UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549





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FORM 10-Q



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| | x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
| | - | ---------------------------------------------------------------------------------------

For the quarterly period ended June 30,
2012



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



For the transition period from 
                           to       
                      .



Commission File Number: 001-32248



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GRAMERCY CAPITAL CORP.

(Exact name of registrant as specified in
its charter)





---





|Maryland                        |  | 06-1722127                          
|------------------------------- |  | ------------------------------------
|(State or other jurisdiction of |  | (I.R.S. Employer Identification No.)
|incorporation or organization)  |  |                                     



420 Lexington Avenue, New York, New York
10170

(Address of principal executive offices)
(Zip Code)

(212) 297-1000

(Registrant's telephone number, including
area code)



---







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



Indicate by check mark whether the registrant
has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted
and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). YES   x
    NO   ̈



Indicate by check mark whether the registrant
is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions
of "large accelerated filer," "accelerated filer” and "smaller reporting company" in Rule 12b-2
of the Exchange Act.



|Large accelerated filer   ̈ |  | Accelerated filer  x |  | Non-accelerated filer   ̈   |  | Smaller reporting company   ̈
|-------------------------- |  | -------------------- |  | -------------------------- |  | ----------------------------
|                           |  |                      |  | (Do not check if a smaller |  |                             
|                           |  |                      |  | reporting company)         |  |                             



Indicate by check mark whether the registrant
is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES   ̈
   NO  x



The number of shares outstanding of the
registrant's common stock, $0.001 par value, was  52,629,487 as of August 8, 2012.















GRAMERCY CAPITAL CORP.

INDEX



|           |  |                                                                                                                                            |  | PAGE
|---------- |  | ------------------------------------------------------------------------------------------------------------------------------------------ |  | ----
|PART I.    |  | FINANCIAL INFORMATION                                                                                                                      |  | 3   
|ITEM 1.    |  | FINANCIAL STATEMENTS                                                                                                                       |  | 3   
|           |  | Condensed Consolidated Balance Sheets as of June 30, 2012 and December 31, 2011 (unaudited)                                                |  | 3   
|           |  | Condensed Consolidated Statements of Comprehensive Income (Loss) for the
    three and six months ended June 30, 2012 and 2011 (unaudited) |  | 5   
|           |  | Condensed Consolidated Statement of Stockholders’ Equity and Non-controlling Interests for the six months ended June 30, 2012 (unaudited)  |  | 6   
|           |  | Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2012 and 2011 (unaudited)                                |  | 7   
|           |  | Notes to Condensed Consolidated Financial Statements (unaudited)                                                                           |  | 8   
|ITEM 2.    |  | MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS                                                      |  | 47  
|ITEM 3.    |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                                                                 |  | 60  
|ITEM 4.    |  | CONTROLS AND PROCEDURES                                                                                                                    |  | 61  
|PART II.   |  | OTHER INFORMATION                                                                                                                          |  | 62  
|ITEM 1.    |  | LEGAL PROCEEDINGS                                                                                                                          |  | 62  
|ITEM 1A.   |  | RISK FACTORS                                                                                                                               |  | 62  
|ITEM 2.    |  | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS                                                                                |  | 62  
|ITEM 3.    |  | DEFAULTS UPON SENIOR SECURITIES                                                                                                            |  | 62  
|ITEM 4.    |  | MINE SAFETY DISCLOSURES                                                                                                                    |  | 62  
|ITEM 5.    |  | OTHER INFORMATION                                                                                                                          |  | 62  
|ITEM 6.    |  | EXHIBITS                                                                                                                                   |  | 63  
|SIGNATURES |  | 64                                                                                                                                        





2









PART I. FINANCIAL INFORMATION

ITEM I. FINANCIAL STATEMENTS



Gramercy Capital Corp.

Condensed Consolidated Balance Sheets

(Unaudited, dollar amounts in thousands,
except per share data)





|                                                                        |  | June 30, |           |   | December 31, |  
|----------------------------------------------------------------------- |  | -------- | --------- | - | ------------ | -
|                                                                        |  | 2012     |           |   | 2011         |  
|Assets:                                                                 |  |          |           |   |              |  
|Real estate investments, at cost:                                       |  |          |           |   |              |  
|Land                                                                    |  | $        | 10,381    |   |              | $
|Building and improvements                                               |  |          | 26,791    |   |              |  
|Other real estate investments                                           |  |          | 20,318    |   |              |  
|Less: accumulated depreciation                                          |  |          | (2,679    | ) |              |  
|Total real estate investments, net                                      |  |          | 54,811    |   |              |  
|                                                                        |  |          |           |   |              |  
|Cash and cash equivalents                                               |  |          | 192,438   |   |              |  
|Restricted cash                                                         |  |          | 91        |   |              |  
|Loans and other lending investments, net                                |  |          | 157       |   |              |  
|Investment in joint ventures                                            |  |          | 367       |   |              |  
|Assets held-for-sale, net                                               |  |          | -         |   |              |  
|Tenant and other receivables, net                                       |  |          | 3,573     |   |              |  
|Derivative instruments, at fair value                                   |  |          | 1         |   |              |  
|Acquired lease assets, net of accumulated amortization of $347 and $342 |  |          | 367       |   |              |  
|Deferred costs, net of accumulated amortization of $2,937 and $4,899    |  |          | 1,371     |   |              |  
|Other assets                                                            |  |          | 3,440     |   |              |  
|Subtotal                                                                |  |          | 256,616   |   |              |  
|                                                                        |  |          |           |   |              |  
|Assets of Consolidated Variable Interest Entities ("VIEs"):             |  |          |           |   |              |  
|Real estate investments, at cost:                                       |  |          |           |   |              |  
|Land                                                                    |  |          | 21,967    |   |              |  
|Building and improvements                                               |  |          | 4,495     |   |              |  
|Less:  accumulated depreciation                                         |  |          | (322      | ) |              |  
|Total real estate investments directly owned                            |  |          | 26,140    |   |              |  
|                                                                        |  |          |           |   |              |  
|Cash and cash equivalents                                               |  |          | 131       |   |              |  
|Restricted cash                                                         |  |          | 43,869    |   |              |  
|Loans and other lending investments, net                                |  |          | 958,956   |   |              |  
|Commercial mortgage-backed securities - available-for-sale              |  |          | 851,936   |   |              |  
|Assets held-for-sale, net                                               |  |          | 10,265    |   |              |  
|Loans held-for-sale                                                     |  |          | 15,300    |   |              |  
|Derivative instruments, at fair value                                   |  |          | 340       |   |              |  
|Accrued interest                                                        |  |          | 27,356    |   |              |  
|Deferred costs, net of accumulated amortization of $33,516 and $31,498  |  |          | 7,048     |   |              |  
|Other assets                                                            |  |          | 25,053    |   |              |  
|Subtotal                                                                |  |          | 1,966,394 |   |              |  
|                                                                        |  |          |           |   |              |  
|Total assets                                                            |  | $        | 2,223,010 |   |              | $





The accompanying notes are an integral
part of these Condensed Consolidated Financial Statements.





3









Gramercy Capital Corp.

Condensed Consolidated Balance Sheets

(Unaudited, dollar amounts in thousands,
except per share data)





|                                                                                                                                                                                                                              |  | June 30, |            |   | December 31, |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------- | ---------- | - | ------------ | -
|                                                                                                                                                                                                                              |  | 2012     |            |   | 2011         |  
|Liabilities and Equity:                                                                                                                                                                                                       |  |          |            |   |              |  
|Liabilities:                                                                                                                                                                                                                  |  |          |            |   |              |  
|Accounts payable and accrued expenses                                                                                                                                                                                         |  | $        | 7,913      |   |              | $
|Dividends payable                                                                                                                                                                                                             |  |          | 26,857     |   |              |  
|Deferred revenue                                                                                                                                                                                                              |  |          | 2,572      |   |              |  
|Below-market lease liabilities, net of accumulated amortization      of $1,305 and $1,189                                                                                                                                     |  |          | 1,789      |   |              |  
|Liabilities related to assets held-for-sale                                                                                                                                                                                   |  |          | -          |   |              |  
|Other liabilities                                                                                                                                                                                                             |  |          | 589        |   |              |  
|Subtotal                                                                                                                                                                                                                      |  |          | 39,720     |   |              |  
|                                                                                                                                                                                                                              |  |          |            |   |              |  
|Non-Recourse Liabilities of Consolidated VIEs:                                                                                                                                                                                |  |          |            |   |              |  
|Collateralized debt obligations                                                                                                                                                                                               |  |          | 2,346,003  |   |              |  
|Accounts payable and accrued expenses                                                                                                                                                                                         |  |          | 4,332      |   |              |  
|Accrued interest payable                                                                                                                                                                                                      |  |          | 3,670      |   |              |  
|Deferred revenue                                                                                                                                                                                                              |  |          | 88         |   |              |  
|Liabilities related to assets held-for-sale                                                                                                                                                                                   |  |          | 155        |   |              |  
|Derivative instruments, at fair value                                                                                                                                                                                         |  |          | 180,753    |   |              |  
|Other liabilities                                                                                                                                                                                                             |  |          | 1,106      |   |              |  
|Subtotal                                                                                                                                                                                                                      |  |          | 2,536,107  |   |              |  
|                                                                                                                                                                                                                              |  |          |            |   |              |  
|Total liabilities                                                                                                                                                                                                             |  |          | 2,575,827  |   |              |  
|                                                                                                                                                                                                                              |  |          |            |   |              |  
|Commitments and contingencies                                                                                                                                                                                                 |  |          | -          |   |              |  
|                                                                                                                                                                                                                              |  |          |            |   |              |  
|Equity:                                                                                                                                                                                                                       |  |          |            |   |              |  
|Common stock, par value $0.001, 100,000,000 shares authorized,      52,295,323 and 51,086,266 shares issued and outstanding at June      30, 2012 and December 31, 2011, respectively.                                        |  |          | 52         |   |              |  
|Series A cumulative redeemable preferred stock, par value $0.001,      liquidation preference $88,146, 4,600,000 shares authorized,      3,525,822 shares issued and outstanding at June 30, 2012 and      December 31, 2011. |  |          | 85,235     |   |              |  
|Additional paid-in-capital                                                                                                                                                                                                    |  |          | 1,084,516  |   |              |  
|Accumulated other comprehensive loss                                                                                                                                                                                          |  |          | (333,594   | ) |              |  
|Accumulated deficit                                                                                                                                                                                                           |  |          | (1,189,929 | ) |              |  
|Total Gramercy Capital Corp. stockholders' equity                                                                                                                                                                             |  |          | (353,720   | ) |              |  
|Non-controlling interest                                                                                                                                                                                                      |  |          | 903        |   |              |  
|Total equity                                                                                                                                                                                                                  |  |          | (352,817   | ) |              |  
|Total liabilities and equity                                                                                                                                                                                                  |  | $        | 2,223,010  |   |              | $





The accompanying notes are an integral
part of these Condensed Consolidated Financial Statements.





4







Gramercy Capital Corp.

Condensed Consolidated Statements of
Comprehensive Income (Loss)

(Unaudited, dollar amounts in thousands,
except per share data)





|                                                                                                                |  | Three months ended June 30, |            |   | Six months ended June 30, |  
|--------------------------------------------------------------------------------------------------------------- |  | --------------------------- | ---------- | - | ------------------------- | -
|                                                                                                                |  | 2012                        |            |   | 2011                      |  
|Revenues:                                                                                                       |  |                             |            |   |                           |  
|Interest income                                                                                                 |  | $                           | 36,225     |   |                           | $
|Less: Interest expense                                                                                          |  |                             | 20,184     |   |                           |  
|Net interest income                                                                                             |  |                             | 16,041     |   |                           |  
|Other revenues:                                                                                                 |  |                             |            |   |                           |  
|Management fees                                                                                                 |  |                             | 9,616      |   |                           |  
|Rental income                                                                                                   |  |                             | 1,360      |   |                           |  
|Operating expense reimbursements                                                                                |  |                             | 353        |   |                           |  
|Other income                                                                                                    |  |                             | 1,498      |   |                           |  
|Total revenues                                                                                                  |  |                             | 28,868     |   |                           |  
|Expenses:                                                                                                       |  |                             |            |   |                           |  
|Property operating expenses                                                                                     |  |                             |            |   |                           |  
|Real estate taxes                                                                                               |  |                             | 394        |   |                           |  
|Utilities                                                                                                       |  |                             | 379        |   |                           |  
|Ground rent and leasehold obligations                                                                           |  |                             | 356        |   |                           |  
|Direct billable expenses                                                                                        |  |                             | 15         |   |                           |  
|Other property operating expenses                                                                               |  |                             | 8,261      |   |                           |  
|Total property operating expenses                                                                               |  |                             | 9,405      |   |                           |  
|                                                                                                                |  |                             |            |   |                           |  
|Other-than-temporary impairment                                                                                 |  |                             | 21,961     |   |                           |  
|Portion of impairment recognized in other comprehensive loss                                                    |  |                             | (6,955     | ) |                           |  
|Impairment on loans held-for-sale                                                                               |  |                             | 1,000      |   |                           |  
|Net impairment recognized in earnings                                                                           |  |                             | 16,006     |   |                           |  
|Depreciation and amortization                                                                                   |  |                             | 312        |   |                           |  
|Management, general and administrative                                                                          |  |                             | 11,928     |   |                           |  
|Provision for loan losses                                                                                       |  |                             | 5,989      |   |                           |  
|Total expenses                                                                                                  |  |                             | 43,640     |   |                           |  
|Income (loss) from continuing operations before equity in net income of joint venture and provisions for taxes  |  |                             | (14,772    | ) |                           |  
|Equity in net income of joint venture                                                                           |  |                             | 29         |   |                           |  
|Income (loss) from continuing operations before provision for taxes and      gain
    on extinguishment of debt |  |                             | (14,743    | ) |                           |  
|Gain on extinguishment of debt                                                                                  |  |                             | -          |   |                           |  
|Provision for taxes                                                                                             |  |                             | (2,107     | ) |                           |  
|Net income (loss) from continuing operations                                                                    |  |                             | (16,850    | ) |                           |  
|Net income (loss) from discontinued operations                                                                  |  |                             | (2,914     | ) |                           |  
|Net gains from disposals                                                                                        |  |                             | 53         |   |                           |  
|Net income (loss) from discontinued operations                                                                  |  |                             | (2,861     | ) |                           |  
|Net income (loss) attributable to Gramercy Capital Corp.                                                        |  |                             | (19,711    | ) |                           |  
|Accrued preferred stock dividends                                                                               |  |                             | (1,790     | ) |                           |  
|Net income (loss) available to common stockholders                                                              |  | $                           | (21,501    | ) |                           | $
|                                                                                                                |  |                             |            |   |                           |  
|Basic earnings per share:                                                                                       |  |                             |            |   |                           |  
|Net income (loss) from continuing operations, net of preferred stock dividends                                  |  | $                           | (0.36      | ) |                           | $
|Net income (loss) from discontinued operations                                                                  |  |                             | (0.06      | ) |                           |  
|Net income (loss) available to common stockholders                                                              |  | $                           | (0.42      | ) |                           | $
|                                                                                                                |  |                             |            |   |                           |  
|Diluted earnings per share:                                                                                     |  |                             |            |   |                           |  
|Net income (loss) from continuing operations, net of preferred stock dividends                                  |  | $                           | (0.36      | ) |                           | $
|Net income (loss) from discontinued operations                                                                  |  |                             | (0.06      | ) |                           |  
|Net income (loss) available to common stockholders                                                              |  | $                           | (0.42      | ) |                           | $
|Basic weighted average common shares outstanding                                                                |  |                             | 50,759,306 |   |                           |  
|Diluted weighted average common shares and common share      equivalents outstanding                            |  |                             | 50,759,306 |   |                           |  
|                                                                                                                |  |                             |            |   |                           |  
|Other comprehensive income:                                                                                     |  |                             |            |   |                           |  
|Unrealized gain (loss) on available for sale securities and      derivative instruments:                        |  |                             |            |   |                           |  
|Unrealized holding gains (losses) arising during period                                                         |  | $                           | (11,888    | ) |                           | $
|                                                                                                                |  |                             |            |   |                           |  
|Other comprehensive income (loss)                                                                               |  |                             | (11,888    | ) |                           |  
|                                                                                                                |  |                             |            |   |                           |  
|Comprehensive income (loss) attributable to Gramercy Capital Corp.                                              |  | $                           | (31,599    | ) |                           | $
|                                                                                                                |  |                             |            |   |                           |  
|Comprehensive income (loss) attributable to common stockholders                                                 |  | $                           | (33,389    | ) |                           | $





The accompanying notes are an integral
part of these Condensed Consolidated Financial Statements.





5









Gramercy Capital Corp.

Condensed Consolidated Statement of Stockholders’
Equity and Non-controlling Interests

(Unaudited, dollar amounts in thousands)







|                                                           |  | Common Stock |            |  | Series A
    Preferred |   |    | Additional
    Paid-In- |  |   | Accumulated Other
    Comprehensive |  |  | Retained Earnings
    / (Accumulated |           |  | Total Gramercy
    Capital |   |          | Non-controlling |  |   |            |  
|---------------------------------------------------------- |  | ------------ | ---------- |  | ---------------------- | - | -- | ----------------------- |  | - | ----------------------------------- |  |  | ------------------------------------ | --------- |  | -------------------------- | - | -------- | --------------- |  | - | ---------- | -
|                                                           |  | Shares       |            |  | Par Value              |   |    | Stock                   |  |   | Capital                             |  |  | Income (Loss)                        |           |  | Deficit)                   |   |          | Corp            |  |   | interest   |  
|Balance at December 31, 2011                               |  |              | 51,086,266 |  |                        | $ | 50 |                         |  | $ | 85,235                              |  |  | $                                    | 1,080,600 |  |                            | $ | (440,939 | )               |  | $ | (1,166,279 | )
|Net loss                                                   |  |              | -          |  |                        |   | -  |                         |  |   | -                                   |  |  |                                      |           |  |                            |   |          |                 |  |   | (20,070    | )
|Change in net unrealized loss on derivative instruments    |  |              | -          |  |                        |   | -  |                         |  |   | -                                   |  |  |                                      |           |  |                            |   | (5,133   | )               |  |   | -          |  
|Change in unrealized loss on securities available-for-sale |  |              | -          |  |                        |   | -  |                         |  |   | -                                   |  |  |                                      |           |  |                            |   | 112,478  |                 |  |   | -          |  
|Issuance of stock                                          |  |              | 1,000,000  |  |                        |   | 1  |                         |  |   | -                                   |  |  |                                      | 2,519     |  |                            |   |          |                 |  |   | -          |  
|Issuance of stock - stock purchase plan                    |  |              | 10,215     |  |                        |   | -  |                         |  |   | -                                   |  |  |                                      | 149       |  |                            |   |          |                 |  |   | -          |  
|Stock based compensation - fair value                      |  |              | 198,842    |  |                        |   | 1  |                         |  |   | -                                   |  |  |                                      | 1,248     |  |                            |   |          |                 |  |   | -          |  
|Dividends accrued on preferred
stock                       |  |              | -          |  |                        |   | -  |                         |  |   | -                                   |  |  |                                      | -         |  |                            |   |          |                 |  |   | (3,580     | )
|Balance at June 30, 2012                                   |  |              | 52,295,323 |  |                        | $ | 52 |                         |  | $ | 85,235                              |  |  | $                                    | 1,084,516 |  |                            | $ | (333,594 | )               |  | $ | (1,189,929 | )







The accompanying notes are an integral
part of these Condensed Consolidated Financial Statements.





6







Gramercy Capital Corp.

Condensed Consolidated Statements of
Cash Flows

(Unaudited, dollar amounts in thousands)





|                                                                        |  | Six months ended June 30, |         
|----------------------------------------------------------------------- |  | ------------------------- | --------
|                                                                        |  | 2012                      |         
|Operating Activities:                                                   |  |                           |         
|Net income (loss)                                                       |  | $                         | (20,070 
|Adjustments to net cash provided by operating activities:               |  |                           |         
|Depreciation and amortization                                           |  |                           | 2,695   
|Amortization of leasehold interests                                     |  |                           | -       
|Amortization of acquired leases to rental revenue                       |  |                           | (113    
|Amortization of deferred costs                                          |  |                           | 277     
|Amortization of discount and other fees                                 |  |                           | (12,751 
|Straight-line rent adjustment                                           |  |                           | (96     
|Non-cash impairment charges                                             |  |                           | 39,713  
|Net gain on sale of properties and lease terminations                   |  |                           | (11,996 
|Equity in net (income) loss of joint ventures                           |  |                           | (57     
|Gain on extinguishment of debt                                          |  |                           | -       
|Amortization of stock compensation                                      |  |                           | 1,248   
|Provision for loan losses                                               |  |                           | 8,534   
|Net realized (gain) loss on loans                                       |  |                           | 108     
|Changes in operating assets and liabilities:                            |  |                           |         
|Restricted cash                                                         |  |                           | 8,384   
|Tenant and other receivables                                            |  |                           | (706    
|Accrued interest                                                        |  |                           | 1,041   
|Other assets                                                            |  |                           | 301     
|Payment of capitalized tenant leasing costs                             |  |                           | (67     
|Accounts payable, accrued expenses and other liabilities                |  |                           | (5,155  
|Deferred revenue                                                        |  |                           | 184     
|Net cash provided by operating activities                               |  |                           | 11,474  
|                                                                        |  |                           |         
|Investing Activities:                                                   |  |                           |         
|Capital expenditures and leasehold costs                                |  |                           | (1,209  
|Deferred investment costs                                               |  |                           | -       
|Proceeds from sale of real estate                                       |  |                           | 37,259  
|Proceeds from sale of securities available-for-sale                     |  |                           | -       
|New loan investment originations and funded commitments                 |  |                           | -       
|Principal collections on investments                                    |  |                           | 111,117 
|Investment in commercial mortgage-backed securities                     |  |                           | (535    
|Distribution received from joint venture                                |  |                           | 186     
|Payment of deferred investment costs                                    |  |                           | 923     
|Change in accrued interest income                                       |  |                           | -       
|Sale of marketable investments, net                                     |  |                           | -       
|Change in restricted cash from investing activities                     |  |                           | -       
|Net cash provided by investing activities                               |  |                           | 147,741 
|                                                                        |  |                           |         
|Financing Activities:                                                   |  |                           |         
|Repayment of collateralized debt obligations                            |  |                           | (123,336
|Repayment of mortgage notes                                             |  |                           | -       
|Repurchase of collateralized debt obligations                           |  |                           | -       
|Purchase of interest rate caps                                          |  |                           | -       
|Net proceeds from sale of common stock                                  |  |                           | 2,669   
|Deferred financing costs and other liabilities                          |  |                           | -       
|Change in restricted cash from financing activities                     |  |                           | (9,704  
|Net cash used in financing activities                                   |  |                           | (130,371
|Net increase (decrease) in cash and cash equivalents                    |  |                           | 28,844  
|Cash and cash equivalents at beginning of period                        |  |                           | 163,725 
|Cash and cash equivalents at end of period                              |  | $                         | 192,569 
|                                                                        |  |                           |         
|Non-cash activity:                                                      |  |                           |         
|Deferred gain (loss) and other non-cash activity related to derivatives |  | $                         | (5,133  
|                                                                        |  |                           |         
|Supplemental cash flow disclosures:                                     |  |                           |         
|Interest paid                                                           |  | $                         | 25,043  
|Income taxes paid                                                       |  | $                         | 3,877   





The accompanying notes are an integral
part of these Condensed Consolidated Financial Statements.





7







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



1. Business and Organization



Gramercy
Capital Corp. (the “Company” or “Gramercy”) is a self-managed, integrated commercial real estate
investment  and asset management company. The Company was formed in April 2004 and commenced operations upon the completion
of its initial public offering in August 2004. In June 2012, following a strategic review process completed by a special
committee of the Company’s Board of Directors, the Company announced it will remain independent and will now focus on
deploying the Company's capital into income-producing net leased real estate. The Company’s new investment criteria
will focus on single tenant net lease investments with durable credits across a variety of industries in markets across
the United States. New investments initially will be funded from existing financial resources. Subsequently, subject to
market conditions, the Company expects to seek to raise additional debt and/or equity capital to support
further growth. The Company’s legacy commercial real estate finance business,
which operates under the name Gramercy Finance,  manages approximately $2,000,000 of  whole loans, bridge loans, subordinate interests in whole loans, mezzanine loans, preferred equity,
commercial mortgage-backed securities, or CMBS, and other real estate related securities which are financed through three
non-recourse collateralized debt obligations, or CDOs. The Company’s legacy property management and investment
business, which operates under the name Gramercy Realty, currently manages approximately $2,000,000 of commercial
properties leased primarily to regulated financial institutions, and affiliated users throughout the United States. Neither
Gramercy Finance nor Gramercy Realty is a separate legal entity but are divisions of the Company through which the
Company’s commercial real estate finance and property management and investment businesses are conducted.



The Company has elected to be taxed as
a real estate investment trust, or REIT, under the Internal Revenue Code of 1986, as amended, or the Internal Revenue Code, and
generally will not be subject to U.S. federal income taxes to the extent it distributes its taxable income, if any, to its stockholders.
The Company has in the past established, and may in the future establish taxable REIT subsidiaries, or TRSs, to effect various
taxable transactions. Those TRSs would incur U.S. federal, state and local taxes on the taxable income from their activities.



The Company conducts
substantially all of its operations through its operating partnership, GKK Capital LP, or the Operating Partnership. The Company
is the sole general partner of the Operating Partnership. The Operating Partnership conducts its finance business primarily through
two private REITs, Gramercy Investment Trust and Gramercy Investment Trust II; its commercial real estate investment business through
various wholly - owned entities; and its realty management business through a wholly - owned TRS.



As of June 30, 2012 , Gramercy Finance
held loans and other lending investments and CMBS of $1,826,349 net of unamortized fees, discounts, asset sales, reserves for loan
losses and other adjustments, with an average spread to 30-day LIBOR of 358 basis points for its floating rate investments, and
an average yield of approximately 8.69% for its fixed rate investments. As of June 30, 2012, Gramercy Finance also held interests
in one credit tenant net lease investment, or CTL investment, and six interests in real estate acquired through foreclosures.



As of June 30, 2012, Gramercy
Realty’s portfolio consisted of 31 bank branches and 13 office buildings and Gramercy Realty’s consolidated
properties aggregated approximately 572 thousand rentable square feet. As of June 30, 2012 and December 31, 2011, the
occupancy of Gramercy Realty’s consolidated properties was 41.1% and 39.2%, respectively.  In addition to its owned portfolio, Gramercy
Realty also manages approximately $2,000,000of real estate assets that were
transferred to affiliates of KBS Real Estate Investment, Inc., or KBS, pursuant to a collateral transfer and settlement
agreement, or the Settlement Agreement, executed in September 2011 for an orderly transition of substantially all of Gramercy
Realty’s prior assets to affiliates of KBS, Gramercy Realty’s senior mezzanine lender, in full satisfaction of
Gramercy Realty’s obligations with respect to Gramercy Realty’s $549,713 senior and junior mezzanine loans with
KBS, Goldman Sachs Mortgage Company, or GSMC, Citicorp North America, Inc., or Citicorp, and SL Green, or the Goldman
Mezzanine Loans. The portfolio of transferred properties, or the KBS Portfolio, is comprised of 524 bank branches, 278 office
buildings and one land parcel,  totaling approximately 20.5 million rentable square feet.





