##### 



FORM 10-Q SECURITIES AND EXCHANGE COMMISSION  (Mark One)(X)
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934For quarterly period ended September 30, 2004(  )
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period fromto.
 COMMISSION FILE NUMBER 000-23733 CAPITAL AUTOMOTIVE REIT  Maryland
    
    54-1870224(State of organization)
    
    (I.R.S. Employer Identification Number)
 8270 Greensboro Drive, Suite 950, McLean, Virginia 22102
(Address of principal executive offices and zip code) (703) 288-3075
(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 is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes (X) No (  ) Number of common shares of beneficial interest outstanding as of October 31,
2004 was 38,393,379.




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##### 



CAPITAL AUTOMOTIVE REIT
FORM 10-Q
INDEX Page No.Part I  Financial InformationItem 1  Financial StatementsConsolidated Balance Sheets September 30, 2004 (unaudited) and
December 31, 2003.
    
    
    3Consolidated Statements of Operations (unaudited)  three months
and nine months ended September 30, 2004 and September 30, 2003.
    
    
    4Consolidated Statements of Cash Flows (unaudited)  nine months ended
September 30, 2004 and September 30, 2003.
    
    
    5Consolidated Statements of Changes in Shareholders Equity and Other
Comprehensive Income (unaudited)  nine months ended
September 30, 2004
    
    
    6Notes to Consolidated Financial Statements (unaudited)
    
    
    7Item 2  Managements Discussion and Analysis of Financial Condition
and Results of Operations
    
    
    27Item 3  Quantitative and Qualitative Disclosures About Market Risk
    
    
    51Item 4  Controls and Procedures
    
    
    51Part II  Other InformationItem 1  Legal Proceedings
    
    
    54Item 2  Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    54Item 3  Defaults Upon Senior Securities
    
    
    54Item 4
 Submission of Matters to a Vote of Security Holders
    
    
    54Item 5  Other Information
    
    
    54Item 6  Exhibits
    
    
    55Signatures
    
    
    56
 2




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##### 



PART I - FINANCIAL INFORMATION
ITEM I - FINANCIAL STATEMENTS
CAPITAL AUTOMOTIVE REIT
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data) September 30,
    
    December 31,2004
    
    2003(Unaudited)ASSETSReal estate:Land
    
    $
    824,375
    
    
    $
    732,693Buildings and improvements
    
    
    1,236,419
    
    
    
    1,142,117Accumulated depreciation
    
    
    (135,243
    )
    
    
    (116,247
    )1,925,551
    
    
    
    1,758,563Cash and cash equivalents
    
    
    8,049
    
    
    
    13,352Other assets, net
    
    
    77,045
    
    
    
    89,670Total Assets
    
    $
    2,010,645
    
    
    $
    1,861,585LIABILITIES AND SHAREHOLDERS EQUITYLiabilities:Mortgage debt
    
    $
    661,562
    
    
    $
    1,066,084Unsecured debt
    
    
    381,563
    
    
    
    4,425Borrowings under credit facilities
    
    
    10,000
    
    
    
    75,009Accounts payable and accrued expenses
    
    
    34,299
    
    
    
    26,773Security deposits payable
    
    
    5,849
    
    
    
    7,568Total Liabilities
    
    
    1,093,273
    
    
    
    1,179,859Minority Interest
    
    
    132,207
    
    
    
    112,452Shareholders EquityPreferred shares, par value $.01 per share; 20 million shares authorized,
3,950,000 Series A Cumulative Redeemable Preferred Shares issued and outstanding
as of September 30, 2004 and December 31, 2003
    
    
    40
    
    
    
    402,600,000 Series B Cumulative Redeemable Preferred Shares issued and outstanding
as of September 30, 2004 and no shares issued or outstanding as of December 31, 2003
    
    
    26
    
    
    
    Common shares, par value $.01 per share; 100 million shares authorized,
38,391,405 shares issued and outstanding as of September 30, 2004 and
33,032,901 shares issued and outstanding as of December 31, 2003
    
    
    384
    
    
    
    330Additional paid-in-capital
    
    
    814,760
    
    
    
    600,278Deferred compensation
    
    
    (4,167
    )
    
    
    (2,098
    )Accumulated other comprehensive loss
    
    
    (8,497
    )
    
    
    (13,541
    )Distributions in excess of accumulated earnings
    
    
    (17,381
    )
    
    
    (15,735
    )Total Shareholders Equity
    
    
    785,165
    
    
    
    569,274Total Liabilities and Shareholders Equity
    
    $
    2,010,645
    
    
    $
    1,861,585
 See accompanying Notes to Consolidated Financial Statements. 3




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##### 



CAPITAL AUTOMOTIVE REIT
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data) Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Revenue:Rental
    
    $
    51,214
    
    
    $
    41,340
    
    
    $
    145,905
    
    
    $
    120,304Interest and other
    
    
    713
    
    
    
    144
    
    
    
    2,271
    
    
    
    780Total revenue
    
    
    51,927
    
    
    
    41,484
    
    
    
    148,176
    
    
    
    121,084Expenses:Depreciation and amortization
    
    
    9,184
    
    
    
    7,481
    
    
    
    26,690
    
    
    
    21,872General and administrative
    
    
    3,335
    
    
    
    2,546
    
    
    
    9,070
    
    
    
    7,172Interest
    
    
    16,524
    
    
    
    15,826
    
    
    
    49,479
    
    
    
    46,674Debt extinguishment charges
    
    
    697
    
    
    
    
    
    
    
    9,409
    
    
    
    Total expenses
    
    
    29,740
    
    
    
    25,853
    
    
    
    94,648
    
    
    
    75,718Income from continuing operations before minority interest
    
    
    22,187
    
    
    
    15,631
    
    
    
    53,528
    
    
    
    45,366Minority interest
    
    
    (3,387
    )
    
    
    (3,214
    )
    
    
    (8,268
    )
    
    
    (9,804
    )Income from continuing operations
    
    
    18,800
    
    
    
    12,417
    
    
    
    45,260
    
    
    
    35,562Income from discontinued operations, net of minority interest
    
    
    767
    
    
    
    654
    
    
    
    2,717
    
    
    
    2,098Gain on sale of real estate, net of minority interest
    
    
    2,274
    
    
    
    
    
    
    
    3,486
    
    
    
    58Total discontinued operations
    
    
    3,041
    
    
    
    654
    
    
    
    6,203
    
    
    
    2,156Net income
    
    
    21,841
    
    
    
    13,071
    
    
    
    51,463
    
    
    
    37,718Preferred share dividends
    
    
    (3,152
    )
    
    
    
    
    
    
    (7,780
    )
    
    
    Net income available to common shareholders
    
    $
    18,689
    
    
    $
    13,071
    
    
    $
    43,683
    
    
    $
    37,718Shares of common stock outstanding used to
compute basic earnings per common share
    
    
    37,021
    
    
    
    31,919
    
    
    
    35,714
    
    
    
    30,303Basic earning per common share:Income from continuing operations
    
    $
    0.42
    
    
    $
    0.39
    
    
    $
    1.05
    
    
    $
    1.17Net income
    
    $
    0.50
    
    
    $
    0.41
    
    
    $
    1.22
    
    
    $
    1.24Shares of common stock outstanding used to
compute diluted earnings per common share
    
    
    37,393
    
    
    
    32,731
    
    
    
    36,193
    
    
    
    31,198Diluted earnings per common share:Income from continuing operations
    
    $
    0.42
    
    
    $
    0.38
    
    
    $
    1.04
    
    
    $
    1.14Net income
    
    $
    0.50
    
    
    $
    0.40
    
    
    $
    1.21
    
    
    $
    1.22Dividends declared per common share
    
    $
    0.4230
    
    
    $
    0.4110
    
    
    $
    1.2595
    
    
    $
    1.2260
 See accompanying Notes to Consolidated Financial Statements. 4




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##### 



CAPITAL AUTOMOTIVE REIT
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) Nine Months Ended September 30,2004
    
    2003Cash flows from operating activities:Net income
    
    $
    51,463
    
    
    $
    37,718Adjustments to reconcile net income to net cash provided by operating activities:Gain on disposition of real estate net of minority interest
    
    
    (3,486
    )
    
    
    (58
    )Stock compensation expense
    
    
    1,115
    
    
    
    853Depreciation and amortization
    
    
    29,287
    
    
    
    24,797Swap breakage and write-off of deferred loan fees related to debt extinguishment
    
    
    7,179
    
    
    
    Income from continuing operations applicable to minority interest
    
    
    8,268
    
    
    
    9,804Income from discontinued operations applicable to minority interest
    
    
    608
    
    
    
    580Changes in operating assets and liabilities:Increase in other assets
    
    
    (4,444
    )
    
    
    (3,503
    )Increase in accounts payable and accrued expenses
    
    
    2,856
    
    
    
    1,877(Decrease) increase in security deposits payable
    
    
    (1,719
    )
    
    
    282Net cash provided by operating activities
    
    
    91,127
    
    
    
    72,350Cash flows from investing activities:Purchase of furniture and equipment, net of disposals
    
    
    (69
    )
    
    
    (44
    )Real estate investments
    
    
    (204,401
    )
    
    
    (130,906
    )Real estate dispositions
    
    
    40,786
    
    
    
    1,928Net cash used in investing activities
    
    
    (163,684
    )
    
    
    (129,022
    )Cash flows from financing activities:Proceeds from borrowings under credit facilities
    
    
    221,000
    
    
    
    58,000Proceeds from debt issuance
    
    
    422,175
    
    
    
    234,480Repayment of borrowings under credit facilities
    
    
    (286,009
    )
    
    
    (139,094
    )Repayment of debt
    
    
    (423,700
    )
    
    
    (91,638
    )Debt principal payments
    
    
    (22,422
    )
    
    
    (23,959
    )Payments for debt issuance costs
    
    
    (10,580
    )
    
    
    (6,636
    )Decrease in restricted cash
    
    
    6,874
    
    
    
    1,178Payment of common share dividends
    
    
    (37,367
    )
    
    
    (33,673
    )Payment of preferred share dividends
    
    
    (6,091
    )
    
    
    Distributions to minority partners
    
    
    (9,821
    )
    
    
    (10,234
    )Series A Cumulative Redeemable Preferred Shares issuance costs
    
    
    (98
    )
    
    
    Net proceeds from issuance of Series B Cumulative Redeemable Preferred Shares
    
    
    63,158
    
    
    
    Net proceeds from issuance of common shares
    
    
    150,135
    
    
    
    78,949Net cash provided by financing activities
    
    
    67,254
    
    
    
    67,373Net (decrease) increase in cash and cash equivalents
    
    
    (5,303
    )
    
    
    10,701Cash and cash equivalents at beginning of period
    
    
    13,352
    
    
    
    7,442Cash and cash equivalents at end of period
    
    $
    8,049
    
    
    $
    18,143Supplemental Data:Real estate acquisitions in exchange for equity issuance
    
    $
    10,057
    
    
    $
    Real estate acquisitions in exchange for like-kind property
    
    $
    14,968
    
    
    $
    Interest paid during the period
    
    $
    42,486
    
    
    $
    43,549Dividends and distributions reinvested to purchase common shares
    
    $
    7,987
    
    
    $
    4,142Change in valuation of fair value swap
    
    $
    (3,437
    )
    
    $
    
 See accompanying Notes to Consolidated Financial Statements. 5




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##### 



CAPITAL AUTOMOTIVE REIT
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY AND OTHER COMPREHENSIVE INCOME
(in thousands, except share data) Preferred SharesPreferred Shares
    
    Common
    
    Par Value
    
    Common
SharesSeries A
    
    Series B
    
    Shares
    
    Series A
    
    Series B
    
    Par ValueBalance at December 31, 2003 (audited)
    
    
    3,950,000
    
    
    
    
    
    
    
    33,032,901
    
    
    $
    40
    
    
    $
    
    
    
    $
    330Reallocation of minority interest
ownership in Partnership
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Series A Cumulative Redeemable Preferred
Shares issuance costs
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net proceeds from issuance of Series B
Cumulative Redeemable Preferred Shares
    
    
    
    
    
    
    2,600,000
    
    
    
    
    
    
    
    
    
    
    
    26
    
    
    
    Net proceeds from follow-on offerings
    
    
    
    
    
    
    
    
    
    
    4,525,000
    
    
    
    
    
    
    
    
    
    
    
    45Issuance of common shares from dividend
reinvestment and share purchase plan,
net of costs
    
    
    
    
    
    
    
    
    
    
    283,799
    
    
    
    
    
    
    
    
    
    
    
    3Issuance of restricted shares, net of
forfeitures
    
    
    
    
    
    
    
    
    
    
    84,938
    
    
    
    
    
    
    
    
    
    
    
    1Amortization of deferred compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Issuance of phantom shares, net of
forfeitures
    
    
    
    
    
    
    
    
    
    
    17,020
    
    
    
    
    
    
    
    
    
    
    
    Exercise of common stock options and
warrants
    
    
    
    
    
    
    
    
    
    
    357,465
    
    
    
    
    
    
    
    
    
    
    
    4Redemption of units of limited
partnership interest in the Partnership
to common shares
    
    
    
    
    
    
    
    
    
    
    90,282
    
    
    
    
    
    
    
    
    
    
    
    1Accrued compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Change in valuation of interest rate swap
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Change in valuation of interest rate
swap attributable to minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Preferred share dividends
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Common share dividends
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Balance at September 30, 2004 (unaudited)
    
    
    3,950,000
    
    
    
    2,600,000
    
    
    
    38,391,405
    
    
    $
    40
    
    
    $
    26
    
    
    $
    384
   [Continued from above table, first column(s) repeated] Distributions in
    
    
    
    
    
    AccumulatedAdditional
    
    Excess of
    
    
    
    
    
    Other
    
    
    
    
    
    OtherPaid-in
    
    Accumulated
    
    Deferred
    
    Comprehensive
    
    
    
    
    
    ComprehensiveCapital
    
    Earnings
    
    Compensation
    
    Income (Loss)
    
    Total
    
    IncomeBalance at December 31, 2003 (audited)
    
    $
    600,278
    
    
    $
    (15,735
    )
    
    $
    (2,098
    )
    
    $
    (13,541
    )
    
    $
    569,274Reallocation of minority interest
ownership in Partnership
    
    
    (11,110
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (11,110
    )
    
    
    Series A Cumulative Redeemable Preferred
Shares issuance costs
    
    
    (98
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (98
    )
    
    
    Net proceeds from issuance of Series B
Cumulative Redeemable Preferred Shares
    
    
    63,132
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    63,158
    
    
    
    Net proceeds from follow-on offerings
    
    
    145,062
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    145,107
    
    
    
    Issuance of common shares from dividend
reinvestment and share purchase plan,
net of costs
    
    
    8,154
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8,157
    
    
    
    Issuance of restricted shares, net of
forfeitures
    
    
    3,070
    
    
    
    
    
    
    
    (3,071
    )
    
    
    
    
    
    
    
    
    
    
    Amortization of deferred compensation
    
    
    
    
    
    
    
    
    
    
    1,002
    
    
    
    
    
    
    
    1,002
    
    
    
    Issuance of phantom shares, net of
forfeitures
    
    
    70
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    70
    
    
    
    Exercise of common stock options and
warrants
    
    
    4,873
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,877
    
    
    
    Redemption of units of limited
partnership interest in the Partnership
to common shares
    
    
    1,216
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,217
    
    
    
    Accrued compensation
    
    
    113
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    113
    
    
    
    Change in valuation of interest rate swap
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,044
    
    
    
    5,044
    
    
    
    5,044Change in valuation of interest rate
swap attributable to minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (912
    )Preferred share dividends
    
    
    
    
    
    
    (7,780
    )
    
    
    
    
    
    
    
    
    
    
    (7,780
    )
    
    
    Common share dividends
    
    
    
    
    
    
    (45,329
    )
    
    
    
    
    
    
    
    
    
    
    (45,329
    )
    
    
    Net income
    
    
    
    
    
    
    51,463
    
    
    
    
    
    
    
    
    
    
    
    51,463
    
    
    
    51,463Balance at September 30, 2004 (unaudited)
    
    $
    814,760
    
    
    $
    (17,381
    )
    
    $
    (4,167
    )
    
    $
    (8,497
    )
    
    $
    785,165
    
    
    $
    55,595
 See accompanying Notes to Consolidated Financial Statements. 6




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##### 



CAPITAL AUTOMOTIVE REIT
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) 1. ORGANIZATION AND BASIS OF PRESENTATION Organization Capital Automotive REIT, which we refer to as the Company, is a Maryland real
estate investment trust formed in October 1997. We own interests in real
estate and conduct our operations, directly or indirectly, through Capital
Automotive L.P., which we refer to as the Partnership, and its subsidiaries.
We are the sole general partner of the Partnership and, as of September 30,
2004, owned approximately 82.5% of the common units of limited partnership
interest in the Partnership, which we refer to as Common Units, as well as 100%
of the Series A and Series B preferred units of limited partnership interest in
the Partnership, which we refer to as Preferred Units. References to we,
us and our refer to the Company or, if the context requires, the
Partnership and our business and operations conducted through the Partnership
and/or directly or indirectly owned subsidiaries. Our primary business strategy is to purchase real estate (land, buildings and
other improvements), which we simultaneously lease to operators of franchised
automobile dealerships and motor vehicle service, repair or parts businesses,
used vehicle businesses and other related businesses under long-term,
triple-net leases. Triple-net leases typically require the tenant to pay all
operating expenses of a property, including, but not limited to, all real
estate taxes, assessments and other government charges, insurance, utilities,
repairs and maintenance. We use (i) the term dealerships to refer to these
types of businesses that are operated on our properties and (ii) the term
dealer group, tenant or operators of dealerships to refer to the persons and
entities that lease our properties. We focus on leasing properties to dealer
groups that have a long history of operating multi-site, multi-franchised
dealerships, generally targeting the largest dealer groups in terms of revenues
in the largest metropolitan areas in the U.S. in terms of population. In
addition, we provide facility improvement and expansion funding, construction
financing and takeout commitments in certain circumstances. As of September 30, 2004, we had invested nearly $2.1 billion in 327 properties
located in 31 states, consisting of approximately 2,532 acres of land and
containing approximately 14.3 million square feet of buildings and
improvements. Our tenants operate 489 motor vehicle franchises on our
properties, representing 44 brands of motor vehicles, which include all of the
top selling brands in the U.S. The initial lease terms generally range from 10
to 20 years (with a weighted average initial lease term for leases entered into
during the quarter ended September 30, 2004 of approximately 17.7 years), with
our entire portfolio having a weighted average initial lease term of
approximately 15.0 years. As of September 30, 2004, our portfolio had a
weighted average remaining lease term of approximately 11.8 years. The leases
typically have options to renew upon generally the same terms and conditions
for one or more additional periods of five to 10 years each, exercisable at the
option of the tenants (with renewal options typically ranging from a total of
five to 40 years). Basis of Presentation The accompanying unaudited consolidated financial statements have been prepared
by management in accordance with accounting principles generally accepted in
the United States, commonly referred to as GAAP, for interim financial
information and in conformity with the rules and regulations of the Securities
and Exchange Commission, commonly referred to as the SEC. Accordingly, they do
not include all of the information and footnotes required by GAAP for complete
financial statements. In the opinion of management, all adjustments
(consisting of normal recurring adjustments) considered necessary for a fair
presentation have been included. The results of operations for the three
months and 7




