Back to GetFilings.com




QuickLinks -- Click here to rapidly navigate through this document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549


FORM 10-Q

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

For the quarter ended June 30, 2002

Commission File Number 0-20449

PRICE LEGACY CORPORATION
(Exact name of registrant as specified in its charter)

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

17140 Bernardo Center Drive, Suite 300, San Diego, California 92128
(Address of principal executive offices) (Zip Code)

(858) 675-9400
(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 ý    NO o

        The registrant had 40,726,675 shares of common stock, par value $.0001 per share, outstanding at August 9, 2002.




PRICE LEGACY CORPORATION


INDEX TO FORM 10-Q

PART I—FINANCIAL INFORMATION   3
 
ITEM 1—FINANCIAL STATEMENTS

 

3
   
CONSOLIDATED BALANCE SHEETS

 

3
   
CONSOLIDATED STATEMENTS OF OPERATIONS

 

4
   
CONSOLIDATED STATEMENTS OF CASH FLOWS

 

5
   
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

6
 
ITEM 2—MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

21
 
ITEM 3—QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

31

PART II—OTHER INFORMATION

 

33
 
ITEM 1—LEGAL PROCEEDINGS

 

33
 
ITEM 4—SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

33
 
ITEM 6—EXHIBITS AND REPORTS ON FORM 8-K

 

34

2



PART I—FINANCIAL INFORMATION

ITEM 1—FINANCIAL STATEMENTS


PRICE LEGACY CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

 
  June 30
2002

  December 31
2001

 
 
  (unaudited)

   
 
ASSETS              
Real estate assets              
  Land and land improvements   $ 422,295   $ 419,151  
  Building and improvements     650,905     618,222  
  Construction in progress     20,501     27,471  
   
 
 
      1,093,701     1,064,844  
  Less accumulated depreciation     (26,672 )   (19,420 )
   
 
 
      1,067,029     1,045,424  
Investment in real estate joint ventures     25,957     24,828  
Cash and cash equivalents     16,728     28,042  
Accounts receivable, net of allowance of $1,757 and $1,680     3,297     2,706  
Notes receivable     63,044     55,167  
Deferred rents     8,758     6,427  
Other assets     34,144     30,800  
   
 
 
    Total assets   $ 1,218,957   $ 1,193,394  
   
 
 
LIABILITIES AND STOCKHOLDERS' EQUITY              
Liabilities              
  Mortgages and notes payable   $ 452,571   $ 452,523  
  Revolving line of credit     54,400     31,500  
  Accounts payable and other liabilities     26,333     19,006  
   
 
 
    Total liabilities     533,304     503,029  

Commitments

 

 

 

 

 

 

 

Minority interests

 

 

595

 

 

595

 

Stockholders' equity

 

 

 

 

 

 

 
  Series A preferred stock, cumulative, redeemable, $0.0001 par value, 27,849,771 shares authorized, 27,434,166 and 27,413,467 shares issued and outstanding     399,615     399,615  
  Series B preferred stock, junior, convertible, redeemable, $0.0001 par value, 27,458,855 shares authorized, 19,666,754 shares issued and outstanding     106,234     106,234  
  Common stock, $0.0001 par value, 94,691,374 shares authorized, 40,726,675 and 40,726,191 issued and outstanding     4     4  
  Additional paid-in capital     196,020     195,712  
  Accumulated other comprehensive loss     (123 )   (106 )
  Accumulated deficit     (7,327 )   (2,324 )
  Notes receivable from officers for common shares     (9,365 )   (9,365 )
   
 
 
    Total stockholders' equity     685,058     689,770  
   
 
 
  Total liabilities and stockholders' equity   $ 1,218,957   $ 1,193,394  
   
 
 

See accompanying notes.

3



PRICE LEGACY CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited—amounts in thousands, except per share data)

 
  Second Quarter
Three Months Ended
June 30

  Year-to-Date
Six Months Ended
June 30

 
 
  2002
  2001
  2002
  2001
 
Rental revenues   $ 32,151   $ 18,633   $ 60,985   $ 35,903  

Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 
  Operating and maintenance     5,141     2,501     10,134     4,752  
  Property taxes     3,316     2,193     6,488     4,298  
  Depreciation and amortization     4,237     2,224     8,576     4,364  
  General and administrative     1,652     823     4,457     1,690  
  Provision for asset impairment     2,528         2,528      
   
 
 
 
 
    Total expenses     16,874     7,741     32,183     15,104  
   
 
 
 
 
Operating income     15,277     10,892     28,802     20,799  

Interest and other

 

 

 

 

 

 

 

 

 

 

 

 

 
  Interest expense     (5,841 )   (3,532 )   (12,278 )   (6,930 )
  Interest income     1,119     1,796     2,388     3,643  
  Equity in earnings of joint ventures     136     204     314     342  
   
 
 
 
 
    Total interest and other     (4,586 )   (1,532 )   (9,576 )   (2,945 )
   
 
 
 
 
Income before gain on sale of real estate     10,691     9,360     19,226     17,854  
  Net gain on sale of real estate     3     1,250     291     1,159  
   
 
 
 
 
Income before discontinued operations     10,694     10,610     19,517     19,013  

Discontinued operations:

 

 

 

 

 

 

 

 

 

 

 

 

 
  Income from operations     293     352     632     688  
  Loss on sale of real estate     (843 )       (843 )    
   
 
 
 
 
      (550 )   352     (211 )   688  

Net income

 

 

10,144

 

 

10,962

 

 

19,306

 

 

19,701

 

Dividends to preferred stockholders

 

 

(12,183

)

 

(8,386

)

 

(24,308

)

 

(16,744

)
   
 
 
 
 
Net (loss) income applicable to common stockholders   $ (2,039 ) $ 2,576   $ (5,002 ) $ 2,957  
   
 
 
 
 
Basic and diluted net (loss) income per common share   $ (.05 ) $ .19   $ (.12 ) $ .22  
Weighted average common shares outstanding                          
  Basic and diluted     40,727     13,309     40,727     13,309  
Dividends per preferred share   $ .35   $ .35   $ .70   $ .70  

See accompanying notes.

4




PRICE LEGACY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited—amounts in thousands)

 
  Year-to-Date
Six Months Ended
June 30

 
 
  2002
  2001
 
Operating activities              
Net income   $ 19,306   $ 19,701  
  Adjustments to reconcile net income to net cash provided by operating activities:              
    Depreciation and amortization     8,748     4,536  
    Deferred rents     (2,331 )   (1,203 )
    Provision for asset impairment     2,528      
    Equity in earnings of joint venture     (314 )   (342 )
    Net loss (gain) on sale of real estate     552     (1,159 )
  Changes in operating assets and liabilities:              
    Accounts receivable and other assets     (2,524 )   (2,968 )
    Accounts payable and other liabilities     (2,177 )   358  
   
 
 
  Net cash provided by operating activities     23,788     18,923  

Investing activities

 

 

 

 

 

 

 
    Additions to real estate assets     (72,399 )   (53,230 )
    Proceeds from the sale of real estate assets     17,740     6,302  
    Contributions to real estate joint ventures     (850 )   (2,353 )
    Distributions from real estate joint ventures     280      
    Advances on notes receivable     (1,578 )   (18,769 )
    Repayments on notes receivable     3,283     3,040  
   
 
 
  Net cash used in investing activities     (53,524 )   (65,010 )

Financing activities

 

 

 

 

 

 

 
    Advances from revolving line of credit and notes payable     63,213     24,614  
    Repayments of revolving line of credit and notes payable     (25,890 )   (3,307 )
    Dividends paid     (19,204 )   (16,744 )
    Proceeds from exercise of stock options     303     2,831  
   
 
 
  Net cash provided by financing activities     18,422     7,394  
   
 
 
      Net decrease in cash and cash equivalents     (11,314 )   (38,693 )

Cash and cash equivalents at beginning of period

 

 

28,042

 

 

51,437

 
   
 
 
Cash and cash equivalents at end of period   $ 16,728   $ 12,744  
   
 
 
Supplemental cash flow information:              
    Cash paid for interest   $ 13,054   $ 6,360  

Supplemental schedule of noncash investing and financing activities:

 

 

 

 

 

 

 
    Assumption of loans to acquire real estate assets     5,787     35,497  
    Accrual of Series B Preferred dividends     5,105      
    Reduction in note receivable to acquire real estate assets     3,543      
    Change in other assets and accounts payable for fair value of derivative instruments     3,465        
    Net adjustment related to disposed real estate asset     733        
    Reduction in note receivable to acquire interest in real estate joint venture         919  

See accompanying notes.

