**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-Q**

**(Mark One)**

| **ý** | ** ** | **QUARTERLY****REPORT UNDER SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                                                   |
|------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | ** ** | **For the quarterly period ended  March 31, 2006**                                                                                                                                                                                                                                                                          |
| ** ** | ** ** | ** **                                                                                                                                                                                                                                                                                                                  |
| **o**      | ** ** | **TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF  THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                                                     |
|       |       | **For the transition period from                        to                         ** |

 

**Commission file number:  01-32386**

 

**SPIRITFINANCE CORPORATION**

(Exact name of registrant as specified in its charter)

 

| **Maryland**                                                    | ** ** | **20-0175773**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer  Identification No.) |
| ** **                                                      | ** ** | ** **                            |
| **14631 N. Scottsdale Road,  Suite 200  Scottsdale, Arizona**   | ** ** | **85254**                             |
| (Address of principal executive  offices)                       |       | (Zip Code)                            |

 

Registrant’s telephonenumber, including area code: **(480) 606-0820**

 

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

 

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer. Seedefinition of “accelerated filer and large accelerated filer” inRule 12b-2 of the Exchange Act.

 
| Large accelerated filer ý |   | Accelerated filer o |   | Non-accelerated filer o |
|------------------------------------------|--------|--------------------------|--------|------------------------------|

 

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

 

As of April 30, 2006, 81,848,485****shares of the registrant’s Common Stock,par value $0.01 per share, were outstanding.

 

 

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**PART I – FINANCIAL INFORMATION**

 

### **Item 1. Financial Statements**

 

**Spirit Finance Corporation**

**CONSOLIDATED BALANCE SHEETS**

(dollars in thousands, except per share data)

 
| ** **                                                                                                                                                             | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------|------------|------------------------|------------|
| ** **                                                                                                                                                             | ** ** | **(Unaudited)**     | ** ** | ** **             | ** ** |
| **Assets**                                                                                                                                                             |       |                |       |                   |       |
| Investments,  at cost:                                                                                                                                                 |       |                |       |                   |       |
| Real estate investments:                                                                                                                                               |       |                |       |                   |       |
| Land and improvements                                                                                                                                                  |       | $                   | 574,353    |                   | $          | 524,196 |   |
| Buildings and improvements                                                                                                                                             |       | 965,425             |       | 881,386                |       |
| Total real estate investments                                                                                                                                          |       | 1,539,778           |       | 1,405,582              |       |
| Less: Accumulated depreciation                                                                                                                                         |       | (30,351             | )          | (22,729                | )          |
|                                                                                                                                                                   |       | 1,509,427           |       | 1,382,853              |       |
| Loans receivable                                                                                                                                                       |       | 70,229              |       | 59,008                 |       |
| Net  investments                                                                                                                                                       |       | 1,579,656           |       | 1,441,861              |       |
| Cash and  cash equivalents                                                                                                                                             |       | 156,190             |       | 30,536                 |       |
| Lease  intangibles, net                                                                                                                                                |       | 20,835              |       | 21,395                 |       |
| Deferred  costs and other assets, net                                                                                                                                  |       | 23,751              |       | 19,633                 |       |
| Total assets                                                                                                                                                           |       | $                   | 1,780,432  |                   | $          | 1,513,425 |   |
|                                                                                                                                                                   |       |                |       |                   |       |
| **Liabilities  and stockholders’ equity**                                                                                                                         |       |                |       |                   |       |
| Liabilities:                                                                                                                                                           |       |                |       |                   |       |
| Secured credit facilities                                                                                                                                              |       | $                   | —     |                   | $          | 229,855 |   |
| Mortgages and notes payable                                                                                                                                            |       | 1,006,522           |       | 664,929                |       |
| Dividends payable                                                                                                                                                      |       | 17,192              |       | 14,209                 |       |
| Accounts payable, accrued expenses and other  liabilities                                                                                                              |       | 12,917              |       | 11,639                 |       |
| Total  liabilities                                                                                                                                                     |       | 1,036,631           |       | 920,632                |       |
| Commitments  and contingencies (Note 7)                                                                                                                                |       |                |       |                   |       |
| Stockholders’  equity:                                                                                                                                            |       |                |       |                   |       |
| Preferred stock, $0.01 par value per share,  125,000,000 shares authorized, no shares issued and outstanding                                                           |       | —              |       | —                 |       |
| Common stock, $0.01 par value per share,  375,000,000 shares authorized, 81,864,985 (March 31, 2006) and 67,663,071  (December 31, 2005) shares issued and outstanding |       | 819                 |       | 677                    |       |
| Capital in excess of par value                                                                                                                                         |       | 794,191             |       | 640,289                |       |
| Accumulated distributions in excess of net  income                                                                                                                     |       | (42,743             | )          | (33,607                | )          |
| Accumulated other comprehensive loss                                                                                                                                   |       | (8,466              | )          | (14,566                | )          |
| Total  stockholders’ equity                                                                                                                                       |       | 743,801             |       | 592,793                |       |
| Total  liabilities and stockholders’ equity                                                                                                                       |       | $                   | 1,780,432  |                   | $          | 1,513,425 |   |

* *

*See accompanying notes.*

 

2

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**Spirit Finance Corporation**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

(Unaudited)

(dollars in thousands, except per share data)

 
| ** **                                   | ** ** | **Three Months Ended  March 31,** | ** ** |
|----------------------------------------------|------------|-----------------------------------|------------|
| ** **                                   | ** ** | **2006**                          | ** ** | **2005** | ** ** |
| Revenues:                                    |       |                              |       |   |   |
| Rentals                                      |       | $                                 | 32,286     |   | $ | 13,143 |   |
| Interest income on loans receivable          |       | 1,499                             |       | 930 |   |
| Other interest income                        |       | 638                               |       | 355 |   |
| Total  revenues                              |       | 34,423                            |       | 14,428 |   |
|                                         |       |                              |       |   |   |
| Expenses:                                    |       |                              |       |   |   |
| General and administrative                   |       | 4,282                             |       | 2,587 |   |
| Depreciation and amortization                |       | 8,226                             |       | 3,112 |   |
| Interest                                     |       | 13,697                            |       | 2,561 |   |
| Total  expenses                              |       | 26,205                            |       | 8,260 |   |
|                                         |       |                              |       |   |   |
| Income from  continuing operations           |       | 8,218                             |       | 6,168 |   |
|                                         |       |                              |       |   |   |
| Discontinued  operations:                    |       |                              |       |   |   |
| Income from discontinued operations          |       | 50                                |       | 708 |   |
| Net losses on sales of real estate           |       | (133                              | )          | (57 | ) |
| Total  discontinued operations               |       | (83                               | )          | 651 |   |
|                                         |       |                              |       |   |   |
| Net income                                   |       | $                                 | 8,135      |   | $ | 6,819 |   |
|                                         |       |                              |       |   |   |
| Income per  common share:                    |       |                              |       |   |   |
| Basic:                                       |       |                              |       |   |   |
| Continuing operations                        |       | $                                 | 0.11       |   | $ | 0.09 |   |
| Discontinued operations                      |       | —                            |       | 0.01 |   |
| Net income                                   |       | $                                 | 0.11       |   | $ | 0.10 |   |
| Diluted:                                     |       |                              |       |   |   |
| Continuing operations                        |       | $                                 | 0.11       |   | $ | 0.09 |   |
| Discontinued operations                      |       | —                            |       | 0.01 |   |
| Net income                                   |       | $                                 | 0.11       |   | $ | 0.10 |   |
|                                         |       |                              |       |   |   |
| Weighted  average outstanding common shares: |       |                              |       |   |   |
| Basic                                        |       | 76,413,164                        |       | 67,023,019 |   |
| Diluted                                      |       | 76,742,960                        |       | 67,443,662 |   |
|                                         |       |                              |       |   |   |
| Cash  dividends declared per common share    |       | $                                 | 0.21       |   | $ | 0.19 |   |

 

*See accompanying notes.*

 

3

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**Spirit Finance Corporation**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

(Unaudited)

(dollars in thousands)

 
| ** **                                                 | ** ** | **Three Months Ended March 31,** | ** ** |
|------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                 | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| **Cash  flows from operating activities**                  |       |                             |       |   |   |
| Net income                                                 |       | $                                | 8,135      |   | $ | 6,819 |   |
| Adjustments  to net income:                                |       |                             |       |   |   |
| Depreciation and amortization                              |       | 8,252                            |       | 3,389 |   |
| Stock-based compensation                                   |       | 449                              |       | 203 |   |
| Amortization of deferred financing costs                   |       | 727                              |       | 580 |   |
| Amortization of net interest rate swap  hedge losses       |       | 223                              |       | — |   |
| Net losses on sales of real estate                         |       | 133                              |       | 57 |   |
| Other noncash items                                        |       | 111                              |       | 52 |   |
| Changes in operating assets and  liabilities:              |       |                             |       |   |   |
| Deferred costs and other assets                            |       | (616                             | )          | (1,088 | ) |
| Accounts payable, accrued expenses and  other liabilities  |       | 2,304                            |       | (1,469 | ) |
| Net cash  provided by operating activities                 |       | 19,718                           |       | 8,543 |   |
|                                                       |       |                             |       |   |   |
| **Cash  flows from investing activities**                  |       |                             |       |   |   |
| Acquisitions  of real estate investments                   |       | (139,980                         | )          | (38,042 | ) |
| Investment  in loans receivable                            |       | (11,401                          | )          | — |   |
| Proceeds  from sales of real estate investments            |       | 5,629                            |       | 8,101 |   |
| Collections  of principal on loans receivable              |       | 173                              |       | 105 |   |
| Net cash  used by investing activities                     |       | (145,579                         | )          | (29,836 | ) |
|                                                       |       |                             |       |   |   |
| **Cash  flows from financing activities**                  |       |                             |       |   |   |
| Borrowings  under secured credit facilities                |       | 39,889                           |       | 101,500 |   |
| Repayments  under secured credit facilities                |       | (269,744                         | )          | (42,843 | ) |
| Borrowings  under mortgage notes payable                   |       | 344,570                          |       | — |   |
| Repayments  under mortgages and notes payable              |       | (2,839                           | )          | (140,266 | ) |
| Deferred  financing costs paid                             |       | (5,489                           | )          | (489 | ) |
| Payments  received on forward-starting interest rate swaps |       | 5,825                            |       | — |   |
| Proceeds  from public offering, net                        |       | 153,591                          |       | 40,067 |   |
| Dividends  paid on common stock                            |       | (14,288                          | )          | (7,110 | ) |
| Net cash  provided by (used in) financing activities       |       | 251,515                          |       | (49,141 | ) |
|                                                       |       |                             |       |   |   |
| Net increase  (decrease) in cash and cash equivalents      |       | 125,654                          |       | (70,434 | ) |
|                                                       |       |                             |       |   |   |
| Cash and  cash equivalents, beginning of period            |       | 30,536                           |       | 113,225 |   |
| Cash and  cash equivalents, end of period                  |       | $                                | 156,190    |   | $ | 42,791 |   |

