**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

----

 

**FORM 10-Q**

 

**QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIESEXCHANGE ACT OF 1934**

 

**For thequarter ended June 30, 2004**

 

**CommissionFile Number 0-20449**

 

**PRICE LEGACY CORPORATION**

(Exact name ofregistrant as specified in its charter)

 
| **Maryland**                                                     | ** ** | **33-0628740**                        |
|------------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |       | (I.R.S. Employer  Identification No.) |

 

**17140Bernardo Center Drive, Suite 300, San Diego, California  92128**

(Address ofprincipal executive offices) (Zip Code)

 

**(858)675-9400**

(Registrant’stelephone number, including area code)

 

Indicate by checkmark whether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days. YES  ý      NO  o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Exchange Act Rule12b-2).  Yes ý   No o

 

The registrant had36,919,539 shares of common stock, par value $.0004 per share, outstanding atAugust 6, 2004.

 

 

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**PRICELEGACY CORPORATION**

 

**INDEX TOFORM 10-Q**

 
| **PART I - FINANCIAL INFORMATION**                                                                        |       |
|-----------------------------------------------------------------------------------------------------------|------------|
|                                                                                                      |       |
| **ITEM 1 - FINANCIAL  STATEMENTS**                                                                        |       |
|                                                                                                      |       |
| CONSOLIDATED BALANCE SHEETS                                                                               |       |
|                                                                                                      |       |
| CONSOLIDATED  STATEMENTS OF OPERATIONS                                                                    |       |
|                                                                                                      |       |
| CONSOLIDATED  STATEMENTS OF STOCKHOLDERS’ EQUITY                                                     |       |
|                                                                                                      |       |
| CONSOLIDATED  STATEMENTS OF CASH FLOWS                                                                    |       |
|                                                                                                      |       |
| NOTES TO  CONSOLIDATED FINANCIAL STATEMENTS                                                               |       |
|                                                                                                      |       |
| **ITEM  2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS  OF OPERATIONS** |       |
|                                                                                                      |       |
| **ITEM  3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**                                  | ** ** |
| ** **                                                                                                | ** ** |
| **ITEM 4 – CONTROLS AND  PROCEDURES**                                                                | ** ** |
| ** **                                                                                                | ** ** |
| **PART II - OTHER INFORMATION**                                                                           | ** ** |
| ** **                                                                                                | ** ** |
| **ITEM  1 – LEGAL PROCEEDINGS**                                                                      | ** ** |
| ** **                                                                                                | ** ** |
| **ITEM 6 -  EXHIBITS AND REPORTS ON FORM 8-K**                                                            | ** ** |

 

2

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#### **PART I - FINANCIAL INFORMATION**

#### ** **

# **ITEM 1 - FINANCIALSTATEMENTS**

# ** **

**PRICE LEGACY CORPORATION**

## ***CONSOLIDATEDBALANCE SHEETS***

**(in thousands, except share data)**

 

**ASSETS**

 

 
| ** **                                                | ** ** | **June 30  2004** | ** **    | **December 31  2003** | ** ** |
|-----------------------------------------------------------|------------|------------------------|---------------|----------------------------|------------|
| ** **                                                | ** ** | **(unaudited)**        | ** **    | ** **                 | ** ** |
| Real estate assets                                        |       | ** **             | ** **    |                       |       |
| Land and land improvements                                |       | **$**                  | **385,569**   | ** **                 | $          | 410,207 |   |
| Building and improvements                                 |       | **677,668**            | ** **    | 670,050                    |       |
| Construction in progress                                  |       | **2,919**              | ** **    | 582                        |       |
|                                                      |       | **1,066,156**          | ** **    | 1,080,839                  |       |
| Property held for sale                                    |       | **50,474**             | ** **    | 70,988                     |       |
| Less accumulated depreciation                             |       | **(62,339**            | **)**         | (54,836                    | )          |
|                                                      |       | **1,054,291**          | ** **    | 1,096,991                  |       |
|                                                      |       | ** **             | ** **    |                       |       |
| Investment in unconsolidated real estate joint  ventures  |       | **—**             | ** **    | 4,113                      |       |
| Cash and cash equivalents                                 |       | **29,226**             | ** **    | 7,631                      |       |
| Restricted cash                                           |       | **9,742**              | ** **    | 11,288                     |       |
| Accounts receivable, net of allowance of $843 and  $1,415 |       | **8,857**              | ** **    | 7,440                      |       |
| Notes receivable                                          |       | **9,086**              | ** **    | 10,311                     |       |
| Deferred rents                                            |       | **11,702**             | ** **    | 11,161                     |       |
| Other assets                                              |       | **19,468**             | ** **    | 21,953                     |       |
| Total assets                                              |       | **$**                  | **1,142,372** | ** **                 | $          | 1,170,888 |   |

 

*See accompanying notes.*

 

3

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**PRICE LEGACY CORPORATION**

**CONSOLIDATEDBALANCE SHEETS**

**(in thousands, except share data)**

 

**LIABILITIESAND STOCKHOLDERS’ EQUITY**

 
| ** **                                                                                                                                                                                                                                    | ** ** | **June 30  2004** | ** **    | **December 31  2003** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|---------------|----------------------------|------------|
| ** **                                                                                                                                                                                                                                    | ** ** | **(unaudited)**        | ** **    | ** **                 | ** ** |
| Liabilities                                                                                                                                                                                                                                   |       |                   |          |                       |       |
| Mortgages and notes payable                                                                                                                                                                                                                   |       | **$**                  | **541,673**   | ** **                 | $          | 483,675 |   |
| Capital lease payable on property held for sale                                                                                                                                                                                               |       | **—**             | ** **    | 11,706                     |       |
| Revolving line of credit                                                                                                                                                                                                                      |       | **—**             | ** **    | 69,100                     |       |
|                                                                                                                                                                                                                                          |       | **541,673**            | ** **    | 564,481                    |       |
| Accounts payable and other liabilities                                                                                                                                                                                                        |       | **24,711**             | ** **    | 29,945                     |       |
| Total liabilities                                                                                                                                                                                                                             |       | **566,384**            | ** **    | 594,426                    |       |
|                                                                                                                                                                                                                                          |       | ** **             | ** **    |                       |       |
| Commitments and contingencies                                                                                                                                                                                                                 |       | ** **             | ** **    |                       |       |
|                                                                                                                                                                                                                                          |       | ** **             | ** **    |                       |       |
| Minority interests                                                                                                                                                                                                                            |       | **595**                | ** **    | 1,608                      |       |
|                                                                                                                                                                                                                                          |       | ** **             | ** **    |                       |       |
| Stockholders’ equity                                                                                                                                                                                                                     |       | ** **             | ** **    |                       |       |
| Series A Preferred Stock, cumulative, redeemable,  $0.0001 par value, 27,849,771 shares authorized, 5,486,994 and 27,434,166  shares issued and outstanding                                                                                   |       | **79,981**             | ** **    | 399,615                    |       |
| Series 1 Preferred Stock, cumulative, redeemable,  $0.0001 par value, 15,218,506 shares authorized, 2,942,463 shares issued and  outstanding at June 30, 2004                                                                            |       | **47,227**             | ** **    | —                     |       |
| Series B Preferred Stock, junior, convertible,  redeemable, $0.0001 par value, 27,458,855 shares authorized, 24,125,208  shares issued and outstanding at December 31, 2003                                                              |       | **—**             | ** **    | 131,023                    |       |
| Common stock, $0.0004 par value, 106,931,723  shares authorized,  36,919,539 issued  and outstanding at June 30, 2004; $0.0001 par value, 94,691,374 shares  authorized, 8,690,414 issued and outstanding at December 31, 2003 |       | **15**                 | ** **    | 3                          |       |
| Additional paid-in capital                                                                                                                                                                                                                    |       | **648,999**            | ** **    | 176,431                    |       |
| Accumulated comprehensive loss                                                                                                                                                                                                                |       | **(2,433**             | **)**         | (1,479                     | )          |
| Retained deficit                                                                                                                                                                                                                              |       | **(198,396**           | **)**         | (130,739                   | )          |
| Total stockholders’ equity                                                                                                                                                                                                               |       | **575,393**            | ** **    | 574,854                    |       |
| Total liabilities and stockholders’ equity                                                                                                                                                                                               |       | **$**                  | **1,142,372** | ** **                 | $          | 1,170,888 |   |

 

*See accompanying notes.*

 

4

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**PRICE LEGACY CORPORATION**

## ***CONSOLIDATEDSTATEMENTS OF OPERATIONS***

**(unaudited - amounts in thousands, except per share data)**

 
| ** **                                                     | ** ** | **Second Quarter   Three Months Ended  June 30** |       | **Year-to-Date  Six Months Ended  June 30** |   |
|----------------------------------------------------------------|------------|-------------------------------------------------------|------------|--------------------------------------------------|--------|
| ** **                                                     | ** ** | **2004**                                              | ** ** | **2003**                                         |   | **2004** | ** ** | **2003** |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Rental  revenues                                               | ** ** | **$**                                                 | **33,121** | ** **                                       | $      | 31,313 |   | **$** | **65,016** | ** ** | $ | 62,245 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Expenses                                                       |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Operating  and maintenance                                     | ** ** | **5,758**                                             | ** ** | 6,637                                            |   | **11,596** | ** ** | 12,639 |   |
| Property  taxes                                                | ** ** | **4,097**                                             | ** ** | 3,829                                            |   | **8,122** | ** ** | 7,493 |   |
| Depreciation  and amortization                                 | ** ** | **5,547**                                             | ** ** | 5,617                                            |   | **11,160** | ** ** | 9,759 |   |
| General  and administrative                                    | ** ** | **1,377**                                             | ** ** | 1,827                                            |   | **2,862** | ** ** | 3,809 |   |
| Provision  for asset impairment                                | ** ** | **1,225**                                             | ** ** | —                                           |   | **1,225** | ** ** | — |   |
| Total  expenses                                                | ** ** | **18,004**                                            | ** ** | 17,910                                           |   | **34,965** | ** ** | 33,700 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Operating  income                                              | ** ** | **15,117**                                            | ** ** | 13,403                                           |   | **30,051** | ** ** | 28,545 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Interest  and other                                            |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Interest  expense                                              | ** ** | **(7,054**                                            | **)**      | (6,514                                           | )      | **(13,965** | **)** | (12,980 | ) |
| Interest  income                                               | ** ** | **63**                                                | ** ** | 113                                              |   | **108** | ** ** | 925 |   |
| Equity  in earnings of joint ventures                          | ** ** | **—**                                            | ** ** | 1,014                                            |   | **62** | ** ** | 1,164 |   |
| Total  interest and other                                      | ** ** | **(6,991**                                            | **)**      | (5,387                                           | )      | **(13,795** | **)** | (10,891 | ) |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Income  from continuing operations                             | ** ** | **8,126**                                             | ** ** | 8,016                                            |   | **16,256** | ** ** | 17,654 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Discontinued  operations:                                      |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Income  from operations                                        | ** ** | **241**                                               | ** ** | 442                                              |   | **460** | ** ** | 713 |   |
| Net  gain (loss) on sale of real estate                        | ** ** | **2,193**                                             | ** ** | (2,314                                           | )      | **2,193** | ** ** | (2,521 | ) |
| Gain  (loss) on discontinued operations                        | ** ** | **2,434**                                             | ** ** | (1,872                                           | )      | **2,653** | ** ** | (1,808 | ) |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Net  income before gain on sale of real estate and investments | ** ** | **10,560**                                            | ** ** | 6,144                                            |   | **18,909** | ** ** | 15,846 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Net  gain on sale of real estate and investments               | ** ** | **12,666**                                            | ** ** | —                                           |   | **12,622** | ** ** | 687 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Net  income                                                    | ** ** | **23,226**                                            | ** ** | 6,144                                            |   | **31,531** | ** ** | 16,533 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Dividends  to preferred stockholders                           | ** ** | **(2,886**                                            | **)**      | (12,423                                          | )      | **(14,700** | **)** | (24,783 | ) |
| Preferred  stock conversion and redemption                     | ** ** | **(1,423**                                            | **)**      | —                                           |   | **(74,235** | **)** | — |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Net  income (loss) applicable to common stockholders           | ** ** | **$**                                                 | **18,917** | ** **                                       | $      | (6,279 | ) | **$** | **(57,404** | **)** | $ | (8,250 | ) |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Net  income (loss) per common share                            |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Basic                                                          | ** ** | **$**                                                 | **.52**    | ** **                                       | $      | (.68 | ) | **$** | **(2.29** | **)** | $ | (.89 | ) |
| Diluted                                                        | ** ** | **.51**                                               | ** ** | (.68                                             | )      | **(2.29** | **)** | (.89 | ) |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Weighted  average common shares outstanding                    |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Basic                                                          | ** ** | **36,567**                                            | ** ** | 9,250                                            |   | **25,118** | ** ** | 9,253 |   |
| Diluted                                                        | ** ** | **36,987**                                            | ** ** | 9,250                                            |   | **25,118** | ** ** | 9,253 |   |
|                                                           |       |                                                  | ** ** |                                             |   |   | ** ** |   |   |
| Cash  dividends paid per Series A preferred share              | ** ** | **$**                                                 | **.35**    | ** **                                       | $      | .35 |   | **$** | **.70** | ** ** | $ | .70 |   |
| Cash  dividends paid per Series 1 preferred share              | ** ** | **.16**                                               | ** ** | —                                           |   | **.16** | ** ** | — |   |
| Cash  dividends paid per common share                          | ** ** | **.28**                                               | ** ** | —                                           |   | **.28** | ** ** | — |   |

