================    =================    =================
   Weighted average Class A Common Shares outstanding
     Basic and Diluted                                                   9,527,013           9,157,150            9,157,150
                                                                   ================    =================    =================

See accompanying notes to consolidated financial statements.


</TABLE>


                                      F-5
<PAGE>



                         Capital Trust and Subsidiaries
                 Consolidated Statements of Shareholders' Equity
              For the Years Ended December 31, 1997, 1996 and 1995
                                 (in thousands)


<TABLE>
<CAPTION>

                                          Class A                Class A
                                     Preferred Shares        Common Shares      Additional
                              ------------------------------------------------   Paid-In     Unrealized   Accumulated
                                   Number       Amount    Number       Amount    Capital        Gain        Deficit       Total
                              -----------------------------------------------------------------------------------------------------
<S>                             <C>            <C>         <C>        <C>          <C>          <C>          <C>          <C>
Balance at January 1, 1995         -           $     -      9,157     $    9,157   $   55,098   $    -       $ (36,570)   $ 27,685

Net Loss                           -                 -       -               -           -           -          (2,778)     (2,778)
                               ----------------------------------------------------------------------------------------------------
Balance at December 31, 1995       -                 -      9,157          9,157       55,098        -         (39,348)     24,907
Change in unrealized gain on   
  available-for-sale securities    -                 -       -               -           -          (22)          -            (22)

Net Loss                           -                 -       -               -           -           -            (414)       (414)
                               ----------------------------------------------------------------------------------------------------
Balance at December 31, 1996       -                 -      9,157          9,157       55,098       (22)       (39,762)     24,471

Change in unrealized gain on   
  available-for-sale securities    -                 -       -               -            -         409           -            409

Issuance of preferred shares     12,268            12,268    -               -         20,602        -            -         32,870
  
Issuance of common shares          -                  -     9,000          9,000       82,437        -            -         91,437
  
Class A Preferred Share dividend   -                  -      -               -            -          -         (1,341)      (1,341)

Net loss                           -                  -      -               -            -          -         (4,557)      (4,557)
                               ----------------------------------------------------------------------------------------------------

Balance at December 31, 1997     12,268        $   12,268  18,157     $    18,157  $   158,137  $   387     $ (45,660)   $ 143,289

                               ====================================================================================================

</TABLE>

See accompanying notes to consolidated financial statements.


                                      F-6

<PAGE>



                         Capital Trust and Subsidiaries
                      Consolidated Statements of Cash Flows
              For the Years Ended December 31, 1997, 1996 and 1995
                                 (in thousands)
                                 1997 1996 1995

<TABLE>
<CAPTION>

                                                                    ----------------    -----------------    -----------------
Cash flows from operating activities:
<S>                                                                  <C>                 <C>                   <C>          
  Net loss                                                           $      (4,557)      $        (414)        $     (2,778)
  Adjustments to reconcile net loss to net cash provided by
     operating activities:
       Depreciation and amortization                                            92                  64                  662
       Loss (gain) on sale of rental properties and investments                432              (1,069)                 (66)
       Provision for credit losses                                             462               1,743                3,281
   Changes in assets and liabilities net of effects from 
      subsidiaries purchased:
       Deposits and other receivables                                        2,707                 (38)                 294
       Accrued interest receivable                                            (818)              -                    -
       Prepaid and other assets                                             (2,988)                (61)                (282)
       Deferred  revenue                                                     1,369               -                    -
       Accounts payable and accrued expenses                                 5,857                 226                  166
       Other liabilities                                                       (64)                 (2)                  11
                                                                    ----------------    -----------------    -----------------
   Net cash provided by operating activities                                 2,492                 449                1,288
                                                                    ----------------    -----------------    -----------------

Cash flows from investing activities:
       Purchase of commercial mortgage-backed security                     (49,524)              -                    -
       Principal collections on commercial mortgage-backed
       security                                                                 34               -                    -
       Origination and purchase of loans receivable                       (211,709)              -                    -
       Principal collections on loans receivable                             9,935                  35                  850
       Purchases of equipment and leasehold improvements                      (479)              -                    -
       Proceeds from sale of rental properties                               8,153              13,796                -
       Improvements to rental properties                                     -                    (146)                (321)
       Purchases of available-for-sale securities                            -                 (15,849)               -
       Principal collections on available-for-sale securities                4,947               1,712                -
       Acquisition of Victor Capital Group, L.P., net of cash
       acquired                                                             (4,066)              -                    -
                                                                    ----------------    -----------------    -----------------
   Net cash (used in) provided by investing activities                    (242,709)               (452)                 529
                                                                    ----------------    -----------------    -----------------

Cash flows from financing activities:
       Proceeds from repurchase obligations                                109,458               -                    -
       Termination of repurchase obligations                               (27,285)              -                    -
       Proceeds from credit facility                                        81,864               -                    -
       Repayment of credit facility                                         (2,000)              -                    -
       Proceeds from notes payable                                           4,001               -                    -
       Repayment of notes payable                                           (4,217)                (77)                (405)
       Dividends paid on  preferred shares                                  (1,341)              -                    -
       Net proceeds from issuance of Class A Common Shares                  91,437               -                    -
       Net proceeds from issuance of Class A Preferred Shares               32,870               -                    -
                                                                    ----------------    -----------------    -----------------
   Net cash provided by (used in) financing activities                     284,787                 (77)                (405)
                                                                    ----------------    -----------------    -----------------

Net increase (decrease) in cash and cash equivalents                        44,570                 (80)               1,412
Cash and cash equivalents at beginning of year                               4,698               4,778                3,366
                                                                    ----------------    -----------------    -----------------
Cash and cash equivalents at end of year                              $     49,268        $      4,698         $      4,778
                                                                    ================    =================    =================
See accompanying notes to consolidated financial statements.
</TABLE>

                                      F-7
    
<PAGE>


                         Capital Trust and Subsidiaries
                   Notes to Consolidated Financial Statements


1.  Organization

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

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

   
On July 15, 1997, the proposed  preferred  share  investment was consummated and
12,267,658  class A 9.5% cumulative  convertible  preferred shares of beneficial
interest, $1.00 par value ("Class A Preferred Shares"), in the Company were sold
to Veqtor Finance Company,  LLC ("Veqtor"),  an affiliate of Samuel Zell and the
principals of Victor  Capital for an aggregate  purchase price of $33.0 million.
See Note 13. Concurrently with the foregoing transaction,  Veqtor purchased from
CRIL the 6,959,593  Common Shares held by it for an aggregate  purchase price of
approximately  $21.3  million  (which shares were  reclassified  on that date as
class A common shares of beneficial  interest,  $1.00 par value ("Class A Common
Shares"),  in the  Company  pursuant  to the terms of an  amended  and  restated
declaration  of trust,  dated July 15, 1997,  adopted on that date (the "Amended
and Restated Declaration of Trust")).

    

As a result of these  transactions,  a change of control of the Company occurred
with  Veqtor  beneficially  owning  19,227,251,  or  approximately  90%  of  the
outstanding  voting shares of the Company.  Pursuant to the Amended and Restated
Declaration of Trust,  the Company's name was changed to "Capital  Trust".  As a
result of the aforementioned  events, the Company,  as intended,  commenced full
implementation  of the new business plan and thereby  terminated its status as a
REIT.