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##### 



nine months ended September 30, 2004, are not necessarily indicative of the
results that may be expected for the full year. These financial statements
should be read in conjunction with our audited consolidated financial
statements and footnotes thereto, included in the Companys Annual Report on
Form 10-K for the fiscal year ended December 31, 2003. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements of the Company have been
prepared in accordance with GAAP and include the accounts of the Company, its
wholly-owned subsidiaries, and other entities where the Company has a majority
ownership, all of which it controls. The equity interests of other limited
partners are reflected as minority interest. All significant intercompany
transactions and balances have been eliminated in consolidation. Real Estate and Depreciation The purchase price of real estate properties acquired is allocated to the
various components, such as land, buildings and improvements, and in-place
leases as appropriate, in accordance with Statement of Financial Accounting
Standards, commonly referred to as SFAS, No. 141, Business Combinations. The
purchase price is allocated based on the fair value of each component at the
time of acquisition. The fair value of the buildings and improvements are
recorded at the cost of our acquisition which we believe approximates their
replacement costs. We generally do not acquire real estate assets that have
in-place leases. We typically execute our leases simultaneously with the
purchase of the real estate, and because of this, no value has been ascribed to
any in-place leases because we do not believe any exist. Therefore, we have
not recorded any lease intangible assets or liabilities on our consolidated
balance sheets as of September 30, 2004 and December 31, 2003. Depreciation is computed using the straight-line method over an estimated
useful life of 20 to 45 years for the buildings and improvements. Real estate
depreciation expense, including depreciation expense related to discontinued
operations, was approximately $9.1 million and $7.8 million for the three
months ended September 30, 2004 and 2003, respectively. Real estate
depreciation expense, including depreciation expense related to discontinued
operations, was approximately $26.8 million and $22.8 million for the nine
months ended September 30, 2004 and 2003, respectively. Furniture, Fixtures and Equipment Furniture, fixtures and equipment are recorded at cost. Depreciation is
calculated on a straight-line basis over the estimated useful lives of the
assets, ranging from three to five years. Total depreciation expense related
to our furniture, fixtures and equipment was approximately $16,000 and $18,000
for the three months ended September 30, 2004 and 2003, respectively. Total
depreciation expense related to our furniture, fixtures and equipment was
approximately $50,000 and $58,000 for the nine months ended September 30, 2004
and 2003, respectively. Improvement Fundings and Construction Financing We may fund facility improvements made by our tenants on our existing
properties. Improvements include costs incurred on facilities during which the
tenants business continues to operate without interruption. Improvement
fundings are recorded as buildings and improvements on our consolidated balance
sheets and the amounts charged to the tenant during the project are recorded as
rental revenue. Once the project is completed, the remaining useful life of
the buildings and improvements is determined and depreciation expense is
adjusted accordingly on a prospective basis. 8




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##### 



We may provide construction financing to our tenants in certain circumstances
in which we own or have a ground lease on the underlying land, which in both
cases is leased to the tenant. Construction financing includes fundings for
the construction of new facilities for which operations have not commenced or
fundings for major improvements to existing facilities that cause operations to
cease during the construction period. Fundings are recorded as construction
advances during the period of construction and the amounts charged to our
tenant during that time are recorded as interest income.After completion of
the project, the construction advances are paid down simultaneously with our
purchase of the buildings and improvements. The buildings and improvements are
acquired at fair market value and recorded as real estate on our consolidated
financial statements. Construction advances are included in other assets and
totaled approximately $9.4 million and $5.0 million as of September 30, 2004
and December 31, 2003, respectively. Cash and Cash Equivalents Cash and cash equivalents consist of highly liquid instruments purchased with
original maturities of three months or less. Restricted Cash Restricted cash consists primarily of cash reserved to fund debt service
payments and funds held in cash collateral accounts. In addition, as of
December 31, 2003, restricted cash also consisted of funds held in escrow
accounts related to the substitution of properties within an existing debt
agreement. The purpose of the cash collateral accounts is to hold funds,
generally in the amount of the interest rate swap valuations at any point in
time, to protect lenders in case of an early termination of the existing swaps
by us. The cash collateral accounts are controlled by the lenders; however, we
earn interest on the funds invested. The purpose of the escrow accounts
related to substitutions is to provide temporary collateral in conjunction with
property substitutions when the release of a mortgaged property occurs prior to
the lenders acceptance of a replacement property. The amount represents an
agreed upon amount of cash held in escrow until such property substitution is
completed, at which time the cash is returned to us. Restricted cash is
included in other assets and totaled approximately $13.3 million and $20.2
million as of September 30, 2004 and December 31, 2003, respectively. Deferred Loan Costs Certain costs incurred in connection with the issuance of debt instruments are
capitalized and generally amortized over the terms of the respective issuance
using the effective interest method or on a straight-line basis, which
approximates the effective interest method. Deferred loan costs include lender
fees and other third party costs. These costs, net of accumulated
amortization, are included in other assets and totaled approximately $23.5
million and $18.1 million as of September 30, 2004 and December 31, 2003,
respectively. Loan cost amortization expense was approximately $815,000 and
$675,000 for the three months ended September 30, 2004 and 2003, respectively.
Loan cost amortization expense was approximately $2.3 million and $1.9 million
for the nine months ended September 30, 2004 and 2003, respectively. Upon the
early extinguishment of debt instruments, we expense any associated unamortized
deferred loan costs in the period of the debt retirement. During the three
months and nine months ended September 30, 2004, we expensed approximately
$697,000 and $3.2 million of unamortized deferred loan costs attributable to
loans that were paid off. We did not have any such expenses during the nine
months ended September 30, 2003. Capitalized Leasing Costs Certain direct costs initially incurred by us in negotiating and consummating a
successful lease are 9




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##### 



capitalized and generally amortized over the initial base
term of the lease. Capitalized leasing costs
include employee compensation and payroll-related fringe benefits directly
related to time spent performing successful leasing-related activities. These
activities include evaluating the financial condition of prospective clients,
evaluating and recording guarantees, collateral and other security
arrangements, negotiating lease terms, preparing lease documents and closing
the transaction. These costs, net of accumulated amortization, are included in
other assets and totaled approximately $1.7 million and $1.4 million as of
September 30, 2004 and December 31, 2003, respectively. Leasing cost
amortization expense was approximately $47,000 and $44,000 for the three months
ended September 30, 2004 and 2003, respectively. Leasing cost amortization
expense was approximately $145,000 and $128,000 for the nine months ended
September 30, 2004 and 2003, respectively. Income Taxes We believe we are qualified and will continue to qualify as a real estate
investment trust, commonly referred to as a REIT, under the provisions of the
Internal Revenue Code of 1986, as amended. As a REIT, we are required to
distribute at least 90% of our taxable income to our shareholders and comply
with certain other requirements. We generally will not be subject to federal
income tax on taxable income that we distribute to our shareholders. The
Company is subject to certain state and local income and franchise taxes. Rental Revenue Recognition We lease our real estate pursuant to long-term, triple-net leases, under which
the tenants typically pay all operating expenses of a property, including, but
not limited to, all real estate taxes, assessments and other government
charges, insurance, utilities, repairs and maintenance. Our leases are
recorded as operating leases under SFAS No. 13, Accounting for Leases, for
financial reporting purposes. As such, the leased assets remain on our balance
sheet and we depreciate them based on their estimated useful lives. Rental
income attributable to the leases is recorded monthly when due from tenants.
Rental income attributable to the majority of our leases is fixed by the lease
agreement. However, under our variable rate lease program, monthly base rent
is calculated based on a spread over an applicable index, typically LIBOR. As
of September 30, 2004, approximately $406 million of our real estate portfolio,
or 20%, was subject to variable rate leases. This compares to $413 million of
our real estate portfolio, or 24%, that was subject to variable rate leases as
of September 30, 2003. The vast majority of our variable rate lease agreements
contain minimum lease rates, generally between 8% and 9%, and fixed rate
conversion features generally with minimum rates of 10.0% to 10.25%, and none
of these leases contains a maximum rate. Our leases typically provide for upward periodic adjustments in base rent due
from our tenants, usually based on a factor of the change in the consumer price
index, commonly referred to as CPI. In addition, certain of our leases are
subject to fixed minimum and/or maximum rent escalators during the initial
lease term and extension periods. Our leases typically reset to market during
certain renewal periods. The fixed minimum rent escalations are straight-lined
into rental income over the initial lease term. Any rent adjustments above the
fixed minimum escalations are recorded as revenue in the period they are due
from the tenants. Straight-lined rents are included in other assets and
totaled approximately $19.2 million and $16.7 million as of September 30, 2004
and December 31, 2003, respectively. Straight-lined rental revenue was
approximately $957,000 and $1.2 million for the three months ended September
30, 2004 and 2003, respectively. Straight-lined rental revenue was
approximately $3.1 million and $3.7 million for the nine months ended September
30, 2004 and 2003, respectively. Derivative Instruments During the normal course of business, we are exposed to certain financial
market risks, the most predominant being fluctuations in interest rates. In
general, our strategy of match-funding our long-term debt to our leases reduces
our exposure to interest rate fluctuations by substantially locking in our 10




---



##### 



investment spreads during the initial term of the leases. As part of this
strategy, we have used and may
continue to use interest rate swap arrangements to manage or hedge our interest
rate risk. We do not enter into interest rate swap arrangements for trading
purposes. We will either hedge our variable rate debt to convert it to a fixed
interest rate, designating such hedge as a cash flow hedge, or hedge our fixed
rate debt to convert it to a variable interest rate, designating such hedge as
a fair value hedge. The derivative instruments, including cash flow and fair value hedges that we
have entered into, have been designated as highly effective at the inception of
the swap arrangements. We continue to evaluate the highly effective nature of
those hedges and believe our hedges continue to be highly effective. For a derivative qualifying as a cash flow hedge, the change in the unrealized
gain or loss is recorded as a component of accumulated other comprehensive
income (loss) within shareholders equity on our consolidated balance sheets.
The fair value of the swap is recorded as either an asset or liability on our
consolidated balance sheets. For a derivative qualifying as a fair value hedge, the change in the net
unrealized gain or loss upon measuring the fair value hedge and the fair value
of the debt instrument being hedged is recorded on our consolidated statements
of operations. Generally, these amounts offset each other. The fair value of
the swap is recorded as either an asset or liability, with a corresponding
increase or decrease recorded to the carrying value of the debt instrument
being hedged on our consolidated balance sheets. Share-Based Compensation The Capital Automotive Group Second Amended and Restated 1998 Equity Incentive
Plan, which we refer to as the Plan, provides equity compensation to our
employees, officers, non-employee trustees and certain other service providers.
At September 30, 2004, we accounted for our Plan under the recognition and
measurement principles of APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related Interpretations. All options granted under this Plan
had exercise prices equal to or greater than the market value of the underlying
common stock on the date of grant. Therefore, no compensation expense is
reflected in net income for stock option-based awards. 11




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##### 



The following table illustrates the effect on net income and earnings per
common share if we had applied the fair value recognition provisions of SFAS
No. 123, Accounting for Stock-Based Compensation, and SFAS No. 148,
Accounting For Stock-Based Compensation  Transition and Disclosure, to
share-based compensation (in thousands, except per share data). For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Net income available to common
shareholders, as reported
    
    $
    18,689
    
    
    $
    13,071
    
    
    $
    43,683
    
    
    $
    37,718Add: Share-based compensation
expense included in reported net
income, net of minority interest
    
    
    318
    
    
    
    198
    
    
    
    913
    
    
    
    669Deduct: Total share-based
compensation expense determined
under the fair value-based method
for all awards, net of minority
interest
    
    
    (336
    )
    
    
    (236
    )
    
    
    (968
    )
    
    
    (787
    )Pro forma net income
    
    $
    18,671
    
    
    $
    13,033
    
    
    $
    43,628
    
    
    $
    37,600Basic earnings per common share:As reported
    
    $
    0.50
    
    
    $
    0.41
    
    
    $
    1.22
    
    
    $
    1.24Pro forma
    
    $
    0.50
    
    
    $
    0.41
    
    
    $
    1.22
    
    
    $
    1.24Diluted earnings per common share:As reported
    
    $
    0.50
    
    
    $
    0.40
    
    
    $
    1.21
    
    
    $
    1.22Pro forma
    
    $
    0.50
    
    
    $
    0.40
    
    
    $
    1.21
    
    
    $
    1.21
 Use of Estimates The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from
those estimates. Reclassifications Certain amounts in the 2003 consolidated financial statements have been
reclassified to conform with the current year presentation. 3. NEW ACCOUNTING PRONOUNCEMENTS In September 2004, the Emerging Issues Task Force, commonly referred to as the
EITF, reached a final consensus affirming their June 2004 tentative conclusion
(with modifications) on EITF Issue No. 04-8, The Effect of Contingently
Convertible Debt on Diluted Earnings Per Share. Contingently convertible debt
instruments, which are commonly referred to as Co-Cos and include our $110
million of 6% Convertible Notes, combine the features of contingently issuable
shares with a convertible debt instrument. These instruments generally become
convertible into common stock only if one or more specified contingencies
occur, and at least one of the contingencies is based on the market price of
the issuers shares. The EITF concluded that Co-Cos should be included in
diluted earnings per share computations using the if-converted method
regardless of whether the market price trigger or other 12




---



##### 



contingent feature has been met. Under current interpretations of Statement of Financial Accounting Standards,
commonly referred to as SFAS, No. 128, Earnings Per Share, issuers of Co-Cos
exclude the potential common shares underlying the Co-Co from the calculation
of diluted earnings per share until the market price or other contingency is
met. When the contingency is met, generally the if-converted method is used to
calculate the dilutive impact of the instrument. Under the if-converted
method, the instrument is considered converted, with the resulting number of
shares included in the denominator of the earnings per share calculation and
the interest expense, net of tax, added back to the numerator of the earnings
per share calculation. The Financial Accounting Standards Board, commonly referred to as the FASB,
plans to issue an amendment to SFAS No. 128 during the fourth quarter of 2004.
The amendment is expected to be effective for periods ending after December 15,
2004, and the consensus must be applied by restating all periods during which
the contingently convertible debt instrument was outstanding. We do not expect
the amendment to SFAS No. 128 to have a significant impact on our results of
operations and earnings per common share for the three months and nine months
ended September 30, 2004 and 2003. 4. REAL ESTATE INVESTMENTS During the third quarter of 2004, we completed approximately $46.6 million in
real estate investments, including two auto retail properties totaling
approximately $34.1 million, transacted with two existing tenants and
approximately $12.5 million in construction and improvement fundings,
transacted with four existing tenants. The third quarter real estate
investments contain 15 automotive franchises located in six states (Georgia,
New Jersey, Ohio, Pennsylvania, Rhode Island and Texas) and have a weighted
average initial lease term of approximately 17.7 years, with multiple renewal
options exercisable at the option of the tenants. The investments were funded
with borrowings on our short-term credit facilities and with cash on hand. 13




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##### 



5. DISCONTINUED OPERATIONS Beginning in 2002, SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, requires that gains and losses from dispositions of
properties and all operating earnings from these properties be reported as
discontinued operations. This also requires that all past earnings
applicable to a property disposed of subsequent to January 1, 2002 be reported
as discontinued operations. As a result, previously reported income from
continuing operations will be updated each time a property is sold. This
requirement is for presentation only and has no impact on net income. During the third quarter of 2004, we sold four auto retail locations for
approximately $20.1 million in sales proceeds to three dealer groups, resulting
in a combined gain of approximately $2.8 million before minority interest. In
exchange for early termination of the leases, we also received approximately
$937,000 in lease termination fees, which were recorded during the third
quarter. The earnings generated from these real estate dispositions, including
the combined gain recognized and lease termination fees, have been reported as
discontinued operations. The following table sets forth the components of discontinued operations
related to the 18 auto retail locations sold subsequent to January 1, 2003 (in
thousands): For the three months
    
    For the nine monthsended September 30,
    
    ended September 30,2004
    
    2003
    
    2004
    
    2003Revenue:Rental
    
    $
    12
    
    
    $
    1,673
    
    
    $
    1,697
    
    
    $
    5,041Other
    
    
    937
    
    
    
    
    
    
    
    2,360
    
    
    
    193Total revenue
    
    
    949
    
    
    
    1,673
    
    
    
    4,057
    
    
    
    5,234Expenses:Depreciation
    
    
    6
    
    
    
    353
    
    
    
    306
    
    
    
    1,067Interest
    
    
    8
    
    
    
    497
    
    
    
    426
    
    
    
    1,489Total expenses
    
    
    14
    
    
    
    850
    
    
    
    732
    
    
    
    2,556Income from discontinued operations before gain
on sale of real estate and minority interest
    
    
    935
    
    
    
    823
    
    
    
    3,325
    
    
    
    2,678Gain on sale of real estate
    
    
    2,772
    
    
    
    
    
    
    
    4,258
    
    
    
    75Income related to discontinued operations
before minority interest
    
    
    3,707
    
    
    
    823
    
    
    
    7,583
    
    
    
    2,753Minority interest related to discontinued operations
    
    
    (666
    )
    
    
    (169
    )
    
    
    (1,380
    )
    
    
    (597
    )Total discontinued operations, net of
minority interest
    
    $
    3,041
    
    
    $
    654
    
    
    $
    6,203
    
    
    $
    2,156
 6. DEBT OUTSTANDING Balance Sheet Restructuring and Debt Extinguishment Charges Second Quarter of 2004 As previously discussed in our Quarterly Report on Form 10-Q for the quarterly
period ended June 30, 2004, we initiated a significant restructuring of our
balance sheet by paying off approximately $306 14




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##### 



million of our outstanding debt with Ford Motor Credit Corporation (Ford)
during the second quarter of 2004. In April 2004, we repaid approximately $214
million of mortgage debt outstanding with Ford with a weighted average
remaining maturity of approximately 7.7 years. Of the total debt,
approximately $161 million was variable rate debt, with a weighted average
spread over LIBOR of 226 basis points, and approximately $53 million was
variable rate debt swapped to fixed rate debt, bearing interest at
approximately 7.6%. The net proceeds used to repay the debt were derived from
the following sources:  
    
    On April 2, 2004, we issued 1,000,000 common shares in an
underwritten public offering at an initial price to the public of
$35.15 per share, as further described in the Equity Transactions
footnote herein;
    
    On April 15, 2004, we closed on a public offering of $125
million 6.75% senior unsecured monthly income notes at par, as
further described in the Debt Outstanding section herein;
    
    On April 27, 2004, we issued 2,500,000 8% Series B
Cumulative Redeemable Preferred Shares at $25.00 per share, as
further described in the Equity Transactions footnote herein; and
    