8







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Basis of Quarterly Presentation



The accompanying Condensed Consolidated
Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States, or GAAP,
for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, it does
not include all of the information and footnotes required by GAAP for complete financial statements. In management’s opinion,
all adjustments (consisting of normal recurring accruals) considered necessary for fair presentation have been included. The 2012
operating results for the period presented are not necessarily indicative of the results that may be expected for the year ending
December 31, 2012. These financial statements should be read in conjunction with the consolidated financial statements and
accompanying notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. The Condensed
Consolidated Balance Sheet at December 31, 2011 has been derived from the audited financial statements at that date, but does not
include all the information and footnotes required by GAAP for complete financial statements.



2. Significant Accounting Policies



Reclassification



For purposes of comparability, certain
prior-year amounts have been reclassified to conform to the current-year presentation for assets classified as discontinued operations.



Principles of Consolidation



The Condensed Consolidated Financial Statements
include the Company’s accounts and those of the Company’s subsidiaries which are wholly-owned or controlled by the
Company, or entities which are variable interest entities, or VIEs, in which the Company is the primary beneficiary. The primary
beneficiary is the party that absorbs a majority of the VIE’s anticipated losses and/or a majority of the expected returns.
The Company has evaluated its investments for potential classification as variable interests by evaluating the sufficiency of each
entity’s equity investment at risk to absorb losses, and determined that the Company is the primary beneficiary for three
VIEs and has included the accounts of these entities in the Condensed Consolidated Financial Statements.



All significant intercompany balances and
transactions have been eliminated. Entities which the Company does not control or entities which are VIEs and where the Company
is not the primary beneficiary are accounted for as investments in joint ventures or as investments in CMBS.



Variable Interest Entities



The following is a summary of the Company’s
involvement with VIEs as of June 30, 2012:





|                                |  | Company carrying value-assets |           |     | Company carrying value-liabilities |   |           | Face value of assets held by the VIE |  |   | Face value of liabilities issued by the VIE | 
|------------------------------- |  | ----------------------------- | --------- | --- | ---------------------------------- | - | --------- | ------------------------------------ |  | - | ------------------------------------------- | 
|Consolidated VIEs               |  |                               |           |     |                                    |   |           |                                      |  |   |                                             | 
|Collateralized debt obligations |  | $                             | 1,966,394 |     |                                    | $ | 2,536,107 |                                      |  | $ | 2,740,740                                   | 
|Unconsolidated VIEs             |  |                               |           |     |                                    |   |           |                                      |  |   |                                             | 
|CMBS-controlling class          |  | $                             | -         | (1) |                                    | $ | -         |                                      |  | $ | 601,806                                     | 







| | (1) | CMBS are assets held by the collateralized debt obligations
classified on the Condensed Consolidated Balance Sheets as an Asset of Consolidated VIEs.
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------





9







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





The following is a summary
of the Company’s involvement with VIEs as of December 31, 2011:





|                                |  | Company carrying value-assets |           |     | Company carrying value-liabilities |   |           | Face value of assets held by the VIE |  |   | Face value of liabilities issued by the VIE | 
|------------------------------- |  | ----------------------------- | --------- | --- | ---------------------------------- | - | --------- | ------------------------------------ |  | - | ------------------------------------------- | 
|Consolidated VIEs               |  |                               |           |     |                                    |   |           |                                      |  |   |                                             | 
|Collateralized debt obligations |  | $                             | 1,990,922 |     |                                    | $ | 2,654,109 |                                      |  | $ | 2,927,748                                   | 
|Unconsolidated VIEs             |  |                               |           |     |                                    |   |           |                                      |  |   |                                             | 
|CMBS-controlling class          |  | $                             | -         | (1) |                                    | $ | -         |                                      |  | $ | 624,592                                     | 





| | (1) | CMBS are assets held by the collateralized debt obligations classified on the Condensed Consolidated Balance Sheets as an Asset
of Consolidated VIEs.
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------



Unconsolidated VIEs



Investment in CMBS



The Company has investments in certain
CMBS which are considered to be VIEs. These securities were acquired through investment, and are primarily comprised of securities
that were originally investment grade securities, and do not represent a securitization or other transfer of the Company’s
assets. The Company is not named as the special servicer or collateral manager of these investments, except as discussed further
below.



The Company is not obligated to provide,
nor has it provided, any financial support to these entities. Substantially all of the Company’s securities portfolio, with
an original aggregate face amount of $1,215,381, is financed by the Company’s CDOs, and the Company’s exposure to loss
is therefore limited to its interests in these consolidated entities described above. The Company has not consolidated the aforementioned
CMBS investments due to the determination that based on the structural provisions and nature of each investment, the Company does
not directly control the activities that most significantly impact the VIE’s economic performance.



The Company further analyzed its investment
in controlling class CMBS to determine if it was the primary beneficiary. At June 30, 2012, the Company owned securities of one
controlling non-investment grade CMBS investment, GS Mortgage Securities Trust 2007-GKK1, or the Trust, with a carrying value of
$0. The total par amount of CMBS issued by the Trust was $633,654.



The Trust is a resecuritization of $633,654
of CMBS originally rated AA through BB. The Company purchased a portion of the below investment grade securities, originally totaling
approximately $27,287. The Company is the collateral administrator on the transaction and receives a total fee of 5.5 basis
points on the par value of the underlying collateral. The Company has determined that it is the non-transferor sponsor of the Trust.
As collateral administrator, the Company has the right to purchase defaulted securities from the Trust at fair value if very specific
triggers have been reached. The Company has no other rights or obligations that could impact the economics of the Trust and therefore has
concluded that it is not the primary beneficiary. The Company can be removed as collateral administrator, for cause only,
with the vote of 66 2/3% of the certificate holders. There are no liquidity facilities or financing agreements associated
with the Trust. The Company has no on-going financial obligations, including advancing, funding or purchasing collateral in the
Trust.



The Company’s
maximum exposure to loss as a result of its investment in this Trust totaled $0, which equals the book value of this investment
as of June 30, 2012.





10









Gramercy Capital
Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Investments in Joint Ventures



The Company accounts for its investments
in joint ventures under the equity method of accounting since it exercises significant influence, but does not unilaterally control
the entities, and is not considered to be the primary beneficiary. In the joint ventures, the rights of the other investors are
both protective and participating. Unless the Company is determined to be the primary beneficiary, these rights preclude it from
consolidating the investments. The investments are recorded initially at cost as an investment in joint ventures, and subsequently
are adjusted for equity in net loss and cash contributions and distributions. Any difference between the carrying amount of the
investments on the Company’s balance sheet and the underlying equity in net assets is evaluated for impairment at each reporting
period. None of the joint venture debt is recourse to the Company. As of June 30, 2012 and December 31, 2011, the Company had investments
of $367 and $496 in a joint venture, respectively.



Cash and Cash Equivalents



The Company considers all highly liquid
investments with maturities of three months or less when purchased to be cash equivalents.



Restricted Cash



Restricted cash at June 30, 2012
consists of $43,869 on deposit with the trustee of the Company’s CDOs. The remaining balance consists of $91 which represents
amounts escrowed pursuant to mortgage agreements securing the Company’s real estate investments and CTL investments for insurance,
taxes, repairs and maintenance, tenant improvements, interest, and debt service and amounts held as collateral under security and
pledge agreements relating to leasehold interests.



Assets Held-for-Sale



Real Estate and CTL Investments Held-for-Sale



Real estate investments or CTL
investments to be disposed of are reported at the lower of carrying amount or estimated fair value, less cost to sell. Once
an asset is classified as held-for-sale, depreciation expense is no longer recorded and current and prior periods are
reclassified as “discontinued operations.” As of June 30, 2012 and December 31, 2011, the Company had real estate
investments held-for-sale of $10,265 and $42,965, respectively. The Company recorded impairment charges of $2,639 and $2,639
for the three and six months ended June 30, 2012, respectively, and $0 and $561 for the three and six months ended June 30,
2011, respectively, related to real estate investments classified as held-for-sale, which are included in net income (loss)
from discontinued operations.



Loans and Other Lending Investments Held-for-Sale



Loans held-for-investment are intended
to be held-to-maturity and, accordingly, are carried at cost, net of unamortized loan origination fees, discounts, and repayments
unless such loan or investment is deemed to be impaired. Loans held-for-sale are carried at the lower of cost or market value using
available market information obtained through consultation with dealers or other originators of such investments. As of June 30,
2012, the Company had one loan and other lending investment designated as held-for-sale of $15,300 and no lending investments designated
as held-for-sale as of December 31, 2011. The Company recorded impairment charges of $1,000 for the three and six months
ended June 30, 2012 and no impairment charges for the three and six months ended June 30, 2011 related to loans and other lending
investments held-for-sale.



Extinguishment of Debt



During the three and six months ended June
30, 2012, the Company did not repurchase notes previously issued by the Company’s CDOs.



During the three and six months
ended June 30, 2011, the Company repurchased, at a discount, $37,859 and $48,259, respectively, of notes previously issued by
one of the Company’s three CDOs. The Company recorded a net gain on the early extinguishment of debt of $10,870 and
$14,526 for the three and six months ended June 30, 2011, respectively, in connection with the repurchase of the notes.





11









Gramercy Capital
Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Commercial Mortgage-Backed Securities



The Company designates its
CMBS investments on the date of acquisition of the investment, including the determination of the appropriate accounting model for impairment and revenue
recognition based on the Company’s assessment of the risk of loss. The Company classifies the risk of loss as remote or not
remote. CMBS securities that the Company does not hold for the purpose
of selling in the near-term but may dispose of prior to maturity, are designated as available-for-sale and are carried
at estimated fair value with the net unrealized gains or losses recorded as a component of accumulated other
comprehensive income (loss) in stockholders’ equity. Upon the disposition of a CMBS investment designated as
available-for-sale, the unrealized gain or loss recognized in accumulated other comprehensive income is reversed. A realized
gain or loss is computed by comparing the amortized cost of the CMBS investment sold to the cash proceeds received, and the
resultant gain or loss is recorded in other income on the Condensed Consolidated Statement of Comprehensive Income (Loss).
Unrealized losses that are, in the judgment of management, an other-than-temporary impairment are bifurcated into (i) the
amount related to credit losses and (ii) the amount related to all other factors. The evaluation includes a review of the
credit status and the performance of the collateral supporting those securities, including key terms of the securities and
the effect of local, industry and broader economic trends. The portion of the other-than-temporary impairment related to
credit losses is computed by comparing the amortized cost of the investment to the present value of cash flows expected to be
collected and is charged against earnings on the Condensed Consolidated Statement of Comprehensive Income (Loss). The portion of
the other-than-temporary impairment related to all other factors is recognized as a component of other comprehensive loss on
the Condensed Consolidated Balance Sheet. The determination of an other-than-temporary impairment is a subjective process,
and different judgments and assumptions could affect the timing of loss realization.



On a quarterly basis, when significant
changes in estimated cash flows from the cash flows previously estimated occur due to actual prepayment and credit loss experience,
and the present value of the revised cash flow is less than the present value previously estimated, an other-than-temporary impairment
is deemed to have occurred. The security is written down to the net present value of expected cash flows with the resulting charge
against earnings and a new cost basis is established, with the difference between the revised present value of cash flows and the
security's fair value recognized as a component of other comprehensive loss on the Condensed Consolidated Balance Sheet.



During the three and six months
ended June 30, 2012, the Company recorded an other-than-temporary impairments charge of $15,006 and $36,074, respectively,
due to adverse changes in expected cash flows related to seven and thirteen CMBS investments as of June 30, 2012. During the
three and six months ended June 30, 2011, the Company recorded other-than-temporary impairment charges of $6,037 on one CMBS
investment.



The Company calculates a revised yield
based on the current amortized cost of the investment (including any other-than-temporary impairments recognized to date) and the
revised yield is then applied prospectively to recognize interest income. Assumptions about future
cash flows consider reasonable management judgment about the probability that the holder of an asset will be unable to collect
all amounts due.



The Company determines the fair value of
CMBS based on the types of securities in which the Company has invested. The Company consults with dealers of securities to periodically
obtain updated market pricing for the same or similar instruments. For securities for which there is no active market, the Company
may utilize a pricing model to reflect changes in projected cash flows. The value of the securities is derived by applying discount
rates to such cash flows based on current market yields. The yields employed are obtained from the Company’s own experience
in the market, advice from dealers when available, and/or information obtained in consultation with other investors in similar
instruments. Because fair value estimates, when available, may vary to some degree, the Company must make certain judgments and
assumptions about the appropriate price to use to calculate the fair values for financial reporting purposes. Different judgments
and assumptions could result in materially different presentations of value.



During the three and six months ended June
30, 2012, the Company sold no CMBS investments. During the three and six months ended June 30, 2011, the Company sold eight
CMBS investments for a realized gain of $15,126.



Tenant and Other Receivables



Tenant and other receivables are primarily
derived from the rental income that each tenant pays in accordance with the terms of its lease, which is recorded on a straight-line
basis over the initial term of the lease. Since many leases provide for rental increases at specified intervals, straight-line
basis accounting requires the Company to record a receivable, and include in revenues, unbilled rent receivables that will only
be received if the tenant makes all rent payments required through the expiration of the initial term of the lease. Tenant and
other receivables also include receivables related to tenant reimbursements for common area maintenance expenses and certain other
recoverable expenses that are recognized as revenue in the period in which the related expenses are incurred.





12







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Tenant and other receivables
are recorded net of the allowances for doubtful accounts, which as of June 30, 2012 and December 31, 2011 were $283 and $280, respectively.
The Company continually reviews receivables related to rent, tenant reimbursements and unbilled rent receivables and determines
collectability by taking into consideration the tenant’s payment history, the financial condition of the tenant, business
conditions in the industry in which the tenant operates and economic conditions in the area in which the property is located. In
the event that the collectability of a receivable is in doubt, the Company increases the allowance for doubtful accounts or records
a direct write-off of the receivable in the Condensed Consolidated Statements of Comprehensive Income (Loss).



Intangible Assets



As of June 30, 2012
and December 31, 2011, the Company’s intangible assets and acquired lease obligations were comprised of the following:





|                                                                                             |  | June 30, 2012 |       |  | December 31, 2011 |  
|-------------------------------------------------------------------------------------------- |  | ------------- | ----- |  | ----------------- | -
|Intangible assets:                                                                           |  |               |       |  |                   |  
|In-place leases, net of accumulated amortization of $314 and $1,388                          |  | $             | 294   |  |                   | $
|Above-market leases, net of accumulated amortization of $33 and $153                         |  |               | 73    |  |                   |  
|Amounts related to assets held for sale, net of accumulated amortization of $0 and $1,199    |  |               | -     |  |                   |  
|Total intangible assets                                                                      |  | $             | 367   |  |                   | $
|                                                                                             |  |               |       |  |                   |  
|Intangible liabilities:                                                                      |  |               |       |  |                   |  
|Below-market leases, net of accumulated amortization of $1,305 and $1,469                    |  | $             | 1,789 |  |                   | $
|Amounts related to liabilities held for sale, net of accumulated amortization of $0 and $280 |  |               | -     |  |                   |  
|Total intangible liabilities                                                                 |  | $             | 1,789 |  |                   | $





Valuation of Financial Instruments



ASC 820-10, “Fair Value Measurements
and Disclosures,” among other things, establishes a hierarchical disclosure framework associated with the level of pricing
observability utilized in measuring financial instruments at fair value. Considerable judgment is necessary to interpret market
data and develop estimated fair values. Accordingly, fair values are not necessarily indicative of the amounts the Company could
realize on disposition of the financial instruments. Financial instruments with readily available actively quoted prices or for
which fair value is based upon significant observable inputs with actively quoted prices will have a higher degree of pricing observability
and will require a lesser degree of judgment to be utilized in measuring fair value. Conversely, financial instruments rarely traded
or not quoted will generally have less, or no, pricing observability and will require a higher degree of judgment to be utilized
in measuring fair value. Pricing observability is generally affected by such items as the type of financial instrument, whether
the financial instrument is new to the market and not yet established, the characteristics specific to the transaction and overall
market conditions. The use of different market assumptions and/or estimation methodologies may have a material effect on estimated
fair value amounts.





13









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



Fair value is defined
as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants
at the measurement date, or an exit price. The level of pricing observability generally correlates to the degree of judgment utilized
in measuring the fair value of financial instruments. The less judgment utilized in measuring fair value of financial instruments,
such as with readily available active quoted prices or for which fair value can be measured from actively quoted prices in active
markets generally have more pricing observability. Conversely, financial instruments rarely traded or not quoted have less observability
and are measured at fair value using valuation models that require more judgment. Impacted by a number of factors, pricing observability
is generally affected by such items as the type of financial instrument, whether the financial instrument is new to the market
and not yet established, the characteristics specific to the transaction and overall market conditions.



The three broad levels defined are as follows:



Level I — This level is comprised of financial
instruments that have quoted prices that are available in active markets for identical assets or liabilities. The type of financial
instruments included in this category are highly liquid instruments with quoted prices.



Level II — This level is comprised of financial
instruments that have pricing inputs other than quoted prices in active markets that are either directly or indirectly observable.
The nature of these financial instruments includes instruments for which quoted prices are available but traded less frequently
and instruments that are fair valued using other financial instruments, the parameters of which can be directly observed.



Level III — This level is comprised of financial
instruments that have little to no pricing observability as of the reported date. These financial instruments do not have active
markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair
value require significant management judgment and assumptions. Instruments that are generally included in this category are derivatives,
whole loans, subordinate interests in whole loans, mezzanine loans and CMBS securities.



For a further discussion regarding the
measurement of financial instruments see Note 8, “Fair Value of Financial Instruments.”



Revenue Recognition



Real Estate and CTL Investments



Rental income from leases is recognized
on a straight-line basis regardless of when payments are contractually due. Certain lease agreements also contain provisions that
require tenants to reimburse the Company for real estate taxes, common area maintenance costs, use of parking facilities and the
amortized cost of capital expenditures with interest. Such amounts are included in both revenues and operating expenses when the
Company is the primary obligor for these expenses and assumes the risks and rewards of a principal under these arrangements. Under
leases where the tenant pays these expenses directly, such amounts are not included in revenues or expenses.



Deferred revenue represents rental revenue
and management fees received prior to the date earned. Deferred revenue also includes rental payments received in excess of rental
revenues recognized as a result of straight-line basis accounting.



Management fees are recognized as earned,
regardless of when payments are due.



Other income includes revenues from our
foreclosed properties and is recognized as earned.





14









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





The Company recognizes sales of real estate
properties only upon closing. Payments received from purchasers prior to closing are recorded as deposits. Profit on real estate
sold is recognized using the full accrual method upon closing when the collectability of the sale price is reasonably assured and
the Company is not obligated to perform significant activities after the sale. Profit may be deferred in whole or part until the
sale meets the requirements of profit recognition on sale of real estate.



Finance Investments



Interest income on debt investments,
which includes loan and CMBS investments, are recognized over the life of the investments using the effective interest method
and recognized on an accrual basis. Depending on the nature of the CMBS investment, changes to expected cash flows may result
in a prospective change in yield or a retrospective change which would include a catch up adjustment. Fees received
in connection with loan commitments are deferred until the loan is funded and are then recognized over the term of the
loan using the effective interest method.



Anticipated exit fees, whose collection
is expected, are also recognized over the term of the loan as an adjustment to yield. Fees on commitments that expire unused are
recognized at expiration. Fees received in exchange for the credit enhancement of another lender, either subordinate or senior
to the Company, in the form of a guarantee are recognized over the term of that guarantee using the straight-line method.



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



The Company designates loans as non-performing
at such time as: (1) the loan becomes 90 days delinquent or (2) the loan has a maturity default. All non-performing loans are placed
on non-accrual status and subsequent cash receipts are applied to principal or recognized as income when received. At June 30,
2012, the Company had one whole loan with a carrying value of $51,417, which was classified as a non-performing loan. At December
31, 2011, the Company had one whole loan with a carrying value of $51,417 and two mezzanine loans with an aggregate carrying value
of $0, which were classified as non-performing loans.



The Company classifies loans as sub-performing
if they are not performing in material accordance with their terms, but they do not qualify as non-performing loans and the specific
facts and circumstances of these loans may cause them to develop into non-performing loans should certain events occur in the normal
passage of time, which the Company considers to be 90 days from the measurement date. At June 30, 2012, three whole loans with
an aggregate carrying value of $38,826, one subordinate interest in a whole loan with a carrying value of $4,000, three mezzanine
loans with an aggregate carrying value of $26,651 and two preferred equity investments with an aggregate carrying value of $250
were classified as sub-performing. At December 31, 2011, two whole loans with an aggregate carrying value of $44,555 and one preferred
equity investment with a carrying value of $1,295 were classified as sub-performing.



Reserve for Loan Losses



Specific valuation allowances are
established for loan losses on loans in instances where it is deemed probable that the Company may be unable to collect all
amounts of principal and interest due according to the contractual terms of the loan. The reserve is increased through the
provision for loan losses on the Condensed Consolidated Statement of Comprehensive Income (Loss) and is decreased by
charge-offs when losses are realized through sale, foreclosure, or when significant collection efforts have ceased.



The Company considers the present value
of payments expected to be received, observable market prices or the estimated fair value of the collateral (for loans that are
dependent on the collateral for repayment), and compares it to the carrying value of the loan. The determination of the estimated
fair value is based on the key characteristics of the collateral type, collateral location, quality and prospects of the sponsor,
the amount and status of any senior debt, and other factors. The Company also includes the evaluation of operating cash flow from
the property during the projected holding period, and the estimated sales value of the collateral computed by applying an expected
capitalization rate to the stabilized net operating income of the specific property, less selling costs, all of which are discounted
at market discount rates. The Company also considers if the loan’s terms have been modified in a troubled debt restructuring.
Because the determination of estimated value is based upon projections of future economic events, which are inherently subjective,
amounts ultimately realized from loans and investments may differ materially from the carrying value at the balance sheet date.





15









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



If, upon completion of the valuation, the
estimated fair value of the underlying collateral securing the loan is less than the net carrying value of the loan, an allowance
is created with a corresponding charge to the provision for loan losses. The allowance for each loan is maintained at a level the
Company believes is adequate to absorb losses. During the six months ended June 30, 2012, the Company incurred charge-offs totaling
$49,659 relating to realized losses on three loan investments. During the year ended December 31, 2011, the Company incurred charge-offs
totaling $66,856 relating to realized losses on five loans. The Company maintained a reserve for loan losses of $203,715 against
12 separate investments with an aggregate carrying value of $263,573 as of June 30, 2012, and a reserve for loan losses of $244,840
against 15 separate investments with an aggregate carrying value of $294,083 as of December 31, 2011.



Stock-Based Compensation Plans



The Company has a stock-based compensation
plan. The Company accounts for this plan using the fair value recognition provisions. The Company uses the Black-Scholes option-pricing
model to estimate the fair value of a stock option award. This model requires inputs such as expected term, expected volatility,
and risk-free interest rate. Further, the forfeiture rate also impacts the amount of aggregate compensation cost. These inputs
are highly subjective and generally require significant analysis and judgment to develop.



Compensation cost for stock options, if
any, is recognized ratably over the vesting period of the award. The Company’s policy is to grant options with an exercise
price equal to the quoted closing market price of its stock on the business day preceding the grant date. Awards of stock or restricted
stock are expensed as compensation over the benefit period.



The fair value of each stock option granted
is estimated on the date of grant for options issued to employees, and quarterly awards to non-employees, using the Black-Scholes
option pricing model with the following weighted average assumptions for grants in 2012 and 2011:





|                                |  | 2012 |           |  | 2011 | 
|------------------------------- |  | ---- | --------- |  | ---- | 
|Dividend yield                  |  |      | 5.0%      |  |      | 
|Expected life of option         |  |      | 5.0 years |  |      | 
|Risk free interest rate         |  |      | 0.89%     |  |      | 
|Expected stock price volatility |  |      | 80.0%     |  |      | 





Derivative Instruments



In the normal course of business, the Company
uses a variety of derivative instruments to manage, or hedge, interest rate risk. The Company requires that hedging derivative
instruments be effective in reducing the interest rate risk exposure that they are designated to hedge. This effectiveness is essential
for qualifying for hedge accounting. Instruments that meet these hedging criteria are formally designated as hedges at the inception
of the derivative contract. The Company uses a variety of commonly used derivative products that are considered “plain vanilla”
derivatives. These derivatives typically include interest rate swaps, caps, collars and floors. The Company expressly prohibits
the use of unconventional derivative instruments and using derivative instruments for trading or speculative purposes. Further,
the Company has a policy of only entering into contracts with major financial institutions based upon their credit ratings and
other factors.



To determine the fair
value of derivative instruments, the Company uses a variety of methods and assumptions that are based on market conditions and
risks existing at each balance sheet date. For the majority of financial instruments including most derivatives, long-term investments
and long-term debt, standard market conventions and techniques such as discounted cash flow analysis, option-pricing models, replacement
cost and termination cost are used to determine fair value. All methods of assessing fair value result in a general approximation
of value, and such value may never actually be realized.





16







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



In the normal course of business, the Company
is exposed to the effect of interest rate changes and limits these risks by following established risk management policies and
procedures including the use of derivatives. To address exposure to interest rates, the Company uses derivatives primarily to hedge
the cash flow variability caused by interest rate fluctuations of its CDO liabilities. Each of the Company’s CDOs maintains
a maximum amount of allowable unhedged interest rate risk. The 2005 CDO permits 20% of the net outstanding principal balance and
the 2006 CDO and the 2007 CDO permit 5% of the net outstanding principal balance to be unhedged.



The Company recognizes all derivatives
on the balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through income. If a derivative
is a hedge, depending on the nature of the hedge, changes in the fair value of the derivative will either be offset against the
change in fair value of the hedged asset, liability or firm commitment through earnings, or recognized in other comprehensive loss
until the hedged item is recognized in earnings. The ineffective portion of a derivative’s change in fair value will be immediately
recognized in earnings. Derivative accounting may increase or decrease reported net income and stockholders’ equity prospectively,
depending on future levels of LIBOR, swap spreads and other variables affecting the fair values of derivative instruments and hedged
items, but will have no effect on cash flows, provided the contract is carried through to full term.



All hedges held by the Company are deemed
effective based upon the hedging objectives established by the Company’s corporate policy governing interest rate risk management.
The effect of the Company’s derivative instruments on its financial statements is discussed more fully in Note 11.



Income Taxes



The Company elected to be taxed as a REIT,
under Sections 856 through 860 of the Internal Revenue Code, beginning with its taxable year ended December 31, 2004. To qualify
as a REIT, the Company must meet certain organizational and operational requirements, including a requirement to distribute at
least 90% of its ordinary taxable income to stockholders. As a REIT, the Company generally will not be subject to U.S. federal
income tax on taxable income that the Company distributes to its stockholders. If the Company fails to qualify as a REIT in any
taxable year, it will then be subject to U.S. federal income taxes on taxable income at regular corporate rates and will not be
permitted to qualify for treatment as a REIT for U.S. federal income tax purposes for four years following the year during which
qualification is lost unless the Internal Revenue Service grants the Company relief under certain statutory provisions. Such an
event could materially adversely affect the Company’s net income and net cash available for distributions to stockholders.
However, the Company believes that it will be organized and operate in such a manner as to qualify for treatment as a REIT and
the Company intends to operate in the foreseeable future in such a manner so that it will qualify as a REIT for U.S. federal income
tax purposes. The Company is subject to certain state and local taxes.



For the three and six months ended
June 30, 2012, the Company recorded $2,107 and $3,419 of income tax expense, respectively. For the three and six months ended
June 30, 2011, the Company recorded $3 and $73 of income tax expense, respectively. Tax expense is comprised of U.S. federal,
state and local taxes primarily attributable to the TRS in which the Company’s real estate management business is
conducted.