 

*See accompanying notes.*

 

5

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**PRICELEGACY CORPORATION**

## ***CONSOLIDATEDSTATEMENTS OF STOCKHOLDERS’ EQUITY***

** (unaudited – amountsin thousands)**

 
| ** **                                                                                 | ** ** | **Preferred Stock  Series A** | ** ** | **Preferred Stock  Series 1** | ** ** | **Preferred Stock  Series B** | ** ** | **Common Stock** | ** ** |
|--------------------------------------------------------------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|-------------------------------|------------|------------------|------------|
| ** **                                                                                 | ** ** | **Shares**                    | ** ** | **Amount**                    | ** ** | **Shares**                    | ** ** | **Amount**       | ** ** | **Shares** | ** ** | **Amount** | ** ** | **Shares*** | ** ** | **Amount** | ** ** |
|                                                                                       |       |                          |       |                          |       |                          |       |             |       |   |   |   |   |   |   |   |   |
| **Balance at December 31, 2003**                                                      |       | 27,434                        |       | $                             | 399,615    |                          | —     |             | —     |   | 24,125 |   | $ | 131,023 |   | 8,690 |   | $ | 3 |   |
| Comprehensive income:                                                                      |       |                          |       |                          |       |                          |       |             |       |   |   |   |   |   |   |   |   |
| Net income                                                                                 |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Unrealized loss on marketable securities                                                   |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Unrealized loss on interest rate caps                                                      |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Total comprehensive income                                                                 |       |                          |       |                          |       |                          |       |             |       |   |   |   |   |   |   |   |   |
| Dividends on Series A Preferred Stock                                                      |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Dividends on Series B Preferred Stock                                                      |       | —                        |       | —                        |       | —                        |       | —           |       | 398 |   | 2,212 |   | — |   | — |   |
| Dividends on Series 1 Preferred Stock                                                      |       |                          |       |                          |       |                          |       |             |       |   |   |   |   |   |   |   |   |
| Dividends on common stock                                                                  |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Common stock issued in legal settlement                                                    |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | 160 |   | — |   |
| Common stock and Series 1 Preferred Stock issued in  exchange for Series A Preferred Stock |       | (20,947                       | )          | (305,058                      | )          | 2,942                         |       | 47,227           |       | — |   | — |   | 18,900 |   | 8 |   |
| Common stock issued in exchange for Series B  Preferred Stock                              |       | —                        |       | —                        |       | —                        |       | —           |       | (24,523 | ) | (133,235 | ) | 8,522 |   | 4 |   |
| Issuance costs associated with Recapitalization  Transaction                               |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | — |   | — |   |
| Common stock options exercised                                                             |       | —                        |       | —                        |       | —                        |       | —           |       | — |   | — |   | 648 |   | — |   |
| Redemption of Series A Preferred Stock                                                     |       | (1,000                        | )          | (14,576                       | )          | —                        |       | —           |       | — |   | — |   | — |   | — |   |
|                                                                                       |       |                          |       |                          |       |                          |       |             |       |   |   |   |   |   |   |   |   |
| **Balance at June 30, 2004**                                                          | ** ** | **5,487**                     | ** ** | **$**                         | **79,981** | ** **                    | **2,942**  | ** **       | **$**      | **47,227** | ** ** | **—** | ** ** | **—** | ** ** | **36,920** | ** ** | **$** | **15** | ** ** |
|                                                                                            |            |                               |            |                               |            |                               |            |                  |            |  |  |  |  |  |  |  |  |  |  |  |  |

 
| ** **                                                                                 | ** ** | **Additional  Paid-In  Capital** | ** **  | **Accumulated  Comprehensive   Loss** | ** ** | **Retained  Earnings  (Deficit)** | ** ** | **Total** | ** **   |
|--------------------------------------------------------------------------------------------|------------|----------------------------------|-------------|---------------------------------------|------------|-----------------------------------|------------|-----------|--------------|
|                                                                                       |       |                             |        |                                  |       |                              |       |      |         |
| **Balance at December 31, 2003**                                                      |       | $                                | 176,431     |                                  | $          | (1,479                            | )          | $         | (130,739     | ) | $ | 574,854 |   |
| Comprehensive income:                                                                      |       |                             |        |                                  |       |                              |       |      |         |
| Net income                                                                                 |       | —                           |        | —                                |       | 31,531                            |       | 31,531    |         |
| Unrealized loss on marketable securities                                                   |       | —                           |        | (15                                   | )          | —                            |       | (15       | )            |
| Unrealized loss on interest rate caps                                                      |       | —                           |        | (939                                  | )          | —                            |       | (939      | )            |
| Total comprehensive income                                                                 |       |                             |        |                                  |       |                              |       | 30,577    |         |
| Dividends on Series A Preferred Stock                                                      |       | —                           |        | —                                |       | (12,017                           | )          | (12,017   | )            |
| Dividends on Series B Preferred Stock                                                      |       | —                           |        | —                                |       | (2,212                            | )          | —    |         |
| Dividends on Series 1 Preferred Stock                                                      |       |                             |        |                                  |       | (471                              | )          | (471      | )            |
| Dividends on common stock                                                                  |       | —                           |        | —                                |       | (10,252                           | )          | (10,252   | )            |
| Common stock issued in legal settlement                                                    |       | 2,099                            |        | —                                |       | —                            |       | 2,099     |         |
| Common stock and Series 1 Preferred Stock issued in  exchange for Series A Preferred Stock |       | 293,337                          |        | —                                |       | (35,519                           | )          | (5        | )            |
| Common stock issued in exchange for Series B  Preferred Stock                              |       | 170,524                          |        | —                                |       | (37,293                           | )          | —    |         |
| Issuance costs associated with Recapitalization  Transaction                               |       | (1,500                           | )           | —                                |       | —                            |       | (1,500    | )            |
| Common stock options exercised                                                             |       | 8,108                            |        | —                                |       | —                            |       | 8,108     |         |
| Redemption of Series A Preferred Stock                                                     |       | —                           |        | —                                |       | (1,424                            | )          | (16,000   | )            |
| ** **                                                                                 |       |                             |        |                                  |       |                              |       |      |         |
| **Balance at June 30, 2004**                                                          | ** ** | **$**                            | **648,999** | ** **                            | **$**      | **(2,433**                        | **)**      | **$**     | **(198,396** | **)** | **$** | **575,393** | ** ** |

 

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******Retroactively restated for1-for-4 reverse stock split*

 

*See accompanying notes.*

 

6

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**PRICELEGACY CORPORATION**

## ***CONSOLIDATEDSTATEMENTS OF CASH FLOWS***

**(unaudited - amounts in thousands)**
| ** **                                                                         | ** ** | **Year to Date  Six Months Ended  June 30** |       |
|------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                         | ** ** | **2004**                                         | ** ** | **2003** |   |
| Operating activities                                                               |       |                                             |       |   |   |
| Net income                                                                         |       | **$**                                            | **31,531** | ** ** | $ | 16,533 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       | ** **                                       | ** ** |   |   |
| Depreciation and amortization                                                      |       | **11,191**                                       | ** ** | 10,259 |   |
| Deferred rents                                                                     |       | **(803**                                         | **)**      | (438 | ) |
| Equity in earnings of joint ventures                                               |       | **(62**                                          | **)**      | (1,164 | ) |
| Net (gain) loss on sale of real estate and  investments                            |       | **(14,815**                                      | **)**      | 1,834 |   |
| Provision for asset impairment                                                     |       | **1,225**                                        | ** ** | — |   |
| Changes in operating assets and liabilities:                                       |       | ** **                                       | ** ** |   |   |
| Accounts receivable and other assets                                               |       | **(1,471**                                       | **)**      | 1,139 |   |
| Accounts payable and other liabilities                                             |       | **(2,259**                                       | **)**      | (6,054 | ) |
| Net cash provided by operating activities                                          |       | **24,537**                                       | ** ** | 22,109 |   |
|                                                                               |       | ** **                                       | ** ** |   |   |
| Investing activities                                                               |       | ** **                                       | ** ** |   |   |
| Refund of (deposits to) restricted cash                                            |       | **1,546**                                        | ** ** | (2,502 | ) |
| Additions to real estate assets                                                    |       | **(4,699**                                       | **)**      | (16,178 | ) |
| Proceeds from the sale of real estate assets and  investments                      |       | **51,571**                                       | ** ** | 15,855 |   |
| Contributions to real estate joint ventures                                        |       | **—**                                       | ** ** | (6 | ) |
| Distributions from real estate joint ventures                                      |       | **119**                                          | ** ** | 200 |   |
| Advances on notes receivable                                                       |       | **—**                                       | ** ** | (14,466 | ) |
| Repayments on notes receivable                                                     |       | **—**                                       | ** ** | 17,585 |   |
| Net cash provided by investing activities                                          |       | **48,537**                                       | ** ** | 488 |   |
|                                                                               |       | ** **                                       | ** ** |   |   |
| Financing activities                                                               |       | ** **                                       | ** ** |   |   |
| Advances from revolving line of credit and notes  payable                          |       | **269,647**                                      | ** ** | 68,713 |   |
| Repayments of revolving line of credit and notes  payable                          |       | **(290,494**                                     | **)**      | (65,868 | ) |
| Dividends paid to stockholders                                                     |       | **(22,740**                                      | **)**      | (19,204 | ) |
| Redemption of Series A Preferred Stock                                             |       | **(16,000**                                      | **)**      | — |   |
| Proceeds from exercise of stock options                                            |       | **8,108**                                        | ** ** | — |   |
| Net cash used in financing activities                                              |       | **(51,479**                                      | **)**      | (16,359 | ) |
|                                                                               |       | ** **                                       | ** ** |   |   |
| Net increase in cash and cash equivalents                                          |       | **21,595**                                       | ** ** | 6,238 |   |
|                                                                               |       | ** **                                       | ** ** |   |   |
| Cash and cash equivalents at beginning of period                                   |       | **7,631**                                        | ** ** | 11,471 |   |
|                                                                               |       | ** **                                       | ** ** |   |   |
| Cash and cash equivalents at end of period                                         |       | **$**                                            | **29,226** | ** ** | $ | 17,709 |   |
|                                                                               |       | ** **                                       | ** ** | ** ** |   |   |   |
| Supplemental  cash flow information:                                               |       |                                             |       |   |   |
| Cash  paid for interest                                                            | ** ** | **$**                                            | **13,349** |   | $ | 13,937 |   |
|                                                                               |       |                                             |       |   |   |
| Supplemental  schedule of noncash investing and financing activities:         |       |                                             |       |   |   |
| Pay  down of capital lease in exchange for property                                | ** ** | **11,706**                                       |       | — |   |
| Reduction  in joint ventures in connection with purchase of real estate            | ** ** | **4,012**                                        |       | — |   |
| Assumption  of mortgage in connection with purchase of real estate                 | ** ** | **9,745**                                        |       | — |   |
| Preferred  stock conversion                                                        | ** ** | **72,812**                                       |       | — |   |
| Increase  to treasury stock for reduction in notes receivable                      | ** ** | **—**                                       |       | 779 |   |

 

*See accompanying notes.*

 

7

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**PRICELEGACY CORPORATION**

 

## ***NOTESTO CONSOLIDATED FINANCIAL STATEMENTS***

**(UNAUDITED)**

 

**June 30,2004**

 

### **Note 1 –Organization and Significant Accounting Policies**

### ** **

***Organization***

Price LegacyCorporation (Price Legacy) operates as a real estate investment trust (REIT)incorporated in the state of Maryland. Our principal business is to acquire, operate, and develop realproperty, primarily open-air shopping centers.

 

Our subsidiariesinclude Excel Legacy Holdings, Inc., which has elected to be treated as ataxable REIT subsidiary (TRS).  Otherthan some activities related to lodging and health care facilities, a TRS maygenerally engage in any business.  A TRSis subject to federal income tax and state and local income tax, whereapplicable, as a regular C corporation.

 

***Accounting Principles***

We prepared thefinancial statements following the requirements of the Securities and ExchangeCommission (SEC) for interim reporting.  As permitted under those rules, certain footnotes or otherfinancial information that are normally required by accounting principlesgenerally accepted in the United States of America (GAAP) have been omitted.  However, except as disclosed below, therehave been no material changes to the information disclosed in the consolidatedfinancial statements included in the Annual Report on Form 10-K for the yearended December 31, 2003.  Certainprior year data have been reclassified to conform to the 2004 presentation.

 

We are responsiblefor the financial statements included in this document.  The financial statements include all normaland recurring adjustments that are considered necessary for the fairpresentation of our financial position and operating results.  The information in this Quarterly Report onForm 10-Q should be read in conjunction with the consolidated financialstatements and accompanying notes included in our latest Annual Report on Form10-K.

 

Revenues,expenses, assets and liabilities can vary during each quarter of the year.  Therefore, the results and trends in theseinterim financial statements may not be the same as those for the full year.

 

***RealEstate Assets and Depreciation***

We capitalizeinterest incurred during the construction period of certain assets and thisinterest is depreciated over the lives of those assets.  The following table shows interest expenseand the amount capitalized (amounts in thousands):

 

8

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| ** **            | ** ** | **Three Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
|-----------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **            | ** ** | **2004**                             | ** ** | **2003**                           | ** ** | **2004** | ** ** | **2003** | ** ** |
| Interest  incurred    |       | $                                    | 7,054      |                               | $          | 7,137 |   | $ | 13,983 |   | $ | 14,272 |   |
| Interest  capitalized |       | —                               |       | (478                               | )          | (18 | ) | (1,003 | ) |
|                       |            |                                      |            |                                    |            |  |  |  |  |  |  |  |  |

 

***Cashand Cash Equivalents***

We are required tomaintain reserves with certain lenders for property taxes, insurance andcapital expenditures.  The aggregateamounts of these reserves held by lenders were approximately $9.7 million atJune 30, 2004 and $11.3 million at December 31, 2003.  These amounts are reflected as restrictedcash on the Consolidated Balance Sheets.