    Approximately $23 million from borrowings on our
short-term credit facilities, which were subsequently repaid
during the second quarter of 2004, and cash on hand due to the
timing of the equity and debt transactions noted above. As a result of these transactions, on April 1, 2004, we terminated our $60
million unsecured credit facility, which prohibited the issuance of senior
unsecured debt. As of March 31, 2004, the facility had no amounts outstanding
and was expected to remain principally unused until its expiration in March
2005. In May 2004, we repaid the remainder of our outstanding Ford debt totaling
approximately $92 million, which had an effective interest rate of
approximately 7.84% with a remaining maturity of approximately 7.2 years, and
paid the related prepayment penalties totaling approximately $2.2 million. The
debt was repaid with a portion of the net proceeds derived from our May 12,
2004 public offering of $110 million of 6% Convertible Notes, as further
described in the Debt Outstanding section herein. As a result of the above transactions, we incurred debt extinguishment charges
totaling approximately $8.7 million, or $0.20 per share to net income available
to common shareholders. The debt extinguishment charges consisted of the
following:  
    
    Swap breakage fees totaling approximately $4.0 million
related to the repayment of variable rate debt with Ford that had
been swapped to a fixed rate;
    
    The write-off of deferred loan fees related to the loans
that were paid off and the termination of our $60 million
unsecured credit facility totaling approximately $2.5 million; and
    
    Prepayment penalties totaling approximately $2.2 million
related to the repayment of the fixed rate debt with Ford. Third Quarter of 2004 In August 2004, we repaid approximately $211.7 million of variable rate debt
(consisting of $113.4 million of secured debt, $4.3 million of unsecured debt
and borrowings on our secured credit facilities totaling $94.0 million). The
debt repaid (excluding the borrowings on our secured credit facilities) had a 15




---



##### 



weighted average spread over LIBOR of 278 basis points with a weighted average
remaining maturity of approximately 6.4 years. The borrowings on our secured
credit facilities had spreads over LIBOR ranging from 285 to 323 basis points.
We have not terminated our secured credit facilities, which are scheduled to
mature in 2005. The debt was repaid with the net proceeds derived from the
closing of our unsecured revolving credit and term loan facility during August
2004, as further described in the Debt Outstanding section herein, and the
issuance of 1,700,000 common shares in an underwritten public offering in
August 2004, as further described in the Equity Transactions footnote herein. As a result of the debt repayment, we incurred debt extinguishment charges
totaling approximately $697,000, or $0.02 per share to net income available to
common shareholders. The debt extinguishment charges consisted of the write-off
of deferred loan fees related to the loans that were paid off during the third
quarter. 16




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##### 



Debt Outstanding The following is a summary of our total debt outstanding as of September 30,
2004 and December 31, 2003 (dollars in thousands): Principal
    
    PrincipalBalance as of
    
    Balance as
    
    Effective
    
    Term/Original
    
    September 30,
    
    of December 31,
    
    Interest
    
    AmortizationDescription of Debt
    
    Debt Issued
    
    2004
    
    2003
    
    Rate*
    
    Schedule7.59% fixed rate debt due 12/1/08 (1)
    
    
    38,050
    
    
    $
    31,911
    
    
    $
    33,046
    
    
    
    7.96
    %
    
    10 yr/17 yr7.50% fixed rate debt due 8/10/13 (2)
    
    
    82,600
    
    
    
    74,340
    
    
    
    75,717
    
    
    
    7.62
    %
    
    12 yr/30 yr5.84% fixed rate debt due 2/1/14 (3)
    
    
    11,900
    
    
    
    11,781
    
    
    
    
    
    
    
    6.12
    %
    
    10 yr/25 yr6.77% fixed rate debt due 7/1/14 (4)
    
    
    20,400
    
    
    
    20,060
    
    
    
    20,400
    
    
    
    6.88
    %
    
    10.5 yr/30 yrTriple Net Lease Mortgage Notes, Series 2002
(5)
    
    
    325,000
    
    
    
    296,093
    
    
    
    306,251
    
    
    
    7.70
    %
    
    
    (5
    )Triple Net Lease Mortgage Notes, Series
2003-1 (6)
    
    
    228,000
    
    
    
    218,730
    
    
    
    223,469
    
    
    
    5.86
    %
    
    
    (6
    )Various fixed rate debt (7)
    
    
    160,554
    
    
    
    
    
    
    
    145,765
    
    
    
    
    
    
    
    (7
    )Total Mortgage Fixed Rate Debt
    
    
    
    
    
    $
    652,915
    
    
    $
    804,648
    
    
    
    7.03
    %Variable rate debt due 10/31/14 (8)
    
    
    8,720
    
    
    
    8,647
    
    
    
    
    
    
    
    3.92
    %
    
    10.5 yr/30 yrVarious variable rate debt (9)
    
    
    296,665
    
    
    
    
    
    
    
    261,436
    
    
    
    4.34
    %
    
    
    (9
    )Total Mortgage Variable Rate Debt
    
    
    
    
    
    $
    8,647
    
    
    $
    261,436
    
    
    
    4.29
    %TOTAL MORTGAGE DEBT (10)
    
    
    
    
    
    $
    661,562
    
    
    $
    1,066,084
    
    
    
    6.76
    %Variable rate debt due 10/2/08 (11)
    
    
    4,500
    
    
    
    
    
    
    
    4,425
    
    
    
    4.21
    %
    
    
    (11
    )Variable rate debt due 8/20/09 (12)
    
    
    150,000
    
    
    
    150,000
    
    
    
    
    
    
    
    3.60
    %
    
    
    (12
    )6.75% Monthly Income Notes due 4/15/19 (13)
    
    
    125,000
    
    
    
    125,000
    (14)
    
    
    
    
    
    
    4.35
    %
    
    
    (13
    )6% Convertible Notes due 5/15/24 (15)
    
    
    110,000
    
    
    
    110,000
    
    
    
    
    
    
    
    6.59
    %
    
    
    (15
    )TOTAL UNSECURED DEBT
    
    
    
    
    
    $
    385,000
    
    
    $
    4,425
    
    
    
    4.98
    %$100 million revolving secured facility (16)
    
    
    
    
    
    
    
    
    
    
    49,326
    
    
    
    4.65
    %
    
    
    (16
    )$100 million revolving secured construction
facility (17)
    
    
    
    
    
    
    
    
    
    
    25,683
    
    
    
    4.27
    %
    
    
    (17
    )$250 million revolving unsecured facility
(12)
    
    
    
    
    
    
    10,000
    
    
    
    
    
    
    
    3.91
    %
    
    
    (12
    )TOTAL CREDIT FACILITIES
    
    
    
    
    
    $
    10,000
    
    
    $
    75,009
    
    
    
    4.38
    %TOTAL DEBT OUTSTANDING
    
    
    
    
    
    $
    1,056,562
    (14)
    
    $
    1,145,518
    
    
    
    6.16
    %
  *
    
    For the quarter ended September 30, 2004. Includes deferred loan
fees amortized over the life of the loans.(1)
    
    This loan requires monthly payments of principal and interest with a
final payment at maturity of approximately $24.2 17




---



##### 



million. The Partnership has provided a guaranty of collection limited to
approximately $8.9 million of this loan, contingent upon the lender first
making written demand upon and proceeding against the borrower, including
obtaining judgment and foreclosing upon all collateral. All amounts
recovered from the borrower or collateral following a default reduce such
guarantee.(2)
    
    This loan requires quarterly interest and level principal payments
with a final payment at maturity of approximately $49.6 million. This
loan bears interest equal to the 30-day LIBOR rate plus 175 basis
points. We have entered into an interest rate swap arrangement with a
third party to fix the interest rate on this loan.(3)
    
    This loan requires monthly level payments of principal and interest
with a final payment at maturity of approximately $9.2 million.(4)
    
    This loan requires quarterly interest and level principal payments
with a final payment at maturity of approximately $13.3 million. This
loan bears interest equal to the three-month LIBOR rate plus 225 basis
points. We have entered into an interest rate swap arrangement with a
third party to fix the interest rate on this loan.(5)
    
    During 2002, we issued $325 million in four classes of Triple Net
Lease Mortgage Notes, Series 2002. CARS Loan Servicer L.L.C., one of
our subsidiaries, is servicer of the notes on behalf of the noteholders.
The following is a breakdown of the Triple Net Lease Mortgage Notes,
Series 2002 by class: Original Principal
    
    Current PrincipalClass
    
    Balance
    
    Balance
    
    Maturity DateA-1a
    
    
    164,136
    
    
    
    144,202
    
    
    
    8/15/14A-1b
    
    
    9,064
    
    
    
    9,064
    
    
    
    7/15/15A-2
    
    
    75,900
    
    
    
    66,927
    
    
    
    7/15/15A-3
    
    
    75,900
    
    
    
    75,900
    
    
    
    6/15/22
  Classes A-1a and A-1b are fully-amortizing in succession over their
respective terms and Classes A-2 and A-3 are fully-amortizing in
succession over 20 years. The Partnership has provided a guaranty of
collection limited to approximately $35 million of this loan, contingent
upon the trustee first making written demand upon and proceeding against
the borrower, including obtaining judgment and foreclosing upon all
collateral. All amounts recovered from the borrower or collateral
following a default reduce such guarantee. In connection with the
issuance of this debt, the Company guarantees certain customary,
non-recourse, carveout indemnities. Additionally, in conjunction with the
servicing of the debt, the Company guarantees CARS Loan Servicer, L.L.C.s
obligations to make certain principal, interest and property protection
advances.(6)
    
    During 2003, we issued $228 million in two classes of Triple Net
Lease Mortgage Notes, Series 2003-1. CARS Loan Servicer L.L.C. is
servicer of the notes on behalf of the noteholders. The following is a
breakdown of the Triple Net Lease Mortgage Notes, Series 2003-1 by
class: Original Principal
    
    Current PrincipalClass
    
    Balance
    
    Balance
    
    Maturity DateA-1
    
    
    109,000
    
    
    
    99,730
    
    
    
    9/25/15A-2
    
    
    119,000
    
    
    
    119,000
    
    
    
    3/25/19
  The notes amortize in succession over a 20-year amortization schedule with
the Class A-1 notes fully-amortizing and the Class A-2 notes requiring a
final payment at maturity of approximately $70.8 million. In connection
with the issuance of this debt, the Company guarantees certain customary,
non-recourse, carveout indemnities. Additionally, in conjunction with the
servicing of the debt, the Company guarantees CARS Loan Servicer, L.L.C.s
obligations to make certain principal, interest and property protection
advances.(7)
    
    This represents debt that was outstanding with Ford totaling
approximately $145 million, which was repaid during the second quarter
of 2004, as further described above in the Balance Sheet Restructuring
and Debt Extinguishment Charges section herein.(8)
    
    This loan requires monthly interest and level principal payments with
a final payment at maturity of approximately $5.7 million. This loan
bears interest equal to the three-month LIBOR plus 225 basis points.(9)
    
    This represents debt that was outstanding with various lenders, of
which approximately $161 million was repaid during the second quarter of
2004 and $113 million was repaid during the third quarter of 2004, as
further described above in the Balance Sheet Restructuring and Debt
Extinguishment Charges section herein.(10)
    
    Certain amounts of our mortgage debt are subject to prepayment
penalties.(11)
    
    This loan, totaling approximately $4 million, was repaid during the
third quarter of 2004, as further described above in the Balance Sheet
Restructuring and Debt Extinguishment Charges section herein.(12)
    
    On August 20, 2004, we closed on a syndicated unsecured revolving
credit and term loan facility to replace the credit 18




---



##### 



facility we terminated in April 2004 and to refinance certain of our
existing secured debt. The revolving credit portion of the facility is
$250 million with an initial three-year term and an option to extend the
term for an additional one-year period. The term loan portion of the
facility is a $150 million five-year unsecured term loan and requires
interest-only payments until maturity, at which time the loan requires a
final payment totaling $150 million. The facility bears interest at a
spread, generally over LIBOR, and adjusts over time, based upon our
leverage or our debt rating, if elected. As of September 30, 2004, the
borrowings under the facility bear interest equal to 30-day LIBOR rate
plus 145 basis points. At closing, net proceeds to the Company from the
facility, after deducting expenses, totaled approximately $197.4 million
(representing the $150 million term loan portion and borrowings on the
revolving credit facility portion totaling $50 million). The net proceeds
were used to repay approximately $94 million of borrowings under our
short-term secured credit facilities, to pay off approximately $89.8
million of debt outstanding (see Balance Sheet Restructuring and Debt
Extinguishment Charges section herein), to fund acquisitions and for
general corporate purposes.(13)
    
    On April 15, 2004 we closed on a public offering of $125 million
6.75% senior unsecured monthly income notes at par. The notes were
issued under our shelf registration statement filed with the SEC on June
25, 2003, which we refer to as the 2003 Shelf Registration Statement.
Interest on the notes is payable monthly. The notes have a 15-year term
and are redeemable at the Companys option after five years at par. On
March 18, 2004, which was the date the Company priced the notes, we
entered into an interest rate swap arrangement with a third party to
cause the interest rate on $100 million of the notes effectively to be
at a floating rate of the three-month LIBOR plus 162.4 basis points.
The unrealized loss on our fair value hedge was approximately $3.4
million as of September 30, 2004, as further described in the Interest
Rate Swaps section herein. The net proceeds to the Company, after
deducting the discounts and commissions to the underwriters and other
expenses of the offering, totaled approximately $121 million. The net
proceeds were used to pay off a portion of the debt outstanding with
Ford during the second quarter of 2004, as further described above in
the Balance Sheet Restructuring and Debt Extinguishment Charges section
herein.(14)
    
    Although the principal balance of the $125 million 6.75% senior
unsecured monthly income notes was $125 million as of September 30,
2004, in accordance with GAAP, the carrying value of the debt on our
balance sheet has been reduced by $3.4 million, representing the change
in the fair value of the swap described in footnote (13) and as more
fully described in the Interest Rate Swaps section.(15)
    
    On May 12, 2004, we closed on a public offering of $110 million 6%
convertible notes. The notes were issued under our 2003 Shelf
Registration Statement. The notes have a 20-year term and are
convertible, at the option of the holder, into the Companys common
shares under certain circumstances, at an initial conversion price of
$35.5679 per share, subject to certain adjustments. The initial price
is equivalent to a conversion rate of 28.1152 shares per $1,000
principal amount of notes and equivalent to a premium of 30%. The
conversion rate will be adjusted under certain circumstances, including
common stock splits, common stock issuances as dividends and increases
in the dividend rate. The Company may, at its option, redeem the notes
for cash on or after May 15, 2009, at any time, in whole or, from time
to time, in part, at a redemption price equal to 100% of the principal
amount to be redeemed plus accrued and unpaid interest. The noteholders
may require us to repurchase all or part of the notes on May 15, 2009,
May 15, 2014 and May 15, 2019, or upon a change in control, at a price
equal to 100% of the principal amount plus accrued and unpaid interest.
The notes require semi-annual interest payments. The deferred loan fees
associated with this debt are being amortized over a five-year period.
The net proceeds to the Company, after deducting the discounts and
commission to the underwriters and other expenses of the offering,
totaled approximately $107 million. The net proceeds were used to pay
off a portion of the debt outstanding with Ford and the related
prepayment penalties, as further described above in the Balance Sheet
Restructuring and Debt Extinguishment Charges section herein, to fund
acquisitions and for general corporate purposes. In September 2004, the
EITF reached a final consensus affirming their June 2004 tentative
conclusion on EITF Issue No. 04-8, The Effect of Contingently
Convertible Debt on Diluted Earnings Per Share, as further described in
the New Accounting Pronouncements footnote herein.(16)
    
    Amounts borrowed under this facility bear interest at market rates
determined at the time of each draw until such time as the Company and
the lender set an interest rate for any future amounts borrowed under
the facility. Properties are eligible within the borrowing base for 150
days, unless extended by the Company and the lender. The facility has a
one-year term, which matures on March 21, 2005, and is renewable
annually.(17)
    
    This construction credit facility provides for a one-year term.
Amounts borrowed under this facility bear interest equal to a spread
over LIBOR as determined at the time of each draw. Properties are
eligible within the borrowing base for 12 months, unless extended by the
Company and the lender. The facility matures on June 22, 2005, and is
renewable annually. 19




---



##### 



Our secured debt generally contains customary covenants, including, among
others, provisions:  
    
    relating to the maintenance of the property securing the
debt;
    
    restricting our ability to sell, assign or further
encumber the properties securing the debt;
    
    restricting our ability to incur additional debt;
    
    restricting our ability to amend or modify existing leases; and
    
    certain prepayment restrictions. Our unsecured debt generally contains various restrictive covenants. The
covenants in our unsecured debt include, among others, provisions restricting
our ability to:  
    
    incur or guarantee additional debt;
    
    make certain distributions, investments and other
restricted payments, including distribution payments on our
outstanding common and preferred shares;
    
    limit the ability of restricted subsidiaries to make payments to us;
    
    enter into transactions with certain affiliates;
    
    create certain liens; and
    
    consolidate, merge or sell our assets. The more significant financial covenants related to our debt include:  
    
    minimum debt service coverage ratios;
    
    minimum fixed charge coverage ratios;
    
    maximum debt to adjusted net worth ratios, including
maximum unsecured debt to unencumbered asset ratios;
    
    maintenance of a minimum combined equity value or consolidated net worth; and
    
    maximum dividend payout ratios. As of September 30, 2004, we were in compliance with all of the debt covenants
related to our debt outstanding. 20




---



##### 



Aggregate annual repayments of our debt outstanding (excluding borrowings on
our credit facilities) as of September 30, 2004 are as follows (in thousands): For the Year Ended
    
    PrincipalDecember 31,
    
    Amortization
    
    Maturities
    
    Total2004
    
    $
    6,546
    
    
    $
    
    
    
    $
    6,5462005
    
    
    27,156
    
    
    
    
    
    
    
    27,1562006
    
    
    28,866
    
    
    
    
    
    
    
    28,8662007
    
    
    30,703
    
    
    
    
    
    
    
    30,7032008
    
    
    32,459
    
    
    
    24,211
    
    
    
    56,670Thereafter
    
    
    363,136
    
    
    
    533,485
    
    
    
    896,621Total
    
    $
    488,866
    
    
    $
    557,696
    
    
    $
    1,046,562
 Interest Rate Swaps We have entered into interest rate swap arrangements with third parties to
manage or hedge our risk related to the effect of interest rate fluctuations on
our investment spreads. We do not use derivative instruments for speculative
purposes. We will either hedge our variable rate debt to convert it to a fixed
interest rate, designating such hedge as a cash flow hedge, or hedge our fixed
rate debt to convert it to a variable interest rate, designating such hedge as
a fair value hedge. The cash flow and fair value hedges were designed to
mirror the underlying debt in terms of index, spread, reset, amortization,
compounding and maturity. Due to the identical nature of the terms of the swap
arrangements and the underlying terms of the debt, the swaps were designated as
highly effective at the inception of the swap arrangements. We continue to
evaluate the highly effective nature of those hedges and believe our hedges
continue to be highly effective. For all swap arrangements, we are required
to post collateral, generally in the amount of the swap valuations at any point
in time, to protect the lenders in case of an early termination by us. The collateral posted by us related to our hedges, totaling approximately $11.9
million and $12.8 million as of September 30, 2004 and December 31, 2003,
respectively, is included in other assets on our consolidated balance sheets. As of September 30, 2004, we have two interest rate swap arrangements with
third parties to fix the interest rate on the underlying variable rate debt,
with an initial notional balance totaling approximately $100 million, which we
have designated as cash flow hedges. During the second quarter of 2004, we
terminated two interest rate swap arrangements with notional balances totaling
approximately $58 million as part of our debt restructuring, as further
described in the Balance Sheet Restructuring and Debt Extinguishment Charges
section herein. In conjunction with the early termination of these swap
arrangements, we incurred swap breakage fees totaling approximately $4.0
million. For a derivative qualifying as a cash flow hedge, the change in the unrealized
gain or loss is recorded as a component of accumulated other comprehensive
income (loss) within shareholders equity on our consolidated balance sheets.
The fair value of the swap is recorded as either an asset or liability on our
consolidated balance sheets. The unrealized loss on our cash flow hedges was approximately $8.5 million and
$13.5 million as of September 30, 2004 and December 31, 2003, respectively.
Total comprehensive income for the three months ended September 30, 2004 and
2003 was approximately $19.3 million and $16.8 million, respectively. Total
comprehensive income for the nine months ended September 30, 2004 and 2003 was
approximately $55.6 million and $37.6 million, respectively. 21