The Company’s policy for interest
and penalties, if any, on material uncertain tax positions recognized in the financial statements is to classify these as interest
expense and operating expense, respectively. As of June 30, 2012 and December 31, 2011, the Company did not incur any material
interest or penalties.



Earnings per Share



The Company presents both basic and diluted
earnings per share, or EPS. Basic EPS excludes dilution and is computed by dividing net income available to common stockholders
by the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that
could occur if securities or other contracts to issue common stock were exercised or converted into common stock, as long as their
inclusion would not be anti-dilutive.



Use of Estimates



The preparation of
financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported
in the financial statements and accompanying notes. Actual results could differ from those estimates.





17







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



Concentrations of Credit Risk



Financial instruments that potentially
subject the Company to concentrations of credit risk consist primarily of cash investments, debt investments and accounts receivable.
The Company places its cash investments in excess of insured amounts with high quality financial institutions. The Company performs
ongoing analysis of credit risk concentrations in its loan and other lending investment portfolio by evaluating exposure to various
markets, underlying property types, investment structure, term, sponsors, tenants and other credit metrics.



Three investments accounted
for approximately 23.3% of the total carrying value of the Company’s loan and other lending investments as of June 30,
2012 compared to three investments which accounted for approximately 21.1% of the total carrying value of the Company’s
loan and other lending investments as of December 31, 2011. Four investments accounted for approximately 15.6% and 15.2% of
the revenue earned on the Company’s loan and other lending investments for the three and six months ended June 30, 2012, respectively, compared to six investments accounted for approximately 15.6% and 15.5% of the revenue earned on the
Company's loan and other lending investments for the three and six months ended June 30, 2011, respectively. The largest
sponsor accounted for approximately 15.9% and 14.1% of the total carrying value of the Company’s loan and other lending
investments as of June 30, 2012 and December 31, 2011, respectively. The largest sponsor accounted for approximately 11.4%
and 11.0% of the revenue earned on the Company's loan and other lending investments for the three and six months ended June
30, 2012, respectively, compared to approximately 5.5% and 5.9% of the revenue earned on the Company's loan and other
lending investments for the three and six months ended June 30, 2011, respectively.



Recently Issued Accounting Pronouncements



In May 2011, the FASB issued updated guidance
on fair value measurement which amends GAAP to conform to International Financial Reporting Standards, or IFRS, measurement and
disclosure requirements. The amendment changes the wording used to describe the requirements in GAAP for measuring fair value,
changes certain fair value measurement principles and enhances disclosure requirements. This guidance was effective as of January
1, 2012, applied prospectively, and its adoption did not have a material effect on the Company’s Condensed Consolidated Financial
Statements.



In June 2011, the FASB issued updated guidance
on comprehensive income which amends GAAP to conform to the disclosure requirements of IFRS. The amendment eliminates the option
to present components of other comprehensive income as part of the Statement of Stockholders’ Equity and Non-Controlling
Interests and requires a separate Statement of Comprehensive Income or two consecutive statements in the Statement of Operations
and in a separate Statement of Comprehensive Income. This guidance also requires the presentation of reclassification adjustments
for each component of other comprehensive income on the face of the financial statements rather than in the notes to the financial
statements. This guidance was effective as of January 1, 2012, except for the disclosure of reclassification adjustments which
was postponed for re-deliberation by the FASB, and its adoption did not have a material effect on the Company’s Condensed
Consolidated Financial Statements.





18







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





3. Loans and Other Lending Investments



The aggregate carrying values, allocated
by product type and weighted-average coupons, of the Company’s loans, other lending investments and CMBS investments as of
June 30, 2012 and December 31, 2011, were as follows:







|                                                        |  | Carrying
    Value (1) |           |  | Allocation
    by Investment Type |   |           | Fixed
    Rate Average Yield |  |  | Floating
    Rate Average Spread over LIBOR (2) |  
|------------------------------------------------------- |  | ---------------------- | --------- |  | --------------------------------- | - | --------- | ---------------------------- |  |  | ----------------------------------------------- | -
|                                                        |  | 2012                   |           |  | 2011                              |   |           | 2012                         |  |  | 2011                                            |  
|Whole loans, floating rate                              |  | $                      | 607,597   |  |                                   | $ | 689,685   |                              |  |  | 62.3                                            | %
|Whole loans, fixed rate                                 |  |                        | 202,542   |  |                                   |   | 202,209   |                              |  |  | 20.8                                            | %
|Subordinate interests in whole loans, floating
    rate |  |                        | 3,710     |  |                                   |   | 25,352    |                              |  |  | 0.4                                             | %
|Subordinate interests in whole loans, fixed rate        |  |                        | 91,209    |  |                                   |   | 89,914    |                              |  |  | 9.4                                             | %
|Mezzanine loans, floating rate                          |  |                        | 45,446    |  |                                   |   | 46,002    |                              |  |  | 4.7                                             | %
|Mezzanine loans, fixed rate                             |  |                        | 23,659    |  |                                   |   | 23,847    |                              |  |  | 2.4                                             | %
|Preferred equity, floating rate                         |  |                        | 250       |  |                                   |   | 3,615     |                              |  |  | 0.0                                             | %
|Preferred equity, fixed rate                            |  |                        | -         |  |                                   |   | 1,295     |                              |  |  | 0.0                                             | %
|Subtotal/ Weighted
    average                          |  |                        | 974,413   |  |                                   |   | 1,081,919 |                              |  |  | 100.0                                           | %
|CMBS, floating rate                                     |  |                        | 48,313    |  |                                   |   | 47,855    |                              |  |  | 5.7                                             | %
|CMBS, fixed rate                                        |  |                        | 803,623   |  |                                   |   | 727,957   |                              |  |  | 94.3                                            | %
|Subtotal/ Weighted
    average                          |  |                        | 851,936   |  |                                   |   | 775,812   |                              |  |  | 100.0                                           | %
|Total                                                   |  | $                      | 1,826,349 |  |                                   | $ | 1,857,731 |                              |  |  | 100.0                                           | %





| | (1) | Loans and other lending investments  are presented net of unamortized fees, discounts, reserves for loan losses, impairments and other adjustments.                            
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (2) | Spreads over an index other than 30 day-LIBOR have been adjusted to a LIBOR-based equivalent. In some cases, LIBOR is floored, giving rise to higher current effective spreads.



Whole loans are permanent first mortgage
loans with initial terms of up to 15 years. Whole loans are first mortgage liens and senior in interest to subordinate mortgage
interests in whole loans, mezzanine loan and preferred equity interests.



Subordinate mortgage
interests in whole loans are participation interests in mortgage notes or loans secured by a lien subordinated to a senior interest
in the same loan. Subordinate interests in whole loans are subject to greater credit risk with respect to the underlying mortgage
collateral than the corresponding senior interest.



Mezzanine loans are
senior to the borrower’s equity in, and subordinate to a whole loan and subordinate mortgage interest, on a property. These
loans are secured by pledges of ownership interests in entities that directly or indirectly own the real property.



Preferred equity are investments in entities
that directly or indirectly own commercial real estate. Preferred equity is not secured, but holders have priority relative to
common equity holders.





19







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



Quarterly, the Company evaluates its loans
for instances where specific valuation allowances are necessary, as described in Note 2. As a component of the Company's quarterly
policies and procedures for loan valuation and risk assessment, each loan is assigned a risk rating. Individual ratings range from
one to six, with one being the lowest risk and six being the highest risk. Each credit risk rating has benchmark guidelines which
pertain to debt-service coverage ratios, loan-to-value, or LTV, ratios, borrower strength, asset quality, and funded cash reserves.
Other factors such as guarantees, market strength, remaining loan term, and borrower equity are also reviewed and factored into
determining the credit risk rating assigned to each loan. Loans with a risk rating of one to three have characteristics of a lower
risk loan and such loans are generally expected to perform through maturity. Loans with a risk rating of four to five generally
have characteristics of a higher risk loan and may indicate instances of a higher likelihood of a contractual default or expectation
of a principal loss. Loans with a risk rating of six are non-performing and often times have been fully reserved.



A summary of the Company’s loans
by risk rating and loan class as of June 30, 2012 and December 31, 2011 are as follows:





|                                        |  | Risk Ratings as of June 30, 2012 |   
|--------------------------------------- |  | -------------------------------- | --
|                                        |  | One to Three                     |   
|                                        |  | Number of Loans                  |   
|Whole loans                             |  |                                  | 21
|Subordinate interest in whole loans (1) |  |                                  | 3 
|Mezzanine loans                         |  |                                  | - 
|Preferred equity                        |  |                                  | - 
|                                        |  |                                  |   
|Total                                   |  |                                  | 24







|(1) Includes one interest-only strip.
|-------------------------------------







|                                        |  | Risk Ratings as of December 31, 2011 |   
|--------------------------------------- |  | ------------------------------------ | --
|                                        |  | One to Three                         |   
|                                        |  | Number of Loans                      |   
|Whole loans                             |  |                                      | 21
|Subordinate interest in whole loans (1) |  |                                      | 5 
|Mezzanine loans                         |  |                                      | - 
|Preferred equity                        |  |                                      | - 
|                                        |  |                                      |   
|Total                                   |  |                                      | 26







|(1) Includes one interest-only strip.
|-------------------------------------







20









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



As of June 30, 2012, the Company’s
loans and other lending investments, excluding CMBS investments, had the following maturity characteristics:





|Year of Maturity          |  | Number of Investments Maturing |    |     | Carrying Value |   |         | % of Total | 
|------------------------- |  | ------------------------------ | -- | --- | -------------- | - | ------- | ---------- | 
|2012                      |  |                                | 10 | (1) |                | $ | 147,412 |            | 
|2013                      |  |                                | 11 |     |                |   | 260,177 |            | 
|2014                      |  |                                | 7  |     |                |   | 162,874 |            | 
|2015                      |  |                                | 5  |     |                |   | 102,596 |            | 
|2016                      |  |                                | 3  |     |                |   | 125,307 |            | 
|Thereafter                |  |                                | 5  |     |                |   | 176,047 |            | 
|Total                     |  |                                | 41 |     |                | $ | 974,413 |            | 
|                          |  |                                |    |     |                |   |         |            | 
|Weighted-average maturity |  |                                |    |     |                |   | 2.3     | (2)        | 





| | (1) | Of the loans maturing in 2012, one investment with a carrying value of $30,268 has an extension option, which is subject to performance criteria.                                                                                                                           
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (2) | The calculation of weighted-average maturity is based upon the remaining initial term of the investment and does not include option or extension periods or the ability to prepay the investment after a negotiated lock-out period, which may be available to the borrower.



For the three and six months ended June
30, 2012 and 2011, the Company’s investment income from loans, other lending investments and CMBS investments, was generated
by the following investment types:





|                                     |  | Three months ended June 30, 2012 |        |  | Three months ended June 30, 2011 | 
|------------------------------------ |  | -------------------------------- | ------ |  | -------------------------------- | 
|                                     |  | Investment Income                |        |  | % of Total                       | 
|Whole loans                          |  | $                                | 12,348 |  |                                  | 
|Subordinate interests in whole loans |  |                                  | 2,437  |  |                                  | 
|Mezzanine loans                      |  |                                  | 1,872  |  |                                  | 
|Preferred equity                     |  |                                  | 494    |  |                                  | 
|CMBS                                 |  |                                  | 19,074 |  |                                  | 
|Total                                |  | $                                | 36,225 |  |                                  | 





|                                     |  | Six months ended June 30, 2012 |        |  | Six months ended June 30, 2011 | 
|------------------------------------ |  | ------------------------------ | ------ |  | ------------------------------ | 
|                                     |  | Investment Income              |        |  | % of Total                     | 
|Whole loans                          |  | $                              | 25,512 |  |                                | 
|Subordinate interests in whole loans |  |                                | 5,370  |  |                                | 
|Mezzanine loans                      |  |                                | 3,775  |  |                                | 
|Preferred equity                     |  |                                | 1,074  |  |                                | 
|CMBS                                 |  |                                | 39,064 |  |                                | 
|Total                                |  | $                              | 74,795 |  |                                | 







21











Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



At June 30, 2012 and December 31, 2011,
the Company’s loans and other lending investments, excluding CMBS investments, had the following geographic diversification:





|             |  | June 30, 2012      |         |  | December 31, 2011 | 
|------------ |  | ------------------ | ------- |  | ----------------- | 
|Region       |  | Carrying
    Value |         |  | % of Total        | 
|Northeast    |  | $                  | 247,238 |  |                   | 
|Midwest      |  |                    | 222,993 |  |                   | 
|West         |  |                    | 199,733 |  |                   | 
|South        |  |                    | 121,074 |  |                   | 
|Various (1)  |  |                    | 88,068  |  |                   | 
|Southwest    |  |                    | 34,443  |  |                   | 
|Mid-Atlantic |  |                    | 60,864  |  |                   | 
|Total        |  | $                  | 974,413 |  |                   | 





| | (1) | Includes interest-only strips.
| | --- | ------------------------------



At June 30, 2012 and December 31, 2011,
the Company’s loans and other lending investments, excluding CMBS investments, by property type were as follows:





|                  |  | June 30, 2012      |         |  | December 31, 2011 | 
|----------------- |  | ------------------ | ------- |  | ----------------- | 
|Property Type     |  | Carrying
    Value |         |  | % of Total        | 
|Office            |  | $                  | 473,920 |  |                   | 
|Hotel             |  |                    | 239,077 |  |                   | 
|Retail            |  |                    | 127,480 |  |                   | 
|Multifamily       |  |                    | 46,826  |  |                   | 
|Land - Commercial |  |                    | 26,204  |  |                   | 
|Other (1)         |  |                    | 24,794  |  |                   | 
|Condo             |  |                    | 17,975  |  |                   | 
|Industrial        |  |                    | 14,882  |  |                   | 
|Mixed-Use         |  |                    | 3,255   |  |                   | 
|Total             |  | $                  | 974,413 |  |                   | 





| | (1) | Includes interest-only strips.
| | --- | ------------------------------



The Company recorded provisions for loan
losses of $5,989 and $8,534 for the three and six months ended June 30, 2012, respectively. The Company recorded provisions for
loan losses of $18,783 and $36,283 for the three and six months ended June 30, 2011, respectively. These provisions represent increases
in loan loss reserves based on management's estimates considering delinquencies, loss experience, collateral quality by individual
asset or category of asset and modifications that resulted in troubled debt restructurings.



For the six months ended June 30, 2012,
the Company incurred charge-offs of $49,659 related to realized losses on three loan investments. During the year ended December
31, 2011, the Company incurred charge-offs totaling $66,856 related to five loan investments.



The interest income recognized from impaired
loans during the time within the financial statement period that they were impaired or reserved for was $3,500 and $7,369 for the
three and six months ended June 30, 2012, respectively. The interest income recognized from impaired loans during the time within
the financial statement period that they were impaired or reserved for was $7,019 and $14,525 for the three and six months ended
June 30, 2011, respectively.





22









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



Changes in the reserve for loan losses
as of June 30, 2012 were as follows:





|                                                        |  | Whole loans |         |   | Subordinate interests in whole loans |   |       | Mezzanine loans |  |   | Preferred equity |   |  | Total |       
|------------------------------------------------------- |  | ----------- | ------- | - | ------------------------------------ | - | ----- | --------------- |  | - | ---------------- | - |  | ----- | ------
|Reserve for loan losses, December 31, 2011              |  | $           | 144,950 |   |                                      | $ | 2,367 |                 |  | $ | 34,114           |   |  | $     | 63,409
|Additional provision for loan losses, net of recoveries |  |             | 4,501   |   |                                      |   | -     |                 |  |   | -                |   |  |       | (1,956
|Charge-offs                                             |  |             | -       |   |                                      |   | -     |                 |  |   | (34,114          | ) |  |       | -     
|Reserve for loan losses, March 31, 2012                 |  |             | 149,451 |   |                                      |   | 2,367 |                 |  |   | -                |   |  |       | 61,453
|Additional provision for loan losses, net of recoveries |  |             | 4,000   |   |                                      |   | -     |                 |  |   | -                |   |  |       | 1,989 
|Charge-offs                                             |  |             | (6,500  | ) |                                      |   | -     |                 |  |   | -                |   |  |       | (9,045
|Reserve for loan losses, June 30, 2012                  |  | $           | 146,951 |   |                                      | $ | 2,367 |                 |  | $ | -                |   |  | $     | 54,397





Changes in the reserve for loan losses
as of June 30, 2011 were as follows:





|                                                        |  | Whole loans |         |   | Subordinate interests in whole loans |   |        | Mezzanine loans |  |   | Preferred equity |  |  | Total |       
|------------------------------------------------------- |  | ----------- | ------- | - | ------------------------------------ | - | ------ | --------------- |  | - | ---------------- |  |  | ----- | ------
|Reserve for loan losses, December 31, 2010              |  | $           | 126,823 |   |                                      | $ | 60,585 |                 |  | $ | 24,708           |  |  | $     | 51,400
|Additional provision for loan losses, net of recoveries |  |             | 15,500  |   |                                      |   | -      |                 |  |   | -                |  |  |       | 2,000 
|Charge-offs                                             |  |             | (403    | ) |                                      |   | -      |                 |  |   | -                |  |  |       | -     
|Reserve for loan losses, March 31, 2011                 |  |             | 141,920 |   |                                      |   | 60,585 |                 |  |   | 24,708           |  |  |       | 53,400
|Additional provision for loan losses, net of recoveries |  |             | 953     |   |                                      |   | 4,000  |                 |  |   | 13,830           |  |  |       | -     
|Charge-offs                                             |  |             | -       |   |                                      |   | -      |                 |  |   | -                |  |  |       | -     
|Reserve for loan losses, June 30, 2011                  |  | $           | 142,873 |   |                                      | $ | 64,585 |                 |  | $ | 38,538           |  |  | $     | 53,400







23







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



As of June 30, 2012 and 2011, the Company’s recorded investments
in impaired loans were as follows:





|                                     |  | As of June 30, 2012      |         |  | For the three months ended
June 30, 2012 |   |         | For the six months ended  June 30, 2012 | 
|------------------------------------ |  | ------------------------ | ------- |  | ---------------------------------------- | - | ------- | --------------------------------------- | 
|                                     |  | Unpaid Principal Balance |         |  | Carrying Value                           |   |         | Allowance for Loan Losses               | 
|Whole loans                          |  | $                        | 404,370 |  |                                          | $ | 259,684 |                                         | 
|Subordinate interests in whole loans |  |                          | 6,007   |  |                                          |   | 3,639   |                                         | 
|Mezzanine loans                      |  |                          | -       |  |                                          |   | -       |                                         | 
|Preferred equity                     |  |                          | 54,526  |  |                                          |   | 250     |                                         | 
|                                     |  |                          |         |  |                                          |   |         |                                         | 
|Total                                |  | $                        | 464,903 |  |                                          | $ | 263,573 |                                         | 







(1) Represents the average of the month end balances for the three and six months ended June 30, 2012.







|                                     |  | As of June 30, 2011      |         |  | For the three months ended
 June 30, 2011 |   |         | For the six months ended  June 30, 2011 | 
|------------------------------------ |  | ------------------------ | ------- |  | ----------------------------------------- | - | ------- | --------------------------------------- | 
|                                     |  | Unpaid Principal Balance |         |  | Carrying Value                            |   |         | Allowance for Loan Losses               | 
|Whole loans                          |  | $                        | 491,796 |  |                                           | $ | 351,611 |                                         | 
|Subordinate interests in whole loans |  |                          | 70,987  |  |                                           |   | 6,401   |                                         | 
|Mezzanine loans                      |  |                          | 103,312 |  |                                           |   | 45,095  |                                         | 
|Preferred equity                     |  |                          | 60,716  |  |                                           |   | 7,514   |                                         | 
|                                     |  |                          |         |  |                                           |   |         |                                         | 
|Total                                |  | $                        | 726,811 |  |                                           | $ | 410,621 |                                         | 







(1) Represents the average of the month end balances for the three and six months ended June 30, 2011.







24







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



During the six months ended June 30, 2012,
the Company modified three loans which were considered troubled debt restructurings. A troubled debt restructuring is generally
any modification of a loan to a borrower that is experiencing financial difficulties, and where a lender agrees to terms that are
more favorable to the borrower than is otherwise available in the current market. The Company reduced the interest rate on all
of these loans by a combined weighted average of 0.4% and extended all of the loans by a combined weighted average of 0.8 years.
As of June 30, 2012, the Company had no unfunded commitments on modified loans considered troubled debt restructurings.



These loans were modified to increase the
total recovery of the combined principal and interest from the loan. Any loan modification is predicated upon a goal of maximizing
the collection of the loan. The Company believes that the borrowers can perform under the new terms and therefore none of the loans
which were modified and considered to be troubled debt restructurings were classified as non-performing as of June 30, 2012.



The Company’s troubled debt restructurings
for the six months ended June 30, 2012 were as follows:





|                                     |  | As of June 30, 2012   |  
|------------------------------------ |  | --------------------- | -
|                                     |  | Number of Investments |  
|Whole loans                          |  |                       | 3
|Subordinate interests in whole loans |  |                       | -
|Mezzanine loans                      |  |                       | -
|Preferred equity                     |  |                       | -
|                                     |  |                       |  
|Total                                |  |                       | 3







|(1) Unpaid principal balance as of the last modification, but before any paydowns, not including payment-in-kind.
|-----------------------------------------------------------------------------------------------------------------
|(2)This represents the unpaid principal balance of the loan for the quarter end following the modification.      





The Company’s troubled debt restructurings
for the six months ended June 30, 2011 were as follows:





|                                     |  | As of June 30, 2011   |  
|------------------------------------ |  | --------------------- | -
|                                     |  | Number of Investments |  
|Whole loans                          |  |                       | 1
|Subordinate interests in whole loans |  |                       | -
|Mezzanine loans                      |  |                       | -
|Preferred equity                     |  |                       | -
|                                     |  |                       |  
|Total                                |  |                       | 1







|(1) Unpaid principal balance as of the last modification, but before any paydowns, not including payment-in-kind.
|-----------------------------------------------------------------------------------------------------------------
|(2)This represents the unpaid principal balance of the loan for the quarter end following the modification.      







25







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



As of June 30, 2012 and December 31, 2011,
the Company’s non-performing loans by class were as follows:





|                                     |  | As of June 30, 2012   |  
|------------------------------------ |  | --------------------- | -
|                                     |  | Number of Investments |  
|Whole loans                          |  |                       | 1
|Subordinate interests in whole loans |  |                       | -
|Mezzanine loans                      |  |                       | -
|Preferred equity                     |  |                       | -
|                                     |  |                       |  
|Total                                |  |                       | 1







|                                     |  | As of December 31, 2011 |  
|------------------------------------ |  | ----------------------- | -
|                                     |  | Number of Investments   |  
|Whole loans                          |  |                         | 1
|Subordinate interests in whole loans |  |                         | -
|Mezzanine loans                      |  |                         | 2
|Preferred equity                     |  |                         | -
|                                     |  |                         |  
|Total                                |  |                         | 3





The following is a summary of the Company’s
CMBS investments at June 30, 2012:





|Description        |  | Number of Securities |     |  | Face Value |   |           | Amortized Cost |  |   | Fair Value |  |  | Gross Unrealized Gain |         |  | Gross Unrealized Loss |  
|------------------ |  | -------------------- | --- |  | ---------- | - | --------- | -------------- |  | - | ---------- |  |  | --------------------- | ------- |  | --------------------- | -
|                   |  |                      |     |  |            |   |           |                |  |   |            |  |  |                       |         |  |                       |  
|Floating rate CMBS |  |                      | 3   |  |            | $ | 52,593    |                |  | $ | 51,073     |  |  | $                     | 48,313  |  |                       | $
|Fixed rate CMBS    |  |                      | 109 |  |            |   | 1,162,788 |                |  |   | 947,222    |  |  |                       | 803,623 |  |                       |  
|Total              |  |                      | 112 |  |            | $ | 1,215,381 |                |  | $ | 998,295    |  |  | $                     | 851,936 |  |                       | $









The following is a summary of the Company’s
CMBS investments at December 31, 2011:





|Description        |  | Number of Securities |     |  | Face Value |   |           | Amortized Cost |  |   | Fair Value |  |  | Gross Unrealized Gain |         |  | Gross Unrealized Loss |  
|------------------ |  | -------------------- | --- |  | ---------- | - | --------- | -------------- |  | - | ---------- |  |  | --------------------- | ------- |  | --------------------- | -
|                   |  |                      |     |  |            |   |           |                |  |   |            |  |  |                       |         |  |                       |  
|Floating rate CMBS |  |                      | 3   |  |            | $ | 53,500    |                |  | $ | 51,848     |  |  | $                     | 47,855  |  |                       | $
|Fixed rate CMBS    |  |                      | 108 |  |            |   | 1,185,777 |                |  |   | 982,801    |  |  |                       | 727,957 |  |                       |  
|Total              |  |                      | 111 |  |            | $ | 1,239,277 |                |  | $ | 1,034,649  |  |  | $                     | 775,812 |  |                       | $







26







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The following table shows the Company’s
estimated fair value, unrealized losses, aggregated by investment category, and length of time that individual securities have
been in a continuous unrealized loss position at June 30, 2012:





|                                          |  | Less than 12 Months |        |  | 12 Months or More     |   |        | Total      | 
|----------------------------------------- |  | ------------------- | ------ |  | --------------------- | - | ------ | ---------- | 
|Description                               |  | Fair Value          |        |  | Gross Unrealized Loss |   |        | Fair Value | 
|Floating rate CMBS                        |  | $                   | -      |  |                       | $ | -      |            | 
|Fixed rate CMBS                           |  |                     | 14,698 |  |                       |   | (5,649 | )          | 
|Total temporarily     impaired securities |  | $                   | 14,698 |  |                       | $ | (5,649 | )          | 





The Company performed
an assessment of all of its CMBS investments that are in an unrealized loss position (when a CMBS investment’s amortized
costs basis, including the effect of other-than-temporary impairments, exceeds its fair value) and determined the following:





|                                                                                                            |  |                       |    |  |            |   |         |                      |  |   | Unrealized losses | 
|----------------------------------------------------------------------------------------------------------- |  | --------------------- | -- |  | ---------- | - | ------- | -------------------- |  | - | ----------------- | 
|                                                                                                            |  | Number of Investments |    |  | Fair Value |   |         | Amortized Cost Basis |  |   | Credit(1)         | 
|CMBS investments the Company intends to sell                                                                |  |                       | -  |  |            | $ | -       |                      |  | $ | -                 | 
|CMBS investments the Company is more likely than not to be required to sell                                 |  |                       | -  |  |            |   | -       |                      |  |   | -                 | 
|CMBS investments the Company has no intent to  sell and is not more likely than not to be required to sell: |  |                       |    |  |            |   |         |                      |  |   |                   | 
|Credit impaired CMBS investments                                                                            |  |                       | 8  |  |            |   | 61,098  |                      |  |   | 95,683            | 
|Non credit impaired CMBS investments                                                                        |  |                       | 53 |  |            |   | 512,036 |                      |  |   | 690,271           | 
|Total CMBS investments in an unrealized loss position                                                       |  |                       | 61 |  |            | $ | 573,134 |                      |  | $ | 785,954           | 







(1)
  Credit losses are recognized as other-than-temporary impairments on the Condensed Consolidated  Statement of
Comprehensive Income (Loss).





