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SECURITIES AND EXCHANGE COMMISSION

Form 10-Q

Commission File Number 0-49782

T REIT, Inc.

N/A

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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 þ  No o

      Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).  Yes o  No þ

      As of August 12, 2003, there were 4,663,824 shares of common stock of T REIT, Inc. outstanding.

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T REIT, INC.

FORM 10-Q

INDEX

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PART I — FINANCIAL INFORMATION

      The accompanying June 30, 2003 and 2002 interim financial statements of the Company required to be filed with this Form 10-Q Quarterly Report were prepared by management without audit and commence on the following page, together with the related Notes. In the opinion of management, these interim financial statements present fairly the financial condition, results of operations and cash flows of the Company, but should be read in conjunction with the consolidated financial statements of the Company for the year ended December 31, 2002 included in our Annual Report on Form 10-K previously filed with the Securities and Exchange Commission (“SEC”).

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T REIT, INC.

The accompanying notes are an integral part of these consolidated financial statements.

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T REIT, INC.

The accompanying notes are an integral part of these consolidated financial statements.

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T REIT, INC.

The accompanying notes are an integral part of these consolidated financial statements.

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T REIT, INC.

The accompanying notes are an integral part of these consolidated financial statements.

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T REIT, INC.

1.     Organization

      T REIT, Inc. (the “Company”) was formed in December 1998 in the Commonwealth of Virginia and operates as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended. The Company is in the business of acquiring existing office, industrial, retail and service properties located in several states. As of June 30, 2003, the Company owned real estate investments consisting of four properties, five tenant in common interests and two membership interests in limited liability companies (see Note 3).

      Pursuant to a registration statement on Form S-11 (the “Registration Statement”) under the Securities Act of 1933, as amended, the Company offered for sale to the public up to 10,000,000 shares of its common stock (the “Offering”) at an Offering price of $10.00 per share and up to 700,000 shares under the Company’s Dividend Reinvestment Plan (the “DRIP”). The Registration Statement was declared effective on February 22, 2000. By May 31, 2002, when the Offering and the DRIP were terminated, the Company had sold 4,720,176 shares of common stock, including 22,100 sold to the Advisor and 69,676 shares sold under the DRIP. Aggregate gross proceeds before Offering costs and selling commissions were approximately $46,395,000. Through June 30, 2003, the Company repurchased 25,615 shares pursuant to its Share Repurchase Plan (See Note 7). As of June 30, 2003, there were 4,694,561 common shares outstanding.

      The Company owns all of its interests in properties through its majority-owned subsidiary, T REIT, L.P., a Virginia limited partnership (the “Operating Partnership”), and conducts substantially all of its operations through the Operating Partnership. As of June 30, 2003, the Company was the sole general partner of the Operating Partnership and owned substantially all of the equity interests therein, except for 100 incentive non-voting ownership units issued to the Company’s Advisor. The incentive units entitle the Advisor to receive certain incentive distributions of operating cash flow after a minimum 8% return on invested capital has been paid to the Company’s shareholders (as defined in the Registration Statement). In addition, the Advisor is entitled to incentive distributions from net proceeds from the sale of properties after the Company’s shareholders have received distributions equal to their invested capital, as defined, plus an 8% return on such invested capital.

      The Company is externally advised by Triple Net Properties, LLC (the “Advisor”), which is primarily responsible for managing the day-to-day operations and assets of the Company. The Advisory Agreement between the Company and the Advisor, as amended, was renewed by the Board of Directors on June 28, 2003 for an additional one-year term effective February 22, 2003 (See Note 8).

      The accompanying consolidated financial statements include the accounts of the Company, T REIT, L.P. and the wholly owned subsidiaries of T REIT, L.P. All material intercompany transactions and account balances have been eliminated in consolidation. All references to the Company include the Operating Partnership and its subsidiaries.