 

*See accompanying notes.*

 

4

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**Spirit Finance Corporation**

**CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY**

ThreeMonths Ended March 31, 2006

(Unaudited)

(dollars in thousands, except per share data)

 
| ** **                                            | ** ** | **Common  Shares** | ** ** | **CommonStock  Par Value** | ** ** | **Capital  in  Excess of Par  Value** | ** ** | **Accumulated  Distributions in  Excess of Net  Income** | ** ** | **Accumulated  Other  Comprehensive  Loss** | ** ** | **Total  Stockholders’  Equity** | ** ** |
|-------------------------------------------------------|------------|--------------------|------------|----------------------------|------------|---------------------------------------|------------|----------------------------------------------------------|------------|---------------------------------------------|------------|---------------------------------------|------------|
|                                                  |       |               |       |                       |       |                                  |       |                                                     |       |                                        |       |                                  |       |
| Balances at  December 31, 2005                        |       | 67,663,071         |       | $                          | 677        |                                  | $          | 640,289                                                  |       | $                                           | (33,607    | )                                     | $          | (14,566 | ) | $ | 592,793 |   |
| Net income                                            |       |               |       |                       |       |                                  |       | 8,135                                                    |       |                                        |       | 8,135                                 |       |
| Change in net  unrealized losses on cash flow hedges  |       |               |       |                       |       |                                  |       |                                                     |       | 5,877                                       |       | 5,877                                 |       |
| Net cash flow  hedge losses reclassified to earnings  |       |               |       |                       |       |                                  |       |                                                     |       | 223                                         |       | 223                                   |       |
| Public offering,  net                                 |       | 13,800,000         |       | 138                        |       | 153,453                               |       |                                                     |       |                                        |       | 153,591                               |       |
| Dividends  declared on common stock ($0.21 per share) |       |               |       |                       |       |                                  |       | (17,271                                                  | )          |                                        |       | (17,271                               | )          |
| Restricted stock  activity, net                       |       | 401,914            |       | 4                          |       | 449                                   |       |                                                     |       |                                        |       | 453                                   |       |
| Balances at March  31, 2006                           |       | 81,864,985         |       | $                          | 819        |                                  | $          | 794,191                                                  |       | $                                           | (42,743    | )                                     | $          | (8,466 | ) | $ | 743,801 |   |

 

*See accompanying notes.*

 

5

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**Spirit Finance Corporation**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

**1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

**The Company**

 

Spirit Finance Corporation (“Spirit Finance” or the “Company”) is aMaryland corporation formed on August 14, 2003 as a self-managed and self-advisedreal estate investment trust (“REIT”) under the Internal Revenue Code.   The common stock of Spirit Finance is listedon the New York Stock Exchange under the symbol “SFC.”

 

**Basis of Accounting and Principles ofConsolidation**

 

The accompanying unaudited consolidated financial statements areprepared on the accrual basis of accounting in accordance with U.S. generallyaccepted accounting principles for interim financial information.  Accordingly, they do not include all of theinformation and footnotes required for complete financial statements.  In the opinion of management, all adjustments(consisting of normal recurring accruals) considered necessary for a fairpresentation have been recorded. Operating results for the three months endedMarch 31, 2006 are not necessarily indicative of the results that may beexpected for the year ending December 31, 2006.  The accompanying financial statements andnotes should be read in conjunction with the audited financial statementsincluded in the Company’s Annual Report on Form 10-K for the year endedDecember 31, 2005.

 

The consolidated financial statements ofSpirit Finance include the accounts of the Company and its wholly ownedsubsidiaries, Spirit Management Company, Spirit Finance Acquisitions, LLC andnumerous wholly-owned special purpose entities. Spirit Finance formed severalspecial purpose entities to acquire and hold real estate subject to mortgagenotes payable and to facilitate borrowings under the Company’s secured creditfacilities (see Note 4). As a result, substantial amounts of the Company’sconsolidated assets are held in these wholly-owned special purpose entities andare subject to debt. Each special purpose entity is a separate legal entity andis the sole owner of its assets and liabilities. The assets of the specialpurpose entities are not available to pay, or otherwise satisfy obligations to,the creditors of any owner or affiliate of the special purpose entity. At March31, 2006 and December 31, 2005, assets totaling $1.6 billion and $1.4billion, respectively, were held and liabilities totaling $1.0 billion and$668.6 million, respectively, were owed by these special purpose entities andare included in the accompanying consolidated balance sheets.  All intercompany account balances and transactionshave been eliminated in consolidation.

 

For a complete listing of the Company’s significant accountingpolicies, please refer to Note 1 in the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2005.

 

6

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**Reclassifications**

 

Certain reclassifications have been made to prior period balances toconform to the current period presentation.

 

**Use of Estimates**

 

The preparation of financial statements in conformity with U.S.generally accepted accounting principles requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities atthe date of the financial statements and the reported amounts of revenues andexpenses during the reporting period. Although management believes itsestimates are reasonable, actual results could differ from those estimates.

 

**Restricted Cash and Escrow Deposits**

 

The Company classified restricted cashtotaling $1.0 million at both March 31, 2006 and December 31, 2005 and depositsin escrow totaling $525,000 at December 31, 2005 in deferredcosts and other assets, net in the accompanying consolidated balance sheets.  Therestricted cash balances represented amounts required to be maintained inescrow under certain of the Company’s debt agreements.

 

**New Accounting Standard**

 

Effective January 1, 2006, the Company adopted Statement of FinancialAccounting Standards No. 123 (revised 2004), “Share Based Payment” (SFAS No.123(R)), using the modified prospective application.  SFAS No. 123(R)requires entities to measure and recognize the cost of employee servicesreceived in exchange for an award of equity instruments based on the grant-datefair value of the award and applies to (i) new awards, (ii) awards modified,repurchased or cancelled after the adoption date, and (iii) any outstandingawards accounted for under Accounting Principles Board Opinion No. 25, “Accountingfor Stock Issued to Employees” (APB No. 25), for which all requisite servicehas not yet been rendered.  The adoption of SFAS No. 123(R) did not have amaterial impact on the Company’s financial statements since the Company electedto adopt, effective January 1, 2005, the fair value recognition provisions ofSFAS No. 123, “Accounting for Stock-Based Compensation,” for all unvestedstock-based awards outstanding at January 1, 2005 and for all new grants madein 2005.  Prior to January 1, 2005, the Company used the intrinsic-valuemethod prescribed by APB No. 25 and related interpretations in accounting forits stock-based compensation.  Under this method, no compensation expensewas recorded with respect to stock options as the options were granted at anexercise price equal to the estimated fair value of the underlying commonshares on the date of grant.  The fair value of the options was estimatedon the grant dates using the minimum-value method, which omits the assumptionof any volatility, because the Company was not a public entity on therespective grant dates.  Using the minimum-value method, the fair value ofthe stock options was zero on the date of grant.  Compensation expense forthe unvested stock options outstanding on January 1, 2005 continues to berecognized using the minimum-value method.

 

7

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**2.INVESTMENTS**

 

At March 31, 2006, Spirit Finance had investments in 719 real estateproperties, including 624 owned real estate properties with a gross acquisitioncost of $1,562.6 million and mortgage loans receivable representing 95properties with a carrying amount of $55.5 million.  At March 31, 2006, the Company also held fiveequipment loans with an aggregate outstanding balance of $8.3 million securedby equipment used in the operation of certain real estate properties owned bythe Company and $6.4 million of other loans receivable.  A substantial portion of the Company’sinvestments are pledged as collateral under debt obligations (see Note 4).

 

The Company’s investments are geographically dispersed throughout 41states.  Only one state, Texas (16%),accounted for 10% or more of the total dollar amount of Spirit Finance’sinvestment portfolio at March 31, 2006.

 

During the quarter ended March 31, 2006, the Company had the followingreal estate acquisition and loan origination activity (dollars in thousands):

 
| ** **                                   | ** ** | **Number of  Properties Owned or  Financed** | ** ** | **Dollar Amount of  Investments (a)** | ** ** |
|----------------------------------------------|------------|----------------------------------------------|------------|---------------------------------------|------------|
| Balance,  December 31, 2005                  |       | 684                                          |       | $                                     | 1,487,460  |   |
| Acquisitions  and loan originations          |       | 41                                           |       | 151,382                               |       |
| Sales (see  Note 9)                          |       | (6                                           | )          | (5,878                                | )          |
| Principal  payments and premium amortization |       | —                                       |       | (181                                  | )          |
| Balance,  March 31, 2006                     |       | 719                                          |       | $                                     | 1,632,783  |   |

 

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(a)   Thedollar amount of investments includes the gross cost of land, buildings andlease intangibles related to properties owned and the carrying amount of loansreceivable.