27







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The following table summarizes the activity
related to credit losses on CMBS investments for the six months ended June 30, 2012:





|Balance as of December 31, 2011 of credit losses on CMBS
    investments for which a portion of an other-than-temporary impairment, was recognized in other comprehensive income      |  | $ | 38,363  |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | - | ------- | -
|Additions to credit losses:                                                                                                                                                           |  |   |         |  
|On securities for which an other-than-temporary impairment was not previously recognized                                                                                              |  |   | 14,729  |  
|On securities for which an other-than-temporary impairment was previously recognized and a portion of an other-than-temporary impairment was recognized in other comprehensive income |  |   | 16,883  |  
|On securities for which an other-than-temporary impairment was previously recognized without any portion of other-than-temporary impairment recognized in other comprehensive income  |  |   | 4,462   |  
|Reduction for credit losses:                                                                                                                                                          |  |   |         |  
|On CMBS investments for which  no other-than-temporary impairment was recognized in other comprehensive income at current measurement date                                            |  |   | -       |  
|On  CMBS investments sold during the period                                                                                                                                           |  |   | -       |  
|On securities charged off during the period                                                                                                                                           |  |   | (10,226 | )
|For increases in cash flows expected to be collected that are recognized over the remaining life of the CMBS investments                                                              |  |   | -       |  
|Balance as of June 30, 2012  of credit losses on CMBS investments for which a portion of an other-than-temporary impairment was recognized in other comprehensive income              |  | $ | 64,211  |  





As of June 30, 2012, the Company’s
CMBS investments had the following maturity characteristics:





|Maturity         |  | Number of Investments Maturing |     |  | Amortized Cost |   |         | Percent of Amortized Cost |  |  | Fair Value |   |  | Percent of Fair Value |        
|---------------- |  | ------------------------------ | --- |  | -------------- | - | ------- | ------------------------- |  |  | ---------- | - |  | --------------------- | -------
|Less than 1 year |  |                                | 2   |  |                | $ | 47,593  |                           |  |  | 4.8        | % |  | $                     | 45,213 
|1 - 5 years      |  |                                | 96  |  |                |   | 874,442 |                           |  |  | 87.6       | % |  |                       | 729,397
|5 - 10 years     |  |                                | 14  |  |                |   | 76,260  |                           |  |  | 7.6        | % |  |                       | 77,326 
|Total            |  |                                | 112 |  |                | $ | 998,295 |                           |  |  | 100.0      | % |  | $                     | 851,936







28









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The following is a summary of the underlying
credit ratings of the Company’s CMBS investments at June 30, 2012 and December 31, 2011 (for split-rated securities, the
higher rating was used):





|                           |  | June 30, 2012  |         |  | December 31, 2011 | 
|-------------------------- |  | -------------- | ------- |  | ----------------- | 
|                           |  | Carrying Value |         |  | Percentage        | 
|Investment grade:          |  |                |         |  |                   | 
|AAA                        |  | $              | 94,166  |  |                   | 
|AA+                        |  |                | 45,213  |  |                   | 
|AA                         |  |                | 34,670  |  |                   | 
|AA-                        |  |                | 1,965   |  |                   | 
|A+                         |  |                | 46      |  |                   | 
|A                          |  |                | 14,602  |  |                   | 
|A-                         |  |                | 28,429  |  |                   | 
|BBB+                       |  |                | 34,729  |  |                   | 
|BBB                        |  |                | 53,053  |  |                   | 
|BBB-                       |  |                | 133,527 |  |                   | 
|Total investment grade     |  |                | 440,400 |  |                   | 
|                           |  |                |         |  |                   | 
|Non-investment grade:      |  |                |         |  |                   | 
|BB+                        |  |                | 7,600   |  |                   | 
|BB                         |  |                | 89,270  |  |                   | 
|BB-                        |  |                | 21,931  |  |                   | 
|B+                         |  |                | 41,123  |  |                   | 
|B                          |  |                | 111,254 |  |                   | 
|B-                         |  |                | 60,113  |  |                   | 
|CCC+                       |  |                | 27,257  |  |                   | 
|CCC                        |  |                | 45,600  |  |                   | 
|CCC-                       |  |                | 4,323   |  |                   | 
|CC                         |  |                | 2,750   |  |                   | 
|C                          |  |                | 315     |  |                   | 
|Total non-investment grade |  |                | 411,536 |  |                   | 
|                           |  |                |         |  |                   | 
|Total                      |  | $              | 851,936 |  |                   | 





The Company evaluates
CMBS investments to determine if there has been an other-than-temporary impairment which is generally indicated
by significant change in estimated cash flows from the cash flows previously estimated based on actual prepayments and
credit loss experience. The Company’s unrealized losses are primarily the result of market factors other than
credit impairment. Unrealized losses can be caused by changes in interest rates, changes in credit spreads, realized losses
in the underlying collateral, or general market conditions. The Company evaluates CMBS investments on a quarterly basis and
has determined that there has been an adverse change in expected cash flows related to credit losses for seven CMBS
investments. Therefore, the Company recognized an other-than-temporary impairment of $15,006 and $36,074 during the three and
six months ended June 30, 2012, respectively, that was recorded in the Company’s Condensed Consolidated Statements of
Comprehensive Income (Loss). The Company recognized an other-than-temporary impairment of $6,037 during the three and
six months ended June 30, 2011. To determine the component of the other-than-temporary impairment related to expected credit
losses, the Company compares the amortized cost basis of each other-than-temporarily impaired security to the present value
of its revised expected cash flows, discounted using its pre-impairment yield. Significant judgment of management is
required in this analysis that includes, but is not limited to, (i) assumptions regarding the collectability of principal
and interest, net of related expenses, on the underlying loans, (ii) current subordination levels for individual loans
which serve as collateral under the Company’s securities, and (iii) current subordination levels for the
securities themselves. The Company’s assessment of cash flows, which is supplemented by third-party research reports
and dialogue with market participants, combined with the Company’s expectation to recover book value, is the basis for
its conclusion the remainder of these investments are not other-than-temporarily impaired, despite the difference between
the carrying value and the fair value. The Company has considered rating downgrades in its evaluation and apart from the
seven bonds noted above, believes that the book value of its CMBS investments is recoverable at June 30, 2012. The
Company attributes the current difference between carrying value and market value to current market conditions including a
decrease in demand for structured financial products and commercial real estate.





29







Gramercy Capital
Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The Company has concluded that it does
not intend to sell these securities and it is not likely it will be required to sell the securities before recovering the amortized
cost basis. During the three and six months ended June 30, 2012, the Company did not sell any CMBS securities.



In connection with a preferred equity investment
which was repaid in October 2006, the Company has guaranteed a portion of the outstanding principal balance of the first mortgage
loan that is a financial obligation of the entity in which the Company was previously a preferred equity investor, in the event
of a borrower default under such loan. The loan matures in 2012. This guarantee in the event of a borrower default under such loan
is considered to be an off-balance-sheet arrangement and will survive until the repayment of the first mortgage loan. As compensation,
the Company received a credit enhancement fee of $125 from the borrower, which is recognized as the fair value of the guarantee
and has been recorded on the Condensed Consolidated Balance Sheet as a liability. The liability is amortized over the life of the
guarantee using the straight-line method and corresponding fee income is recorded. The Company’s maximum exposure under this
guarantee is approximately $1,331 and $1,343 as of June 30, 2012 and December 31, 2011, respectively. Under the terms of the guarantee,
the investment sponsor is required to reimburse the Company for the entire amount paid under the guarantee until the guarantee
expires.



4. Dispositions and Assets Held-for-Sale



In September 2011, the Company entered
into the Settlement Agreement for an orderly transition of substantially all
of Gramercy Realty’s assets to KBS, Gramercy Realty’s senior mezzanine lender,
in full satisfaction of Gramercy Realty’s obligations with respect to
the Goldman Mezzanine Loans.



On September 1, 2011 and on December 1,
2011, the Company transferred to KBS or its affiliates, interests in entities owning 317 and 116, respectively, of the 867 Gramercy
Realty properties that it agreed to transfer pursuant to the Settlement Agreement and the remaining ownership interests were transferred
to KBS by December 15, 2011. The aggregate carrying value for the interests transferred to KBS was $2,631,902. In July 2011, the
Dana portfolio, which consisted of 15 properties totaling approximately 3.8 million rentable square feet, was transferred to its
mortgage lender through a deed in lieu of foreclosure.



During the three and
six months ended June 30, 2012, the Company sold eleven and fifteen properties, respectively, for net sales proceeds of
$1,978 and $37,259, respectively. During the three and six months ended June 30, 2011, the Company sold or disposed of two
and five properties, respectively, for net sale proceeds of $2,223 and $20,491, respectively. The
sales transactions resulted in gains totaling $53 and $11,996 for the three and six months ended June 30, 2012, respectively.
The sales transactions resulted in gains totaling $1,437 and $2,374 for the three and six months ended June 30, 2011,
respectively. The following tables breaks out the property sales by business segment:





|        |  | For the three months ended June 30, 2012 |    |  | For the six months ended June 30, 2012 |  
|------- |  | ---------------------------------------- | -- |  | -------------------------------------- | -
|        |  | Number of Properties                     |    |  | Net Sale Proceeds                      |  
|        |  |                                          |    |  |                                        |  
|Finance |  |                                          | -  |  |                                        | $
|Realty  |  |                                          | 11 |  |                                        |  
|Total   |  |                                          | 11 |  |                                        | $







|        |  | For the three months ended June 30, 2011 |   |  | For the six months ended June 30, 2011 |  
|------- |  | ---------------------------------------- | - |  | -------------------------------------- | -
|        |  | Number of Properties                     |   |  | Net Sale Proceeds                      |  
|Finance |  |                                          | - |  |                                        | $
|Realty  |  |                                          | 2 |  |                                        |  
|Total   |  |                                          | 2 |  |                                        | $





The Company separately classifies
properties held-for-sale in the Condensed Consolidated Balance Sheets and Condensed Consolidated Statement of Comprehensive
Income (Loss). In the normal course of business the Company identifies non-strategic assets for sale. Changes in the market may
compel the Company to decide to classify a property held-for-sale or classify a property that was designated as held-for-sale
back to held-for-investment. As of June 30, 2012 and December 31, 2011, the Company did not reclassify any properties
previously identified as held-for-sale to held-for-investment.





30









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The Company classified one property and
one loan and other lending investment as held-for-sale as of June 30, 2012 and December 31, 2011. The following table summarizes
information for these properties:





|                                                                |  | June 30, 2012 |        |   | December 31, 2011 |  
|--------------------------------------------------------------- |  | ------------- | ------ | - | ----------------- | -
|Assets held-for-sale:                                           |  |               |        |   |                   |  
|Real estate investments, at cost:                               |  |               |        |   |                   |  
|Land                                                            |  | $             | 9,911  |   |                   | $
|Building and improvement                                        |  |               | 124    |   |                   |  
|Total real estate investments, at cost                          |  |               | 10,035 |   |                   |  
|Less:  accumulated depreciation                                 |  |               | (21    | ) |                   |  
|Real estate investments held-for-sale, net                      |  |               | 10,014 |   |                   |  
|Accrued interest and receivables                                |  |               | 22     |   |                   |  
|Acquired lease assets, net of accumulated amortization          |  |               | -      |   |                   |  
|Deferred costs                                                  |  |               | -      |   |                   |  
|Other assets                                                    |  |               | 229    |   |                   |  
|Total assets held-for-sale                                      |  | $             | 10,265 |   |                   | $
|                                                                |  |               |        |   |                   |  
|Liabilities related to assets held-for-sale:                    |  |               |        |   |                   |  
|Accrued expenses                                                |  | $             | 134    |   |                   | $
|Deferred revenue                                                |  |               | 21     |   |                   |  
|Below market lease liabilities, net of accumulated amortization |  |               | -      |   |                   |  
|Total liabilities related to assets held-for-sale               |  | $             | 155    |   |                   | $
|Net assets held-for-sale                                        |  | $             | 10,110 |   |                   | $





The following operating results of the
assets held-for-sale as of June 30, 2012 and the assets sold during the six months ended June 30, 2012 and 2011, are included
in discontinued operations for all periods presented:





|                                                       |  | Three months ended June 30, |        |   | Six months ended June 30, |  
|------------------------------------------------------ |  | --------------------------- | ------ | - | ------------------------- | -
|                                                       |  | 2012                        |        |   | 2011                      |  
|Operating Results:                                     |  |                             |        |   |                           |  
|Revenues                                               |  | $                           | 328    |   |                           | $
|Operating expenses                                     |  |                             | (3,216 | ) |                           |  
|Marketing, general and administrative                  |  |                             | (1     | ) |                           |  
|Depreciation and amortization                          |  |                             | (25    | ) |                           |  
|Equity in net income from unconsolidated joint venture |  |                             | -      |   |                           |  
|Net income (loss) from operations                      |  |                             | (2,914 | ) |                           |  
|Net gains from disposals                               |  |                             | 53     |   |                           |  
|Net income (loss) from discontiued operations          |  | $                           | (2,861 | ) |                           | $





Discontinued operations have not been segregated
in the Condensed Consolidated Statements of Cash Flows.





31







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



5. Investments in Joint Ventures



At June 30, 2012 and December 31, 2011,
the carrying value of the Company’s joint venture investment was as follows:





|                                                |  |                    |      |   | Carrying Value |  
|----------------------------------------------- |  | ------------------ | ---- | - | -------------- | -
|                                                |  | Ownership Interest |      |   | June 30,  2012 |  
|200 Franklin Square Drive, Somerset, New Jersey |  |                    | 25.0 | % |                | $





For the three and six months ended June
30, 2012 and 2011, the Company’s pro rata share of net income (loss) of the joint ventures were as follows:





|                                                |  | Three Months Ended |    |  | Six Months Ended |  
|----------------------------------------------- |  | ------------------ | -- |  | ---------------- | -
|                                                |  | June 30, 2012      |    |  | June 30, 2011    |  
|200 Franklin Square Drive, Somerset, New Jersey |  | $                  | 29 |  |                  | $
|Citizens Portfolio (1)                          |  |                    | -  |  |                  |  
|Total before discontinued operations            |  |                    | 29 |  |                  |  
|Less discontinued operations                    |  |                    | -  |  |                  |  
|Total                                           |  | $                  | 29 |  |                  | $







|(1) Pursuant to the Settlement Agreement, the Citizens portfolio was transferred to KBS in December 2011.
|---------------------------------------------------------------------------------------------------------





6. Collateralized Debt Obligations



Pursuant to the collateral management agreements,
the Company provides certain advisory and administrative services in relation to the collateral debt securities and other eligible
investments securing the CDO notes. The collateral management agreement for the Company’s 2005 CDO provides for a senior
collateral management fee, payable quarterly in accordance with the priority of payments as set forth in the indenture, equal
to 0.15% per annum of the net outstanding portfolio balance, and a subordinate collateral management fee, payable quarterly in
accordance with the priority of payments as set forth in the indenture, equal to 0.25% per annum of the net outstanding portfolio
balance. Net outstanding portfolio balance is the sum of the (i) aggregate principal balance of the collateral debt securities,
excluding defaulted securities, (ii) aggregate principal balance of all principal proceeds held as cash and eligible investments
in certain accounts, and (iii) with respect to the defaulted securities, the calculation amount of such defaulted securities.
The collateral management agreement for the Company’s 2006 CDO provides for a senior collateral management fee, payable
quarterly in accordance with the priority of payments as set forth in the indenture, equal to 0.15% per annum of the net outstanding
portfolio balance, and a subordinate collateral management fee, payable quarterly in accordance with the priority of payments
as set forth in the indenture, equal to 0.25% per annum of the net outstanding portfolio balance. Net outstanding portfolio balance
is the sum of the (i) aggregate principal balance of the collateral debt securities, excluding defaulted securities, (ii) aggregate
principal balance of all principal proceeds held as cash and eligible investments in certain accounts, and (iii) with respect
to the defaulted securities, the calculation amount of such defaulted securities. The collateral management agreement for the
Company’s 2007 CDO provides for a senior collateral management fee, payable quarterly in accordance with the priority of
payments as set forth in the indenture, equal to (i) 0.05% per annum of the aggregate principal balance of the CMBS securities,
(ii) 0.10% per annum of the aggregate principal balance of loans, preferred equity securities, cash and certain defaulted securities,
and (iii) a subordinate collateral management fee, payable quarterly in accordance with the priority of payments as set forth
in the indenture, equal to 0.15% per annum of the aggregate principal balance of the loans, preferred equity securities, cash
and certain defaulted securities.





32









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The Company retained all non-investment
grade securities, the preferred shares and the common shares in the Issuer of each CDO. The Issuers and Co-Issuers in each CDO
holds assets, consisting primarily of whole loans, subordinate interests in whole loans, mezzanine loans, preferred equity investments
and CMBS, which serve as collateral for the CDO. Each CDO may be replenished, pursuant to certain rating agency guidelines relating
to credit quality and diversification, with substitute collateral using cash generated by debt investments that are repaid during
the reinvestment periods (generally, five years from issuance) of the CDO. Thereafter, the CDO securities will be retired in sequential
order from senior-most to junior-most as debt investments are repaid. The financial statements of the Issuer of each CDO are consolidated
in the Company’s financial statements. The securities originally rated as investment grade at time of issuance are treated
as a secured financing, and are non-recourse to the Company. Proceeds from the sale of the securities originally rated as investment
grade in each CDO were used to repay substantially all outstanding debt under the Company’s repurchase agreements and to
fund additional investments.



The Company’s loans and
other investments serve as collateral for the Company’s CDO securities, and the income generated from these investments
is used to fund interest obligations of the Company’s CDO securities and the remaining income, if any, is retained by
the Company. The CDO indentures contain minimum interest coverage and asset overcollateralization covenants that must
be satisfied in order for the Company to receive cash flow on the interests retained in its CDOs and to receive the
subordinate collateral management fee earned. If some or all of the Company’s CDOs fail these covenants, all cash flows
from the applicable CDO other than senior collateral management fees would be diverted to repay principal and interest on the
most senior outstanding CDO securities, and the Company may not receive some or all residual payments or the
subordinate collateral management fee until the applicable CDO regained compliance with such tests. As of July 2012, the most
recent distribution date, the Company’s 2006 CDO was in compliance with interest coverage and asset
overcollateralization covenants, however the compliance margins were narrow and very small declines in collateral performance
and credit metrics from one or more assets could cause the CDO to fall out of compliance. The Company’s 2005 CDO
failed its overcollateralization test at the July 2012 distribution date and previously failed its overcollateralization
tests at the October 2011, April 2011 and January 2011 distribution dates. The Company’s 2007 CDO failed
its overcollateralization test beginning with the November 2009 distribution date and it is unlikely that the 2007
CDO’s overcollateralization tests will be satisfied in the foreseeable future. The Company  will likely fail the
overcollaterization test for the 2005 CDO and the 2006 CDO at the October 2012 distribution date.



On March 14, 2012, an interest payment
due on a CMBS investment owned by the Company’s 2007 CDO was not received for the third consecutive interest payment date,
which caused the CMBS investment to be classified as a Defaulted Security under the 2007 CDO’s indenture. This classification
caused the Class A/B Par Value Ratio for the 2007 CDO notes to fall to 88.86% in breach of the Class A/B overcollateralization
test threshold of 89%. This breach constitutes an event of default under the operative documents for the 2007 CDO. Upon such an
event of default, the reinvestment period of the 2007 CDO, which is scheduled to expire in August 2012, would have immediately
ended and the Company would have lost its ability to reinvest restricted cash held by the 2007 CDO. Additionally, an event of default
would have entitled the controlling class to direct the Trustee to accelerate the notes of the 2007 CDO and, depending on the circumstances,
force the prompt liquidation of the collateral. Pursuant to a letter dated in March 2012, a majority of the controlling class of
senior note holders waived the related event of default and further agreed to waive any subsequent event of default related to
the Class A/B overcollateralization test that may occur hereafter until the earlier of August 27, 2012 or the date that written
instructions to the contrary are provided by such majority of the controlling class to the Trustee. The majority of the controlling
class has reserved the right to revoke or extend such waiver at any time.



During the three and six months ended June
30, 2012, the Company did not repurchase notes previously issued by the Company’s CDOs. During the three and six months ended
June 30, 2011, the Company repurchased, at a discount, $37,859 and $48,259, respectively, of notes previously issued by one of
its three CDOs. The Company recorded a net gain on the early extinguishment of debt of $10,870 and $14,526 for the three and six
months ended June 30, 2011, respectively, in connection with the repurchase of the notes.





33









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





7. Related Party Transactions



The Chief Executive Officer of
SL Green Realty Corp. (NYSE: SLG), or SL Green, is a director of the Company. An affiliate of SL Green provides special
servicing services with respect to a limited number of loans owned by the Company that are secured by properties in New York
City, or in which the Company and SL Green are co-investors. For the three and six months ended June 30, 2012, the Company
incurred no expenses pursuant to the special servicing arrangement. For the three and six months ended June 30, 2011, the
Company incurred expenses of $42 and $83, respectively, pursuant to the special servicing arrangement.



Commencing in May 2005, the Company
is party to a lease agreement with SLG Graybar Sublease LLC, an affiliate of SL Green, for its corporate offices at 420
Lexington Avenue, New York, New York. The lease is for approximately 7,300 square feet and carries a term of 10 years with
rents of approximately $249 per annum for year one rising to $315 per annum in year ten. In May and June 2009, the Company
amended its lease with SLG Graybar Sublease LLC to increase the leased premises by approximately 2,260 square feet. The
additional premises are leased on a co-terminus basis with the remainder of its leased premises and carries rents of
approximately $103 per annum during the initial year and $123 per annum during the final lease year. On
June 25, 2012, the lease was amended to reduce the leased premises by approximately 600 square feet and to reduce rents by
approximately $29 per annum during the initial year and $38 per annum during the final lease year. All other terms of the
lease remain unchanged, except the Company now has the right to cancel the lease with 90 days notice. For the three
and six months ended June 30, 2012, the Company paid $77 and $173 under this lease, respectively. For the three and six
months ended June 30, 2011, the Company paid $77 and $154 under this lease, respectively.



In December 2007, the Company acquired
a 50% interest in a $200,000 senior mezzanine loan from a financial institution. Immediately thereafter, the Company participated
50% of the Company’s interest in the loan to an affiliate of SL Green. The investment was purchased at a discount and bears
interest at an effective spread to one-month LIBOR of 6.50%. In December 2010, the Company subsequently purchased from an affiliate
of SL Green, its full participation in the senior mezzanine loan at a discount. In September 2011, a portion of the subsequently
purchased mezzanine loan was converted to preferred equity. As of June 30, 2012 and December 31, 2011, the original loan has a
book value of $125 and $250, respectively, and the subsequently purchased mezzanine loan has a book value of $8,096 and $7,337,
respectively, and the preferred equity investment has a book value of $125 and $3,365, respectively.



In August 2008, the Company closed on
the purchase from an SL Green affiliate of a $9,375 pari-passu participation interest in an $18,750 first mortgage. The loan
is secured by a retail shopping center located in Staten Island, New York. The investment bears interest at a fixed rate of
6.50%. In December 2010, the Company purchased the remaining 50% interest in the loan from an SL Green affiliate for a
discount of $9,420. As of June 30, 2012 and December 31, 2011, the loan has a book value of approximately $19,427 and $19,419,
respectively.





34







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



8. Fair Value of Financial Instruments



The Company discloses fair value
information about financial instruments, whether or not recognized in the Condensed Consolidated Financial Statements, for which it is
practicable to estimate that value. In cases where quoted market prices are not available, fair values are based upon the
application of discount rates to estimated future cash flows based upon market yields or by using other valuation
methodologies. Considerable judgment is necessary to interpret market data and develop estimated fair value. Accordingly,
fair values are not necessarily indicative of the amounts the Company could realize upon disposition of the financial
instruments. The use of different market assumptions and/or estimation methodologies may have a material effect on estimated
fair value amounts.



The following table presents the carrying
value in the financial statements and approximate fair value of other financial instruments at June 30, 2012 and December 31, 2011:





|                                |  | June 30, 2012  |           |  | December 31, 2011 |  
|------------------------------- |  | -------------- | --------- |  | ----------------- | -
|                                |  | Carrying Value |           |  | Fair Value        |  
|Financial assets: (1)           |  |                |           |  |                   |  
|Lending investments             |  | $              | 974,413   |  |                   | $
|CMBS                            |  | $              | 851,936   |  |                   | $
|Derivative instruments          |  | $              | 341       |  |                   | $
|Financial liabilities: (1)      |  |                |           |  |                   |  
|Collateralized debt obligations |  | $              | 2,346,003 |  |                   | $
|Derivative instruments          |  | $              | 180,753   |  |                   | $





(1) Financial assets and financial
liabilities are classified as Level III due to the significance of unobservable inputs which are based upon
management assumptions.



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



Cash and cash equivalents, accrued interest,
and accounts payable:   These balances in the Condensed Consolidated Financial Statements reasonably approximate
their fair values due to the short maturities of these items.



Lending investments:   These
instruments are presented in the Condensed Consolidated Financial Statements at the lower of cost or market value and not at fair
value. The fair values were estimated by using market floating rate and fixed rate yields (as appropriate) for loans with
similar credit characteristics.



CMBS:   These
investments are presented in the Condensed Consolidated Financial Statements at fair value. The fair values were based upon valuations
obtained from dealers of those securities, third-party pricing services, and internal models.



Collateralized debt obligations:
  These obligations are presented in the Condensed Consolidated Financial Statements on the basis of proceeds received at
issuance and not at fair value. The fair value was estimated based upon the amount at which similarly placed financial instruments
would be valued today.



Derivative instruments:
  The Company’s derivative instruments, which are primarily comprised of interest rate swap agreements, are carried
at fair value in the Condensed Consolidated Financial Statements based upon third-party valuations.





35







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Disclosure about fair value of financial
instruments is based on pertinent information available to the Company at June 30, 2012 and December 31, 2011. Although the Company
is not aware of any factors that would significantly affect the reasonable fair value amounts, such amounts have not been comprehensively
revalued for purposes of these financial statements since June 30, 2012 and December 31, 2011 and current estimates of fair value
may differ significantly from the amounts presented herein.



The following discussion of fair value
was determined by the Company using available market information and appropriate valuation methodologies. Considerable judgment
is necessary to interpret market data and develop estimated fair value. Accordingly, fair values are not necessarily indicative
of the amounts the Company could realize on disposition of the financial instruments. Financial instruments with readily available
active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of
pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely
traded or not quoted will generally have less, or no, pricing observability and a higher degree of judgment utilized in measuring
fair value. The use of different market assumptions and/or estimation methodologies may have a material effect on estimated fair
value amounts. Determining which category an asset or liability falls within the hierarchy requires significant judgment and the
Company evaluates its hierarchy disclosures each quarter.