      The information furnished has been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial reporting, the instructions to Form 10-Q, and Rule 10-01 of Regulation S-X. Accordingly, certain information and disclosures have been condensed or omitted. In the opinion of management, all adjustments considered necessary for the fair presentation of the Company’s financial position, results of operations and cash flows have been included and are only of a normal recurring nature. The results of operations for the six months ended June 30, 2003 are not necessarily indicative of the results that may be expected for the year ending December 31, 2003.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      These financial statements should be read in conjunction with the Company’s audited December 31, 2002 consolidated financial statements included in Form 10-K previously filed with the Securities and Exchange Commission.

     Real Estate Investments

     Operating Properties

      Operating properties are held for investment and carried at cost less accumulated depreciation. Cost includes the cost of land and completed buildings and related improvements. Expenditures that increase the service life of properties are capitalized; the cost of maintenance and repairs is charged to expense as incurred.

      Depreciation is generally provided on a straight-line basis over the estimated useful lives of the buildings and improvements, ranging primarily from 15 to 39 years. When depreciable property is retired or disposed of, the related costs and accumulated depreciation are removed from the accounts and any gain or loss reflected in operations.

      Impairment losses are recorded on long-lived assets used in operations when indicators of impairment are present and the assets’ carrying amount is greater than the sum of the future undiscounted cash flows estimated to be generated by those assets. As of June 30, 2003, no indicators of impairment existed and no impairment losses have been recorded.

      The Company follows the provisions of EITF 97-11, “Accounting for Internal Costs Related to Real Estate Property Acquisitions.” Accordingly, the Company does not capitalize internal acquisition costs incurred in conjunction with the identification and acquisition of properties to be held for operations.

     Property Held for Sale

      Property held for sale is carried at the lower of cost or estimated fair value less cost to sell and such property is no longer depreciated. The Company adopted the Financial Accounting Standards Board’s Statement of Financial Accounting Standards (“SFAS”) 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” on January 1, 2002. SFAS 144 supersedes SFAS 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.” The primary objectives of SFAS 144 are to develop one accounting model based on the frame work established in SFAS 121 for long-lived assets to be disposed of by sale and to address significant implementation issues regarding impairment of long-lived assets held for use. In accordance with SFAS  44, the Company classifies operating properties as property held for sale in the period in which all of the following criteria are met:

	•	management, having the authority to approve the action, commits to a plan to sell the asset;
	•	the asset is available for immediate sale in its present condition subject only to terms that are usual and customary for sales of such assets;
	•	an active program to locate a buyer and other actions required to complete the plan to sell the asset have been initiated;
	•	the sale of the asset is probable and the transfer of the asset is expected to qualify for recognition as a completed sale within one year;
	•	the asset is being actively marketed for sale at a price that is reasonable in relation to its current fair value; and;
	•	actions required to complete the plan indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      The application of SFAS 144 resulted in: (i) the presentation of the net operating results of certain properties held for sale, less allocated interest expense and depreciation, as income from discontinued operations for all periods presented (See Note 3). Interest and depreciation expense was allocated based on specific identification. Implementation of SFAS 144 impacted income statement classification only and had no effect on total results of operations. As required, properties sold prior to January 1, 2002 were presented as a component of continuing operations.

      As of June 30, 2003, two properties were classified as held for sale. As of December 31, 2002, one property was classified as held for sale.

     Investments in Unconsolidated Real Estate

      Investments in unconsolidated real estate are accounted for using the equity method of accounting. Disposition of investments accounted for using the equity method are classified within continuing operations in conformity with APB No. 18.

     Financing Costs

      Financing costs consist of loan fees and other loan costs. Loan fees and other loan costs are amortized over the term of the respective loan. Amortization of financing costs is included in interest expense.

     Revenue Recognition

      Real estate property is leased to tenants under leases with terms exceeding one year. Revenues from these leases, which are accounted for as operating leases, are recognized on a straight-line basis over the related term. Cost recoveries from tenants are included in rental income in the period the related costs are accrued.