                                       F-8
<PAGE>

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


2.  Acquisition of Victor Capital

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

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

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

   
During the period from July 15, 1997 to December 31, 1997,  significant advisory
income collected as a result of the Company's  acquisition of Victor Capital was
applied as a reduction of current accounts  receivable and thereby not reflected
as revenue.
    

Had the acquisition  occurred on January 1, 1997, pro forma  revenues,  net loss
(after  giving  effect to the Class A  Preferred  Share  dividend  and  dividend
requirement)  and net loss per common share (basic and diluted) would have been:
$11,271,000, $5,347,000 and $0.56, respectively.

3.  Summary of Significant Accounting Policies

Principles of Consolidation

For the years ended  December 31, 1996 and 1995,  the Company  owned  commercial
rental  property in  Sacramento,  California  through a 59% limited  partnership
interest in Totem Square L.P., a Washington limited partnership  ("Totem"),  and
an indirect 1% general  partnership  interest in Totem through its  wholly-owned
subsidiary Cal-REIT Totem Square, Inc. An unrelated party held the remaining 40%
interest. This property was sold during the year ended December 31, 1997 and the
Totem  Square L.P. and Totem  Square,  Inc.  subsidiaries  were  liquidated  and
dissolved.

The consolidated financial statements of the Company include the accounts of the
Company,  Victor  Capital and its  wholly-owned  subsidiaries  (included  in the
consolidated  statement of operations since their  acquisition on July 15, 1997)
and the results from the disposition of its rental property held by Totem, which
was sold on March 4, 1997 prior to  commencement  of the  Company's new business
plan. See Note 1. All significant  intercompany  balances and transactions  have
been eliminated in consolidation.

Revenue Recognition

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

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

                                      F-9
<PAGE>

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


3.  Summary of Significant Accounting Policies, continued

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

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

Reserve for Possible Credit Losses

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

Cash and Cash Equivalents

The Company  classifies  highly liquid  investments with original  maturities of
three months or less from the date of purchase as cash equivalents.  At December
31, 1997,  cash  equivalents  of  approximately  $48.5  million  consisted of an
investment  in a money market fund that invests in Treasury  bills.  At December
31, 1996, the Company's cash was held in demand  deposits with banks with strong
credit  ratings.  Bank balances in excess of federally  insured  amounts totaled
approximately  $1.5  million and $4.3  million as of December 31, 1997 and 1996,
respectively.  The Company has not  experienced any losses on demand deposits or
money market investments.

Available-for-Sale Securities

Available-for-sale  securities are reported on the consolidated balance sheet at
fair  market  value  with  any  corresponding  change  in value  reported  as an
unrealized  gain or loss  (if  assessed  to be  temporary),  as a  component  of
shareholders' equity, after giving effect to taxes. See Note 5.

Commercial Mortgage-Backed Securities

The Company has the intent and ability to hold its  subordinated  investment  in
CMBS until maturity. See Note 7. Consequently,  this investment is classified as
held to maturity and is carried at amortized cost at December 31, 1997.

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

                                      F-10
<PAGE>

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


3.  Summary of Significant Accounting Policies, continued

Derivative Financial Instruments

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

The Company also uses interest rate caps to reduce its exposure to interest rate
changes on  investments.  The Company will receive  payments on an interest rate
cap should the variable rate for which the cap was purchased exceeds a specified
threshold  level and will be recorded as an  adjustment  to the interest  income
related to the related earning asset.

Each derivative used as a hedge is matched with an asset or liability with which
it has a high  correlation.  The swap  agreements are generally held to maturity
and the  Company  does not use  derivative  financial  instruments  for  trading
purposes.

Rental Properties

Prior to December  31, 1996,  rental  properties  were  carried at cost,  net of
accumulated  depreciation and a valuation  allowance for possible credit losses.
At December 31, 1996 all rental  properties were classified as held for sale and
valued at net estimated sales prices.

Equipment and Leasehold Improvements, Net

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

Expenditures  for maintenance and repairs are charged directly to expense at the
time incurred.  Expenditures  determined to represent  additions and betterments
are  capitalized.  Cost of assets  sold or retired  and the  related  amounts of
accumulated depreciation are eliminated from the accounts in the year of sale or
retirement.  Any  resulting  profit  or loss is  reflected  in the  consolidated
statements of operations.

Sales of Real Estate

The Company  complies with the  provisions of Statement of Financial  Accounting
Standards  No.  66,  "Accounting  for Sales of Real  Estate."  Accordingly,  the
recognition of gains are deferred until such transactions have complied with the
criteria  for full  profit  recognition  under the  Statement.  The  Company has
deferred gains of $239,000 at December 31, 1997 and 1996.

Deferred Debt Issuance Costs

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


                                      F-11
<PAGE>

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


3.  Summary of Significant Accounting Policies, continued

Income Taxes

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

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

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

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

Use of Estimates

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


                                      F-12
<PAGE>

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


3.  Summary of Significant Accounting Policies, continued

Earnings Per Class A Common Share

Earnings  per Class A Common  Share is presented  based on the  requirements  of
Statement of  Accounting  Standards  No. 128 ("SFAS No. 128") which is effective
for periods ending after December 15, 1997. SFAS No. 128 simplifies the standard
for computing  earnings per share and makes them comparable  with  international
earnings per share standards.  The statement replaces primary earnings per share
with basic earnings per share ("Basic EPS") and fully diluted earnings per share
with Diluted Earnings per Share ("Diluted EPS").  Basic EPS is computed based on
the income applicable to Class A Common Shares (which is net loss reduced by the
dividends on Class A Preferred Shares) divided by the weighted-average number of
Class A Common Shares outstanding during the period. Diluted EPS is based on the
net  earnings  applicable  to Class A Common  Shares plus  dividends  on Class A
Preferred  Shares,  divided  by the  weighted  average  number of Class A Common
Shares and dilutive potential Class A Common Shares that were outstanding during
the period.  Dilutive  potential  Class A Common Shares include the  convertible
Class A Preferred Shares and dilutive Class A Common Share options.  At December
31, 1997, the Class A Preferred  Share and Class A Common Share options were not
considered Class A Common Share equivalents for purposes of calculating  Diluted
EPS as they were antidilutive.  Accordingly,  at December 31, 1997, there was no
difference  between Basic EPS and Diluted EPS or weighted average Class A Common
Shares  outstanding.  The adoption of this accounting  standard had no effect on
the reported December 31, 1997, 1996 or 1995 earnings per share amounts.

Reclassifications

Certain  reclassifications  have been made in the  presentation  of the 1996 and
1995 consolidated financial statements to conform to the 1997 presentation.

New Accounting Pronouncements

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

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


                                      F-13
<PAGE>

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


4.  Interest Rate Risk Management

   
The Company uses interest rate swaps and interest rate caps to hedge  mismatches
in interest rate maturities,  to reduce the Company's  exposure to interest rate
fluctuations on certain loans and investments and to provide more stable spreads
between investment yields and the rates on their financing sources.  The Company
has entered into interest rate swap  agreements  for notional  amounts  totaling
approximately  $42.4 million with two  investment  grade  financial  institution
counterparties  whereby  the  Company  swapped  fixed  rate  instruments,  which
averaged  approximately  6.22% at December  31, 1997 and 6.55% for the year then
ended, for floating rate instruments  equal to the London Interbank Offered Rate
("LIBOR") which averaged  approximately 5.94% at December 31, 1997 and 5.72% for
the year then ended.  Amounts arising from the differential are recognized as an
adjustment  to interest  income  related to the earning  asset.  The  agreements
mature at varying times from December 1998 to April 2006.