---



##### 



On March 18, 2004, in conjunction with pricing of the $125 million 6.75% senior
unsecured monthly income notes, we entered into an interest rate swap
arrangement with a third party to cause the interest rate on $100 million of
the fixed rate debt effectively to be at a floating rate of the three-month
LIBOR plus 162.4 basis points. At the time we entered into the swap, we had a
firm commitment to close the debt on April 15, 2004. Therefore, we hedged our
firm commitment and the debt. The swap arrangement has been designated as a
fair value hedge. For a derivative qualifying as a fair value hedge, the change in the net
unrealized gain or loss upon measuring the fair value hedge and the fair value
of the debt instrument being hedged is recorded on our consolidated statements
of operations. Generally, these amounts offset each other. The fair value of
the swap is recorded as either an asset or liability, with a corresponding
increase or decrease recorded to the carrying value of the debt instrument
being hedged on our consolidated balance sheets. The unrealized loss on our fair value hedge was approximately $3.4 million as
of September 30, 2004. The net unrealized gain or loss on our fair value hedge
and the debt being hedged had no impact on our net income for the three months
and nine months ended September 30, 2004. 7. EQUITY TRANSACTIONS Common Shares On February 9, 2004, we sold 1,825,000 common shares in an underwritten public
offering at an initial price to the public of $35.40 per share under our 2003
Shelf Registration Statement. Net proceeds to the Company, after deducting the
discounts and commissions to the underwriters and other expenses of this
offering, totaled approximately $61.6 million. The Company contributed the net
proceeds of the offering to the Partnership in exchange for Common Units in the
Partnership and used the net proceeds to fund acquisitions, to repay borrowings
under our short-term credit facilities and for general corporate purposes. On April 2, 2004, we issued 1,000,000 common shares in an underwritten public
offering at an initial price to the public of $35.15 per share under our 2003
Shelf Registration Statement. Net proceeds to the Company, after deducting the
discounts and commissions to the underwriter and other expenses of this
offering, totaled approximately $35.0 million. The Company contributed the net
proceeds of the offering to the Partnership in exchange for Common Units in the
Partnership and used the net proceeds to repay $18.0 million of borrowings
under our short-term credit facilities and to pay off a portion of the debt
outstanding with Ford. On August 27, 2004, we issued 1,700,000 common shares in an underwritten public
offering, including 100,000 common shares issued pursuant to the exercise of
the underwriters over-allotment option, at an initial price to the public of
$28.95 per share. The shares were issued under our shelf registration filed
with the SEC on June 4, 2004, which we refer to as the 2004 Shelf Registration
Statement. Net proceeds to the Company, after deducting the discounts and
commissions to the underwriter and other expenses of this offering, totaled
approximately $48.5 million. The Company contributed the net proceeds of the
offering to the Partnership in exchange for Common Units in the Partnership and
used the net proceeds to repay approximately $27.9 million of debt outstanding,
to repay borrowings under our short-term credit facilities, to fund
acquisitions and for general corporate purposes. Preferred Shares On April 27, 2004, we issued 2,500,000 8% Series B Cumulative Redeemable
Preferred Shares at $25.00 per share. On May 4, 2004, upon exercise of the
underwriters over-allotment option, we issued an additional 100,000 Series B
preferred shares at $25.00 per share. The Series B preferred shares were 22




---



##### 



issued under our 2003 Shelf Registration Statement. Net proceeds to the
Company, after deducting the discounts and commissions to the underwriters and
other expenses of this offering, totaled approximately $63.2 million. The
Company contributed the net proceeds of the offering to the Partnership in
exchange for Series B Preferred Units in the Partnership. Of the total net
proceeds, approximately $53 million was used to pay off a portion of the debt
outstanding with Ford and the remaining proceeds were used to fund acquisitions
and for general corporate purposes. The preferred shares are non-voting and redeemable for cash, at $25.00 per
share plus any accrued and unpaid dividends, at our option on or after April
27, 2009, unless in limited circumstances in which early redemption is
necessary to preserve our status as a real estate investment trust for federal
income tax purposes. The preferred shares have no stated maturity and are not
subject to any sinking fund provisions. Additionally, the shares are not
convertible into or exchangeable for any other security unless conversion is
necessary to maintain our status as a real estate investment trust. Holders of
preferred shares are entitled to cumulative cash dividends at a rate of 8% of
the $25.00 liquidation preference per year (equivalent to $2.00 per year per
share), payable quarterly (when and as declared by the Board of Trustees). In
the case of the preferred shares, there are Series B Preferred Units in the
Partnership owned by us that carry substantially the same terms. 8. MINORITY INTEREST Assets and liabilities allocated to the limited partners (other than the
Company), which we describe as the Minority Interest, are based on their
ownership percentage of the Partnership at the end of the period. The
ownership percentage is determined by dividing the number of Common Units held
by the Minority Interest at the end of the period by the total Common Units
outstanding at the end of the period, excluding derivative securities. The
full redemption amount of the Preferred Units is deducted from the
Partnerships equity prior to applying the ownership percentage to calculate
Minority Interest. The Minority Interest ownership percentage in the
Partnerships equity was 17.5% and 19.3% as of September 30, 2004 and December
31, 2003, respectively. Income before minority interest is allocated to the limited partners based on
their weighted average ownership during the period. The ownership percentage
is determined by dividing the weighted average number of Common Units held by
the Minority Interest by the total weighted average number of Common Units
outstanding during the period, excluding derivative securities. Income before
minority interest is reduced by Preferred Unit dividends prior to applying the
ownership percentage. The Minority Interest ownership percentage in income of
the Partnership was 18.0% and 20.6% for the three months ended September 30,
2004 and 2003, respectively. The Minority Interest ownership percentage in
income of the Partnership was 18.1% and 21.6% for the nine months ended
September 30, 2004 and 2003, respectively. Holders of Common Units, which we refer to as Unitholders, are entitled to
quarterly distributions which are equivalent to the quarterly dividend
distributions received by holders of common shares. There were 8.1 million and
7.9 million Common Units as of September 30, 2004 and December 31, 2003,
respectively, not held by the Company, which were outstanding and could be
exchanged for common shares of the Company on a one-for-one basis in specified
circumstances. When a Unitholder converts Common Units to shares of common
stock, an adjustment is recorded to equity to reflect the change in the
Minority Interest ownership in the Partnership. When the Company issues common
shares from an underwritten public offering, its share-based compensation plan
and its Dividend Reinvestment and Share Purchase Plan, the net proceeds from
these issuances are contributed to the Partnership in exchange for Common Units
in the Partnership and an adjustment is recorded to equity to reflect the
change in the Minority Interest ownership in the Partnership. 23




---



##### 



9. EARNINGS PER COMMON SHARE Basic earnings per common share is computed as net income available to common
shareholders divided by the weighted average common shares, excluding
restricted shares, outstanding for the period. Diluted earnings per common
share is computed as net income available to common shareholders, adjusted to
reflect the change in the income allocated to minority interest calculated as
if the dilutive securities were outstanding, divided by the weighted average
common shares outstanding for the period plus the effect of dilutive securities
outstanding for the period, based on the treasury stock method. Dilutive
securities include options, warrants, phantom shares and restricted shares. A reconciliation of income and weighted average common shares used to calculate
basic and diluted earnings per common share for the three months and nine
months ended September 30, 2004 and 2003 is as follows (in thousands, except
per share data): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Income from continuing operations
    
    $
    18,800
    
    
    $
    12,417
    
    
    $
    45,260
    
    
    $
    35,562Preferred share dividends
    
    
    (3,152
    )
    
    
    
    
    
    
    (7,780
    )
    
    
    Income from continuing operations used to
calculate basic earnings per common share
    
    
    15,648
    
    
    
    12,417
    
    
    
    37,480
    
    
    
    35,562Impact of dilutive securities
    
    
    82
    
    
    
    64
    
    
    
    91
    
    
    
    56Income from continuing operations used to
calculate diluted earnings per common
share
    
    $
    15,730
    
    
    $
    12,481
    
    
    $
    37,571
    
    
    $
    35,618Basic earnings per common share
    
    $
    0.42
    
    
    $
    0.39
    
    
    $
    1.05
    
    
    $
    1.17Diluted earnings per common share
    
    $
    0.42
    
    
    $
    0.38
    
    
    $
    1.04
    
    
    $
    1.14Net income available to common shareholders
    
    $
    18,689
    
    
    $
    13,071
    
    
    $
    43,683
    
    
    $
    37,718Impact of dilutive securities*
    
    
    (4
    )
    
    
    67
    
    
    
    115
    
    
    
    239Net income used to calculate diluted
earnings per common share
    
    $
    18,685
    
    
    $
    13,138
    
    
    $
    43,798
    
    
    $
    37,957Basic earnings per common share
    
    $
    0.50
    
    
    $
    0.41
    
    
    $
    1.22
    
    
    $
    1.24Diluted earnings per common share
    
    $
    0.50
    
    
    $
    0.40
    
    
    $
    1.21
    
    
    $
    1.22Weighted average shares:Common shares outstanding used to compute
basic earnings per common share
    
    
    37,021
    
    
    
    31,919
    
    
    
    35,714
    
    
    
    30,303Impact of dilutive securities
    
    
    372
    
    
    
    812
    
    
    
    479
    
    
    
    895Common shares outstanding used to compute
diluted earnings per common share
    
    
    37,393
    
    
    
    32,731
    
    
    
    36,193
    
    
    
    31,198
 * Three months ended September 30, 2004 and September 30, 2003 include the
effect of adjusting minority interest using the weighted average shares
outstanding for the nine months ended September 30, 2004 and September 30,
2003. 24




---



##### 



10. DIVIDENDS DECLARED PER SHARE The following table summarizes any activity related to our dividends during the
nine months ended September 30, 2004: Record Date
    
    Date Payable
    
    Per ShareSeries A Preferred Shares:December 11, 2003 - January 31, 2004 (1)
    
    February 2, 2004
    
    February 17, 2004
    
    $
    0.26042February 1, 2004 - April 30, 2004
    
    May 3, 2004
    
    May 17, 2004
    
    $
    0.46875May 1, 2004 - July 31, 2004
    
    August 2, 2004
    
    August 16, 2004
    
    $
    0.46875August 1, 2004  October 31, 2004
    
    November 1, 2004
    
    November 15, 2004
    
    $
    0.46875Series B Preferred Shares:April 27, 2004 - July 31, 2004 (1)
    
    August 2, 2004
    
    August 16, 2004
    
    $
    0.52220August 1, 2004  October 31, 2004
    
    November 1, 2004
    
    November 15, 2004
    
    $
    0.50000Common Shares:Fourth Quarter 2003
    
    February 9, 2004
    
    February 19, 2004
    
    $
    0.41650First Quarter 2004
    
    May 10, 2004
    
    May 20, 2004
    
    $
    0.42000Second Quarter 2004
    
    August 9, 2004
    
    August 20, 2004
    
    $
    0.42300Third Quarter 2004
    
    November 8, 2004
    
    November 19, 2004
    
    $
    0.42650
 (1) Initial dividend payment was prorated from the original issuance date
through the date indicated. 11. LEGAL PROCEEDINGS We are engaged in litigation relating to the activities of Michael Burkitt, a
former employee who left to become President, Chief Executive Officer, and a
member of the board of directors of Milestone Realty Trust, a Maryland
corporation, which we refer to as Milestone. We filed a motion for judgment in
the Circuit Court of Fairfax County, Virginia against Mr. Burkitt seeking
injunctive relief, punitive damages and actual damages resulting from Mr.
Burkitts alleged misappropriation of our trade secrets, breaches of his
fiduciary duties to us, and his misstatements to third parties regarding his
role and activities as an employee of ours. Milestone, together with three of its sponsors and investors, then filed suit
against us in the District Court in Dallas County, Texas, seeking injunctive
relief, actual damages of at least $150,000,000 and treble damages resulting
from our alleged attempt to interfere with Milestones business relationships
with potential investors and tenants and its efforts to raise capital. On April
6, 2004, the Dallas District Court issued a temporary restraining order against
us and related parties. The temporary restraining order has expired and is no
longer in effect. On June 25, 2004, the Circuit Court of Fairfax County granted us permission to
amend our motion for judgment and add new parties. We have added Milestone,
The Staubach Company, Staubach Retail Services, Inc., Cypress Equities, L.L.C.,
Presidio Financial Partners, L.L.C., and John Geller (who resigned from his
position at Ernst & Young LLP, where he served as our audit partner, to become
the Chief Financial Officer of Milestone) as defendants and Capital Automotive
L.P. as co-plaintiff to our Fairfax, Virginia suit for misappropriation of
trade secrets, breaches of fiduciary duty, tortious interference with CARS
business relationships, and conspiracies to injure CARS in its reputation,
trade, business, and profession. We are seeking $250,000,000 in compensatory
and punitive damages, and three-fold damages pursuant to Virginias conspiracy
statute, and injunctive relief pursuant to the Virginia Uniform Trade Secrets
Act. 25




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##### 



Although no assurance can be provided with respect to any litigation, we
believe that the allegations against us in the Texas petition are without merit
and that we have meritorious defenses to the claims made in the petition. We
intend to prosecute our case and defend ourselves vigorously, and management
does not anticipate that the litigation will have a material adverse effect on
our financial position or results of operations. 26




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##### 



Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations We begin Managements Discussion and Analysis of Financial Condition and
Results of Operations (MD&A) with our primary business strategy to give the
reader an overview of the goals of our business. This is followed by a
discussion of our recent developments beginning on page 28 and new accounting
pronouncements on page 29. In the next section, beginning on page 29, we
discuss our results of operations for the periods presented. We then provide,
beginning on page 34, an analysis of our liquidity and capital resources,
including discussions of our cash flows, financing strategy, debt arrangements,
sources of capital and financial commitments. Finally, on page 48, we discuss
funds from operations, or FFO, which is a relative non-GAAP financial measure
of performance of an equity REIT used by the REIT industry. The MD&A should be read in conjunction with the other sections of this
Quarterly Report on Form 10-Q, including the consolidated financial statements
and notes thereto appearing in Item 1 of this report, disclosures about our
market risk appearing in Item 3 of this report and the subsection captioned
Forward-Looking Statements herein. OVERVIEW Our primary business strategy is to purchase real estate (land, buildings and
other improvements), which we simultaneously lease to operators of franchised
automobile dealerships and motor vehicle service, repair or parts businesses,
used vehicle businesses and other related businesses under long-term,
triple-net leases. We use (i) the term dealerships to refer to these types of
businesses that are operated on our properties and (ii) the term dealer group,
tenant or operators of dealerships to refer to the persons and entities that
lease our properties. We focus on leasing properties to dealer groups that
have a long history of operating multi-site, multi-franchised dealerships,
generally targeting the largest dealer groups in terms of revenues in the
largest major metropolitan areas in the U.S. in terms of population. In
addition, we provide facility improvement and expansion funding, construction
financing and takeout commitments in certain circumstances. As of September
30, 2004, we had invested nearly $2.1 billion in 327 properties located in 31
states, consisting of approximately 2,532 acres of land and containing
approximately 14.3 million square feet of buildings and improvements. Our
tenants operate 489 motor vehicle franchises on our properties, representing 44
brands of motor vehicles, which include all of the top selling brands in the
U.S. Substantially all of our properties are leased pursuant to long-term,
triple-net leases, under which the tenants typically pay all operating expenses
of a property, including, but not limited to, all real estate taxes,
assessments and other government charges, insurance, utilities, repairs and
maintenance. The initial lease terms generally range from 10 to 20 years (with
a weighted average initial lease term for leases entered into during the
quarter ended September 30, 2004 of approximately 17.7 years), with our entire
portfolio having a weighted average initial lease term of approximately 15.0
years. As of September 30, 2004, our portfolio had a weighted average
remaining lease term of approximately 11.8 years. The leases typically have
options to renew upon generally the same terms and conditions for one or more
additional periods of five to 10 years each, exercisable at the option of the
tenants (with renewal options typically ranging from a total of five to 40
years). Substantially all of our revenues are derived from (1) rents received or
accrued under long-term, triple-net leases; (2) interest earned on notes or
construction advances secured by real estate; (3) interest earned from the
temporary investment of funds in short-term investments; and (4) other fee
income. We are a self-administered and self-managed real estate company operating as a
real estate investment 27




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##### 



trust, or a REIT, for federal income tax purposes. Our
general and administrative expenses consist primarily of compensation expense for our executive officers and other
employees, professional fees, office administration expenses (including rent),
business taxes and insurance and various other expenses incurred in managing
our business. Our primary non-cash expense is the depreciation of our
properties. We depreciate buildings and improvements on our properties over a
nine-year to 40-year period for tax purposes and a 20-year to 45-year period
for financial reporting purposes. We do not own or lease any significant
personal property, furniture or equipment at any property we currently own. RECENT DEVELOPMENTS Real Estate Investments During the third quarter, we increased our net real estate investments by
approximately $26.9 million (consisting of $46.6 million in real estate
investments and $19.7 million in property dispositions), bringing the total net
increase in investments for the year to $171.2 million. Real Estate Investments During the third quarter, we completed approximately $46.6 million in real
estate investments, including two auto retail properties totaling approximately
$34.1 million, transacted with two existing tenants and approximately $12.5
million in construction and improvement fundings, transacted with four existing
tenants. The third quarter real estate investments contain 15 automotive
franchises located in six states (Georgia, New Jersey, Ohio, Pennsylvania,
Rhode Island and Texas) and have a weighted average initial lease term of
approximately 17.7 years, with multiple renewal options exercisable at the
option of the tenants. The investments were funded with borrowings on our
short-term credit facilities and with cash on hand. Real Estate Dispositions We sell properties from time to time, generally when a tenant has indicated
that a particular location no longer meets their operational needs. During the
third quarter, we sold four auto retail locations for approximately $20.1
million in sales proceeds to three dealer groups, resulting in a combined gain
of approximately $2.8 million before minority interest. In exchange for early
termination of the leases, we also received approximately $937,000 in lease
termination fees, which were recorded during the third quarter. The earnings
generated from these real estate dispositions, including the combined gain
recognized and the lease termination fees, have been reported as discontinued
operations. Financing As part of our strategy of improving our capital structure, in August 2004 we
repaid approximately $211.7 million of variable rate debt (consisting of $113.4
million of secured debt, $4.3 million of unsecured debt and borrowings on our
secured credit facilities totaling $94.0 million). The debt repaid (excluding
the borrowings on our secured credit facilities) had a weighted average spread
over LIBOR of 278 basis points with a weighted average remaining maturity of
approximately 6.4 years. The borrowings on our secured credit facilities had
spreads over LIBOR ranging from 285 to 323 basis points. We have not
terminated our secured credit facilities, which are scheduled to mature in
2005. The debt was repaid with the net proceeds derived from the closing of
our unsecured revolving credit and term loan facility during August 2004, as
further described in the Liquidity and Capital Resources  Debt Outstanding
section herein, and the issuance of 1,700,000 common shares in an underwritten
public offering in August 2004, as further described in the Liquidity and
Capital Resources  Equity Offerings section herein. 28