     Income Taxes

      The Company operates as a real estate investment trust for federal income tax purposes. As a REIT, the Company is generally not subject to income taxes. To maintain its REIT status, the Company is required to distribute annually as dividends at least 90% of its REIT taxable income, as defined by the Internal Revenue Code (the “Code”), to its shareholders, among other requirements. If the Company fails to qualify as a REIT in any taxable year, the Company will be subject to Federal income tax on its taxable income at regular corporate tax rates. As of June 30, 2003, the Company was in compliance with all relevant REIT requirements.

     Per Share Data

      The Company reports earnings per share pursuant to Statement of Financial Accounting Standards No. 128, “Earnings Per Share”. Basic earnings per share attributable for all periods presented is computed by dividing the net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share are computed based on the weighted average number of common shares and all potentially dilutive securities. As of June 30, 2003, there were 165,000 potentially dilutive securities including 135,000 options granted to officers.

     Allowance for Uncollectible Receivables

      When needed, the Company maintains an allowance for estimated losses resulting from the inability of tenants to make required payments, which results in a reduction of income. Management determines the adequacy of this allowance by continually evaluating individual tenant receivables considering the tenant’s financial condition, security deposits, letters of credit, lease guarantees and current economic conditions.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Management has established an allowance for uncollectible accounts of $67,759 at June 30, 2003, to reduce receivables to recoverable amounts.

     Stock Option Plans

      The Company follows the disclosure only provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” as amended by SFAS No. 148. For employee compensatory stock options that will eventually vest, compensation expense is recognized during the periods in which the related employee services are rendered. Such expense is generally measured by determining the excess, if any, of the grant date estimated fair market value of the underlying stock over the amount to be paid by the employee in conformity with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”). Compensatory stock options and similar equity instruments issued to non-employees in exchange for goods or services are accounted for based on the estimated fair market value of (1) the goods or services received or (2) the equity instrument issued, whichever is more reliably measurable. This accounting policy is in conformity with SFAS 123.

      Effective with the Offering, the Company authorized and reserved a total of 100,000 shares of common stock for issuance under the Independent Director Stock Option Plan and 700,000 shares of common stock for issuance under the Officer and Employee Stock Option Plan. Options granted under these plans vest two years after the option grant date, provided, however that such options are not exercisable until the Plans have been approved by a majority of the Company’s shareholders. Each of the Plans was approved by shareholders at the Annual Meeting of Shareholders held June 28, 2003.

      As of June 30, 2003, options for a total of 165,000 shares are outstanding under the Officer and Employee Stock Option Plan and Independent Director Stock Option Plan.

      A summary of outstanding options exercisable under the Plans is presented in the schedule below.

      Pursuant to SFAS 148, the Company is required to disclose the effects on net income and per share data as if the Company had elected to use the fair value approach to account for its stock-based compensation plans. Had the compensation cost for all of the Company’s option plans been determined using the fair value

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method, the compensation expense would have decreased the Company’s net income for the three-month and six-month periods ended June 30, 2003 as shown below.

      This pro forma amount was determined by estimating the fair value of each option outstanding effective June 28, 2003 upon shareholder approval at approximately $2.00 per option using the Black-Scholes option-pricing model. Assumptions used in the calculation included a 7.50% dividend yield, a 3.53% risk-free interest rate based on the 10-year U.S. Treasury Bond, an expected life of 9.50 years, and a 0% volatility rate. The pro forma expense primarily reflects options that vested immediately upon shareholder approval of the respective option plans.

     Qualification as a REIT

      The Company elected to be taxed as a REIT in 2000. As of June 30, 2003, the Company believes it meets the compliance tests required to maintain its REIT status.

     Recently Issued Accounting Pronouncements

      The Financial Accounting Standards Board (“FASB”) issued Statements No. 143, “Accounting for Asset Retirement Obligations” (“SFAS 143”) and No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”). SFAS 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs, and is effective for financial statements issued for fiscal years beginning after June 15, 2002. SFAS 144 supersedes Statement No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of”, addresses financial accounting and reporting for the impairment or disposal of long-lived assets, including accounting for a segment of a business accounted for as a discontinued operation. SFAS 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001. The adoption of SFAS 144 resulted in the presentation of discontinued operations in 2002 and all prior periods presented related to property held for sale.