Fair Value on a Recurring Basis



Assets and liabilities measured at fair
value on a recurring basis are categorized in the table below based upon the lowest level of significant input to the valuations.





|At June 30, 2012        |  | Total |         |  | Level I |   |   | Level II |  |   | Level III | 
|----------------------- |  | ----- | ------- |  | ------- | - | - | -------- |  | - | --------- | 
|Financial Assets:       |  |       |         |  |         |   |   |          |  |   |           | 
|Derivative instruments: |  |       |         |  |         |   |   |          |  |   |           | 
|Interest rate caps      |  | $     | 341     |  |         | $ | - |          |  | $ | -         | 
|Interest rate swaps     |  |       | -       |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 341     |  |         | $ | - |          |  | $ | -         | 
|                        |  |       |         |  |         |   |   |          |  |   |           | 
|CMBS:                   |  |       |         |  |         |   |   |          |  |   |           | 
|Investment grade        |  | $     | 440,400 |  |         | $ | - |          |  | $ | -         | 
|Non-investment grade    |  |       | 411,536 |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 851,936 |  |         | $ | - |          |  | $ | -         | 
|                        |  |       |         |  |         |   |   |          |  |   |           | 
|Financial Liabilities:  |  |       |         |  |         |   |   |          |  |   |           | 
|Derivative instruments: |  |       |         |  |         |   |   |          |  |   |           | 
|Interest rate caps      |  | $     | -       |  |         | $ | - |          |  | $ | -         | 
|Interest rate swaps     |  |       | 180,753 |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 180,753 |  |         | $ | - |          |  | $ | -         | 







|At December 31, 2011    |  | Total |         |  | Level I |   |   | Level II |  |   | Level III | 
|----------------------- |  | ----- | ------- |  | ------- | - | - | -------- |  | - | --------- | 
|Financial Assets:       |  |       |         |  |         |   |   |          |  |   |           | 
|Derivative instruments: |  |       |         |  |         |   |   |          |  |   |           | 
|Interest rate caps      |  | $     | 919     |  |         | $ | - |          |  | $ | -         | 
|Interest rate swaps     |  |       | -       |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 919     |  |         | $ | - |          |  | $ | -         | 
|                        |  |       |         |  |         |   |   |          |  |   |           | 
|CMBS:                   |  |       |         |  |         |   |   |          |  |   |           | 
|Investment grade        |  | $     | 444,113 |  |         | $ | - |          |  | $ | -         | 
|Non-investment grade    |  |       | 331,699 |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 775,812 |  |         | $ | - |          |  | $ | -         | 
|                        |  |       |         |  |         |   |   |          |  |   |           | 
|Financial Liabilities:  |  |       |         |  |         |   |   |          |  |   |           | 
|Derivative instruments: |  |       |         |  |         |   |   |          |  |   |           | 
|Interest rate caps      |  | $     | -       |  |         | $ | - |          |  | $ | -         | 
|Interest rate swaps     |  |       | 175,915 |  |         |   | - |          |  |   | -         | 
|                        |  | $     | 175,915 |  |         | $ | - |          |  | $ | -         | 







36







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





Derivative instruments:   
Interest rate caps and swaps were valued with the assistance of a third party derivative specialist, who uses a combination of
observable market-based inputs, such as interest rate curves, and unobservable inputs which require significant judgment such as
the credit valuation adjustments due the risk of non-performance by both the Company and its counterparties. The fair value of
derivatives classified as Level III are most sensitive to the credit valuation adjustment as all or a portion of the credit valuation
adjustment may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of the Company or
its counterparties. See Note 11 for additional details on the Company’s interest rate caps and swaps.





Total losses from derivatives for the three
and six months ended June 30, 2012 are $4,263 and $5,133, respectively, and are included in Accumulated Other Comprehensive Loss.
During the six months ended June 30, 2012, the Company did not enter into any interest
rate caps.



CMBS:    CMBS
securities are generally valued on a recurring basis by (i) obtaining assessments from third-party dealers who primarily
use market-based inputs such as changes in interest rates and credit spreads, along with recent comparable trade data;
(ii) pricing services who use a combination of market-based inputs along with unobservable inputs that require
significant judgment, such as assumptions on the underlying loans regarding net property operating income, capitalization
rates, debt service coverage ratios and loan-to-value default thresholds, timing of workouts and recoveries, and loan
loss severities;  and (iii) in limited cases where such assessments are unavailable or, in the opinion of management,
deemed not to be indicative of fair value, discounting expected cash flows using internal cash flow models and estimated
market discount rates.  The Company uses all data points obtained, including comparable trades completed by the Company
or available in the market place in determining its fair value of CMBS. Pricing service models and the Company’s
internal models are designed to replicate a market view of the underlying collateral, however, the models are most sensitive
to the unobservable inputs such as timing of loan defaults and severity of loan losses and significant increases
(decreases) in any of those inputs in isolation as well as any change in the expected timing of those inputs, would result in
a significantly lower (higher) fair value measurement. Due to significant management judgment and assumptions regarding unobservable inputs into the determination
of fair value, the Company has designated its CMBS securities as Level III.



The following table reconciles the beginning
and ending balances of financial assets measured at fair value on a recurring basis using Level III inputs:





|                                           |  | CMBS  - Investment Grade |         |   | CMBS  -Non- Investment Grade |   |         | Derivative Instruments | 
|------------------------------------------ |  | ------------------------ | ------- | - | ---------------------------- | - | ------- | ---------------------- | 
|                                           |  |                          |         |   |                              |   |         |                        | 
|Balance as of December 31, 2011            |  | $                        | 444,113 |   |                              | $ | 331,699 |                        | 
|Transfers from securites held to maturity  |  |                          | -       |   |                              |   | -       |                        | 
|Purchases of CMBS investments              |  |                          | 535     |   |                              |   | -       |                        | 
|Change in CMBS investment status           |  |                          | (40,054 | ) |                              |   | 40,054  |                        | 
|Purchases of derivative investments        |  |                          | -       |   |                              |   | -       |                        | 
|Amortization of discounts or premiums      |  |                          | 4,350   |   |                              |   | 2,111   |                        | 
|Proceeds from CMBS principal repayments    |  |                          | (7,276  | ) |                              |   | -       |                        | 
|Adjustments to fair value:                 |  |                          |         |   |                              |   |         |                        | 
|Included in other comprehensive income     |  |                          | 38,732  |   |                              |   | 73,746  |                        | 
|Gain (loss) from sales of CMBS investments |  |                          | -       |   |                              |   | -       |                        | 
|Other-than-temporary impairments           |  |                          | -       |   |                              |   | (36,074 | )                      | 
|Balance as of June 30, 2012                |  | $                        | 440,400 |   |                              | $ | 411,536 |                        | 







37







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012





The following table reconciles the beginning
and ending balances of financial liabilities measured at fair value on a recurring basis using Level III inputs:





|                                    |  | Derivative Instruments - Interest Rate Swaps |        
|----------------------------------- |  | -------------------------------------------- | -------
|                                    |  |                                              |        
|Balance as of December 31, 2011     |  | $                                            | 175,915
|Purchases of derivative investments |  |                                              | -      
|Adjustments to fair value:          |  |                                              |        
|Unrealized loss                     |  |                                              | 4,838  
|                                    |  |                                              |        
|Balance as of June 30, 2012         |  | $                                            | 180,753





Fair Value on a Non-Recurring Basis



The Company uses fair value measurements
on a non-recurring basis in its assessment of assets classified as loans and other lending investments, which are reported at cost
and have been written down to fair value as a result of valuation allowances established for loan losses. The following table shows
the fair value hierarchy for those assets measured at fair value on a non-recurring basis based upon the lowest level of significant
input to the valuations for which a non-recurring change in fair value has been recorded during the six months ended June 30, 2012:





|At June 30, 2012                     |  | Total |        |  | Level I |   |   | Level II |  |   | Level III | 
|------------------------------------ |  | ----- | ------ |  | ------- | - | - | -------- |  | - | --------- | 
|Financial Assets:                    |  |       |        |  |         |   |   |          |  |   |           | 
|Lending investments:                 |  |       |        |  |         |   |   |          |  |   |           | 
|Whole loans                          |  | $     | 35,505 |  |         | $ | - |          |  | $ | -         | 
|Subordinate interests in whole loans |  |       | -      |  |         |   | - |          |  |   | -         | 
|Mezzanine loans                      |  |       | -      |  |         |   | - |          |  |   | -         | 
|Preferred equity                     |  |       | 250    |  |         |   | - |          |  |   | -         | 
|                                     |  | $     | 35,755 |  |         | $ | - |          |  | $ | -         | 







|At December 31, 2011                 |  | Total |         |  | Level I |   |   | Level II |  |   | Level III | 
|------------------------------------ |  | ----- | ------- |  | ------- | - | - | -------- |  | - | --------- | 
|Financial Assets:                    |  |       |         |  |         |   |   |          |  |   |           | 
|Lending investments:                 |  |       |         |  |         |   |   |          |  |   |           | 
|Whole loans                          |  | $     | 132,261 |  |         | $ | - |          |  | $ | -         | 
|Subordinate interests in whole loans |  |       | 3,514   |  |         |   | - |          |  |   | -         | 
|Mezzanine loans                      |  |       | -       |  |         |   | - |          |  |   | -         | 
|Preferred equity                     |  |       | 4,910   |  |         |   | - |          |  |   | -         | 
|                                     |  | $     | 140,685 |  |         | $ | - |          |  | $ | -         | 







38







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The total change in fair value of
assets for which a fair value adjustment has been included in the Condensed Consolidated Statements of Comprehensive Income
(Loss) for the three and six months ended June 30, 2012 and June 30, 2011 were $5,989 and $8,534 and $18,783 and
$36,283 respectively.



Loans subject to impairments or reserves
for loan loss:   The loans identified for impairment or reserves for loan loss are collateral dependent loans. Impairment
or reserves for loan loss on these loans are measured by comparing management’s estimated fair value of the underlying collateral
to the carrying value of the respective loan. These valuations require significant judgments, which include assumptions regarding
capitalization rates, leasing, creditworthiness of major tenants, occupancy rates, availability of financing, exit plan, loan sponsorship,
actions of other lenders and other factors deemed necessary by management.





The valuations derived
from pricing models may include adjustments to the financial instruments. These adjustments may be made when, in management’s
judgment, either the size of the position in the financial instrument or other features of the financial instrument such as its
complexity, or the market in which the financial instrument is traded (such as counterparty, credit, concentration or liquidity)
require that an adjustment be made to the value derived from the pricing models. Additionally, an adjustment from the price derived
from a model typically reflects management’s judgment that other participants in the market for the financial instrument
being measured at fair value would also consider such an adjustment in pricing that same financial instrument.



Assets and liabilities presented at fair
value and categorized as Level III are generally those that are marked to model using relevant empirical data to extrapolate an
estimated fair value. The models’ inputs reflect assumptions that market participants would use in pricing the instrument
in a current period transaction and outcomes from the models represent an exit price and expected future cash flows. The parameters
and inputs are adjusted for assumptions about risk and current market conditions. Changes to inputs in valuation models are not
changes to valuation methodologies; rather, the inputs are modified to reflect direct or indirect impacts on asset classes from
changes in market conditions. Accordingly, results from valuation models in one period may not be indicative of future period measurements.



9. Stockholders’ Equity



The Company’s authorized capital
stock consists of 125.0 million shares, $0.001 par value, of which the Company has authorized the issuance of up to 100.0
million shares of common stock, $0.001 par value per share, and 25.0 million shares of preferred stock, par value $0.001
per share. As of June 30, 2012, 52,295,323 shares of common stock and 3,525,822 shares of preferred stock were issued and
outstanding.





In connection with Mr. Gordon F. DuGan’s
agreement to serve as the Company’s Chief Executive Officer, on June 7, 2012, Mr. DuGan also agreed to purchase 1,000,000
shares of the Company’s common stock from the Company on June 29, 2012 for an aggregate purchase price of $2,520,000 or,
$2.52 per share. The per share purchase price was equal to the closing price of the Company’s common stock on the New York
Stock Exchange on the day prior to the date Mr. DuGan entered into the subscription agreement with the Company to purchase such
shares of common stock. The issuance of such shares of common stock was a private placement exempt from the registration requirements
of the Securities Act of 1933, as amended.



Preferred Stock



Beginning with the fourth quarter of 2008,
the Company’s board of directors elected not to pay the quarterly Series A preferred stock dividends of $0.50781 per share.
As a result, the Company accrued dividends for over six quarters, which pursuant to the terms of its charter, permitted the Series
A preferred stockholders to elect an additional director to our board of directors, William H. Lenehan, to serve until the 2012
annual meeting of stockholders, special meeting held in lieu thereof or his successor is elected and qualifies; provided, however,
that the term of such director will automatically terminate if and when all arrears in dividends on the Series A preferred stock
then outstanding are paid and full dividends thereon for the then current quarterly dividend period have been paid or declared
and set apart for payment. As of June 30, 2012 and December 31, 2011, the Company accrued Series A preferred stock dividends of
$26,857 and $23,276, respectively.



39









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



Earnings per Share





For the three six months ended June 30,
2012 and 2011, basic EPS was determined by dividing net income (loss) allocable to common stockholders for the applicable period
by the weighted average number of shares of common stock outstanding during such period. Net income during the applicable period
is also allocated to the time-based unvested restricted stock as these grants are entitled to receive dividends and are therefore
considered a participating security.  Time-based unvested restricted stock is not allocated net losses or any excess of dividends
declared over net income; such amounts are allocated entirely to the common stockholders other than the holders of time-based unvested
restricted stock. For the three and six months ended June 30, 2012, the Company had 541,667 weighted average unvested restricted
shares outstanding.   The restricted stock grants awarded under the Equity Incentive Plan, as described in Note 14 of the
Company’s 2011 Annual Report on Form 10-K, are excluded from the basic EPS calculation, as these shares are not participating
securities.



EPS for the three and six
months ended June 30, 2012 and 2011 are computed as follows:





|                                                                                               |  | Three months ended June 30, |            |   | Six months ended June 30, |  
|---------------------------------------------------------------------------------------------- |  | --------------------------- | ---------- | - | ------------------------- | -
|                                                                                               |  | 2012                        |            |   | 2011                      |  
|Numerator - Income (loss):                                                                     |  |                             |            |   |                           |  
|Net income (loss) from continuing operations                                                   |  | $                           | (16,850    | ) |                           | $
|Net income (loss) from discontinued operations                                                 |  |                             | (2,861     | ) |                           |  
|Net income (loss)                                                                              |  |                             | (19,711    | ) |                           |  
|Accrued preferred stock dividends                                                              |  |                             | (1,790     | ) |                           |  
|Numerator for basic income per share - net income     (loss) available to common stockholders: |  |                             | (21,501    | ) |                           |  
|Effect of dilutive securities                                                                  |  |                             | -          |   |                           |  
|Diluted earnings:                                                                              |  |                             |            |   |                           |  
|Net income (loss) available to common stockholders                                             |  | $                           | (21,501    | ) |                           | $
|Denominator-Weighted average shares:                                                           |  |                             |            |   |                           |  
|Weighted average shares outstanding                                                            |  |                             | 51,300,973 |   |                           |  
|Less:  Unvested restricted shares                                                              |  |                             | (541,667   | ) |                           |  
|Denominator for basic income per share                                                         |  |                             | 50,759,306 |   |                           |  
|Effect of dilutive securities:                                                                 |  |                             |            |   |                           |  
|Stock based compensation plans                                                                 |  |                             | -          |   |                           |  
|Phantom stock units                                                                            |  |                             | -          |   |                           |  
|Denominator for diluted income per share                                                       |  |                             | 50,759,306 |   |                           |  



Diluted income (loss) per share assumes
the conversion of all common share equivalents into an equivalent number of common shares if the effect is not anti-dilutive. For the three months ended June 30, 2012, 15,352 share options and 551,615 phantom stock units, respectively, and for the six months
ended June 30, 2012, 15,849 share options and 551,615 phantom stock units, respectively, were computed using the treasury share
method, which due to the net loss, were anti-dilutive.



Accumulated Other Comprehensive Loss



Accumulated other comprehensive loss
as of June 30, 2012 and December 31, 2011 are comprised of the following:





|                                                                                                                   |  | June 30,2012 |          |   | December
    31,2011 |  
|------------------------------------------------------------------------------------------------------------------ |  | ------------ | -------- | - | -------------------- | -
|Net realized and unrealized losses on interest rate swap and cap      agreements accounted for as cash flow hedges |  | $            | (187,235 | ) |                      | $
|Net unrealized loss on available-for-sale securities                                                               |  |              | (146,359 | ) |                      |  
|Total accumulated other comprehensive loss                                                                         |  | $            | (333,594 | ) |                      | $







40







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



10. Commitments and Contingencies



Two of the Company’s subsidiaries
are named as defendants in a case filed in August 2011 captioned Colfin JIH Funding LLC and CDCF JIH Funding, LLC, or Colony, v.
Gramercy Warehouse Funding I LLC and Gramercy Loan Services LLC, which is pending in New York State Supreme Court, New York County.
The dispute arises from the financing of the Jameson Inns and Signature Inns. Colony has asserted a breach of contract claim under
an intercreditor agreement against the subsidiaries and is seeking to recover at least $80,000, which represents the amounts of
the mezzanine loans held by Colony, and at least $8,000 in enforcement costs, plus attorneys’ fees. On January 23, 2012,
the Company’s subsidiaries filed counterclaims against Colony for breach of contract, tortious interference with contract,
breach of the covenant of good faith and fair dealing, and civil conspiracy, and are seeking to recover at least $80,000 in compensatory
damages, as well as certain punitive damages and certain costs and fees. The Company’s subsidiaries intend to vigorously
defend the claims asserted against them and to pursue all counterclaims against Colony. Colony has moved to dismiss the counterclaims.
This matter is in its preliminary stages, and accordingly, the Company is not able to assess the likelihood of an unfavorable outcome
or estimate the range of potential loss, if any.



The same two of the Company’s subsidiaries
are named as defendants in a case filed in December 2011 captioned U.S. Bank National Association, as Trustee et al v. Gramercy
Warehouse Funding I LLC and Gramercy Loan Services LLC, which is pending in New York State Supreme Court, New York County. The
dispute arises from the same financing of the Jameson Inns and Signature Inns. U.S. Bank National Association, or U.S. Bank, by
and through its attorney in fact, Wells Fargo Bank, N.A., has asserted a breach of contract claim against the subsidiaries and
is seeking to recover at least $164,000 which represents the amount of U.S. Bank’s mortgage loan, plus attorneys’ fees
and enforcement costs. On January 25, 2012, the subsidiaries filed an answer to U.S. Bank’s complaint. The Company’s
subsidiaries intend to vigorously defend the claims asserted against them. This matter is in its preliminary stages, and accordingly,
the Company is not able to assess the likelihood of an unfavorable outcome or estimate the range of potential loss, if any.



The same two of the Company’s subsidiaries
are named as counterclaim defendants in a case filed in March 2012 captioned Gramercy Warehouse Funding I LLC and Gramercy Loan
Services LLC v. JER Financial Products III, LLC, which is pending in New York State Supreme Court, New York County. The Company’s
subsidiaries commenced this action to enforce the lenders’ rights to payment under the guaranty agreements executed in connection
with the Jameson Inns and Signature Inns. On April 18, 2012, JER Financial Products III, the guarantor, filed an answer to the
complaint and counterclaims against the Company’s subsidiaries, seeking a declaratory judgment regarding its payment obligations
under the guaranty agreements. JER Financial Products III also alleges claims for tortious interference with contract and breach
of the implied covenant of good faith and fair dealing, and seeks to recover from the subsidiaries any payment obligations it may
incur in separate actions brought by the mortgage lender and the senior lender under their guarantee agreements, as well as attorneys’
fees and costs it may incur in those separate actions. The Company’s subsidiaries intend to vigorously defend the
claims asserted against it and pursue all claims against JER Financial Products III. This matter is in its preliminary stages and,
accordingly, the Company is unable to assess the likelihood of an unfavorable outcome or estimate any potential loss, if any.





The Company and certain of its
subsidiaries are also named as defendants in an action filed in November 2008 in New York Supreme Court, New York County, by
a former consultant alleging breach of contract and other claims and seeking to recover certain payments alleged to be due
under a now-terminated consulting arrangement between the company and the consultant. In July 2012, the Company settled the
claim for $885, which was fully accrued for as of June 30, 2012.



The Company’s corporate offices
at 420 Lexington Avenue, New York, New York are subject to an operating lease agreement with SLG Graybar Sublease LLC, an
affiliate of SL Green, effective May 1, 2005. The lease is for approximately 7,300 square feet and carries a term of 10 years
with rents of approximately $249 per annum for year one rising to $315 per annum in year ten. In May and June 2009, the
Company amended its lease with SLG Graybar Sublease LLC to increase the leased premises by approximately 2,260 square feet.
The additional premises are leased on a co-terminus basis with the remainder of the Company’s leased premises and
carries rents of approximately $103 per annum during the initial lease year and $123 per annum during the final lease year. On
June 25, 2012, the lease was amended to reduce the leased premises by approximately 600 square feet and to reduce rents by
approximately $29 per annum during the initial year and $38 per annum during the final lease year. All other terms of the
lease remain unchanged, except the Company now has the right to cancel the lease with 90 days notice.





41







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



As of June 30, 2012, the Company has a
ground lease with an expiration date extending through 2016. These lease obligations generally contain rent increases and renewal
options.



Future minimum lease payments under
cancelable and non-cancelable operating leases as of June 30, 2012 are as follows:





|                             |  | Operating Leases |    
|---------------------------- |  | ---------------- | ---
|2012 (July to December)      |  | $                | 132
|2013                         |  |                  | 49 
|2014                         |  |                  | 30 
|2015                         |  |                  | 30 
|2016                         |  |                  | 3  
|Thereafter                   |  |                  | -  
|Total minimum lease payments |  | $                | 244





The Company, through certain of its subsidiaries,
may be required in its role in connection with its CDOs, to repurchase loans that it contributed to its CDOs in the event of breaches
of certain representations or warranties provided at the time the CDOs were formed and the loans contributed. These obligations
do not relate to the credit performance of the loans or other collateral contributed to the CDOs, but only to breaches of specific
representations and warranties. Since inception, the Company has not been required to make any repurchases.



Certain real estate assets are pledged
as collateral for mortgage loans held by two of its CDOs.



11. Financial Instruments: Derivatives and Hedging



The Company recognizes all derivatives
on the Condensed Consolidated Balance Sheets at fair value. The valuation of the derivatives is based upon observable and unobservable
inputs including the credit valuation adjustments. The calculation of the credit valuation adjustment, which is a measure of counterparty
credit risk, is based upon net counterparty exposure. Derivatives that are not hedges must be adjusted to fair value through income.
If a derivative is a hedge, depending on the nature of the hedge, changes in the fair value of the derivative will either be offset
against the change in fair value of the hedged asset, liability or firm commitment through earnings, or recognized in other comprehensive
loss until the hedged item is recognized in earnings. The ineffective portion of a derivative’s change in fair value will
be immediately recognized in earnings. Derivative accounting may increase or decrease reported net income and stockholders’
equity prospectively, depending on future levels of LIBOR interest rates and other variables affecting the fair values of derivative
instruments and hedged items, but will have no effect on cash flows, provided the contract is carried through to full term.





42









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The following table summarizes the notional
and fair value of the Company’s derivative financial instruments at June 30, 2012. The notional value is an indication of
the extent of the Company’s involvement in this instrument at that time, but does not represent exposure to credit, interest
rate or market risks:



|                                  |  | Benchmark Rate |               |  | Notional Value |   |           | Strike Rate |  |  | Effective Date |   |  | Expiration Date |        |  | Fair Value | 
|--------------------------------- |  | -------------- | ------------- |  | -------------- | - | --------- | ----------- |  |  | -------------- | - |  | --------------- | ------ |  | ---------- | 
|Assets of Non-VIEs:               |  |                |               |  |                |   |           |             |  |  |                |   |  |                 |        |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                | $ | 38,500    |             |  |  | 6.00           | % |  |                 | Jul-10 |  |            | 
|Interest Rate Cap                 |  |                | 1 month LIBOR |  |                |   | 24,000    |             |  |  | 5.00           | % |  |                 | Jul-11 |  |            | 
|                                  |  |                |               |  |                |   | 62,500    |             |  |  |                |   |  |                 |        |  |            | 
|                                  |  |                |               |  |                |   |           |             |  |  |                |   |  |                 |        |  |            | 
|Assets of Consolidated VIEs:      |  |                |               |  |                |   |           |             |  |  |                |   |  |                 |        |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 10,501    |             |  |  | 4.73           | % |  |                 | Dec-10 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 8,877     |             |  |  | 5.04           | % |  |                 | Oct-10 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 47,000    |             |  |  | 7.95           | % |  |                 | Jun-11 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 12,300    |             |  |  | 7.95           | % |  |                 | Jul-11 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 23,000    |             |  |  | 4.96           | % |  |                 | Jun-10 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 48,945    |             |  |  | 4.80           | % |  |                 | Mar-10 |  |            | 
|Interest Rate Cap                 |  |                | 3 month LIBOR |  |                |   | 49,620    |             |  |  | 4.92           | % |  |                 | Jun-11 |  |            | 
|                                  |  |                |               |  |                |   | 200,243   |             |  |  |                |   |  |                 |        |  |            | 
|Liabilities of Consolidated VIEs: |  |                |               |  |                |   |           |             |  |  |                |   |  |                 |        |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 4,700     |             |  |  | 3.17           | % |  |                 | Apr-08 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 10,000    |             |  |  | 3.92           | % |  |                 | Oct-08 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 17,500    |             |  |  | 3.92           | % |  |                 | Oct-08 |  |            | 
|Interest Rate Swap                |  |                | 1 month LIBOR |  |                |   | 8,722     |             |  |  | 4.26           | % |  |                 | Aug-08 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 14,650    |             |  |  | 4.43           | % |  |                 | Nov-07 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 24,143    |             |  |  | 5.11           | % |  |                 | Feb-08 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 278,651   |             |  |  | 5.41           | % |  |                 | Aug-07 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 16,412    |             |  |  | 5.20           | % |  |                 | Feb-08 |  |            | 
|Interest Rate Swap                |  |                | 3 month LIBOR |  |                |   | 699,443   |             |  |  | 5.33           | % |  |                 | Aug-07 |  |            | 
|                                  |  |                |               |  |                |   | 1,074,221 |             |  |  |                |   |  |                 |        |  |            | 
|Total                             |  |                |               |  |                | $ | 1,336,964 |             |  |  |                |   |  |                 |        |  |            | 















The Company is hedging exposure to variability
in future interest payments on its debt facilities. At June 30, 2012, derivative instruments were reported at their fair value
as a net liability of $180,412. Offsetting adjustments are represented as deferred gains in Accumulated Other Comprehensive Loss
of $5,133, which includes the amortization of gain or (loss) on terminated hedges of $100 for the three months ended June 30, 2012.
The Company anticipates recognizing approximately $395 in amortization over the next 12 months.



For the three and six months ended June
30, 2012, the Company recognized a charge of $55 and $101, respectively, attributable to any ineffective component of its
derivative instruments designated as cash flow hedges. Currently, all but two of the derivative instruments are designated
as cash flow hedging instruments. Over time, the unrealized gains and losses held in Accumulated Other Comprehensive Loss will
be reclassified into earnings in the same periods in which the hedged interest payments affect earnings.





43







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



12. Income Taxes



The Company has elected to be taxed as
a REIT, under Sections 856 through 860 of the Internal Revenue Code beginning with its taxable year ended December 31, 2004. To
qualify as a REIT, the Company must meet certain organizational and operational requirements, including a requirement to distribute
at least 90% of its ordinary taxable income to stockholders. As a REIT, the Company generally will not be subject to U.S. federal
income tax on taxable income that it distributes to its stockholders. If the Company fails to qualify as a REIT in any taxable
year, it will then be subject to U.S. federal income taxes on taxable income at regular corporate rates and will not be permitted
to qualify for treatment as a REIT for U.S. federal income tax purposes for four years following the year during which qualification
is lost unless the Internal Revenue Service grants the Company relief under certain statutory provisions. Such an event could materially
adversely affect the Company’s net income and net cash available for distribution to stockholders.



However, the Company believes that it is
organized and will operate in such a manner as to qualify for treatment as a REIT and the Company intends to operate in the foreseeable
future in such a manner so that it will qualify as a REIT for U.S. federal income tax purposes. The Company may, however, be subject
to certain state and local taxes. The Company’s TRSs are subject to U.S. federal, state and local taxes.