The  Company  purchased  an  interest  rate cap for a notional  amount of $18.75
million at a cost of approximately  $71,000.  The interest rate cap provides for
payments  to the  Company  should  LIBOR  exceed  11.25%  during the period from
November 2003 to November 2007.

The  Company is exposed to credit  loss in the event of  non-performance  by the
counterparties  (which are banks whose securities are rated investment grade) to
the interest rate swap and cap agreements,  although it does not anticipate such
non-performance.  The  counterparties  would bear the interest rate risk of such
transactions as market interest rates increase.

If an interest rate swap or interest rate cap is sold or terminated  and cash is
received or paid,  the gain or loss is deferred and  recognized  when the hedged
asset is sold or matures.
    

5.  Available-for-Sale Securities

At December 31, 1997, the Company's  available-for-sale  securities consisted of
the following (in thousands):

<TABLE>
<CAPTION>


                                                                                 Gross
                                                                               Unrealized       Estimated
                                                                          ---------------------
                                                                  Cost      Gains     Losses    Fair Value
                                                              -----------------------------------------------
<S>                                                            <C>         <C>       <C>        <C>    
Federal National Mortgage Association, adjustable rate
   interest currently at 7.845%, due April 1, 2024               $ 2,176     $  -      $ (32)    $  2,144
Federal Home Loan Mortgage Association, adjustable rate
    interest currently at 7.916%, due June 1, 2024                   752        -        (10)         742
Federal National Mortgage Association, adjustable rate
   interest currently at 7.362%, due 
   May 1, 2025                                                       440        -         (9)         431
Federal National Mortgage Association, adjustable rate
   interest currently at 7.965%, due 
   May 1, 2026                                                     1,860        -        (20)       1,840
Federal National Mortgage Association, adjustable rate
   interest currently at 7.969%, due 
   June 1, 2026                                                    4,545        29        -         4,574
Norwest Corp. Voting Common Stock, 630 shares                         17         7        -            24
SL Green Realty Corp. Voting Common Stock,
   85,600 shares                                                   1,798       422        -         2,220
                                                              ===============================================
                                                                 $11,588     $ 458     $ (71)    $ 11,975
                                                              ===============================================
</TABLE>

                                      F-14

<PAGE>

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


5.  Available-for-Sale Securities, continued

At December 31, 1996, the Company's  available-for-sale  securities consisted of
the following (in thousands):

<TABLE>
<CAPTION>



                                                                                 Gross
                                                                               Unrealized       Estimated
                                                                          ---------------------
                                                                  Cost      Gains     Losses    Fair Value
                                                              -----------------------------------------------
<S>                                                            <C>         <C>       <C>       <C>    
Federal National Mortgage Association, adjustable rate
   interest at 7.783% at December 31, 1996, due
   April 1, 2024                                                 $ 2,879     $  -      $ (34)    $  2,845
Federal Home Loan Mortgage Association, adjustable rate
    interest at 7.625% at December 31, 1996, due
   June 1, 2024                                                      967        -        (10)         957
Federal National Mortgage Association, adjustable rate
   interest at 7.292% at December 31, 1996, due May 1, 2025          732        -         (4)         728
Federal National Mortgage Association, adjustable rate
   interest at 6.144% at December 31, 1996, due May 1, 2026        3,260        -         (5)       3,255
Federal National Mortgage Association, adjustable rate
   interest at 6.116% at December 31, 1996, due June 1, 2026       6,299        31        -         6,330
                                                              ===============================================
                                                                 $14,137     $  31     $ (53)    $ 14,115
                                                              ===============================================
</TABLE>

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

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

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

6.  Rental Properties

At December 31, 1996, the Company's rental property  portfolio included a retail
and mixed-use property carried at $8,585,000.  These properties were sold during
1997.

The  Company  has  established  an  allowance  for  valuation  losses  on rental
properties as follows (in thousands):

<TABLE>
<CAPTION>



                                                        1997               1996              1995
                                                    --------------    ---------------    --------------
<S>                                                  <C>               <C>                <C>      
   
   Beginning balance                                  $    -            $   6,898          $   5,863
      Provision for valuation losses                       -                1,743              1,035
      Amounts charged against allowance for
        valuation losses                                   -               (8,641)              -
                                                    ==============    ===============    ==============
   Ending balance                                     $    -            $    -             $   6,898
                                                    ==============    ===============    ==============
</TABLE>


                                      F-15
<PAGE>

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


7.    Commercial Mortgage-Backed Securities

The  Company  pursues  rated  and  unrated  investments  in public  and  private
subordinated interests ("Subordinated  Interests") in commercial mortgage-backed
securities ("CMBS").

On June 30, 1997,  the Company  completed an  investment  for the entire  junior
subordinated class of CMBS, known as the Class B Owner Trust Certificates,  that
provides  for both  interest  and  principal  repayments.  The  CMBS  investment
consists  of a  security  with a face  value of  $49.6  million  purchased  at a
discount for $49.2  million plus accrued fees.  The  investment  was  originally
collateralized  by twenty  short-term  commercial notes receivable with original
maturities  ranging from two to three  years.  At the time of  acquisition,  the
investment  was   subordinated  to   approximately   $351.3  million  of  senior
securities.  At December  31,  1997,  the CMBS  investment  (including  interest
receivable) was $49.5 million and had a yield of 8.96%.

In  addition,  the  Company  was named  "special  servicer"  for the entire $413
million loan  portfolio  in which  capacity the Company will earn fee income for
management  of  the   collection   process   should  any  of  the  loans  become
non-performing.  At December 31, 1997, no fees relating to the special servicing
arrangement were earned.
    

8.  Loans Receivable

The Company  currently pursues lending  opportunities  designed to capitalize on
inefficiencies  in the real estate capital,  mortgage and finance  markets.  The
Company  has  classified  its  loans  receivable  into  the  following   general
categories:

     o    Mortgage  Loans.  The Company  originates  and funds senior and junior
          mortgage loans ("Mortgage Loans") to commercial real estate owners and
          property  developers who require  interim  financing  until  permanent
          financing can be obtained.  The Company's Mortgage Loans are generally
          not intended to be permanent in nature,  but rather are intended to be
          of a relatively short-term duration,  with extension options as deemed
          appropriate,  and typically  require a balloon payment of principal at
          maturity.  The Company may also originate and fund permanent  Mortgage
          Loans in which the Company intends to sell the senior tranche, thereby
          creating a Mezzanine Loan (as defined below).

   
     o    Mezzanine Loans. The Company originates  high-yielding  loans that are
          subordinate to first lien mortgage loans on commercial real estate and
          are  secured  either  by a second  lien  mortgage  or a pledge  of the
          ownership  interests in the borrowing  property owner.  Alternatively,
          the Company's  mezzanine  financings can take the form of a customized
          preferred  equity  interest in the property  owning limited  liability
          company  or  partnership  entity  with  substantially   similar  terms
          (collectively,  "Mezzanine Loans"). Generally, the Company's Mezzanine
          Loans have a longer  anticipated  duration than its Mortgage Loans and
          are not intended to serve as transitional mortgage financing.
    

     o    Other Mortgage Loans Receivable.  This  classification  includes loans
          originated  during the Company's prior  operations as a REIT and other
          loans and investments not meeting the above criteria.