5




PRICE LEGACY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

June 30, 2002

Note 1—Organization and Significant Accounting Policies

Organization

        Price Legacy Corporation (Price Legacy) operates as a real estate investment trust (REIT) incorporated in the state of Maryland. Our principal business is to acquire, operate, and develop real property, primarily open-air shopping centers. On September 18, 2001, Price Legacy completed a merger between Price Enterprises, Inc. (PEI) and Excel Legacy Corporation (Excel Legacy) resulting in Excel Legacy becoming a wholly owned subsidiary of PEI. The combined company operates as a REIT under the name Price Legacy Corporation. The results of Excel Legacy are included in our operations beginning September 19, 2001.

        Our subsidiaries include Excel Legacy Holdings, Inc., which has elected to be treated as a taxable REIT subsidiary (TRS). Other than some activities related to lodging and health care facilities, a TRS may generally engage in any business. A TRS is subject to federal income tax and state and local income tax, where applicable, as a regular C corporation.

Accounting Principles

        We prepared the financial statements following the requirements of the Securities and Exchange Commission (SEC) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by accounting principles generally accepted in the United States of America (GAAP) can be omitted. Certain prior year data have been reclassified to conform to the 2002 presentation.

        We are responsible for the financial statements included in this document. The financial statements include all normal and recurring adjustments that are considered necessary for the fair presentation of our financial position and operating results. You should also read the financial statements and notes in our latest Annual Report on Form 10-K.

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

Real Estate Assets and Depreciation

        We record real estate assets at historical costs and adjust them for recognition of impairment losses. In following purchase accounting, we adjusted the historical costs of Excel Legacy's real estate assets to fair value at the time of the merger. Our consolidated balance sheets at June 30, 2002 and December 31, 2001 reflect the new basis of those real estate assets. See Note 2 for additional information on this transaction.

        We expense ordinary repairs and maintenance costs incurred, which include building painting, parking lot repairs, etc. We capitalize major replacements and betterments, which include HVAC equipment, roofs, etc., and depreciate them over their estimated useful lives.

6



        We compute real estate asset depreciation on a straight-line basis over their estimated useful lives, as follows:

Land improvements   40 years
Building and improvements   20 to 40 years
Tenant improvements   Lesser of the term of lease or 10 years
Fixtures and equipment   3-7 years

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

 
  Three Months Ended
June 30

  Six Months Ended
June 30

 
 
  2002
  2001
  2002
  2001
 
Interest incurred   $ 6,362   $ 3,885   $ 13,371   $ 7,723  
Interest capitalized     (521 )   (353 )   (1,093 )   (793 )

Cash and Cash Equivalents

        We consider all highly liquid investments with a maturity of less than three months when purchased to be cash and cash equivalents.

        Our cash balances at June 30, 2002 and December 31, 2001 include $0.2 million and $1.5 million of restricted funds, respectively, which represent proceeds from the financing of a construction project. The funds are held in trust and released as work is completed.

        We are required to maintain reserves with certain lenders for capital expenditures, insurance, real estate taxes and debt service. As of June 30, 2002 and December 31, 2001, the aggregate amount of these reserves held by lenders is $10.3 million and $5.2 million, respectively, and is included with cash on the Consolidated Balance Sheets.

Investment in Securities

        We review our investments in securities for possible impairment whenever the market value of the securities falls below cost and, in our opinion, such decline represents an other than temporary impairment. Factors considered in this review include:

7


        When an other than temporary impairment loss on an individual investment is considered to have occurred, we write down the cost basis of the security, and the charge is recorded in earnings.

        Included in other assets on our consolidated balance sheets is an investment in Millennia Car Wash, LLC (Millennia) which owns approximately 3.8 million shares of common stock, and 62,500 common stock purchase warrants of Mace Security International (MACE) and 250,000 common shares of US Plastic Lumber Corporation (USPL). Our common shares in MACE are subject to certain sale restrictions and one of our senior officers is a member of the MACE board of directors. In following GAAP, we account for Millennia's investment in MACE under the equity method of accounting and owned approximately 15% of MACE at June 30, 2002. We classify our investment in USPL as available-for-sale and recognize changes in the fair value of this investment in other comprehensive income.

Comprehensive Income

        In 1999, we adopted Statement of Financial Accounting Standard (SFAS) No. 130 "Reporting Comprehensive Income." This statement requires that all components of comprehensive income be reported in the financial statements in the period in which they are recognized. The components of comprehensive income at June 30, 2002 are as follows:

 
  Six Months
Ended
June 30

 
 
  2002
 
Net income   $ 19,306  
Unrealized loss on marketable securities     (17 )
   
 
Total comprehensive income   $ 19,289  
   
 

Use of Estimates

        Preparing financial statements in conformity with GAAP requires that we make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. We continually review our estimates and make adjustments as necessary, but actual results could differ from what we envisioned when we made these estimates.

Derivative Financial Instruments

        In January 2001, we adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." In the normal course of business, we may use derivative financial instruments to manage or hedge interest rate risk. When entered into, we formally designate and document the financial instrument as a hedge of a specific underlying exposure, as well as the risk management objectives and strategies for undertaking the hedge transactions. We assess, both at the inception and at least quarterly thereafter, whether the financial instruments that are used in hedging transactions are effective at offsetting changes in either the fair value or cash flows of the related underlying exposure.

8



Because of the high degree of effectiveness between the hedging instrument and the underlying exposure being hedged, fluctuations in the value of the derivative instruments are generally offset by changes in the fair value or cash flows of the underlying exposures being hedged. Any ineffective portion of a financial instrument's change in fair value is immediately recognized in earnings. Virtually all of our derivatives are straightforward over-the-counter instruments with liquid markets.

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

Asset Disposal

        In August 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 addresses financial accounting for the impairment or disposal of long-lived assets and is effective in fiscal years beginning after December 15, 2001. We have adopted this standard and report operations from properties sold in 2002 as discontinued operations for the quarter and year-to-date periods ended June 30, 2002 and 2001.

New Accounting Standards

        In April 2002, the FASB issued SFAS No. 145, "Rescission of SFAS No. 4, 44, and 64, Amendment of SFAS No. 13, and Technical Corrections." SFAS No. 145 rescinds SFAS No. 4, "Reporting Gains and Losses From Extinguishment of Debt", SFAS No. 44, Accounting for Intangible Assets of Motor Carriers", and SFAS No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements." SFAS No. 145 requires, among other things, (i) that the modification of a lease that results in a change of the classification of the lease from capital to operating under the provisions of SFAS No. 13 be accounted for as a sale-leaseback transaction and (ii) the reporting of gains or losses from the early extinguishment of debt as extraordinary items only if they met the criteria of Accounting Principles Board Opinion No. 30, "Reporting the Results of Operations." The rescission of SFAS No. 4 is effective January 1, 2003. The amendment of SFAS No. 13 is effective for transactions occurring on or after May 15, 2002. The adoption of this statement did not have a material effect on our financial statements.

        In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 replaces current accounting literature and requires the recognition of costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS No. 146 is effective January 1, 2003 and we do not anticipate the adoption of this statement will have a material effect on our financial statements.

9



Note 2—Merger and Significant Event

        On March 21, 2001, PEI, PEI Merger Sub, Inc., a Maryland corporation (Merger Sub), and Excel Legacy entered into an Agreement and Plan of Merger (the Merger Agreement). On September 18, 2001, Merger Sub was merged with and into Excel Legacy (the Merger), with Excel Legacy continuing as a wholly-owned subsidiary of PEI. On the effective date of the Merger, each outstanding share of Excel Legacy common stock was exchanged for 0.6667 of a share of PEI common stock, and each option to purchase shares of Excel Legacy common stock was exchanged for an option to purchase 0.6667 shares of PEI common stock. Following the Merger, PEI continues to operate as a REIT under the name Price Legacy Corporation. The Merger was structured to qualify as a tax-free reorganization and was approved by the stockholders of both PEI and Excel Legacy. The results of Excel Legacy are included in operations beginning September 19, 2001.

        The purchase price was calculated based on $4.89 per share for the PEI common stock, which is equal to the closing price of $5.75 per share on March 21, 2001 (the day immediately prior to the public announcement of the Merger), less a 15% discount to reflect the low trading volume of the PEI stock (amounts in thousands, except per share data):

Shares issued     40,376
Price per share   $ 4.89
   
      197,439
Merger related accounting, legal, printing and other costs     1,425
   
Purchase price   $ 198,864
   

        The purchase price resulted in an increase in the book value of the Excel Legacy assets acquired of approximately $26.0 million, which was allocated to real estate and other assets.