Beginning with the third quarter
of 2008, the Company’s board of directors elected to not pay dividend to common stockholders. The board of directors also
elected not to pay the Series A preferred stock dividend of $0.50781 per share beginning with the fourth quarter of 2008. The
unpaid preferred stock dividend has been accrued for fifteen quarters as of June 30, 2012.  In accordance with the provisions of the Company’s charter, the Company may not pay
any dividends on its common stock until all accrued dividends and the dividend for the then current quarter on the Series A preferred
stock are paid in full.



For the three and six months ended
June 30, 2012, the Company recorded $2,107 and $3,149 of income tax expense, respectively. For the three and six months ended
June 30, 2011, the Company recorded $3 and $73 of income tax expense, respectively. Tax expense for the three and six months
ended June 30, 2012 and 2011 is comprised of U.S. federal, state and local taxes primarily attributable to the TRS in which
the Company’s real estate management business is conducted.



13. Segment Reporting



The Company has determined that it has
two reportable operating segments: Finance and Realty. The reportable segments were determined based on the management approach,
which looks to the Company’s internal organizational structure. These two lines of business require different support infrastructures.



The Finance segment includes all of the
Company’s activities related to portfolio management of whole loans, bridge loans, subordinate
interests in whole loans, mezzanine loans, preferred equity, CMBS and other real estate related securities. The Finance segment
primarily generates revenues from interest income on loans, other lending investments and CMBS owned in the Company’s CDOs.



The Realty segment
includes substantially all of the Company’s activities related to asset management and investment of commercial
properties leased primarily to regulated financial institutions and affiliated users throughout the United States. The Realty
segment generates revenues from fee income related to the  asset management services agreement for the KBS Portfolio and
generates rental revenues from properties owned by the Company.





44







Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



The Company evaluates
performance based on the following financial measures for each segment:





|                                                |  | Finance |         |   | Realty |   |        | Corporate/Other(1) |  |   | Total Company |  
|----------------------------------------------- |  | ------- | ------- | - | ------ | - | ------ | ------------------ |  | - | ------------- | -
|Three months ended June 30, 2012                |  |         |         |   |        |   |        |                    |  |   |               |  
|Total revenues                                  |  | $       | 18,732  |   |        | $ | 10,136 |                    |  | $ | -             |  
|Equity in net income from joint ventures        |  |         | 29      |   |        |   | -      |                    |  |   | -             |  
|Total operating expense (2)                     |  |         | (25,163 | ) |        |   | (8,656 | )                  |  |   | (11,928       | )
|Net income (loss) from continuing operations(3) |  | $       | (6,402  | ) |        | $ | 1,480  |                    |  | $ | (11,928       | )



|                                                |  | Finance |         |   | Realty |   |        | Corporate/Other(1) |  |   | Total Company |  
|----------------------------------------------- |  | ------- | ------- | - | ------ | - | ------ | ------------------ |  | - | ------------- | -
|Three months ended June 30, 2011                |  |         |         |   |        |   |        |                    |  |   |               |  
|Total revenues                                  |  | $       | 38,199  |   |        | $ | 1,802  |                    |  | $ | -             |  
|Equity in net income from joint ventures        |  |         | 31      |   |        |   | -      |                    |  |   | -             |  
|Total operating expense (2)                     |  |         | (15,671 | ) |        |   | (3,431 | )                  |  |   | (7,182        | )
|Net income (loss) from continuing operations(3) |  | $       | 22,559  |   |        | $ | (1,629 | )                  |  | $ | (7,182        | )



|                                                |  | Finance |         |   | Realty |   |         | Corporate/Other(1) |  |   | Total Company |  
|----------------------------------------------- |  | ------- | ------- | - | ------ | - | ------- | ------------------ |  | - | ------------- | -
|Six months ended June 30, 2012                  |  |         |         |   |        |   |         |                    |  |   |               |  
|Total revenues                                  |  | $       | 40,459  |   |        | $ | 18,997  |                    |  | $ | -             |  
|Equity in net income from joint ventures        |  |         | 57      |   |        |   | -       |                    |  |   | -             |  
|Total operating expense (2)                     |  |         | (52,994 | ) |        |   | (16,477 | )                  |  |   | (18,629       | )
|Net income (loss) from continuing operations(3) |  | $       | (12,478 | ) |        | $ | 2,520   |                    |  | $ | (18,629       | )



|                                                |  | Finance |           |   | Realty |   |        | Corporate/Other(1) |  |   | Total Company |  
|----------------------------------------------- |  | ------- | --------- | - | ------ | - | ------ | ------------------ |  | - | ------------- | -
|Six months ended June 30, 2011                  |  |         |           |   |        |   |        |                    |  |   |               |  
|Total revenues                                  |  | $       | 61,943    |   |        | $ | 3,704  |                    |  | $ | -             |  
|Equity in net income from joint ventures        |  |         | 61        |   |        |   | -      |                    |  |   | -             |  
|Total operating expense (2)                     |  |         | (31,823   | ) |        |   | (7,410 | )                  |  |   | (13,533       | )
|Net income (loss) from continuing operations(3) |  | $       | 30,181    |   |        | $ | (3,706 | )                  |  | $ | (13,533       | )
|                                                |  |         |           |   |        |   |        |                    |  |   |               |  
|Total Assets:                                   |  |         |           |   |        |   |        |                    |  |   |               |  
|June 30, 2012                                   |  | $       | 3,017,742 |   |        | $ | 37,806 |                    |  | $ | (832,538      | )
|December 31, 2011                               |  | $       | 3,117,008 |   |        | $ | 40,040 |                    |  | $ | (898,718      | )











|(1) | Corporate / Other represents all corporate level items,
        including general and administrative expenses and any intercompany elimination necessary to reconcile to the consolidated Company
        totals.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------





|(2) | Total operating expense includes provision for loan losses for the Finance business and operating costs on commercial property assets for the Realty business, and loss on early extinguishment of debt, specifically related to each segment. General and administrative expense is included in Corporate/Other for all periods. Depreciation and amortization of $312 and $608 and $292 and $607 for the three and six months ended June 30, 2012 and 2011, respectively, is included in the amounts presented above.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Net income (loss) represents income before provision for taxes, minority interest and discontinued operations.
|--- | --------------------------------------------------------------------------------------------------------------



45









Gramercy Capital Corp.

Notes to Condensed Consolidated Financial
Statements

(Unaudited, dollar amounts in thousands,
except per share data)

June 30, 2012



14. Supplemental Disclosure of Non-Cash Investing and Financing
Activities



The following table represents non-cash
activities recognized in other comprehensive income for the six months ended June 30, 2012 and 2011:





|                                                                   |  | 2012 |         |   | 2011 |  
|------------------------------------------------------------------ |  | ---- | ------- | - | ---- | -
|Deferred losses and other non-cash activity related to derivatives |  | $    | (5,133  | ) |      | $
|                                                                   |  |      |         |   |      |  
|Change in unrealized gain (loss) on CMBS investments               |  | $    | 112,478 |   |      | $





15. Subsequent Events



In July 2012, the Company completed the
foreclosure of the collateral consisting of approximately 280 acres of land located in San Jose, California primarily intended
for commercial development, which secured a first mortgage loan. As of June 30, 2012, the first mortgage loan was classified as
sub-performing and had an original unpaid principal balance of $70,394 and a carrying value net of loan loss reserves of $15,027.





In connection with the hiring of Gordon
F. DuGan, Benjamin Harris, and Nicholas L. Pell, who joined the Company on July 1, 2012 as Chief Executive Officer, President and
Managing Director, respectively, the Company has granted equity awards to these new executives pursuant to a newly adopted outperformance
plan, or the 2012 Outperformance Plan.   Pursuant to the 2012 Outperformance Plan, these executives, in the aggregate,
may earn up to $20,000 of LTIP Units based on the Company’s common stock price appreciation over a four-year performance
period ending June 30, 2016. The amount of LTIP Units earned under the 2012 Outperformance Plan will range from $4,000 if the Company’s
common stock price equals a minimum hurdle of $5.00 per share (less any dividends paid during the performance period) to $20,000
if the Company’s common stock price equals or exceeds $9.00 per share (less any dividends paid during the performance period)
at the end of the performance period. The executives will not earn any LTIP Units under the 2012 Outperformance Plan to the extent
that the Company’s common stock price is less than the minimum hurdle.



Messrs. DuGan, Harris and Pell were granted
awards under the 2012 Outperformance Plan pursuant to which they may earn up to $10,000, $6,000 and $4,000 of LTIP Units, respectively.



During the performance period, the executives
may earn up to 12%, 24% and 36% of the maximum amount under the 2012 Outperformance Plan at the end of the first, second and third
years, respectively, of the performance period if the Company’s common stock price has equaled or exceeded the stock price
hurdles as of the end of such years. If the minimum stock price hurdle is met as of the end of any such year, the actual amount
earned will range on a sliding scale from 20% of the maximum amount that may be earned as of such date (at the minimum stock price
hurdle) to 100% of the maximum amount that may be earned as of such date (at the maximum stock price hurdle). Any LTIP Units earned
under the 2012 Outperformance Plan will remain subject to vesting, with 50% of any LTIP Units earned vesting on June 30, 2016 and
the remaining 50% vesting on June 30, 2017 based, in each case, on continued employment through the vesting date.



Upon the occurrence of a Change-in-Control
at any time prior to the end of the performance period, the performance period will be shortened to end on the date of such Change-in-Control,
performance will be measured based on the common stock price as of the Change-in-Control and all LTIP Units that are earned will
vest as of such date. In the event of a Change-in-Control after the end of the performance period, all LTIP Units that had been
previously earned will vest as of such date. If an executive’s employment is terminated by the Company without Cause, by
the executive for Good Reason or upon death or disability prior to the end of the performance period, then for such executive performance
will be measured as of the date of such termination and a prorated portion of the LTIP Units earned, if any, will vest based on
the portion of the full five-year vesting period that such executive remained employed, plus 12 months, as a percentage of the
full five-year vesting period. If an executive’s employment is terminated upon such circumstances after the end of the performance
period, all of such executive’s unvested LTIP Units that had been previously earned will vest as of the date of such executive’s
termination.



In connection with the equity awards made
to Messrs. DuGan, Harris and Pell in connection with the Company’s hiring of these executives, the Company adopted the 2012
Inducement Equity Incentive Plan, or the Inducement Plan. Under the Inducement Plan, the Company may grant equity awards for up
to 4,500,000 shares of common stock pursuant to the employment inducement award exemption provided by the New York Stock Exchange
Listed Company Manual. The Inducement Plan permits the Company to issue a variety of equity awards, including stock options, restricted
stock, phantom shares, dividend equivalent rights and other equity-based awards. All of the shares available under the Inducement
Plan were issued or reserved for issuance to Messrs. DuGan, Harris and Pell in connection with the equity awards made upon the
commencement of their employment with the Company.





46









ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Dollar amounts in thousands, except for per share data and Overview section)



Overview



Gramercy Capital Corp. is a
self-managed, integrated commercial real estate investment and asset management company. We were formed in April 2004 and
commenced operations upon the completion of our initial public offering in August 2004. In June 2012, following a strategic
review process completed by a special committee of the Board of Directors, we announced we will remain independent and will
now focus on deploying our capital into income-producing net leased real estate. Our new investment criteria will focus on
single tenant net lease investments with durable credits across a variety of industries in markets across the United States.
New investments initially will be funded from existing financial resources. Subsequently, subject to market conditions, we
expect to seek to raise additional debt and/or equity capital to support further growth. Our legacy commercial real estate
finance business, which operates under the name Gramercy Finance, manages approximately $2.0 billion of whole loans, bridge
loans, subordinate interests in whole loans, mezzanine loans, preferred equity, commercial mortgage-backed securities, or
CMBS, and other real estate related securities which are financed through three non-recourse, collateralized debt obligations,
or CDOs. Our legacy property management and investment business, which operates under the name Gramercy Realty,
currently manages approximately $2.0 billion of commercial properties leased primarily to regulated financial institutions
and affiliated users throughout the United States. We, along with our Board of Directors, are currently conducting an
operational review of our existing assets and operations with the goal of reducing the current cost structure, further
strengthening the balance sheet and determining which legacy assets and operations complement the new investment strategy.
Neither Gramercy Finance nor Gramercy Realty is a separate legal entity, but are divisions through which our commercial real
estate finance and property management and investment businesses are conducted.



We have elected to be taxed as a real estate
investment trust, or REIT, under the Internal Revenue Code of 1986, as amended, or the Internal Revenue Code, and generally will
not be subject to U.S. federal income taxes to the extent we distribute our taxable income, if any, to our stockholders. We have
in the past established, and may in the future establish taxable REIT subsidiaries, or TRSs, to effect various taxable transactions.
Those TRSs would incur U.S. federal, state and local taxes on the taxable income from their activities.



We conduct substantially all of our operations
through our operating partnership, GKK Capital LP, or our Operating Partnership. We are the sole general partner of our Operating
Partnership. Our Operating Partnership conducts our finance business primarily through two private REITs, Gramercy Investment Trust
and Gramercy Investment Trust II; our commercial real estate investment business through various wholly-owned entities; and our
realty management business through a wholly-owned TRS.



Unless the context requires otherwise,
all references to “Gramercy,” “our Company,” “we,” “our” and “us” mean
Gramercy Capital Corp., a Maryland corporation, and one or more of its subsidiaries, including our Operating Partnership.



Gramercy Finance



The aggregate carrying values, allocated
by product type and weighted average coupons of Gramercy Finance’s loans, and other lending investments and CMBS investments
as of June 30, 2012 and December 31, 2011, were as follows (dollars in thousands):





47









|                                                        |  | Carrying
    Value (1) |           |  | Allocation
    by 
Investment Type |   |           | Fixed
    Rate Average Yield |  |  | Floating
    Rate Average Spread over LIBOR (2) |  
|------------------------------------------------------- |  | ---------------------- | --------- |  | ---------------------------------- | - | --------- | ---------------------------- |  |  | ----------------------------------------------- | -
|                                                        |  | 2012                   |           |  | 2011                               |   |           | 2012                         |  |  | 2011                                            |  
|Whole loans, floating
    rate                          |  | $                      | 607,597   |  |                                    | $ | 689,685   |                              |  |  | 62.3                                            | %
|Whole loans, fixed rate                                 |  |                        | 202,542   |  |                                    |   | 202,209   |                              |  |  | 20.8                                            | %
|Subordinate interests in whole
    loans, floating rate |  |                        | 3,710     |  |                                    |   | 25,352    |                              |  |  | 0.4                                             | %
|Subordinate interests in whole
    loans, fixed rate    |  |                        | 91,209    |  |                                    |   | 89,914    |                              |  |  | 9.4                                             | %
|Mezzanine loans, floating
    rate                      |  |                        | 45,446    |  |                                    |   | 46,002    |                              |  |  | 4.7                                             | %
|Mezzanine loans, fixed rate                             |  |                        | 23,659    |  |                                    |   | 23,847    |                              |  |  | 2.4                                             | %
|Preferred equity, floating
    rate                     |  |                        | 250       |  |                                    |   | 3,615     |                              |  |  | 0.0                                             | %
|Preferred
    equity, fixed rate                        |  |                        | -         |  |                                    |   | 1,295     |                              |  |  | 0.0                                             | %
|Subtotal/
    Weighted average                          |  |                        | 974,413   |  |                                    |   | 1,081,919 |                              |  |  | 100.0                                           | %
|CMBS, floating rate                                     |  |                        | 48,313    |  |                                    |   | 47,855    |                              |  |  | 5.7                                             | %
|CMBS,
    fixed rate                                    |  |                        | 803,623   |  |                                    |   | 727,957   |                              |  |  | 94.3                                            | %
|Subtotal/
    Weighted average                          |  |                        | 851,936   |  |                                    |   | 775,812   |                              |  |  | 100.0                                           | %
|Total                                                   |  | $                      | 1,826,349 |  |                                    | $ | 1,857,731 |                              |  |  | 100.0                                           | %





| | (1) | Loans and other lending investments  are presented net of unamortized fees, discounts, reserves for loan losses, impairments and other adjustments.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | Spreads over an index other than 30 day-LIBOR have been adjusted to a LIBOR based equivalent. In some cases, LIBOR is floored, giving rise to higher current effective spreads.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Our loans and other investments serve as
collateral for our CDO securities, and the income generated from these investments is used to fund interest obligations of our
CDO securities and the remaining income, if any, is retained by us, provided that minimum interest coverage and asset overcollateralization
covenants as specified in the CDO indentures are satisfied. We are not obligated to provide any financial support to these CDOs.
We provide certain advisory and administrative services to our CDOs, pursuant to collateral management agreements. The collateral
management agreements provide for a senior collateral management fee and a subordinate collateral management fee payable quarterly.



If some or all of our CDOs fail the minimum
interest coverage and asset overcollateralization covenants, all cash flows from the applicable CDO other than senior collateral
management fees would be diverted to repay principal and interest on the most senior outstanding CDO securities, and we may not
receive some or all residual payments or the subordinate collateral management fee until the applicable CDO regained compliance
with such tests.



The period during
which we are permitted to reinvest principal payments on the underlying assets into qualifying replacement collateral for our 2005
CDO and 2006 CDO expired in July 2010 and July 2011, respectively, and will expire for our 2007 CDO in August 2012. In the past,
our ability to reinvest has been instrumental in maintaining compliance with the overcollateralization and interest coverage tests
for our CDOs. Following the conclusion of each CDO’s reinvestment period, our ability to maintain compliance with such tests
for that CDO will be negatively impacted.



As of June 30, 2012,
Gramercy Finance also held interests in one credit tenant net lease investment, or CTL investment, and six interests in real estate
acquired through foreclosures.



Gramercy Realty





Summarized in the table below are key property
portfolio statistics for Gramercy Realty’s owned portfolio as of June 30, 2012 and December 31, 2011:





|                 |  | Number of Properties |    |  | Rentable Square Feet |  |    | Occupancy      | 
|---------------- |  | -------------------- | -- |  | -------------------- |  | -- | -------------- | 
|Properties       |  | June 30, 
2012       |    |  | December 31,
 2011   |  |    | June 30, 
2012 | 
|Branches         |  |                      | 31 |  |                      |  | 41 |                | 
|Office Buildings |  |                      | 13 |  |                      |  | 15 |                | 
|Total            |  |                      | 44 |  |                      |  | 56 |                | 







48









In addition to its owned portfolio,
Gramercy Realty also manages approximately $2.0 billion of real estate assets that were transferred to affiliates of KBS Real
Estate Investment Trust, Inc., or KBS, pursuant to a collateral transfer and settlement agreement, or the Settlement
Agreement, executed in September 2011. The portfolio of transferred properties, or the KBS Portfolio, is comprised of 524
bank branches, 278 office buildings and one land parcel, totaling approximately 20.5 million rentable square feet.



In September 2011, we entered into an asset
management arrangement upon the terms and conditions set forth in the Settlement Agreement, or the Interim Management Agreement,
to provide for our continued management of the KBS Portfolio through December 31, 2013 for a fixed fee of $10.0 million annually,
the reimbursement of certain costs and incentive fees equal to 10.0% of the excess of the equity value, if any, of the transferred
collateral over $375.0 million plus all new capital invested into the transferred collateral by KBS, its affiliates and/or joint
venture partners, or the Threshold Value Participation, and 12.5% of the excess equity value, if any, of the transferred collateral
over $468.5 million plus all new capital invested into the transferred collateral by KBS, its affiliates and/or joint venture partners,
or the Excess Value Participation. The minimum amount of the Threshold Value Participation equals $3.5 million. The Settlement
Agreement obligated the parties to negotiate in good faith to replace the Interim Management Agreement with a more complete and
definitive management services agreement on or before March 31, 2012 and provided that if the parties failed to complete a definitive
agreement, the Interim Management Agreement would have terminated by its terms on June 30, 2012.



On March 30, 2012, we entered into an Asset
Management Services Agreement, or the Management Agreement, with KBS Acquisition Sub, LLC, or KBSAS, a wholly-owned subsidiary
of KBS, pursuant to which we will provide asset management services to KBSAS with
respect to the KBS Portfolio. The Management Agreement provides for our continued management of the KBS Portfolio, through December
31, 2015 for (i) a base management fee of $12.0 million per year, payable monthly, plus the reimbursement of all property related
expenses paid by us on behalf of KBSAS, subject to deferral of $167 thousand per month at KBSAS’s option until the accrued
amount equals $2.5 million or June 30, 2013, whichever is earlier, and (ii) an incentive fee, or the Threshold Value Profits Participation,
in an amount equal to the greater of: (a) $3.5 million or (b) 10% of the amount, if any, by which the portfolio equity value exceeds
$375.0 million (as adjusted for future cash contributions into, and distributions out of, KBSAS by KBS). In any event, the
Threshold Value Profits Participation is capped at a maximum of $12.0 million. The Threshold Value Profits Participation is payable
60 days after the earlier to occur of June 30, 2014 (or March 31, 2015 upon satisfaction of certain extension conditions, including
the payment by KBSAS to us of a $750 thousand extension fee) and the date on which KBSAS, directly or indirectly, sells, conveys
or otherwise transfers at least 90% of the KBS Portfolio (by value).



The Management Agreement may be terminated
by us, (i) without any KBSAS default under the Management Agreement, on or after December 31, 2012, upon 90 days’ prior written
notice or (ii) at any time by five business days’ prior written notice in the event of a KBSAS default under the Management
Agreement. The Management Agreement may be terminated by KBSAS, (i) without Cause (as defined in the Management Agreement), with
an effective termination date of March 31 or September 30 of any year but at no time prior to April 1, 2013, upon 90 days’
prior written notice or (ii) at any time after April 1, 2013 for Cause. In the event of a termination of the Management Agreement
by KBSAS after April 1, 2013 but prior to December 31, 2015, we will be entitled to receive a declining balance termination fee,
ranging from $5.0 million to $2.0 million, calculated as specified in the Management Agreement.



Liquidity



Liquidity is a measurement of the ability
to meet cash requirements, including ongoing commitments to repay borrowings, fund and maintain loans and other investments, pay
dividends and other general business needs. In addition to cash on hand, our primary sources of funds for short-term (within the
next 12 months) liquidity requirements, including working capital, distributions, if any, debt service and additional investments,
consists of (i) cash flow from operations; (ii) proceeds and management fees from our existing CDOs; (iii) proceeds from
principal and interest payments and rents on our investments; (iv) proceeds from potential loan and asset sales; (v) proceeds from
the Management Agreement for the KBS Portfolio; and, to a lesser extent: (vi) new financings and (vii) proceeds from additional
common or preferred equity offerings. We believe these sources of financing will be sufficient to meet our short-term liquidity
requirements. In June 2012, following a strategic review process completed by a special committee of the Board of Directors, we announced we will remain independent and will now focus on deploying our capital into income-producing net leased real estate. Our new investment criteria will focus on single tenant net lease investments with durable credits across a variety of industries in markets across the United States. New investments initially will be funded from existing financial resources. Subsequently, subject to market conditions, we expect to seek to raise additional debt and/or equity capital to support further growth. In the event we are not able to successfully secure financing, we will rely primarily on cash on hand, cash flows
from operations, principal, interest and lease payments on our investments, management fees and proceeds from asset and loan sales
to satisfy our liquidity requirements. If we (i) are unable to renew, replace or expand our sources of financing, (ii) are unable
to execute asset and loan sales in a timely manner or to receive anticipated proceeds from them or (iii) fully utilize available
cash, it may have an adverse effect on our business, results of operations, and ability to make distributions to our stockholders.



Substantially all of our loan
and other investments and CMBS are pledged as collateral for our CDO bonds and the income generated from these investments
is used to fund interest obligations of our CDO bonds and the remaining income, if any, is retained by us. Our CDO bonds
contain minimum interest coverage and asset overcollateralization covenants that must be met in order for us to receive cash
flow on the interests retained by us in the CDOs and to receive the subordinate collateral management fee earned. If we fail
these covenants in some or all of the CDOs, all cash flows from the applicable CDO, other than senior collateral management
fees, would be diverted to repay principal and interest on the most senior outstanding CDO bonds and we may not receive some
or all residual payments or the subordinate collateral management fee until that CDO regained compliance with such tests. As
of July 2012, the most recent distribution date, our 2006 CDO was in compliance with interest coverage and
asset overcollateralization covenants, however the compliance margins were narrow and very small declines in collateral
performance and credit metrics from one or more assets could cause the CDO to fall out of compliance. Our 2005 CDO failed
its overcollateralization test at the July 2012 distribution date and previously failed its overcollateralization tests at
the October 2011, April 2011 and January 2011 distribution dates. Our 2007 CDO failed its overcollateralization
test beginning with the November 2009 distribution date and it is unlikely that the 2007 CDO’s overcollateralization
test will be satisfied in the foreseeable future. We cannot be certain that the CDO tests will continue to be satisfied and
that we will continue to receive cash flows relating to our CDOs in the  future, and believe that we  will likely fail
the overcollaterization test for the 2005 CDO and the 2006 CDO at the October 2012 distribution date. If the cash flow from
our 2005 CDO and our 2006 CDO is redirected, our business, financial condition, and results of operations would be materially
and adversely affected.





49







The chart below is a summary of our CDO
compliance tests as of the most recent distribution dates (July 25, 2012 for our 2005 CDO and our 2006 CDO and May 19, 2012 for
our 2007 CDO):





|Cash Flow Triggers        |  | CDO 2005-1 |        |   | CDO 2006-1 |  |        | CDO 2007-1 | 
|------------------------- |  | ---------- | ------ | - | ---------- |  | ------ | ---------- | 
|Overcollateralization (1) |  |            |        |   |            |  |        |            | 
|Current                   |  |            | 109.02 | % |            |  | 105.25 | %          | 
|Limit                     |  |            | 117.85 | % |            |  | 105.15 | %          | 
|Compliance margin         |  |            | -8.83  | % |            |  | 0.10   | %          | 
|Pass/Fail                 |  |            | Fail   |   |            |  | Pass   |            | 
|Interest Coverage (2)     |  |            |        |   |            |  |        |            | 
|Current                   |  |            | 332.82 | % |            |  | 627.79 | %          | 
|Limit                     |  |            | 132.85 | % |            |  | 105.15 | %          | 
|Compliance margin         |  |            | 199.97 | % |            |  | 522.64 | %          | 
|Pass/Fail                 |  |            | Pass   |   |            |  | Pass   |            | 





| | (1) | The overcollateralization ratio divides the total principal balance of all collateral in the CDO by the total bonds outstanding for the classes senior to those retained by us. To the extent an asset is considered a defaulted security, the asset’s principal balance is multiplied by the asset’s recovery rate which is determined by the rating agencies. For a defaulted security with a CUSIP that is actively traded, the lower of market value or the product of the security’s principal balance multiplied by the asset’s recovery rate, as determined by the rating agencies, is used for the overcollateralization ratio.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (2) | The interest coverage ratio divides interest income by interest expense for the classes senior to those retained by us.
| | --- | -----------------------------------------------------------------------------------------------------------------------



In the event of a breach of our
CDO covenants that we could not cure in the near term, we would be required to fund our non-CDO expenses, with (i) cash on
hand, (ii) cash distributions from any CDO not in default, if any, (iii) proceeds from the Management Agreement for the
KBS Portfolio, or (iv) income from our real property and unencumbered loan assets, (v) sale of assets, or (vi)  accessing the
equity or debt capital markets, if available.



The following discussion related to our
Condensed Consolidated Financial Statements should be read in conjunction with our Condensed Consolidated Financial Statements
appearing in Item 1 of this Quarterly Report on Form 10-Q.