                                      F-16
<PAGE>

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


8.  Loans, continued

   
At December 31, 1997 and 1996, the Company's loans  receivable  consisted of the
following (in thousands):

                                                    1997               1996
                                               ---------------- ----------------
   (1)  Mortgage Loans                           $   124,349      $       -
   (2)  Mezzanine Loans                               76,373              -
   (3)  Other mortgage loans receivable                2,062             1,576
                                               ---------------- ----------------
                                                     202,784             1,576
   Less:  reserve for possible credit losses            (462)             -
                                               ================ ================
   Total loans                                   $   202,322      $      1,576
                                               ================ ================

The weighted  average  interest rate at December 31, 1997of the Company's  loans
receivable was as follows:

   (1)  Mortgage Loans                               11.47%
   (2)  Mezzanine Loans                              11.44%
   (3)  Other mortgage loans receivable               8.41%

At December 31, 1997, $140.4 million of the  aforementioned  loans bear interest
at floating  rates  ranging  from LIBOR plus 375 basis  points to LIBOR plus 600
basis points.  The remaining $62.4 million of loans were financed at fixed rates
ranging from 8.50% to 12.00%.  At December 31, 1997, the average earning rate in
effect,  before  giving effect to interest rate swaps (See Note 4) but including
amortization of fees and premiums, was 11.43%.

    

(1) The Company has five Mortgage Loans in its portfolio as described below:

     (A)  On August 4, 1997, the Company originated, and funded in part, a $35.0
          million  commitment for a subordinated  mortgage loan for improvements
          to a mixed-use property in Chicago,  Illinois. The loan is subordinate
          to senior  indebtedness  and is secured by the mixed-use  property and
          two mortgage  notes  aggregating  $9.6  million on nearby  development
          sites. The loan has a two-year initial term with a one-year  extension
          option available to the borrower,  subject to certain conditions,  and
          is payable upon the sale of the property  unless the Company  approves
          the assumption of the debt by an institutional  investor. On August 4,
          1997,  the Company  funded $19.0  million  against the  aforementioned
          commitment and, subsequently,  on August 19, 1997, the Company entered
          into a participation  agreement with a third party (the "Participant")
          pursuant  to which the  Company  assigned  a 42.9% (or $15.0  million)
          interest in the loan. In connection with the participation  agreement,
          the  Participant  paid to the Company  approximately  $8.2  million or
          42.9% of the $19.0 million  previously  funded by the Company.  During
          the period to December  31,  1997,  the  Company  and the  Participant
          funded  additional  amounts  aggregating  $4.3 million,  of which $1.8
          million was funded by the Participant.

          On December  31, 1997,  the Company  reacquired  two-thirds  (or $10.0
          million) of the $15.0 million  participation  previously assigned to a
          third party on August 19, 1997 at par or $6.6 million.

          Through  December  31,  1997,  the  Company's  portion of the  funding
          provided  under the mortgage  loan  aggregated  $19.9  million and the
          Company's remaining share of the commitment amounts to $10.1 million.


                                      F-17
<PAGE>

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


8.    Loans, continued

     (B)  On November 7, 1997, the Company originated and funded a $50.3 million
          second  mortgage  loan  on  an  office  building  in  New  York  City.
          Simultaneous  with the loan funding,  the Company  entered into a pari
          passu  participation  agreement  to  which  it  sold a 50%  (or  $25.1
          million)  participation  interest in the loan to EOP Operating Limited
          Partnership,  whose general partner is Equity Office Properties Trust,
          an  affiliate  of the  Company.  The  loan is  subordinate  to  senior
          indebtedness and is further secured by various  additional  collateral
          owned by a principal  of the  borrower  as well as a limited  personal
          guarantee  of a  principal  of  the  borrower.  Collection  under  the
          personal  guarantee  and the  other  collateral  is  limited  to $10.0
          million.  The  loan  has a  two-year  initial  term  with  a  one-year
          extension  option  available to the  borrower and bears  interest at a
          specified  rate over  LIBOR,  which  such rate  increases  during  the
          extension period. Under certain circumstances,  the borrower may defer
          a portion  of the  interest  accrued on the loan  during  the  initial
          two-year  term  subject  to a  specified  minimum  rate.  The  loan is
          interest  only during the initial  two-year term with excess cash flow
          after  determined  reserves being applied to  amortization  during the
          extension term.

          On December  30, 1997,  the Company  reacquired  $20.1  million of the
          $25.1  million  participation  previously  assigned  to EOP  Operating
          Limited  Partnership on November 7, 1997 at par. At December 31, 1997,
          the  Company's  share of the second  mortgage  loan  aggregated  $45.3
          million.

           The following is a summary of the financial  information for the year
          ended December 31, 1997 of the aforementioned  property related to the
          Company's mortgage loan:

             Revenues (primarily rent)                              $ 33,237,000
             Expenses (primarily utilities, operating and taxes)      10,162,000

     (C)  On December 17, 1997, the Company funded a $6.0 million first mortgage
          acquisition loan secured by a first mortgage on an office building and
          movie theatre in St. Louis, Missouri. The loan is further secured by a
          pledge of all the partnership  interests in the borrower.  The loan is
          for  one  year  and  bears  interest  at a  fixed  rate.  The  loan is
          non-amortizing  and  features  a  conversion  option  which  gives the
          borrower the option of  converting  the loan into a  long-term,  fixed
          rate mortgage, subject to certain covenants.

     (D)  On December 18, 1997,  the Company  originated,  and funded in part, a
          $6.0  million  subordinated  participation  in a $20.5  million  first
          mortgage  acquisition  loan on a  retail/office  building  in  Boston,
          Massachusetts. The Company funded $4.5 million of its participation at
          the closing and the other participant has fully funded its commitment.
          Additional  fundings  will be made  for  approved  costs  incurred  in
          conjunction  with leases  executed in accordance  with  pre-determined
          guidelines.  The entire  loan is secured  by a first  mortgage  on the
          building and a pledge of the ownership interests in the borrower.  The
          loan has a term of two years and bears  interest at a  specified  rate
          above LIBOR. The loan is non-amortizing, and provides for a conversion
          option that gives the borrower the option of converting  the loan into
          a long-term, fixed rate mortgage, subject to certain covenants.

     (E)  On December 23, 1997, the Company  purchased a $62.6 million  mortgage
          loan  obligation  from  a  financial   institution  at  a  premium  of
          approximately $1.4 million. The loan is secured by a first mortgage on
          an office and retail  property in New York City.  With the acquisition
          of the mortgage loan obligation, the Company acquired an existing loan
          of  approximately  $47.3  million  and assumed an  obligation  to make
          additional  advances of approximately  $15.3 million.  The loan, which
          matures in January 2001, bears interest at a fixed rate over LIBOR for
          its term.  Prepayment of the loan is permitted during the entire term,
          but is subject  to a  prepayment  penalty  during the first two years.
          There is no  prepayment  penalty  during the final year of the loan. A
          specified   fee  is  due  from  the   borrower  to  the  Company  upon
          satisfaction of the loan.