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##### 



As a result of the debt repayment, we incurred debt extinguishment charges
totaling approximately $697,000, or $0.02 per share to net income available to
common shareholders. The debt extinguishment charges consisted of the write-off
of deferred loan fees related to the loans that were paid off during the third
quarter. New Accounting Pronouncements In September 2004, the Emerging Issues Task Force, commonly referred to as the
EITF, reached a final consensus affirming their June 2004 tentative conclusion
(with modifications) on EITF Issue No. 04-8, The Effect of Contingently
Convertible Debt on Diluted Earnings Per Share. Contingently convertible debt
instruments, which are commonly referred to as Co-Cos and include our $110
million of 6% Convertible Notes, combine the features of contingently issuable
shares with a convertible debt instrument. These instruments generally become
convertible into common stock only if one or more specified contingencies
occur, and at least one of the contingencies is based on the market price of
the issuers shares. The EITF concluded that Co-Cos should be included in
diluted earnings per share computations using the if-converted method
regardless of whether the market price trigger or other contingent feature has
been met. Under current interpretations of Statement of Financial Accounting Standards,
commonly referred to as SFAS, No. 128, Earnings Per Share, issuers of Co-Cos
exclude the potential common shares underlying the Co-Co from the calculation
of diluted earnings per share until the market price or other contingency is
met. When the contingency is met, generally the if-converted method is used to
calculate the dilutive impact of the instrument. Under the if-converted
method, the instrument is considered converted, with the resulting number of
shares included in the denominator of the earnings per share calculation and
the interest expense, net of tax, added back to the numerator of the earnings
per share calculation. The Financial Accounting Standards Board, commonly referred to as the FASB,
plans to issue an amendment to SFAS No. 128 during the fourth quarter of 2004.
The amendment is expected to be effective for periods ending after December 15,
2004, and the consensus must be applied by restating all periods during which
the contingently convertible debt instrument was outstanding. We do not expect
the amendment to SFAS No. 128 to have a significant impact on our results of
operations and earnings per common share for the three months and nine months
ended September 30, 2004 and 2003. RESULTS OF OPERATIONS Revenue This section should be read in conjunction with the section captioned Variable
Rate Lease Programherein. For the three months
    
    
    
    
    
    For the nine monthsended September 30,
    
    
    
    
    
    ended September 30,(dollars in
    
    
    
    
    
    
    
    
    
    %
    
    
    
    
    
    
    
    
    
    %thousands)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeRevenueRental
    
    $
    51,214
    
    
    $
    41,340
    
    
    
    24
    %
    
    $
    145,905
    
    
    $
    120,304
    
    
    
    21
    %Interest and other
    
    
    713
    
    
    
    144
    
    
    
    395
    %
    
    
    2,271
    
    
    
    780
    
    
    
    191
    %Total
    
    $
    51,927
    
    
    $
    41,484
    
    
    
    25
    %
    
    $
    148,176
    
    
    $
    121,084
    
    
    
    22
    %
 Rental.The increase in rental revenue from the three and nine months ended
September 30, 2003 to 29




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##### 



the three and nine months ended September 30, 2004 was
primarily attributable to the growth of our real estate portfolio from property acquisitions from which we generate our
rental income. The following table demonstrates the growth of our real estate
portfolio for the periods indicated. Excluded in the periods presented are
property dispositions that have occurred through September 30, 2004. The
results of operations related to these properties were reclassified from rental
revenue to discontinued operations for all periods presented as further
described under the Discontinued Operations section herein. Real Estate beforeAccumulated
    
    
    
    
    
    
    
    
    
    Total SquareDepreciation (in
    
    
    
    
    
    
    
    
    
    Footage (inAs of
    
    thousands)
    
    Number of Properties
    
    Total Land Acreage
    
    millions)December 31, 2002
    
    $
    1,508,236
    
    
    
    270
    
    
    
    1,996
    
    
    
    11.3September 30, 2003
    
    
    1,638,839
    
    
    
    292
    
    
    
    2,167
    
    
    
    12.2December 31, 2003
    
    
    1,810,878
    
    
    
    307
    
    
    
    2,256
    
    
    
    13.0September 30, 2004
    
    
    2,060,794
    
    
    
    327
    
    
    
    2,532
    
    
    
    14.3
 The increase in rental income was also attributable to an increase from rent
adjustments above the fixed minimum escalators, which are recorded as revenue
in the period they are due from the tenants. Interest and Other.The increase in interest and other income from the three
and nine months ended September 30, 2003 to the three and nine months ended
September 30, 2004 was primarily due to interest earned on notes or
construction advances secured by real estate funded during the previous twelve
months. Notes and construction advances totaled approximately $16.0 million as
of September 30, 2004. Included in interest income for the nine months ended
September 30, 2004 is interest earned on a $25.5 million note secured by real
estate issued in the fourth quarter of 2003 that was repaid at the end of the
first quarter of 2004. Additionally, the increase was due to lease assignment
fees earned during the three and nine months ended September 30, 2004. There
were no lease assignment fees during the three and nine months ended September
30, 2003. Expenses For the three months
    
    
    
    
    
    For the nine monthsended September 30,
    
    
    
    
    
    ended September 30,%
    
    
    
    
    
    
    
    
    
    %(dollars in thousands)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeExpensesDepreciation and amortization
    
    $
    9,184
    
    
    $
    7,481
    
    
    
    23
    %
    
    $
    26,690
    
    
    $
    21,872
    
    
    
    22
    %General and administrative
    
    
    3,335
    
    
    
    2,546
    
    
    
    31
    %
    
    
    9,070
    
    
    
    7,172
    
    
    
    26
    %Interest
    
    
    16,524
    
    
    
    15,826
    
    
    
    4
    %
    
    
    49,479
    
    
    
    46,674
    
    
    
    6
    %Debt extinguishment charges
    
    
    697
    
    
    
    
    
    
    
    100
    %
    
    
    9,409
    
    
    
    
    
    
    
    100
    %Total
    
    $
    29,740
    
    
    $
    25,853
    
    
    
    15
    %
    
    $
    94,648
    
    
    $
    75,718
    
    
    
    25
    %
 Depreciation and Amortization.Depreciation and amortization consisted
primarily of depreciation on buildings and improvements owned during the
periods indicated above. The increases are primarily attributable to the
growth of our real estate portfolio described under Revenue  Rental above,
resulting in an increase in our depreciable assets. General and Administrative.General and administrative expenses increased from
the three and nine months ended September 30, 2003 to the three and nine months
ended September 30, 2004 due primarily to:  
    
    an increase in professional fees resulting from higher legal and
consultation services; 30




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##### 




    
    an increase in auditing fees and fees associated with the
implementation of and compliance with Section 404 of the Sarbanes-Oxley
Act of 2002; and
    
    an increase in costs related to acquisition and financing
transactions that were not consummated by us. In addition to the above, the increase in general and administrative expenses
from the nine months ended September 30, 2003 to the nine months ended
September 30, 2004 was due to:  
    
    an increase in payroll and related expenses primarily attributable to
an increase in overall compensation and an increase in the number of
employees; and  
    
    an increase in state and local taxes and registration fees due to the
growth in our real estate portfolio as well as changes in state tax
laws. Interest.The following table sets forth certain information regarding our
debt as of the periods indicated. Principal Balance as of September 30,
    
    Effective Interest Rate for the
    
    Effective Interest Rate for the Nine(in thousands)
    
    Three Months Ended September 30*,
    
    Months Ended September 30*,Fixed
    
    Variable
    
    
    
    
    
    Fixed
    
    Variable
    
    
    
    
    
    Fixed
    
    VariableYear
    
    Rate Debt
    
    Rate Debt
    
    Total
    
    Rate Debt
    
    Rate Debt
    
    Total
    
    Rate Debt
    
    Rate Debt
    
    Total2003
    
    $
    792,901
    
    
    $
    254,717
    
    
    $
    1,047,618
    
    
    
    7.17
    %
    
    
    3.69
    %
    
    
    6.39
    %
    
    
    7.29
    %
    
    
    3.97
    %
    
    
    6.36
    %2004
    
    
    787,915
    
    
    
    268,647
    
    
    
    1,056,562
    
    
    
    6.97
    %
    
    
    3.93
    %
    
    
    6.16
    %
    
    
    7.05
    %
    
    
    3.81
    %
    
    
    6.23
    %
  *
    
    Includes deferred loan fees amortized over the life of the
loans. The increase in interest expense for the three months ended September 30, 2003
to the three months ended September 30, 2004 was primarily due to the
reclassification of approximately $497,000 of interest expense related to 2004
property dispositions to discontinued operations for the three months ended
September 30, 2003 as compared to the reclassification of approximately $8,000
for the three months ended September 30, 2004, as further described in the
Discontinued Operations section herein. Interest related to the associated
debt instrument after the disposition of the property is classified as interest
expense, a component of income from continuing operations. The remaining
increase was due to higher borrowings during the third quarter of 2004 as
compared to the same period in the prior year. This was partially offset by a
decrease in our overall effective interest rate due to the restructuring of our
balance sheet from secured to unsecured debt during the second and third
quarters of 2004, as further described in the Liquidity and Capital Resources
 Balance Sheet Restructuring and Debt Extinguishment Charges section herein.
For fixed rate debt, the effective interest rate decreased due to a decrease in
interest rates at the time of debt issuance as well as the contraction of our
credit spreads on newly issued debt. For variable rate debt, the effective
interest rate increased due to rising interest rates, as further described in
the Liquidity and Capital Resources  Variable Rate Lease Program section
herein, which was partially offset by the contraction of our credit spreads. The increase in interest expense for the nine months ended September 30, 2003
to the nine months ended September 30, 2004 was primarily due to the
reclassification of approximately $1.5 million of interest expense related to
2004 property dispositions to discontinued operations for the nine months ended
September 30, 2003 as compared to the reclassification of approximately
$426,000 for the nine months ended September 30, 2004, as discussed above. The
remaining increase was due to higher borrowings during the nine months ended
September 30, 2004 as compared to the same period in the prior year. This 31




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##### 



was partially offset by a decrease in our overall effective interest rate due to
the restructuring of our balance sheet from secured to unsecured debt during the second and third
quarters of 2004, as discussed above. For fixed rate debt, the effective
interest rate decreased due to a decrease in interest rates at the time of debt
issuance as well as the contraction of our credit spreads on newly issued debt.
For variable rate debt, the effective interest rate decreased due to the
contraction of our credit spreads, which was partially offset by rising
interest rates, as further described in the Liquidity and Capital Resources 
Variable Rate Lease Program section herein. Debt Extinguishment Charges.Debt extinguishment expenses for the three and
nine months ended September 30, 2004 totaled approximately $697,000 and $9.4
million, respectively. The expenses for the three months ended September 30,
2004 are attributable to the debt repayment during the third quarter of 2004,
as further described in the Liquidity and Capital Resources  Balance Sheet
Restructuring and Debt Extinguishment Charges section herein. The debt
extinguishment charges consisted of the write-off of deferred loan fees related
to the loans that were paid off. Debt extinguishment expenses for the nine months ended September 30, 2004 are
attributable to the balance sheet restructuring that was completed during the
second and third quarters of 2004, as further described in the Liquidity and
Capital Resources  Balance Sheet Restructuring and Debt Extinguishment
Charges section herein. The debt extinguishment charges consisted of (i) swap
breakage fees totaling approximately $4.0 million related to the repayment of
variable rate debt with Ford Motor Credit Corporation (Ford) that had been
swapped to a fixed rate; (ii) the write-off of deferred loan fees related to
the loans that were paid off and the termination of one of our credit
facilities totaling approximately $3.2 million; and (iii) prepayment penalties
totaling approximately $2.2 million related to the repayment of the fixed rate
debt with Ford. Discontinued Operations Beginning in 2002, SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, requires that gains and losses from dispositions of
properties and all operating earnings from these properties be reported as
discontinued operations. This also requires that all past earnings
applicable to a property disposed of subsequent to January 1, 2002 be reported
as discontinued operations. As a result, previously reported income from
continuing operations will be updated each time a property is sold. This
requirement is for presentation only and has no impact on net income. During the third quarter of 2004, we sold four auto retail locations for
approximately $20.1 million in sales proceeds to three dealer groups, resulting
in a combined gain of approximately $2.8 million before minority interest. In
exchange for early termination of the leases, we also received approximately
$937,000 in lease termination fees, which were recorded during the third
quarter. The earnings generated from these real estate dispositions, including
the combined gain recognized and lease termination fees, have been reported as
discontinued operations. 32




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##### 



The following table sets forth the components of discontinued operations
related to the 18 auto retail locations sold subsequent to January 1, 2003 (in
thousands): For the three months
    
    For the nine monthsended September 30,
    
    ended September 30,2004
    
    2003
    
    2004
    
    2003Revenue:Rental
    
    $
    12
    
    
    $
    1,673
    
    
    $
    1,697
    
    
    $
    5,041Other
    
    
    937
    
    
    
    
    
    
    
    2,360
    
    
    
    193Total revenue
    
    
    949
    
    
    
    1,673
    
    
    
    4,057
    
    
    
    5,234Expenses:Depreciation
    
    
    6
    
    
    
    353
    
    
    
    306
    
    
    
    1,067Interest
    
    
    8
    
    
    
    497
    
    
    
    426
    
    
    
    1,489Total expenses
    
    
    14
    
    
    
    850
    
    
    
    732
    
    
    
    2,556Income from discontinued operations before gain
on sale of real estate and minority interest
    
    
    935
    
    
    
    823
    
    
    
    3,325
    
    
    
    2,678Gain on sale of real estate
    
    
    2,772
    
    
    
    
    
    
    
    4,258
    
    
    
    75Income related to discontinued operations
before minority interest
    
    
    3,707
    
    
    
    823
    
    
    
    7,583
    
    
    
    2,753Minority interest related to discontinued operations
    
    
    (666
    )
    
    
    (169
    )
    
    
    (1,380
    )
    
    
    (597
    )Total discontinued operations, net of
minority interest
    
    $
    3,041
    
    
    $
    654
    
    
    $
    6,203
    
    
    $
    2,156
 Preferred Share Dividends The increase represents the dividends for the three months and nine months
ended September 30, 2004 related to the 71⁄2% Series A Cumulative Redeemable
Preferred Shares issued on December 11, 2003 and the 8% Series B Cumulative
Redeemable Preferred Shares issued on April 27, 2004. There were no Series A
or Series B preferred share dividends for the three months and nine months
ended September 30, 2003. Impact of Inflation Our leases typically contain provisions to mitigate the adverse impact of
inflation on our results of operations. These provisions include upward
periodic adjustments in base rent due from our tenants, usually based on a
factor of the change in the consumer price index, commonly referred to as the
CPI. In addition, certain of our leases are subject to fixed minimum and/or
maximum rent escalators during the initial lease term. Substantially all of our properties are leased to tenants under long-term,
triple-net leases. Because triple-net leases typically require the tenant to
pay all operating expenses of a property, our exposure to rising property
expenses due to inflation is reduced. 33




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##### 



LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents were $8.0 million and $18.1 million at September 30,
2004 and September 30, 2003, respectively. The changes in cash and cash equivalents during the nine months ended September
30, 2004 and 2003 were attributable to operating, investing and financing
activities, as described below. Nine Months EndedSeptember 30,(dollars in thousands)
    
    2004
    
    2003Cash provided by operating activities
    
    $
    91,127
    
    
    $
    72,350Cash used in investing activities
    
    
    (163,684
    )
    
    
    (129,022
    )Cash provided by financing activities
    
    
    67,254
    
    
    
    67,373
 Operating Activities Cash provided by operating activities represents cash received primarily from
rents under long-term, triple-net leases, plus interest and other fee income,
less normal recurring general and administrative expenses and interest payments
on debt outstanding. Investing Activities Cash used in investing activities primarily reflects the investment in
dealership properties, facility improvements and new construction fundings, net
of property dispositions. Financing Activities Cash provided by financing activities for the nine months ended September 30,
2004 primarily reflects:  
    
    $422.2 million of proceeds received from debt issuance during the period;
    
    $221.0 million of proceeds received from borrowings on our revolving credit facilities;
    
    $150.1 million of proceeds received from the issuance of common shares, net of costs;
    
    $63.2 million of proceeds received from our offering of 8% Series B
Cumulative Redeemable Preferred Shares, net of costs; and
    
    the decrease in restricted cash totaling $6.9 million. The cash provided by financing activities was partially offset by:  
    
    the repayment of debt totaling $423.7 million;
    
    the repayment of borrowings on our revolving credit facilities totaling $286.0 million;
    
    distributions made to both common and preferred shareholders as
well as minority partners during the period totaling $53.3 million;
    
    payments of principal on outstanding debt totaling $22.4 million; and 34




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##### 




    
    payments for debt issuance costs totaling $10.6 million. Cash provided by financing activities for the nine months ended September 30,
2003 primarily reflects:  
    
    $234.5 million of proceeds received from debt issuance during the period;
    
    $78.9 million of proceeds received from the issuance of common shares, net of costs;
    
    $58.0 million of proceeds received from borrowings on our revolving credit facilities; and
    
    the decrease in restricted cash totaling $1.2 million. The cash provided by financing activities was partially offset by:  
    
    the repayment of borrowings on our revolving credit facilities totaling $139.1 million;
    
    the repayment of debt totaling $91.6 million;
    
    distributions made to common shareholders and minority partners
during the period totaling $43.9 million;
    
    payments of principal on outstanding debt totaling $24.0 million; and
    
    payments for debt issuance costs totaling $6.6 million. Financing Strategy Our objective is to have consistent access to long and short-term debt and
equity at costs efficient to run our business and produce the highest returns.
We typically fund our short-term liquidity requirements through available cash
or one of our revolving credit facilities. As of September 30, 2004, we had
three facilities, which provided short-term borrowing capacity of $450 million.
Availability under our credit facilities is determined based on current
borrowings outstanding under the facilities as well as certain financial
covenants contained within the facilities. As of September 30, 2004, we had
$344 million available under our credit facilities. Periodically, in order to more closely match the term and the interest rate
nature (fixed or variable rate) of our debt with that of our leases, we replace
our short-term debt using the proceeds of long-term debt or equity. Our
long-term liquidity requirements are financed with both long-term debt and
equity. When accessing the capital markets, our objective is to improve the
strength and flexibility of our balance sheet while providing accretion to our
shareholders. During the second and third quarters of 2004, we completed a significant
restructuring of our balance sheet, which has improved our balance sheet
flexibility while continuing our strategy of match-funding our debt to our
leases. A description of the debt restructuring and the impact to our balance
sheet is included in the Balance Sheet Restructuring and Debt Extinguishment
Charges section herein. On August 20, 2004, we closed on a syndicated unsecured revolving credit and
term loan facility, as further described in the Debt Outstanding section
herein, to replace the credit facility we terminated in April 2004 and to
refinance certain of our existing secured debt. The revolving credit portion
of the facility is $250 million with an initial three-year term and an option
to extend the term for an additional one-year period. The term loan portion of
the facility is a $150 million five-year unsecured term loan. 35