 

8

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The following table shows information regarding the diversification ofthe Company’s total investment portfolio among the different industries inwhich our customers operate as of March 31, 2006:

 
| ** **                                        | ** ** | **Number of  Properties  Owned or  Financed** | ** ** | **Total Dollar  Amount of  Investments (a)** | ** ** | **Percentage of  Dollar Amount of  Total Real Estate  Investments** | ** ** |
|---------------------------------------------------|------------|-----------------------------------------------|------------|----------------------------------------------|------------|---------------------------------------------------------------------|------------|
| Restaurants                                       |       | 463                                           |       | $                                            | 493,109    |                                                                | 30         | % |
| Specialty  retailer properties                    |       | 34                                            |       | 216,417                                      |       | 13                                                                  |       |
| Movie  theaters                                   |       | 24                                            |       | 201,439                                      |       | 13                                                                  |       |
| Educational  facilities                           |       | 20                                            |       | 153,466                                      |       | 10                                                                  |       |
| Automotive  dealers, parts and service facilities |       | 49                                            |       | 103,422                                      |       | 6                                                                   |       |
| Recreational  facilities                          |       | 8                                             |       | 102,116                                      |       | 6                                                                   |       |
| Industrial  properties                            |       | 11                                            |       | 63,072                                       |       | 4                                                                   |       |
| Supermarkets                                      |       | 19                                            |       | 62,785                                       |       | 4                                                                   |       |
| Convenience  stores/car washes                    |       | 27                                            |       | 53,063                                       |       | 3                                                                   |       |
| Distribution  facilities                          |       | 43                                            |       | 50,020                                       |       | 3                                                                   |       |
| Interstate  travel plazas                         |       | 4                                             |       | 37,535                                       |       | 2                                                                   |       |
| Call centers                                      |       | 2                                             |       | 33,987                                       |       | 2                                                                   |       |
| Health  clubs/gyms                                |       | 5                                             |       | 23,022                                       |       | 2                                                                   |       |
| Medical  offices                                  |       | 1                                             |       | 21,020                                       |       | 1                                                                   |       |
| Drugstores                                        |       | 9                                             |       | 18,310                                       |       | 1                                                                   |       |
| Total real  estate investments                    |       | 719                                           |       | $                                            | 1,632,783  |                                                                | 100        | % |

 

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(a)   Dollaramount of investments includes the gross cost of real estate, related leaseintangibles and the carrying amount of loans receivable.

 

The Company’s properties are leased to customers under long-termoperating leases that typically include one or more renewal options.  The weighted average remaining noncancelablelease term at March 31, 2006 is approximately 14 years. The leases aregenerally triple-net, which provides that the lessee is responsible for thepayment of all property operating expenses, including property taxes,maintenance and insurance; therefore, Spirit Finance is generally notresponsible for repairs or other capital expenditures related to theproperties.

 

**3. LEASE INTANGIBLES, NET**

 

Intangible assets represent the value of in-place leases associatedwith properties that the Company acquired subject to existing leases.  Total intangible assets are shown in theaccompanying consolidated balance sheets net of accumulated amortization of $1.9million at March 31, 2006 and $1.5 million at December 31, 2005.

 

9

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**4. DEBT**

 

**Secured Credit Facilities**

 

During 2005, the Company established an aggregate $300 millionrevolving secured credit facility with Citigroup Global Markets Realty Corpwhich matures in September 2006.  InNovember 2005, the Company established a $200 million revolving short-termsecured credit facility with Credit Suisse which matures in November 2006.  At March 31, 2006, there were no amountsoutstanding on the maximum aggregate borrowing capacity of $500 million underthese credit facilities.  Theseshort-term credit facilities are used to partially fund real estateacquisitions pending the issuance of long-term, fixed-rate debt.

 

The Company is subject to various financial and nonfinancial covenantsunder the secured credit facilities, including maintaining a minimum tangiblenet worth of $400 million, a maximum total debt to tangible net worth ratio anda minimum liquidity requirement of $15 million. As of March 31, 2006, Spirit Finance was in compliance with thesecovenants.  At March 31, 2006, realestate properties and loans receivable with an aggregate investment of $43.4million were pledged as collateral for future borrowings under the securedcredit facilities. Additionally, the member interest of one of the Company’sconsolidated special purpose entities is pledged as collateral under one of thesecured credit facilities.

 

**Mortgagesand Notes Payable**

 

The Company’s mortgages and notes payable aresummarized below (dollars in thousands):

 
| ** **                                                             | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|------------------------------------------------------------------------|------------|---------------------|------------|------------------------|------------|
|                                                                   |       |                |       |                   |       |
| Net-lease  mortgage notes payable:                                     |       |                |       |                   |       |
| Series 2005-1, Class A-1 amortizing  mortgage note, 5.05%, due 2020    |       | $                   | 177,810    |                   | $          | 179,778 |   |
| Series 2005-1, Class A-2 interest-only  mortgage note, 5.37%, due 2020 |       | 258,300             |       | 258,300                |       |
| Series 2006-1, Class A amortizing mortgage  note, 5.76%, due 2021      |       | 301,820             |       | —                 |       |
| Secured  fixed-rate mortgage notes payable:                            |       |                |       |                   |       |
| 8.44% Note, effective interest rate 6.62%,  balloon due 2010           |       | 16,569              |       | 16,617                 |       |
| 8.60% Note, effective interest rate 6.20%,  balloon due 2010           |       | 6,821               |       | 6,854                  |       |
| 9.02% Note, effective interest rate 6.19%,  balloon due 2010           |       | 6,392               |       | 6,420                  |       |
| 9.02% Note, effective interest rate 6.25%,  balloon due 2010           |       | 2,765               |       | 2,777                  |       |
| 5.78% Note, balloon due 2010                                           |       | 15,452              |       | 15,500                 |       |
| 6.50% Note, balloon due 2012                                           |       | 14,155              |       | 14,228                 |       |
| 5.90% Note, balloon due 2012                                           |       | 8,481               |       | 8,500                  |       |
| 5.40% Notes, balloons due 2014                                         |       | 35,076              |       | 35,202                 |       |
| 5.30% Note, balloon due 2015                                           |       | 38,856              |       | 38,993                 |       |
| 5.62% Note, balloon due 2015                                           |       | 35,513              |       | 35,629                 |       |
| 5.26% Note, balloon due 2015                                           |       | 30,001              |       | 30,108                 |       |
| 5.62% Note, balloon due 2015                                           |       | 6,202               |       | 6,232                  |       |
| 5.40% Note, balloon due 2015                                           |       | 4,768               |       | 4,785                  |       |
| 5.88% Note, balloon due 2016                                           |       | 42,692              |       | —                 |       |
| Unsecured fixed-rate  promissory note, 7.00%, due 2021                 |       | 2,237               |       | 2,257                  |       |
|                                                                   |       | 1,003,910           |       | 662,180                |       |
| Unamortized  debt premium                                              |       | 2,612               |       | 2,749                  |       |
| Total  mortgages and notes payable                                     |       | $                   | 1,006,522  |                   | $          | 664,929 |   |

 

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In March 2006, Spirit Finance issued, through a private placement,$301.8 million aggregate principal amount of net-lease mortgage notes, Series2006-1.  The Company had previouslyissued $441.3 million aggregate principal amount of net-lease mortgage notesunder this structure in July 2005.   Thetimely payment of scheduled interest and ultimate payment of principal on allseries of notes are guaranteed under insurance policies issued by AmbacAssurance Corporation.  The notes may beprepaid at any time, subject to a yield maintenance prepayment premium, and thenotes permit substitution of real estate investments from time to time subjectto certain conditions and limits.  Inaddition, the note structure allows for the addition of collateral to the pooland the issuance of additional series of notes secured by the increasedcollateral pool of properties.  Thenet-lease mortgage notes are secured by real estate properties and mortgagenotes receivable with an aggregate investment value of $1.1 billion at March31, 2006.

 

The Company’s secured fixed-rate mortgage notes payable, which areobligations of its consolidated special purpose subsidiaries as described inNote 1, contain various covenants customarily found in mortgage notes,including a limitation on Spirit Finance’s ability to incur additionalindebtedness on the underlying real estate collateral. As of March 31, 2006,Spirit Finance was in compliance with these covenants.  At March 31, 2006, the fixed-rate mortgagenotes payable were secured by real estate properties with an aggregateinvestment of $386 million.

 

The financing costs related to the establishment of the secured creditfacilities and mortgages and notes payable are deferred and amortized tointerest expense using either the effective interest or straight-line methodover the initial term of the related debt instrument.  Unamortized financing costs totaled $17.7million and $12.9 million at March 31, 2006 and December 31, 2005,respectively, and are included in deferred costs and other assets, net in theaccompanying consolidated balance sheets.

 

**5. DERIVATIVE AND HEDGING ACTIVITIES**

 

The Company uses interest rate derivative contracts (interest rateswaps) to manage its exposure to changes in interest rates on forecasted debttransactions. Spirit Finance does not enter into derivative contracts forspeculative or trading purposes.

 

In conjunction with the issuance of net-lease mortgage notes in March2006 (see Note 4), the Company settled three forward-starting interest rateswap agreements for an aggregate cash receipt from the swap counterparties inthe amount of $5.8 million because long-term rates had risen since theinception of the hedges.  This amount is being amortized to earnings,using the effective interest method, as a decrease in interest expense over aperiod of 15 years.