        Also on March 21, 2001, PEI entered into a Securities Purchase Agreement with Warburg, Pincus Equity Partners, L.P. and certain of its affiliates (Warburg Pincus), pursuant to which PEI agreed to sell to Warburg Pincus for an aggregate purchase price of $100,000,000

        On April 12, 2001, PEI and Sol Price, a significant stockholder of PEI and Excel Legacy through various trusts, agreed to convert an existing Excel Legacy loan payable to a trust controlled by Sol Price of approximately $9.3 million into 1,681,142 shares of the Series B Preferred Stock and a warrant to purchase 233,679 shares of our common stock at an exercise price of $8.25 per share.

        Price Legacy issued the Series B Preferred Stock and warrants to Warburg Pincus and Sol Price concurrently with the completion of the Merger.

        The Series B Preferred Stock is junior to the Series A Preferred Stock with respect to dividend, liquidation and other rights, and is convertible under certain conditions into Price Legacy common

10



stock at a one-to-one ratio, which may be adjusted under certain circumstances, after 24 months from the date of issuance. The 9% coupon will be paid with additional shares of Series B Preferred Stock at $5.56 per share for the first 45 months from issuance.

        In addition, under the terms of the Merger Agreement, PEI commenced a tender offer for all outstanding shares of our common stock (other than those shares held by Excel Legacy and those shares issued in the Merger) at a cash price of $7.00 per share. In connection with the tender offer, 807,583 shares were purchased at a total cost of $5.7 million. Under terms of the Merger Agreement, we also commenced an exchange offer in which holders of Excel Legacy's outstanding debentures and notes were offered shares of our Series A Preferred Stock in exchange for their debt securities. In connection with the exchange offer, we exchanged approximately $30.4 million in Excel Legacy debentures and $15.8 million in Excel Legacy notes. The tender offer and exchange offer closed concurrently with the Merger.

        The exchange of Excel Legacy common stock for Price Legacy common stock in connection with the Merger was accounted for as a purchase of Excel Legacy by Price Legacy. Under purchase accounting, the assets and liabilities of Excel Legacy have been adjusted to fair value.

        The following unaudited pro forma information for the three months and year-to-date period ended June 30, 2001 and unaudited actual results for the three months and year-to-date period ended June 30, 2002, have been presented as if the Merger had been completed on January 1, 2001. It also reflects the Series B Preferred Stock dividends and exchange of Excel Legacy senior notes and convertible debentures into Series A Preferred Stock. It does not reflect any application of proceeds from the sale of Series B Preferred Stock. We present pro forma information for comparative purposes only and the pro forma information may not be indicative of our actual results of operations had the Merger been completed on January 1, 2001 (amounts in thousands, except per share data):

 
  Three Months Ended
June 30

  Six Months Ended
June 30

 
 
  2002
  2001
  2002
  2001
 
 
  (actual)

  (pro forma)

  (actual)

  (pro forma)

 
Total revenue   $ 32,151   $ 24,394   $ 60,985   $ 44,240  
Net income     10,144     11,714     19,306     19,998  
Preferred dividends     (12,183 )   (11,988 )   (24,308 )   (23,949 )
   
 
 
 
 
Net income (loss) applicable to common stockholders   $ (2,039 ) $ (274 ) $ (5,002 ) $ (3,951 )
   
 
 
 
 
Weighted average shared outstanding                          
  Basic and diluted     40,727     40,726     40,727     40,726  

Loss per common share

 

 

 

 

 

 

 

 

 

 

 

 

 
  Basic and diluted     (.05 )   (.01 )   (.12 )   (.10 )

11


Note 3—Net Income Per Share

        SFAS No. 128, "Earnings Per Share," requires presentation of two calculations of earnings per common share. Basic earnings per common share equals net income applicable to common stockholders divided by weighted average common shares outstanding during the period. Diluted earnings per common share equals net income applicable to common stockholders divided by the sum of weighted average common shares outstanding during the period plus common stock equivalents. Common stock equivalents are shares assumed to be issued if outstanding stock options and warrants that are dilutive were exercised. All earnings per share amounts have been presented, and where appropriate, restated to reflect these calculations. We did not have any common stock equivalents during the periods presented. There are 19,666,754 shares of Series B Preferred Stock outstanding and 1,424,422 shares payable as a dividend at June 30, 2002, which may be exchanged on a one-to-one basis into common stock, subject to adjustment, after September 18, 2003 if certain events occur.

Note 4—Real Estate Assets

Acquisitions

        During the first six months of 2002, we acquired the following properties:

Location

  Description
  Date
Acquired

  Purchase Price (000's)
  Mortgage Assumed (000's)
Ocala, FL   Shopping Center   5/3/02   $ 7,163   $
Fort Lauderdale, FL   Pad   6/4/02     700    
Phoenix, AZ   Shopping Center   6/6/02     9,816     5,787
Columbia, SC   Shopping Center   6/7/02     8,035    
Greenville, SC   Shopping Center   6/28/02     29,500    

        We funded these acquisitions using proceeds from tax-deferred exchange transactions on properties we sold in 2001 and 2002, by borrowing on our unsecured line of credit, and assuming a mortgage.

        During the first six months of 2001, we acquired the following properties:

Location

  Description
  Date
Acquired

  Purchase Price (000's)
  Mortgage Assumed (000's)
Walnut Creek, CA   Land   1/4/01   $ 2,816   $
Anaheim, CA   Land   1/29/01     23,288    
Tempe, AZ   Shopping Center   5/18/01     23,914     14,137
Mesa, AZ   Shopping Center   5/18/01     31,367     21,360
Greensburg, IN (1)   Shopping Center   6/28/01     19,300     18,300

(1)
Capital Lease

        We funded these acquisitions using the proceeds from tax-deferred exchange transactions on properties we sold in 2000 and by assuming mortgages.

12



Dispositions

        During the first six months of 2002, we sold the following properties for a net loss of $0.6 million:

Location

  Description
  Sold
Date

  Sales Price
(000's)

Hollywood, FL   Land   1/31/02   $ 1,410
Tucson/Marana, AZ   Land   1/31/02     684
Hollywood, FL   Land   4/19/02     1,028
San Diego/Pacific Beach, CA (1)   Self Storage Development   6/1/02     11,632
Walnut Creek, CA (1)   Self Storage Development   6/1/02     7,708
San Juan Capistrano, CA (1)   Self Storage Development   6/1/02     6,918
Glen Burnie, MD   Shopping Center   6/21/02     15,200

(1)
Our equity in the development was exchanged for notes receivable with a participating interest

        During the first six months of 2001, we sold the following properties for a net gain of $1.2 million:

Location

  Description
  Sold
Date

  Sales Price (000's)
Aurora, CO   Retail Building   1/11/01   $ 1,592
Sacramento/Bradshaw, CA   Office Building   6/1/01     5,125

        We used the proceeds from the sale of properties to purchase additional properties in tax-deferred exchange transactions.

Destination Villages LLC

        We own a 55% interest in Destination Villages LLC. Destination Villages, LLC owns a Bermuda limited liability company that owns a hospitality project located in Bermuda, Daniel's Head Village Resort (Daniel's Head). Daniel's Head was closed in the fourth quarter of 2001, primarily due to low occupancy rates as a result of the terrorist events in the United States that occurred on September 11, 2001. The project was encumbered by a $6.0 million loan with a Bermuda bank. In March 2002, we informed the Bermuda bank that we did not intend to reopen this project due to large projected operating losses and instead intended to sell the project to an identified buyer. This resulted in a default of the loan. On March 27, 2002, the Bermuda bank exercised its rights under Bermuda law and put the project in "receivership", which gives the bank the right to negotiate directly with this buyer as well as other potential buyers. There was no impact on operating results for the quarter ended June 30, 2002 from this event. We no longer have involvement in the operations of Daniel's Head.

Note 5—Provision for Asset Impairment

        We record real estate assets at historical costs and adjust them for recognition of impairment losses. During the second quarter ended June 30, 2002, we recognized an impairment loss of $2.5 million on our Inglewood, CA property. The tenant, House 2 Home, filed for bankruptcy and vacated, and the property is no longer generating income. The loss was determined based on the estimated fair value of the property.