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##### 



We use a disciplined approach of matching the term and interest rate nature
(fixed or variable rate) of our long-term debt to our leases. We use this
process, which we refer to as match-funding, to substantially lock in our
investment spreads during the initial lease term. As of September 30, 2004,
our leases had a weighted average remaining term of 11.8 years and the earliest
meaningful lease expirations do not occur until 2008. Similarly, our long-term
debt had a weighted average remaining term of 10.2 years and our earliest
meaningful long-term debt maturity was not until 2009. As of September 30,
2004, our total outstanding debt (including borrowings on our credit
facilities) equaled approximately 51% of our total real estate investments and
the ratio of the remaining weighted average term of our debt to the remaining
weighted average term of our leases (match-funded percentage) was 86%. As of September 30, 2004, our total outstanding fixed rate debt equaled
approximately 48% of our total real estate investments subject to fixed rate
leases. The weighted average remaining term of our fixed rate leases was 11.8
years and the weighted average remaining term of our outstanding fixed rate
debt was 10.6 years. As a result, our fixed rate leases and debt were 90%
match-funded. Our total outstanding variable rate debt equaled approximately
63% of our total real estate investments subject to variable rate leases. The
weighted average remaining term of our variable rate leases was 11.7 years and
the weighted average remaining term of our outstanding variable rate debt was
8.6 years. As a result, variable rate leases and our variable rate debt were
74% match-funded. We have adopted a policy to limit debt to approximately 65% of our assets
(calculated as total assets plus accumulated depreciation). This policy may be
changed by our Board of Trustees at any time without shareholder approval. As
of September 30, 2004, our debt to assets ratio was approximately 49% and our
debt to total market capitalization was approximately 39%. In light of our current financial position, we believe that we will be able to
obtain additional financing for our short-term and long-term liquidity
requirements as further described in the Liquidity Requirementssection
herein. We have used and may continue to use interest rate swap arrangements
to manage interest rate risk and to match-fund our debt to our leases.
However, there can be no assurance that additional financing or capital will be
available, or that the terms will be acceptable or advantageous to us. Variable Rate Lease Program We may offer our current and prospective tenants the option of utilizing our
variable rate lease program. Under this program, base rent changes monthly
based upon a spread over an applicable index, typically LIBOR. In addition,
our leases typically provide for upward periodic adjustments in base rent,
usually based on a factor of the change in the CPI. The vast majority of our
variable rate lease agreements contain minimum lease rates, generally between
8% and 9%, and fixed rate conversion features generally with minimum rates of
10.0% to 10.25%, and none of these leases contains a maximum rate. Upon
conversion, the fixed base rent typically continues to be adjusted upward
periodically based on a factor of the change in the CPI or other escalation
provisions set forth in the lease. 36




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##### 



The following table sets forth certain information regarding our variable rate
leases and debt as of the periods indicated (dollars in thousands): Percent of ourTotal Real Estate
    
    Portfolio Subject
    
    Total Variable Rate
    
    Average One-Month
    
    Average One-MonthSubject to Variable
    
    to Variable Rate
    
    Debt Outstanding
    
    LIBOR for the three
    
    LIBOR for the ninePeriod
    
    Rate Leases
    
    Leases
    
    (1)
    
    months ended
    
    months endedSeptember 30, 2003
    
    $
    413,076
    
    
    
    24
    %
    
    $
    254,717
    
    
    
    1.11
    %
    
    
    1.24
    %September 30, 2004
    
    
    405,652
    
    
    
    20
    %
    
    
    268,647
    
    
    
    1.60
    %
    
    
    1.29
    %
 (1) Includes amounts outstanding on our revolving credit facilities totaling
$30.0 million and $10.0 million as of September 30, 2003 and September 30 2004,
respectively. As further described in the Financing Strategysection above, the
match-funding of our variable rate lease portfolio with variable rate debt
furthers our strategy of substantially locking in our investment spreads over
the initial term of our leases. In addition, the minimum lease rates built
into the majority of our variable rate leases protect our investment returns as
interest rates decline and allow us to realize additional spread during low
interest rate environments. However, because many of our leases are subject to
minimum lease rates, as LIBOR rises, our investment spreads will contract from
current levels until the one-month LIBOR reaches 3.0% to 3.5%, at which time
substantially all of our lease rates will rise above our minimum lease rates.
At that time, our variable lease rates and variable debt rates will rise
equally with LIBOR. To illustrate, during the three months and nine months ended September 30,
2004, as LIBOR has generally increased, our investments spreads have started to
contract. While the interest expense on our variable rate debt has increased,
the revenue generated from the vast majority of our variable rate leases has
remained constant during this same time period as the minimum lease rates were
in effect at these LIBOR levels. In contrast, during the nine months ended September 30, 2003, as LIBOR
generally decreased, the interest expense on our variable rate debt also
decreased. However, the revenue generated from the vast majority of our
variable rate leases remained constant during this same time period as the
minimum lease rates were in effect at these LIBOR levels. Balance Sheet Restructuring and Debt Extinguishment Charges Second Quarter of 2004 As previously discussed in our Quarterly Report on Form 10-Q for the quarterly
period ended June 30, 2004, we initiated a significant restructuring of our
balance sheet by paying off approximately $306 million of our outstanding debt
with Ford during the second quarter of 2004. In April 2004, we repaid
approximately $214 million of mortgage debt outstanding with Ford with a
weighted average remaining maturity of approximately 7.7 years. Of the total
debt, approximately $161 million was variable rate debt, with a weighted
average spread over LIBOR of 226 basis points, and approximately $53 million
was variable rate debt swapped to fixed rate debt, bearing interest at
approximately 7.6%. The net proceeds used to repay the debt were derived from
the following sources:  
    
    On April 2, 2004, we issued 1,000,000 common shares in an
underwritten public offering 37




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##### 



at an initial price to the public of $35.15 per share, as further
described in the Equity Offerings section herein;
    
    On April 15, 2004, we closed on a public offering of $125
million 6.75% senior unsecured monthly income notes at par, as
further described in the Debt Outstanding section herein;
    
    On April 27, 2004, we issued 2,500,000 8% Series B
Cumulative Redeemable Preferred Shares at $25.00 per share, as
further described in the Equity Offerings section herein; and
    
    Approximately $23 million from borrowings on our
short-term credit facilities, which were subsequently repaid
during the second quarter of 2004, and cash on hand due to the
timing of the equity and debt transactions noted above. As a result of these transactions, on April 1, 2004, we terminated our $60
million unsecured credit facility, which prohibited the issuance of senior
unsecured debt. As of March 31, 2004, the facility had no amounts outstanding
and was expected to remain principally unused until its expiration in March
2005. In May 2004, we repaid the remainder of our outstanding Ford debt totaling
approximately $92 million, which had an effective interest rate of
approximately 7.84% with a remaining maturity of approximately 7.2 years, and
paid the related prepayment penalties totaling approximately $2.2 million. The
debt was repaid with a portion of the net proceeds derived from our May 12,
2004 public offering of $110 million of 6% Convertible Notes, as further
described in the Debt Outstanding section herein. As a result of the above transactions, we incurred debt extinguishment charges
totaling approximately $8.7 million, or $0.20 per share to net income available
to common shareholders. The debt extinguishment charges consisted of the
following:  
    
    Swap breakage fees totaling approximately $4.0 million
related to the repayment of variable rate debt with Ford that had
been swapped to a fixed rate;
    
    The write-off of deferred loan fees related to the loans
that were paid off and the termination of our $60 million
unsecured credit facility totaling approximately $2.5 million; and
    
    Prepayment penalties totaling approximately $2.2 million
related to the repayment of the fixed rate debt with Ford. Third Quarter of 2004 In August 2004 we repaid approximately $211.7 million of variable rate debt
(consisting of $113.4 million of secured debt, $4.3 million of unsecured debt
and borrowings on our secured credit facilities totaling $94.0 million). The
debt repaid (excluding the borrowings on our secured credit facilities) had a
weighted average spread over LIBOR of 278 basis points with a weighted average
remaining maturity of approximately 6.4 years. The borrowings on our secured
credit facilities had spreads over LIBOR ranging from 285 to 323 basis points.
We have not terminated our secured credit facilities, which are scheduled to
mature in 2005. The debt was repaid with the net proceeds derived from the
closing of our unsecured revolving credit and term loan facility during August
2004, as further described in the Debt Outstanding section herein, and the
issuance of 1,700,000 common shares in an underwritten public offering in
August 2004, as further described in the Equity Offerings section herein. 38




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##### 



As a result of the debt repayment, we incurred debt extinguishment charges
totaling approximately $697,000, or $0.02 per share to net income available to
common shareholders. The debt extinguishment charges consisted of the write-off
of deferred loan fees related to the loans that were paid off during the third
quarter. 39




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##### 



Debt Outstanding The following is a summary of our total debt outstanding as of September 30,
2004 and December 31, 2003 (dollars in thousands): PrincipalBalance as of
    
    Principal Balance as
    
    Effective
    
    Term/Original
    
    September 30,
    
    of December 31,
    
    Interest
    
    AmortizationDescription of Debt
    
    Debt Issued
    
    2004
    
    2003
    
    Rate*
    
    Schedule7.59% fixed rate debt due 12/1/08 (1)
    
    
    38,050
    
    
    $
    31,911
    
    
    $
    33,046
    
    
    
    7.96
    %
    
    10 yr/17 yr7.50% fixed rate debt due 8/10/13 (2)
    
    
    82,600
    
    
    
    74,340
    
    
    
    75,717
    
    
    
    7.62
    %
    
    12 yr/30 yr5.84% fixed rate debt due 2/1/14 (3)
    
    
    11,900
    
    
    
    11,781
    
    
    
    
    
    
    
    6.12
    %
    
    10 yr/25 yr6.77% fixed rate debt due 7/1/14 (4)
    
    
    20,400
    
    
    
    20,060
    
    
    
    20,400
    
    
    
    6.88
    %
    
    10.5 yr/30 yrTriple Net Lease Mortgage Notes, Series 2002
(5)
    
    
    325,000
    
    
    
    296,093
    
    
    
    306,251
    
    
    
    7.70
    %
    
    
    (5
    )Triple Net Lease Mortgage Notes, Series
2003-1 (6)
    
    
    228,000
    
    
    
    218,730
    
    
    
    223,469
    
    
    
    5.86
    %
    
    
    (6
    )Various fixed rate debt (7)
    
    
    160,554
    
    
    
    
    
    
    
    145,765
    
    
    
    
    
    
    
    (7
    )Total Mortgage Fixed Rate Debt
    
    
    
    
    
    $
    652,915
    
    
    $
    804,648
    
    
    
    7.03
    %Variable rate debt due 10/31/14 (8)
    
    
    8,720
    
    
    
    8,647
    
    
    
    
    
    
    
    3.92
    %
    
    10.5 yr/30 yrVarious variable rate debt (9)
    
    
    296,665
    
    
    
    
    
    
    
    261,436
    
    
    
    4.34
    %
    
    
    (9
    )Total Mortgage Variable Rate Debt
    
    
    
    
    
    $
    8,647
    
    
    $
    261,436
    
    
    
    4.29
    %TOTAL MORTGAGE DEBT (10)
    
    
    
    
    
    $
    661,562
    
    
    $
    1,066,084
    
    
    
    6.76
    %Variable rate debt due 10/2/08 (11)
    
    
    4,500
    
    
    
    
    
    
    
    4,425
    
    
    
    4.21
    %
    
    
    (11
    )Variable rate debt due 8/20/09 (12)
    
    
    150,000
    
    
    
    150,000
    
    
    
    
    
    
    
    3.60
    %
    
    
    (12
    )6.75% Monthly Income Notes due 4/15/19 (13)
    
    
    125,000
    
    
    
    125,000
    (14)
    
    
    
    
    
    
    4.35
    %
    
    
    (13
    )6% Convertible Notes due 5/15/24 (15)
    
    
    110,000
    
    
    
    110,000
    
    
    
    
    
    
    
    6.59
    %
    
    
    (15
    )TOTAL UNSECURED DEBT
    
    
    
    
    
    $
    385,000
    
    
    $
    4,425
    
    
    
    4.98
    %$100 million revolving secured facility (16)
    
    
    
    
    
    
    
    
    
    
    49,326
    
    
    
    4.65
    %
    
    
    (16
    )$100 million revolving secured construction
facility (17)
    
    
    
    
    
    
    
    
    
    
    25,683
    
    
    
    4.27
    %
    
    
    (17
    )$250 million revolving unsecured facility
(12)
    
    
    
    
    
    
    10,000
    
    
    
    
    
    
    
    3.91
    %
    
    
    (12
    )TOTAL CREDIT FACILITIES
    
    
    
    
    
    $
    10,000
    
    
    $
    75,009
    
    
    
    4.38
    %TOTAL DEBT OUTSTANDING
    
    
    
    
    
    $
    1,056,562
    (14)
    
    $
    1,145,518
    
    
    
    6.16
    %
  *
    
    For the quarter ended September 30, 2004. Includes deferred loan
fees amortized over the life of the loans.(1)
    
    This loan requires monthly payments of principal and interest with a
final payment at maturity of approximately $24.2 40




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##### 



million. The Partnership has provided a guaranty of collection limited to
approximately $8.9 million of this loan, contingent upon the lender first
making written demand upon and proceeding against the borrower, including
obtaining judgment and foreclosing upon all collateral. All amounts
recovered from the borrower or collateral following a default reduce such
guarantee.(2)
    
    This loan requires quarterly interest and level principal payments
with a final payment at maturity of approximately $49.6 million. This
loan bears interest equal to the 30-day LIBOR rate plus 175 basis
points. We have entered into an interest rate swap arrangement with a
third party to fix the interest rate on this loan.(3)
    
    This loan requires monthly level payments of principal and interest
with a final payment at maturity of approximately $9.2 million.(4)
    
    This loan requires quarterly interest and level principal payments
with a final payment at maturity of approximately $13.3 million. This
loan bears interest equal to the three-month LIBOR rate plus 225 basis
points. We have entered into an interest rate swap arrangement with a
third party to fix the interest rate on this loan.(5)
    
    During 2002, we issued $325 million in four classes of Triple Net
Lease Mortgage Notes, Series 2002. CARS Loan Servicer L.L.C., one of
our subsidiaries, is servicer of the notes on behalf of the noteholders.
The following is a breakdown of the Triple Net Lease Mortgage Notes,
Series 2002 by class: Original Principal
    
    Current PrincipalClass
    
    Balance
    
    Balance
    
    Maturity DateA-1a
    
    
    164,136
    
    
    
    144,202
    
    
    
    8/15/14A-1b
    
    
    9,064
    
    
    
    9,064
    
    
    
    7/15/15A-2
    
    
    75,900
    
    
    
    66,927
    
    
    
    7/15/15A-3
    
    
    75,900
    
    
    
    75,900
    
    
    
    6/15/22
  Classes A-1a and A-1b are fully-amortizing in succession over their
respective terms and Classes A-2 and A-3 are fully-amortizing in
succession over 20 years. The Partnership has provided a guaranty of
collection limited to approximately $35 million of this loan, contingent
upon the trustee first making written demand upon and proceeding against
the borrower, including obtaining judgment and foreclosing upon all
collateral. All amounts recovered from the borrower or collateral
following a default reduce such guarantee. In connection with the
issuance of this debt, the Company guarantees certain customary,
non-recourse, carveout indemnities. Additionally, in conjunction with the
servicing of the debt, the Company guarantees CARS Loan Servicer, L.L.C.s
obligations to make certain principal, interest and property protection
advances.(6)
    
    During 2003, we issued $228 million in two classes of Triple Net
Lease Mortgage Notes, Series 2003-1. CARS Loan Servicer L.L.C. is
servicer of the notes on behalf of the noteholders. The following is a
breakdown of the Triple Net Lease Mortgage Notes, Series 2003-1 by
class: Original Principal
    
    Current PrincipalClass
    
    Balance
    
    Balance
    
    Maturity DateA-1
    
    
    109,000
    
    
    
    99,730
    
    
    
    9/25/15A-2
    
    
    119,000
    
    
    
    119,000
    
    
    
    3/25/19
  The notes amortize in succession over a 20-year amortization schedule with
the Class A-1 notes fully-amortizing and the Class A-2 notes requiring a
final payment at maturity of approximately $70.8 million. In connection
with the issuance of this debt, the Company guarantees certain customary,
non-recourse, carveout indemnities. Additionally, in conjunction with the
servicing of the debt, the Company guarantees CARS Loan Servicer, L.L.C.s
obligations to make certain principal, interest and property protection
advances.(7)
    
    This represents debt that was outstanding with Ford totaling
approximately $145 million, which was repaid during the second quarter
of 2004, as further described above in the Balance Sheet Restructuring
and Debt Extinguishment Charges section herein.(8)
    
    This loan requires monthly interest and level principal payments with
a final payment at maturity of approximately $5.7 million. This loan
bears interest equal to the three-month LIBOR plus 225 basis points.(9)
    
    This represents debt that was outstanding with various lenders, of
which approximately $161 million was repaid during the second quarter of
2004 and $113 million was repaid during the third quarter of 2004, as
further described above in the Balance Sheet Restructuring and Debt
Extinguishment Charges section herein.(10)
    
    Certain amounts of our mortgage debt are subject to prepayment
penalties.(11)
    
    This loan, totaling approximately $4 million, was repaid during the
third quarter of 2004, as further described above in the Balance Sheet
Restructuring and Debt Extinguishment Charges section herein.(12)
    
    On August 20, 2004, we closed on a syndicated unsecured revolving
credit and term loan facility to replace the credit 41




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##### 



facility we terminated in April 2004 and to refinance certain of our
existing secured debt. The revolving credit portion of the facility is
$250 million with an initial three-year term and an option to extend the
term for an additional one-year period. The term loan portion of the
facility is a $150 million five-year unsecured term loan and requires
interest-only payments until maturity, at which time the loan requires a
final payment totaling $150 million. The facility bears interest at a
spread, generally over LIBOR, and adjusts over time, based upon our
leverage or our debt rating, if elected. As of September 30, 2004, the
borrowings under the facility bear interest equal to 30-day LIBOR rate
plus 145 basis points. At closing, net proceeds to the Company from the
facility, after deducting expenses, totaled approximately $197.4 million
(representing the $150 million term loan portion and borrowings on the
revolving credit facility portion totaling $50 million). The net proceeds
were used to repay approximately $94 million of borrowings under our
short-term secured credit facilities, to pay off approximately $89.8
million of debt outstanding (see Balance Sheet Restructuring and Debt
Extinguishment Charges section herein), to fund acquisitions and for
general corporate purposes.(13)
    