 

Our restricted cashbalances at June 30, 2004 and December 31, 2003 include $2.4 millionof restricted funds which represent the proceeds from the sale of vacant landat our property in Hollywood/Oakwood Plaza, FL. The funds will be held by the lender until the debt is repaid in 2009.

 

***Investmentin Securities***

InApril 2004, our TRS sold approximately 1.9 million shares of common stockof Mace Security International for $10.7 million.  We recognized a gain on the sale ofapproximately $9.2 million.

 

***Stock-BasedCompensation***

InDecember 2002, the Financial Accounting Standards Board (FASB) issuedStatement of Financial Accounting Standards (SFAS) No. 148, “Accounting forStock-Based Compensation – Transition and Disclosure – an amendment of SFAS No.123.”  SFAS 148 addresses transitionprovisions for a voluntary change to the fair value method of accounting forstock-based employee compensation.  Inaddition, SFAS 148 amends the disclosure requirements of SFAS 123.  This statement has not had a significantimpact on our consolidated financial statements.

 

Wedo not record compensation expense for stock options.  The following table summarizes results as ifwe had recorded compensation expense under the provisions of SFAS 123, asamended by SFAS 148, for our option grants (amounts in thousands, except pershare data).

 

9

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| ** **                                                                         | ** ** | **Three Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
|------------------------------------------------------------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                                                                         | ** ** | **2004**                             | ** ** | **2003**                           | ** ** | **2004** | ** ** | **2003** | ** ** |
| Net  income (loss) applicable to common stockholders:                              |       |                                 |       |                               |       |   |   |   |   |
| As  reported                                                                       |       | $                                    | 18,917     |                               | $          | (6,279 | ) | $ | (57,404 | ) | $ | (8,250 | ) |
| Deduct:  stock based compensation expense determined  under fair value method |       | (56                                  | )          | (154                               | )          | (116 | ) | (308 | ) |
| Pro  forma                                                                         |       | $                                    | 18,861     |                               | $          | (6,433 | ) | $ | (57,520 | ) | $ | (8,558 | ) |
|                                                                               |       |                                 |       |                               |       |   |   |   |   |   |   |   |   |
| Net  income (loss) per share – basic:                                         |       |                                 |       |                               |       |   |   |   |   |
| As  reported                                                                       |       | $                                    | .52        |                               | $          | (.68 | ) | $ | (2.29 | ) | $ | (.89 | ) |
| Pro  forma                                                                         |       | $                                    | .51        |                               | $          | (.70 | ) | $ | (2.29 | ) | $ | (.92 | ) |
| Net  income (loss) per share – diluted:                                       |       |                                 |       |                               |       |   |   |   |   |
| As  reported                                                                       |       | $                                    | .52        |                               | $          | (.68 | ) | $ | (2.29 | ) | $ | (.89 | ) |
| Pro  forma                                                                         |       | $                                    | .51        |                               | $          | (.70 | ) | $ | (2.29 | ) | $ | (.92 | ) |
| Weighted average fair value of options granted  during the period                  |       | $                                    | 4.35       |                               | —     |   | $ | 3.20 |   | — |   |

 

The FASB is currently considering amendingSFAS 123 and APB Opinion No. 25, “Accounting for Stock Issued toEmployees.”  The proposed standard willrequire us to record compensation expense for all share based compensationplans.  If adopted, this proposedstandard would have a negative impact on our earnings in future periods.  We discuss our stock option plan further inNote 11.

 

**Note 2 – RecapitalizationTransaction**

 

On September 22, 2003, we issued a press release announcing thatwe were pursuing a series of transactions intended to result in a significantsimplification of our capital structure. On or about February 11, 2004, we mailed to our stockholdersdefinitive proxy materials and to our Series APreferred stockholders exchange offer materials related to our previouslyannounced recapitalization transaction (the Recapitalization Transaction).

 

The Recapitalization Transaction consisted of:

 

•                  an exchangeoffer in which we offered to exchange, at the option of the holder, eithershares of our common stock or shares of our newly designated Series 1 PreferredStock for all outstanding shares of  ourSeries A Preferred Stock

 

10

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•                  exchangetransactions with the holders of all of our outstanding Series B Preferred Stockin which we exchanged 8,521,746 shares of our common stock (after giving effectto the reverse stock split described below) for all of our outstanding sharesof Series B Preferred Stock

•                  an amendment and restatement of our charter to, among otherthings,

•                  effect a 1-for-4 reverse stock split of our common stock

•                  designate andestablish the terms of our Series 1 Preferred Stock

•                  eliminate theSeries B Preferred Stock following its exchange for common stock

•                  change themanner in which our directors are elected so that the holders of common stockand Series A Preferred Stock, but not the holders of Series 1 Preferred Stock,voting together as a single class, are entitled to elect all of our directors

•                  change ourauthorized capital stock to provide sufficient shares to complete theRecapitalization Transaction

 

Our stockholders approved the Recapitalization Transaction at a specialmeeting of stockholders held on March 11, 2004, and the RecapitalizationTransaction was completed on March 12, 2004.  As a result of the RecapitalizationTransaction, we issued a total of 27,421,965 shares of common stock (on a post1-for-4 reverse stock split basis) and 2,942,463 shares of Series 1 PreferredStock and we retired 20,947,172 shares of Series APreferred Stock and 24,523,015 shares of Series B Preferred Stock.  After giving effect to the RecapitalizationTransaction, we had outstanding 36,283,973 shares of common stock, 6,486,994shares of Series A Preferred Stock, and 2,942,463shares of Series 1 Preferred Stock.

 

On March 12, 2004, we filed Articles of Amendment and Restatementin the State Department of Assessments and Taxation of Maryland effecting the 1-for-4 reverse stock split of our commonstock and the other amendments to our charter contemplated by the RecapitalizationTransaction.

 

For accounting purposes, Emerging Issue Task Force (EITF) topic D-42governs the effect on the calculation of earnings per share for the redemptionor induced conversion of preferred stock. The exchange of the Series APreferred Stock for either common stock or Series 1 Preferred Stock isbeing treated as a redemption and, accordingly, the excess of the fair value ofthe consideration transferred to the holders of the preferred stock over thecarrying amount of the preferred stock on the balance sheet was subtracted fromnet income to arrive at net loss applicable to common stockholders in thecalculation of earnings per share. Approximately 10.7% of the Series APreferred Stock was exchanged for Series 1 Preferred Stock and 65.6% ofthe Series A Preferred Stock was exchanged for common stock, requiring adeduction of

 

11

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approximately$35.5 million from net income to arrive at net loss applicable to commonstockholders with the Series 1 Preferred Stock valued at $16.05 per share.

 

The exchange of the Series B Preferred Stock for common stock is beingtreated as an induced conversion in accordance with EITF D-42.  The exchange of the Series B Preferred Stockfor common stock at a ratio of 1.39 shares of common stock for each share ofSeries B Preferred Stock resulted in a deduction of approximately $37.3 millionfrom net income to arrive at net loss applicable to common stockholders.

 

On June 7, 2004, weredeemed 1.0 million shares of our Series A PreferredStock at the redemption price of $16.00 per share, along with a dividend of$0.145 per share which represented a quarterly dividend of $0.35 per sharepro-rated for the period of May 1, 2004 to June 7, 2004.  The redemption price of $16.00 per share wasin excess of the carrying value of the stock which resulted in a reduction of$1.4 million from net income to arrive at net income applicable to commonstockholders in accordance with EITF topic D-42.

 

**Note 3 – Net Income Per Share**

 

SFAS No. 128, “Earningsper Share,” requires presentation of two calculations of earnings per commonshare.  Basic earnings per common shareequals net income applicable to common stockholders divided by weighted averagecommon shares outstanding during the period. Diluted earnings per common share equals net income applicable to commonstockholders divided by the sum of weighted average common shares outstandingduring the period plus dilutive potential shares.  Dilutive potential shares are shares assumedto be issued if outstanding stock options were exercised.  All earnings per share amounts have beenpresented, and where appropriate, restated to reflect these calculations.  The effect of common stock equivalents forthe six months ended June 30, 2004 and the three months endedJune 30, 2003 was antidilutive.

 
| ** **                                                    | ** ** | **Three Months Ended June** | ** ** | **Six Months Ended June** | ** ** |
|---------------------------------------------------------------|------------|-----------------------------|------------|---------------------------|------------|
| ** **                                                    | ** ** | **2004**                    | ** ** | **2003**                  | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                          |       |                        |       |                      |       |   |   |   |   |
| Weighted  average shares outstanding                          |       | 36,567,169                  |       | 9,249,799                 |       | 25,117,700 |   | 9,253,478 |   |
| Effect  of dilutive securities:                               |       |                        |       |                      |       |   |   |   |   |
| Employee  stock options                                       |       | 419,991                     |       | 2,123                     |       | 296,626 |   | — |   |
| Weighted  average shares outstanding – assuming dilution |       | 36,987,160                  |       | 9,251,922                 |       | 25,414,326 |   | 9,253,478 |   |

 

12

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**Note 3 – Net Income Per Share**

 

In following theprovisions of SFAS 128, we adjusted the computations of basic and dilutedearnings per share and the number of common shares outstanding retroactivelyfor all periods presented to reflect our change in capital structure.  The earnings per share for the three monthsand six months ended June 30, 2004 and 2003 have been restated to reflectthe 1-for-4 reverse stock split of our common stock in the first quarter of2004 as if it occurred at the beginning of the period.

 

**Note 4 – Real Estate Assets**

 

Our real estateproperties are generally leased under noncancelable leases with remaining termsranging from 1 to 26 years.  Rentalrevenues include the following (amounts in thousands):

 
| ** **                            | ** ** | **Three Months Ended June 30** | ** ** | **Six Months Ended June 30** | ** ** |
|---------------------------------------|------------|-------------------------------------|------------|-----------------------------------|------------|
| ** **                            | ** ** | **2004**                            | ** ** | **2003**                          | ** ** | **2004** | ** ** | **2003** | ** ** |
| Minimum  rent                         |       | $                                   | 23,953     |                              | $          | 22,361 |   | $ | 47,090 |   | $ | 44,754 |   |
| Straight-line  accrual of future rent |       | 388                                 |       | 689                               |       | 915 |   | 1,176 |   |
| Expense  reimbursements               |       | 6,299                               |       | 6,002                             |       | 13,055 |   | 12,721 |   |
| Percentage  rent                      |       | 386                                 |       | 255                               |       | 674 |   | 574 |   |
| Other  revenues                       |       | 2,095                               |       | 2,006                             |       | 3,282 |   | 3,020 |   |
| Rental  revenues                      |       | $                                   | 33,121     |                              | $          | 31,313 |   | $ | 65,016 |   | $ | 62,245 |   |

 

***Acquisitions***

During the first sixmonths of 2004, we acquired our joint venture partners’ 50% interest in aproperty in Fresno, CA for $2.8 million. We assumed the outstanding mortgage of $9.7 million.

 

We did not acquire anyproperties during the first six months of 2003.

 

***Dispositions***

During the first sixmonths of 2004, we sold the following properties:

 

13

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| **Location**                       | ** ** | **Description**      | ** ** | **Date  Sold** | ** ** | **Sales Price  (000’s)** | ** ** |
|------------------------------------|------------|----------------------|------------|----------------|------------|-------------------------------|------------|
| Hampton,  VA                       |       | Retail Building/Bank |       | 4/1/04         |       | $                             | 4,850      |   |
| San  Diego/Rancho Bernardo, CA (1) |       | Office Building      |       | 5/12/04        |       | 14,655                        |       |
| Tempe,  AZ (2)                     |       | Land, Building       |       | 5/13/04        |       | 1,724                         |       |
| Tucson/Marana,  AZ (2)             |       | Land                 |       | 6/16/04        |       | 408                           |       |
| Orlando,  FL (3)                   |       | Land                 |       | 6/23/04        |       | 41,500                        |       |
| San  Diego/Morena, CA (2)          |       | Office Building      |       | 6/28/04        |       | 4,125                         |       |
|                                    |            |                      |            |                |            |                               |            |  |

 

----

*(1)**       We subleased our interestin this property to former members of our senior management inOctober 2003.  During the secondquarter of 2004, they exercised their right to purchase all of our rights andinterest in the building*

*(2)**       Partial sale*

*(3)**       This was a joint ventureinvestment classified as land on our Consolidated Balance Sheet in accordancewith FIN 46R*

 

During the first sixmonths of 2003, we sold the following properties:

 
| **Location**     | ** ** | **Description**    | ** ** | **Date  Sold** | ** ** | **Sales Price  (000’s)** | ** ** |
|------------------|------------|--------------------|------------|----------------|------------|-------------------------------|------------|
| Scottsdale,  AZ  |       | Land, Restaurant   |       | 3/31/03        |       | $                             | 3,000      |   |
| Inglewood,  CA   |       | Warehouse Building |       | 4/29/03        |       | 4,000                         |       |
| New  Britain, CT |       | Warehouse Building |       | 5/15/03        |       | 3,529                         |       |
| Northridge,  CA  |       | Shopping Center    |       | 6/27/03        |       | 5,850                         |       |
|                  |            |                    |            |                |            |                               |            |  |

 

Also during 2003, wereceived payment on three notes receivable related to the sale of our selfstorage development properties in 2002. We deferred the gain of $0.7 million on the sales until 2003, when wereceived payment on the notes.