 

In conjunction with the issuance of net-lease mortgage notes payable inJuly 2005, the Company settled two forward-starting interest rate swapagreements.  The fair value of the interest rate swaps at the time ofsettlement was a loss totaling $15.0 million which is being amortized toearnings, using the effective interest method, as an increase to interestexpense over a period of 25 years.

 

11

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During the three months ended March 31, 2006, net amortization expensetotaled $223,000.  The net unamortized loss related to interest rate swapsincluded in accumulated other comprehensive loss in the accompanyingconsolidated balance sheets was $8.5 million and $14.6 million at March 31,2006 and December 31, 2005, respectively.

 

**6. STOCKHOLDERS’ EQUITY**

 

In February 2006, the Company completed a public offering of 13,800,000additional shares of common stock, receiving proceeds of $153.6 million, afterdeducting underwriters’ discounts and offering expenses.  During the first three months of 2006, theCompany granted 401,914 shares (net of forfeitures) of restricted stock toofficers and employees under its stock-based compensation plan.

 

**7. COMMITMENTS AND CONTINGENCIES**

 

At March 31, 2006, Spirit Finance had contractual commitments totaling$43.0 million for future improvements on properties the Company currently owns.These improvements include costs to be incurred on facilities during which thetenant’s business continues to operate without interruption and advances forthe construction of new facilities for which operations have notcommenced.  In accordance with theunderlying lease agreements, theseimprovements, the majority of which are anticipated to be completed during 2006and 2007, will result in increases in related contractual rent.

 

The Company may be subject to claims orlitigation in the ordinary course of business. At March 31, 2006, there were no outstanding claims against the Companythat are expected to have a material adverse effect on the Company’s financialposition or results of operations.

 

**8.STOCK-BASED COMPENSATION**

 

The following table summarizes stock option and nonvested restrictedstock award activity for the three months ended March 31, 2006:

 
| ** **                                                                                             | ** ** | **Stock Options** | ** ** | **Nonvested Restricted Stock Awards**            | ** ** |
|--------------------------------------------------------------------------------------------------------|------------|-------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                             | ** ** | **Shares**        | ** ** | **Weighted  Average  Exercise Price  per Share** | ** ** | **Shares** | ** ** | **Weighted  Average Grant  Date Fair Value  per Share** | ** ** |
| Outstanding  at December 31, 2005                                                                      |       | 1,290,000         |       | $                                                | 10.02      |   | 352,485 |   | $ | 11.22 |   |
| Granted                                                                                                |       | —            |       | —                                           |       | 404,718 |   | $ | 11.51 |   |
| Exercised/Vested                                                                                       |       | —            |       | —                                           |       | (72,517 | ) | $ | 10.64 |   |
| Forfeited                                                                                              |       | —            |       | —                                           |       | (2,804 | ) | $ | 11.44 |   |
| Outstanding  at March 31, 2006                                                                         |       | 1,290,000         |       | $                                                | 10.02      |   | 681,882 |   | $ | 11.45 |   |
| Options exercisable at March 31, 2006                                                                  |       | 593,000           |       | $                                                | 10.01      |   |   |   |   |   |
| Weighted  average remaining contractual life of options outstanding and exercisable at  March 31, 2006 |       | 7.7 years         |       |                                             |       |   |   |   |   |

 

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Each stock option has an exercise price equalto the market price (or estimated fair value, for options granted prior to theCompany becoming a public entity) of the Company’s common stock on the date ofgrant.  Stock options vest ratably eachyear over a three- or five-year period, subject to continued employment, andwill expire ten years after the date of the grant.  Compensation expense related to stock optionsgranted in 2005 is recognized on a straight-line basis over the stock optionvesting period.  For options granted duringthe three months ended March 31, 2005, the fair value of each option wasestimated on the date of grant using a Black-Scholes-Merton option-pricingmodel with the following weighted average assumptions: (i) expected life ofstock options of 6.5 years, (ii) expected volatility of 19.5%,(iii) dividend yield of 6.4%, and (iv) risk free rate of return of4.1%.  The weighed average grant datefair value of stock options granted during the three months ended March 31,2005 was $1.09 per option.  The aggregateintrinsic value of the stock options outstanding and exercisable as of March31, 2006 was approximately $2.8 million and $1.3 million, respectively.  No options were exercised during the threemonths ended March 31, 2006 and 2005.

 

Restricted stock awards, which are granted and valued based on the fairvalue of Spirit Finance common stock on the date of grant, vest ratably over athree- or five-year period.  In general,for restricted stock awards granted in 2005, 2004 and 2003, fifty percent ofthe restricted shares granted to employees vest solely over time and the otherfifty percent vest over time based on meeting Company performance criteria. Theperformance criteria include meeting total return targets each year (or on acumulative basis) over the full three- or five-year period.  Restricted shares granted to non-employee directorsand certain employees as well as restricted stock awards granted in 2006 vestsolely over time.  Compensation expenserelated to restricted stock awards granted in 2006 and 2005 is recognized on astraight-line basis over the vesting period. Compensation expense related torestricted stock awards granted prior to 2005 is recognized on a graded(accelerated) vesting schedule over the vesting period.  The weighted average grant date fair value ofrestricted stock granted during the three months ended March 31, 2006 and 2005was $11.51 and $11.81, respectively.  Thetotal fair value of restricted shares vested during the three months endedMarch 31, 2006 and 2005 was $772,000 and $513,000, respectively.  As of March 31, 2006, there was $6.7 millionof unrecognized compensation cost related to restricted stock awards which isexpected to be recognized over a weighted-average period of approximately fiveyears.

 

Stock-based compensation is included in general and administrativeexpenses in the consolidated statements of operations. The Company’s aggregatestock-based compensation expense, net of forfeitures, during the three monthsended March 31, 2006 and 2005 was $449,000 and $203,000, respectively.

 

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**9. DISCONTINUED OPERATIONS**

 

Periodically, Spirit Finance may sell real estate properties that donot meet its long-term strategic investment objectives.  Such properties are typically acquired inconjunction with the purchase of a portfolio of real estate properties.  The Company considers these occasional salesof real estate properties to be a part of its long-term operating businessstrategy of acquiring and holding a diversified real estate investmentportfolio; consequently, proceeds from the sales of real estate properties areexpected to be reinvested in additional real estate properties such that cashflows from ongoing operations are not negatively affected by sales ofindividual properties.  SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets,” requires that gains andlosses from any such dispositions of properties and all operations from theseproperties be reclassified as “discontinued operations” in the consolidatedstatements of operations.  As a result ofthis reporting requirement, each time a property is sold, previously reported “incomefrom continuing operations” will be restated to reclassify the operations ofsuch property into discontinued operations. This presentation has no impact on net income or cash flow.

 

During the three months ended March 31, 2006, the Company sold sixproperties for $5.6 million in net sales proceeds.  During the year ended December 31, 2005, theCompany sold 43 properties, including six properties sold in the first quarterof 2005 for $8.1 million in net sales proceeds. All of the current and prior period operations and net gains (losses)realized from these real estate dispositions have been reclassified intodiscontinued operations.

 

The following table sets forth the components of discontinuedoperations related to properties sold subsequent to January 1, 2005 (dollars inthousands):

 
| ** **                           | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------|------------|------------------------|------------|
| ** **                           | ** ** | **March 31,**          | ** ** |
| ** **                           | ** ** | **2006**               | ** ** | **2005** | ** ** |
|                                 |       |                   |       |   |   |
| Rental  revenues                     |       | $                      | 77         |   | $ | 1,197 |   |
|                                 |       |                   |       |   |   |
| Expenses:                            |       |                   |       |   |   |
| General and administrative           |       | 1                      |       | 7 |   |
| Depreciation and amortization        |       | 26                     |       | 277 |   |
| Interest                             |       | —                 |       | 205 |   |
| Total  expenses                      |       | 27                     |       | 489 |   |
|                                 |       |                   |       |   |   |
| Income from  discontinued operations |       | 50                     |       | 708 |   |
| Net losses  on sales of real estate  |       | (133                   | )          | (57 | ) |
| Total  discontinued operations       |       | $                      | (83        | ) | $ | 651 |   |

 

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**10. INCOME PER COMMON SHARE**

 

A reconciliation of the numerators anddenominators used in the computation of basic and diluted income per commonshare is as follows (dollars in thousands, except per share data):

 
| ** **                                                                                             | ** ** | **Three  Months Ended** | ** ** |
|--------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|
| ** **                                                                                             | ** ** | **March  31,**          | ** ** |
| ** **                                                                                             | ** ** | **2006**                | ** ** | **2005** | ** ** |
|                                                                                                   |       |                    |       |   |   |
| *Income available to common shareholders:*                                                             |       |                    |       |   |   |
| Continuing operations                                                                                  |       | $                       | 8,218      |   | $ | 6,168 |   |
| Discontinued operations                                                                                |       | (83                     | )          | 651 |   |
| Net income                                                                                             |       | $                       | 8,135      |   | $ | 6,819 |   |
|                                                                                                   |       |                    |       |   |   |
| *Weighted average shares:*                                                                             |       |                    |       |   |   |
| Weighted average outstanding common shares  used in the calculation of basic income per common share   |       | 76,413,164              |       | 67,023,019 |   |
| Effect of unvested restricted  stock                                                                   |       | 120,048                 |       | 236,990 |   |
| Effect of stock options (a)                                                                            |       | 209,748                 |       | 183,653 |   |
| Weighted average outstanding  common shares used in the calculation of diluted income per common share |       | 76,742,960              |       | 67,443,662 |   |

 

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(a)   Options to purchase 15,000 shares and 30,000shares of common stock were outstanding at March 31, 2006 and 2005, respectively,but were not included in the computation of diluted net income per common sharefor the three months ended March 31, 2006 and 2005, respectively, because theeffect was not dilutive.