Critical Accounting Policies



Our discussion and analysis of financial
condition and results of operations is based on our financial statements, which have been prepared in accordance with accounting
principles generally accepted in the United States, known as GAAP. These accounting principles require us to make some complex
and subjective decisions and assessments. Our most critical accounting policies involve decisions and assessments, which could
significantly affect our reported assets, liabilities and contingencies, as well as our reported revenues and expenses. We believe
that all of the decisions and assessments upon which our financial statements are based were reasonable at the time and made based
upon information available to us at that time. We evaluate these decisions and assessments on an ongoing basis. Actual results
may differ from these estimates under different assumptions or conditions.



Refer to our 2011 Annual Report on Form
10-K for a discussion of our critical accounting policies, which include variable interest entities, or VIEs, real estate and CTL
investments, leasehold interests, investments in joint ventures, assets held-for-sale, commercial mortgage-backed securities, tenant
and other receivables, intangible assets, deferred costs, revenue recognition, reserve for loan losses, rent expense, stock-based
compensation plans, derivative instruments and income taxes. There have been no changes to these policies in 2012.



50









Results of Operations



Comparison of the three months ended June 30, 2012 to
the three months ended June 30, 2011



Revenues





|                                        |  | 2012 |        |  | 2011 |   |        | Change | 
|--------------------------------------- |  | ---- | ------ |  | ---- | - | ------ | ------ | 
|Interest income                         |  | $    | 36,225 |  |      | $ | 39,748 |        | 
|Less:  Interest expense                 |  |      | 20,184 |  |      |   | 20,323 |        | 
|Net interest income                     |  |      | 16,041 |  |      |   | 19,425 |        | 
|Management fees                         |  |      | 9,616  |  |      |   | -      |        | 
|Rental revenue                          |  |      | 1,360  |  |      |   | 1,349  |        | 
|Operating expense reimbursements        |  |      | 353    |  |      |   | 326    |        | 
|Other income                            |  |      | 1,498  |  |      |   | 18,901 |        | 
|Total revenue                           |  | $    | 28,868 |  |      | $ | 40,001 |        | 
|Equity in net income from joint venture |  | $    | 29     |  |      | $ | 31     |        | 
|Gain on extinquishment of debt          |  | $    | -      |  |      | $ | 10,870 |        | 





Interest income is generated on our
whole loans, subordinate interests in whole loans, mezzanine loans, preferred equity interests and CMBS. For the three months ended
June 30, 2012 and 2011, $26,228 and $26,129, respectively, were earned on fixed rate investments, while the remaining $9,997 and
$13,619, respectively, were earned on floating rate investments. The decrease of $3,523 over the prior period is primarily due
to a $6,476 decrease in interest income resulting from maturing loan investments and principal amortization, a $1,468 decrease
due to the suspensions and reversals of interest income accruals and a $1,576 decrease due to the payoff or sale of CMBS investments.
These decreases were partially offset by an increase of $6,251 in interest income from new CMBS and lending investments, and a
$219 increase due to interest rate modifications on loans or changes in rates since June 2011.



Interest expense was $20,184 for the three
months ended June 30, 2012 compared to $20,323 for the three months ended June 20, 2011. The decrease of $139 is primarily attributable
to changes in LIBOR.



Management fees for the three months ended
June 30, 2012 are $9,616. Management fees are comprised of property management, asset management and administration fees paid pursuant
to the Management Agreement.



Rental revenue for the three months ended
June 30, 2012 and 2011 of $1,360 and $1,349, respectively. The increase in rental revenue of $11 is primarily due to renewals and new leases on non-bank tenants.



Operating expense reimbursement was
$353 for the three months ended June 30, 2012 and $326 for the three  months ended June 30, 2011, an increase of $27. The
increase is mainly due to increased direct billable operating expenses of $32.



Other income of $1,498 for the three
months ended June 30, 2012 is primarily comprised of $1,230 of operating revenues from properties which we foreclosed or acquired
a controlling interest. Other income of $18,901 for the three months ended June 30, 2011 is primarily composed of gains on
the sale of CMBS investments totaling $17,389, revenues from properties we foreclosed on or acquired a controlling interest in
since July 2010 of $1,053 and $83 of interest on restricted cash balances and other cash balances held by us.



The equity in net income of joint venture
of $29 for the three months ended June 30, 2012 represents our proportionate share of the income generated by our joint venture
interests including $67 of real estate-related depreciation and amortization, which when added back, results in a contribution
to Funds from Operations, or FFO, of $96. The equity in net income of joint venture of $31 for the three months ended June 30,
2011 represents our proportionate share of income generated by our joint venture interests including $67 of real estate-related
depreciation and amortization. There is also $737 net loss of joint venture classified as discontinued operations, including $1,029
of real estate-related depreciation and amortization. When depreciation and amortization are added back, it results in a contribution
to FFO of $390 for the three months ended June 30, 2011. Our use of FFO as an important non-GAAP financial measure is discussed
in more detail below.



During the three months
ended June 30, 2012, there were no repurchases of notes issued by our three CDOs. During the three months ended June 30, 2011,
we repurchased, at a discount $37,859 notes issued by our three CDOs, generating net gains on early extinguishment of debt of $10,870.





51









Expenses





|                                       |  | 2012 |        | 2011 |   | Change
|-------------------------------------- |  | ---- | ------ | ---- | - | ------
|Property operating expenses            |  | $    | 9,405  |      | $ | 4,858 
|Net impairment recognized in earnings  |  |      | 16,006 |      |   | 6,037 
|Depreciation and amortization          |  |      | 312    |      |   | 292   
|Management, general and administrative |  |      | 11,928 |      |   | 7,181 
|Provision for loan loss                |  |      | 5,989  |      |   | 18,783
|Provision for taxes                    |  |      | 2,107  |      |   | 3     
|Total expenses                         |  | $    | 45,747 |      | $ | 37,154







Property operating expenses for the three
months ended June 30, 2012 is primarily comprised of expenses incurred on our portfolio of properties owned by our Gramercy Realty
division and the management of the KBS Portfolio. These expenses increased $4,547 from the $4,858 recorded in the three months
ended June 30, 2011. The increase is primarily due to $4,640 of property management fees and reimbursable costs related to our
asset management of properties pursuant to the Management Agreement with KBS.



During the three months ended June
30, 2012, we recorded an other-than-temporary impairment charge of $15,006 due to adverse changes in expected cash flows
related to credit losses for seven CMBS investments and an impairment of $1,000 on one loan held-for-sale. During the three
months ended June 30, 2011, we recorded an other-than-temporary impairment charge of $6,037 on one CMBS investment.



We recorded depreciation and amortization
expenses of $312 for the three months ended June 30, 2012, compared to $292 for the three months ended June 30, 2011, resulting
in a $20 increase primarily due to the depreciation of new assets.



Management, general and
administrative expenses were $11,928 for the three months ended June 30, 2012, compared to $7,181 for the same period in
2011. The increase of $4,747 is primarily attributable to the write-off of costs of $2,317 related to our strategic review
process, protective advances related to loan and other lending investments within our CDOs of $766,
additional legal fees and enforcement costs related to our loans and other lending investments within our CDOs of
$752, increase in restricted stock costs of $602 and $285 of legal fees related to settled litigation.



Provision for loan loss was $5,989
for the three months ended June 30, 2012, compared to $18,783 for the three months ended June 30, 2011. The provision was
based upon periodic credit reviews of our loan portfolio.



Provision for taxes was $2,107 for the
three months ended June 30, 2012, compared to $3 for the three months ended June 30, 2011. The increase of $2,104 is related to
tax expense on our asset management business which is conducted through a wholly-owned TRS.



Comparison of the six months ended June 30, 2012 to the
six months ended June 30, 2011





Revenues







|                                        |  | 2012 |        |  | 2011 |   |        | Change | 
|--------------------------------------- |  | ---- | ------ |  | ---- | - | ------ | ------ | 
|Interest income                         |  | $    | 74,795 |  |      | $ | 80,259 |        | 
|Less:  Interest expense                 |  |      | 40,563 |  |      |   | 40,612 |        | 
|Net interest income                     |  |      | 34,232 |  |      |   | 39,647 |        | 
|Management fees                         |  |      | 17,929 |  |      |   | -      |        | 
|Rental revenue                          |  |      | 2,679  |  |      |   | 2,735  |        | 
|Operating expense reimbursements        |  |      | 725    |  |      |   | 713    |        | 
|Other income                            |  |      | 3,891  |  |      |   | 22,552 |        | 
|Total revenue                           |  | $    | 59,456 |  |      | $ | 65,647 |        | 
|Equity in net income from joint venture |  | $    | 57     |  |      | $ | 61     |        | 
|Gain on extinquishment of debt          |  | $    | -      |  |      | $ | 14,526 |        | 





Interest income is generated on our whole
loans, subordinate interests in whole loans, mezzanine loans, preferred equity interests and CMBS. For the six months ended June
30, 2012 and 2011, $53,456 and $51,542, respectively, were earned on fixed rate investments while the remaining $21,339 and $28,717,
respectively, were earned on floating rate investments. The decrease of $5,464 over the prior period is primarily due to a $13,081
decrease in interest income resulting from maturing loan investments, a $3,132 decrease due to the suspensions and reversals of
interest income accruals, a $2,571 decrease due to the payoff or sale of CMBS investments, and a $125 decrease due to interest
rate modifications on loans or changes in rates. These decreases were partially offset by an increase of $14,334 in interest income
from new CMBS and lending investments since June 2011.





52







Interest expense was
$40,563 for the six months ended June 30, 2012 compared to $40,612 for the six months ended June 30, 2011. The decrease of
$49 is primarily attributable to changes in LIBOR.



Management fees for the six months ended
June 30, 2012 are $17,929. Management fees are comprised of property management, asset management and administration fees paid
pursuant to the Management Agreement.



Rental revenue for the six months ended
June 30, 2012 and 2011 were $2,679 and $2,735, respectively. The decrease of $56 is primarily due to non-renewals and terminations
of non-bank tenants.



Operating expense reimbursement of $725
for the six months ended June 30, 2012 and $713 for the six months ended June 30, 2011, an increase of $12. The increase in operating
expense reimbursement is a result of the increase in property operating expenses.



Other income of $3,891 for the six months
ended June 30, 2012 is primarily comprised of $3,068 of operating revenues from properties which we foreclosed or acquired a controlling
interest, special servicing income of $315, and $402 of interest on restricted cash balances and other cash balances held by us.
Other income of $22,552 for the six months ended June 30, 2011 is primarily composed of gains on the sale of CMBS investments totaling
$18,630, revenues from properties we foreclosed on or acquired a controlling interest in of $2,856, special servicing income of
$371, and $563 of interest on restricted cash balances and other cash balances held by us.



The equity in net income of
joint venture of $57 for the six months ended June 30, 2012 represents our proportionate share of the income generated by
our joint venture interests including $134 of real estate-related depreciation and amortization, which when added back, results
in a contribution to FFO of $191. The equity in net income of joint venture of $61 for the six months
ended June 30, 2011 represents our proportionate share of income generated by our joint venture interests including $134 of real
estate-related depreciation and amortization. There is also $1,454 net loss of joint venture classified as discontinued operations,
including $2,058 of real estate-related depreciation and amortization. When depreciation and amortization are added back, it results
in a contribution to FFO of $799 for the six months ended June 30, 2011. Our use of FFO as an important non-GAAP financial measure
is discussed in more detail below.



During the six months ended June
30, 2011, we repurchased at a discount $48,259 of notes issued by our three CDOs, generating net gains on early extinguishment
of debt of $14,526.   During the six months ended June 30, 2012, we did not repurchase any notes issued by our three CDOs.



Expenses





|                                                       |  | 2012 |        |  | 2011 |   |        | Change | 
|------------------------------------------------------ |  | ---- | ------ |  | ---- | - | ------ | ------ | 
|Property operating expenses                            |  | $    | 19,836 |  |      | $ | 10,759 |        | 
|Other-than-temporary impairment recognized in earnings |  |      | 37,074 |  |      |   | 6,037  |        | 
|Depreciation and amortization                          |  |      | 608    |  |      |   | 607    |        | 
|Management, general and administrative                 |  |      | 18,629 |  |      |   | 13,533 |        | 
|Provision for loan loss                                |  |      | 8,534  |  |      |   | 36,283 |        | 
|Provision for taxes                                    |  |      | 3,419  |  |      |   | 73     |        | 
|Total expenses                                         |  | $    | 88,100 |  |      | $ | 67,292 |        | 





Property operating expenses for the six
months ended June 30, 2012 is primarily comprised of expenses incurred on our portfolio of properties owned by our Gramercy Realty
division and the management of the KBS Portfolio. These expenses were $19,836 and $10,759 for the six months ended June 30, 2012
and 2011, respectively, and increased $9,077. The increase is primarily due to $8,872 of property management fees and reimbursable
costs related to our asset management of properties pursuant to the Management Agreement with KBS, and $413 increase in professional
fees at Whiteface Lodge due to change of property management and registration costs.



During the six months ended June 30,
2012, we recorded an other-than-temporary impairment charge of $36,074 due to adverse changes in expected cash flows related
to credit losses for 13 CMBS investments and an impairment of $1,000 on one loan held-for-sale. During the six months ended
June 30, 2011, we recorded an other-than-temporary impairment charge of $6,037 on one CMBS investment.



We recorded depreciation and amortization
expenses of $608 for the six months ended June 30, 2012 and $607 for the six months ended June 30, 2011, resulting in an increase
of $1.



Management, general
and administrative expenses were $18,629 for the six months ended June 30, 2012, compared to $13,533 for the same period in
2011. The increase of $5,096 is primarily attributable to the write-off of costs of $2,317 related to our strategic review
process, protective advances related to loan and other lending investments within our CDO’s of $766, increase
in salaries and wages of $727, additional legal fees and enforcement costs related to our loans and other lending
investments within our CDO’s of $438, increase in restricted stock costs of $703 and $285 of legal fees related to
settled litigation.



Provision for loan loss was
$8,534 for the six months ended June 30, 2012, compared to $36,283 for the six months ended June 30, 2011. The provision
was based upon periodic credit reviews of our loan portfolio.





53







Provision for taxes was $3,419 for the
six months ended June 30, 2012, compared to $73 for the six months ended June 30, 2011. The increase of $3,346 is related to tax
expense on our  asset management business which is conducted through a wholly-owned TRS.



Liquidity and Capital Resources



Liquidity is a measurement of the
ability to meet cash requirements, including ongoing commitments to repay borrowings, fund and maintain loans and other
investments, pay dividends and other general business needs. In addition to cash on hand, our primary sources of funds for
short-term (within the next 12 months) liquidity requirements, including working capital, distributions, if any, debt service
and additional investments, consist of: (i) cash flow from operations; (ii) proceeds and management fees from our existing
CDOs; (iii) proceeds from principal and interest payments and rents on our investments; (iv) proceeds from potential loan and
asset sales; (v) proceeds from the Management Agreement for the KBS Portfolio; and, to a lesser extent: (vi) new financings
and (vii) proceeds from additional common or preferred equity offerings. We believe these sources of financing will be
sufficient to meet our short-term liquidity requirements. In the event we are not able to successfully secure financing, we
will rely primarily on cash on hand, cash flows from operations, principal, interest and lease payments on our investments,
management fees, and proceeds from asset and loan sales to satisfy our liquidity requirements. In June 2012, following a strategic review process completed by a special committee of the Board of Directors,
we announced we will remain independent and will now focus on deploying our capital into income-producing net leased real estate.
Our new investment criteria will focus on single tenant net lease investments with durable credits across a variety of industries
in markets across the United States. New investments initially will be funded from existing financial resources. Subsequently,
subject to market conditions, we expect to seek to raise additional debt and/or equity capital to support further growth. If we (i)
are unable to renew, replace or expand our sources of financing, (ii) are unable to execute asset and loan sales in a timely
manner or to receive anticipated proceeds from them or (iii) fully utilize available cash, it may have an adverse effect on
our business, results of operations, and ability to make distributions to our stockholders.



Beginning with the third quarter of 2008
our board of directors elected not to pay a dividend on our common stock. Additionally our board of directors elected not to pay
the Series A preferred stock dividend of $0.50781 per share beginning with the fourth quarter of 2008. As of June 30, 2012 and
December 31, 2011 we accrued $26,857 and $23,276, respectively, for the Series A preferred stock dividends. We expect that we will
continue to elect to retain capital for liquidity purposes;however,
as our new business strategy is implemented and sustainable cash flows grow, we will re-evaluate our dividend policy with the intention
of resuming dividends. In accordance with the provisions of our charter, we may not pay any dividends on our common stock until
all accrued dividends and the dividend for the then current quarter on the Series A preferred stock are paid in full.



Our ability to meet our long-term (beyond
the next 12 months) liquidity and capital resource requirements will be subject to obtaining additional debt financing and equity
capital. Our inability to renew, replace or expand our sources of financing on substantially similar terms, or any at all may have
an adverse effect on our business and results of operations. Any indebtedness we incur will likely be subject to continuing or
more restrictive covenants and we will likely be required to make continuing representations and warranties in connection with
such debt. In addition, to the extent we increase our investment activity outside of our CDOs, including originating or acquiring
certain “qualified assets” for the purposes of maintaining our REIT compliance or maintenance of our exemption from
the Investment Company Act, our existing liquidity and capital resources would be reduced.



Our future borrowings may require us, among
other restrictive covenants, to keep uninvested cash on hand, to maintain a certain minimum tangible net worth, to maintain a certain
portion of our assets free from liens and to secure such borrowings with assets. These conditions could limit our ability to do
further borrowings and may have a material adverse effect on our liquidity, the value of our common stock, and our ability to make
distributions to our stockholders.



As of the date of this filing, we expect
that our cash on hand and cash flow from operations will be sufficient to satisfy our current and our anticipated liquidity needs
as well as our recourse liabilities, if any.



Substantially all of our loan and
other investments and CMBS are pledged as collateral for our CDO bonds and the income generated from these investments
is used to fund interest obligations of our CDO bonds and the remaining income, if any, is retained by us. Our CDO
indentures contain minimum interest coverage and asset overcollateralization covenants that must be met in order for us to
receive cash flow on the CDO interests retained by us and to receive the subordinate collateral management fee earned. If
some or all of our CDOs fail to comply with the covenants, all cash flows from the applicable CDO other than senior
collateral management fees would be diverted to repay principal and interest on the most senior outstanding CDO bonds and we
may not receive some or all residual payments or the subordinate collateral management fee until that CDO regained compliance
with such tests. As of July 2012, the most recent distribution date, our 2006 CDO was in compliance with interest coverage
and asset overcollateralization covenants, however the compliance margins were narrow and very small declines
in collateral performance and credit metrics from one or more assets could cause the CDO to fall out of compliance. Our 2005
CDO failed its overcollateralization test at the July 2012 distribution date and previously failed its
overcollateralization tests at the October 2011, April 2011 and January 2011 distribution dates. Our 2007 CDO failed its
overcollateralization test beginning with the November 2009 distribution date and it is unlikely that the 2007 CDO’s
overcollateralization test will be satisfied in the foreseeable future. We cannot be certain that the CDO tests will continue
to be satisfied and that we will continue to receive cash flows relating to our CDOs in the  future, and believe that we
will likely fail the overcollaterization test for the 2005 CDO and the 2006 CDO at the October 2012 distribution date. If the
cash flow from our 2005 CDO and our 2006 CDO is redirected, our business, financial condition, and results of operations
would be materially and adversely affected.



54









Cash Flows



Net cash provided by operating activities
decreased $18,505 to $11,474 for the six months ended June 30, 2012 compared to $29,979 for the same period in 2011. Operating
cash flow was generated primarily by net interest income from our commercial real estate finance segment and net rental income
and management fees from our property management and investment segment. The decrease in net income of $44,081 for the six months
ended June 30, 2012 compared to the same period in 2011 was primarily attributable to the increase of non-cash impairment charges
of $32,620, increase in net gains on sale of property of $9,622 which is offset by a decrease in net realized gains on loans of
$17,259, decrease in gain on extinguishment of debt of $14,526, reduced provision of loan loss of $27,749 and decreased depreciation
and amortization of $9,459 which is primarily related to real estate assets that were transferred to KBS pursuant to the Settlement
Agreement. The decrease in net income is partially offset by the increase in operating assets and liabilities of $681 for the six
months ended June 30, 2012 compared to the same period in 2011.



Net cash provided by investing
activities for the six months ended June 30, 2012 was $147,741 compared to net cash provided by investing activities of
$72,467 during the same period in 2011. The increase in cash flow from investing activities is primarily due to increased
proceeds from the sale of real estate investments of $16,768 and a reduction in new investments in loans and CMBS investments
of $211,154. These increases are partially offset by reduction in principal collections on investments of $73,340 and
proceeds from the sale of available-for-sale securities of $65,584.



Net cash used in financing activities
for the six months ended June 30, 2012 was $130,371 as compared to net cash used in financing activities of $156,343 during the
same period in 2011. The change is primarily attributable to a decrease in restricted cash of $32,764, in repurchases of CDOs of
$33,747 and repayment of mortgage notes of $20,928. These are partially offset by an increase in the repayment of CDOs of $69,018.



Capitalization



Our authorized capital stock consists of
125.0 million shares, $0.001 par value, of which we have authorized the issuance of up to 100.0 million shares of common
stock, $0.001 par value per share, and 25.0 million shares of preferred stock, par value $0.001 per share. As of June 30,
2012, 52,295,323 shares of common stock and 3,525,822 shares of preferred stock were issued and outstanding.





In connection with Mr. Gordon F. DuGan’s
agreement to serve as our Chief Executive Officer, on June 7, 2012, Mr. DuGan also agreed to purchase 1.0 million shares of our
common stock from us on June 29, 2012 for an aggregate purchase price of $2.5 million or, $2.52 per share. The per share purchase
price was equal to the closing price of our common stock on the New York Stock Exchange on the day prior to the date Mr. DuGan
entered into the subscription agreement with us to purchase such shares of common stock. The issuance of such shares of common
stock was a private placement exempt from the registration requirements of the Securities Act of 1933, as amended.



Preferred Stock



Beginning with the fourth quarter of 2008,
our board of directors elected not to pay the quarterly Series A preferred stock dividends of $0.50781 per share. As a result,
we have accrued dividends for over six quarters, which pursuant to the terms of our charter, permitted the Series A preferred stockholders
to elect an additional director to our board of directors, William H. Lenehan, to serve until the 2012 annual meeting of stockholders,
special meeting held in lieu thereof or his successor is elected and qualifies; provided, however, that the term of such director
will automatically terminate if and when all arrears in dividends on the Series A preferred stock then outstanding are paid and
full dividends thereon for the then current quarterly dividend period have been paid or declared and set apart for payment. As
of June 30, 2012 and December 31, 2011, we accrued Series A preferred stock dividends of $26,857 and $23,276, respectively.



Market Capitalization



At June 30, 2012, our CDOs represented
91.5% of our consolidated market capitalization of $2,564,887 (based on a common stock price of $2.50 per share, the closing price
of our common stock on the New York Stock Exchange on June 30, 2012). Market capitalization includes our consolidated debt and
common and preferred stock.



Indebtedness



The table below summarizes secured debt
at June 30, 2012 and December 31, 2011:





|                                |  | June 30, 2012 |              |   | December 31, 2011 |  
|------------------------------- |  | ------------- | ------------ | - | ----------------- | -
|Collateralized debt obligations |  | $             | 2,346,003    |   |                   | $
|                                |  |               |              |   |                   |  
|Cost of debt                    |  |               | LIBOR + 0.68 | % |                   |  





Collateralized Debt Obligations



Our loans and other investments
serve as collateral for our CDO securities, and the income generated from these investments is used to fund interest
obligations of our CDO securities and the remaining income, if any, is retained by us. The CDO indentures contain minimum
interest coverage and asset overcollateralization covenants that must be satisfied in order for us to receive cash flow on
the interests retained by us in our CDOs and to receive the subordinate collateral management fee earned. If some or all of
our CDOs fail these covenants, all cash flows from the applicable CDO other than senior collateral management fees would be
diverted to repay principal and interest on the most senior outstanding CDO securities, and we may not receive some or all
residual payments or the subordinate collateral management fee until the applicable CDO regained compliance with such tests.
As of July 2012, the most recent distribution date, our 2006 CDO was in compliance with interest coverage and
asset overcollateralization covenants, however the compliance margins were narrow and relatively small declines in
collateral performance and credit metrics from one or more assets could cause the CDO to fall out of compliance. Our 2005 CDO
failed its overcollateralization test at the July 2012 distribution date and previously failed its overcollateralization
tests at the October 2011, April 2011 and January 2011 distribution dates. Our 2007 CDO failed its overcollateralization test
beginning with the November 2009 distribution date and it is unlikely that the 2007 CDO’s overcollateralization test
will be satisfied in the foreseeable future. We cannot be certain that the CDO tests will continue to be satisfied and that we will
continue to receive cash flows relating to our CDOs in the future, and believe that we will likely fail the
overcollaterization test for the 2005 CDO and the 2006 CDO at the October 2012 distribution date. If the cash flow from our
2005 CDO and our 2006 CDO is redirected, our business, financial condition, and results of operations would be materially and
adversely affected.





55







On March 14, 2012, an interest payment
due on a CMBS investment owned by our 2007 CDO was not received for the third consecutive interest payment date, which caused the
CMBS investment to be classified as a Defaulted Security under our 2007 CDO’s indenture. This classification caused the Class
A/B Par Value Ratio for the 2007 CDO notes to fall to 88.86% in breach of the Class A/B overcollateralization test threshold of
89%. This breach constitutes an event of default under the operative documents for our 2007 CDO. Upon such an event of default,
the reinvestment period of the 2007 CDO, which is scheduled to expire in August 2012, would have immediately ended and we would
have lost our ability to reinvest restricted cash held by our 2007 CDO. Additionally, an event of default would have entitled the
controlling class to direct the Trustee to accelerate the notes of our 2007 CDO and, depending on the circumstances, force the
prompt liquidation of the collateral. Pursuant to a letter dated in March 2012, a majority of the controlling class of senior note
holders waived the related event of default and further agreed to waive any subsequent event of default related to the Class A/B
overcollateralization test that may occur hereafter until the earlier of August 27, 2012 or the date that written instructions
to the contrary are provided by such majority of the controlling class to the Trustee. The majority of the controlling class has
reserved the right to revoke or extend such waiver at any time.



During the  three and six months
ended June 30, 2012, we did not repurchase any notes previously issued by our three CDOs. During the three and six months
ended June 30, 2011, we repurchased, at a discount, $37,859 and $48,259, respectively, of notes previously issued by one of
our three CDOs. We recorded a net gain on the early extinguishment of debt $10,870 and $14,526 for the three and six months
ended June 30, 2011, in connection with the repurchase of the notes.



Contractual Obligations



Combined aggregate principal maturities
of our CDOs, and obligations under our operating leases as of June 30, 2012 are as follows:





|             |  | CDOs |           |  | Interest Payments |   |         | Operating Leases |  |   | Total | 
|------------ |  | ---- | --------- |  | ----------------- | - | ------- | ---------------- |  | - | ----- | 
|July 1, 2012 |  | $    | -         |  |                   | $ | 37,267  |                  |  | $ | 132   | 
|2013         |  |      | -         |  |                   |   | 71,530  |                  |  |   | 49    | 
|2014         |  |      | -         |  |                   |   | 73,569  |                  |  |   | 30    | 
|2015         |  |      | -         |  |                   |   | 80,101  |                  |  |   | 30    | 
|2016         |  |      | -         |  |                   |   | 87,588  |                  |  |   | 3     | 
|Thereafter   |  |      | 2,346,003 |  |                   |   | 96,398  |                  |  |   | -     | 
|Total        |  | $    | 2,346,003 |  |                   | $ | 446,453 |                  |  | $ | 244   | 





Additionally, three of our
subsidiaries   are borrowers under  two mortgage loans totaling $65,725 with our CDOs acting as lender, which bear interest
rates of 5.0% and LIBOR plus 4.0% and mature in June 2013. This intercompany borrowing is eliminated
upon consolidation and therefore does not appear on our Condensed Consolidated Balance Sheets.