      In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections”. SFAS No. 145 rescinds three existing pronouncements (relating to the intangible assets of motor carriers and certain debt extinguishments), amends SFAS No. 13 (“Accounting for Leases”), and makes technical corrections that are not substantive in nature to several other pronouncements. The amendment of SFAS No. 13, which is effective for transactions occurring after May 15, 2002, requires sale-leaseback accounting by lessees for certain lease modifications that are economically similar to sale-leaseback transactions. SFAS No. 145 did not affect the accompanying 2003 financial statements, and is not presently expected to have a significant impact on the Company’s future financial statements.

      In June, 2002, the FASB approved for issuance SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” SFAS No. 146 is effective for such activities initiated after December 31, 2002.

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Activities of this type include restructurings (such as relocation of a business and fundamental reorganizations of a business itself), which may give rise to costs such as contract cancellation provisions, employee relocation, and one-time termination costs. SFAS No. 146 prohibits liability recognition based solely on management’s intent, and requires that liabilities be measured at estimated fair value. The adoption of SFAS No. 146 did not have a material effect on the Company’s financial statements.

      In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure”, an amendment of FASB Statement No. 123. The disclosure requirements of Statement 123, “Accounting for Stock-Based Compensation”, which apply to stock compensation plans of all companies, are amended to require certain disclosures about stock-based employee compensation plans in an entity’s accounting policy note. Those disclosures include a tabular format of pro forma net income and, if applicable, earnings per share under the fair value method if the intrinsic value method is used in any period presented. Pro forma information in a tabular format is also required in the notes to interim financial information if the intrinsic value method is used in any period presented. Before amendment by Statement 148, Statement 123 required entities changing to the fair value method of accounting for stock-based employee compensation to account for the change in method prospectively. The Board decided to provide a choice among three transition methods (the prospective method originally required by Statement 123, the modified prospective method, and the retroactive restatement method) for entities voluntarily adopting the fair value method in periods beginning before December 16, 2003. Statement 123’s original prospective transition method will not be available to entities changing to the fair value method in fiscal years beginning after December 15, 2003. The amendments to the disclosure and transition provisions of Statement 123 are effective for fiscal years ending after December 15, 2002. The disclosure requirement for interim financial information is effective for interim periods beginning after December 15, 2002. The Company has adopted the disclosure requirements of SFAS 148 in the accompanying financial statements. The implementation of this standard did not have a material effect upon the Company’s financial statements.

      The FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,”— an interpretation of FASB Nos. 5, 57 and 107 and rescission of FASB Interpretation No. 34. This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The initial recognition and measurement provisions of this Interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002. Implementation of these provisions of the Interpretation is not expected to have a material impact on the Company’s consolidated financial statements. The disclosure requirements of the Interpretation are effective for financial statements of interim or annual periods ended after December 15, 2002, and have been adopted in the accompanying consolidated financial statements and the additional disclosures required have been included.

      The FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities” — an interpretation of Accounting Research Bulletin (“ARB”) No. 51. This Interpretation defines a variable interest entity and provides that if a business enterprise has a controlling financial interest in a variable interest entity, the assets, liabilities, and results of the activities of the variable interest entity should be included in consolidated financial statements with those of the business enterprise. Furthermore, the Board indicates that the voting interest approach of ARB No. 51 is not effective in identifying controlling financial interests in entities that are not controllable through voting interest or in which the equity investors do not bear the residual economic risk. This Interpretation applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. The Interpretation

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applies to public enterprises as of the beginning of the applicable interim or annual period. The implementation of this Interpretation did not have a material effect upon the Company’s financial statements.

      In May 2003, the FASB issued Statement No. 150 (“SFAS 150”), “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” This statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. In accordance with the standard, financial instruments that embody obligations for the issuer are required to be classified as liabilities. SFAS 150 is effective for all financial instruments created or modified after May 31, 2003, and otherwise shall be effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS 150 is not expected to have a material effect on the Company’s consolidated financial condition or results of operations.