    On April 15, 2004 we closed on a public offering of $125 million
6.75% senior unsecured monthly income notes at par. The notes were
issued under our shelf registration statement filed with the SEC on June
25, 2003, which we refer to as the 2003 Shelf Registration Statement.
Interest on the notes is payable monthly. The notes have a 15-year term
and are redeemable at the Companys option after five years at par. On
March 18, 2004, which was the date the Company priced the notes, we
entered into an interest rate swap arrangement with a third party to
cause the interest rate on $100 million of the notes effectively to be
at a floating rate of the three-month LIBOR plus 162.4 basis points.
The unrealized loss on our fair value hedge was approximately $3.4
million as of September 30, 2004, as further described in the Interest
Rate Swaps section herein. The net proceeds to the Company, after
deducting the discounts and commissions to the underwriters and other
expenses of the offering, totaled approximately $121 million. The net
proceeds were used to pay off a portion of the debt outstanding with
Ford during the second quarter of 2004, as further described above in
the Balance Sheet Restructuring and Debt Extinguishment Charges
section herein.(14)
    
    Although the principal balance of the $125 million 6.75% senior
unsecured monthly income notes was $125 million as of September 30,
2004, in accordance with GAAP, the carrying value of the debt on our
balance sheet has been reduced by $3.4 million, representing the change
in the fair value of the swap described in footnote (13) and as more
fully described in the Interest Rate Swaps section herein.(15)
    
    On May 12, 2004, we closed on a public offering of $110 million 6%
convertible notes. The notes were issued under our 2003 Shelf
Registration Statement. The notes have a 20-year term and are
convertible, at the option of the holder, into the Companys common
shares under certain circumstances, at an initial conversion price of
$35.5679 per share, subject to certain adjustments. The initial price
is equivalent to a conversion rate of 28.1152 shares per $1,000
principal amount of notes and equivalent to a premium of 30%. The
conversion rate will be adjusted under certain circumstances, including
common stock splits, common stock issuances as dividends and increases
in the dividend rate. The Company may, at its option, redeem the notes
for cash on or after May 15, 2009, at any time, in whole or, from time
to time, in part, at a redemption price equal to 100% of the principal
amount to be redeemed plus accrued and unpaid interest. The noteholders
may require us to repurchase all or part of the notes on May 15, 2009,
May 15, 2014 and May 15, 2019, or upon a change in control, at a price
equal to 100% of the principal amount plus accrued and unpaid interest.
The notes require semi-annual interest payments. The deferred loan fees
associated with this debt are being amortized over a five-year period.
The net proceeds to the Company, after deducting the discounts and
commission to the underwriters and other expenses of the offering,
totaled approximately $107 million. The net proceeds were used to pay
off a portion of the debt outstanding with Ford and the related
prepayment penalties, as further described above in the Balance Sheet
Restructuring and Debt Extinguishment Charges section herein, to fund
acquisitions and for general corporate purposes. In September 2004, the
EITF reached a final consensus affirming their June 2004 tentative
conclusion on EITF Issue No. 04-8, The Effect of Contingently
Convertible Debt on Diluted Earnings Per Share, as further described in
the Recent Developments section herein.(16)
    
    Amounts borrowed under this facility bear interest at market rates
determined at the time of each draw until such time as the Company and
the lender set an interest rate for any future amounts borrowed under
the facility. Properties are eligible within the borrowing base for 150
days, unless extended by the Company and the lender. The facility has a
one-year term, which matures on March 21, 2005, and is renewable
annually.(17)
    
    This construction credit facility provides for a one-year term.
Amounts borrowed under this facility bear interest equal to a spread
over LIBOR as determined at the time of each draw. Properties are
eligible within the borrowing base for 12 months, unless extended by the
Company and the lender. The facility matures on June 22, 2005, and is
renewable annually. 42




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##### 



Our secured debt generally contains customary covenants, including, among
others, provisions:  
    
    relating to the maintenance of the property securing the
debt;
    
    restricting our ability to sell, assign or further
encumber the properties securing the debt;
    
    restricting our ability to incur additional debt;
    
    restricting our ability to amend or modify existing leases; and
    
    certain prepayment restrictions. Our unsecured debt generally contains various restrictive covenants. The
covenants in our unsecured debt include, among others, provisions restricting
our ability to:  
    
    incur or guarantee additional debt;
    
    make certain distributions, investments and other
restricted payments, including distribution payments on our
outstanding common and preferred shares;
    
    limit the ability of restricted subsidiaries to make payments to us;
    
    enter into transactions with certain affiliates;
    
    create certain liens; and
    
    consolidate, merge or sell our assets. The more significant financial covenants related to our debt include:  
    
    minimum debt service coverage ratios;
    
    minimum fixed charge coverage ratios;
    
    maximum debt to adjusted net worth ratios, including
maximum unsecured debt to unencumbered asset ratios;
    
    maintenance of a minimum combined equity value or consolidated net worth; and
    
    maximum dividend payout ratios. As of September 30, 2004, we were in compliance with all of the debt covenants
related to our debt outstanding. Interest Rate Swaps We have entered into interest rate swap arrangements with third parties to
manage or hedge our risk related to the effect of interest rate fluctuations on
our investment spreads. We do not use derivative instruments for speculative
purposes. We will either hedge our variable rate debt to convert it to a fixed
interest rate, designating such hedge as a cash flow hedge, or hedge our fixed
rate debt to convert it to a 43




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variable interest rate, designating such hedge as a fair value hedge. The cash
flow and fair value hedges were designed to mirror the underlying debt in terms
of index, spread, reset, amortization, compounding and maturity. Due to the
identical nature of the terms of the swap arrangements and the underlying terms
of the debt, the swaps were designated as highly effective at the inception of
the swap arrangements. We continue to evaluate the highly effective nature of
those hedges and believe our hedges continue to be highly effective. For all
swap arrangements, we are required to post collateral, generally in the amount
of the swap valuations at any point in time, to protect the lenders in case of
an early termination by us. The collateral posted by us related to our hedges, totaling approximately $11.9
million and $12.8 million as of September 30, 2004 and December 31, 2003,
respectively, is included in other assets on our consolidated balance sheets. As of September 30, 2004, we have two interest rate swap arrangements with
third parties to fix the interest rate on the underlying variable rate debt,
with an initial notional balance totaling approximately $100 million, which we
have designated as cash flow hedges. During the second quarter of 2004, we
terminated two interest rate swap arrangements with notional balances totaling
approximately $58 million as part of our debt restructuring, as further
described in the Balance Sheet Restructuring and Debt Extinguishment Charges
section herein. In conjunction with the early termination of these swap
arrangements, we incurred swap breakage fees totaling approximately $4.0
million. For a derivative qualifying as a cash flow hedge, the change in the unrealized
gain or loss is recorded as a component of accumulated other comprehensive
income (loss) within shareholders equity on our consolidated balance sheets.
The fair value of the swap is recorded as either an asset or liability on our
consolidated balance sheets. The unrealized loss on our cash flow hedges was approximately $8.5 million and
$13.5 million as of September 30, 2004 and December 31, 2003, respectively.
Total comprehensive income for the three months ended September 30, 2004 and
2003 was approximately $19.3 million and $16.8 million, respectively. Total
comprehensive income for the nine months ended September 30, 2004 and 2003 was
approximately $55.6 million and $37.6 million, respectively. On March 18, 2004, in conjunction with pricing of the $125 million 6.75% senior
unsecured monthly income notes, we entered into an interest rate swap
arrangement with a third party to cause the interest rate on $100 million of
the fixed rate debt effectively to be at a floating rate of the three-month
LIBOR plus 162.4 basis points. At the time we entered into the swap, we had a
firm commitment to close the debt on April 15, 2004. Therefore, we hedged our
firm commitment and the debt. The swap arrangement has been designated as a
fair value hedge. For a derivative qualifying as a fair value hedge, the change in the net
unrealized gain or loss upon measuring the fair value hedge and the fair value
of the debt instrument being hedged is recorded on our consolidated statements
of operations. Generally, these amounts offset each other. The fair value of
the swap is recorded as either an asset or liability, with a corresponding
increase or decrease recorded to the carrying value of the debt instrument
being hedged on our consolidated balance sheets. The unrealized loss on our fair value hedge was approximately $3.4 million as
of September 30, 2004. The net unrealized gain or loss on our fair value hedge
and the debt being hedged had no impact on our net income for the three months
and nine months ended September 30, 2004. Shelf Registration On June 4, 2004, we filed a shelf registration statement, which we refer to as
the 2004 Shelf Registration Statement, with the SEC relating to the future
offering of up to an aggregate of $600 million of common 44




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shares, preferred shares, depositary shares, debt securities and warrants
exercisable for common or preferred shares. The 2004 Shelf Registration
includes approximately $64.2 million available under our shelf registration
statement filed with the SEC on March 2, 1999 as well as approximately $1.5
million available under our 2003 Shelf Registration Statement, for the issuance
of securities. We believe the 2004 Shelf Registration Statement will provide
us with more efficient and immediate access to capital markets when considered
appropriate. As of September 30, 2004, $550.8 million was available under the
2004 Shelf Registration Statement. Equity Offerings Common Shares On February 9, 2004, we sold 1,825,000 common shares in an underwritten public
offering at an initial price to the public of $35.40 per share under our 2003
Shelf Registration Statement. Net proceeds to us, after deducting the
discounts and commissions to the underwriters and other expenses of this
offering, totaled approximately $61.6 million. We contributed the net proceeds
of the offering to the Partnership in exchange for Common Units in the
Partnership and used the net proceeds to fund acquisitions, to repay borrowings
under our short-term credit facilities and for general corporate purposes. On April 2, 2004, we issued 1,000,000 common shares in an underwritten public
offering at an initial price to the public of $35.15 per share under our 2003
Shelf Registration Statement. Net proceeds to us, after deducting the
discounts and commissions to the underwriter and other expenses of this
offering, totaled approximately $35.0 million. We contributed the net proceeds
of the offering to the Partnership in exchange for Common Units in the
Partnership and used the net proceeds to repay $18.0 million of borrowings
under our short-term credit facilities and to pay off a portion of the debt
outstanding with Ford. On August 27, 2004, we issued 1,700,000 common shares in an underwritten public
offering, including 100,000 common shares issued pursuant to the exercise of
the underwriters over-allotment option, at an initial price to the public of
$28.95 per share. The shares were issued under our 2004 Shelf Registration
Statement. Net proceeds to us, after deducting the discounts and commissions
to the underwriter and other expenses of this offering, totaled approximately
$48.5 million. We contributed the net proceeds of the offering to the
Partnership in exchange for Common Units in the Partnership and used the net
proceeds to repay approximately $27.9 million of debt outstanding, to repay
borrowings under our short-term credit facilities, to fund acquisitions and for
general corporate purposes. Preferred Shares On April 27, 2004, we issued 2,500,000 8% Series B Cumulative Redeemable
Preferred Shares at $25.00 per share. On May 4, 2004, upon exercise of the
underwriters over-allotment option, we issued an additional 100,000 Series B
preferred shares at $25.00 per share. The Series B preferred shares were
issued under our 2003 Shelf Registration Statement. Net proceeds to us, after
deducting the discounts and commissions to the underwriters and other expenses
of this offering, totaled approximately $63.2 million. We contributed the net
proceeds of the offering to the Partnership in exchange for Series B Preferred
Units in the Partnership. Of the total net proceeds, approximately $53 million
was used to pay off a portion of the debt outstanding with Ford and the
remaining proceeds were used to fund acquisitions and for general corporate
purposes. The preferred shares are non-voting and redeemable for cash, at $25.00 per
share plus any accrued and unpaid dividends, at our option on or after April
27, 2009, unless in limited circumstances in which early redemption is
necessary to preserve our status as a real estate investment trust for federal
income tax purposes. The preferred shares have no stated maturity and are not
subject to any sinking fund 45




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provisions. Additionally, the shares are not convertible into or exchangeable
for any other security unless conversion is necessary to maintain our status as
a real estate investment trust. Holders of preferred shares are entitled to
cumulative cash dividends at a rate of 8% of the $25.00 liquidation preference
per year (equivalent to $2.00 per year per share), payable quarterly (when and
as declared by the Board of Trustees). In the case of the preferred shares,
there are Series B Preferred Units in the Partnership owned by us that carry
substantially the same terms. Liquidity Requirements Short-term liquidity requirements consist primarily of normal recurring
operating expenses and capital expenditures, debt service requirements
(including debt service relating to additional and replacement debt),
collateral calls on interest rate swaps, distributions to common and preferred
shareholders, distributions to minority partners and amounts required for
additional property investments, facility improvement fundings and construction
financings. We expect to meet these requirements (other than amounts required
for additional property investments, facility improvement fundings and
construction financings) through cash provided from operations and our existing
and new revolving credit facilities. We anticipate that any additional
investments in properties, facility improvement fundings and construction
financings during the next 12 months will be funded with cash provided from
operations, long-term secured and unsecured debt and the issuance of common or
preferred equity, each of which may be initially funded with our existing or
new revolving credit facilities. Investments in properties, facility
improvement fundings and construction financings will be made subject to our
investment objectives and policies with the intention of maximizing both
current and long-term growth and income. Included in our short-term liquidity requirements is the repayment of
borrowings outstanding on our revolving secured credit facilities. Properties
are eligible within the borrowing base of our secured credit facilities for 150
days to twelve months, unless extended by us and the lender, and therefore we
are generally required to repay these borrowings within twelve months. As of
September 30, 2004, we did not have any borrowings outstanding on our revolving
secured credit facilities. As of September 30, 2004, long-term liquidity requirements consisted primarily
of obligations under our long-term debt and dividends paid to our preferred
shareholders. We anticipate that long-term liquidity requirements will also
include amounts required for investments in properties, facility improvement
fundings and construction financings. We expect to meet our long-term liquidity
requirements through long-term secured and unsecured borrowings and other debt
and equity financing alternatives. The availability and terms of any such
financing will depend upon market and other conditions. Aggregate annual repayments of our debt outstanding (excluding borrowings on
our credit facilities) as of September 30, 2004 are as follows (in thousands): For the Year Ended December 31, PrincipalAmortization
    
    Maturities
    
    Total2004
    
    $
    6,546
    
    
    $
    
    
    
    $
    6,5462005
    
    
    27,156
    
    
    
    
    
    
    
    27,1562006
    
    
    28,866
    
    
    
    
    
    
    
    28,8662007
    
    
    30,703
    
    
    
    
    
    
    
    30,7032008
    
    
    32,459
    
    
    
    24,211
    
    
    
    56,670Thereafter
    
    
    363,136
    
    
    
    533,485
    
    
    
    896,621Total
    
    $
    488,866
    
    
    $
    557,696
    
    
    $
    1,046,562
 46




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Facility Improvements and Construction Financing Commitments We currently have contractual commitments for future facility improvements and
construction financings with several large tenants on properties we currently
own. Improvements include costs incurred by tenants on facilities during which
the tenants business continues to operate without interruption. Construction
financings include advances for the construction of new facilities by tenants
for which operations have not commenced or fundings for major improvements to
existing facilities that cause operations to cease during the construction
period. As of September 30, 2004, these commitments totaled approximately
$140 million. The majority of these projects are expected to be completed
during the next two years. Dividend Reinvestment and Share Purchase Plan During April 2000, we implemented a Dividend Reinvestment and Share Purchase
Plan, which we refer to as the DRIP, which was subsequently replaced on October
1, 2004. Under the DRIP, current shareholders and Unitholders are permitted to
elect to reinvest all, a portion or none of their cash dividends or
distributions to purchase common shares. The DRIP also allows both new
investors and existing shareholders and Unitholders to make optional cash
payments to purchase common shares. The DRIP permits current shareholders, Unitholders and new investors to invest
a minimum of $100 and up to a maximum of $10,000 in common shares per month.
The DRIP also allows us to raise additional capital by waiving the limitations
on the $10,000 maximum per month. Shares purchased under the DRIP through
reinvestment of dividends are purchased at a discount (currently 3%) to the
market price. Shares purchased under the DRIP through optional cash payments
of $10,000 or less are purchased at market price. Common shares may be purchased directly from us or in open market or privately
negotiated transactions, as we determine from time to time, to fulfill the
requirements for the DRIP. For the three months ended September 30, 2004, we
issued approximately 84,700 common shares under the DRIP, totaling
approximately $2.4 million. For the nine months ended September 30, 2004, we
issued approximately 283,800 common shares under the DRIP, totaling
approximately $8.2 million. Common Share Repurchase Program During 1998, we announced that our Board of Trustees had authorized the
repurchase of up to 6.0 million common shares. Purchases have been and will be
made from time to time in open market transactions at prevailing prices or in
negotiated private transactions at the discretion of management. During the
nine months ended September 30, 2004, no common shares were repurchased. From
the inception of the common share repurchase program through September 30,
2004, a total of 4,094,700 common shares have been repurchased at an average
price of $10.62 per common share. In conjunction with the common share
repurchases, the Partnership redeemed an equivalent number of Common Units from
us for equivalent purchase prices. Off-Balance Sheet Arrangements As of September 30, 2004, we have no off-balance sheet arrangements that are
reasonably likely to have a current or future material effect on our financial
condition, revenues or expenses, results of operations, liquidity, capital
expenditures or capital resources. 47




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FUNDS FROM OPERATIONS (FFO) The National Association of Real Estate Investment Trusts (NAREIT) developed
FFO as a relative non-GAAP financial measure of performance of an equity REIT
in order to recognize that income-producing real estate historically has not
depreciated on the basis determined under GAAP. FFO, as defined under the
revised definition adopted in April 2002 by NAREIT and as presented by us, is
net income, computed in accordance with GAAP, plus depreciation and
amortization of assets unique to the real estate industry, plus minority
interest related to income from continuing operations and income from
discontinued operations, and excluding gains from the sales of property, and
after adjustments for unconsolidated partnerships and joint ventures. FFO does
not represent cash flows from operating activities in accordance with GAAP
(which, unlike FFO, generally reflects all cash effects of transactions and
other events in the determination of net income) and should not be considered
an alternative to net income as an indication of our performance or to cash
flow as a measure of liquidity or ability to make distributions. We consider
FFO a meaningful, additional measure of operating performance because it
primarily excludes the assumption that the value of the real estate assets
diminishes predictably over time, which is contrary to what we believe occurs
with our assets, and because industry analysts have accepted it as a
performance measure. Comparison of our presentation of FFO, using the NAREIT
definition, to similarly titled measures for other REITs may not necessarily be
meaningful due to possible differences in the application of the NAREIT
definition used by such REITs. 48




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The following table reconciles FFO, FFO available to common shareholders and
FFO per common share for the three months and nine months ended September 30,
2004 and 2003 to their most directly comparable GAAP measures, net income and
net income per common share (in thousands, except per share data): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income*
    