 

**11. COMPREHENSIVE INCOME**

 

Comprehensive income is comprised of net income, adjusted for changesin unrealized gains or losses on derivative financial instruments.  The reconciliation of net income tocomprehensive income is as follows (dollars in thousands):

 
| ** **                                           | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------|------------|------------------------|------------|
| ** **                                           | ** ** | **March 31,**          | ** ** |
| ** **                                           | ** ** | **2006**               | ** ** | **2005** | ** ** |
|                                                 |       |                   |       |   |   |
| Net income  as reported                              |       | $                      | 8,135      |   | $ | 6,819 |   |
| Change in  net unrealized losses on cash flow hedges |       | 5,877                  |       | 1,836 |   |
| Net cash  flow hedge losses reclassified to earnings |       | 223                    |       | — |   |
| Comprehensive  income                                |       | $                      | 14,235     |   | $ | 8,655 |   |
|                                                      |            |                        |            |  |  |  |  |  |  |

 

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### **Item 2. Management’s Discussion and Analysis of Financial Condition and Resultsof Operations**

 

Management’s discussion and analysis of financial condition, liquidityand capital resources and results of operations are more clearly understoodwhen read in conjunction with the accompanying unaudited consolidated financialstatements and notes thereto as of March 31, 2006 and our audited financialstatements included in our Annual Report on Form 10-K for the year endedDecember 31, 2005. Undue reliance should not be placed upon historicalfinancial statements since they are not indicative of expected results ofoperations or financial condition for any future periods.

* *

**Overview**

 

Spirit Finance Corporation is a self-managed and self-advised REITformed as a Maryland corporation on August 14, 2003. Our objective is toacquire single tenant, operationally essential real estate throughout theUnited States to be leased on a long-term, triple-net basis to retail,distribution and service-oriented companies. Single tenant, operationallyessential real estate consists of properties that are free-standing, commercialreal estate facilities that are vital to the generation of our customers’ salesand profits. A triple-net lease generally requires the tenant to pay alloperating and maintenance costs, insurance premiums and real estate taxes onthe property. We may also selectively originate or acquire long-term,commercial mortgage loans that are integral to our strategy of providing acomplete solution of financing products to our customers.  Since we began purchasing real estate assetsin December 2003, we have completed over $1.7 billion in real estateacquisitions and mortgage and equipment loan investments.

 

As of March 31, 2006, our investment portfolio totaled $1.6 billion andrepresented 719 owned or financed properties geographically diversified across41 states.  Of our total investmentportfolio as of March 31, 2006, approximately $1.6 billion, or 96%, representedthe gross cost of real estate and related lease intangibles that we own and $70million, or 4%, represented mortgage, equipment and other loansreceivable.  Only one state, Texas (16%),accounts for 10% or more of the total dollar value of our real estate and loanportfolio.  Our properties are leased orfinanced to 109 customers operating in various industries.  Our three largest property types at March 31,2006 as a percentage of our total investment portfolio were restaurants (30%),specialty retailer properties (13%) and movie theaters (12%). As of March 31,2006, our 10 largest customers as a percentage of the total investmentportfolio were: Carmike Cinemas, Inc. (NASDAQ: CKEC); Casual Male Retail Group,Inc. (NASDAQ: CMRG); Dickinson Theatres, Inc.; CarMax, Inc. (NYSE: KMX); UnitedSupermarkets, Ltd.; Main Event Entertainment, LP, the operator of Main Eventfamily entertainment centers; PamCo, Inc., a petroleum distribution,convenience store and car wash operator; CBH2O, LP, the operator of CamelbackSki and Camelbeach Water Park; University of Phoenix (NASDAQ: APOL); and GanderMountain Company (NASDAQ: GMTN). These customers accounted for 34% of our totalinvestment portfolio at March 31, 2006, with no individual credit exposuregreater than 5.2% of the total investment portfolio.  In comparison, our top 10 customers as ofMarch 31, 2005 accounted for 53% of our total investment portfolio, with thelargest credit exposure at 6.2% of the total portfolio. As of March 31, 2006,essentially all of our properties were occupied, and the monthly lease and loanpayments were current.

 

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We generate our revenue and cash flow primarily by leasing our realestate properties to our customers and from interest income on our portfolio ofmortgage and equipment loans receivable. Our ability to generate positive cashflow will depend heavily on the difference between the income earned on ourassets and the interest expense incurred on our borrowings. We expect to growthrough continuing our business strategy of acquiring single tenant,operationally essential real estate principally through sale-leasebacktransactions.

 

Our ability to achieve our plan of continued growth is dependent onachieving a substantial volume of acquisitions at attractive yields withoutcompromising our underwriting criteria and our ability to effectively financethose acquisitions to meet our targeted yields. The current environment for net lease real estate acquisitions continuesto be highly competitive, and this competitive environment could limit both thenumber of properties we acquire and the yield on those acquisitions.  We may delay or decline opportunities if wefeel the rewards do not warrant the capital risk.  The timing of completing propertyacquisitions may vary significantly from quarter to quarter. In response tothese challenges, we are committed to seeking numerous potential investmentopportunities through our full-time acquisitions staff.  We continue to seek opportunities to combineour cost of capital and operational structure with efficient leveragestrategies to deliver competitively priced lease products to our customers. Weintend to fund future real estate investments primarily with borrowings on oursecured credit facilities and by raising funds through the issuance of debt andadditional equity securities.

 

**Liquidity and Capital Resources**

 

Our real estate investments are generally acquired using a combinationof cash and borrowings under our secured credit facilities or mortgage notespayable. As of March 31, 2006, we had a maximum aggregate borrowing capacity of$500 million under our two secured credit facilities and no amounts wereoutstanding under the facilities.

 

During the first three months of 2006, we acquired or financed 41single tenant commercial real estate properties through various transactionstotaling $151.4 million using a combination of proceeds from newborrowings and an equity offering.  Wealso used net cash proceeds from the sales of six real estate properties,totaling $5.6 million for the three months ended March 31, 2006, toacquire new properties.  At March 31,2006, we had contractual commitments totaling $43.0 million for futureimprovements on properties we currently own. In accordance with the underlying lease agreements, these improvements,the majority of which are anticipatedto be completed during 2006 and 2007, will result in increases in relatedcontractual rent.  In addition, asof May 5, 2006, we had identified for review potential investment opportunitiesof more than $3.4 billion.  Weconsider investments as under review when we have signed a confidentialityagreement, we have exchanged financial information or we or our advisors are incurrent and active negotiations. Investments under review are generally subject to significant change,and the timing of completing any such transactions, which is dependent on thecompletion of due diligence and other factors that may not be under ourcontrol, may vary significantly from quarter to quarter.  After further due diligence, we may decidenot to pursue any or all of these transactions, we may not be the successfulbidder on all of the transactions we pursue and there is no assurance that wewill ultimately complete any of the real estate acquisitions.

 

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We primarily generate our revenue and cash flow by leasing our realestate properties to our customers. We generally offer long-term leases thatprovide for payments of base rent with scheduled increases, increases based onfuture changes in the Consumer Price Index and/or contingent rent based on apercentage of the lessee’s gross sales. At March 31, 2006, our weighted average noncancelable remaining initiallease term was approximately 14 years, and our leases generally provide for oneor more renewal options.  Our leases aregenerally triple-net, which provides that the lessee is responsible for thepayment of all property operating expenses, such as insurance, real estatetaxes and repairs and maintenance including any increased operating expensesthat may result from recent increases in oil prices.  Since our tenants generally pay the propertyoperating and maintenance costs, we do not believe we will incur significantcapital or operating expenditures on our properties.

 

Our operating costs include interest expense on our debt and thegeneral and administrative costs of acquiring and managing our real estateinvestment portfolio, such as the compensation and benefit costs of ouremployees, professional fees such as legal and portfolio servicing costs andoffice expenses such as rent and other office operating costs.  Noncash expenses include depreciation expenseon the buildings and improvements in our real estate portfolio, stock-basedcompensation (included in general and administrative expenses) and amortizationof deferred financing costs (included in interest expense).  After payment of expenses, our cash flow fromoperating activities totaled $19.7 million for the three months endedMarch 31, 2006 as compared to $8.5 million for the same period in 2005.

 

We intend to make regular quarterly distributions to our stockholdersso that we distribute each year all or substantially all of our REIT taxableincome to avoid paying corporate level federal income tax and excise tax on ourearnings.  During the initial years ofour operations, the distributions we pay may include a return of capital.  Cash for future distributions is expected tobe generated from operations, although we may also borrow funds to makedistributions.  Our ability to paydistributions will depend on, among other things, our actual results ofoperations, which are dependent primarily on our receipt of payments from ourleases and loans with respect to our real estate investments. During the threemonths ended March 31, 2006, we declared dividends of $0.21 per share or $17.3million. Dividends paid during the quarter totaled $14.3 million.

 

In order to achieve significant growth in revenues and net income, wewill need to make substantial real estate acquisitions, which will in turnrequire that we obtain significant additional debt or equity funding beyond ourcurrently committed external sources of liquidity.  In February 2006, we completed a publicoffering of 13.8 million additional shares of common stock (including theexercise of an underwriters’ overallotment option of 1.8 million shares) whichraised aggregate proceeds of $153.6 million, after deducting the underwriters’discounts and offering expenses.  We used$110.3 million of the proceeds of the offering to pay down borrowings andaccrued interest outstanding under one of our secured credit facilities.