13



Note 6—Discontinued Operations

        Included in the Consolidated Statements of Operations are the discontinued operations of our property at Glen Burnie, MD, which was sold on June 21, 2002 and is summarized as follows (amounts in thousands):

 
  Second Quarter
Three Months Ended
June 30

  Year-to-Date
Six Months Ended
June 30

 
  2002
  2001
  2002
  2001
Rental revenue   $ 459   $ 514   $ 998   $ 1,024
Expenses                        
  Operating and maintenance     45     40     118     93
  Property taxes     35     36     76     71
  Depreciation and amortization     86     86     172     172
   
 
 
 
      166     162     366     336
   
 
 
 
Operating income     293     352     632     688
Loss on sale of real estate     (843 )       (843 )  
   
 
 
 
Net income   $ (550 ) $ 352   $ (211 ) $ 688
   
 
 
 

Note 7—Investments in Unconsolidated Real Estate Joint Ventures

        As of June 30, 2002 and December 31, 2001, we had the following investments in unconsolidated joint ventures, which we account for under the equity method of accounting (amounts in thousands):

Joint Venture
  Ownership %
  June 30
2002

  December 31
2001

Orlando Business Park LLC   50%   $ 16,000   $ 16,000
Old Mill District Shops, LLC   50%     4,352     3,340
3017977 Nova Scotia Company   55%     3,135     2,822
Blackstone Ventures I   50%     2,193     2,288
Other   Various     277     378
       
 
  Total       $ 25,957   $ 24,828
       
 

        Cash distributions and profits are typically allocated based on the above ownership percentages, adjusted for certain preferred returns for capital contributions which are made in excess of each partners' ownership percentages. The Orlando Business Park LLC assets consist primarily of land held for sale. The other joint ventures are primarily in the business of operating real estate. Their accounting principles are consistent with ours.

14



        Summarized unaudited financial information for the joint ventures is as follows (amounts in thousands):

 
  Total Assets
  Debt
  Total Equity
As of
(Unaudited)

  June 30
2002

  December 31
2001

  June 30
2002

  December 31
2001

  June 30
2002

  December 31
2001

Orlando Business Park LLC (1)   $ 26,270   $ 26,069   $ 10,651   $ 10,136   $ 15,570   $ 15,879
Old Mill District Shops, LLC     24,705     23,300     17,652     17,243     6,955     5,976
3017977 Nova Scotia Company (1)     6,615     6,775     5,383     5,499     1,144     1,115
Blackstone Ventures I     10,481     11,075     8,094     8,153     2,180     2,721
Other (1)     277     378             277     378
   
 
 
 
 
 
    $ 68,348   $ 67,597   $ 41,780   $ 41,031   $ 26,126   $ 26,069
   
 
 
 
 
 
 
   
   
   
   
  Company's Share of Net Income (Loss)
 
 
  Total Revenues
  Net Income (Loss)
 
Quarter ended June 30
(Unaudited)

 
  2002
  2001
  2002
  2001
  2002
  2001
 
Orlando Business Park LLC (1)   $   $ N/A   $   $ N/A   $   $ N/A  
Old Mill District Shops, LLC     805     131     211     (103 )   114     (42 )
3017977 Nova Scotia Company (1)     372     N/A     (15 )   N/A     (3 )   N/A  
Blackstone Ventures I     322     372     50     19     25     71  
Other (1)         N/A         N/A         N/A  
Westcol Center, LLC (2)     N/A     1,151     N/A     351     N/A     175  
   
 
 
 
 
 
 
    $ 1,499   $ 1,654   $ 246   $ 267   $ 136   $ 204  
   
 
 
 
 
 
 

1)
Joint ventures acquired from Excel Legacy in the Merger.

2)
We sold our 50% share of this joint venture in December 2001 for $13.5 million and recognized no gain or loss on the sale.

15


Note 8—Notes Receivable

        We have $50.7 million in notes receivable outstanding at June 30, 2002 related to various projects. The notes bear interest ranging from 10% to 15% per year and are collateralized by the related projects or other real estate. Of these notes, $47.1 million involve entities controlled by one individual. Repayment of the notes is anticipated to occur from the completion of various development projects or other events. The largest note is for approximately $22.8 million related to a development project in Scottsdale, AZ. The remaining notes are each less than $10.0 million. The notes do not require cash payments on the interest until specified future dates, typically when the projects are completed or sold. The notes mature on various dates between 2002 and the earlier of the sale of the related projects, or 2003 to 2004.

        We also have $12.3 million in notes receivable related to the sale of our self storage development properties. These notes bear interest at 12% per year and are due May 31, 2003 or earlier, depending on stabilization of the properties.

16


Note 9—Debt

Mortgages and Notes Payable

        We had the following mortgages and notes payable outstanding at June 30, 2002 and December 31, 2001 (amounts in thousands):

 
  June 30
2002

  December 31
2001

Mortgages on five properties in Florida bearing fixed rates of interest ranging from 8.18% to 9.00%. The loans are collateralized by the properties and mature February 2009 and January 2010   $ 160,831   $ 161,517

Mortgage payable bearing interest at LIBOR plus 98 basis points (2.82% at June 30, 2002). The mortgage is collateralized by five of our properties and matures June 2004

 

 

121,375

 

 

121,375

Mortgages and notes payable on eight properties bearing interest ranging from 3.93% to 9.00%. The loans are collateralized by the properties and mature on various dates between September 2002 and February 2017

 

 

62,110

 

 

62,928

Revolving $100.0 million credit facility bearing interest at LIBOR plus 150 to 185 basis points (3.34% at June 30, 2002), maturing September 2004

 

 

54,400

 

 

31,500

Construction loan outstanding on a $46.0 million facility bearing interest at LIBOR plus 310 basis points (4.94% at June 30, 2002). The loan is due October 2002 and collateralized by a retail center in Newport, KY (see below)

 

 

37,019

 

 

26,706

Mortgage on a property in Orlando, FL bearing interest at LIBOR plus 225 basis points (4.09% at June 30, 2002). The loan is collateralized by the property and matures April 2003

 

 

21,945

 

 

21,675

Capital lease arrangement with an individual in conjunction with the Greensburg, IN shopping center. The capital lease has an effective interest rate of 7.36% and matures June 2005

 

 

19,300

 

 

18,300

Capital lease arrangement with an individual in conjunction with the San Diego/Rancho Bernardo, CA office building. The capital lease has an effective interest rate of 4.43% and matures in December 2004

 

 

11,612

 

 

11,572

Note payable collateralized by IMAX equipment, without recourse, no interest. The note is due on demand

 

 

5,451

 

 

5,451

Convertible Debentures and Senior Notes (see below)

 

 

5,091

 

 

5,095

Note payable outstanding on a $4.7 million facility related to Newport, KY (see below), bearing interest at Prime plus 50 basis points (5.25% at June 30, 2002), due March 2003

 

 

4,737

 

 

4,737

Capital lease arrangement with an individual in conjunction with the Scottsdale, AZ office building. The capital lease has an effective interest rate of 4.02% and matures in June 2004

 

 

3,100

 

 


Construction loans payable to a bank bearing interest at a 90-day LIBOR rate plus 275 basis points. The developments were sold and the loans were assumed by a third party in May 2002, but we remain a guarantor on the loans

 

 


 

 

7,167

Note payable to an individual bearing interest at 12.50%, repaid April 2002

 

 


 

 

6,000
   
 

Total

 

$

506,971

 

$

484,023
   
 

        We have a 69% interest in Newport on the Levee, LLC (Newport) that is developing a retail project in Newport, KY. In addition to the $37.0 million, $4.7 million and $5.5 million notes in the above table, the City of Newport has issued two series of public improvement bonds. The Series 2000a tax exempt bonds total $44.2 million and are broken down as follows: (a) $18.7 million maturing 2018

17



with interest at 8.375%; (b) $20.5 million maturing 2027 with interest at 8.5%; and (c) $5.0 million maturing 2027 with interest at 8.375%. The Series 2000b bonds are taxable and have a par amount of $11.6 million with interest at 11% due 2009. The bonds are guaranteed by us, by Newport, and the third party co-developers of the project. Newport has drawn on $43.1 million of the bonds at June 30, 2002.

        Summarized debt information for our unconsolidated joint ventures and the amount guaranteed by us at June 30, 2002 is as follows:

Joint Venture

  June 30
2002

  Debt
Guaranteed

Orlando Business Park, LLC   $ 10,651   $ 10,651
Old Mill District Shops, LLC     17,652     14,101
Blackstone Ventures I     5,383     5,383
3017977 Nova Scotia Company     8,094     8,094
   
 
    $ 41,780   $ 38,229
   
 

        We also have guaranteed an $12.5 million note payable related to a development project in Scottsdale, AZ in which we have a $22.8 million note receivable with a participating interest.

        In connection with the sale of three self storage development properties in June 2002, we agreed to guarantee $14.2 million of debt the buyer assumed associated with the properties until April 2003, when the debt matures.