                                     F-18
<PAGE>

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


8.   Loans, continued

          The following is a summary of the financial  information  for the year
          ended December 31, 1997 of the aforementioned  property related to the
          Company's mortgage loan:

             Revenues (primarily rent)                               $ 7,396,000
             Expenses (primarily utilities, operating and taxes)       5,802,000
 
(2) The Company has entered into five Mezzanine Loans as detailed below:

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

     (B)  On October  31, 1997 the  Company  completed  a five year,  fixed rate
          investment in the form of a $10.0 million second mortgage loan secured
          by a mortgage on the interests of a 64% tenancy-in-common  interest in
          an office building in New York City. Additionally, the loan is further
          secured  by a  pledge  by  100%  of the  membership  interests  in the
          borrower.  The loan is  non-amortizing  and may be prepaid  with yield
          maintenance at any time. The borrower  established an interest reserve
          at closing.

     (C)  On December 5, 1997,  the Company  originated  a $3.0  million  second
          mortgage loan on an assisted  living facility in Great Neck, New York.
          The fixed  rate  loan has a term of five  years  and is  secured  by a
          second mortgage on the property and limited personal guarantees of the
          principals  of the  borrower,  which  decrease as the occupancy of the
          property  increases.  Amortization  is  dependent  on excess cash flow
          being  generated.  A fee is due from the  borrower to the Company upon
          satisfaction  of the loan that will  provide the Company with a stated
          internal rate of return, which increases over the term of the loan.

     (D)  On December 29, 1997, the Company purchased a $25.0 million fixed rate
          mezzanine  loan,  which matures in September  2007, for $25.8 million.
          The loan is  secured  by a pledge of the  ownership  interests  in the
          entities that own the office and retail property in New York City. The
          loan is further  secured by a full payment  guaranty by the principals
          that own the property in the event of certain  occurrences,  including
          bankruptcy. Prepayment of the loan is permitted during the entire loan
          period subject to yield maintenance  during the first six years of the
          loan and without  prepayment  premium or penalty for the  remainder of
          the loan term.

   
     (E)  On December 31, 1997, the Company  completed a $22.0 million preferred
          equity  financing in the form of a customized  interest in the limited
          liability company that owns an office/retail property in Santa Monica,
          California.  The preferred  equity interest has a remaining term of 34
          months and pays  distributions  at a  specified  rate over LIBOR until
          redemption.  Early  redemption of the preferred equity interest is not
          permitted  during the first four months  following  the closing of the
          acquisition  transaction.  The preferred equity interest is subject to
          early  redemption  penalties for the period from the fifth through the
          twenty-second  months of the Company's ownership and is not subject to
          any penalties during the last year proceeding the mandatory redemption
          date.
    

                                      F-19
<PAGE>

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


8.  Loans, continued

     (3)  The other mortgage loan receivables are  collateralized by real estate
          properties in California  and Arizona that arose from the sale of real
          estate.  These  mortgage  loans  receivable  mature at  varying  dates
          between February 11, 1999 and March 31, 2012.

          As of December 31, 1996,  the Company was in the process of monetizing
          its assets and  accordingly,  wrote down such assets to current market
          value,  less estimated  selling costs.  The Company has established an
          allowance  for  valuation  losses on loans  receivable  as follows (in
          thousands):

<TABLE>
<CAPTION>


                                                        1997               1996              1995
                                                    --------------    ---------------    --------------
<S>                                                   <C>               <C>                <C>      
   Beginning balance                                  $    -            $   9,151          $   7,182
      Provision for valuation losses                        462              -                 2,246
      Deferred gains on notes and other, net               -                 -                   (66)
      Amounts charged against allowance for
        valuation losses                                   -               (9,151)              (211)
                                                    ==============    ===============    ==============
   Ending balance                                     $     462         $    -             $   9,151
                                                    ==============    ===============    ==============
</TABLE>

   
9.    Risk Factors


The  Company's  assets are  subject to  various  risks that can affect  results,
including the level and volatility of prevailing interest rates, adverse changes
in general  economic  conditions and real estate markets,  the  deterioration of
credit  quality of borrowers  and the risks  associated  with the  ownership and
operation  of real estate.  Any  significant  compression  of the spreads of the
interest rates earned on interest-earning assets over the interest rates paid on
interest-bearing  liabilities  could  have  a  material  adverse  effect  on the
Company's  operating results.  Adverse changes in national and regional economic
conditions  can have an  effect on real  estate  values  increasing  the risk of
undercollateralization  to the extent that the fair market  value of  properties
serving as collateral  security for the Company's  assets are reduced.  Numerous
factors,  such as  adverse  changes  in local  market  conditions,  competition,
increases in  operating  expenses and  uninsured  losses,  can affect a property
owner's ability to maintain or increase revenues to cover operating expenses and
the debt  service  on the  property's  financing  and,  consequently,  lead to a
deterioration  in credit  quality or a loan  default and reduce the value of the
Company's asset. In addition, the yield to maturity on the Company's CMBS assets
are subject to the default and loss experience on the underlying mortgage loans,
as well as by the rate  and  timing  of  payments  of  principal.  If there  are
realized  losses on the underlying  loans,  the company may not recover the full
amount, or possibly,  any of its initial  investment in the affected CMBS asset.
To the extent there are prepayments on the underlying mortgage loans as a result
of  refinancing  at lower  rates,  the  Company's  CMBS  assets  may be  retired
substantially  earlier than their stated  maturities  leading to reinvestment in
lower yielding assets.  There can be no assurance that the Company's assets will
not  experience  any of the  foregoing  risks or that,  as a result  of any such
experience,  the Company will not suffer a reduced  return on  investment  or an
investment loss.

    

                                      F-20
<PAGE>

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


   
10.  Equipment and Leasehold Improvements
    
At December 31, 1997 and 1996,  equipment and leasehold  improvements,  net, are
summarized as follows (in thousands):

<TABLE>


                                                Period of
                                             Depreciation or
                                               Amortization              1997               1996
                                         -------------------------   --------------    ----------------

<S>                                          <C>                    <C>               <C>    
   Office equipment                           3 to 7 years               $   307           $    80
   Leasehold improvements                     Term of leases                 143               -
                                                                     --------------    ----------------
                                                                             450                80
   Less:  accumulated depreciation                                           (93)              (29)
                                                                     ==============    ================
                                                                         $   357           $    51
                                                                     ==============    ================
</TABLE>

Depreciation  and amortization  expense on equipment and leasehold  improvements
totaled $64,000, $19,000 and $10,000 for the years ended December 31, 1997, 1996
and 1995,  respectively.  Equipment and leasehold  improvements  are included in
prepaid and other assets in the consolidated balance sheets.

   
11.  Notes Payable
    

At December 31, 1997, the Company has notes payable aggregating $5.0 million.