      Certain reclassifications have been made to the prior year financial statements in order to conform to the current year presentation.

      The Company’s real estate investments are comprised of (i) wholly-owned properties including operating properties and properties held for sale and (ii) investments in unconsolidated real estate.

      At June 30, 2003, the Company’s operating properties were as follows:

      The Gateway Mall property is subject to a ground lease expiring in 2028 with 10 five-year option periods thereafter.

      On February 25, 2003, management of the Company approved plans to sell two of its operating properties, Thousand Oaks Shopping Center and Pahrump Valley Shopping Center.

      These properties have been reclassified as held for sale and are carried at June 30, 2003 at their net historical cost basis, which is not in excess of estimated fair value less cost to sell. The Company ceased depreciation upon its decision to sell each of the properties and the accumulated depreciation has been reclassified against the cost basis. Prior to February 25, 2003, Thousand Oaks and Pahrump were classified as operating properties.

      SFAS No. 144 requires the operating results of any property with their own identifiable cash flows that is held for sale to be removed from income from continuing operations and reported as discontinued operations for the current period and all prior periods presented. Summarized operating information for the properties

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held for sale and sold through the six months ended June 30, 2003 and June 30, 2002 referred to above which are included in discontinued operations follows:

      On May 2, 2003, the Company entered into an agreement with an unaffiliated third party to sell Thousand Oaks Shopping Center for $15,880,000. See Note 10 — “Subsequent Events.”

      On May 15, 2003, the Company entered into an agreement with an affiliated third party to sell Pahrump Valley Shopping Center for $19,000,000. Closing of this sale is anticipated during the third quarter of 2003.

      Investments in unconsolidated real estate consist of the Company’s investments in undivided tenant in common interests and limited liability companies. At June 30, 2003, the Company had the following investments in unconsolidated real estate:

      Unaudited condensed combined historical financial information for the Company’s investments in unconsolidated real estate as of and for the three and six months ended June 30, 2003 and 2002 is as follows:

      The Company is jointly and severally liable for the entire amount of the debt in connection with the above properties (See Note 9).

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      Other assets as of June 30, 2003 and the year ended December 31, 2002 consisted of the following:

5.     Note Receivable

      In November 2001, the Company advanced $595,000 to the buyer of the Christie Street Building. The note is secured by a first deed of trust, with interest at 8.5% per annum maturing in December 2006. Interest income earned in connection with this note for the three and six months ended June 30, 2003 was approximately $12,600 and $25,200, respectively.

6.     Accounts and Notes Receivable from Related Parties

      Accounts receivable from related parties at June 30, 2003 consist primarily of $120,000 of reimbursements from the Advisor for offering costs in excess of 2.5% of gross offering proceeds and a $460,000 receivable from the Advisor for amounts due related to an indemnification agreement associated with the sale of the Christie Street Building in 2001. As of June 30, 2003 the remaining balance due on these amounts was $354,209.

      The Company made no related party loans during the quarter ended June 30, 2003 and had no related party loans outstanding as of June 30, 2003 or December 31, 2002.

      At the conclusion of its Offering in May 2002, the Company had sold 4,720,176 shares of common stock at $10.00 per share, including 22,100 shares issued to the Advisor and 69,676 shares sold under the DRIP.

      During the quarter ended June 30, 2003, the Company repurchased 1,739 shares of its common stock for $15,740 pursuant to its Share Repurchase Plan. Through June 30, 2003, the Company had repurchased a total of 25,615 shares pursuant to the Share Repurchase Plan. As of June 30, 2003, there were 4,694,561 shares outstanding.

8.     Advisory Agreement and Related Party Transactions

      The Company is externally advised by Triple Net Properties, LLC (the “Advisor”), which is primarily responsible for managing the day-to-day operations and assets of the Company. The Advisory Agreement between the Company and the Advisor, as amended, was renewed by the Board of Directors on June 28, 2003 for an additional one-year term effective February 22, 2003. The Company compensates the Advisor for its services through a series of fees pursuant to the Advisory Agreement. No amounts are currently due the Advisor under this agreement.