Convertible Debentures

        Prior to the Merger, Excel Legacy had $33.2 million in convertible debentures outstanding. As part of the Merger, $30.4 million of the debentures were exchanged for Series A Preferred Stock, with $2.8 million of debentures remaining. The debentures bear an interest rate of 9% per year and mature in November 2004. The holders of the debentures are entitled at any time before the day prior to the final maturity date, subject to prior redemption, to convert any debentures into common stock at an $8.25 per share conversion price.

Senior Notes

        Prior to the Merger, Excel Legacy had $18.1 million in senior notes outstanding. As part of the Merger, $15.8 million of the notes were exchanged for Series A Preferred Stock, with $2.3 million of notes remaining. The notes bear an interest rate of 10% per year and mature in November 2004. The notes are senior to the debentures.

Note 10—Financial Instruments: Derivatives and Hedging

        In the normal course of business, we are exposed to the effect of changes in interest rates. We limit these risks by following established risk management policies and procedures including the use of derivatives. For interest rate exposures, derivatives are used primarily to manage the cost of borrowing obligations.

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

18



        To manage interest rate risk, we may employ options, forwards, swaps, caps and floors, or a combination thereof, depending on the underlying exposure. We undertake a variety of borrowings from lines of credit to medium and long-term financings. To manage overall costs, we currently use derivative instruments to convert a portion of our fixed-rate debt to variable-rate debt. Interest rate differentials that arise under the swap contracts are recognized in interest expense over the life of the contracts.

        We may also use derivative instruments to protect the fair value of existing or anticipated floating-rate debt. We may employ Treasury locks, forward-starting swaps, swaptions, and interest rate swaps to this end. Such derivatives, when entered into, must be expected to effectively hedge the risks they are intended to mitigate. As of June 30, 2002, we had five amortizing swaps with approximately $161 million current notional amount protecting the fair value of approximately $161 million fixed-rate debt from changes in value attributable to interest rate movement.

        The following table summarizes the notional values and fair values of our derivative financial instruments. The notional value at June 30, 2002 provides an indication of the extent of our involvement in these instruments at that time, but does not represent exposure to credit, interest rate, or market risk. The fixed rates shown below include spreads of 3.08% for the swaps maturing in 2009 and 3.77% for the swap maturing in 2010.

At June 30, 2002
Hedge Type

  Current Notional
Value ($000's)

  Fixed
Rate

  Maturity
  Fair Value
($000's)

Swap—Fair Value   $ 66,383   8.180 % 2/1/2009   $ 1,415
Swap—Fair Value     32,203   9.000 % 1/4/2010     723
Swap—Fair Value     28,856   8.180 % 2/1/2009     615
Swap—Fair Value     23,247   8.180 % 2/1/2009     495
Swap—Fair Value     10,142   8.180 % 2/1/2009     216

        On June 30, 2002, the derivative instruments were reported at their fair value as Other Assets of $3.5 million.

        Hedges that are designated as fair value hedges mitigate risk on changes in the fair value of fixed-rate debt. The unrealized gains/losses in the fair value of these hedges are reported in earnings with an offsetting adjustment through earnings to the carrying value of the hedged debt. Adjustments to the carrying value of the hedged debt are amortized to earnings beginning no later than when the hedged debt ceases to be adjusted for changes in its fair value attributable to the interest rate risk being hedged.

Note 11—Related Party Transactions

        Prior to the Merger, Excel Legacy was responsible for the daily management of PEI, including property management, finance and administration. We reimbursed Excel Legacy for these Services based on our historical costs for similar expenses. We expensed $0.8 million for these services during the second quarter of 2001 and $1.7 million for the six month year-to-date period of 2001.

        Prior to the Merger, we executed a note receivable with Excel Legacy allowing them to borrow up to $40.0 million. During the second quarter of 2001 we recorded $1.1 million in interest income on this note, and $2.0 million for the six month year-to-date period of 2001. As a result of the Merger, interest income is no longer recorded on this note.

19



        In connection with the San Diego/Rancho Bernardo, CA office building purchased from Excel Legacy, we leased the building back to Excel Legacy under a 10-year lease agreement. We recorded $0.3 million of rental revenue from Excel Legacy in connection with this lease during the second quarter of 2001, and $0.5 million for the six months year-to-date period of 2001. Due to the Merger, rental revenue is no longer recorded on this lease.

        In connection with the purchase of the Anaheim land in the first quarter of 2001, we executed a ground lease agreement with Excel Legacy. The lease has a term of 50 years and requires payments of $2.8 million per year in rent. During the second quarter of 2001, we recorded $0.7 million in rental revenue from Excel Legacy related to this lease, and $1.2 million for the six month year-to-date period of 2001. Due to the Merger, rental revenue is no longer recorded on this lease.

        In connection with the Merger, we acquired notes receivable from certain officers and affiliates of Excel Legacy, of which $9.4 million was outstanding at June 30, 2002. The notes bear interest at a fixed rate of 7%, and are due in March 2003. The total interest receivable at June 30, 2002 from these notes was $2.9 million. The notes were for the purchase of Excel Legacy common stock and have been offset against stockholders' equity on our accompanying Consolidated Balance Sheets.

        We discuss other related party transactions in Note 2.

Note 12—Subsequent Events

        In July 2002, we acquired the following interest rate cap agreements that limit the one-month LIBOR index associated with certain of our outstanding debt at 7%:

Trade Date

  Notional Amount
  Effective
Date

  Maturity
Date

  Price
  Counter Party
7/12/02   $ 32.0 million   7/1/04   1/1/10   $ 899,000   Fleet Bank
7/22/02   $ 40.0 million   7/1/04   2/1/09     816,000   Wells Fargo Bank
7/22/02   $ 40.0 million   7/1/04   2/1/09     830,000   Fleet Bank
7/23/02   $ 40.0 million   7/1/04   2/1/09     808,000   Fleet Bank

        To the extent the one-month LIBOR index exceeds 7% the counter parties on the above instruments will pay us the difference between the actual index and 7%. These instruments are accounted for under SFAS 133. Both the instrument and hedged debts will be adjusted on the Consolidated Balance Sheets.

20


ITEM 2—MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

        This report on Form 10-Q contains certain "forward-looking" statements within the meaning of the Private Securities Litigation Reform Act of 1995 which provides a "safe harbor" for these types of statements. You can identify these forward-looking statements by forward-looking words such as "believe," "may," "could," "will," "estimate," "continue," "anticipate," "intend," "seek," "plan," "expect," "should," "would" and similar expressions in this report on Form 10-Q. These forward-looking statements are subject to a number of risks, uncertainties and assumptions about Price Legacy, including, among other things:

        The factors identified above are believed to be some, but not all, of the important factors that could cause actual events and results to be significantly different from those that may be expressed or implied in any forward-looking statements. Any forward-looking statements should also be considered in light of the information provided in "Factors That May Affect Future Performance" located in our Form 10-K filing for the 2001 fiscal year. We assume no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our reports on Forms 10-K, 10-Q and 8-K filed with the SEC. Our Form 10-K filing for the 2001 fiscal year listed various important factors that could cause actual results to differ materially from expected and historic results.

        In Management's Discussion and Analysis we explain our general financial condition and results of operations including:

Critical Accounting Policies and Estimates

General

        Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). Preparation of our financial statements in accordance with GAAP requires management to make estimates and judgments that affect the reported

21


amounts of assets, liabilities, revenues and expenses and the related notes. We believe that the following accounting policies are critical because they affect the more significant judgments and estimates used in the preparation of our consolidated financial statements. Actual results may differ from these estimates under different assumptions or conditions. For a detailed discussion on the application of these and other accounting policies, see Note 1 in the Notes to the Consolidated Financial Statements in Item 8 of our Annual Report on Form 10-K for the 2001 fiscal year.

Consolidation

        We combine our financial statements with those of our wholly-owned subsidiaries as well as all affiliates in which we have control and present them on a consolidated basis. The consolidated financial statements do not include the results of transactions between us and our subsidiaries or among our subsidiaries.

Revenue Recognition

        Recognition of revenue is dependent upon the quality and ability of our tenants to pay their rent in a timely manner. Rental revenues include: (1) minimum annual rentals, adjusted for the straight-line method for recognition of fixed future increases; (2) additional rentals, including recovery of property operating expenses, and certain other expenses which we accrue in the period in which the related expense occurs; and (3) percentage rents based on the level of sales achieved by the lessee, which we recognize when earned.

        Gain or loss on sale of real estate is recognized when the sales contract is executed, title has passed, payment is received, and we no longer have continuing involvement in the asset.

Real Estate Assets and Depreciation

        We record real estate assets at historical costs and adjust them for recognition of impairment losses. In following purchase accounting, we adjusted the historical costs of Excel Legacy's real estate assets to fair value at the time of the Merger. Our consolidated balance sheets at June 30, 2002 and December 31, 2001 reflect the new basis of those real estate assets.