    $
    21,841
    
    
    $
    13,071
    
    
    $
    51,463
    
    
    $
    37,718Real estate depreciation and amortization
    
    
    9,174
    
    
    
    7,817
    
    
    
    26,946
    
    
    
    22,882Minority interest related to income from
continuing operations and income from
discontinued operations
    
    
    3,555
    
    
    
    3,383
    
    
    
    8,876
    
    
    
    10,384Gain on sale of real estate
    
    
    (2,274
    )
    
    
    
    
    
    
    (3,486
    )
    
    
    (58
    )FFO
    
    
    32,296
    
    
    
    24,271
    
    
    
    83,799
    
    
    
    70,926Preferred share dividends
    
    
    (3,152
    )
    
    
    
    
    
    
    (7,780
    )
    
    
    FFO available to common shareholders
    
    $
    29,144
    
    
    $
    24,271
    
    
    $
    76,019
    
    
    $
    70,926Weighted average number of common shares
used to compute basic net income per
common share
    
    
    37,021
    
    
    
    31,919
    
    
    
    35,714
    
    
    
    30,303Weighted average number of common shares
used to compute fully diluted net income
per common share
    
    
    37,393
    
    
    
    32,731
    
    
    
    36,193
    
    
    
    31,198Weighted average number of common shares
and units used to compute basic FFO per
common share
    
    
    45,133
    
    
    
    40,185
    
    
    
    43,598
    
    
    
    38,652Weighted average number of common shares
and units used to compute fully diluted
FFO per common share
    
    
    45,504
    
    
    
    40,997
    
    
    
    44,077
    
    
    
    39,547Basic net income per common share
    
    $
    0.50
    
    
    $
    0.41
    
    
    $
    1.22
    
    
    $
    1.24Diluted net income per common share
    
    $
    0.50
    
    
    $
    0.40
    
    
    $
    1.21
    
    
    $
    1.22Basic FFO per common share
    
    $
    0.65
    
    
    $
    0.60
    
    
    $
    1.74
    
    
    $
    1.83Diluted FFO per common share
    
    $
    0.64
    
    
    $
    0.59
    
    
    $
    1.72
    
    
    $
    1.79
 * Included in net income for the three months and nine months ended September
30, 2004, are debt extinguishment charges totaling approximately $697,000 and
$9.4 million, respectively, as further described in Results of Operations 
Debt Extinguishment Charges section herein. Forward-Looking Statements This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Also,
documents that we subsequently file with the SEC will contain forward-looking
statements. When we refer to forward-looking statements or information,
sometimes we use words such 49




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as may, will, could, should, plans, intends, expects, believes,
estimates, anticipates and continues. In particular, Item II and Item
III of Part I of this Form 10-Q describe forward-looking information. The risk
factors are not all inclusive, particularly with respect to possible future
events, and should be read together with our other filings under the Securities
Act and the Exchange Act, including the risks and other risk factors contained
in our Form 8-K/A filed on March 12, 2004. Other parts of this Form 10-Q may
also describe forward-looking information. Many things can happen that can
cause our actual results to be very different than those described. These
factors include, but are not limited to:  
    
    risks that our tenants will not pay rent;
    
    risks related to our reliance on a small number of
tenants for a significant portion of our revenue;
    
    risks of financing, such as increases in interest
rates, our ability to meet existing financial covenants and
to consummate planned and additional financings on terms
that are acceptable to us;
    
    risks that our growth will be limited if we cannot
obtain additional capital or refinance our maturing debt;
    
    risks that planned and additional acquisitions may
not be consummated;
    
    risks that competition for acquisitions could
result in increased acquisition prices and costs as well as
a reduction in capitalization rates for new transactions;
    
    risks relating to the automotive industry, such as
the ability of our tenants to compete effectively in the
automotive retail industry or operate profitably and the
ability of our tenants to perform their lease obligations as
a result of changes in any manufacturers production,
supply, vehicle financing, incentives, warranty programs,
marketing or other practices, or changes in the economy
generally;
    
    risks generally incident to the ownership of real
property, including adverse changes in economic conditions,
changes in the investment climate for real estate, changes
in real estate taxes and other operating expenses, adverse
changes in governmental rules and fiscal policies and the
relative illiquidity of real estate;
    
    risks related to our financing of new construction
and improvements;
    
    environmental and other risks associated with the
acquisition and leasing of automotive properties;
    
    risks that litigation judgments or settlements
could have a material adverse effect on our operations and
financial condition; and
    
    risks related to our status as a REIT for federal
income tax purposes, such as the existence of complex
regulations relating to our status as a REIT, the effect of
future changes in REIT requirements as a result of new
legislation and the adverse consequences of the failure to
qualify as a REIT. Given these uncertainties, readers are cautioned not to place undue reliance on
these forward-looking statements. We also make no promise to update any of the
forward-looking statements. You should carefully review the risks and the risk
factors contained in our Form 8-K/A filed on March 12, 2004, as well as the
other information in this Quarterly Report on Form 10-Q before investing in us. 50




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Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain financial market risks, the most predominant being
fluctuations in interest rates. Interest rate fluctuations are monitored by
our management as an integral part of our overall risk management program,
which recognizes the unpredictability of financial markets and seeks to reduce
the potentially adverse effect on our results of operations. In general, our
strategy of match-funding our long-term debt to our leases reduces our exposure
to interest rate fluctuations by substantially locking in our investment
spreads during the initial term of the leases. As part of this strategy, we
have used and may continue to use interest rate swap arrangements to manage or
hedge our interest rate risk. We do not enter into interest rate swap
arrangements for trading purposes. During the nine months ended September 30, 2004, our fixed rate debt decreased
from $804.6 million as of December 31, 2003 to $787.9 million as of September
30, 2004. Interest rate fluctuations may affect the fair value of our fixed
rate debt instruments. If interest rates on our fixed rate debt instruments at
September 30, 2004 had been one percentage point higher or lower, the fair
value of those debt instruments on that date would have decreased or increased,
respectively, by approximately $49.4 million. As of September 30, 2004, approximately $406 million, or 20% of our total real
estate portfolio, was leased to tenants utilizing our variable rate lease
program as further described under the Liquidity and Capital Resources
section herein, as compared to $425 million as of December 31, 2003. As of
September 30, 2004, our total variable rate debt outstanding was $268.6
million, as compared to $340.9 million as of December 31, 2003. If interest rates on our variable rate debt instruments outstanding at
September 30, 2004 had been 1% higher or lower, our annual interest expense
relating to those debt instruments would have increased or decreased,
respectively, by approximately $2.7 million, based on balances at September 30,
2004. This impact on net income as a result of an increase or decrease in
interest rates by 1% is partially reduced by the structure of our variable rate
leases as noted above. Because of the minimum lease rates built into the
majority of our leases, if the underlying index on our variable rate lease
agreements outstanding at September 30, 2004 had been 1% higher or lower, our
annual rental revenue relating to those lease agreements would have increased
by approximately $820,000 or decreased by approximately $399,000 respectively.
Assuming the underlying index increased to a level where none of our minimum
lease rates were triggered, a 1% increase or decrease in the underlying index
would increase or decrease our rental revenue by approximately $3.2 million to
$4.1 million because of certain investment spread variations at various LIBOR
levels. Item 4. Controls and Procedures Quarterly Evaluation.We carried out an evaluation as of September 30, 2004 of
the effectiveness of the design and operation of our disclosure controls and
procedures, which we refer to as our disclosure controls, and our internal
controls and procedures for financial reporting, which we refer to as our
internal controls. This evaluation was done under the supervision and with the
participation of management, including our President and Chief Executive
Officer and our Senior Vice President, Chief Financial Officer and Treasurer.
Rules adopted by the SEC require that we present the conclusions of the
President and Chief Executive Officer and our Senior Vice President, Chief
Financial Officer and Treasurer about the effectiveness of our disclosure
controls and internal controls as of the end of the period covered by this
quarterly report. CEO and CFO Certifications.Included as Exhibits 31.1 and 31.2 to this
Quarterly Report on Form 10-Q are forms of Certification of our President and
Chief Executive Officer and our Senior Vice President, 51




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Chief Financial Officer and Treasurer. The forms of Certification are required
in accordance with Section 302 of the Sarbanes-Oxley Act of 2002. This section
of the Quarterly Report on Form 10-Q you are currently reading is the
information concerning the evaluation referred to in the Section 302
certifications,
and this information should be read in conjunction with the Section 302
certifications for a more complete understanding of the topics presented. Disclosure Controls and Procedures and Internal Control over Financial
Reporting.Disclosure controls and procedures are designed with the objective
of ensuring that information required to be disclosed in our reports filed or
submitted under the Exchange Act, such as this Quarterly Report on Form 10-Q,
is recorded, processed, summarized and reported within the time periods
specified in the SECs rules and forms. Disclosure controls and procedures are
also designed with the objective of ensuring that such information is
accumulated and communicated to our management, including our President and
Chief Executive Officer and our Senior Vice President, Chief Financial Officer
and Treasurer, as appropriate to allow timely decisions regarding required
disclosure. Internal control over financial reporting is a process designed by, or under
the supervision of our President and Chief Executive Officer and our Senior
Vice President, Chief Financial Officer and Treasurer, and effected by our
Board of Trustees, management and other personnel, to provide reasonable
assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes in accordance with GAAP and
includes those policies and procedures that:  
    
    pertain to the maintenance of records that in reasonable detail
accurately and fairly reflect the transactions and dispositions of our
assets;
    
    provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance
with GAAP, and that our receipts and expenditures are being made only
in accordance with authorizations of management or our Board; and
    
    provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use or disposition of our assets
that could have a material adverse effect on our financial statements. Limitations on the Effectiveness of Controls.Management, including our
President and Chief Executive Officer and our Senior Vice President, Chief
Financial Officer and Treasurer, do not expect that our disclosure controls and
procedures or our internal control over financial reporting will prevent all
errors and all fraud. A control system, no matter how well conceived and
operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. Further, the design of a control
system must reflect the fact that there are resource constraints, and the
benefits of controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within the company have been detected. These inherent limitations include
the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake. Additionally,
controls can be circumvented by the individual acts of some persons, by
collusion of two or more people, or by managements override of the control.
The design of any system of controls also is based in part upon certain
assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions; over time, controls may become inadequate because
of changes in conditions, or the degree of compliance with the policies or
procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur
and not be detected. Scope of the Evaluation.The evaluation by our President and Chief Executive
Officer and our Senior Vice President, Chief Financial Officer and Treasurer of
our disclosure controls and procedures and our internal control over financial
reporting included a review of procedures and discussions with our Vice 52




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President and Chief Accounting Officer, who is our Disclosure Control Monitor
and others in our organization. In the course of the evaluation, we sought to
identify data errors, control problems or acts of fraud and to confirm that
appropriate corrective action, including process improvements, were being
undertaken. This type of evaluation is done on a quarterly basis so that the
conclusions concerning controls effectiveness can be reported in our Quarterly
Reports on Form 10-Q and Annual Report on Form 10-K. Our internal control over financial reporting is also evaluated on an ongoing
basis by personnel in our accounting department and by our independent auditors
in connection with their audit and review activities. The overall goals of
these various evaluation activities are to monitor our disclosure controls and
procedures and our internal control over financial reporting and to make
modifications as necessary. Our intent in this regard is that the disclosure
controls and procedures and the internal control over financial reporting will
be maintained and updated (including with improvements and corrections) as
conditions warrant. Among other matters, we sought in our evaluation to
determine whether there were any significant deficiencies or material
weaknesses in our internal control over financial reporting, or whether we had
identified any acts of fraud involving personnel who have a significant role in
our internal control over financial reporting. This information was important
both for the evaluation generally and because the Section 302 certifications
require that our President and Chief Executive Officer and our Senior Vice
President, Chief Financial Officer and Treasurer disclose that information to
the Audit Committee of our Board of Trustees and to our independent auditors
and to report on related matters in this section of the Quarterly Report on
Form 10-Q. In the Public Company Accounting Oversight Boards Auditing
Standard No. 2, a significant deficiency is a control deficiency, or
combination of control deficiencies, that adversely affects the ability to
initiate, authorize, record, process, or report external financial data
reliably in accordance with GAAP such that there is more than a remote
likelihood that a misstatement of the annual or interim financial statements
that is more than inconsequential will not be prevented or detected. A
control deficiency exists when the design or operation of a control does not
allow management or employees, in the normal course of performing their
assigned functions, to prevent or detect misstatements on a timely basis. A
material weakness is defined in Auditing Standard No. 2 as a significant
deficiency, or a combination of significant deficiencies, that results in more
than a remote likelihood that a material misstatement of the annual or interim
financial statements will not be prevented or detected. We also sought to deal
with other control matters in the evaluation, and in each case if a problem was
identified, we considered what revision, improvement and/or correction was
necessary to be made in accordance with our on-going procedures. Conclusions.Based upon the evaluation, our President and Chief Executive
Officer and our Senior Vice President, Chief Financial Officer and Treasurer
have concluded that, as of September 30, 2004 and subject to the limitations
noted above, our disclosure controls and procedures were effective at the
reasonable assurance level to ensure that material information relating to us
and our consolidated subsidiaries is made known to management, including our
President and Chief Executive Officer and our Senior Vice President, Chief
Financial Officer and Treasurer. During the three months ended September 30, 2004, we elected to outsource our
information technology support function due to the growth in our business as
well as the size of our Company. There were no other significant changes in
our internal control over financial reporting that have materially affected, or
are reasonably likely to materially affect our internal control for financial
reporting. 53




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CAPITAL AUTOMOTIVE REIT
PART II-OTHER INFORMATION Item 1. Legal Proceedings We are engaged in litigation relating to the activities of Michael Burkitt, a
former employee who left to become President, Chief Executive Officer, and a
member of the board of directors of Milestone Realty Trust, a Maryland
corporation, which we refer to as Milestone. We filed a motion for judgment in
the Circuit Court of Fairfax County, Virginia against Mr. Burkitt seeking
injunctive relief, punitive damages and actual damages resulting from Mr.
Burkitts alleged misappropriation of our trade secrets, breaches of his
fiduciary duties to us, and his misstatements to third parties regarding his
role and activities as an employee of ours. Milestone, together with three of its sponsors and investors, then filed suit
against us in the District Court in Dallas County, Texas, seeking injunctive
relief, actual damages of at least $150,000,000 and treble damages resulting
from our alleged attempt to interfere with Milestones business relationships
with potential investors and tenants and its efforts to raise capital. On April
6, 2004, the Dallas District Court issued a temporary restraining order against
us and related parties. The temporary restraining order has expired and is no
longer in effect. On June 25, 2004, the Circuit Court of Fairfax County granted us permission to
amend our motion for judgment and add new parties. We have added Milestone,
The Staubach Company, Staubach Retail Services, Inc., Cypress Equities, L.L.C.,
Presidio Financial Partners, L.L.C., and John Geller (who resigned from his
position at Ernst & Young LLP, where he served as our audit partner, to become
the Chief Financial Officer of Milestone) as defendants and Capital Automotive
L.P. as co-plaintiff to our Fairfax, Virginia suit for misappropriation of
trade secrets, breaches of fiduciary duty, tortious interference with CARS
business relationships, and conspiracies to injure CARS in its reputation,
trade, business, and profession. We are seeking $250,000,000 in compensatory
and punitive damages, and three-fold damages pursuant to Virginias conspiracy
statute, and injunctive relief pursuant to the Virginia Uniform Trade Secrets
Act. Although no assurance can be provided with respect to any litigation, we
believe that the allegations against us in the Texas petition are without merit
and that we have meritorious defenses to the claims made in the petition. We
intend to prosecute our case and defend ourselves vigorously, and management
does not anticipate that the litigation will have a material adverse effect on
our financial position or results of operations. Item 2. Unregistered
Sales of Equity Securities and Use of Proceeds Not applicable. Item 3. Defaults Upon Senior Securities Not applicable. Item 4. Submission of
Matters to a Vote of Security Holders Not applicable. Item 5. Other Information (a) We are providing the following information in this Form 10-Q instead of
reporting the information separately on a Form 8-K. We are reporting this
information in advance of the deadline for reporting on Form 8-K. In connection with our issuance of our 6.75% senior unsecured monthly income
notes, the partnership agreement of the Partnership requires us to contribute
the proceeds of the offering, net of underwriting discounts and offering costs,
to the Partnership, and obligates the Partnership to issue partnership units
to us that have terms that correspond to the material terms of the monthly
income notes. In accordance with these requirements, on November 4, 2004, we,
in our capacity as the sole general partner of the Partnership, entered into
the Fifth Amendment to Second Amended and Restated Agreement of Limited Partnership of
Capital Automotive L.P. (the Fifth Amendment) to create and issue to us
Monthly Income Preferred Partnership Units. The Monthly Income Preferred
Partnership Units have terms that correspond to the material terms of the
monthly income notes. The Fifth Amendment, which is effective as of April 15,
2004, sets forth the designations, allocations and preferences of the Monthly
Income Preferred Partnership Units and the amount and timing of distributions
due to the Monthly Income Preferred Partnership Units and the other special
rights, powers and duties of the holders of the Monthly Income Preferred
Partnership Units. In connection with our issuance of our 6% convertible notes, the partnership
agreement of the Partnership requires us to contribute the proceeds of the
offering, net of underwriting discounts and offering costs, to the Partnership,
and obligates the Partnership to issue partnership units to us that have terms
that correspond to the material terms of the convertible notes. In accordance
with these requirements, on November 4, 2004, we, in our capacity as the sole
general partner of the Partnership, entered into the Sixth Amendment to Second
Amended and Restated Agreement of Limited Partnership of Capital Automotive L.P. (the
Sixth Amendment) to create and issue to us Convertible Preferred Partnership
Units. The Convertible Preferred Partnership Units have terms that correspond
to the material terms of the convertible notes. The Sixth Amendment, which is
effective as of May 12, 2004, sets forth the designations, allocations and
preferences of the Convertible Preferred Partnership Units, the amount and
timing of distributions due to the Convertible Preferred Partnership Units and
the other special rights, powers and duties (including conversion rights) of
the holders of the Convertible Preferred Partnership Units. Copies of the Fifth Amendment
and the Sixth Amendment are filed as exhibits to
this Form 10-Q. 54




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Item 6. Exhibits (a) Exhibits:  4.1
    
    Fifth Amendment to Second Amended and Restated Agreement of Limited Partnership of
Capital Automotive
L.P. (filed herewith)4.2
    
    Sixth Amendment to Second Amended and Restated Agreement of Limited Partnership of
Capital Automotive
L.P. (filed herewith)31.1
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer (filed
herewith)31.2
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer (filed
herewith)32.1
    
    Section 1350 Certification of Chief Executive Officer (filed herewith)32.2
    
    Section 1350 Certification of Chief Financial Officer (filed herewith) 55




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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. CAPITAL AUTOMOTIVE REIT(Registrant)BY:
    
    /s/ Thomas D. EckertThomas D. EckertPresident and Chief Executive Officer(principal executive officer)BY:
    
    /s/ David S. KayDavid S. KaySenior Vice President, Chief Financial Officer and Treasurer(principal financial officer)
 Dated: November 5, 2004  56