 

We generally use secured credit facilities to partially fund thepurchase of real estate pending the issuance of long-term, fixed-ratedebt.  During 2005, we established anaggregate $300 million revolving secured credit facility with Citigroup GlobalMarkets Realty Corp. which matures in September 2006.  Borrowings under $200 million of the facilityrequire monthly payments of

 

18

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interest indexed to one-month LIBOR plus 1.50%.  Borrowings under the remaining $100 millionportion of the facility require monthly payments of interest based on one-monthLIBOR plus 1.50% - 2.75%, depending on amounts borrowed. In November 2005, weestablished a $200 million revolving short-term secured credit facility withCredit Suisse which matures in November 2006. Borrowings under this facility require monthly payments of interestindexed to one-month LIBOR plus 1.25%. The facilities also provide for a non-use fee which may be incurredunder certain circumstances.  Theinterest rates on these borrowings are subject to increase in the event weexceed a specified leverage amount. At March 31, 2006, the one-month LIBOR ratewas 4.83%.

 

In March 2006, we issued, through a private placement, $301.8 millionaggregate principal amount of net-lease mortgage notes, Series 2006-1.  This was the second issuance under our masterfunding structure which was created in 2005. This private placement consisted of fully amortizing notes bearinginterest at an annual rate of 5.76% due in 2021.  In July 2005, we issued the first series ofnotes consisting of $183 million of Class A-1 fully amortizing notesbearing interest at an annual rate of 5.05% due in 2020 and $258.3 millionof Class A-2 interest-only notes bearing interest at an annual rate of 5.37%due in 2020.  At March 31, 2006, thebalance of the net-lease mortgage notes totaled $737.9 million and was securedby a collateral pool in excess of $1 billion in real estate assets representing578 commercial properties.  The notes arerated AAA/Aaa by Standard & Poor’s Ratings Services and Moody’s InvestorsService, Inc., respectively.  The timelypayment of scheduled interest and ultimate payment of principal on the notesare guaranteed under insurance policies issued by Ambac AssuranceCorporation.  The notes may be prepaid atany time, subject to a yield maintenance prepayment premium, and the notespermit substitution of real estate collateral from time to time subject tocertain conditions and limits. In addition, the note structure allows for theaddition of collateral to the pool and the issuance of additional series ofnotes secured by the increased collateral pool of properties.  We used the net proceeds from the issuance ofthe Series 2006-1 notes to repay $160.4 million of the balancesoutstanding under our secured credit facilities.  The remaining proceeds were used to providefunds for real estate acquisitions.

** **

As described further in the Notes to Consolidated Financial Statementsand Quantitative and Qualitative Disclosures About Market Risk, we use interestrate swaps to manage our exposure to changes in interest rates until we can putinto place our long-term debt arrangements. In conjunction with the issuance of the second series of net-leasemortgage notes, we settled three forward-starting interest rate swap agreementsin March 2006 for an aggregate cash receipt from the swap counterpartiesbecause long-term rates had increased since the inception of the swaps.  Accordingly, the fair value of the interestrate swaps at the time of settlement, totaling $5.8 million, is being amortizedto earnings as a decrease in interest expense over a 15-year period such thatthe effective interest rate of the net-lease mortgage notes approximates thelong-term rates in effect when the swaps were placed.

 

During the first three months of 2006, we also entered into newlong-term financing totaling $42.8 million in conjunction with a realestate acquisition. At March 31, 2006, we did not have any amounts outstandingunder our variable-rate secured credit facilities and the total carrying amountof our fixed-rate debt was $1.0 billion. Assets with an aggregateinvestment value of

 

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$43.4 million and $1.5 billion were pledged as collateral forfuture borrowings under the secured credit facilities and all fixed-rate debt,respectively.

 

Over the long term, we expect lease rates to fluctuate commensuratewith changes in long-term interest rates. In the near-term, we may experience aperiod where long-term interest rates on future borrowings rise faster thanlease rates, which may reduce our cash flow. Therefore, in order to limit the effects of changes in interest rates onour operations, we seek to match-fund our long-term, fixed-rate assets withlong-term, fixed-rate liabilities.  AtMarch 31, 2006, 89% of our investment portfolio was match-funded with long-termdebt.

 

We are subject to various customary operating and financial covenantsunder the mortgage notes payable and the secured credit facilities. Themortgage notes payable and secured credit facilities include a limitation onour ability to incur additional indebtedness on the underlying secured realestate. Our secured credit facilities also include, among other requirements, aminimum liquidity requirement of $15 million and a minimum tangible networth requirement of $400 million.  As ofMarch 31, 2006, we were in compliance with all of our debt covenants andrequirements.

 

In the short-term, we believe that cash provided by our operatingactivities and the liquidity available on our secured credit facilities will besufficient to meet our liquidity needs for the operating and financingobligations and commitments of our existing real estate investmentportfolio.  On a long-term basis, weintend to use a combination of debt and equity financing methods to accomplishour goal of acquiring real estate while maintaining our borrowings at atargeted leverage ratio, defined as the ratio of our total debt to totalassets, of approximately 65%. At March 31, 2006, our leverage ratio was 57%. Weintend to obtain additional unsecured and/or secured financing through varioussources including banks, institutional investors and other lenders. We may alsoobtain lines of credit, bridge loans, warehouse facilities and other debtarrangements or may incur debt in the form of publicly or privately placed debtinstruments.  We intend to usesubstantially all of our properties to secure our borrowings under our variousdebt financings.  Our ability to achievecontinuous real estate investment growth will also depend on our ability toraise additional equity capital.

 

**Results of Operations**

 

Net income for the three months ended March 31, 2006 was$8.1 million, or $0.11 per diluted share, based on 76.7 millionweighted average shares of common stock outstanding.  Net income for the three months ended March31, 2005 was $6.8 million, or $0.10 per diluted share, based on67.4 million weighted average shares of common stock outstanding.  The increase in net income is reflective ofthe growth in our investment portfolio. Since we began purchasing real estate assets in December 2003, we havecompleted over $1.7 billion in real estate acquisitions and mortgage andother loan investments, of which $151.4 million was completed during the firstquarter of 2006 as compared to $38.0 million completed during the first quarterof 2005.  The increase in the number ofweighted average shares outstanding between 2006 and 2005 is primarily theresult of our public offering of 13.8 million common shares completed onFebruary 1, 2006.

 

Periodically, we may sell real estate properties that do not meet ourlong-term strategic investment objectives. Such properties are typically acquired in conjunction with theacquisition

 

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of a portfolio of real estate properties.  We consider these occasional sales of realestate properties to be an integral part of our long-term operating businessstrategy in acquiring a diversified real estate investment portfolio;consequently, proceeds from the sales of real estate properties are expected tobe reinvested in additional properties such that cash flows from ongoingoperations are not negatively affected by sales of individual properties. Inaddition, we consider the combined effect of income from continuing operationsand discontinued operations in our evaluation of our ability to pay dividends.

 

Each time properties are sold, current accounting principles requirethat gains and losses from any such dispositions and all operations from theproperties previously reported as part of “income from continuing operations”to be reclassified to “discontinued operations.”  This reclassification and presentation has noimpact on net income or cash flows. Income from continuing operations for the three months ended March 31,2006 was $8.2 million, or $0.11 per diluted share.  Income from continuing operations for thethree months ended March 31, 2005 was $6.2 million, or $0.09 per dilutedshare.

 

We sold six properties during the first three months of 2006.  We sold 43 properties during 2005, includingsix properties in the first quarter.  Theloss from discontinued operations totaled $83,000 for the three months endedMarch 31, 2006 and as compared with income from discontinued operations of$651,000 for the three months ended March 31, 2005.  Included in income (loss) from discontinuedoperations were net losses on sales of real estate of $133,000 and $57,000during the three months ended March 31, 2006 and 2005, respectively.

 

The following discussion includes the results of both continuing anddiscontinued operations as summarized in the following table (dollars inthousands):

 
| ** **                          | ** ** | **Three Months Ended March 31,** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|
| ** **                          | ** ** | **Continuing Operations**        | ** ** | **Discontinued  Operations** | ** ** | **Total Operations** | ** ** |
| ** **                          | ** ** | **2006**                         | ** ** | **2005** | ** ** | **2006** | ** ** | **2005** | ** ** | **2006** | ** ** | **2005** | ** ** |
| Revenues                            |       | $                                | 34,423     |   | $ | 14,428 |   | $ | 77 |   | $ | 1,197 |   | $ | 34,500 |   | $ | 15,625 |   |
| General and administrative expenses |       | 4,282                            |       | 2,587 |   | 1 |   | 7 |   | 4,283 |   | 2,594 |   |
| Depreciation and amortization       |       | 8,226                            |       | 3,112 |   | 26 |   | 277 |   | 8,252 |   | 3,389 |   |
| Interest                            |       | 13,697                           |       | 2,561 |   | — |   | 205 |   | 13,697 |   | 2,766 |   |
|                                     |            |                                  |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

***Revenues***

 

Total revenues increased to $34.5 million for the first quarter of2006 from $15.6 million for the first quarter of 2005.  The increase in revenues is the result of thegrowth in our investment portfolio primarily due to property acquisitions madeover the past year.  Because theacquisitions of properties tend to occur later in a quarter, the full earningsimpact of acquisitions made in the first quarter of 2006 will not begin to berealized until the second quarter.