        We expense as incurred ordinary repairs and maintenance costs, which include building painting, parking lot repairs, etc. We capitalize major replacements and betterments, which include HVAC equipment, roofs, etc., and depreciate them over their estimated useful lives.

        We compute real estate asset depreciation on a straight-line basis over their estimated useful lives, as follows:

Land improvements   40 years
Building and improvements   20 to 40 years
Tenant improvements   Lesser of the term of lease or 10 years
Fixtures and equipment   3-7 years

        We review long-lived assets for impairment when events or changes in business conditions indicate that their full carrying value may not be recovered. We consider assets to be impaired and write them down to fair value if their expected associated future undiscounted cash flows are less than their carrying amounts.

        We capitalize interest incurred during the construction period of certain assets and this interest is depreciated over the lives of those assets.

        Pre-development costs that are directly related to specific construction projects are capitalized as incurred. We expense these costs to the extent they are unrecoverable or it is determined that the related project will not be pursued.

22


Derivative Instruments and Hedging Activities

        As we stated in Note 1, we follow the provisions of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." In the normal course of business, we may use derivative financial instruments to manage or hedge interest rate risk. When entered into, we formally designate and document the financial instrument as a hedge of a specific underlying exposure, as well as the risk management objectives and strategies for undertaking the hedge transactions. We assess, both at the inception and at least quarterly thereafter, whether the financial instruments that are used in hedging transactions are effective at offsetting changes in either the fair value or cash flows of the related underlying exposure. Because of the high degree of effectiveness between the hedging instrument and the underlying exposure being hedged, fluctuations in the value of the derivative instruments are generally offset by changes in the fair value or cash flows of the underlying exposures being hedged. Any ineffective portion of a financial instrument's change in fair value is immediately recognized in earnings. Virtually all of our derivatives are straightforward over-the-counter instruments with liquid markets.

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

Asset Disposal

        In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 addresses financial accounting for the impairment or disposal of long-lived assets and is effective in fiscal years beginning after December 15, 2001. We have adopted this statement and report discontinued operations for the quarter and six month period ended June 30, 2002.

Rental Revenues

 
  Amount
  Change
  Percent
Change

 
2nd Quarter 2002   $ 32,151   $ 13,518   73 %
2nd Quarter 2001     18,633        

Year-to-Date 2002

 

 

60,985

 

 

25,082

 

70

%
Year-to-Date 2001     35,903        

        Revenues increased $13.5 million to $32.2 million in the second quarter of 2002 compared to the same period in 2001 primarily because:

23


        Revenues increased $25.1 million to $61.0 million in the six month year-to-date period of 2002 compared to the same period in 2001 primarily because:

Expenses

 
  Amount
  Change
  Percent
Change

 
2nd Quarter 2002   $ 16,874   $ 9,133   118 %
2nd Quarter 2001     7,741        

Year-to-Date 2002

 

 

32,183

 

 

17,079

 

113

%
Year-to-Date 2001     15,104        

        Expenses increased $9.1 million to $16.9 million in the second quarter of 2002 compared to 2001 primarily because:

        Expenses increased $17.1 million to $32.2 million for the year-to-date period ended June 2002 compared to 2001 primarily because:

24


Operating Income

 
  Amount
  Change
  Percent
Change

 
2nd Quarter 2002   $ 15,277   $ 4,385   40 %
2nd Quarter 2001     10,892        

Year-to-Date 2002

 

 

28,802

 

 

8,003

 

38

%
Year-to-Date 2001     20,799        

        Operating income increased for the second quarter and year-to-date periods of 2002 compared to the same periods in the prior year primarily because of the changes in Rental Revenues and Expenses discussed above.

Interest Expense

 
  Amount
  Change
  Percent
Change

 
2nd Quarter 2002   $ 5,841   $ 2,309   65 %
2nd Quarter 2001     3,532        

Year-to-Date 2002

 

 

12,278

 

 

5,348

 

77

%
Year-to-Date 2001     6,930        

        Interest expense increased $2.3 million in the second quarter of 2002 and $5.3 million for the year-to-date period compared to 2001 because during the second quarter of 2002 we had an average of $494.4 million debt outstanding compared to $233.4 million in the second quarter of 2001. The increase in interest expense due to the amount of debt outstanding was partially offset by a decrease in interest rates on our variable rate debt and by the use of interest rate swap agreements which exchange rates on some of our fixed rate debt for lower variable rates.

        The weighted average interest rate on our variable rate debt decreased to 3.5% on June 30, 2002 from 5.5% on June 30, 2001. We discuss our outstanding debt further in "Liquidity and Capital Resources" located elsewhere in this Form 10-Q.

Interest Income

 
  Amount
  Change
  Percent
Change

 
2nd Quarter 2002   $ 1,119   $ (677 ) -38 %
2nd Quarter 2001     1,796        

Year-to-Date 2002

 

 

2,388

 

 

(1,255

)

- -34

%
Year-to-Date 2001     3,643        

25


        Interest income decreased $0.7 million in the second quarter of 2002 compared to 2001 primarily because:

        Interest income decreased $1.3 million in the six month year-to-date period ended June 2002 compared to the same period in 2001 primarily because:

Gain/Loss on Sale of Real Estate

        During the first six months of 2002, we sold the following non-depreciable properties for a net gain of $0.3 million:

Location

  Description
  Sold
Date

  Sales Price
(000's)

Hollywood, FL   Land   1/31/02   $ 1,410
Tucson/Marana, AZ   Land   1/31/02     684
Hollywood, FL   Land   4/19/02     1,028
San Diego/Pacific Beach, CA   Self Storage Development   6/1/02     11,632
Walnut Creek, CA   Self Storage Development   6/1/02     7,708
San Juan Capistrano, CA   Self Storage Development   6/1/02     6,918

Also during the first six months of 2002, we sold the following operating property and recorded a net loss of $0.8 million. This loss is recorded as discontinued operations in the Consolidated Statements of Operations in accordance with SFAS No.144.

Location

  Description
  Sold
Date

  Sales Price
(000's)

Glen Burnie, MD   Shopping Center   6/21/02   $ 15,200

        During the first six months of 2001, we sold the following properties for a net gain of $1.2 million:

Location

  Description
  Sold
Date

  Sales
Price
(000's)

Aurora, CO   Retail Building   1/15/01   $ 1,592
Sacramento, CA   Office Building   6/1/01     5,125

26


Funds From Operations

 
  Three Months
Ended June 30

  Six Months
Ended June 30

 
 
  2002
  2001
  2002
  2001
 
Net income   $ 10,144   $ 10,962   $ 19,306   $ 19,701  
Depreciation and amortization     4,237     2,224     8,576     4,364  
Depreciation and amortization of discontinued operations     86     86     172     172  
Price Legacy's share of joint venture depreciation     152     156     306     304  
Depreciation of non-real estate assets     (35 )   (2 )   (68 )   (6 )
Provision for asset impairment     2,528         2,528      
Gain on sale of depreciable real estate         (1,250 )       (1,159 )
Loss on sale of discontinued operations     843         843      
   
 
 
 
 
  FFO before preferred dividends     17,955     12,176     31,663     23,376  
Preferred dividends     (12,183 )   (8,386 )   (24,308 )   (16,744 )
   
 
 
 
 
  FFO   $ 5,772   $ 3,790   $ 7,355   $ 6,632  
   
 
 
 
 
Net cash provided by (used in):                          
  Operating activities   $ 13,989   $ 8,674   $ 23,788   $ 18,293  
  Investing activities     (39,510 )   (21,930 )   (53,524 )   (65,010 )
  Financing activities     11,703     (3,975 )   18,422     7,394  
Significant non-cash items:                          
  Deferred rents   $ (1,048 ) $ (776 ) $ (2,546 ) $ (1,335 )
  Preferred dividends     2,581         5,104      

        Our Company, as well as real estate industry analysts, generally consider FFO as another measurement of economic profitability for real estate-oriented companies. The Board of Governors of the National Association for Real Estate Investment Trusts (NAREIT), defines FFO as net income in accordance with GAAP, excluding depreciation and amortization expense and gains (losses) from depreciable operating real estate. We calculate FFO in accordance with the NAREIT definition and also exclude provisions for asset impairments and gains (losses) from the sale of investments when we calculate FFO. FFO does not represent the cash flows from operations defined by GAAP, may not be comparable to similarly titled measures of other companies and should not be considered as an alternative to net income as an indicator of our operating performance or to cash flows as a measure of liquidity. Excluded from FFO are significant components in understanding our financial performance.