 

***Variable Interest Entities***

*** ***

OnJuly 1, 2003, we adopted FASB Interpretation No. 46R, “Consolidation ofVariable Interest Entities—an interpretation of ARB No. 51” (FIN 46R).  This interpretation addresses theconsolidation of business enterprises (variable interest entities) to which theusual condition (ownership of a majority voting interest) of consolidation doesnot apply.  This interpretation focuseson financial interests that indicate control. It concludes that in the absence of clear control through votinginterests, a company’s exposure (variable interest) to the economic risks andpotential reward from the variable interest entity’s assets and activities arethe best evidence of control.  Variableinterests are rights and obligations that convey economic gains or losses fromchanges in the values of the variable interest entity’s assets and liabilities.  Variable interests may arise from financialinstruments, service contracts, nonvoting ownership interests and otherarrangements.

 

14

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Ifan enterprise holds a majority of the variable interests of an entity, it wouldbe considered the primary beneficiary. The primary beneficiary is required to include assets, liabilities andthe results of operations of the variable interest entity in its financialstatements.  As of June 30, 2004,our analysis related to FIN 46R indicates we are the primary beneficiary of thefollowing variable interest entity which requires consolidation in ourfinancial statements (amounts in thousands):

 

| ** **                 | ** ** | **Assets** | ** ** | **Liabilities** | ** ** | **Minority Interest** | ** ** |
|----------------------------|------------|------------|------------|-----------------|------------|-----------------------|------------|
| Los Arcos Development, LLC |       | $          | 22,000     |            | —     |                  | —     |   |
|                            |            |            |            |                 |            |                       |            |  |

 

LosArcos Development, LLC (an affiliate of Ellman Companies) owns 42 acres of landin Scottsdale, AZ.  Commencing in 1996,non-recourse loans were made by one of our affiliates to Los Arcos Development,LLC to acquire the Scottsdale property. These loans were previously classified as notes receivable on ourbalance sheet.  As of January 13,2004, we entered into loan amendments with Los Arcos Development, LLC toconfirm a second priority lien on the Scottsdale property to collateralize theloans and to establish a new maturity date of December 31, 2004.

 

Aseparate note receivable from Los Arcos Development, LLC in the aggregateprincipal amount of $13.0 million was acquired by another affiliate inFebruary 2003.  This note receivableis non-recourse and collateralized by a first priority lien on the Scottsdaleproperty.

 

Thefirst and second lien loans were further amended in July 2004 to requirecertain payments on the notes in the total amount of $30.3 million byJuly 15, August 2, August 10, and August 16, 2004, subjectto certain extension options through August 31, 2004.  If such payments are timely made, theborrower and its affiliates will receive releases from further liability underthese loans and the related loans described in Note 7, and the liens will bereleased.  The required July 15 andAugust 2 payments have been received. In addition, we granted Ellman Investments, Inc. certain rights topurchase the loans in lieu of making the required payments (with the purchaseprice in such event approximately equal to the amount of the requiredpayments).

 

Foraccounting purposes, the cumulative balance of the notes receivable atJune 30, 2004 was $22.0 million, which is net of a $29.5 millionimpairment recorded in the fourth quarter of 2003.  This treatment does not affect the amountwhich Los Arcos Development, LLC owes to us pursuant to the terms of the loandocuments.  This balance is classified asland on our Consolidated Balance Sheets. Although interest continues to accrue per the terms of the loandocuments, we did not accrue interest on the notes for accounting purposes in2004 and 2003.

 

 

15

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OrlandoBusiness Park, LLC, previously classified as a joint venture on our balancesheet, owned land in Orlando, FL.  Thisland was sold in the second quarter of 2004 and we recognized a gain of $2.6million on the sale.

 

***Property Held for Sale***

Includedin the Consolidated Balance Sheets at June 30, 2004 and December 31,2003 are the following properties held for sale, which are carried at fair valueless costs to sell (amounts in thousands): 

 
| **Location**                       | ** ** | **Description**  | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|------------------------------------|------------|------------------|------------|------------------------|------------|----------------------------|------------|
| Anaheim, CA                        |       | Land             |       | $                      | 36,598     |                       | $          | 37,000 |   |
| Farmington, UT                     |       | Land             |       | 5,880                  |       | 5,880                      |       |
| Phoenix/One North First Street, AZ |       | Office  Building |       | 5,539                  |       | 5,551                      |       |
| Tucson/Marana, AZ                  |       | Land             |       | 2,457                  |       | 2,787                      |       |
| San Diego/Rancho Bernardo, CA      |       | Office  Building |       | —                 |       | 15,141                     |       |
| Hampton, VA                        |       | Retail  Building |       | —                 |       | 4,629                      |       |
| Total                              |       |             |       | $                      | 50,474     |                       | $          | 70,988 |   |

 

**Note 5 – Discontinued Operations**

 

We report discontinued operations for our propertiesin Anaheim, CA, Farmington, UT, Phoenix/One North First Street, AZ,  and Tucson/Marana, AZ which are classified asheld for sale.

 

We also report discontinued operations for ourproperties in San Diego/Rancho Bernardo, CA, Hampton, VA, and San Diego, CAwhich were sold during the second quarter ended June 30, 2004.  Also included in the Consolidated Statementsof Operations for the three and six months ended June 30, 2003 are thediscontinued operations of our properties at Scottsdale, AZ, Inglewood, CA, NewBritain, CT, and Northridge, CA which were sold in 2003.  Discontinued operations are summarized asfollows (amounts in thousands, except per share data):

 

16

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| ** **                              | ** ** | **Three Months Ended  June 30** | ** ** | **Six Months Ended  June 30** | ** ** |
|-----------------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                              | ** ** | **2004**                             | ** ** | **2003**                           | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                    |       |                                 |       |                               |       |   |   |   |   |
| Rental  revenue                         |       | $                                    | 570        |                               | $          | 1,124 |   | $ | 1,128 |   | $ | 2,169 |   |
| Expenses                                |       |                                 |       |                               |       |   |   |   |   |
| Operating  and maintenance              |       | 164                                  |       | 189                                |       | 323 |   | 402 |   |
| Property  taxes                         |       | 149                                  |       | 110                                |       | 314 |   | 265 |   |
| Depreciation  and amortization          |       | 16                                   |       | 238                                |       | 31 |   | 500 |   |
| Interest  expense                       |       | —                               |       | 145                                |       | — |   | 289 |   |
|                                    |       | 329                                  |       | 682                                |       | 668 |   | 1,456 |   |
| Income  from operations                 |       | 241                                  |       | 442                                |       | 460 |   | 713 |   |
| Net  gain (loss) on sale of real estate |       | 2,193                                |       | (2,314                             | )          | 2,193 |   | (2,521 | ) |
| Net  income (loss)                      |       | $                                    | 2,434      |                               | $          | (1,872 | ) | $ | 2,653 |   | (1,808 | ) |
|                                    |       |                                 |       |                               |       |   |   |   |   |
| Earnings  (loss) per common share       |       |                                 |       |                               |       |   |   |   |   |
| Basic  and diluted                      |       | $                                    | 0.07       |                               | $          | (0.20 | ) | $ | 0.11 |   | $ | (0.20 | ) |

 

**Note 6 – Investments inUnconsolidated Real Estate Joint Ventures**

 

As ofJune 30, 2004 and December 31, 2003, we had the following investmentsin unconsolidated joint ventures which we accounted for under the equity methodof accounting (amounts in thousands):

 
| **Joint  Venture**           | ** ** | **Ownership%** | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|------------------------------|------------|----------------|------------|------------------------|------------|----------------------------|------------|
| Blackstone  Ventures I       |       | 50%            |       | —                 |       | $                          | 2,469      |   |
| 3017977  Nova Scotia Company |       | 55%            |       | —                 |       | 1,600                      |       |
| Other                        |       | Various        |       | —                 |       | 44                         |       |
| Total                        |       |           |       | —                 |       | $                          | 4,113      |   |

 

In March 2004, we paid $2.8 million topurchase our partners’ 50% share of Blackstone Ventures I and we assumed theoutstanding mortgage of $9.7 million.

 

During the first quarter of 2004, we sold ourinvestment in 3017977 Nova Scotia Company to affiliates associated with theEllman Companies.  In consideration, weadded $1.6 million to an existing note receivable due from Los ArcosDevelopment, LLC.  This note receivableis consolidated and recorded as land on our Consolidated Balance Sheet inaccordance with FIN 46R.

 

17

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Also in the first quarter of 2004, wedisposed of a joint venture investment in an apartment complex and recognized aloss on the disposal of $44,100.

 

**Note 7 – Notes Receivable**

 

Asof June 30, 2004 and December 31, 2003, we had the following notesreceivable outstanding related to various real estate developments and relatedbusinesses (amounts in thousands):

 
| **Note  Receivable**                       | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|--------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Arizona  Hockey Management/Ellman Holdings |       | $                      | 8,275      |                       | $          | 9,500 |   |
| Other                                      |       | 811                    |       | 811                        |       |
| Total                                      |       | $                      | 9,086      |                       | $          | 10,311 |   |

 

Thenotes generally do not require cash payments of interest until specified futuredates, typically when developments are completed or sold.

 

Ofthe $9.1 million outstanding, the notes receivable from companies owned by oraffiliated with Steven Ellman (the Ellman Affiliates) represented an aggregateoutstanding principal balance, for accounting purposes, of approximately $8.3million.  The outstanding balance is netof a $12.9 million impairment recorded in the fourth quarter of 2003 to reflectthe fair value of the notes in connection with management’s plan to sell ournon-core assets and an additional $1.2 million impairment recorded in thesecond quarter of 2004 to reflect Ellman Affiliates’ exercise of its option topurchase the loans pursuant to the terms specified below.  These notes receivable from the Ellman Affiliatesare collateralized by a pledge of certain Ellman Affiliates’ distributions froma holding company that owns the Phoenix Coyotes hockey team and other relatedassets.  These loans were made at a timewhen the Ellman Affiliates intended to relocate the hockey team to an arenathat was to be constructed on the Scottsdale property owned by Los ArcosDevelopment, LLC.

 

Asa result of delays at the Scottsdale property, the Ellman Affiliates elected topursue an alternative site for the hockey arena in Glendale, AZ.  In December 2002, the Ellman Affiliatesand the other investors involved in the ownership of the Phoenix Coyotesentered into a series of transactions in which the Phoenix Coyotes hockey teamand related real estate development assets were consolidated for the purpose ofassisting in obtaining additional financing. The sale of equity interests in the holding company could generateproceeds to help repay our notes.  However,it is unclear at this time the impact the structure will have on the repaymentof our loans made to the Ellman Affiliates in connection with their acquisitionof the Phoenix Coyotes.   Althoughinterest continues to accrue per the terms of the notes, we stopped accruinginterest on the loans for accounting purposes when the development projectswere consolidated into the holding company.

 

18

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Asof January 13, 2004, we entered into loan amendments with the EllmanAffiliates to, among other things, incorporate the pledge of certain EllmanAffiliates’ distributions from the holding company collateralizing the loansand set forth the new maturity date of the loans as December 31, 2004.

 

InAugust 2004, Ellman Investments, Inc. exercised its right to purchase theloans, provided that certain other obligations of the Ellman Affiliates owed tous, including the obligations to make the payments arising with respect to thenotes receivable described in Note 4 have been satisfied, and provided furtherthat the Ellman Affiliates deliver documents satisfactory to us releasing andindemnifying us from liabilities with respect to our various transactions withthe Ellman Affiliates.