 

Almost 94% of the total revenues generated in the first quarter 2006were rental revenues from real estate properties we own and lease to ourcustomers.  During the three months endedMarch 31, 2006, no single lessee represented more than 6% of totalrevenues.  Our long-term leases

 

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generally provide for payments of base rents with scheduled increases,increases based on future changes in the Consumer Price Index (CPI) and/orcontingent rent based on a percentage of the lessee’s gross sales.  For leases with scheduled rent increases,rental revenue is recognized on a straight-line basis, net of a valuationallowance, to produce a constant periodic rent over the term of theleases.  Rental revenue and the relatedweighted average real estate investments are presented in the following table(dollars in thousands):

 
| ** **                                                        | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                        | ** ** | **March 31,**          | ** ** |
| ** **                                                        | ** ** | **2006**               | ** ** | **2005** | ** ** |
| Rental  revenues, excluding the adjustment for straight-line rent |       | $                      | 32,004     |   | $ | 14,093 |   |
| Straight-line  rent, net                                          |       | 359                    |       | 247 |   |
| Total rental  revenues                                            |       | $                      | 32,363     |   | $ | 14,340 |   |
|                                                              |       |                   |       |   |   |
| Weighted average  real estate investments                         |       | $                      | 1,493,023  |   | $ | 642,779 |   |

 

The weighted average yield on our real estate acquisitions was lowerfor the first quarter of 2006 as compared to the same period in 2005,reflecting market lease rate compression and increased investments inproperties leased to companies having higher credit profiles.  Investments in properties leased to companieswith higher credit profiles meet our total target rate of return requirementsas we were able to obtain long-term borrowings at lower rates ranging from5.26% to 5.90%, reflective of the higher credit profiles.

 

During the three months ended March 31, 2006 and 2005, interest incomeon mortgage, equipment and other loans receivable totaled $1.5 million and$0.9 million, respectively.  Approximately84% of the interest income in 2006 was generated by mortgage loans to threeborrowers.  The increase in interestincome in 2006 over 2005 was primarily the result of the origination of over$30.0 million of new loans since March 31, 2005.

 

Other interest income represents income generated on interest-bearingcash accounts pending investment in real estate.  Other interest income totaled $638,000 and$355,000 during the three months ended March 31, 2006 and 2005, respectively.

 

***Expenses***

*** ***

General and administrative expenses include employee-related expenses,professional fees, portfolio servicing costs and office and otherexpenses.  Employee-related expensesincreased primarily as a result of our real estate investment activity as weincreased our work force from 27 employees at March 31, 2005 to 38 at March 31,2006 to support our growth. The large increase in the number of properties inour portfolio has also resulted in increased portfolio servicing costs andhigher insurance costs; these costs will continue to grow proportionately withthe growth in our investment portfolio.

 

Depreciation and amortization expense relates primarily to real estateproperties and related lease intangibles. Depreciation and amortization expensewas $8.3 million for the three months ended March 31, 2006 as compared to $3.4million in the same period in 2005. The increase over 2005 was primarily theresult of the increase in the real estate investment portfolio.

 

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Interest expense for the three months ended March 31, 2006 totaled$13.7 million, including $1.3 million associated with theamortization of deferred financing costs, debt insurer premiums and theamortization of interest rate swap settlement costs.  For the three months ended March 31, 2005,interest expense totaled $2.8 million, including $0.6 million associatedwith the amortization of related deferred financing costs. The increase ininterest expense is primarily attributable to higher weighted average outstandingdebt of approximately $896.9 million during the first quarter of 2006 ascompared to approximately $149.5 million during the same period in 2005,primarily resulting from the growth in our investment portfolio, partiallyoffset by a decrease in our effective interest rate.  Our effective interest rate was lowerprimarily due to the lower effective rate on our fixed-rate debt outstandingduring the first quarter of 2006 as compared to the variable-rate debt outstandingduring the first quarter of 2005 and higher deferred financing costs on oursecured credit facility during the first quarter of 2005.

 

Due to the expansion of our portfolio operations as a result of ourcontinued real estate investment activity, our general and administrativeexpenses are expected to continue to increase during 2006; however, general andadministrative expenses calculated as a percent of total revenues are expectedto decrease.  Depreciation andamortization expense is also expected to increase in future periods with futurereal estate acquisition activity. Interest expense is expected to increase in future periods as wecontinue to make investments in real estate funded with both short- andlong-term debt financing.

 

**Reconciliation of Non-GAAP Financial Measures**

 

We use certain measures of historical or future financial performancethat are different from measures calculated and presented in accordance withU.S. generally accepted accounting principles (“GAAP”).  One such non-GAAP financial measure is fundsfrom operations (“FFO”). We use FFO as a measure of our performance as a REITbecause we believe this measure provides investors with an understanding of ouroperating performance, cash flows and profitability.

 

We calculate FFO consistent with the definition used by the NationalAssociation of Real Estate Investment Trusts (“NAREIT”), adopted to promote anindustry-wide standard measure of REIT operating performance.  We use FFO as a measure of performance toadjust for certain non-cash expenses such as depreciation and amortizationbecause accounting for real estate assets under GAAP implicitly assumes thatthe value of real estate assets diminishes predictably over time. We discloseFFO to facilitate comparisons between Spirit Finance and other REITs, althoughother REITs may not calculate FFO in accordance with the NAREIT definition and,accordingly, our FFO may not be directly comparable to FFO reported by otherREITs.

 

FFO should not be considered an alternative to net income determined inaccordance with GAAP as a measure of profitability, nor should it be consideredan equivalent to cash flows provided by operating activities determined inaccordance with GAAP as a measure of liquidity. Spirit Finance’s statements ofoperations and cash flows include disclosures of interest expense, capitalexpenditures and items excluded from the calculation of FFO, all of whichshould be considered when evaluating our performance.

 

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FFO totaled $16.5 million and $10.2 million for the three monthsended March 31, 2006 and 2005, respectively, including $359,000 and $247,000,respectively, representing the adjustment between scheduled rents and rentalrevenue recognized on a straight-line basis.

 

A reconciliation of net income calculated in accordance with GAAP toFFO is presented in the following table (dollars in thousands):

 
| ** **                                        | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------|------------|------------------------|------------|
| ** **                                        | ** ** | **March 31,**          | ** ** |
| ** **                                        | ** ** | **2006**               | ** ** | **2005** | ** ** |
| Net income                                        |       | $                      | 8,135      |   | $ | 6,819 |   |
| Portfolio  depreciation and amortization expense: |       |                   |       |   |   |
| Continuing operations                             |       | 8,184                  |       | 3,082 |   |
| Discontinued operations                           |       | 26                     |       | 277 |   |
| Net losses  on sales of real estate               |       | 133                    |       | 57 |   |
| FFO                                               |       | $                      | 16,478     |   | $ | 10,235 |   |

 

**Forward-Looking Statements**

 

Some of the statements in this report constitute forward-lookingstatements. Forward-looking statements relate to expectations, beliefs,projections, future plans and strategies, anticipated events or trends andsimilar expressions concerning matters that are not historical facts. In somecases, forward-looking statements can be identified by terms such as “anticipate,”“believe,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,”“should,” “will” and “would” or the negative of these terms or other similarterminology.

 

The forward-looking statements are based on our beliefs, assumptionsand expectations of our future performance, taking into account all informationcurrently available to us. These beliefs, assumptions and expectations canchange as a result of many possible events or factors, not all of which areknown to us or are within our control. If a change occurs, our business,financial condition, liquidity and results of operations may vary materiallyfrom those expressed in our forward-looking statements. The following are someof the factors that could cause actual results to vary from our forward-lookingstatements:

 

•                  changes in our industry,interest rates or general economic conditions;

•                  general volatility of thecapital markets and the market price of our common stock;

•                  changes in our businessstrategy or development plans;

•                  availability and terms ofadditional capital;

•                  failure to maintain ourstatus as a REIT;

•                  availability of suitableproperties to acquire at favorable prices and our ability to rent thoseproperties at favorable rates;

•                  defaults by tenants on ourleases;

•                  our ability to renewleases with tenants at the expiration of their lease term or otherwise re-leasethose properties to suitable new tenants;

•                  availability of qualifiedpersonnel and our ability to retain our key management personnel;

 

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•                  changes in, or the failureor inability to comply with, government regulation;

•                  the extent and nature ofour competition; and

•                  other factors referenced in our annual reporton Form 10-K, including those set forth under the captions “Risk Factors” and “Management’sDiscussion and Analysis of Financial Condition and Results of Operations.”

 

These forward-looking statements speak only as of the date of thisreport. We expressly disclaim any obligation or undertaking to disseminate anyupdates or revisions to any forward-looking statement contained in this reportto reflect any change in our expectations with regard to the statements or anychange in events, conditions or circumstances on which any such statement isbased.

 

**Item 3. Quantitative and Qualitative Disclosures About Market Risk**

 

Spirit Finance is exposed to variousfinancial market risks, especially interest rate risk. Interest rates andcredit risk influence our performance more so than does inflation. Changes ininterest rates do not necessarily correlate with inflation rates or changes ininflation rates.  We generally offerleases that provide for payments of base rent with scheduled increases,increases based on changes in the Consumer Price Index and/or contingent rentbased on a percentage of the lessee’s gross sales to help mitigate the effectof inflation.  Because the properties inour portfolio are generally leased to tenants under triple-net leases where thetenant is responsible for property costs and expenses, this tends to reduce ourexposure to rising property expenses due to inflation.

 

Interest rates are highly sensitive to manyfactors, including governmental monetary policies, domestic and global economicand political conditions, and other factors which are beyond our control. Ouroperating results will depend heavily on the difference between the incomeearned on our assets and the interest expense incurred on our borrowings.Decreases in interest rates may lead to additional competition for theacquisition of real estate due to a reduction in desirable alternateincome-producing investments. Increased competition for the acquisition of realestate may lead to a decrease in the yields on real estate we have targeted foracquisition. In such circumstances, if we are not able to offset the decreasein yields by obtaining lower interest costs on our borrowings, our results ofoperations will be adversely affected. Significant increases in interest ratesmay also have an adverse impact on our earnings if we are unable to acquirereal estate with rental rates high enough to offset the increase in interestrates on our borrowings.