        FFO before preferred dividends during the second quarter of 2002 increased $5.8 million or 47.5% to $18.0 million compared to the second quarter of 2001 primarily because:

27


        FFO before preferred dividends during the six month year-to-date period of 2002 increased $8.3 million or 35.5% to $31.7 million compared to the second quarter of 2001 primarily because:

Liquidity and Capital Resources

        Liquidity refers to our ability to generate sufficient cash flows to meet the short and long-term cash requirements of our business operations. Capital resources represent those funds used or available to be used to support our business operations and consist of stockholders' equity and debt.

        Cash flow from operations has been the principal source of capital to fund our ongoing operations and dividend payments, while use of our credit facilities and mortgage financing have been the principal sources of capital required to fund our growth. Concurrent with the closing of the Merger, we raised $100 million in equity financing through the sale to Warburg Pincus of 17,985,612 shares of our preferred stock and a warrant to purchase 2.5 million shares of our common stock with an exercise price of $8.25 per share. At the same time, we converted a loan payable to a trust controlled by Sol Price, one of our significant stockholders through various trusts, of approximately $9.3 million into 1,681,142 shares of our preferred stock and an additional warrant to purchase 233,679 shares of our common stock with an exercise price of $8.25 per share. While we are positioned to finance our business activities through a variety of sources, we expect to satisfy short-term liquidity requirements through net cash provided by operations and through borrowings.

        In September 2001, we obtained a $100.0 million unsecured credit facility with Fleet Bank as agent. The facility has a three-year term and has a current interest rate of LIBOR plus 175 basis points. The rate may vary between 150 and 185 basis points based on our leverage and other financial ratios. At June 30, 2002, we had $54.4 million outstanding on the facility at a 3.3% interest rate.

        In February 2002, we filed a $500.0 million shelf-registration statement pursuant to which we may issue debt securities, preferred stock, depositary shares, common stock, warrants or rights. We have not issued any instruments from this shelf-registration.

        On April 12, 2002, we entered into five Interest Rate Swap Agreements with Fleet Bank that are accounted for under SFAS No. 133. The combined notional amount is approximately $161 million and the maturities range from 2009-2010. We pay interest of LIBOR plus 3.08% to 3.77% (4.92% to 5.61% based upon LIBOR rates at June 30, 2002) and Fleet Bank assumed our fixed rates of 8.18% to 9.00%. These swaps hedge the fair value of fixed-rate debt and as the swaps change in fair value, both the swaps and the hedged debt will be adjusted on the Consolidated Balance Sheets.

28



        In July 2002, we entered into four Interest Rate Cap Agreements with Wells Fargo Bank and Fleet Bank that are also accounted for under SFAS No. 133. The combined notional amount is $152.0 million and the maturities range from 2009 to 2010. The agreements cap our variable rate risk on one month LIBOR interest at 7%.

        We have $63.0 million in notes receivable at June 30, 2002. These notes are primarily due from developers and are collateralized by the related projects or other real estate. Of these notes, $47.1 million involve entities controlled by one individual. Approximately $52.1 million of these notes do not require cash payments on the interest until specified future dates, typically when the projects are completed or sold. Also included are notes receivable of $12.3 million we obtained from the buyers of our recently completed self storage development properties. These notes are payable on May 31, 2003 or earlier, depending on stabilization of the properties.

        We continue to evaluate various properties for acquisition or development and continue to evaluate other investment opportunities. We anticipate borrowing available amounts on our credit facility to fund these acquisition and development opportunities. We anticipate obtaining construction loans to fund our development activities. During the six months ended June 30, 2002 we purchased five properties for a total of $55.2 million. We used proceeds from tax-deferred exchange transactions on properties sold in 2001 and 2002, borrowings on our unsecured line of credit, and assumed loans of $5.8 million to fund these acquisitions.

        From time to time we will consider selling properties to better align our portfolio with our geographic and tenant composition strategies. We may also participate in additional tax-deferred exchange transactions, which allow us to dispose of properties and reinvest the proceeds in a tax efficient manner. During the six months ended June 30, 2002 we sold three parcels of land for $3.1 million, three self storage development properties for $26.3 million, and one operating property for $15.2 million. When we sell an operating property, we anticipate a temporary reduction in operating income due to the time lag between selling a property and reinvesting the proceeds.

        We are contemplating purchasing various properties and selling certain other properties. As we sell properties, our cash flows from operations may decrease until the proceeds are reinvested into new properties.

        We have a significant retail project in Newport, KY. The majority of the construction was completed in October 2001, with all of the primary buildings completed except for one out parcel yet to be leased. The project opened in October 2001. At present the project is approximately 70% occupied, excluding ground leases.

        We also have two significant retail development projects in which construction will continue through 2002. The Temecula, CA project is an open-air retail shopping center with Wal-Mart, Kohl's and other tenants. We estimate $16.0 million remaining to complete construction. We expect to fund the remaining cost through a construction loan. The Anaheim Garden Walk project in Anaheim, CA, located at the corner of Harbor Blvd. and Disney Way will consist of an open-air retail center and three hotels. Total cost of the retail portion of this project is approximately $250 million with an estimated cost of $200 million remaining to complete construction over the next eight years for all phases. We anticipate that the first phase of the project will cost approximately $110 million. We expect to fund construction costs through a construction loan, sales of adjacent land parcels for hotels or potential joint venture investors.

        We own a 55% interest in Destination Villages LLC. Destination Villages, LLC owns a Bermuda limited liability company that owns a hospitality project located in Bermuda, Daniel's Head Village Resort (Daniel's Head). Daniel's Head was closed in the fourth quarter of 2001, primarily due to low occupancy rates as a result of the terrorist events in the United States that occurred on September 11, 2001. The project was encumbered by a $6 million loan with a Bermuda bank. In March 2002, we

29



informed the Bermuda bank that we did not intend to re-open this project due to large projected operating losses and instead intended to sell the project to an identified buyer. This resulted in a default of the loan. On March 27, 2002, the Bermuda bank exercised its rights under Bermuda law and put the project in "receivership," which gives the bank the right to negotiate directly with this buyer as well as other potential buyers. We no longer have involvement in the operations of Daniel's Head.

        The following table summarizes all of our long-term contractual obligations, excluding interest, to pay third parties as of June 30, 2002:

 
  Contractual Cash Obligations
 
  2002
  2003
  2004
  2005
  2006
  Thereafter
  Total
Mortgages and notes payable   $ 50,278   $ 32,988   $ 207,098   $ 22,596   $ 4,439   $ 189,572   $ 506,971
Capital lease obligations     398     796     796     796     796     16,252     19,834
   
 
 
 
 
 
 
Total   $ 50,676   $ 33,784   $ 207,894   $ 23,392   $ 5,235   $ 205,824   $ 526,805
   
 
 
 
 
 
 

        In 2002, we plan to use cash flow from operations to fund our principal payments due on mortgages and we plan to borrow on our unsecured line of credit or refinance to repay debt maturing in 2002.

Off-Balance Sheet Financing Matters

        Also related to our Newport, KY project discussed previously, the City of Newport, KY in 1999 issued two series of public improvement bonds related to the Newport development project. The Series 2000a tax exempt bonds total $44.2 million and are broken down as follows: (a) $18.7 million maturing 2018 with interest at 8.375%; (b) $20.5 million maturing 2027 with interest at 8.5%; and (c) $5.0 million maturing 2027 with interest at 8.375%. The Series 2000b bonds are taxable and have a par amount of $11.6 million with interest at 11% due 2009. The bonds are guaranteed by the Newport project, the Company, and the project's third party developers. As of June 30, 2002, Newport had drawn on $43.1 million of the bonds for construction incurred prior to that date.

        Summarized debt information for our unconsolidated joint ventures and the amount guaranteed by us at June 30, 2002 is as follows:

Joint Venture

  June 30
2002

  Debt
Guaranteed

Orlando Business Park, LLC   $ 10,651   $ 10,651
Old Mill District Shops, LLC     17,652     14,101
Blackstone Ventures I     5,383     5,383
3017977 Nova Scotia Company     8,094     8,094
   
 
    $ 41,780   $ 38,229
   
 

        We also have guaranteed a $12.5 million note payable related to a development project in Scottsdale, AZ and have a $22.8 million note receivable with a participating interest.

        In connection with the sale of three self storage development properties in June 2002, we agreed to guarantee $14.2 million of debt associated with the properties that was assumed by the buyer in the transaction. We guarantee this debt until it matures in April 2003.