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      The Company pays Realty property management fees equal to 5% of the gross income of each property managed by Realty. All of the Company’s properties are managed by Realty. For the three and six months ended June 30, 2003, the Company paid Realty approximately $108,400 and $180,600 in property management fees, respectively.

      The Advisor owns 100 non-voting incentive performance units in T REIT, L.P., the Company’s Operating Partnership and is entitled to incentive distributions of operating cash flow after the Company’s shareholders have received an 8.00% annual return on their invested capital. No incentive distributions were made to the Advisor for the six months ended June 30, 2003.

      The Company compensates the Advisor for its services through a series of fees pursuant to the Advisory Agreement. No amounts were incurred during the six months ended June 30, 2003 and no amounts are currently due the Advisor under this agreement.

9.     Commitments and Contingencies

      In connection with the sale of the Christie Building in November 2001, the Company agreed as part of the sale transaction, to guarantee the lease payment in the amount $20,000 per month for a period of five years under a master lease agreement. Under this agreement, the Company is obligated to make lease payments to the lessor only in the event the sub-lessee fails to make the lease payments. In addition, the Company is also obligated to pay a pro rata share of lease commissions and tenant improvements in the event the premises are re-leased prior to November 13, 2006. Concurrent with the issuance of the guarantee, the Advisor agreed to indemnify the Company against any future losses under the master lease agreement as evidenced by an indemnity agreement dated November 13, 2001. The Christie Building is a single tenant office building. The current tenant’s lease expired on August 31, 2002 and the tenant vacated the property in October 2002. Accordingly, the Company has accrued $460,000 related to its obligations under the guaranty, of which $120,000 has been paid through June 30, 2003. The Company’s accrual assumes a new tenant will occupy the property beginning in the third quarter of 2003 and has been calculated assuming a discount rate of 10% per annum. The Company has no collateral, however it has recourse against the Advisor under the indemnity agreement. Through June 2003, the Company has been reimbursed by the Advisor for all amounts paid under the guarantee and expects to be reimbursed by the Advisor in connection with the indemnity agreement for the full amount of its obligation.

      The Company has the following contingent loan obligations at June 30, 2003, which it discloses under FIN 45. None of these liabilities are carried on the consolidated balance sheets as the Company’s joint and several obligation under these loans constitutes a guarantee of entities under the common control of the Advisor, and, as a result, is exempted from recognition and measurement required by FIN 45.

      The Company is jointly and severally liable for the entire $4,600,000 balance of a mortgage loan in connection with the refinancing of the Trademark Building. The note is secured by a deed of trust with a fixed interest rate of 6.35%, amortized on a 30-year schedule, with a due date of January 1, 2013. The Company’s 40.0% proportionate share of this debt was approximately $1,840,000.

      In connection with the acquisition of the County Center Building, the Company’s wholly-owned subsidiary, NNN County Center Drive — 12, LLC, is jointly and severally liable on a $3,210,000 mortgage

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loan on the property payable to a bank. The loan terms include a variable rate of 4.125% over 6-month LIBOR, subject to an 8.00% floor rate, with a 20-year amortization period due September 2011.

      In connection with the acquisition of the City Center West “A” Building, the Company’s wholly-owned subsidiary, T REIT — City Center West “A,” LLC, is jointly and severally liable on a $13,000,000 mortgage loan on the property payable to a bank. The loan terms include a 6.5% fixed interest rate with a 27-year amortization period due in five years.

      In connection with the acquisition of the membership interest in NNN Pacific Corporate Park , LLC, such entity is jointly and severally liable on an approximately $5,683,000 mortgage loan (originally $15,500,000 and reduced by subsequent sales of buildings in the office park) on Pacific Corporate Park from a financial institution. The loan terms include a spread of 3.25% over LIBOR, with interest-only payments for two years and two six-month extensions at the borrowers’ election upon payment of a 0.25% fee upon each extension. The initial interest rate was locked for 60 days at a spread of 3.25% over 60-day LIBOR. After the initial 60-day rate lock period, the borrowers locked $2,000,000 of the loan at a spread of 3.25% over 30-day LIBOR and the balance of the loan at a spread of 3.25% over 60-day LIBOR.