 

**Note 8 – Debt**

 

We had the following debtoutstanding at June 30, 2004 and December 31, 2003 (amounts inthousands):

 
| ** **                                                                                                                                                                                                                                       | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Mortgages on five properties in Florida bearing  interest at fixed rates ranging from 8.18% to 9.00%.  The loans are collateralized by the  properties and mature February 2009 and January 2010                                  |       | $                      | 157,896    |                       | $          | 158,668 |   |
|                                                                                                                                                                                                                                             |       |                   |       |                       |       |
| Mortgage payable with a bank, bearing interest at  LIBOR plus 90 basis points (2.27% at June 30, 2004).  The mortgage is collateralized by four of  our properties and matures July 2005                                          |       | 121,375                |       | —                     |       |
|                                                                                                                                                                                                                                             |       |                   |       |                       |       |
| Mortgage on a property in Pentagon City, VA  bearing interest at LIBOR plus 145 basis points (2.82% at June 30,  2004).  The loan is collateralized by  the property and matures January 2009                                     |       | 60,000                 |       | —                     |       |
|                                                                                                                                                                                                                                             |       |                   |       |                       |       |
| Mortgages and notes payable on four properties  bearing interest at fixed rates ranging from 5.88% to 8.45%.  The loans are collateralized by the  properties and mature on various dates between October 2011 and  February 2017 |       | 56,828                 |       | 57,271                     |       |
|                                                                                                                                                                                                                                                  |            |                        |            |                            |            |  |  |

 

19

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| ** **                                                                                                                                                                                                               | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Mortgages on two properties bearing interest at  LIBOR plus 205 basis points (3.42% at June 30, 2004).  The loans are collateralized by the  properties and mature December 2006                          |       | 29,506                 |       | 31,508                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Mortgage on a property in Temecula, CA bearing  interest at 5.20%.  The loan is  collateralized by the property and matures May 2014.                                                                               |       | 28,937                 |       | —                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Construction loan outstanding bearing interest at  LIBOR plus 310 basis points (4.47% at June 30, 2004).  The loan is due March 2005 and is  collateralized by a retail center in Newport, KY (see below) |       | 28,500                 |       | 28,500                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Mortgage on a property in Orlando, FL bearing  interest at LIBOR plus 130 basis points (2.67% at June 30, 2004).  The loan is collateralized by the property  and matures June 2008                       |       | 22,099                 |       | 22,100                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Mortgage on a property in Greensburg, IN bearing  interest at LIBOR plus 155 basis points (2.92% at June 30, 2004).  The loan is collateralized by the property  and matures May 2009                          |       | 14,200                 |       | —                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Construction loan payable to a bank bearing  interest at LIBOR plus 185 basis points (3.22% at June 30, 2004).  The loan matures in March 2005 and is  collateralized by the project in Orlando, FL       |       | 12,638                 |       | 10,466                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Mortgage on a property in Fresno, CA bearing  interest at LIBOR plus 175 basis points (3.12% at June 30, 2004).  The loan is collateralized by the property  and matures October 2004                     |       | 9,694                  |       | —                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Revolving $50.0 million credit facility bearing  interest at LIBOR plus 118 to 170 basis points (2.92% at June 30, 2004),  maturing March 2007 (see below)                                                     |       | —                 |       | —                     |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Mortgage payable with GMAC Commercial Mortgage  Corporation, bearing interest at LIBOR plus 98 basis points.  The mortgage matured in July 2004 and  was refinanced                                            |       | —                 |       | 121,375                    |       |
|                                                                                                                                                                                                                     |       |                   |       |                       |       |
| Revolving $100.0 million credit facility bearing  interest at LIBOR plus 150 to 200 basis points.  In February 2004, we repaid $60.0  million and amended our credit facility (see below)                      |       | —                 |       | 69,100                     |       |

 

20

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| ** **                                                                                                                                                                          | ** ** | **June 30  2004** | ** ** | **December 31  2003** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| Capital lease arrangements with an individual on  two properties.  The capital leases had  effective interest rates of 4.43% and 7.36%.   Both leases were repaid in 2004 |       | —                 |       | 31,006                     |       |
|                                                                                                                                                                                |       |                   |       |                       |       |
| Construction loan payable to a bank bearing interest  at LIBOR plus 150 basis points.  This  loan was refinanced with a new lender in April 2004                          |       | —                 |       | 20,929                     |       |
|                                                                                                                                                                                |       |                   |       |                       |       |
| Note payable to a bank bearing interest at LIBOR  plus 375 basis points.  This loan was  paid in full in June 2004                                                        |       | —                 |       | 8,821                      |       |
|                                                                                                                                                                                |       |                   |       |                       |       |
| Note payable outstanding on a $4.7 million  facility related to Newport, KY.  This  loan was paid in full in March 2004                                                   |       | —                 |       | 4,737                      |       |
| Total                                                                                                                                                                               |       | $                      | 541,673    |                       | $          | 564,481 |   |
|                                                                                                                                                                                     |            |                        |            |                            |            |  |  |

 

Wewere in compliance with all covenants on our credit facility at June 30,2004.  In 2004, we plan to use cash flowfrom operations to fund our recurring debt service obligations.

 

InFebruary 2004, we amended our credit facility, repaid $60.0 million andWells Fargo Bank assumed the amended facility. The amended facility provided for a maximum borrowing of $25.0million.  This amendment was intended toprovide financing through the completion of the Recapitalization Transaction(see Note 2).  In April 2004, we enteredinto a new $50.0 million credit facility with Wells Fargo Bank.  The new facility has a 3-year term and has acurrent interest rate of LIBOR plus 155 basis points.  The LIBOR rate add-on may vary between 118and 170 basis points based on our leverage and other financial ratios.  The new facility also can be increased by$25.0 million to allow up to $75.0 million of borrowings.

 

We have a 65% interest in Newport on theLevee, LLC (Newport) that owns a retail project in Newport, KY.  In addition to the $28.5 million constructionloan in the above table, the City of Newport has issued two series of publicimprovement bonds.  The Series 2000a taxexempt bonds total $44.2 million and are broken down as follows:  (a) $18.7 million maturing 2018 with interestat 8.375%; (b) $20.5 million maturing 2027 with interest at 8.5%; and (c) $5.0million maturing 2027 with interest at 8.375%. The Series 2000b bonds are taxable and have a par amount of $11.6million with interest at 11% due 2009. The bonds are guaranteed by us, by

 

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Newport, and thethird party co-developers of the project. Newport has drawn on $46.8 million of the bonds at June 30, 2004(See Note 12).

 

**Note 9– Financial Instruments: Derivatives and Hedging**

 

Inthe normal course of business, we are exposed to the effect of changes ininterest rates.  We limit these risks byfollowing established risk management policies and procedures including the useof derivatives.  For interest rateexposures, derivatives are used primarily to manage the cost of borrowingobligations.

 

Wehave a policy of only entering into derivative contracts with major financialinstitutions based upon their credit ratings and other factors.  When viewed in conjunction with theunderlying and offsetting exposure that the derivatives are designed to hedge,we have not sustained a material loss from those instruments nor do weanticipate any material adverse effect on our net income,  financial position, or cash flows in thefuture from the use of derivatives.

 

Tomanage interest rate risk, we may employ options, forwards, swaps, caps andfloors, or a combination thereof, depending on the underlying exposure.  We undertake a variety of borrowings fromlines of credit to medium and long-term financings.  To manage overall costs, we currently usederivative instruments to cap our exposure to variability in interest rates orto convert a portion of our variable-rate debt to fixed-rate debt.  In July 2002, we paid $3.4 million forforward-starting, LIBOR-based interest rate caps with a combined notional valueof $152 million and a strike of 7.0% to cap our exposure to interest ratevariability on anticipated floating-rate debt. The interest rate caps are effective July 1, 2004, and continuethrough 2009 to 2010.  Theinterest rate caps are included with other assets on the Consolidated BalanceSheets.  We also use derivatives to protect the fair value of existing oranticipated fixed-rate debt.  During2002, we had five amortizing swaps with approximately $161 million currentnotional value protecting the fair value of approximately $161 millionfixed-rate debt from changes in value attributable to interest ratemovement.  In October 2002, wesold our five Interest Rate Swap Agreements back to the counter party for a$13.8 million gain and will amortize the gain over the fixed-rate debt’sremaining life through 2009 to 2010.  Theremaining deferred gain of $10.9 million is included with accounts payable andother liabilities on the Consolidated Balance Sheets.

 

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Hedgesthat are designated as fair value hedges mitigate risk on changes in the fairvalue of fixed-rate debt.  The unrealizedgains/losses in the fair value of these hedges are reported in earnings with anoffsetting adjustment through earnings to the carrying value of the hedgeddebt.  Adjustments to the carrying valueof the hedged debt are amortized to earnings beginning no later than when thehedged debt ceases to be adjusted for changes in its fair value attributable tothe interest rate risk being hedged.

 

Cashflow hedges hedge the future cash outflows of current or forecasted debt.  The interest rate caps described aboveprotect against variability in interest cash outflows above the cap strikerate.  The changes in the fair value ofthese hedges are reported on the Consolidated Balance Sheets with acorresponding adjustment to either Accumulated Comprehensive Income or inearnings, depending on the hedging relationship.  Unrealized gains and losses held inAccumulated Comprehensive Income will be reclassified to earnings in the sameperiod or periods that the hedged cash flows affect earnings.  As of June 30, 2004, the balance inAccumulated Comprehensive Loss relating to derivatives was $2.4 million.  Within the next twelve months, we estimatethat approximately $0.2 million will be reclassified from AccumulatedComprehensive Loss to earnings as additional interest expense.

 

Wehedge our exposure to the variability in future cash flows for forecastedtransactions other than interest-related cash flows over a maximum period of 12months.  During the forecasted period,unrealized gains and losses in the hedging instrument will be reported inAccumulated Comprehensive Income.  Oncethe hedged transaction takes place, the hedge gains and losses will be reportedin earnings during the same period in which the hedged item is recognized inearnings.  We are not currently hedgingexposure to variability in future cash flows for forecasted transactions otherthan interest-related cash flows on future anticipated debt.

 

**Note 10 – Related PartyTransaction**

 

Duringthe first quarter of 2004, Mr. Mark Burton, a former member of our seniormanagement, resigned his position with us effective February 1, 2004.  In connection with his resignation, weentered into a consulting and office services agreement whereby Mr. Burton andother employees formerly with our company provide various acquisition anddisposition services and related due diligence. The term of the agreement is for one year ending January 31,2005.  In connection with this agreement,we paid approximately $50,000 in consulting services for the quarter endedJune 30, 2004 and $83,000 for the six months ended June 30, 2004.

 

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**Note 11 – Stock Option Plan**

 

Duringthe first six months of 2004, we granted 85,000 stock options (on a post1-for-4 reverse stock split basis) under our 2001 Stock Option and IncentivePlan (the Plan).  As of June 30,2004, we had reserved 998,250 shares for issuance under the Plan.  We issued no stock options during the firstsix months of 2003.

 

Aswe stated in Note 1, we follow the provisions of APB No. 25, “Accounting forStock Issued to Employees.”  In 1997 and2002, we implemented the disclosure provisions required by SFAS No. 123, “Accountingfor Stock-Based Compensation” and SFAS No. 148, “Accounting for Stock-BasedCompensation – Transition and Disclosure – an amendment of SFAS No.123,”respectively, for our stock option plans. SFAS 123 requires pro forma net income and earnings per shareinformation, which is calculated assuming we had accounted for our stock optionplans under the “fair value” method described in that statement.  We estimated the fair value using theBlack-Scholes option pricing model, modified for dividends and using thefollowing assumptions:

 
| ** **                             | ** ** | **Six Months Ended June 30** | ** ** |
|----------------------------------------|------------|-----------------------------------|------------|
| ** **                             | ** ** | **2004**                          | ** ** | **2003** | ** ** |
| Risk free interest rate                |       | 4.21-4.49                         | %          | — |   |
| Annual dividend rate                   |       | 6.06-6.59                         | %          | — |   |
| Volatility factor of the stock price   |       | 38.67-40.98                       | %          | — |   |
| Weighted average expected life (years) |       | 10                                |       | — |   |

 

Wedo not record compensation expense for stock option grants.  The table in Note 1 summarizes results as ifwe had recorded compensation expense for options granted in 2004.

 

**Note 12 – Subsequent Event**

 

On August 2, 2004,we purchased all of the Newport, KY Series 2000b taxable bonds (see Note 8) for$10.2 million (including accrued interest).

 

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# **ITEM 2 -MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS**

# ** **

***Introduction***

 

This report on Form 10-Qcontains certain “forward-looking” statements within the meaning of the PrivateSecurities Litigation Reform Act of 1995 which provides a “safe harbor” forthese types of statements.  You canidentify these forward-looking statements by forward-looking words such as“believe,” “may,” “could,” “will,” “estimate,” “continue,” “anticipate,”“intend,” “seek,” “plan,” “expect,” “should,” “would” and similar expressionsin this report on Form 10-Q.  Theseforward-looking statements are subject to a number of risks, uncertainties andassumptions about Price Legacy, including, among other things:

 

•                  the effect ofeconomic, credit and capital market conditions in general and on real estatecompanies in particular, including changes in interest rates

•                  our ability to compete effectively

•                  developments in the retail industry

•                  the financial stability of Price Legacy’s tenants, includingour reliance on major tenants

•                  our ability to successfully complete real estateacquisitions, developments and dispositions

•                  the financial performance of our properties, joint venturesand investments

•                  government approvals, actions and initiatives, including theneed for compliance with environmental requirements

•                  our ability to continue to qualify as a real estateinvestment trust, or REIT

•                  our ability to realize the value of various assets throughnegotiated transactions

 

The factors identifiedabove are believed to be some, but not all, of the important factors that couldcause actual events and results to be significantly different from those thatmay be expressed or implied in any forward-looking statements.  Any forward-looking statements should also beconsidered in light of the information provided in “Factors That May AffectFuture Performance” located in our Form 10-K filing for the 2003 fiscalyear.  We assume no obligation topublicly update or revise any forward-looking statements, whether as a resultof new information, future events or otherwise.

 

In Management’sDiscussion and Analysis we explain our general financial condition and resultsof operations including:

 

•                  why revenues, costs and earnings changed from the priorperiod

•                  funds from operations (FFO)

•                  how we used cash for capital projects and dividends and howwe expect to use cash for the remainder of 2004

•                  where we plan on obtaining cash for future dividend paymentsand future capital expenditures

 

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**CriticalAccounting Policies and Estimates**

 

Our discussion and analysis of our financial conditionand results of operations are based upon our consolidated financial statements,which have been prepared in accordance with accounting principles generallyaccepted in the United States of America (GAAP).  Preparation of our financial statements inaccordance with GAAP requires management to make estimates and judgments thataffect the reported amounts of assets, liabilities, revenues and expenses andthe related notes.  Refer to our 2003Annual Report on Form 10-K for a discussion of our critical accounting policieswhich include revenue recognition, valuation of real estate assets anddepreciation, and the disposal or impairment of long-lived assets.  There have been no material changes to thesepolicies in 2004.  We believe that ourestimates and assumptions are reasonable based upon historical experience,however, actual results may differ from these estimates under differentassumptions or conditions.  For adetailed discussion on the application of these and other accounting policies,see Note 1 in the Notes to the Consolidated Financial Statements in Item 8 ofour Annual Report on Form 10-K for the 2003 fiscal year.