Transactions with Related and Certain Other Parties

        Prior to the Merger, Excel Legacy was responsible for the daily management of PEI, including property management, finance and administration. We reimbursed Excel Legacy for these services

30



based on historical costs for similar expenses. We expensed $0.8 million for these services during the second quarter of 2001 and $1.7 million for the six month year-to-date period of 2001.

        Prior to the Merger, we executed a note receivable with Excel Legacy allowing them to borrow up to $40.0 million. During the second quarter of 2001 we recorded $1.1 million in interest income from Excel Legacy on this note and $2.0 million for the six month year-to-date period of 2001. As a result of the Merger, interest income is no longer recorded on this note.

        In connection with the San Diego/Rancho Bernardo, CA office building purchased from Excel Legacy, we leased the building back to Excel Legacy under a 10-year lease agreement. We recorded $0.3 million of rental revenue from Excel Legacy in connection with this lease during the second quarter of 2001, and $0.5 million for the six months year-to-date period of 2001. Due to the Merger, rental revenue is no longer recorded on this lease.

        In conjunction with the purchase of the Anaheim land in the first quarter of 2001, we executed a ground lease agreement with Excel Legacy. The lease has a term of 50 years and requires payments of $2.8 million per year in rent. During the second quarter of 2001 we recorded $0.7 million in rental revenue from Excel Legacy related to this lease and $1.2 million for the six month year-to-date period of 2001. Due to the Merger, rental revenue is no longer recorded on this lease.

        In connection with the Merger, we acquired notes receivable from certain officers and affiliates of Excel Legacy, of which $9.4 million was outstanding at June 30, 2002. The notes bear interest at a fixed rate of 7%, and are due in March 2003. The total interest receivable at June 30, 2002 from these notes was $2.9 million. The notes have been offset against stockholders' equity on our accompanying Consolidated Balance Sheets.

Inflation

        Because a substantial number of our leases contain provisions for rent increases based on changes in various consumer price indices, based on fixed rate increases, or based on percentage rent if tenant sales exceed certain base amounts, we do not expect inflation to have a material impact on future net income or cash flow from developed and operating properties. In addition, substantially all retail leases are triple net, which means specific operating expenses and property taxes are passed through to the tenant.

ITEM 3—QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        Market risks relating to our operations result primarily from changes in short-term LIBOR interest rates. We do not have any significant foreign exchange or other material market risk.

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

        We had $272.4 million in variable rate debt outstanding at June 30, 2002. Based upon these year-end debt levels, a hypothetical increase in interest rates by 100 basis points would increase interest expense by approximately $2.7 million on an annual basis, and likewise decrease our earnings and cash flows. We cannot predict market fluctuations in interest rates and their impact on our variable rate debt, nor can there be any assurance that fixed rate long-term debt will be available to us at favorable rates, if at all. Consequently, future results may differ materially from the estimated adverse changes discussed above.

31



        Also, as previously discussed, we entered into five fair-value interest rate swap agreements for $161 million in April 2002. These swap agreements effectively convert $161 million of fixed rate loans with interest rates ranging from 8.18% to 9% to variable interest rates. The fair value of these interest rate swap agreements represents the estimated amount we would receive if we terminated the agreements. At June 30, 2002 the fair value of our interest rate swap agreements is approximately $3.5 million.

        In July 2002, in order to mitigate our variable interest rate exposure, we acquired four interest rate caps, which hedge our exposure on $152 million of variable rate debt. The hedges limit our exposure to the one-month LIBOR index associated with certain of our outstanding debt at 7%. To the extent the one-month LIBOR index exceeds 7%, the counter parties on the hedges will pay us the difference between the actual index and 7%.

        The following table presents the scheduled principal payments on notes receivable and the scheduled principal payments on mortgages payable over the next five years and thereafter. The table also includes the average interest rates of the financial instruments during each respective year and the fair value of the notes receivable and mortgages payable. We determine the fair value of financial instruments through the use of discounted cash flows analysis using current interest rates for notes receivable with terms and credit characteristics similar to our existing portfolio and borrowings under terms similar to our existing mortgages payable. Accordingly, we have determined that the carrying value of our financial instruments at June 30, 2002 approximated fair value.

 
  Expected Maturity Date
(dollar amounts in thousands)

 
  2002
  2003
  2004
  2005
  2006
  Thereafter
  Total
  Fair
Value

Notes receivable, including notes from affiliates   $ 19,027   $ 38,207   $ 4,375           $ 1,435   $ 63,044   $ 63,044
Average interest rate     13 %   12 %   12 %           11 %   13 %    
Mortgages and notes payable   $ 50,278   $ 32,988   $ 207,098   $ 22,596   $ 4,439   $ 189,572   $ 506,971   $ 506,971
Average interest rate     5 %   5 %   4 %   7 %   7 %   8 %   6 %    

32



PART II—OTHER INFORMATION

ITEM 1—LEGAL PROCEEDINGS

        On or about February 13, 2001, Lewis P. Geyser filed a lawsuit against Excel Legacy in Santa Barbara County Superior Court, Anacapa Division, Case No. 01038577. The suit arose out of an Operating Agreement for Destination Villages, LLC, an entity which is owned jointly by Excel Legacy and Mr. Geyser, under which Destination Villages, LLC would develop certain eco-tourism resorts. The complaint included causes of action for breach of contract, breach of fiduciary duty, fraud and negligent misrepresentation. The lawsuit included a prayer for compensatory and punitive damages. Excel Legacy had also filed a cross-complaint against Mr. Geyser for breach of contract, fraud, breach of fiduciary duty and other related claims.

        The trial of this matter began February 26, 2002 and concluded on March 19, 2002. The trial judge dismissed both the complaint and cross-complaint, and granted nothing to Mr. Geyser under any of his allegations. On June 5, 2002, Mr. Geyser filed an appeal and Excel Legacy subsequently filed a cross-appeal against Mr. Geyser.

        On June 13, 2002 the Bank of NT Butterfield & Sons Limited filed a lawsuit against Price Legacy and Excel Legacy in Bermuda for $6.1 million plus other costs related to a guarantee agreement for a promissory note on the Destination Villages Daniel's Head project in Bermuda. The bank claims that Excel Legacy did not provide sufficient capital for the project to be completed which was required in the guarantee agreement. The bank has currently appointed a receiver who is actively marketing the project for sale to third parties. We believe we were in full compliance with the guarantee and intend to vigorously defend the lawsuit.

        We are not party to any other legal proceedings other than various claims and lawsuits arising in the ordinary course of business that, in the opinion of our management, are not individually or in the aggregate material to our business.

ITEM 4—SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

        Our annual meeting of stockholders was held on June 13, 2002. As of the record date for the meeting, we had 40,726,191 shares of common stock, 27,413,467 shares of Series A Preferred Stock, and 19,666,754 shares of Series B Preferred Stock outstanding. The matters voted upon at our annual meeting consisted of the election of all eight of our Directors.

        Stockholders elected the Directors at our annual meeting by the following vote:

 
  Votes For
  Votes Withheld
Common and Series A Preferred Stock Nominees        
Richard B. Muir   38,840,094   2,086,393
Gary B. Sabin   38,839,993   2,086,494
Series A Preferred Stock Nominees        
James F. Cahill   25,768,338   726,258
Murray Galinson   25,766,438   728,158
Jack McGrory   25,762,804   731,792
Keene Wolcott   25,753,503   741,093
Series B Preferred Stock Nominees        
Rubin S. Leibowitz   17,985,612   0
Melvin L. Keating   17,985,612   0

33


ITEM 6—EXHIBITS AND REPORTS ON FORM 8-K

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

 

 

(10.1

)

International Swap Dealers Association, Inc. Master Agreement dated as of April 12, 2002 between Fleet National Bank and Price Legacy Corporation. (Incorporated by reference to the Quarterly Report on Form 10-Q for the quarter ended March 31, 2002 filed with the SEC on May 13, 2002 (File No. 0-20449)).

(b)

 

Reports on Form 8-K

 

 

None

34



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.

    PRICE LEGACY CORPORATION
Registrant

    

 

 

Date: August 12, 2002

 

/s/  
GARY B. SABIN      
Gary B. Sabin
Chief Executive Officer

    

 

 

Date: August 12, 2002

 

/s/  
JAMES NAKAGAWA      
James Y. Nakagawa
Chief Financial Officer

35




QuickLinks

INDEX TO FORM 10-Q
PART I—FINANCIAL INFORMATION
PRICE LEGACY CORPORATION CONSOLIDATED BALANCE SHEETS (in thousands, except share data)
PRICE LEGACY CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited—amounts in thousands, except per share data)
PRICE LEGACY CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited—amounts in thousands)
PRICE LEGACY CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) June 30, 2002
PART II—OTHER INFORMATION
SIGNATURES