In connection  with the  acquisition of Victor Capital and affiliated  entities,
the  Company  issued  $5.0  million  of  non-interest  bearing  unsecured  notes
("Acquisition  Notes") to the sellers,  payable in ten  semi-annual  payments of
$500,000. The Acquisition Notes have been discounted to $3.9 million based on an
imputed  interest rate of 9.5%.  At December 31, 1997,  the net present value of
the Acquisition  Notes (including  interest  payable)  amounted to approximately
$4.1 million.

The  Company  is also  indebted  under a note  payable  due to a life  insurance
company.  This note is secured by the property  that was sold in 1997.  The note
bears  interest at 9.50% per annum with principal and interest  payable  monthly
until  August 7, 2017 when the entire  unpaid  principal  balance and any unpaid
interest  is due.  The life  insurance  company has the right to call the entire
note due and payable  upon ninety days prior  written  notice.  At December  31,
1997, the balance of the note payable amounted to approximately $859,000.

As of December 31, 1996, the Company had long-term  notes payable of $5,169,000,
most of which were collateralized by deeds of trust on rental properties with an
aggregate book value of $8,585,000.  These notes were due in installments to the
year 2014 and had interest rates ranging from 8% to 10.75%.  Except for the note
payable  described in the  preceding  paragraph,  these notes were repaid during
1997.


                                      F-21
<PAGE>

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


   
12.  Long-Term Debt
    

Credit Facility

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

The  obligations of the Company under the Credit Facility are secured by pledges
of the Funded Portfolio Assets acquired with advances under the Credit Facility.
Borrowings under the Credit Facility bear interest at specified rates over LIBOR
(averaging  approximately  8.2% for the  borrowing  outstanding  at December 31,
1997)  which  rates may  fluctuate  based upon the credit  quality of the Funded
Portfolio  Assets.  The  Company  incurred  an initial  commitment  fee upon the
signing of the credit agreement and is obligated to pay an additional commitment
fee when the total  borrowing  under the Credit  Facility  exceeds $75  million.
Future repayments and redrawdowns of amounts  previously subject to the drawdown
fee will not require the Company to pay any additional fees. The Credit Facility
provides for margin  calls on  asset-specific  borrowings  in the event of asset
quality  and/or  market  value  deterioration  as  determined  under the  Credit
Facility. The Credit Facility contains customary representations and warranties,
covenants  and  conditions  and  events of  default.  The Credit  Facility  also
contains a covenant  obligating  the Company to avoid  undergoing  an  ownership
change that results in Craig M. Hatkoff,  John R. Klopp or Samuel Zell no longer
retaining their senior offices and  trusteeships  with the Company and practical
control of the Company's business and operations.

On December 31, 1997, the unused Credit Facility amounted to $70.1 million.

Repurchase Obligations

The Company has entered into four repurchase agreements.

Three of the repurchase agreements with CS First Boston arose in connection with
the purchase of a mezzanine loan, the CMBS  investment and the preferred  equity
investment  described in Note 7. At December 31, 1997, the Company has sold such
assets  totaling  $97.3  million,  which  approximates  market value,  and has a
liability to repurchase these assets for $72.7 million. The liability balance of
$72.7 million bears interest at specified rates over LIBOR (weighted  average of
6.75% at December 31, 1997),  and generally have a one year term with extensions
available by mutual consent. These agreements mature in late December 1998.

The Company also has entered into a  repurchase  agreement  with Paine Webber in
conjunction  with the  financing  of all of its FNMA and  FHLMC  securities.  At
December  31,  1997,  the  Company  has sold such  securities  with a book value
totaling  $9.8  million  (market  value $9.7  million)  and has a  liability  to
repurchase these assets for $9.5 million.  The liability balance of $9.5 million
bears interest at 6.40%, and matures on January 29, 1998.


                                      F-22
<PAGE>


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

   
13.  Shareholders' Equity
    

Authorized Capital

Pursuant to the Company's Amended and Restated  Declaration of Trust, all of the
Company's  previously  issued common shares of  beneficial  interest,  $1.00 par
value,  were  reclassified  as Class A Common Shares on July 15, 1997. The total
number of  authorized  capital  shares of the Company is unlimited and currently
consists  of (i)  Class  A  Preferred  Shares,  (ii)  class  B  9.5%  cumulative
convertible non-voting preferred shares of beneficial interest, $1.00 par value,
in the Company ("Class B Preferred  Shares"),  (iii) Class A Common Shares,  and
(iv) class B common  shares of  beneficial  interest,  $1.00 par  value,  in the
Company  ("Class  B  Common  Shares").  As of  December  31,  1997,  there  were
12,267,658 Class A Preferred Shares issued and outstanding, no Class B Preferred
Shares  issued and  outstanding,  18,157,150  Class A Common  Shares  issued and
outstanding  and no Class B Common Shares issued and  outstanding.  The board of
trustees is authorized,  with certain exceptions, to provide for the issuance of
additional  preferred  shares of  beneficial  interest in one or more classes or
series.

Common Shares

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

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

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

Preferred Shares

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


                                      F-23
<PAGE>

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


   
13.  Shareholders' Equity, continued
    

Except as  described  herein or as required by law,  both  classes of  Preferred
Shares are identical and entitled to the same  dividend,  liquidation  and other
rights  as  provided  in  the   Certificate  of  Designation  and  the  Restated
Declaration. The Class A Preferred Shares are entitled to vote together with the
holders of the Class A Common Shares as a single class on all matters  submitted
to a vote of  shareholders.  Each Class A Preferred  Share  entitles  the holder
thereof  to a number of votes per  share  equal to the  number of Class A Common
Shares into which such Class A Preferred  Share is then  convertible.  Except as
described herein, the Class B Preferred Shares do not have voting rights and are
not  counted in  determining  the  presence of a quorum for the  transaction  of
business at a shareholders' meeting. The affirmative vote of the shareholders of
a majority of the outstanding  Preferred  Shares,  voting together as a separate
single  class,  except in certain  circumstances,  have the right to approve any
merger,  consolidation or transfer of all or substantially  all of the assets of
the Company.  Holders of the Preferred Shares are entitled to receive,  when and
as declared by the board of trustees,  cash  dividends  per share at the rate of
9.5% per  annum on a per share  price of  $2.69.  Such  dividends  shall  accrue
(whether or not declared)  and, to the extent not paid for any dividend  period,
will be cumulative.  Dividends on the Preferred Shares are payable,  when and as
declared,  semi-annually,  in  arrears,  on December 26 and June 25 of each year
commencing December 26, 1997.

Each Class A Preferred  Share is convertible at the option of the holder thereof
into an equal  number of Class B Preferred  Shares,  or into a number of Class A
Common  Shares  equal to the  ratio of (x)  $2.69  plus an  amount  equal to all
dividends per share accrued and unpaid thereon as of the date of such conversion
to (y) the Conversion  Price in effect as of the date of such  conversion.  Each
Class B  Preferred  Share is  convertible  at the option of the holder  thereof,
subject to certain conditions,  into an equal number of Class A Preferred Shares
or into a number of Class B Common  Shares  equal to the ratio of (x) $2.69 plus
an amount equal to all dividends per share accrued and unpaid  thereon as of the
date of such conversion to (y) the Conversion  Price in effect as of the date of
such conversion. The Conversion Price as of December 31, 1997 is $2.69.