 

###### ***Overview***

We receive incomeprimarily from rental revenue from open-air shopping center properties,including recoveries from tenants, offset by operating and general andadministrative expenses.  During thefourth quarter of 2003, we segregated a number of our non-core assets fordisposal.  During the first six months of2004, we have continued our efforts to sell our non-core assets.  We sold our properties in Hampton, VA and SanDiego/Rancho Bernardo, CA.  We also soldland in Tucson, AZ and our joint venture investment which owned land in Orlando,FL.  We completed partial sales ofproperties in San Diego/Morena, CA and Tempe, AZ.  Finally, we sold our investment in MaceSecurity International stock and recognized a gain of $9.2 million.  We intend to redeploy the proceeds from thedisposition of these assets into the redemption of our Series A Preferred Stock, the reduction of debt, or the acquisitionof income-generating properties.  Duringthe first six months of 2004, we redeemed 1.0 million shares of Series A Preferred Stock for the redemption price of $16 pershare.  During the first six months of2004, we acquired our joint venture partners’ 50% share of a property inFresno, CA.

 

During the first sixmonths of 2004, we completed a Recapitalization Transaction that resulted in asignificant simplification of our capital structure.  In accordance with Emerging Issues Task Force(EITF) topic D-42 which governed this transaction, approximately $72.8 millionwas deducted from net income to arrive at net loss applicable to commonstockholders in the calculation of earnings per share.

 

###### ***Rental Revenues***

 
| ** **         | ** ** | **Amount****(000’s)** | ** ** | **Change  (000’s)** | ** ** | **Percent  Change** | ** ** |
|--------------------|------------|----------------------------|------------|--------------------------|------------|---------------------|------------|
| 2nd  Quarter 2004  |       | $                          | 33,121     |                     | 1,808      |                | 6          | % |
| 2nd  Quarter 2003  |       | 31,313                     |       |                     |       |                |       |
|               |       |                       |       |                     |       |                |       |
| Year-to-Date  2004 |       | 65,016                     |       | 2,771                    |       | 4                   | %          |
| Year-to-Date  2003 |       | 62,245                     |       |                     |       |                |       |
|                    |            |                            |            |                          |            |                     |            |  |

 

26

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Rental revenues increased$1.8 million to $33.1 million in the second quarter of 2004 compared to thesame period in 2003 primarily because:

 

•                  propertieswe owned both years generated $1.4 million of additional revenues, primarilydue to additional leasing activity at our Miami, FL property and the opening ofour Temecula, CA and Orlando/Millenia II, FL properties,  partially offset by vacancies at our Wayne,NJ property due to Today’s Man and The Wiz bankruptcies

•                  weacquired our joint venture partners’ 50% share of a property in Fresno, CA inMarch 2004 which generated $0.5 million of additional revenues

 

Rental revenues increased$2.8 million to $65.0 million in the six month year-to-date period of 2004compared to the same period in 2003 primarily because:

 

•                  propertieswe owned both years generated $2.3 million of additional revenues, primarilydue to additional leasing activity at our Miami, FL property, the opening ofour Temecula, CA and Orlando/Millenia II, FL properties, and additional revenueat our Tusayan, AZ hotel property, partially offset by vacancies at our Wayne,NJ property due to Today’s Man and The Wiz bankruptcies and Westbury, NY due toKmart’s bankruptcy

•                  weacquired our joint venture partners’ 50% share of a property in Fresno, CA inMarch 2004 which generated $0.6 million of additional revenues

 

###### ***Expenses***

 
| ** **         | ** ** | **Amount****(000’s)** | ** ** | **Change  (000’s)** | ** ** | **Percent  Change** | ** ** |
|--------------------|------------|----------------------------|------------|--------------------------|------------|---------------------|------------|
| 2nd  Quarter 2004  |       | $                          | 18,004     |                     | $          | 94                  |       | 1 | % |
| 2nd  Quarter 2003  |       | 17,910                     |       |                     |       |                |       |
|               |       |                       |       |                     |       |                |       |
| Year-to-Date  2004 |       | 34,965                     |       | 1,265                    |       | 4                   | %          |
| Year-to-Date  2003 |       | 33,700                     |       |                     |       |                |       |
|                    |            |                            |            |                          |            |                     |            |  |  |

 

Expenses increased $0.1million to $18.0 million in the second quarter of 2004 compared to 2003primarily because:

 

•                  werecorded a provision for asset impairment of $1.2 million related to our notesreceivable with the Ellman Affiliates when they exercised their right topurchase the notes

•                  anincrease in expenses of $0.2 million due to the acquisition of our jointventure partners’ 50% share of a property in Fresno, CA

•                  these increases to expenses were offset by

•                  expensesform properties we owned in both years decreased $0.8 million, primarily due tohigher bad debt expense in 2003 at our Wayne, NJ property pertaining to thebankruptcies of Today’s Man and The Wiz

•                  general and administrative expenses decreased $0.5 millionmainly due to a decrease in salaries and legal expense

 

Expenses increased $1.3million to $35.0 million for the six month year-to-date period of 2004 comparedto 2003 primarily because:

 

•                  werecorded a provision for asset impairment of $1.2 million related to our notesreceivable with the Ellman Affiliates when they exercised their right topurchase the notes

•                  expensesfrom properties we owned in both years increased $1.0 million, primarily due toadditional operating expenses due to the openings of our properties in

 

27

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Temecula, CA andOrlando/Millenia II, FL and increased depreciation expense at our Newport, KYproperty

•                  anincrease in expenses of $0.2 million due to the acquisition of our jointventure partners’ 50% share of a property in Fresno, CA

•                  these increases to expenses were offset by

•                  a decrease in general and administrative expenses of $0.9million, primarily due to lower salary expense and legal expense

•                  a decrease to bad debt expense of $0.1 million

 

***OperatingIncome***

 
| ** **         | ** ** | **Amount****(000’s)** | ** ** | **Change  (000’s)** | ** ** | **Percent  Change** | ** ** |
|--------------------|------------|----------------------------|------------|--------------------------|------------|---------------------|------------|
| 2nd  Quarter 2004  |       | $                          | 15,117     |                     | $          | 1,714               |       | 13 | % |
| 2nd  Quarter 2003  |       | 13,403                     |       |                     |       |                |       |
|               |       |                       |       |                     |       |                |       |
| Year-to-Date  2004 |       | $                          | 30,051     |                     | 1,506      |                | 5          | % |
| Year-to-Date  2003 |       | 28,545                     |       |                     |       |                |       |
|                    |            |                            |            |                          |            |                     |            |  |  |

 

Operating incomeincreased for the second quarter and year-to-date periods of 2004 compared tothe same periods in the prior year primarily because of the changes in RentalRevenues and Expenses discussed above.

 

***InterestExpense***

 
| ** **         | ** ** | **Amount****(000’s)** | ** ** | **Change  (000’s)** | ** ** | **Percent  Change** | ** ** |
|--------------------|------------|----------------------------|------------|--------------------------|------------|---------------------|------------|
| 2nd  Quarter 2004  |       | $                          | 7,054      |                     | $          | 540                 |       | 8 | % |
| 2nd  Quarter 2003  |       | 6,514                      |       |                     |       |                |       |
|               |       |                       |       |                     |       |                |       |
| Year-to-Date  2004 |       | $                          | 13,965     |                     | 985        |                | 8          | % |
| Year-to-Date  2003 |       | 12,980                     |       |                     |       |                |       |
|                    |            |                            |            |                          |            |                     |            |  |  |

 

Interest expenseincreased $0.5 million in the second quarter of 2004 compared to 2003 becauseduring the second quarter of 2004 we had an average of $559.8 million of debtoutstanding compared to $558.2 million in the second quarter of 2003.  Our outstanding debt increased mainly due toborrowings on our construction loans.  Interestexpense increased $1.0 million in the six month year-to-date period of 2004compared to 2003 because we had an average of $570.0 million of debtoutstanding compared to $558.8 million for the same period of 2003.

 

The weightedaverage interest rate on our variable rate debt also increased to 2.8% onJune 30, 2004 from 2.6% on June 30, 2003.  We discuss our outstanding debt further in“Liquidity and Capital Resources” located elsewhere in this Form 10-Q.

 

28

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***InterestIncome***

 
| ** **         | ** ** | **Amount****(000’s)** | ** ** | **Change  (000’s)** | ** ** | **Percent  Change** | ** ** |
|--------------------|------------|----------------------------|------------|--------------------------|------------|---------------------|------------|
| 2nd  Quarter 2004  |       | $                          | 63         |                     | $          | (50                 | )          | -44 | % |
| 2nd  Quarter 2003  |       | 113                        |       |                     |       |                |       |
|               |       |                       |       |                     |       |                |       |
| Year-to-Date  2004 |       | 108                        |       | (817                     | )          | -88                 | %          |
| Year-to-Date  2003 |       | 925                        |       |                     |       |                |       |
|                    |            |                            |            |                          |            |                     |            |  |  |

 

Interest income decreased$0.1 million in the second quarter of 2004 compared to 2003 primarily becausewe had notes receivable outstanding with other real estate developers whichearned $0.1 million in interest income in 2003. These notes are no longer outstanding.

 

Interest income decreased$0.8 million in the six month year-to-date period of 2004 compared to 2003primarily because we had notes receivable outstanding with other real estatedevelopers which earned $0.8 million in interest income in 2003.  These notes are no longer outstanding.

 

***DiscontinuedOperations***

We report discontinued operations for our propertiesin Anaheim, CA, Farmington, UT, Phoenix/One North First Street, AZ,  and Tucson/Marana, AZ which are classified asheld for sale.  We also reportdiscontinued operations for our properties in San Diego/Rancho Bernardo, CA,San Diego, CA and Hampton, VA which were sold in 2004.  Also included in the 2003 ConsolidatedStatements of Operations are the discontinued operations of our properties atScottsdale, AZ, Inglewood, CA, New Britain, CT, and Northridge, CA which weresold in 2003.

 

During the first six months of 2004, we sold thefollowing properties and recognized a net gain of $2.2 million.  This gain is recorded as discontinuedoperations in accordance with Statement of Financial Accounting Standards No.144.

 
| **Location**                   | ** ** | **Description**      | ** ** | **Date  Sold** | ** ** | **Sales Price  (000’s)** | ** ** |
|--------------------------------|------------|----------------------|------------|----------------|------------|-------------------------------|------------|
| Hampton,  VA                   |       | Retail Building/Bank |       | 4/1/04         |       | $                             | 4,850      |   |
| San  Diego/Rancho Bernardo, CA |       | Office Building      |       | 5/12/04        |       | 14,655                        |       |
| Tucson/Marana,  AZ             |       | Land                 |       | 6/16/04        |       | 408                           |       |
| San  Diego/Morena, CA          |       | Office Building      |       | 6/28/04        |       | 4,125                         |       |
|                                |            |                      |            |                |            |                               |            |  |

 

During the first sixmonths of 2003 we sold the following properties and recognized a net loss of$2.5 million.  This loss is recorded asdiscontinued operations in the Consolidated Statement of Operations inaccordance with Statement of Financial Accounting Standards No. 144.

 
| **Location**     | ** ** | **Description**    | ** ** | **Date  Sold** | ** ** | **Sales Price  (000’s)** | ** ** |
|------------------|------------|--------------------|------------|----------------|------------|-------------------------------|------------|
| Scottsdale,  AZ  |       | Land, Restaurant   |       | 3/31/03        |       | $                             | 3,000      |   |
| Inglewood,  CA   |       | Warehouse Building |       | 4/29/03        |       | 4,000                         |       |
| New  Britain, CT |       | Warehouse Building |       | 5/15/03        |       | 3,529                         |       |
| Northridge,  CA  |       | Shopping Center    |       | 6/27/03        |       | 5,850                         |       |
|                  |            |                    |            |                |            |                               |            |  |

 

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***Gain/Losson Sale of Real Estate and Investments***

During the first sixmonths of 2004 we disposed of a joint venture investment, sold our investmentin Mace stock, sold a parcel of land at our property in Tempe, AZ and sold ourjoint venture investment which owned land in Orlando, FL.   We recognized a net gain of $12.7 million onthe sale of these investments.

 

During the first sixmonths of 2003, we received payment on the notes receivable related to the saleof our development self storage properties and recognized additional gains onthe sales of $0.7 million.