Off-Balance-Sheet Arrangements



We have several off-balance-sheet investments,
including joint ventures and structured finance investments. These investments all have varying ownership structures. Substantially
all of our joint venture arrangements are accounted for under the equity method of accounting as we have the ability to exercise
significant influence, but not control over the operating and financial decisions of these joint venture arrangements. Our off-balance-sheet
arrangements are discussed in Note 5, “Investments in Joint Ventures,” in the accompanying financial statements.





56







Dividends



To maintain our qualification as a REIT,
we must pay annual dividends to our stockholders of at least 90% of our REIT taxable income, determined before taking into consideration
the dividends paid deduction and net capital gains. Before we pay any dividend, whether for U.S. federal income tax purposes or
otherwise, which would only be paid out of available cash, we must first meet both our operating requirements and scheduled debt
service. However, in accordance with the provisions of our charter, we may not pay any dividends on our common stock until all
accrued dividends and the dividend for the then current quarter on the Series A preferred stock are paid in full.



Beginning with the third quarter of 2008,
our board of directors elected not to pay a dividend on our common stock. Our board of directors also elected not to pay the Series
A preferred stock dividend of $0.50781 per share beginning with the fourth quarter of 2008. The unpaid preferred stock dividends
have been accrued for fifteen quarters as of June 30, 2012.



Inflation



A majority of our assets and liabilities
are interest rate sensitive in nature. As a result, interest rates and other factors influence our performance more so than inflation.
Changes in interest rates do not necessarily correlate with inflation rates or changes in inflation rates.



Further, our financial statements are prepared
in accordance with GAAP and our distributions are determined by our board of directors based primarily on our net income as calculated
for tax purposes, in each case, our activities and balance sheet are measured with reference to historical costs or fair market
value without considering inflation.



Related Party Transactions



The Chief Executive Officer of
SL Green Realty Corp. (NYSE: SLG), or SL Green, is one of our directors. An affiliate of SL Green provides special servicing
services with respect to a limited number of loans owned by us that are secured by properties in New York City, or in which
we and SL Green are co-investors. For the three and six months ended June 30, 2012, we incurred no expenses pursuant to
the special servicing arrangement. For the three and six months ended June 30, 2011, we incurred expense of $42 and
$83, respectively, pursuant to the special servicing arrangement.



Commencing in May 2005, we are
party to a lease agreement with SLG Graybar Sublease LLC, an affiliate of SL Green, for our corporate offices at 420
Lexington Avenue, New York, New York. The lease is for approximately 7,300 square feet and carries a term of 10 years with
rents of approximately $249 per annum for year one rising to $315 per annum in year ten. In May and June 2009, we amended our
lease with SLG Graybar Sublease LLC to increase the leased premises by approximately 2,260 square feet. The additional
premises is leased on a co-terminus basis with the remainder of our leased premises and carries rents of approximately $103
per annum during the initial year and $123 per annum during the final lease year. On
June 25, 2012, the lease was amended to reduce the leased premises by approximately 600 square feet and to reduce rents by
approximately $29 per annum during the initial year and $38 per annum during the final lease year.  All other terms of
the lease remain unchanged, except we now have the right to cancel the lease with 90 days notice. For the three and six
months ended June 30, 2012 we paid $77 and $173 under this lease, respectively. For the three and six months ended June 30,
2011, we paid $77 and $154 under this lease, respectively.



In December 2007, we acquired a
50% interest in a $200,000 senior mezzanine loan from a financial institution. Immediately thereafter, we participated 50% of
our interest in the loan to an affiliate of SL Green. The investment was purchased at a discount and bears interest at
an effective spread to one-month LIBOR of 6.50%. In December 2010, we subsequently purchased from an affiliate of SL Green,
its full participation in the senior mezzanine loan at a discount. In September 2011, a portion of the subsequently
purchased mezzanine loan was converted to preferred equity. As of June 30, 2012 and December 31, 2011, the original loan has
a book value of $125 and $250, respectively, and the subsequently purchased loan has a book value of $8,096 and $7,337,
respectively, and the preferred equity investment has a book value of $125 and $3,365, respectively.



In August 2008, we closed on the purchase
from an SL Green affiliate of a $9,375 pari-passu participation interest in an $18,750 first mortgage. The loan is secured by a
retail shopping center located in Staten Island, New York. The investment bears interest at a fixed rate of 6.50%. In December
2010, we purchased the remaining 50% interest in the loan from an SL Green affiliate for a discount of $9,420. As of June 30, 2012
and December 31, 2011, the loan has a book value of approximately $19,427 and $19,419, respectively.



Funds from Operations



We present FFO because we consider it an
important supplemental measure of our operating performance and believe that it is frequently used by securities analysts, investors
and other interested parties in the evaluation of REITS. We also may use FFO as one of several criteria to determine performance-based
incentive compensation for members of our senior management, which may be payable in cash or equity awards. The revised White Paper
on FFO approved by the Board of Governors of the National Association of Real Estate Investment Trusts, or NAREIT, defines FFO
as net income (loss) (determined in accordance with GAAP), excluding impairment write-downs of investments in depreciable real
estate and investments in in-substance real estate investments, gains or losses from debt restructurings and sales of depreciable
operating properties, plus real estate-related depreciation and amortization (excluding amortization of deferred financing costs),
less distributions to non-controlling interests and gains/losses from discontinued operations and after adjustments for unconsolidated
partnerships and joint ventures. FFO does not represent cash generated from operating activities in accordance with GAAP and should
not be considered as an alternative to net income (determined in accordance with GAAP), as an indication of our financial performance,
or to cash flow from operating activities (determined in accordance with GAAP) as a measure of our liquidity, nor is it entirely
indicative of funds available to fund our cash needs, including our ability to make cash distributions. Our calculation of FFO
may be different from the calculation used by other companies and, therefore, comparability may be limited.





57







FFO for the three and six months ended
June 30, 2012 and 2011 are as follows:





|                                                   |  | Three months ended June 30, |         |   | Six months
    ended 
June 30, |  
|-------------------------------------------------- |  | --------------------------- | ------- | - | ------------------------------ | -
|                                                   |  | 2012                        |         |   | 2011                           |  
|Net income (loss) available to common stockholders |  | $                           | (21,501 | ) |                                | $
|Add:                                               |  |                             |         |   |                                |  
|Depreciation and amortization                      |  |                             | 1,482   |   |                                |  
|FFO adjustments for joint ventures                 |  |                             | 67      |   |                                |  
|Non-cash impairment of real estate investments     |  |                             | 2,639   |   |                                |  
|Less:                                              |  |                             |         |   |                                |  
|Non real estate depreciation and amortization      |  |                             | (1,210  | ) |                                |  
|Gain on sale of real estate                        |  |                             | (53     | ) |                                |  
|Funds from operations                              |  | $                           | (18,576 | ) |                                | $
|                                                   |  |                             |         |   |                                |  
|Funds from operations per share - basic            |  | $                           | (0.37   | ) |                                | $
|                                                   |  |                             |         |   |                                |  
|Funds from operations per share - diluted          |  | $                           | (0.37   | ) |                                | $







Cautionary Note Regarding Forward-Looking Information



This report contains “forward-looking
statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934,
as amended, or the Exchange Act. You can identify forward-looking statements by the use of forward-looking expressions such as
“may,” “will,” “should,” “expect,” “believe,” “anticipate,”
“estimate,” “intend,” “plan,” “project,” “continue,” or any negative
or other variations on such expressions. Forward-looking statements include information concerning possible or assumed future results
of our operations, including any forecasts, projections, plans and objectives for future operations. Although we believe that our
plans, intentions and expectations as reflected in or suggested by those forward-looking statements are reasonable, we can give
no assurance that the plans, intentions or expectations will be achieved. We have listed below some important risks, uncertainties
and contingencies which could cause our actual results, performance or achievements to be materially different from the forward-looking
statements we make in this report. These risks, uncertainties and contingencies include, but are not limited to, the following:





| | · | the success or failure of our efforts to implement our current business strategy;                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                         
| | · | the adequacy of our cash reserves, working capital and other forms of liquidity;                                                                                                                                                        
| |   |                                                                                                                                                                                                                                         
| | · | the availability, terms and deployment of short-term and long-term capital;                                                                                                                                                             
| |   |                                                                                                                                                                                                                                         
| | · | the cost and availability of our financings, which depends in part on our asset quality, the nature of our relationships with our lenders and other capital providers, our business prospects and outlook and general market conditions;
| |   |                                                                                                                                                                                                                                         
| | · | the continuity of the Management Agreement for the KBS Portfolio;                                                                                                                                                                       
| |   |                                                                                                                                                                                                                                         
| | · | the timing of cash flows, if any, from our investments;                                                                                                                                                                                 
| |   |                                                                                                                                                                                                                                         
| | · | availability of, and ability to retain, qualified personnel and directors;                                                                                                                                                              
| |   |                                                                                                                                                                                                                                         
| | · | the performance and financial condition of borrowers, tenants, and corporate customers;                                                                                                                                                 
| |   |                                                                                                                                                                                                                                         
| | · | economic conditions generally and in the commercial finance and real estate markets and the banking industry specifically;                                                                                                              
| |   |                                                                                                                                                                                                                                         
| | · | unanticipated increases in financing and other costs, including a rise in interest rates;                                                                                                                                               
| |   |                                                                                                                                                                                                                                         
| | · | availability of investment opportunities on real estate assets and real estate-related and other securities;                                                                                                                            





58









| | · | risks of real estate acquisitions;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | our ability to identify and complete additional property acquisitions;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | changes to our management and board of directors;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | reduction in cash flows received from our investments, in particular our CDOs;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | our ability to satisfy all covenants in our CDOs and specifically compliance with overcollateralization and interest coverage tests;                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | the resolution of our non-performing and sub-performing assets and any losses we might recognize in connection with such investments;                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | risks of structured finance investments;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | the actions of our competitors and our ability to respond to those actions;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | demand for office space;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | our ability to maintain our current relationships with financial institutions and to establish new relationships with additional financial institutions;                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | our ability to profitably dispose of non-core assets;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | changes in governmental regulations, tax rates and similar matters;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | legislative and regulatory changes (including changes to laws governing the taxation of REITs or the exemptions from registration as an investment company);                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | environmental and/or safety requirements;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | our ability to satisfy complex rules in order for us to qualify as a REIT, for U.S. federal income tax purposes and qualify for our exemption under the Investment Company Act, our Operating Partnership’s ability to satisfy the rules in order for it to qualify as a partnership for U.S. federal income tax purposes, and the ability of certain of our subsidiaries to qualify as REITs and certain of our subsidiaries to qualify as TRSs for U.S. federal income tax purposes, and our ability and the ability of our subsidiaries to operate effectively within the limitations imposed by these rules;
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | the continuing threat of terrorist attacks on the national, regional and local economies; and                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | · | other factors discussed under Item 1A, “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2011 and those factors that may be contained in any filing we make with the SEC, including Part II, Item 1A of the Quarterly Reports on Form 10-Q.                                                                                                                                                                                                                                                                                                                                      





We assume no obligation to update publicly
any forward-looking statements, whether as a result of new information, future events, or otherwise. In evaluating forward-looking
statements, you should consider these risks and uncertainties, together with the other risks described from time-to-time in our
reports and documents which are filed with the SEC, and you should not place undue reliance on those statements.



The risks included here are not exhaustive.
Other sections of this report may include additional factors that could adversely affect our business and financial performance.
Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time and it is
not possible for management to predict all such risk factors, nor can it assess the impact of all such risk factors on our business
or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained
in any forward-looking statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking
statements as a prediction of actual results.



Recently Issued Accounting Pronouncements



For a discussion of
the impact of new accounting pronouncements on our financial condition or results of operation, see Note 2 of the Condensed Consolidated
Financial Statements.





59







ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK



Market Risk



Market risk includes risks that arise from
changes in interest rates, credit, commodity prices, equity prices and other market changes that affect market sensitive instruments.
In pursuing our business plan, we expect that the primary market risks to which we will be exposed are real estate, interest rate
and credit risks. These risks are highly sensitive to many factors, including governmental monetary and tax policies, domestic
and international economic and political considerations and other factors that are beyond our control.



Real Estate Risk



Commercial and multi-family property values
and net operating income derived from such properties are subject to volatility and may be affected adversely by a number of factors,
including, but not limited to, national, regional and local economic conditions, local real estate conditions (such as an oversupply
of retail, industrial, office or other commercial or multi-family space), changes or continued weakness in specific industry segments,
construction quality, age and design, demographic factors, retroactive changes to building or similar codes, and increases in operating
expenses (such as energy costs). In the event net operating income decreases, a borrower may have difficulty repaying our loans,
which could result in losses to us. In addition, decreases in property values reduce the value of the collateral and the potential
proceeds available to a borrower to repay our loans, which could also cause us to suffer losses. Even when a property’s net
operating income is sufficient to cover the property’s debt service at the time a loan is made, there can be no assurance
that this will continue in the future. We employ careful business selection, rigorous underwriting and credit approval processes
and attentive asset management to mitigate these risks. These same factors pose risks to the operating income we receive from our
portfolio of real estate investments, the valuation of our portfolio of owned properties, and our ability to refinance existing
mortgage and mezzanine borrowings supported by the cash flow and value of our owned properties.



Interest Rate Risk



Interest rate risk is highly sensitive
to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations
and other factors beyond our control. Our operating results will depend in large part on differences between the income from our
assets and our borrowing costs. Most of our commercial real estate finance assets and borrowings are variable-rate instruments
that we finance with variable rate debt. The objective of this strategy is to minimize the impact of interest rate changes on the
spread between the yield on our assets and our cost of funds. We seek to enter into hedging transactions with respect to all liabilities
relating to fixed rate assets. If we were to finance fixed rate assets with variable rate debt and the benchmark for our variable
rate debt increased, our net income would decrease. Some of our loans are subject to various interest rate floors. As a result,
if interest rates fall below the floor rates, the spread between the yield on our assets and our cost of funds will increase, which
will generally increase our returns. Because we generate income on our commercial real estate finance assets principally from the
spread between the yields on our assets and the cost of our borrowing and hedging activities, our net income on our commercial
real estate finance assets will generally increase if LIBOR increases and decrease if LIBOR decreases. Our real estate assets generate
income principally from fixed long-term leases and we are exposed to changes in interest rates primarily from our floating rate
borrowing arrangement. The following chart shows a hypothetical 100 basis point increase in interest rates along the entire interest
rate curve:





|Change in LIBOR |  | Projected Increase
 (Decrease) in Net Income |       
|--------------- |  | -------------------------------------------- | ------
|Base case       |  |                                              |       
|+100 bps        |  | $                                            | (2,189
|+200 bps        |  | $                                            | (3,753
|+300 bps        |  | $                                            | (4,982





Our exposure to interest rates will also
be affected by our overall corporate leverage, which may vary depending on our mix of assets.



In the event of a significant rising interest
rate environment and/or economic downturn, delinquencies and defaults could increase and result in loan losses to us, which could
adversely affect our liquidity and operating results. Further, such delinquencies or defaults could have an adverse effect on the
spreads between interest-earning assets and interest-bearing liabilities.



In the event of a rapidly rising interest
rate environment, our operating cash flow from our real estate assets may be insufficient to cover the corresponding increase in
interest expense on our variable rate borrowing secured by our real estate assets.





60







Credit Risk



Credit risk refers to the ability of
each tenant in our portfolio of real estate investments to make contractual lease payments and each individual borrower under
our loans and securities investments to make required interest and principal payments on the scheduled due dates. We seek to
reduce credit risk of our real estate investments by entering into long-term leases with durable credit tenants across a wide
variety of industries in markets with strong demographics and we attempt to reduce credit risk of our loan and securities
investments by actively managing our portfolio and the underlying credit quality of the subject collateral. If defaults
occur, we employ our asset management resources to mitigate the severity of any losses and seek to optimize the recovery from
assets in the event that we foreclose upon them. We seek to control the negotiation and structure of the debt transactions in
which we invest, which enhances our ability to mitigate our losses, to negotiate loan documents that afford us appropriate
rights and control over our collateral, and to have the right to control the debt that is senior to our position. We
generally avoid investments where we cannot secure adequate control rights, unless we believe the default risk is very low
and the transaction involves high-quality sponsors. In the event of a significant rising interest rate environment and/or
economic downturn, tenant and borrower delinquencies and defaults may increase and result in credit losses that would
materially and adversely affect our business, financial condition and results of operations.



ITEM 4. CONTROLS AND PROCEDURES



Evaluation of Disclosure Controls and Procedures



We maintain disclosure controls and procedures
that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized
and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and
communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based closely on the definition of “disclosure controls and procedures” in
Rule 13a-15(e). Notwithstanding the foregoing, a control system, no matter how well designed and operated, can provide only reasonable,
not absolute, assurance that it will detect or uncover failures within our company to disclose material information otherwise required
to be set forth in our periodic reports. Also, we may have investments in certain unconsolidated entities. As we do not control
these entities, our disclosure controls and procedures with respect to such entities are necessarily substantially more limited
than those we maintain with respect to our consolidated subsidiaries.



As of the end of the period covered by
this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief
Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls
and procedures. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure
controls and procedures were effective as of the end of the period covered by this report.



Changes in Internal Control over Financial Reporting



There were no changes in our internal control
over financial reporting identified in connection with the evaluation of such internal control that occurred during our last fiscal
quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.





61







PART II. OTHER INFORMATION



|ITEM 1. | LEGAL PROCEEDINGS
|------- | -----------------





Two of the Company’s subsidiaries
are named as defendants in a case filed in August 2011 captioned Colfin JIH Funding LLC and CDCF JIH Funding, LLC, or Colony, v.
Gramercy Warehouse Funding I LLC and Gramercy Loan Services LLC, which is pending in New York State Supreme Court, New York County.
The dispute arises from the financing of the Jameson Inns and Signature Inns. Colony has asserted a breach of contract claim against
the subsidiaries and is seeking to recover at least $80,000, which represents the amounts of the mezzanine loans held by Colony,
and at least $8,000 in enforcement costs, plus attorneys’ fees. On January 23, 2012, the subsidiaries filed counterclaims
against Colony for breach of contract, tortious interference with contract, breach of the covenant of good faith and fair dealing,
and civil conspiracy, and are seeking to recover at least $80,000 in compensatory damages, as well as certain punitive damages
and certain costs and fees. The Company’s subsidiaries intend to vigorously defend the claims asserted against them and to
pursue all counterclaims against Colony. Colony has moved to dismiss the counterclaims. This matter is in its preliminary stages,
and accordingly, the Company is not able to assess the likelihood of an unfavorable outcome or estimate the range of potential
loss, if any.



The same two of the Company’s subsidiaries
are named as defendants in a case filed in December 2011 captioned U.S. Bank National Association, as Trustee et al v. Gramercy
Warehouse Funding I LLC and Gramercy Loan Services LLC, which is pending in New York State Supreme Court, New York County. The
dispute arises from the same financing of the Jameson Inns and Signature Inns. U.S. Bank National Association, or U.S. Bank, by
and through its attorney in fact, Wells Fargo Bank, N.A., has asserted a breach of contract claim against the subsidiaries and
is seeking to recover at least $164,000 which represents the amount of U.S. Bank’s mortgage loan, plus attorneys’ fees
and enforcement costs. On January 25, 2012, the subsidiaries filed an answer to U.S. Bank’s complaint. The Company’s
subsidiaries intend to vigorously defend the claims asserted against them. This matter is in its preliminary stages, and accordingly,
the Company is not able to assess the likelihood of an unfavorable outcome or estimate the range of potential loss, if any.



The same two of the Company’s subsidiaries
are named as counterclaim defendants in a case filed in March 2012 captioned Gramercy Warehouse Funding I LLC and Gramercy Loan
Services LLC v. JER Financial Products III, LLC, which is pending in New York State Supreme Court, New York County. The Company’s
subsidiaries commenced this action to enforce the lenders’ rights to payment under the guaranty agreements executed in connection
with the Jameson Inns and Signature Inns. On April 18, 2012, JER Financial Products III, the guarantor, filed an answer to the
complaint and counterclaims against the Company’s subsidiaries, seeking a declaratory judgment regarding its payment obligations
under the guaranty agreements. JER Financial Products III also alleges claims for tortious interference with contract and breach
of the implied covenant of good faith and fair dealing, and seeks to recover from the subsidiaries any payment obligations it may
incur in separate actions brought by the mortgage lender and the senior lender under their guarantee agreements, as well as attorneys’
fees and costs it may incur in those separate actions. The Company’s subsidiaries intend to vigorously defend the
claims asserted against it and pursue all claims against JER Financial Products III. This matter is in its preliminary stages and,
accordingly, the Company is unable to assess the likelihood of an unfavorable outcome or estimate any potential loss, if any.



The Company and certain of its subsidiaries
are also named as defendants in an action filed in November 2008 in New York State Supreme Court, New York County, by a former
consultant alleging breach of contract and other claims and seeking to recover certain payments alleged to be due under a now-terminated
consulting arrangement between the company and the consultant. In July 2012, the Company settled the claim for $885, which was fully accrued for as of June 30, 2012.





|ITEM 1A. | RISK FACTORS
|-------- | ------------



None



|ITEM 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
|------- | -----------------------------------------------------------



In connection with Mr. Gordon F. DuGan's agreement to serve as the Company's Chief Executive Officer, on June 7, 2012, Mr. DuGan also agreed to purchase 1,000,000 shares of the Company's common stock from the Company on June 29, 2012 for an aggregate purchase price of $2,520,000 or, $2.52 per share. The per share purchase price was equal to the closing price of the Company's common stock on the New York Stock Exchange on the day prior to the date Mr. DuGan entered into the subscription agreement with the Company to purchase such shares of common stock. The issuance of such shares of common stock was a private placement exempt from the registration requirements of the Securities Act of 1933, as amended.  The Company intends to use the net proceeds from this issuance for general corporate purposes, which may include, but not be limited to, acquisitions of single tenant net lease investments.



|ITEM 3. | DEFAULTS UPON SENIOR SECURITIES
|------- | -------------------------------



None



|ITEM 4. | MINE SAFETY DISCLOSURES
|------- | -----------------------



Not applicable



|ITEM 5. | OTHER INFORMATION
|------- | -----------------



None





62







ITEM 6.



INDEX TO EXHIBITS





|Exhibit No. |  | Description                                                                                                                                                                                                                                                                                                                     
|----------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|            |  |                                                                                                                                                                                                                                                                                                                                 
|3.1         |  | Articles of Incorporation of the Company (incorporated by reference to Exhibit 3.1 of the Company’s Amendment No. 5 to its Registration Statement on Form S-11/A (No. 333-114673), which was filed with the Commission on July 26, 2004 and declared effective by the Commission on July 27, 2004).                             
|3.2         |  | Amended and Restated Bylaws of the Company (incorporated by reference to Exhibit 3.2 of the Company’s Current Report on Form 8-K which was filed with the Commission on December 14, 2007).                                                                                                                                     
|3.3         |  | Articles Supplementary designating the Company’s 8.125% Series A Cumulative Redeemable Preferred Stock, liquidation preference $25.00 per share, par value $0.001 per share (incorporated by reference to Exhibit 3.1 of the Company’s Current Report on Form 8-K which was filed with the Commission on April 18, 2007).       
|4.1         |  | Form of specimen stock certificate evidencing the common stock of the Company, par value $0.001 per share (incorporated by reference to Exhibit 4.1 of the Company’s Current Report on Form 8-K which was filed with the Commission on April 18, 2007).                                                                         
|4.2         |  | Form of stock certificate evidencing the 8.125% Series A Cumulative Redeemable Preferred Stock of the Company, liquidation preference $25.00 per share, par value $0.001 per share (incorporated by reference to Exhibit 4.2 of the Company’s Current Report on Form 8-K which was filed with the Commission on April 18, 2007).
|10.1        |  | Employment and Noncompetition Agreement, dated as of June 7, 2012, by and between the Company and Gordon DuGan (incorporated by reference to Exhibit 10.1 of the Company's Current Report on Form 8-K which was filed with the Commission on June 13, 2012).                                                                    
|10.2        |  | Employment and Noncompetition Agreement, dated as of June 12, 2012, by and between the Company and Benjamin
Harris (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K which was filed with the Commission
on June 13, 2012).                                                                
|10.3        |  | Form of 2012 Long-Term Outperformance Plan Award Agreement (incorporated by reference to Exhibit 10.3
of the Company’s Current Report on Form 8-K which was filed with the Commission on June 13, 2012)                                                                                                                         
|10.4        |  | Gramercy Capital Corp. 2012 Inducement Equity Incentive Plan (incorporated by reference to Exhibit 10.4
of the Company’s Current Report on Form 8-K which was filed with the Commission on June 13, 2012)                                                                                                                       
|10.5        |  | Separation and Release Agreement, dated as of June 12, 2012, by and among the Company, GKK Capital LP
and Roger M. Cozzi (incorporated by reference to Exhibit 10.5 of the Company’s Current Report on Form 8-K which was filed
with the Commission on June 13, 2012)                                                           
|10.6        |  | Transition and Release Agreement, dated as of June 12, 2012, by and among the Company, GKK Capital LP
and Timothy J. O’Connor (incorporated by reference to Exhibit 10.6 of the Company’s Current Report on Form 8-K which
was filed with the Commission on June 13, 2012)                                                      
|10.7        |  | Transition and Release Agreement, dated as of June 12, 2012, by and among the Company, GKK Capital LP
and Timothy J. O’Connor (incorporated by reference to Exhibit 10.7 of the Company’s Current Report on Form 8-K which
was filed with the Commission on June 13, 2012)                                                      
|31.1        |  | Certification by the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.                                                                                                                                                                                                         
|31.2        |  | Certification by the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.                                                                                                                                                                                                         
|32.1        |  | Certification by the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.                                                                                                                                                          
|32.2        |  | Certification by the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.                                                                                                                                                          
|101.INS     |  | XBRL Instance Document, furnished herewith.                                                                                                                                                                                                                                                                                     
|101.SCH     |  | XBRL Taxonomy Extension Schema, furnished herewith.                                                                                                                                                                                                                                                                             
|101.CAL     |  | XBRL Taxonomy Extension Calculation Linkbase, furnished herewith.                                                                                                                                                                                                                                                               
|101.DEF     |  | XBRL Taxonomy Extension Definition Linkbase, furnished herewith.                                                                                                                                                                                                                                                                
|101.LAB     |  | XBRL Taxonomy Extension Label Linkbase, furnished herewith.                                                                                                                                                                                                                                                                     
|101.PRE     |  | XBRL Taxonomy Extension Presentation Linkbase, furnished herewith.                                                                                                                                                                                                                                                              





63













SIGNATURES



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



|GRAMERCY CAPITAL CORP. |                                                                                                        
|---------------------- | -------------------------------------------------------------------------------------------------------
|                       |                                                                                                        
|Dated: August 9, 2012  | By:                                                                                                    
|                       | Name: Jon W. Clark                                                                                     
|                       | Title: Chief Financial Officer (duly authorized officer and principal financial and accounting officer)





64