   
14.  General and Administrative Expenses
    

General and administrative  expenses for the years ended December 31, 1997, 1996
and 1995 consist of (in thousands):

<TABLE>


                                               1997                   1996                   1995
                                      ------------------     ------------------     ------------------
<S>                                    <C>                   <C>                   <C>        
   Salaries and Benefits                $     5,035            $      -               $        19
   Professional services                      2,311                    295                    212
   Other                                      2,117                  1,208                    702
                                      ==================     ==================     ==================
   Total                                $     9,463            $     1,503            $       933
                                      ==================     ==================     ==================
</TABLE>


The Company incurred significant non-recurring fees for professional services in
1997 (an increase of more than  $2,000,000  over 1996) in  conjunction  with the
reconstitution  of the  Company,  the  termination  of its REIT  status  and the
implementation of its current business plan.

                                      F-24
<PAGE>

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


   
15.  Income Taxes
    

The  Company  and its  subsidiaries  will elect to file a  consolidated  federal
income tax return for the year ending  December  31,  1997.  The  provision  for
income taxes for the year ended December 31, 1997 is comprised of the following:

Current
   Federal                                                            -
   State                                                              -
   Local                                                              55
Deferred
   Federal                                                            -
   State                                                              -
   Local                                                              -
                                                               ==============
Provision for income taxes                                         $  55
                                                               ==============

The Company has federal net operating loss carryforwards ("NOLs") as of December
31, 1997 of  approximately  $20.2  million.  Such NOLs expire  through 2012. The
Company also had a federal capital loss carryover of approximately  $1.6 million
that can be used to offset  future  capital  gains.  Due to CRIL's  purchase  of
6,959,593 Class A Common Shares from the Company's Former Parent in January 1997
and  another  prior  ownership  change,  a  substantial  portion of the NOLs are
limited for federal income tax purposes to approximately  $1.5 million annually.
Any unused portion of such annual  limitation  can be carried  forward to future
periods.

The reconciliation of income tax computed at the U.S. federal statutory tax rate
to the  effective  income tax rate for the year ended  December  31,  1997 is as
follows (in thousands):

 Federal income tax at statutory rate (34%)                 $ (1,531)   (34.0)%
 State and local taxes, net of federal tax benefit                36      0.1%
 Tax benefit of net operating loss not currently recognized    1,536     34.0 %
 Other                                                            14      0.0 %
                                                            ====================
                                                            $     55      0.1%
                                                            ====================

Deferred  income  taxes  reflect  the net tax effects of  temporary  differences
between the carrying  amounts of assets and liabilities for financial  reporting
purposes and the amounts used for tax reporting purposes.

The components of the net deferred tax assets  recorded under SFAS No. 109 as of
December 31, 1997 is as follows (in thousands):

 Net operating loss carryforward                                     $    9,090
 Reserves on other assets and for possible credit losses                  3,326
 Deferred revenue                                                           616
 Reserve for uncollectible accounts                                         208
                                                                     -----------
 Deferred tax assets                                                 $   13,240
 Valuation allowance                                                    (13,240)
                                                                     -----------
                                                                     $     -
                                                                     ===========

The Company  recorded a valuation  allowance  to fully  reserve its net deferred
assets.  Under SFAS No. 109, this valuation allowance will be adjusted in future
years, as appropriate. However, the timing and extent of such future adjustments
can not presently be determined.


                                      F-25
<PAGE>

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


   
16.  Employee Benefit Plans
    

1997 Long-Term Incentive Share Plan

On May 23, 1997, the board of trustees adopted the 1997 Long-Term Incentive Plan
(the "Incentive Share Plan"),  which became effective upon shareholder  approval
on July 15, 1997 at the 1997 annual  meeting of  shareholders  (the "1997 Annual
Meeting").  The  Incentive  Share Plan permits the grant of  nonqualified  share
option  ("NQSO"),  incentive  share  option  ("ISO"),  restricted  share,  share
appreciation right ("SAR"),  performance unit,  performance share and share unit
awards. The Company has reserved an aggregate of 2,000,000 Class A Common Shares
for issuance  pursuant to awards under the Incentive  Share Plan and the Trustee
Share Plan (as defined below).  The maximum number of shares that may be subject
of awards to any  employee  during the term of the plan may not  exceed  500,000
shares and the maximum  amount  payable in cash to any employee  with respect to
any performance  period pursuant to any  performance  unit or performance  share
award is $1.0 million.  Through  December 31, 1997, the Company had  outstanding
ISOs and NQSOs (the "Grants")  pursuant to the Incentive  Share Plan to purchase
an aggregate of 607,000  Class A Common  Shares with an exercise  price of $6.00
per share (the  closing  Class A Common  Share  price on the date of the grant).
None of the  options  are  exercisable  at  December  31,  1997 and they  have a
remaining contractual life of 9-1/2 years.

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

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

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

The fair value of each option  grant is estimated on the date of grant using the
Black-Scholes   option-pricing   model  with  the  following   weighted  average
assumptions used for grants in 1997,  respectively:  (1) dividend yield of zero;
(2) expected  volatility of 40%; (3) risk-free interest rate of 5.71% and (4) an
expected  life of five  years.  The  weighted  average  fair value of each share
option granted during the year ended December 31, 1997 was $2.63.

The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded  options  that have no vesting  restrictions  and are fully
transferable.  In addition,  option valuation models require the input of highly
subjective  assumptions  including the expected share price volatility.  Because


                                      F-26
<PAGE>

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


   
16.  Employee Benefit Plans, continued

the  Company's  employee  share  options  have   characteristics   significantly
different from those of traded  options,  and because  changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion,  the  existing  models do not  necessarily  provide a  reliable  single
measure of the fair value of its employee share options.
    

For purposes of pro forma  disclosures,  the estimated fair value of the options
is amortized to expense over the  options'  vesting  period.  For the year ended
December  31,  1997,  pro  forma net loss,  after  giving  effect to the Class A
Preferred  Share  dividend  requirement,  and basic and diluted  loss per share,
after  giving  effect to the fair value of the grants  would be $6.2 million and
$0.65, respectively.

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

1997 Non-Employee Trustee Share Plan

On May 23, 1997,  the board of trustees  adopted the 1997  Non-Employee  Trustee
Share Plan (the "Trustee Share Plan"),  which became  effective upon shareholder
approval  on July 15, 1997 at the 1997 Annual  Meeting.  The Trustee  Share Plan
permits the grant of NQSO,  restricted shares, SAR,  performance unit, share and
share unit awards.  The Company has  reserved an aggregate of 2,000,000  Class A
Common  Shares for issuance  pursuant to awards under the Trustee Share Plan and
the Incentive Share Plan.  Through December 31, 1997, the Company issued to each
of two  trustees  pursuant  to the Trustee  Share Plan NQSOs to purchase  25,000
Class A Common  Shares  with an exercise  price of $6.00 per share (the  closing
Class A Common Share price on the date of grant).