 

***Funds From Operations (amounts in thousands)***

 
| ** **                                                | ** ** | **Three Months  Ended June 30** | ** ** | **Six Months  Ended June 30** | ** ** |
|-----------------------------------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                                                | ** ** | **2004**                             | ** ** | **2003**                           | ** ** | **2004** | ** ** | **2003** | ** ** |
| Net  income                                               |       | $                                    | 23,226     |                               | $          | 6,144 |   | $ | 31,531 |   | $ | 16,533 |   |
| Depreciation  and amortization                            |       | 5,547                                |       | 5,617                              |       | 11,160 |   | 9,759 |   |
| Depreciation  and amortization of discontinued operations |       | 16                                   |       | 238                                |       | 31 |   | 500 |   |
| Price  Legacy’s share of joint venture depreciation  |       | —                               |       | 338                                |       | 26 |   | 517 |   |
| Depreciation  of non-real estate assets                   |       | (47                                  | )          | (31                                | )          | (74 | ) | (62 | ) |
| Net  (gain) loss on sale of discontinued operations       |       | (2,193                               | )          | 2,314                              |       | (2,193 | ) | 2,521 |   |
| Net  gain on sale of real estate and investments          |       | (12,666                              | )          | —                             |       | (12,622 | ) | (687 | ) |
| FFO  before preferred dividends                           |       | 13,883                               |       | 14,620                             |       | 27,859 |   | 29,081 |   |
| Preferred  dividends                                      |       | (2,886                               | )          | (12,423                            | )          | (14,700 | ) | (24,783 | ) |
| Preferred  stock conversion and redemption                |       | (1,423                               | )          | —                             |       | (74,235 | ) | — |   |
| FFO                                                       |       | $                                    | 9,574      |                               | $          | 2,197 |   | $ | (61,076 | ) | $ | 4,298 |   |
|                                                      |       |                                 |       |                               |       |   |   |   |   |
| Net  cash provided by (used in):                          |       |                                 |       |                               |       |   |   |   |   |
| Operating  activities                                     |       | $                                    | 10,458     |                               | $          | 7,449 |   | $ | 24,537 |   | $ | 22,109 |   |
| Investing  activities                                     |       | 57,888                               |       | 10,036                             |       | 48,537 |   | 488 |   |
| Financing  activities                                     |       | (44,324                              | )          | (12,094                            | )          | (51,479 | ) | (16,359 | ) |
| Significant  non-cash items:                              |       |                                 |       |                               |       |   |   |   |   |
| Provision  for asset impairment                           |       | 1,225                                |       | —                             |       | 1,225 |   | — |   |
| Preferred  stock conversion                               |       | —                               |       | —                             |       | 72,812 |   | — |   |
| Series  B preferred dividends                             |       | —                               |       | 2,821                              |       | 2,212 |   | 5,579 |   |
| Deferred  rents                                           |       | 391                                  |       | 690                                |       | 922 |   | 1,199 |   |

 

OurCompany, as well as real estate industry analysts, generally considers FFO asanother measurement of economic profitability for real estate-orientedcompanies.  The Board of Governors of theNational Association for Real Estate Investment Trusts (NAREIT) defines FFO asnet income in accordance with GAAP, excluding gains (or losses) from sales ofproperty, plus depreciation and amortization. We calculate FFO in accordance with the NAREIT definition which alsoexcludes gains (losses) from the sale of investments, and adjusts for preferreddividends.  We believe that FFO ishelpful to investors as a measure of our financial performance because, alongwith cash flow from operating activities, financing activities and investingactivities, FFO provides investors with an indication of the ability of a REITto incur and service debt, to make capital expenditures and to fund other cashneeds.  In addition, we believe that FFOprovides useful information about our performance when compared to other REITssince FFO is generally recognized as the industry standard for reporting theoperations of REITs.  FFO

 

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doesnot represent the cash flows from operations defined by GAAP, may not becomparable to similarly titled measures of other companies and should not beconsidered as an alternative to net income as an indicator of our operatingperformance or to cash flows as a measure of liquidity.  Excluded from FFO are significant componentsin understanding our financial performance.

 

FFO before preferreddividends and preferred redemption during the second quarter of 2004 decreased$0.7 million or 5.0% to $13.9 million compared to the second quarter of 2003primarily because:

 

•                  joint venture investments contributed $1.3 million to FFO inthe prior year

•                  we recorded a provision for asset impairment of $1.2 millionrelated to our notes receivable during the second quarter of 2004

•                  properties sold or held for sale contributed $0.7 million toFFO in the prior year

•                  additional interest expense reduced FFO $0.5 million

•                  decreased interest income reduced FFO $0.1 million

•                  these decreases to FFO were partially offset by:

•                  properties we owned in both years increased FFO $2.1 million

•                  reduced general and administrative expenses increased FFO$0.5 million

•                  we acquired our joint venture partners’ 50% share of aproperty in Fresno, CA which contributed $0.4 million to FFO

 

FFO before preferreddividends and preferred stock conversion and redemption during the six monthyear-to-date period of 2004 decreased $1.2 million or 4.2% to $27.9 millioncompared to the same period of 2003 primarily because:

 

•                  joint venture investments contributed an additional $1.6million to FFO in the prior year

•                  we recorded a provision for asset impairment of $1.2 millionrelated to our notes receivable during the second quarter of 2004

•                  properties sold or held for sale contributed $1.0 million toFFO in the prior year

•                  additional interest expense reduced FFO $1.0 million

•                  decreased interest income reduced FFO $0.8 million

•                  these decreases to FFO were partially offset by:

•                  properties we owned in both years increased FFO $2.8 million

•                  reduced general and administrative expenses increased FFO$0.9 million

•                  we acquired our joint venture partners’ 50% share of aproperty in Fresno, CA which contributed $0.5 million to FFO

 

**Liquidity and Capital Resources**

 

Liquidityrefers to our ability to generate sufficient cash flows to meet the short andlong-term cash requirements of our business operations.  Capital resources represent those funds usedor available to be used to support our business operations and consist ofstockholders’ equity and debt.

 

Cashflow from operations has been the principal source of capital to fund ourongoing operations and dividend payments, while asset sales and use of ourcredit facilities and mortgage financing have been the principal sources ofcapital required to fund our growth. While we are positioned to finance our business activities through avariety of sources, we expect to satisfy

 

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short-term liquidity requirements through net cashprovided by operations and through borrowings.

 

***Dividends***

Asa REIT, we are required to distribute 90% of our taxable income, excludingcapital gains, in dividends.  Our Series A Preferred Stock required a quarterly dividend payment of$9.6 million during the first quarter of 2004 and $2.4 million during the secondquarter of 2004.  Our Series 1 PreferredStock required a dividend of $0.5 million during the second quarter of2004.  Also during 2004, we declared andissued a dividend of 397,807 additional shares of Series B PreferredStock.  As of June 30, 2004, we hada federal net operating loss (NOL) carry-forward of approximately $17.1million, which could be used to offset future taxable income.

 

Asa result of our Recapitalization Transaction, our Series B Preferred Stock wasexchanged for shares of common stock.  Inaddition, based on a final report from the exchange agent in the Series AExchange Offer, 20,942,672 shares of our Series A Preferred Stock were tenderedfor exchange in the Series A Exchange Offer for a total of 2,942,463 shares ofour Series 1 Preferred Stock and 18,900,219 shares of our common stock (on apost 1-for-4 reverse stock split basis). If the dividends we pay to holders of our Series A and Series 1Preferred Stock are less than 90% of our taxable income (after applying anyapplicable NOLs), we can declare a dividend to our common stockholders.  Because the Recapitalization Transactionreduced the amount of dividends payable to preferred holders, it is more likelythat we will be required to pay a dividend to our common stockholders in orderto distribute 90% of our taxable income.

 

OnMay 14, 2004, we paid a dividend to our common stockholders of $0.28 per shareand we also paid dividends of $0.35 per share on our Series APreferred Stock.  We also paid a dividendof $0.16 per share on the Series 1 Preferred Stock, which represents aquarterly dividend of $0.29 per share prorated for the period of March 12,2004 through April 30, 2004 for a total of $0.5 million.  On July 15, 2004, we announced that ourboard of directors declared a dividend to our common stockholders of $0.28 pershare, a dividend of $0.35 per share on our Series APreferred Stock and a dividend of $0.29 per share on the Series 1 PreferredStock, for a total of approximately $13.1 million. We expect to pay suchdividends on or about August 16, 2004.

 

Ifour taxable income is less than the dividends we pay to holders of our Series Aand Series 1 Preferred Stock, we are still obligated to pay them.  If we are unable to pay these dividends whendue, they accumulate until paid.

 

On June 7, 2004, weredeemed 1.0 million shares of our Series A PreferredStock for the redemption price of $16.00 per share.

 

***Debt***

InApril 2004, we entered into a new $50.0 million unsecured credit facilitywith Wells Fargo Bank.  Prior to this newfacility we had a $100 million unsecured credit facility with Fleet Bank asagent, which was amended in February 2004 when we repaid $60.0 million andWells Fargo

 

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assumed the facility.  The new facility has a 3-year term and aninterest rate as of June 30, 2004, of LIBOR plus 155 basis points and therate will be variable, between 118 and 170 basis points based on our leverageand other financial ratios.  We will beable to increase the new facility by $25.0 million to allow up to $75.0 millionof borrowings.  As of June 30, 2004we had no amount outstanding on the new facility.

 

Ourcurrent credit facility requires us to comply with specified financialcovenants, the most restrictive of which relate to fixed charge coverage andleverage.  Covenants in some of ourconstruction loans are also tied to our credit facility.  We were in compliance with all covenants inour credit facility at June 30, 2004. To the extent that we violate any of these covenants in the future, wewould need to obtain waivers from our lenders to maintain compliance.  We cannot assure that any such waivers wouldbe forthcoming.

 

In2004 we had or will have the following significant debt financing andmaturities:

 

•                  In January 2004, we obtained a $60.0million loan secured by our property in Pentagon City, VA.  We used the proceeds to reduce the amountoutstanding on our credit facility

•                  In February 2004, we repaid a $4.7million loan related to our property in Newport, KY.  We repaid the loan through borrowing on ourcredit facility

•                  In March 2004, a $28.5 millionconstruction loan related to our property in Newport, KY matured.  We extended this loan for one year at thesame terms

•                  In April 2004, we refinanced aconstruction loan related to our property in Temecula, CA with a new lender for$29.0 million

•                  In April 2004, we repaid a $19.3 millioncapital lease obligation on our Greensburg, IN property with proceeds from thesale of our property in Hampton, VA (approximately $4.6 million) with thebalance through a borrowing on our credit facility.

•                  In May 2004, we obtained a $14.2 million loansecured by our property in Greensburg, IN. We used the proceeds to reduce the amount outstanding on our creditfacility

•                  In May 2004, an $11.7 million capital leaserelated to our office building in San Diego/Rancho Bernardo, CA was repaid byformer member of our senior management. We subleased our interest and granted them the right to purchase the property.  This right to purchase was exercised andclosed in May 2004

•                  In June 2004, a $4.6 million loanrelated to land we owned in Orlando, FL matured.  This loan was guaranteed by us and by ourpartner.  We paid this loan in full andsubsequently sold the land

•                  In July 2004, a $121.4 million loanrelated to five properties matured.  Werefinanced this loan with another lender for the same amount with four of theproperties

•                  In October 2004, a $9.6 million loanrelated to our property in Fresno, CA matures. We plan to refinance this loan

 

Wemay also refinance additional debt outstanding to obtain more favorable terms.

 

Thefollowing table summarizes all of our long-term contractual obligations,excluding interest, to pay third parties as of June 30, 2004 (amounts inthousands):

 

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| ** **               | ** ** | **Contractual Cash Obligations** | ** ** |
|--------------------------|------------|----------------------------------|------------|
| ** **               | ** ** | **Total**                        | ** ** | **Less than  1 year** | ** ** | **1-3  years** | ** ** | **3-5  Years** | ** ** | **More  than 5  years** | ** ** |
| Debt                     |       | $                                | 541,673    |   | $ | 11,671 |   | $ | 198,327 |   | $ | 29,926 |   | $ | 301,749 |   |
| Ground lease obligations |       | 23,305                           |       | 498 |   | 1,993 |   | 1,994 |   | 18,820 |   |
| Total                    |       | $                                | 564,978    |   | $ | 12,169 |   | $ | 200,320 |   | $ | 31,920 |   | $ | 320,569 |   |

 

In 2004 we plan to use cash flow from operations to fund our recurringdebt service obligations.

 

##### ***Off-Balance Sheet FinancingMatters***

The City of Newport, KY in 1999 issued two series of public improvementbonds related to our project in Newport, KY. The Series 2000a tax exempt bonds total $44.2 million and are brokendown as follows: (a) $18.7 million maturing 2018 with interest at 8.375%;(b) $20.5 million maturing 2027 with interest at 8.5%; and (c) $5.0 millionmaturing 2027 with interest at 8.375%. The Series 2000b bonds are taxable and have a par amount of $11.6million with interest at 11% due 2009. The bonds are guaranteed by the Newport project, Excel Legacy, and theproject’s third party developer.  As ofJune 30, 2004, Newport had drawn on $46.8 million of the bonds forconstruction incurred prior to that date.

 

On August 2, 2004,we purchased all of the Newport, KY Series 2000b taxable bonds for $10.2million (including accrued interest).

 

***Growth***

Wecontinue to evaluate various properties for acquisition or development andcontinue to evaluate other investment opportunities in a very competitive realestate market.  We anticipate borrowingavailable amounts on our credit facility or mortgages to fund any acquisitionand development opportunities.  We alsoanticipate obtaining construction loans to fund our developmentactivities.  During the first quarter of2004, we paid $2.8 million to purchase our joint venture partners’ 50% interestin a property in Fresno, CA and assumed a mortgage of $9.7 million.

 

***Development***

Wehave a significant retail project in Newport, KY.  The majority of the construction wascompleted in October 2001, with all of the primary buildings completedexcept for one out parcel yet to be leased. The project opened in October 2001. At June 30, 2004, the project was approximately 75% occupied,excluding ground leases.  As the projectbecomes fully leased, there may be capital required to fund the remainingtenant improvements.  We spent $0.8million on tenant improvements during the first six months of 2004 and estimatespending an additional $0.5 million through the remainder of 2004.

 

Wealso have retail development projects in which construction will continuethrough 2004.  The Temecula, CA projectis an open-air retail shopping center with Wal-Mart, Kohl’s and othertenants.  At June 30, 2004, theproject was 100% leased.  We plan todevelop an historical parcel within this project for approximately $5.0million.  We spent approximately $200,000on this

 

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development during the first six months of 2004 andestimate spending an additional $250,000 through the remainder of 2004.  We expect to fund these costs throughavailable cash.

 

InNovember 2002, we purchased land adjacent to our retail property inOrlando, FL to develop an open-air retail center.  At June 30, 2004, the project wasapproximately 66% occupied.  We estimatethe total cost of this development to be approximately $19.7 million with anestimated $0.6 million remaining to complete construction, which we will fundthrough an existing construction loan.

 

LosArcos Development, LLC (an affiliate of the Ellman Companies) owns land inScottsdale, AZ.  Commencing in 1996 loanswere made to Los Arcos Development, LLC to acquire this real estate, and wealso acquired an additional senior loan secured by the Scottsdale property in2003 (see Note 4).  At December 31,2003, we wrote down the value of these notes receivable and recognized animpairment of $29.5 million.  As ofJune 30, 2004, the outstanding principal balance on the note receivablerelating to the Scottsdale property, net of the impairment write down, wasapproximately $22.0 million and is classified as land on our ConsolidatedBalance Sheets in accordance with FIN 46R. We contributed $0.9 million in the first six months of 2004 forpre-development expenses related to this project, and this sum is includedwithin the indebtedness under the loans.

 

OrlandoBusiness Park, LLC owned approximately 2,400 acres of land in Orlando, FL.  During the second quarter of 2004 we soldthis land and recognized a gain of $2.6 million.

 

***Properties Held for Sale***

Fromtime to time we will consider selling properties to better align our portfoliowith our geographic and tenant composition strategies.  We may also participate in tax-deferredexchange transactions, which allow us to dispose of properties and reinvest theproceeds in a tax efficient manner. During the second quarter of 2004, we sold a property in Hampton, VA for$4.8 million.  We also sold an officebuilding at our property in San Diego/Morena, CA for $4.1 million and a portionof our property in Tempe, AZ for $1.7 million. When we sell an operating property, we anticipate a temporary reductionin operating income due to the time lag between selling a property andreinvesting the proceeds.

 

TheAnaheim GardenWalk project in Anaheim, CA, located adjacent to Disney’s twotheme parks on Harbor Boulevard and Disney’s new proposed theme park on KatellaAvenue, is expected to consist of a 626,000 square foot open-air retail centerand four hotels.  During the fourthquarter of 2003, we decided to sell the property rather than develop it andwrote down the value by $43.4 million to its estimated fair market value.

 

Weown approximately 40 acres of land in Farmington, UT.  During the fourth quarter of 2003, we decidedto sell the property rather than develop it and wrote down the value by $3.6million to its estimated fair market value. We also own some land in Tucson/Marana, AZ.  We sold a portion of this land during thesecond quarter of 2004 and continue our efforts to sell the remaining parcels.

 

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Weare contemplating purchasing various properties and selling certain otherproperties.  As we sell properties, ourcash flows from operations may decrease until the proceeds are reinvested,either into new properties, used to reduce debt, or used for the redemption ofour Series A Preferred Stock.

 

***Notes Receivable***

Wehad $9.1 million in principal amount of third party notes receivableoutstanding as of June 30, 2004 related to various real estatedevelopments and related businesses.  Thenotes generally do not require cash payments of interest until specified futuredates, typically when developments are completed or sold.  Of the $9.1 million outstanding, notesreceivable from companies owned by or affiliated with Steven Ellman (the EllmanAffiliates) represent an aggregate outstanding principal balance, foraccounting purposes, of approximately $8.3 million.  The outstanding balance is net of a $12.9million impairment recorded in the fourth quarter of 2003 to reflect the fairvalue of the notes in connection with management’s plan to sell our non-coreassets and an additional $1.2 million impairment recorded in the second quarterof 2004 to reflect Ellman Affiliates’ exercise of its option to purchase theloans pursuant to the terms specified below. These notes receivable from the Ellman Affiliates are collateralized bya pledge of certain Ellman Affiliates’ distributions from a holding companythat owns the Phoenix Coyotes hockey team and other related assets.   These loans were made at a time when theEllman Affiliates intended to relocate the hockey team to an arena that was tobe constructed on the Scottsdale property owned by Los Arcos Development, LLC.

 

Asa result of delays at the Scottsdale property, the Ellman Affiliates elected topursue an alternative site for the hockey arena in Glendale, AZ.  In December 2002, the Ellman Affiliatesand the other investors involved in the ownership of the Phoenix Coyotesentered into a series of transactions in which the Phoenix Coyotes hockey teamand related real estate development assets were consolidated for the purpose ofassisting in obtaining additional financing. The sale of equity interests inthe holding company could generate proceeds to help repay our notes.  However, it is unclear at this time theimpact the structure will have on the repayment of our loans made to the EllmanAffiliates in connection with their acquisition of the Phoenix Coyotes.   Although interest continues to accrue perthe terms of the notes, we stopped accruing interest on the loans foraccounting purposes when the development projects were consolidated into theholding company.

 

Asof January 13, 2004, we entered into loan amendments with the EllmanAffiliates to, among other things, incorporate the pledge of certain EllmanAffiliates’ distributions from the holding company collateralizing the threeloans and set forth the new maturity date of the loans as December 31,2004.

 

InAugust 2004, Ellman Investments, Inc. exercised its right to purchase theloans, provided that certain other obligations of the Ellman Affiliates owed tous, including the obligations to make the payments arising with respect to thenotes receivable described in Note 4 have been satisfied, and provided furtherthat the Ellman Affiliates deliver documents satisfactory to us releasing andindemnifying us from liabilities with respect to our various transactions withthe Ellman Affiliates.

 

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***Other***

In April 2004, we soldour investment in Mace Security International Stock and recognized a gain onthe sale of $9.2 million.

 

In April 2002, weentered into five Interest Rate Swap Agreements with Fleet Bank that areaccounted for under SFAS No. 133.  Thecombined notional amount was approximately $161 millionand the maturities ranged from 2009 to 2010. We paid monthly interest of LIBOR plus 3.08% to 3.77% and Fleet Bankassumed our fixed rates of 8.18% to 9.00%. These swaps hedged the fair value of fixed-rate debt.  In October 2002, we sold the five swapsback to the counter party for $13.8 million and will amortize the gain over thefixed-rate debt’s remaining life through 2009 to 2010.

 

InJuly 2002, we paid $3.4 million for four Interest Rate Cap Agreements withWells Fargo Bank and Fleet Bank that are also accounted for under SFAS No.133.  The combined notional amount is$152.0 million and the maturities range from 2009 to 2010.  The agreements cap our variable rate risk onone month LIBOR interest at 7%.

 

**Inflation**

 

Because a substantialnumber of our leases contain provisions for rent increases based on changes invarious consumer price indices, based on fixed rate increases, or based onpercentage rent if tenant sales exceed certain base amounts, we do not expectinflation to have a material impact on future net income or cash flow fromdeveloped and operating properties.  Inaddition, substantially all retail leases are triple net, which means specificoperating expenses and property taxes are passed through to the tenant.

 

# **ITEM 3 -QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

# ** **

Market risks relating toour operations result primarily from changes in short-term LIBOR interestrates.  We do not have any significantforeign exchange or other material market risk.

 

Our exposure to market riskfor changes in interest rates relates primarily to our variable interest ratedebt.  We enter into variable rate debtobligations to support general corporate purposes, including acquisitions,capital expenditures and working capital needs. We continuously evaluate our level of variable rate debt with respect tototal debt and other factors, including our assessment of the current andfuture economic environment.

 

We had $298.0 million invariable rate debt outstanding at June 30, 2004.  Based upon these year-end debt levels, ahypothetical increase in interest rates by 100 basis points would increaseinterest expense by approximately $3.0 million on an annual basis, and likewisedecrease our earnings and cash flows.  Wecannot predict market fluctuations in interest rates and their impact on ourvariable rate debt, nor can there be any assurancethat fixed rate long-term debt will be

 

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availableto us at favorable rates, if at all. Consequently, future results may differ materially from the estimatedadverse changes discussed above.

 

InJuly 2002, in order to mitigate our variable interest rate exposure, weacquired four interest rate caps, which hedge our exposure on $152 million ofvariable rate debt.  The hedges limit ourexposure to the one-month LIBOR index associated with certain of ouroutstanding debt at 7%.  To the extentthe one-month LIBOR index exceeds 7%, the counterparties on the hedges will pay us the difference between the actual index and7%.

 

The following tablepresents the scheduled principal payments on notes receivable and the scheduledprincipal payments on mortgages payable over the next five years andthereafter.  The table also includes theaverage interest rates of the financial instruments during each respective yearand the fair value of the notes receivable and mortgages payable.  We determine the fair value of financialinstruments through the use of discounted cash flow analysis using currentinterest rates for notes receivable with terms and credit characteristicssimilar to our existing portfolio and borrowings under terms similar to ourexisting mortgages payable.

 
| ** **                                        | ** ** | **Expected Maturity Date as of June 30, 2004  (dollar amounts in thousands)** | ** ** |
|---------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|
| ** **                                        | ** ** | **2004**                                                                           | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** | **2008** | ** ** | **Thereafter** | ** ** | **Total** | ** ** | **Fair  Value** | ** ** |
| Notes receivable, including notes from affiliates |       | $                                                                                  | 10,311     |   | — |   | — |   | — |   | — |   | — |   | $ | 10,311 |   | $ | 10,311 |   |
| Average interest rate                             |       | 12                                                                                 | %          | — |   | — |   | — |   | — |   | — |   | 12 | % |   |   |
| Debt                                              |       | $                                                                                  | 11,671     |   | $ | 166,745 |   | $ | 31,582 |   | $ | 3,791 |   | $ | 26,135 |   | $ | 301,749 |   | $ | 541,673 |   | $ | 547,734 |   |
| Average interest rate                             |       | 3                                                                                  | %          | 3 | % | 4 | % | 7 | % | 3 | % | 6 | % | 5 | % |   |   |
|                                                   |            |                                                                                    |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

# **ITEM 4 – CONTROLSAND PROCEDURES**

 

We maintain disclosurecontrols and procedures that are designed to ensure that information requiredto be disclosed in our reports filed under the Securities Exchange Act of 1934,as amended, is recorded, processed, summarized and reported within the timeperiods specified in the rules and forms of the Securities and ExchangeCommission, and that such information is accumulated and communicated to ourmanagement, including our Chief Executive Officer and Chief Financial Officer,as appropriate, to allow timely decisions regarding required disclosure.  In designing and evaluating the disclosurecontrols 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 necessarily was required to apply its judgment in evaluating thecost-benefit relationship of possible controls and procedures.

 

As required by Securitiesand Exchange Commission Rule 13a-15(b), under the supervision and with theparticipation of management, including our Chief Executive Officer and ChiefFinancial Officer, we carried out an evaluation of the effectiveness of thedesign and operation of our disclosure controls and procedures as of the end ofthe period covered by this report.  Basedon the foregoing, our Chief Executive Officer and Chief Financial Officer concludedthat the Company’s disclosure controls and procedures were effective at thereasonable assurance level.

 

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There have been nochanges in our internal controls over financial reporting during the quartercovered by this report that have materially affected, or are reasonably likelyto materially affect, our internal controls over financial reporting.

 

#### **PART II - OTHER INFORMATION**

 

# **ITEM 1 – LEGALPROCEEDINGS**

# ** **

Weare not a party to any legal proceedings other than various claims and lawsuitsarising in the ordinary course of business that, in the opinion of ourmanagement, are individually or in the aggregate material to our financialstatements.

 

# **ITEM 6 - EXHIBITSAND REPORTS ON FORM 8-K**

# ** **

(a)          The following exhibitsare included herein or incorporated by reference:

31.1    Certifications Pursuant to Section 302of the Sarbanes-Oxley Act of 2002

32.1    Certifications Pursuant to 18 U.S.C.Section 1350, as Adopted Pursuant to Section 906 of theSarbanes-Oxley Act of 2002

 

(b)         Reports on Form 8-K

 

We filed a report on Form8-K on May 10, 2004 reporting under Items 5 and 7 the issuance of a pressrelease announcing the redemption of 1,000,000 shares of our Series A PreferredStock.

 

We filed a report on Form8-K on May 24, 2004 reporting under Items 5 and 7 the issuance of a pressrelease announcing the filing of a shelf registration statement registering24,367,348 shares of our common stock held by certain of our stockholders.

 

We filed a report on Form8-K on June 2, 2004 reporting under Items 5 and 7 the issuance of a pressrelease announcing the appointment of Jacklyn Horton to our Board of Directorsand announcing the resignation of James Cahill from our Board of Directors.

 

We filed a report on Form8-K on June 9, 2004 reporting under Items 5 and 7 the issuance of a pressrelease announcing the completion of the redemption of 1,000,000 shares of ourSeries A Preferred Stock.

 

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**SIGNATURES**

 

Pursuant to the requirementsof the Securities Exchange Act of 1934, the Registrant has duly caused thisreport to be signed on its behalf by the undersigned thereunto duly authorized.

 

 
|                            | PRICE LEGACY  CORPORATION  |
|---------------------------------|----------------------------|
|                            | *Registrant*               |
|                            |                       |
|                            |                       |
| Date:  August 9, 2004 |                       |
|                            | /s/ Jack McGrory           |   |
|                            | Jack McGrory               |
|                            | *Chief Executive Officer*  |
|                            |                       |
|                            |                       |
| Date:  August 9, 2004 |                       |
|                            | /s/ Jeffrey R. Fisher |   |
|                            | Jeffrey R. Fisher          |
| * *                        | *Chief Financial Officer*  |

 

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