      In connection with the acquisition of the Titan Building and Titan Plaza, the Company’s wholly-owned subsidiary, T REIT — Titan Plaza, L.P., is jointly and severally liable on a $6,000,000 mortgage loan payable to a bank. The loan terms include a variable rate of 3.25% over 30-day LIBOR, subject to a 5.25% floor rate, with a 30-year amortization period due May 2004.

      In connection with the acquisition of the Saddleback Financial Center, the Company’s wholly-owned subsidiary, T REIT — Saddleback Financial L.P., is jointly and severally liable on a $7,650,000 mortgage loan payable to a bank. The loan terms include a variable rate of 0.5% over the Wall Street Journal Prime Rate, subject to a 5.00% floor rate, with a 30-year amortization period due September 2007.

      In connection with the acquisition of Congress Center, the Company, through its membership interest in NNN Congress Center, LLC, is jointly and severally liable on a $95,950,000 mortgage loan payable to a bank and any subsequent increases in the total debt. The loan terms include an $80,950,000, 36-month senior mortgage bridge loan and a $15,000,000, 36-month mezzanine loan.

      In the event of default on the above loans by other property owners, the Company may be required to fully repay a defaulted loan and accrued interest thereon. In such event, the Company would have recourse against the other owners and would then be able to proportionally increase its ownership interest in the respective property.

      The Company’s other commitments and contingencies include the usual obligations of a real estate company in the normal course of business. In the opinion of management, these matters are not expected to have a material adverse effect on the Company’s financial position and/or results of operations.

      Section 6.4 of Article 6 of the Company’s Articles of Incorporation prohibits the Company from making any loans or advances to its Advisor, directors, officers or any affiliated entities; however, during 2001 and 2000, the Company made such loans or advances to affiliates, all of which have been collected in full prior to December 31, 2002. Management does not believe that these past violations of the Articles of Incorporation will impact future operations of the Company.

      On August 1, 2003, the Company executed a term sheet with Fleet National Bank for a line of credit in the amount of $1,000,000 which bears interest at the choice of the Company at the prime rate or LIBOR plus 1.75% per annum. The credit facility has a term of one year with two one-year extensions. The credit facility is

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

subject to a fee of 1% to be paid one-third on each of the effective date, the first anniversary and the second anniversary.

      On August 11, 2003, the Company sold the Thousand Oaks Shopping Center in San Antonio, Texas to an unaffiliated third-party for a purchase price of $15,880,000. At closing, the Company paid a commission to Realty of $158,800 or approximately 1.0% of the selling price, and a commission to an unaffiliated broker of $317,600, or approximately 2.0% of the selling price. The Company realized net cash proceeds of $6,700,000 from the sale. The Company intends to reinvest the proceeds from the sale in real estate property that qualifies for like-kind exchange treatment under Section 1031 of the Internal Revenue Code.

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Overview

      The following discussion should be read in conjunction with the consolidated financial statements and notes thereto of the Company appearing elsewhere in this report. Such financial statements have been prepared to reflect the Company’s financial position as of June 30, 2003 and December 31, 2002, together with the results of operations and cash flows for the three-month and six-month periods ended June 30, 2003 and 2002.