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

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


                                      F-27
<PAGE>

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


   
17.  Fair Values of Financial Instruments
    

SFAS No. 107, "Disclosures about Fair Value of Financial  Instruments," requires
disclosure of fair value information about financial instruments, whether or not
recognized in the statement of financial condition,  for which it is practicable
to estimate that value.  In cases where quoted market prices are not  available,
fair values are based upon  estimates  using  present  value or other  valuation
techniques. Those techniques are significantly affected by the assumptions used,
including the discount rate and the estimated future cash flows. In that regard,
the derived  fair value  estimates  cannot be  substantiated  by  comparison  to
independent  markets  and,  in many cases,  could not be  realized in  immediate
settlement  of  the  instrument.   SFAS  No.  107  excludes  certain   financial
instruments and all non-financial  instruments from its disclosure requirements.
Accordingly,  the aggregate  fair value amounts do not represent the  underlying
value of the Company.

The following  methods and  assumptions  were used to estimate the fair value of
each class  financial  instruments  for which it is practicable to estimate that
value:

     Cash and cash  equivalents:  The carrying  amount of cash on hand and money
     market funds is considered to be a reasonable estimate of fair value.

     Available-for-sale securities: The fair value was determined based upon the
     market value of the securities.

   
     Commercial  mortgage-backed  security:  The  fair  value  was  obtained  by
     obtaining  a quote  for the sale of the  security.  The  fair  value of the
     commercial mortgage-backed security was $49.5 million at December 31, 1997.

     Loans  receivable,  net: The fair values were  estimated  by using  current
     institutional purchaser yield requirements. The fair value of the investing
     and lending transactions totaled $203.2 million at December 31, 1997.
    

     Interest rate swap  agreement:  The fair value was estimated based upon the
     amount at which similar financial  instruments would be valued. At December
     31,  1997,  the  fair  value  of  the  interest  rate  swaps   approximated
     ($874,000).

     Interest rate cap  agreement:  The fair value was estimated  based upon the
     amount at which similar financial  instruments would be valued. At December
     31, 1997, the fair value of the interest rate cap approximated $70,000.

     Credit Facility:  The Credit Facility was entered into effective  September
     30, 1997 at floating rates of interest,  and therefore,  the carrying value
     is a reasonable estimate of fair value.

     Repurchase  obligation:  The  repurchase  obligations  bear  interest  at a
     floating rate and the book value is a reasonable estimate of fair value.

The notes included above reflect fair values where appropriate for the financial
instruments  of the Company,  utilizing the  assumptions  and  methodologies  as
defined.


                                      F-28
<PAGE>

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


   
18.  Supplemental Schedule of Non-Cash and Financing Activities
    

The following is a summary of the significant  non-cash  investing and financing
activities during the year ended December 31, 1997:

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

In connection  with the sale of  properties  and notes  receivable,  the Company
entered  into various  non-cash  transactions  as follows  during the year ended
December 31, 1997 (in thousands):

 Sales price less selling costs                                      $   8,396
 Amount due from buyer                                                  (1,090)
                                                                   -------------
Net cash received                                                   $    7,306
                                                                   =============

Interest  paid on the  Company's  outstanding  debt for 1997,  1996 and 1995 was
$1,877,000, $550,000 and $730,000, respectively.

   
19.  Transactions with Related Parties
    

The Company entered into a consulting agreement, dated as of July 15, 1997, with
a trustee  of the  Company.  The  consulting  agreement  has a term of one year.
Pursuant to the  agreement,  the Trustee  provides  consulting  services for the
Company  including  strategic  planning,  identifying and  negotiating  mergers,
acquisitions, joint ventures and strategic alliances, and advising as to capital
structure  matters.  During the year ended  December  31,  1997 the  Company has
incurred an expense of $300,000 in connection with this agreement.

The Company pays EGI, an affiliate  under common  control of the Chairman of the
board of trustees, for certain corporate services provided to the Company. These
services  include  consulting on legal matters,  tax matters,  risk  management,
investor  relations and investment  banking.  During the year ended December 31,
1997,  the Company has incurred  $134,000 of expenses in  connection  with these
services.

During 1996 and 1995, the Company shared certain  personnel and other costs with
Former  Parent.  The  Company  reimbursed  Former  Parent  pursuant  to  a  cost
allocation  agreement  based on each  Company's  respective  asset  values (real
property and notes  receivable) that was subject to annual  negotiation.  During
1996 and 1995,  reimbursable  costs  charged  to the  Company  by  Former  Owner
approximated $258,000 and $435,000,  respectively. The 1995 amount was partially
offset  against  $202,000 (net of valuation  allowances  of $141,000)  which was
recorded as due from Former Parent at December 31, 1994.

At December 31, 1996, the Company owed $31,000 to the Former Parent  pursuant to
the cost allocation agreement. The cost allocation agreement between the Company
and the Former  Parent was  terminated on January 7, 1997. At December 31, 1997,
the  Company  had no  amounts  due to the  Former  Parent  pursuant  to the cost
allocation arrangement.

During the year  ended  December  31,  1997,  the  Company,  through  two of its
acquired subsidiaries,  earned asset management fees pursuant to agreements with
entities in which two of the executive officers and trustees of the Company have
an  equity  interest  and serve as  officers,  members  or as a general  partner
thereof.  During the year ended December 31, 1997,  the Company earned  $327,000
from such agreements,  which has been included in the consolidated  statement of
operations.


                                      F-29
<PAGE>

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


   
20.  Commitments and Contingencies
    

Leases

The Company leases premises and equipment  under  operating  leases with various
expiration  dates.  Minimum  annual rental  payments at December 31, 1997 are as
follows (in thousands):

Years ending December 31:
   1998                                                              $    508
   1999                                                                   515
   2000                                                                   197
   2001                                                                    23
   2002                                                                    23
                                                                   ------------
                                                                     $  1,266
                                                                   ============

Rent expense for office space and  equipment  amounted to $310,000,  $40,000 and
$30,000 for the years ended December 31, 1997, 1996 and 1995, respectively.

Litigation

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

Employment Agreements

The Company has employment agreements with three of its executive officers.

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

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


                                      F-30
<PAGE>

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


   
21.  Summary of Quarterly Results of Operations (Unaudited)
    

The following is a summary of the unaudited quarterly results of operations for
the years ended December 31, 1997, 1996 and 1995:

<TABLE>
<CAPTION>



                                                 March 31        June 30       September 30    December 31
                                              --------------- --------------- --------------- ---------------
<S>                                             <C>             <C>             <C>             <C>    
1997
     Revenues                                    $     613       $     371       $   2,729       $   4,737
     Net income (loss)                           $    (508)      $    (352)      $  (1,593)      $  (2,104)
     Class A Preferred Share dividends and
       dividend requirement                      $      -        $      -        $     679       $     792
     Net income (loss) per Class A
       Common Share                              $   (0.06)      $   (0.04)      $   (0.25)      $   (0.27)


1996
     Revenues                                    $     871       $     780       $     771       $     733
     Net income (loss)                           $     440       $    (213)      $    (514)      $    (127)
     Net income (loss) per share                 $    0.05       $   (0.02)      $   (0.06)      $   (0.02)


1995
     Revenues                                    $     879       $     836       $     942       $     878
     Net income (loss)                           $     242       $      44       $     100       $  (3,164)
     Net income (loss) per share                 $    0.03       $    0.00       $    0.01       $   (0.34)

</TABLE>

The 1996 and first three  quarters of 1997  earnings per share amounts have been
restated to comply with  Statement of Financial  Accounting  Standards  No. 128,
"Earnings per Share".



                                      F-31