 

In a rising interest rate environment and/or economic downturn,defaults may increase and result in credit losses which may adversely affectour liquidity and operating results; through March 31, 2006, we have notexperienced any significant credit losses. In a decreasing interest rate environment, borrowers are generally morelikely to prepay their loans in order to obtain financing at lower interestrates; however, our investments in mortgage loans receivable are subject tosignificant restrictions on prepayment in the form of yield maintenanceprovisions or other prepayment penalties which provide us with a certain levelof yield protection in a decreasing interest rate environment.

 

Our interest rate risk management policy seeks to limit the effects ofchanges in interest rates on our operations. One objective of our interest rate risk management policy is to matchfund fixed-

 

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rate assets with fixed-rate liabilities and variable-rate assets withvariable-rate liabilities. As part of this strategy, we have used and maycontinue to use derivative contracts, such as interest rate swaps, to manageour interest rate risk.  We do not enterinto derivative contracts for speculative or trading purposes. We generallyintend to utilize derivative instruments to hedge interest rate risk on ourliabilities and not use derivatives for other purposes, such as hedgingasset-related risk, as such hedging transactions may generate income which isnot qualified income for purposes of maintaining our REIT status. Our hedgingstrategy is monitored by the audit committee of our board of directors.

 

At March 31, 2006, our fixed-rate debt totaled $1.0 billion as comparedto $664.9 million at December 31, 2005. Using a discounted cash flow analysis based on estimates of the amountand timing of future cash flows, market rates and credit spreads, the estimatedfair value of the fixed-rate debt was approximately $35.4 million belowits carrying amount at March 31, 2006. Our mortgage loans receivable are also fixed-rate instruments.  At March 31, 2006 and December 31, 2005, ourmortgage loans receivable (excluding equipment loans) totaled$55.5 million and $55.6 million, respectively.  Using a discounted cash flow analysis, theestimated fair value of our fixed-rate mortgage loans receivable exceeded thecarrying amount by approximately $332,000 at March 31, 2006.  It is our intent to hold our fixed-ratemortgage loans receivable and our fixed-rate mortgages and notes payable tomaturity; accordingly, changes in market interest rates impact the fair valueof these financial instruments but have no impact on interest recognized orcash flows.

 

We use variable-rate debt to fund acquisitions on a short-term basisuntil our long-term debt strategies can be implemented.  During the three months ended March 31, 2006,the weighted average outstanding balance of our variable-rate debt, which wasbased on spreads over one-month LIBOR, was $155.1 million.  Excluding amortization of deferred financingcosts, this variable rate indebtedness had a weighted average interest rate of6.0%. During the first quarter of 2006, one-month LIBOR increased approximately44 basis points. Had the weighted average interest rate been 100 basis pointshigher (lower) during the quarter, our net income for the quarter would havebeen reduced (increased) by approximately $388,000.  This amount was determined by considering theimpact of a hypothetical interest rate change on our average variable-rateborrowings outstanding during the first quarter of 2006 and assumes no otherchanges in our capital structure.

 

As of December 31, 2005, Spirit Finance had three outstandingforward-starting interest rate swap agreements with a total notional amount of$225 million.  In March 2006, theanticipated long-term debt was issued, and the interest rate swaps were settledfor an aggregate cash receipt from the swap counterparties because long-termrates had risen since the inception of the swaps.  The fair value of the interest rate swaps atthe time of settlement, totaling $5.8 million, was recorded in “Accumulatedother comprehensive income (loss)” and is being amortized to earnings as adecrease to interest expense over a period of 15 years. The aggregateunamortized balance of these and all prior settled interest rate swaps at March31, 2006 was $8.5 million. Because the anticipated interest payments areconsidered probable, the hedges continue to be effective.

 

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**Item 4. Controls and Procedures**

 

We have adopted and maintain disclosurecontrols and procedures that are designed to ensure that information requiredto be disclosed in our reports under the Securities Exchange Act of 1934 isrecorded, processed, summarized and reported within the time periods requiredunder the Securities and Exchange Commission’s rules and forms and that theinformation is gathered and communicated to our management, including our ChiefExecutive Officer and Chief Financial Officer, as appropriate, to allow fortimely decisions regarding required disclosure. In designing and evaluating thedisclosure controls and procedures, management recognizes that any controls andprocedures, no matter how well designed and operated, can provide onlyreasonable assurance of achieving the desired control objectives, andmanagement is required to apply its judgment in evaluating the cost-benefitrelationship of possible controls and procedures.

 

As required by Rule 13a-15(b) of the ExchangeAct, we carried out an evaluation, under the supervision and with theparticipation of management, including our Chief Executive Officer and ChiefFinancial Officer, of the effectiveness of the design and operation of ourdisclosure controls and procedures as of the end of the period covered by thisreport.  Based on the foregoing, ourChief Executive Officer and Chief Financial Officer concluded that ourdisclosure controls and procedures were effective at the reasonable assurancelevel.

 

No change in our internal control overfinancial reporting occurred during our most recent fiscal quarter that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

 

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**PART II – OTHER INFORMATION**

** **

**Item 1. Legal Proceedings**

 

We are not a party to any material litigationor legal proceedings which, in the opinion of management, individually or inthe aggregate, would have a material adverse effect on our results ofoperations or financial condition.

 

**Item 1A. Risk Factors**

 

None.

 

**Item 2. Unregistered Sales of Equity Securities and Use of Proceeds**

 

Not Applicable.

 

**Item 3. Defaults Upon Senior Securities**

 

Not Applicable.

 

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

 

None.

 

**Item 5. Other Information**

 

None.

 

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**Item 6. Exhibits**

 
| **Exhibit  No.** | ** ** | **Description**                                                                                                                                                                                                 |
|------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |       |                                                                                                                                                                                                            |
| 1.1              |       | Underwriting Agreement among Spirit Finance Corporation and Citigroup  Global Markets Inc. and Banc of America Securities LLC, as representatives of  the several underwriters, dated January 26, 2006.(1) |
|             |       |                                                                                                                                                                                                            |
| 4.1              |       | Amended and Restated Master Indenture dated as of March 17, 2006,  between Spirit Master Funding, LLC and Citibank, N.A., as indenture  trustee.(2)                                                             |
|             |       |                                                                                                                                                                                                            |
| 4.2              |       | Series 2006-1 Indenture Supplement dated as of March 17, 2006,  between Spirit Master Funding, LLC, Spirit Master Funding II, LLC and  Citibank, N.A., as indenture trustee.(2)                                 |
|             |       |                                                                                                                                                                                                            |
| 10.1             |       | Amended and Restated Property Management and Servicing Agreement  dated as of March 17, 2006, among Spirit Master Funding, LLC, Spirit Finance  Corporation and Midland Loan Services, Inc.(2)                  |
|             |       |                                                                                                                                                                                                            |
| 12.1             |       | Computation of Ratio of Earnings to Fixed Charges.                                                                                                                                                              |
|             |       |                                                                                                                                                                                                            |
| 31.1             |       | Certification of Chief Executive Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 31.2             |       | Certification of Chief Financial Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 32.1             |       | Certification of Chief Executive Officer pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 32.2             |       | Certification of Chief Financial Officer pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |

 

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(1)          Incorporated by reference to the Registrant’sForm 8-K dated January 26, 2006, filed January 31, 2006.

 

(2)          Incorporated by reference to the Registrant’sForm 8-K dated March 17, 2006, filed March 21, 2006.

 

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**SIGNATURES**

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, the registrant has duly caused this report tobe signed on its behalf by the undersigned thereunto duly authorized.

 
|                | SPIRIT FINANCE CORPORATION |
|---------------------|----------------------------|
|                |                       |
| Date: May 10,  2006 | By:                        |  /s/  Christopher H. Volk |   |
|                |                       | Christopher H. Volk |
|                |                       | Chief Executive Officer and President |
|                |                       |   |
|                | By:                        | /s/ Catherine Long |   |
|                |                       | Catherine Long |
|                |                       | Chief Financial Officer, Senior Vice  President and Treasurer |

 

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**EXHIBIT INDEX**

 
| **Exhibit  No.** | ** ** | **Description**                                                                                                                                                                                                 |
|------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |       |                                                                                                                                                                                                            |
| 1.1              |       | Underwriting Agreement among Spirit Finance Corporation and Citigroup  Global Markets Inc. and Banc of America Securities LLC, as representatives of  the several underwriters, dated January 26, 2006.(1) |
|             |       |                                                                                                                                                                                                            |
| 4.1              |       | Amended and Restated Master Indenture dated as of March 17, 2006,  between Spirit Master Funding, LLC and Citibank, N.A., as indenture  trustee.(2)                                                             |
|             |       |                                                                                                                                                                                                            |
| 4.2              |       | Series 2006-1 Indenture Supplement dated as of March 17, 2006,  between Spirit Master Funding, LLC, Spirit Master Funding II, LLC and  Citibank, N.A., as indenture trustee.(2)                                 |
|             |       |                                                                                                                                                                                                            |
| 10.1             |       | Amended and Restated Property Management and Servicing Agreement  dated as of March 17, 2006, among Spirit Master Funding, LLC, Spirit Finance  Corporation and Midland Loan Services, Inc.(2)                  |
|             |       |                                                                                                                                                                                                            |
| 12.1             |       | Computation of Ratio of Earnings to Fixed Charges.                                                                                                                                                              |
|             |       |                                                                                                                                                                                                            |
| 31.1             |       | Certification of Chief Executive Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 31.2             |       | Certification of Chief Financial Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 32.1             |       | Certification of Chief Executive Officer pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |
|             |       |                                                                                                                                                                                                            |
| 32.2             |       | Certification of Chief Financial Officer pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002.                                                                                                            |

 

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(1)          Incorporated by reference to the Registrant’sForm 8-K dated January 26, 2006, filed January 31, 2006.

 

(2)          Incorporated by reference to the Registrant’sForm 8-K dated March 17, 2006, filed March 21, 2006.

 

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