Forward-Looking Statements

      Historical results and trends are not necessarily indicative of future operations. Management’s statements contained in this report that are not historical facts are 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. Actual results may differ materially from those included in the forward-looking statements. The Company intends such forward-looking statements to be covered by the safe-harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, and is including this statement for purposes of complying with such provisions. Forward-looking statements, which are based on certain assumptions and describe future plans, strategies and expectations of management, are generally identifiable by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project,” “prospects,” or similar expressions. The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse affect on the operations and future prospects of the Company include, but are not limited to: changes in general economic conditions and in the real estate market specifically (including those in the local economy of the regions where the Company’s properties are located), legislative/ regulatory changes (including changes in Federal and/or state laws governing the taxation of REITs), availability of capital, interest rates, competition, supply and demand for operating properties in the Company’s current and proposed market areas, and generally accepted accounting principles applicable to REITs. These risks and uncertainties should be considered in evaluating forward-looking statements, and undue reliance should not be placed on any such statements. Further information concerning the Company and its business, including additional factors that could materially affect the Company’s financial results, is included herein and in the Company’s other filings with the Securities and Exchange Commission. The Company does not intend to update any of the forward-looking statements after the date this report is filed to conform these statements to actual results, unless required by law.

Public Offering of Equity Securities

      On February 22, 2000, the Company commenced its initial public offering of up to 10,000,000 shares of common stock at $10.00 per share pursuant to a Registration Statement on Form S-11 filed under the Securities Act of 1933, as amended. The Company commenced its active operations on September 26, 2000 when it completed its first property acquisition. The Company terminated its initial public offering on May 31, 2002 at which time gross proceeds of approximately $46,395,000 had been received from the sale of 4,720,176 shares. Through December 31, 2002, the Company had repurchased 23,876 shares pursuant to its Share Repurchase Plan. During the quarter ended June 30, 2003, 1,739 additional shares were repurchased. As a result, 4,694,561 shares were outstanding at June 30, 2003.

Critical Accounting Policies

      The preparation of these financial statements in accordance with accounting principles generally accepted in the United States of America requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. The Company believes that its critical accounting policies are those that require significant judgments and estimates such as those related to revenue recognition and allowance for uncollectible receivables, impairment of real estate assets, deferred assets, and qualification as a REIT. These estimates are made and evaluated on an on-going basis using information that is currently available as well as various other assumptions believed to

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      Base rental income is recognized on a straight-line basis over the terms of the respective lease agreements. Differences between rental income recognized and amounts contractually due under the lease agreements are credited or charged, as applicable, to rent receivable. The Company maintains, as necessary, an allowance for doubtful accounts for estimated losses resulting from the inability of tenants to make required payments which will result in a reduction to income. Management determines the adequacy of this allowance by continually evaluating individual tenant receivables considering the tenant’s financial condition, security deposits, letters of credit, lease guarantees and current economic conditions.

      The Company assesses the impairment of a real estate asset when events or changes in circumstances indicate that the net book value may not be recoverable. Indicators management considers important which could trigger an impairment review include the following:

	•	significant negative industry or economic trend;
	•	a significant underperformance relative to historical or projected future operating results; and
	•	a significant change in the manner in which the asset is used.

      Costs incurred for debt financing and property leasing are capitalized as deferred assets. Deferred financing costs include amounts paid to lenders and others to obtain financing. Such costs are amortized over the term of the related loan. Amortization of deferred financing costs is included in interest expense in the Company’s statements of operations. Deferred leasing costs include leasing commissions that are amortized using the straight-line method over the term of the related lease. Deferred leasing costs are included in the basis when a property is sold and therefore reduce the gain on sale. Unamortized financing and leasing costs are charged to expense in the event of debt prepayment or early termination of the lease.

      The Company has made an election to be taxed as a REIT in 2000. If the Company was to fail to qualify as a REIT, it would be, among other things, required to provide for federal income taxes on its income and reduce the level of distributions made to its shareholders. Critical estimates include the allocation of cost between personal and real property, and the calculation of earnings and profits for tax purposes, among others.

Real Estate Investments

      Through June 30, 2003, the Company, through the Operating Partnership, had purchased interests in 15 real estate properties, including six operating properties, seven undivided tenant in common interest properties and limited liability membership interests in two properties. Through June 30, 2003, the Company had sold two operating properties and two undivided tenant in common interest properties. In addition, two of its operating properties were held for sale at June 30, 2003.

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      The following table presents a summary of the Company’s wholly-owned properties and properties in which it owned undivided tenant in common and limited liability company membership interests as of June 30, 2003: