CRESCENT REAL ESTATE EQUITIES CO - 10-K Annual Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ____________ TO ____________

COMMISSION FILE NUMBER 1-13038

CRESCENT REAL ESTATE EQUITIES COMPANY
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(Exact name of registrant as specified in its charter)

TEXAS 52-1862813
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(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)

777 Main Street, Suite 2100, Fort Worth, Texas 76102
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(Address of principal executive offices) (Zip code)

Registrant's telephone number, including area code (817) 321-2100
--------------

Securities registered pursuant to Section 12(b) of the Act:

Name of Each Exchange
Title of each class: on Which Registered:
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Common Shares of Beneficial Interest
par value $0.01 per share New York Stock Exchange

Series A Convertible Cumulative Preferred
Shares of Beneficial Interest par
value $0.01 per share New York Stock Exchange
Series B Cumulative Redeemable Preferred
Shares of Beneficial Interest par
value $0.01 per share New York Stock Exchange

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 twelve (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 ninety (90) days.

YES [X] NO [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).

YES [X] NO [ ]

As of June 30, 2003, the aggregate market value of the 92,350,507 common shares
held by non-affiliates of the registrant was approximately $1.5 billion.

Number of Common Shares outstanding as of March 3, 2004: 99,367,207
Number of Series A Preferred Shares outstanding as of March 3, 2004: 14,200,000
Number of Series B Preferred Shares outstanding as of March 3, 2004: 3,400,000

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement to be filed with the Securities and Exchange
Commission for Registrant's 2004 Annual Meeting of Shareholders to be held in
June 2004 are incorporated by reference into Part III.

TABLE OF CONTENTS

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PART I

ITEM 1. BUSINESS

THE COMPANY

Crescent Real Estate Equities Company ("Crescent Equities") operates as
a real estate investment trust for federal income tax purposes (a "REIT") and,
together with its subsidiaries, provides management, leasing and development
services for some of its properties.

The term "Company" includes, unless the context otherwise indicates,
Crescent Equities, a Texas real estate investment trust, and all of its direct
and indirect subsidiaries.

The direct and indirect subsidiaries of Crescent Equities at December
31, 2003, included:

o CRESCENT REAL ESTATE EQUITIES LIMITED PARTNERSHIP
The "Operating Partnership."

o CRESCENT REAL ESTATE EQUITIES, LTD.
The "General Partner" of the Operating Partnership.

o SUBSIDIARIES OF THE OPERATING PARTNERSHIP AND THE
GENERAL PARTNER

Crescent Equities conducts all of its business through the Operating
Partnership and its other subsidiaries. The Company is structured to facilitate
and maintain the qualification of Crescent Equities as a REIT.

At December 31, 2003, the assets and operations of the Company were
divided into four investment segments as follows:

o Office Segment;

o Resort/Hotel Segment;

o Residential Development Segment; and

o Temperature-Controlled Logistics Segment.

Within these segments, the Company owned in whole or in part the
following real estate assets (the "Properties") as of December 31, 2003:

o OFFICE SEGMENT consisted of 72 office properties,
(collectively referred to as the "Office Properties"), located
in 27 metropolitan submarkets in seven states, with an
aggregate of approximately 30.0 million net rentable square
feet.

o RESORT/HOTEL SEGMENT consisted of five luxury and destination
fitness resorts and spas with a total of 1,036 rooms/guest
nights and four upscale business-class hotel properties with a
total of 1,771 rooms (collectively referred to as the
"Resort/Hotel Properties").

o RESIDENTIAL DEVELOPMENT SEGMENT consisted of the Company's
ownership of common stock representing interests ranging from
98% to 100% in four residential development corporations
(collectively referred to as the "Residential Development
Corporations"), which in turn, through partnership
arrangements, owned in whole or in part 23 upscale residential
development properties (collectively referred to as the
"Residential Development Properties").

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o TEMPERATURE-CONTROLLED LOGISTICS SEGMENT consisted of the
Company's 40% interest in Vornado Crescent Portland
Partnership (the "Temperature-Controlled Logistics
Partnership") and a 56% non-controlling interest in the
Vornado Crescent Carthage and KC Quarry, L.L.C. The
Temperature-Controlled Logistics Partnership owns all of the
common stock, representing substantially all of the economic
interest, of AmeriCold Realty Corporation (the
"Temperature-Controlled Logistics Corporation"), a REIT. As of
December 31, 2003, the Temperature-Controlled Logistic
Corporation directly or indirectly owned 87
temperature-controlled logistics properties (collectively
referred to as the "Temperature-Controlled Logistics
Properties") with an aggregate of approximately 440.7 million
cubic feet (17.5 million square feet) of warehouse space. As
of December 31, 2003, Vornado Crescent Carthage and KC Quarry
L.L.C. owned two quarries and the related land. The Company
accounts for its interests in the Temperature-Controlled
Logistics Partnership and in the Vornado Crescent Carthage and
KC Quarry, L.L.C. as unconsolidated equity entities.

See Note 3, "Segment Reporting," included in Item 8, "Financial
Statements and Supplementary Data," for a table showing selected financial
information for each of these investment segments for the years ended December
31, 2003, 2002, and 2001, and total assets, consolidated property level
financing, consolidated other liabilities, and minority interests for each of
these investment segments at December 31, 2003 and 2002.

See Note 1, "Organization and Basis of Presentation," included in Item
8, "Financial Statements and Supplementary Data," for a table that lists the
principal subsidiaries of the Company and the properties owned by such
subsidiaries.

See Note 9, "Investments in Unconsolidated Companies," included in Item
8, "Financial Statements and Supplementary Data," for a table that lists the
Company's ownership in significant unconsolidated joint ventures and investments
as of December 31, 2003, including eight Office Properties and two Residential
Development Corporations. See Note 8, "Temperature-Controlled Logistics,"
included in Item 8, "Financial Statements and Supplementary Data," for
information regarding the Company's ownership interest in the
Temperature-Controlled Logistics Properties.

For purposes of segment reporting as defined in Statement of Financial
Accounting Standards ("SFAS") No. 131, "Disclosures About Segments of an
Enterprise and Related Information," and this Annual Report on Form 10-K, the
Office Properties, the Resort/Hotel Properties, the Residential Development
Properties and the Temperature-Controlled Logistics Properties are considered
four separate reportable segments. However, for purposes of investor
communications, the Company classifies its luxury and destination fitness
resorts and spas and Residential Development Properties as a single group
referred to as the "Resort and Residential Development Sector" due to the
similar characteristics of targeted customers. This group does not contain the
four business-class hotel properties. Instead, for investor communications, the
four business-class hotel properties are classified with the
Temperature-Controlled Logistics Properties as the Company's "Investment
Sector."

BUSINESS OBJECTIVES AND STRATEGIES

BUSINESS OBJECTIVES

The Company's primary business objective is to provide an attractive
return on equity to its shareholders, through its focus on increasing earnings,
cash flow growth and predictability, along with continually strengthening its
balance sheet. The Company also strives to attract and retain the best talent
available and to empower management through the development and implementation
of a cohesive set of operating, investing and financing strategies that will
align their interests with the interests of the Company's shareholders.

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OPERATING STRATEGIES

The Company seeks to enhance its operating performance by
distinguishing itself as the leader in its core investment segments through
asset quality, customer service and economies of scale with dominant market
share.

The Company's operating strategies include:

o operating the Office Properties as long-term investments;

o providing exceptional customer service;

o increasing occupancies, rental rates and same-store net
operating income;

o emphasizing brand recognition of the Company's premier Class A
Office Properties and luxury and destination fitness resorts
and spas; and

o using the Company's operating platform to provide superior
asset management services to partners and third parties.

INVESTING STRATEGIES

The Company focuses on investment opportunities primarily within the
Office Segment in markets considered "demand-driven," or to have high levels of
in-migration by corporations, affordable housing costs, moderate costs of
living, and other attributes creating an attractive business environment. These
investment opportunities are evaluated in light of the Company's long-term
investment strategy of investing in assets within markets that have significant
potential for long-term growth. Investment opportunities are expected to provide
growth in earnings and cash flow after applying management skills, renovation
and expansion capital and strategic vision.

The Company's investment strategies include:

o capitalizing on strategic acquisition opportunities, including
acquisitions with joint venture capital resources, primarily
within the Company's investment segments;

o continually reviewing opportunities to dispose of assets based
on current and prospective market valuations;

o investing in securities and loans primarily to real estate
companies to maximize returns on excess capital; and

o evaluating future repurchases of the Company's common shares,
considering stock price, cost of capital, alternative
investment options and growth implications.

FINANCING STRATEGIES

The Company employs a disciplined set of financing strategies to fund
its operating and investing activities.

The Company's financing strategies include:

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o funding operating expenses, debt service payments and
distributions to shareholders and unitholders, primarily
through cash flow from operations, and return of capital from
the Residential Development Segment;

o taking advantage of market opportunities to refinance existing
debt to reduce interest cost, where appropriate replace
secured debt with unsecured debt, maintain a conservative debt
maturity schedule and expand the Company's lending group;

o minimizing the Company's exposure to market changes in
interest rates through fixed rate debt and interest rate swaps
as appropriate; and

o utilizing a combination of debt, equity, joint venture capital
and selected asset disposition alternatives to finance
acquisition and development opportunities.

AVAILABLE INFORMATION

The Company's website can be found on the Internet at www.crescent.com.
The Company makes available free of charge on its website its annual report on
Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and
amendments to those reports as soon as reasonably practicable after
electronically filed with or furnished to the Securities and Exchange
Commission.

EMPLOYEES

As of March 3, 2004, the Company had approximately 728 employees. None
of these employees are covered by collective bargaining agreements. The Company
considers its employee relations to be good.

TAX STATUS

The Company has elected to be taxed as a REIT under Sections 856
through 860 of the U.S. Internal Revenue Code of 1986, as amended (the "Code"),
and operates in a manner intended to enable it to continue to qualify as a REIT.
As a REIT, the Company generally will not be subject to corporate federal income
tax on net income that it currently distributes to its shareholders, provided
that the Company satisfies certain organizational and operational requirements
including the requirement to distribute at least 90% of its REIT taxable income
to its shareholders each year. If the Company fails to qualify as a REIT in any
taxable year, the Company will be subject to federal income tax (including any
applicable alternative minimum tax) on its taxable income at regular corporate
tax rates. The Company is subject to certain state and local taxes.

The Company has elected to treat certain of its corporate subsidiaries
as taxable REIT subsidiaries (each, a "TRS"). In general, a TRS of the Company
may perform additional services for tenants of the Company and may engage in any
real estate or non-real estate business (except for the operation or management
of health care facilities or lodging facilities or the provision to any person,
under a franchise, license or otherwise, of rights to any brand name under which
any lodging facility or health care facility is operated). A TRS is subject to
corporate federal income tax.

ENVIRONMENTAL MATTERS

The Company and its Properties are subject to a variety of federal,
state and local environmental, health and safety laws, including:

o Comprehensive Environmental Response, Compensation, and
Liability Act, as amended ("CERCLA");

o Resource Conservation & Recovery Act;

o Clean Water Act;

o Clean Air Act;

o Toxic Substances Control Act; and

o Occupational Safety & Health Act.

The application of these laws to a specific property that the Company
owns will be dependent on a variety of property-specific circumstances,
including the former uses of the property and the building materials used at
each property. Under certain environmental laws, principally CERCLA and
comparable state laws, a current or previous owner or operator of real estate
may be required to investigate and clean up certain hazardous or toxic
substances, asbestos-containing materials, or petroleum product releases at the
property. They may also be held liable to a governmental entity or third parties
for property damage and for investigation and clean up costs such parties incur
in connection with the contamination, whether or not the owner or operator knew
of, or was responsible for, the contamination. In addition, some environmental
laws create a

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lien on the contaminated site in favor of the government for damages and costs
it incurs in connection with the contamination. The owner or operator of a site
also may be liable under certain environmental laws and common law to third
parties for damages and injuries resulting from environmental contamination
emanating from the site. Such costs or liabilities could exceed the value of the
affected real estate. The presence of contamination or the failure to remediate
contamination may adversely affect the owner's ability to sell or lease real
estate or to borrow using the real estate as collateral.

Compliance by the Company with existing environmental, health and
safety laws has not had a material adverse effect on the Company's financial
condition and results of operations, and management does not believe it will
have such an impact in the future. In addition, the Company has not incurred,
and does not expect to incur any material costs or liabilities due to
environmental contamination at Properties it currently owns or has owned in the
past. However, the Company cannot predict the impact of new or changed laws or
regulations on its current Properties or on properties that it may acquire in
the future. The Company has no current plans for substantial capital
expenditures with respect to compliance with environmental, health and safety
laws.

INDUSTRY SEGMENTS

OFFICE SEGMENT

OWNERSHIP STRUCTURE

As of December 31, 2003, the Company owned or had an interest in 72
Office Properties located in 27 metropolitan submarkets in seven states, with an
aggregate of approximately 30.0 million net rentable square feet. The Company,
as lessor, has retained substantially all of the risks and benefits of ownership
of the Office Properties and accounts for the leases of its 64 consolidated
Office Properties as operating leases. Sixty-three of the Office Properties are
wholly-owned and nine are owned through joint ventures, one of which is
consolidated and eight of which are unconsolidated. Additionally, the Company
provides management and leasing services for the majority of its Office
Properties.

See Item 2, "Properties," for more information about the Company's
Office Properties. See Note 1, "Organization and Basis of Presentation," of Item
8, "Financial Statements and Supplementary Data," for a table that lists the
principal subsidiaries of the Company and the Properties owned by such
subsidiaries. See Note 9, "Investments in Unconsolidated Companies," of Item 8,
"Financial Statements and Supplementary Data," for a table that lists the
Company's ownership in the eight Office Properties in which the Company owned an
interest through unconsolidated joint ventures.

RECENT DEVELOPMENTS

During the year ended December 31, 2003, the Company acquired The
BAC-Colonnade Building ("The Colonnade"), in Miami, Florida; acquired two Office
Properties and two retail parcels within Hughes Center in Las Vegas, Nevada;
entered into a joint venture which acquired an office building, BriarLake Plaza,
in Houston, Texas; disposed of the Las Colinas Plaza retail property in Dallas,
Texas; disposed of four Office Properties held through Woodlands Office Equities
- - '95 Limited Partnership ("WOE"); and disposed of its 52.5% economic interest
in The Woodlands Commercial Properties Company, L.P. ("Woodlands CPC").

Subsequent to December 31, 2003, the Company acquired an additional
five office properties and seven retail parcels within Hughes Center.

See Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Recent Developments," for additional
information regarding these transactions.

MARKET INFORMATION

The Office Property portfolio reflects the Company's strategy of
investing in first-class assets ("Class A") within markets that have significant
potential for long-term rental growth. Within its selected submarkets, the
Company has focused

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on premier locations that management believes are able to attract and retain the
highest quality tenants and command premium rents. Consistent with its long-term
investment strategies, the Company has sought transactions where it was able to
acquire properties that have strong economic returns based on in-place tenancy
and also have a dominant position within the submarket due to quality and/or
location. Accordingly, management's long-term investment strategy not only
demands acceptable current cash flow return on invested capital, but also
considers long-term cash flow growth prospects. The Company applies a
well-defined leasing strategy in order to capture the potential rental growth in
the Company's portfolio of Office Properties from occupancy gains within the
markets and the submarkets in which the Company has invested.

In selecting the Office Properties, the Company analyzed demographic
and economic data to focus on markets expected to benefit from significant
long-term employment growth. The demographic conditions, economic conditions and
trends (population growth and employment growth) favoring the markets in which
the Company has invested are projected to continue to exceed the national
averages, as illustrated in the following table. In addition, the Company
considers these markets "demand-driven" due to high levels of in-migration by
corporations, affordable housing costs, moderate cost of living, and the
presence of centrally located travel hubs, making all areas of the country
easily accessible.

PROJECTED POPULATION GROWTH AND EMPLOYMENT GROWTH FOR ALL COMPANY MARKETS

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Source: Compiled from information published by Economy.com, Inc.

TEXAS

As of December 2003, Texas' economy and employment were still weak, but
showed stronger performance and more positive direction than a year ago. During
the year ended December 2003, 45,100 jobs were created in Texas for a 0.5%
increase, according to the Texas Workforce Commission. Statistics from the U.S.
Bureau of Labor Statistics show that for the same period, national employment
was down approximately 62,000 jobs. As of December 2003, the Texas unemployment
rate was 5.8%, compared to the December 2002 level of 5.9% and the December 2003
national rate of 5.4%.

DALLAS

The rate of employment decline in Dallas decreased significantly in
2003 compared to 2002. According to the Texas Workforce Commission, at the end
of the year, the Dallas Primary Metropolitan Statistical Area ("PMSA") total
nonfarm employment was down 6,500 jobs, or 0.3%, compared to a decline of 30,900
jobs, or 1.6% in 2002. The unemployment rate was still weak at 6.0% as of
December 2003, but improved compared to the 6.4% rate at December 2002.

In 2003, Dallas' office market continued to soften, although by the end
of 2003, it was showing signs of stabilization. Economic net absorption
(excluding sublet space) totaled approximately negative 4.4 million square feet,
including negative

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1.0 million square feet in Class A office space, according to CoStar data.
Physical net absorption, including sublet space in 2003, was negative 2.7
million square feet, indicating positive movement in the sublet market. Class A
office physical net absorption, including sublet space, turned positive in
2003 at 130,000 square feet. Completions of new office space totaled only 1.1
million square feet for the entire Dallas market; approximately half of this
space is Class A. Occupancy levels at December 2003 were 75.5% for all office
space and 80.1% for Class A office space.

HOUSTON

According to the Texas Workforce Commission, Houston's employment was
flat to slightly down through most of the year, but ended 2003 with some job
growth, an additional 4,000 jobs, or 0.2%. In 2002, based on December data,
Houston lost 13,300 jobs, or 0.6%. As of December 2003, the Houston unemployment
rate was 5.9%, compared to 5.6% as of December 2002.

In 2003, Houston's office market softened slightly; by the end of 2003,
however, the market appeared close to stabilization. Economic net absorption
(excluding sublet space) totaled approximately negative 1.1 million square feet,
including negative 345,000 square feet in Class A office space, according to
CoStar data. Physical net absorption, including sublet space in 2003, was
negative 1.4 million square feet. Class A office physical net absorption,
including sublet space, was negative 222,000 square feet in 2003. Houston office
completions of new office space totaled 2.1 million square feet, of which 1.7
million square feet is Class A. Occupancy levels at December 2003 were 83.8% for
all office space and 85.5% for Class A office space.

AUSTIN

Austin's economy picked up momentum in 2003. Based on December 2003
data from the Texas Workforce Commission, employment in the metropolitan region
grew by 7,100 jobs, or 1.1%, compared to a decrease of 900 jobs in 2002 (0.1%)
and a decrease of 23,900 jobs in 2001 (3.5%). As of December 2003, Austin's
unemployment rate was 4.5%, compared to 5.0% as of December 2002.

In 2003, Austin's office market remained weak. By the end of 2003,
however, the market was close to stabilization. Economic net absorption
(excluding sublet space) totaled approximately negative 1.6 million square feet,
including negative 742,000 square feet in Class A office space, according to
CoStar data. Physical net absorption, including sublet space, in 2003 was
positive 185,000 square feet, indicating strong absorption of sublet space.
Class A office physical net absorption, including sublet space, was also
positive in 2003 at 791,000 square feet. Office completions of new office space
totaled 775,000 square feet. Occupancy levels at December 2003 were 81.6% for
all office space and 78.8% for Class A office space.

DENVER

In 2003, Denver's economy nearly stabilized after two years of job
losses, based on unemployment figures and month-to-month changes in nonfarm
employment. According to the U.S. Bureau of Labor Statistics, as of December
2003, the unemployment rate was 5.9%, unchanged from the prior year.

2003 was a difficult period for the Denver office market, but there
were some positive signs by the end of the year. Economic net absorption
(excluding sublet space) totaled approximately negative 1.9 million square feet,
but only 95,000 of this was Class A office space, according to CoStar data.
Physical net absorption, including sublet space, in 2003 was negative 1.2
million square feet. Class A office physical net absorption, including sublet
space, turned positive in 2003 at 430,000 square feet. Office completions of new
office space totaled only 883,000 square feet of which 540,000 square feet was
Class A. Occupancy levels at December 2003 were 82.8% for all office space and
82.1% for Class A office space.

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MIAMI

Miami continues to enjoy economic recovery and expansion. According to
the U.S. Bureau of Labor Statistics, the metropolitan region suffered in 2001
and lost 16,600 jobs, or 1.6% based on December data. In 2002, Miami added 7,600
jobs or 0.7% and in 2003 the metro area gained 9,700 jobs, or 0.9%. As of
December 2003, the Miami unemployment rate was 6.1% compared to 7.0% as of
December 2002.

In 2003, the Miami office market still experienced some softness, but
showed positive conditions in the second half of the year. The 36 million square
foot market experienced very slight negative absorption of 60,000 square feet
for the year ended December 2003 but had improved fourth quarter absorption of
329,000 square feet, according to Real Data Information Systems, Inc. data.
Class A office physical net absorption, including sublet space, totaled 31,000
square feet in 2003, and 301,000 square feet in the fourth quarter according to
RealData Information Systems, Inc. Occupancy levels at December 2003 were 82.7%
for all office space and 81.8% for Class A office space.

LAS VEGAS

Las Vegas' economic expansion in 2003 was one of the strongest in the
U.S. and reflected increasing momentum. According to the U.S. Bureau of Labor
Statistics, the metropolitan region added 33,600 jobs, or 4.2% (based on
December 2003 nonfarm employment data from the Nevada Department of Employment,
Training & Rehabilitation). The increase is nearly double that of the prior year
(18,100 jobs, or 2.3%). As of December 2003 the Las Vegas unemployment rate was
4.4%, compared to 5.0% at December 2002, and to the national rate of 5.4%.

In 2003, the Las Vegas office market continued to reflect relatively
healthy market conditions. The 20 million square foot market absorbed 928,000
square feet, according to Grubb & Ellis data. Class A office physical net
absorption totaled 154,000 square feet in 2003. Occupancy levels as of December
2003, were 87.4% for all office space and 89.2% for Class A space.

COMPETITION

The Company's Office Properties, primarily Class A properties located
within the southwest, individually compete against a wide range of property
owners and developers, including property management companies and other REITs,
that offer space in similar classes of office properties (for example, Class A
and Class B properties.) A number of these owners and developers may own more
than one property. The number and type of competing properties in a particular
market or submarket could have a material effect on the Company's ability to
lease space and maintain or increase occupancy or rents in its existing Office
Properties. Management believes, however, that the quality services and
individualized attention that the Company offers its tenants, together with its
active preventive maintenance program and superior building locations within
markets, enhance the Company's ability to attract and retain tenants for its
Office Properties. In addition, as of December 31, 2003, on a weighted average
basis, the Company owned approximately 16% of the Class A office space in the 27
submarkets in which the Company owned Class A office properties, and 25.3% of
the Class B office space in the one submarket in which the Company owned Class B
office properties. Management believes that ownership of a significant
percentage of office space in a particular market reduces property operating
expenses, enhances the Company's ability to attract and retain tenants and
potentially results in increases in Company net income.

DIVERSIFIED TENANT BASE

The Company's top five tenants accounted for approximately 11% of the
Company's total Office Segment rental revenues for the year ended December 31,
2003. The loss of one or more of the Company's major tenants would have a
temporary adverse effect on the Company's financial condition and results of
operations until the Company is able to re-lease the space previously leased to
these tenants. Based on rental revenues from office leases in effect as of
December 31, 2003, no single tenant accounted for more than 5% of the Company's
total Office Segment rental revenues for 2003.

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RESORT/HOTEL SEGMENT

OWNERSHIP STRUCTURE

As of December 31, 2003, the Company owned or had an interest in nine
Resort/Hotel Properties. The Company holds one of the Resort/Hotel Properties,
the Fairmont Sonoma Mission Inn & Spa, through a joint venture arrangement,
pursuant to which the Company owns an 80.1% interest in the limited liability
company that owns the Sonoma Mission Inn & Spa. The remaining Resort/Hotel
Properties are wholly-owned.

Eight of the Resort/Hotel Properties are leased to taxable REIT
subsidiaries that the Company owns or in which it has an interest. The Omni
Austin Hotel is leased to HCD Austin Corporation, an unrelated third party.

Third party operators manage eight of the Resort/Hotel Properties.
Ventana Inn and Spa is managed by Sonoma Management Company, or "Sonoma
Management," an entity in which the Company held a 10% interest until it sold
its interest to the 90% owner in 2003. In addition, five of the Resort/Hotel
Properties that are managed by third party operators are subject to a Master
Asset Management and Administrative Services Agreement with Sonoma Management,
pursuant to which Sonoma Management receives asset management and incentive fees
from the Company.

RECENT DEVELOPMENTS

On November 21, 2003, Manalapan Hotel Partners, L.L.C. ("Manalapan"),
owned 50% by the Company and 50% by WB Palm Beach Investors, L.L.C., sold the
Ritz Carlton Palm Beach Resort/Hotel Property in Palm Beach, Florida. See Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Recent Developments," for additional information regarding this
transaction.

MARKET INFORMATION

Lodging demand is highly dependent upon the global economy and volume
of business travel. Immediately prior to September 11, 2001, the hospitality
industry enjoyed record profits. However, the weak global economy which
continued throughout 2002 and 2003, resulted in weak performance for 2002, and
much of 2003. Leisure travel recovered slightly in 2003, but business travel
remained weak. As a result, market conditions were flat in 2003. National hotel
occupancy in 2003 increased 0.3% over 2002. The average daily room rate declined
1.7%, and revenue per available room (a combination of occupancy and room rates
and the chief measure of hotel market performance) increased just 0.2% over
2002. For the "upper upscale" segment of the market (most comparable to the
Company's portfolio), revenue per available room declined 1.2% in 2003 from the
prior year.

COMPETITION

Most of the Company's upscale business class Resort/Hotel Properties in
Denver, Albuquerque, Austin and Houston are business and convention center
hotels that compete against other business and convention center hotels. The
Company believes that its luxury and destination fitness resorts and spas are
unique properties due to location, which creates barriers for competition to
enter, concept and high replacement cost. However, the luxury and destination
fitness resorts and spas do compete against business-class hotels or
middle-market resorts in their geographic areas, as well as against luxury
resorts nationwide and around the world.

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RESIDENTIAL DEVELOPMENT SEGMENT

OWNERSHIP STRUCTURE

As of December 31, 2003, the Company owned common stock representing
interests of 98% to 100% in four Residential Development Corporations, which in
turn, through joint ventures or partnership arrangements, owned in whole or in
part 23 Residential Development Properties. The Residential Development
Corporations are responsible for the continued development and the day-to-day
operations of the Residential Development Properties.

RECENT DEVELOPMENTS

On December 31, 2003, the Company disposed of its interest in The
Woodlands Residential Development Property. See Item 7, "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Recent
Developments," for additional information regarding this transaction.

COMPETITION AND MARKET INFORMATION

The Company's Residential Development Properties compete against a
variety of other housing alternatives in each of their respective areas. These
alternatives include other planned developments, pre-existing single-family
homes, condominiums, townhouses and non-owner occupied housing, such as luxury
apartments. Management believes that Desert Mountain and the properties owned by
CRDI, representing the Company's most significant investments in Residential
Development Properties, contain certain features that provide competitive
advantages to these developments.

Desert Mountain, a luxury residential and recreational private
community in Scottsdale, Arizona, offers six 18-hole Jack Nicklaus signature
golf courses with adjacent clubhouses. Management believes Desert Mountain has
few direct competitors due in part to the superior environmental attributes and
the amenity package that Desert Mountain offers to its members. Sources of
competition come from the resale market of existing lots and homes within Desert
Mountain and from smaller, less developed projects in the area. However,
management believes Desert Mountain's current inventory is superior to the
inventory available on the resale market and in nearby developments, as the
remaining lots are in the best locations within Desert Mountain. In addition to
the quality of the remaining lots, Desert Mountain's amenity package continues
to be unparalleled, and future residential golf development in the Scottsdale
area is limited due to the lack of water available for golf course use.

CRDI invests primarily in mountain resort residential real estate in
Colorado and California, and residential real estate in downtown Denver,
Colorado. Management believes that the Properties owned by CRDI have limited
direct competitors because the projects' locations are unique, land availability
is limited, and development rights are restrictive in most of these locations.

Residential development demand is highly dependent upon the national
economy, mortgage interest rates, and home sales. A slowing economy, which
continued into the first half of 2003, contributed to flat or reduced lot and
acre absorption, and to reduced average sales prices, primarily at Desert
Mountain and at The Woodlands.

12

TEMPERATURE-CONTROLLED LOGISTICS SEGMENT

OWNERSHIP STRUCTURE

As of December 31, 2003, the Company held a 40% interest in the
Temperature-Controlled Logistics Partnership, which owns all of the common
stock, representing substantially all of the economic interest, of the
Temperature-Controlled Logistics Corporation, which directly or indirectly owns
the 87 Temperature-Controlled Logistics Properties, with an aggregate of
approximately 440.7 million cubic feet (17.5 million square feet) of warehouse
space.

The Temperature-Controlled Logistics Corporation leases the
Temperature-Controlled Logistics Properties to AmeriCold Logistics, a limited
liability company owned 60% by Vornado Operating L.P. and 40% by a subsidiary of
Crescent Operating, Inc. ("COPI"). The Company has no economic interest in
AmeriCold Logistics. See Note 23, "COPI," in Item 8, "Financial Statements and
Supplementary Data," for information on the proposed acquisition of COPI's 40%
interest in AmeriCold Logistics by a new entity to be owned by the Company's
shareholders.

AmeriCold Logistics, as sole lessee of the Temperature-Controlled
Logistics Properties, leases the Temperature-Controlled Logistics Properties
from the Temperature-Controlled Logistics Corporation under three triple-net
master leases, as amended. On February 22, 2001, the Temperature-Controlled
Logistics Corporation and AmeriCold Logistics agreed to restructure certain
financial terms of the leases, including a reduction of the rental obligation
for 2001 and 2002, the increase of the Temperature-Controlled Logistics
Corporation's share of capital expenditures for the maintenance of the
properties (effective January 1, 2000), and the extension of the date on which
deferred rent is required to be paid to December 31, 2003. On March 2, 2004, the
Temperature-Controlled Logistics Corporation and AmeriCold Logistics amended the
leases to further extend the deferred rent period to December 31, 2005 from
December 31, 2004. The parties previously extended the deferred rent period to
December 31, 2004 from December 31, 2003, on March 7, 2003. The Company
recognizes rental income from the Temperature-Controlled Logistics Properties
when earned and collected, see Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Unconsolidated Investments," for
additional information.

On February 23, 2004, Alec Covington, President and Chief Executive
Officer of AmeriCold Logistics, resigned effective March 31, 2004, to take an
opportunity in an unrelated industry. A search to identify a successor is
currently underway. Anthony Cossentino, Chief Financial Officer, will oversee
the AmeriCold business and Mike O'Connell, who has been with AmeriCold for over
ten years, has been promoted to be in charge of all operations and, until a
successor is in place, will report to Mr. Cossentino.

VORNADO CRESCENT CARTHAGE AND KC QUARRY, L.L.C.

As of December 31, 2003, the Company held a 56% non-controlling
interest in Vornado Crescent Carthage and KC Quarry, L.L.C. ("VCQ"). The assets
of VCQ include two quarries and the related land.

RECENT DEVELOPMENTS

On February 5, 2004, the Temperature-Controlled Logistics Corporation
completed a $254.4 million mortgage financing with Morgan Stanley Mortgage
Capital Inc., secured by 21 of its owned and seven of its leased
temperature-controlled logistics properties. The loan matures in April 2009,
bears interest at LIBOR plus 295 basis points (with a LIBOR floor of 1.5% with
respect to $54.4 million of the loan) and requires principal payments of $5.0
million annually. The net proceeds to the Temperature-Controlled Logistics
Corporation were approximately $225.0 million, after closing costs, escrow
reserves and the repayment of approximately $12.9 million in existing mortgages.
On February 6, 2004, the Temperature-Controlled Logistics Corporation
distributed cash of approximately $90.0 million to the Company.

BUSINESS AND INDUSTRY INFORMATION

AmeriCold Logistics provides frozen food manufacturers with
refrigerated warehousing and transportation management services. The
Temperature-Controlled Logistics Properties consist of production, distribution
and public facilities. Production facilities differ from distribution facilities
in that they typically serve one or a small number of customers located nearby.
These customers store large quantities of processed or partially processed
products in the facility until they are further processed or shipped to the next
stage of production or distribution. Distribution facilities primarily serve
customers who store a wide variety of finished products to support shipment to
end-users, such as food retailers and food service companies, in a specific
geographic market. Public facilities generally serve the needs of local and
regional

13

customers under short-term agreements. Food manufacturers and processors use
public facilities to store capacity overflow from their production facilities or
warehouses.

AmeriCold Logistics' transportation management services include freight
routing, dispatching, freight rate negotiation, backhaul coordination, freight
bill auditing, network flow management, order consolidation and distribution
channel assessment. AmeriCold Logistics' temperature-controlled logistics
expertise and access to both the frozen food warehouses and distribution
channels enable the customers of AmeriCold Logistics to respond quickly and
efficiently to time-sensitive orders from distributors and retailers.

AmeriCold Logistics' customers consist primarily of national, regional
and local frozen food manufacturers, distributors, retailers and food service
organizations. A breakdown of AmeriCold Logistics' largest customers includes:

COMPETITION

AmeriCold Logistics is the largest operator of public refrigerated
warehouse space in North America. As a result, AmeriCold Logistics does not have
any competitors of comparable size. AmeriCold Logistics operates in an
environment in which competition is national, regional and local in nature and
in which the range of service, temperature-controlled logistics facilities,
customer mix, service performance and price are the principal competitive
factors.

14

ITEM 2. PROPERTIES

The Company considers all of its Properties to be in good condition,
well-maintained, suitable and adequate to carry on the Company's business.

OFFICE PROPERTIES

As of December 31, 2003, the Company owned or had an interest in 72
Office Properties, located in 27 metropolitan submarkets in seven states with an
aggregate of approximately 30.0 million net rentable square feet. The Company's
Office Properties are located primarily in the Dallas and Houston, Texas,
metropolitan areas. As of December 31, 2003, the Company's Office Properties in
Dallas and Houston represented an aggregate of approximately 72% of its office
portfolio based on total net rentable square feet (33% for Dallas and 39% for
Houston).

OFFICE PROPERTIES TABLE(1)

The following table shows, as of December 31, 2003, certain information
about the Company's Office Properties. In the table, "CBD" means central
business district.

- -------------------
(1) Office Property Table data is presented at 100% without giving effect
to the Company's actual ownership percentage in joint ventured
properties.

(2) Calculated in accordance with GAAP based on base rent payable as of
December 31, 2003, giving effect to free rent and scheduled rent
increases and including adjustments for expenses payable by or
reimbursable from customers.

(3) The Company has a 49.5% limited partner interest and a 0.5% general
partner interest in the partnership that owns Bank One Center.

(4) The Crescent Office Towers and The Crescent Atrium are now reflected
together as The Crescent.

(5) The Company owns the principal economic interest in Trammell Crow
Center through its ownership of fee simple title to the Property
(subject to a ground lease and a leasehold estate regarding the
building) and two mortgage notes encumbering the leasehold interests in
the land and building.

(6) In May 2003, the Company, through its subsidiaries, exercised its
option to acquire legal ownership of Spectrum Center in exchange for
the mortgage notes it previously held.

(7) Submarket name changed to Quorum/Bent Tree from Far North Dallas. Name
changed to better reflect the area of the submarket in which the
building is located.

(8) Leases have been executed at certain Office Properties but had not
commenced as of December 31, 2003. If such leases had commenced as of
December 31, 2003, the percent leased for all Office Properties would
have been 86%. Properties whose percent leased exceeds economic
occupancy by 5 percentage points or more are as follows: 125 E. John
Carpenter Freeway - 83%, 3333 Lee Parkway - 51%, Houston Center - 94%,
707 17th Street - 67%, and Chancellor Park - 84%.

(9) 12404 Park Central is currently considered held for sale. A $3.4
million impairment (before minority interest) was recorded in the
fourth quarter of 2003 related to this Property.

(10) Submarket name changed to Richardson from Richardson/Plano. Name
changed to better reflect the area of the submarket in which the
building is located.

16

(11) Liberty Plaza I & II is currently considered held for sale. A $4.3
million impairment (before minority interest) was recorded in the
fourth quarter of 2003 related to this Property.

(12) Submarket name changed to Greenway Plaza from Richmond-Buffalo
Speedway. Name changed to better reflect the area of the submarket in
which the building is located.

(13) Houston Center Shops is now reflected with Houston Center.

(14) Property statistics now include Five Houston Center which was deemed
stabilized in September 2003.

(15) Property statistics now include Five Post Oak Park which was deemed
stabilized in December 2003.

(16) The Company has a 0.1% general partner interest and a 19.9% limited
partner interest in the partnerships that own Four Westlake Park, Three
Westlake Park, and Bank One Tower.

(17) Submarket name changed to Katy Freeway West from Katy Freeway. Name
changed to better reflect the area of the submarket in which the
building is located.

(18) 1800 West Loop South is currently considered held for sale. A $16.4
million impairment (before minority interest) was recorded in 2003
related to this Property.

(19) The Company has a 1% general partner interest and a 49% limited partner
interest in the partnership that owns 301 Congress Avenue.

(20) 707 17th Street was formerly known as MCI Tower.

(21) The Company has a 40% member interest in the limited liability company
that owns Miami Center.

(22) In September 2003, the Company acquired unencumbered fee title to
Chancellor Park, as a result of merging the previously held mortgage
note out of existence.

(23) Hughes Center consists of six wholly-owned office properties and one
joint ventured office property. The Company acquired two wholly-owned
office properties as of December 31, 2003. In February 2004, the
Company acquired (a) the remaining four wholly-owned properties, and
(b) a 67% partnership interest in the joint ventured property. Hughes
Center is collectively considered stabilized, with an average occupancy
of 93% upon acquisition.

(24) The weighted average full-service cash rental rate per square foot
calculated based on base rent payable for Company Office Properties as
of December 31, 2003, without giving effect to free rent and scheduled
rent increases that are taken into consideration under GAAP but
including adjustments for expenses paid by or reimbursed from customers
is $22.57.

(25) Property statistics exclude BriarLake Plaza (which was acquired on
October 8, 2003) and The BAC - Colonnade Building (which was acquired
on August 26, 2003). These office properties will be included in
portfolio statistics once stabilized. Stabilization is deemed to occur
upon the earlier of (a) achieving 93% occupancy or (b) one year
following the date placed in-service or acquisition date.

(26) The Company has a 30% member interest in the limited liability company
that owns BriarLake Plaza.

The following table shows, as of December 31, 2003, the principal
business conducted by the tenants at the Company's Office Properties, based on
information supplied to the Company from the tenants. Based on rental revenues
from office leases in effect as of December 31, 2003, no single tenant accounted
for more than 5% of the Company's total Office Segment rental revenues for 2003.

----------------------------

(1) Includes legal, accounting, engineering, architectural and advertising
services.

(2) Includes banking, title and insurance and investment services.

(3) Includes oil and gas and utility companies.

(4) Includes construction, real estate and other industries.

17

AGGREGATE LEASE EXPIRATIONS OF OFFICE PROPERTIES

The following tables show schedules of lease expirations for leases in
place as of December 31, 2003, for the Company's total Office Properties and for
Dallas, Houston and Austin, Texas, Denver, Colorado, and Miami, Florida,
individually, for each of the 10 years beginning with 2004.

TOTAL OFFICE PROPERTIES(1)
---------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- --------- ---------- ---------- ------------- ------------ ----------- ---------

2004 4,932,196(4) (2,337,470) 2,594,726(4)(5) 10.7% $ 56,538,613 10.2% $ 21.79 434
2005 3,023,386 (203,989) 2,819,397(6) 11.6 63,269,246 11.5 22.44 290
2006 2,339,705 6,084 2,345,789 9.6 56,239,858 10.2 23.97 255
2007 2,809,148 223,631 3,032,779 12.5 68,106,358 12.3 22.46 214
2008 1,866,055 (24,961) 1,841,094 7.6 39,904,305 7.2 21.67 200
2009 1,410,503 444,977 1,855,480 7.6 43,167,781 7.8 23.27 111
2010 1,743,833 221,352 1,965,185 8.1 48,544,703 8.8 24.70 65
2011 1,099,717 14,851 1,114,568 4.6 26,169,983 4.7 23.48 42
2012 826,187 - 826,187 3.4 21,213,667 3.8 25.68 25
2013 1,483,138 (51,313) 1,431,825 5.9 31,767,912 5.8 22.19 38
2014 and
thereafter 2,791,107 1,706,838 4,497,945 18.4 97,189,764 17.7 21.61 48
---------- --------- ----------- ---------- ------------- ---------- -------- ---------
24,324,975 - 24,324,975(7) 100.0% $ 552,112,190 100.0% $ 22.70 1,722
========== ========= =========== ========== ============= ========== ======== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewal term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent and scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 3,060,023 square feet (including
renewals of 2,337,470 square feet and new leases of 722,553 square feet)
have been signed and will commence during 2004. These signed leases
represent approximately 62% of gross square footage expiring during 2004.

(5) Expirations by quarter are as follows: Q1: 872,095 square feet Q2: 537,587
square feet Q3: 668,753 square feet Q4: 516,291 square feet.

(6) Expirations by quarter are as follows: Q1: 632,422 square feet Q2: 732,267
square feet Q3: 925,124 square feet Q4: 529,584 square feet.

(7) Reconciliation of Occupied Square Feet to Net Rentable Area:

SQUARE
FEET
------

Occupied Square Footage, per above 24,324,975
Add: Occupied but Non-Revenue Generating Square Footage 256,142
Add: Vacant Square Footage 4,691,431
----------
Total Stabilized Office Portfolio Net Rentable Area 29,272,548
==========

18

DALLAS OFFICE PROPERTIES(1)
---------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- -------- ---------- ---------- ------------ ------------ ---------- ---------

2004 1,364,220(4) (747,740) 616,480(4)(5) 7.7% $ 14,990,769 8.1% $ 24.32 116
2005 1,245,025 (218,962) 1,026,063(6) 12.8 22,370,762 12.1 21.80 92
2006 721,571 7,207 728,778 9.1 18,256,496 9.9 25.05 59
2007 1,220,425 127,622 1,348,047 16.8 31,640,431 17.1 23.47 63
2008 610,889 (71,619) 539,270 6.7 11,982,352 6.5 22.22 65
2009 506,063 89,891 595,954 7.4 15,077,745 8.2 25.30 23
2010 694,650 104,259 798,909 9.9 20,992,324 11.4 26.28 20
2011 299,082 14,851 313,933 3.9 7,660,297 4.1 24.40 10
2012 195,372 - 195,372 2.4 4,312,294 2.3 22.07 11
2013 294,309 21,897 316,206 3.9 7,418,864 4.0 23.46 11
2014 and
thereafter 878,878 672,594 1,551,472 19.4 30,238,653 16.3 19.49 15
--------- -------- --------- ---------- ----------- ---------- ---------- ---------
8,030,484 - 8,030,484 100.0% $184,940,987 100.0% $ 23.03 485
========= ======== ========= ========== ============ =========== ========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent and scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 868,696 square feet (including
renewals of 747,740 square feet and new leases of 120,956 square feet) have
been signed and will commence during 2004. These signed leases represent
approximately 64% of gross square footage expiring during the remainder of
2004.

(5) Expirations by quarter are as follows: Q1: 180,107 square feet Q2 : 71,832
square feet Q3: 209,529 square feet Q4: 155,012 square feet.

(6) Expirations by quarter are as follows: Q1: 184,838 square feet Q2: 138,900
square feet Q3: 555,590 square feet Q4: 146,735 square feet.

HOUSTON OFFICE PROPERTIES(1)
----------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- --------- --------- ---------- ------------ ------------ ----------- ---------

2004 2,029,730(4) (1,102,168) 927,562(4)(5) 9.6% $ 17,635,186 8.3% $ 19.01 183
2005 626,461 11,265 637,726(6) 6.6 13,816,589 6.4 21.67 105
2006 963,875 (7,146) 956,729 9.9 20,876,916 9.9 21.82 94
2007 1,045,407 112,584 1,157,991 11.9 24,108,643 11.3 20.82 77
2008 808,121 1,847 809,968 8.4 16,032,206 7.6 19.79 67
2009 373,736 278,029 651,765 6.7 13,894,638 6.6 21.32 38
2010 684,713 100,377 785,090 8.1 17,578,412 8.3 22.39 23
2011 581,854 - 581,854 6.0 12,772,528 6.0 21.95 15
2012 458,760 - 458,760 4.7 12,492,421 5.9 27.23 9
2013 458,174 - 458,174 4.7 11,586,741 5.5 25.29 10
2014 and
thereafter 1,661,593 605,212 2,266,805 23.4 50,903,696 24.2 22.46 15
--------- -------- --------- ---------- ------------ ---------- ----------- ---------
9,692,424 - 9,692,424 100.0% $211,697,976 100.0% $ 21.84 636
========= ======== ========= ========== ============ ========== =========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent or scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 1,498,485 square feet (including
renewals of 1,102,168 square feet and new leases of 396,317 square feet)
have been signed and will commence during 2004. These signed leases
represent approximately 74% of gross square footage expiring during the
remainder of 2004.

(5) Expirations by quarter are as follows: Q1: 379,277 square feet Q2: 227,142
square feet Q3: 140,531 square feet Q4: 180,612 square feet.

(6) Expirations by quarter are as follows: Q1: 176,171 square feet Q2: 142,240
square feet Q3: 184,778 square feet Q4: 134,537 square feet.

19

AUSTIN OFFICE PROPERTIES(1)
---------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- -------- --------- ---------- ------------ ---------- ----------- ---------

2004 407,412(4) (12,896) 394,516(4)(5) 25.6% $ 9,060,824 24.5% $ 22.97 39
2005 507,058 (3,820) 503,238(6) 32.6 11,779,019 31.9 23.41 21
2006 201,848 (21,627) 180,221 11.7 5,137,382 13.9 28.51 17
2007 78,935 - 78,935 5.1 1,908,538 5.2 24.18 10
2008 160,069 21,627 181,696 11.8 4,581,926 12.4 25.22 18
2009 84,818 - 84,818 5.5 1,827,830 5.0 21.55 8
2010 42,800 16,716 59,516 3.9 1,155,165 3.1 19.41 9
2011 5,896 - 5,896 0.4 115,838 0.3 19.65 2
2012 - - - - - - - 0
2013 21,887 - 21,887 1.4 607,780 1.6 27.77 2
2014 and
thereafter 33,315 - 33,315 2.0 777,499 2.1 23.34 1
--------- -------- --------- ---------- ------------ ---------- ----------- ---------
1,544,038 - 1,544,038 100.0% $ 36,951,801 100.0% $ 23.93 127
========= ======== ========= ========== ============ ========== =========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent or scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 33,854 square feet (including
renewals of 12,896 square feet and new leases of 20,958 square feet) have
been signed and will commence during 2004. These signed leases represent
approximately 8% of gross square footage expiring during the remainder of
2004.

(5) Expirations by quarter are as follows: Q1: 104,525 square feet Q2: 22,931
square feet Q3: 249,986 square feet Q4: 17,074 square feet.

(6) Expirations by quarter are as follows: Q1: 92,036 square feet Q2: 349,844
square feet Q3: 31,140 square feet Q4: 30,218 square feet.

DENVER OFFICE PROPERTIES(1)
---------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- --------- --------- ---------- ------------ ------------ ----------- ---------

2004 515,382(4) (226,871) 288,511(4)(5) 16.0% $ 6,098,326 15.3% $ 21.14 30
2005 320,476 - 320,476(6) 17.8 7,025,177 17.6 21.92 20
2006 109,314 (2,036) 107,278 6.0 2,667,820 6.7 24.87 20
2007 163,867 4,342 168,209 9.3 3,726,293 9.4 22.15 23
2008 113,599 2,036 115,635 6.4 2,339,573 5.9 20.23 19
2009 199,270 39,488 238,758 13.3 5,330,455 13.4 22.33 17
2010 113,032 - 113,032 6.3 2,937,671 7.4 25.99 5
2011 42,568 - 42,568 2.4 809,568 2.0 19.02 4
2012 75,753 - 75,753 4.2 1,861,533 4.7 24.57 1
2013 146,510 (73,210) 73,300 4.1 1,433,382 3.6 19.56 5
2014 and
thereafter - 256,251 256,251 14.2 5,585,613 14.0 21.80 6
--------- -------- --------- ---------- ------------ ---------- ----------- ---------
1,799,771 - 1,799,771 100.0% $ 39,815,411 100.0% $ 22.12 150
========= ======== ========= ========== ============ ========== =========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewal), giving effect to free rent or scheduled rent
increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 311,164 square feet (including
renewals of 226,871 square feet and new leases of 84,293 square feet) have
been signed and will commence during 2004. These signed leases represent
approximately 60% of gross square footage expiring during the remainder of
2004.

(5) Expirations by quarter are as follows: Q1: 140,412 square feet Q2: 119,499
square feet Q3: 14,238 square feet Q4: 14,362 square feet.

(6) Expirations by quarter are as follows: Q1: 122,740 square feet Q2: 28,390
square feet Q3: 13,956 square feet Q4: 155,390 square feet.

20

MIAMI OFFICE PROPERTIES(1)
-----------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- -------- --------- ---------- ------------ ---------- ----------- ---------

2004 220,704(4) (76,055) 144,649(4)(5) 12.4% $ 3,632,700 10.6% $ 25.11 32
2005 187,156 (42,969) 144,187(6) 12.4 4,254,659 12.4 29.51 34
2006 127,105 33,083 160,188 13.8 4,661,776 13.6 29.10 36
2007 91,322 (22,277) 69,045 5.9 1,863,388 5.5 26.99 17
2008 62,260 17,751 80,011 6.9 2,422,255 7.1 30.27 14
2009 134,859 30,511 165,370 14.2 4,421,803 12.9 26.74 9
2010 147,954 - 147,954 12.7 4,613,804 13.5 31.18 5
2011 100,381 - 100,381 8.6 3,499,207 10.2 34.86 5
2012 32,359 - 32,359 2.8 1,190,499 3.5 36.79 2
2013 21,765 - 21,765 1.9 747,450 2.2 34.34 2
2014 and
thereafter 37,059 59,956 97,015 8.4 2,886,874 8.5 29.76 5
--------- -------- --------- ---------- ------------ ---------- ----------- ---------
1,162,924 - 1,162,924 100.0% $ 34,194,415 100.0% $ 29.40 161
========= ======== ========= ========== ============ ========== =========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent or scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 84,507 square feet (including
renewals of 76,055 square feet and new leases of 8,452 square feet) have
been signed and will commence during 2004. These signed leases represent
approximately 38% of gross square footage expiring during the remainder of
2004.

(5) Expirations by quarter are as follows: Q1: 27,554 square feet Q2: 50,192
square feet Q3: 30,484 square feet Q4: 36,419 square feet.

(6) Expirations by quarter are as follows: Q1: 25,450 square feet Q2: 20,635
square feet Q3 61,644 square feet Q4: 36,458 square feet.

OTHER OFFICE PROPERTIES(1)
---------------------------
ANNUAL
FULL-
SERVICE
RENT
SQUARE SQUARE PER
FOOTAGE FOOTAGE SQUARE
OF SIGNED OF ANNUAL PERCENTAGE FOOT OF NUMBER OF
EXPIRING RENEWALS EXPIRING PERCENTAGE FULL-SERVICE OF ANNUAL NET TENANTS
YEAR OF LEASES OF LEASES OF SQUARE RENT UNDER FULL-SERVICE RENTABLE WITH
LEASE (BEFORE EXPIRING (AFTER FOOTAGE EXPIRING RENT AREA EXPIRING
EXPIRATION RENEWALS) LEASES(2) RENEWALS) EXPIRING LEASES(3) EXPIRING EXPIRING(3) LEASES
- ---------- --------- -------- --------- ---------- ------------ ---------- ----------- ---------

2004 394,748(4) (171,740) 223,008(4)(5) 10.6% $ 5,120,808 11.5% $ 22.96 34
2005 137,210 50,497 187,707(6) 9.0 4,023,040 9.0 21.43 18
2006 215,992 (3,397) 212,595 10.2 4,639,468 10.4 21.82 29
2007 209,192 1,360 210,552 10.1 4,859,065 10.9 23.08 24
2008 111,117 3,397 114,514 5.5 2,545,993 5.7 22.23 17
2009 111,757 7,058 118,815 5.7 2,615,310 5.9 22.01 16
2010 60,684 - 60,684 2.9 1,267,327 2.9 20.88 3
2011 69,936 - 69,936 3.3 1,312,545 3.0 18.77 6
2012 63,943 - 63,943 3.1 1,356,920 3.1 21.22 2
2013 540,493 - 540,493 25.8 9,973,695 22.4 18.45 8
2014 and
thereafter 180,262 112,825 293,087 13.8 6,797,429 15.2 23.19 6
--------- -------- --------- ---------- ------------ ---------- ----------- ---------
2,095,334 - 2,095,334 100.0% $ 44,511,600 100.0% $ 21.24 163
========= ======== ========= ========== ============ ========== =========== =========

(1) Lease expiration data is presented at 100% without giving effect to the
Company's actual ownership percentage in joint ventured properties and
excludes non-stabilized Office Properties. Includes Ft. Worth, Colorado
Springs, Phoenix, Albuquerque, San Diego, and Las Vegas.

(2) Signed renewals extend the expiration dates of in-place leases to the end
of the renewed term.

(3) Calculated based on base rent payable under leases for net rentable square
feet expiring (after renewals), giving effect to free rent or scheduled
rent increases taken into account under GAAP and including adjustments for
expenses payable by or reimbursable from customers based on current expense
levels.

(4) As of December 31, 2003, leases totaling 263,317 square feet (including
renewals of 171,740 square feet and new leases of 91,577 square feet) have
been signed and will commence during 2004. These signed leases represent
approximately 67% of gross square footage expiring during 2004.

(5) Expirations by quarter are as follows: Q1: 40,220 square feet Q2: 45,991
square feet Q3: 23,985 square feet Q4: 112,812 square feet.

(6) Expirations by quarter are as follows: Q1: 31,187 square feet Q2: 52,258
square feet Q3: 78,016 square feet Q4: 26,246 square feet.

21

RESORT/HOTEL PROPERTIES(1)

The following table shows certain information for the years ended
December 31, 2003 and 2002, with respect to the Company's Resort/Hotel
Properties. The information for the Resort/Hotel Properties is based on
available rooms, except for Canyon Ranch-Tucson and Canyon Ranch-Lenox, which
measure their performance based on available guest nights.

- -------------
(1) Resort/Hotel Property Table is presented at 100% without any adjustment
to give effect to the Company's actual ownership in Resort/Hotel
Properties.

(2) The Omni Austin Hotel is leased to HCD Austin Corporation.

(3) The Company has an 80.1% member interest in the limited liability
company that owns Fairmont Sonoma Mission Inn & Spa.

(4) Represents available guest nights, which is the maximum number of
guests the resort can accommodate per night.

22

RESIDENTIAL DEVELOPMENT PROPERTIES

The following table shows certain information as of December 31,
2003, relating to the Residential Development Properties.

- ---------------
(1) As of December 31, 2003, the Company had a 100% ownership interest in
Desert Mountain Development Corporation and Crescent Resort Development
Inc. and a 98% ownership interest in Mira Vista Development Corp. and
Houston Area Development Corp.

(2) SF (Single-Family Lots); CO (Condominium); TH (Townhome); and TS
(Timeshare Equivalent Units).

(3) Based on lots/units closed during the Company's ownership period.

(4) Based on existing inventory of developed lots/units and lots/units to
be developed.

(5) Includes golf membership, which as of December 31, 2003 is $0.2
million.

(6) Residential Development Corporation's ownership percentage represents
the profit percentage allocation after the Company receives a 12-13%
preferred return on its invested capital.

(7) This project is in the early stages of development, and this
information is not available as of December 31, 2003.

23

TEMPERATURE-CONTROLLED LOGISTICS PROPERTIES

The following table shows the number and aggregate size of
Temperature-Controlled Logistics Properties by state as of December 31, 2003:

- -------------------
(1) As of December 31, 2003, the Company held a 40% interest in the
Temperature-Controlled Logistics Partnership, which owns all of the
common stock, representing substantially all of the economic interest,
of the Temperature-Controlled Logistics Corporation, which directly or
indirectly owns the 87 Temperature-Controlled Logistics Properties. The
business operations associated with the Temperature-Controlled
Logistics Properties are owned by AmeriCold Logistics, in which the
Company has no interest. The Temperature-Controlled Logistics
Corporation is entitled to receive lease payments from AmeriCold
Logistics.

(2) As of December 31, 2003, AmeriCold Logistics operated 102
temperature-controlled logistics properties with an aggregate of
approximately 545.5 million cubic feet (20.8 million square feet) of
warehouse space.

ITEM 3. LEGAL PROCEEDINGS

The Company is not currently subject to any material legal proceeding
nor, to its knowledge, is any material legal proceeding contemplated against it.

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

No matter was submitted to a vote of security holders during the fourth
quarter of the Company's fiscal year ended December 31, 2003.

24

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS

The Company's common shares have been traded on the New York Stock
Exchange under the symbol "CEI" since the completion of its initial public
offering in May 1994. For each calendar quarter indicated, the following table
reflects the high and low sales prices during the quarter for the common shares
and the distributions declared by the Company with respect to each quarter.

As of March 3, 2004, there were approximately 888 holders of record of
the Company's common shares.

DISTRIBUTION POLICY

The actual results of operations of the Company and the amounts
actually available for distribution will be affected by a number of factors,
including:

o the general condition of the United States economy;

o general leasing activity in the markets in which the Office
Properties are located;

o the ability of tenants to meet their rent obligations;

o the operating and interest expenses of the Company;

o consumer preferences relating to the Resort/Hotel Properties
and the Residential Development Properties;

o cash flows from unconsolidated entities;

o capital expenditure requirements;

o federal, state and local taxes payable by the Company; and

o the adequacy of cash reserves.

Future distributions by the Company will be at the discretion of the
Board of Trust Managers. The Board of Trust Managers has indicated that it will
review the adequacy of the Company's distribution rate on a quarterly basis.

Under the Code, REITs are subject to numerous organizational and
operational requirements, including the requirement to distribute at least 90%
of REIT taxable income each year. Pursuant to this requirement, the Company was
required to distribute $48.0 million and $52.6 million for 2003 and 2002,
respectively. Actual distributions by the Company to common and preferred
shareholders were $174.6 million and $176.6 million for 2003 and 2002,
respectively.

Distributions by the Company to the extent of its current and
accumulated earnings and profits for federal income tax purposes generally will
be taxable to a shareholder as ordinary dividend income. Distributions in excess
of current and accumulated earnings and profits will be treated as a nontaxable
reduction of the shareholder's basis in such shareholder's shares, to the extent
thereof, and thereafter as taxable gain. Distributions that are treated as a
reduction of the shareholder's basis in its shares will have the effect of
deferring taxation until the sale of the

25

shareholder's shares. No assurances can be given regarding what portion, if any,
of distributions in 2004 or subsequent years will constitute a return of capital
for federal income tax purposes.

Following is the income tax status of distributions paid during the
years ended December 31, 2003 and 2002 to common shareholders:

During 2002, many of the Company's significant capital transactions
resulted in net capital gain income for income tax purposes. The Company
distributed to its shareholders the net capital gain income as a capital gain
dividend.

Distributions on the 14,200,000 Series A Convertible Cumulative
Preferred Shares issued by the Company in February 1998, April 2002, and January
2004 are payable at the rate of $1.6875 per annum per Series A Convertible
Cumulative Preferred Share, prior to distributions on the common shares.

Distributions on the 3,400,000 Series B Cumulative Redeemable Preferred
Shares issued by the Company in May and June 2002 are payable at the rate of
$2.3750 per annum per Series B Cumulative Redeemable Preferred Share, prior to
distributions on the common shares.

Following is the income tax status of distributions paid during the
years ended December 31, 2003 and 2002 to preferred shareholders:

26

ITEM 6. SELECTED FINANCIAL DATA

The following table includes certain financial information for the
Company on a consolidated historical basis. You should read this section in
conjunction with Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and Item 8, "Financial Statements and
Supplementary Data."

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED HISTORICAL FINANCIAL DATA
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)

- -----------------

(1) Funds from Operations ("FFO"), as used in this document, is based on
the definition adopted by the Board of Governors of the National
Association of Real Estate Investment Trusts and means net income
(loss) (determined in accordance with GAAP), excluding gains (losses)
from sales of depreciable operating property, excluding extraordinary
items (as defined by GAAP), plus depreciation and amortization of real
estate assets, and after adjustments for unconsolidated partnerships
and joint ventures. The Company calculates FFO available to common
shareholders in the same manner, except that net income (loss) is
replaced with net income (loss) available to common shareholders. FFO
is a non-GAAP measure and should not be considered an alternative to
net income determined in accordance with GAAP as an indication of the
Company's operating performance. For a more detailed definition and
description of FFO and a reconciliation to net income determined in
accordance with GAAP, see "Funds from Operations Available to Common
Shareholders" included in Item 7, "Management's Discussion and Analysis
of Financial Condition and Results of Operations."

27

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

INDEX TO MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

28

FORWARD-LOOKING STATEMENTS

You should read this section in conjunction with the selected financial
data and the consolidated financial statements and the accompanying notes in
Item 6, "Selected Financial Data," and Item 8, "Financial Statements and
Supplementary Data," respectively, of this report. Historical results and
percentage relationships set forth in these Items and this section should not be
taken as indicative of future operations of the Company. Capitalized terms used
but not otherwise defined in this section have the meanings given to them in
Items 1 - 6 of this Form 10-K.

This Form 10-K contains forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. These statements are generally
characterized by terms such as "believe," "expect" and "may."

Although the Company believes that the expectations reflected in such
forward-looking statements are based upon reasonable assumptions, the Company's
actual results could differ materially from those described in the
forward-looking statements.

The following factors might cause such a difference:

o The Company's ability, at its Office Properties, to timely lease
unoccupied square footage and timely re-lease occupied square footage
upon expiration on favorable terms, which may continue to be adversely
affected by existing real estate conditions (including vacancy rates in
particular markets, decreased rental rates, and competition from other
properties) or by general economic downturns;

o Adverse changes in the financial condition of existing tenants;

o Further deterioration in the resort/business-class hotel markets or in
the market for residential land or luxury residences, including
single-family homes, townhomes and condominiums, or in the economy
generally;

o Financing risks, such as the Company's ability to generate revenue
sufficient to service and repay existing or additional debt, increases
in debt service associated with increased debt and with variable rate
debt, the Company's ability to meet financial and other covenants and
the Company's ability to consummate financings and refinancings on
favorable terms and within any applicable time frames;

o The ability of the Company to reinvest available funds at anticipated
returns and within anticipated time frames and the ability of the
Company to consummate anticipated office acquisitions and investment
land and other dispositions on favorable terms and within anticipated
time frames;

o Further or continued adverse conditions in the temperature-controlled
logistics business (including both industry-specific conditions and a
general downturn in the economy) which may further jeopardize the
ability of the tenant to pay all current and deferred rent due;

o The inability of the Company to complete the distribution to its
shareholders of the shares of a new entity to purchase the AmeriCold
tenant interest from COPI;

o The concentration of a significant percentage of the Company's assets
in Texas;

o The existence of complex regulations relating to the Company's status
as a REIT, the effect of future changes in REIT requirements as a
result of new legislation and the adverse consequences of the failure
to qualify as a REIT; and

o Other risks detailed in the Company's current report on Form 8-K dated
March 10, 2004 and filed with the Securities and Exchange Commission
("SEC") on or about March 15, 2004, and from time to time in the
Company's other filings with the SEC.

Given these uncertainties, readers are cautioned not to place undue
reliance on such statements. The Company is not obligated to update these
forward-looking statements to reflect any future events or circumstances.

29

RESULTS OF OPERATIONS

The following table shows the Company's variance in dollars between the
years ended December 31, 2003 and 2002 and the years ended December 31, 2002 and
2001.

30

OVERVIEW

The Company is a REIT with assets and operations divided into four
investment segments: Office, Resort/Hotel, Residential Development and
Temperature-Controlled Logistics. The primary business of the Company is its
Office Segment, which consisted of 72 Office Properties as of December 31, 2003.
The Office Properties are located primarily in Dallas and Houston, with
additional concentrations in Austin, Denver, Miami and Las Vegas. The
Resort/Hotel Segment consisted of nine Resort/Hotel Properties as of December
31, 2003, including five luxury and destination fitness resorts and spas and
four business-class hotels. The Residential Development Segment, as of December
31, 2003, consisted of four Residential Development Corporations Temperature
that owned in whole or in part 23 Residential Development Properties. The
Temperature-Controlled Logistics Segment, as of December 31, 2003, consisted of
the Company's unconsolidated 40% interest in 87 Temperature-Controlled Logistics
Properties.

OFFICE SEGMENT

The following table shows the performance factors used by management to
assess the operating performance of the Office Segment.

- ------------

(1) Average lease term for 2003 and 2002 were 7.8 years and 6.5 years,
respectively.

(2) Same-store NOI (net operating income) represents office property net
income excluding depreciation, amortization, interest expense, and
non-recurring items such as lease termination fees for Office
Properties owned for the entirety of the comparable periods.

In 2003, the weak economy continued to negatively impact the operating
performance of the Company's Office Properties. Reduced demand for office space
resulting from unemployment levels over the last two year periods has led to a
continued decrease in occupancy and rental rates. In addition, the Company
experienced escalating tenant improvement and leasing costs granted in
connection with leases executed in 2003 due to the competitive leasing
environment. The Company expects that 2004 will be a year of stabilization
rather than meaningful growth, with projected average and year end occupancy
remaining relatively flat compared to 2003. Tenant improvement and leasing costs
in 2004 are expected to be in line with 2003. Same-store NOI is expected to
decline by 3% to 6% in 2004, which is a lower rate of decline than that
experienced in 2003.

RESORT/HOTEL SEGMENT

The following table shows the performance factors used by management to
assess the operating performance of the Resort/Hotel Segment.

31

The operating performance of the Resort/Hotel Segment was flat in 2003
compared to 2002 as the travel industry stabilized following the decline in
2002. The Company anticipates modest increases in occupancy and room rates in
2004 as the economy and the travel industry continue to recover.

RESIDENTIAL DEVELOPMENT SEGMENT

The following tables show the performance factors used by management to
assess the operating performance of the Residential Development Segment.
Information is provided for the Desert Mountain Residential Development Property
and the CRDI Residential Development Properties, which represent the Company's
significant investments in this Segment as of December 31, 2003.

Desert Mountain

(1) Includes equity golf membership

Desert Mountain's operations were affected by the slower economy which
continued into 2003, contributing to reduced lot absorption and average sales
prices. Desert Mountain is in the latter stages of development and has primarily
its premier lots remaining in inventory. A slight decline in lot sales, combined
with higher average sales prices in 2004 compared to 2003, is expected to result
in increased results in 2004.

CRDI

CRDI, which invests primarily in mountain resort residential real
estate in Colorado and California and residential real estate in downtown
Denver, Colorado, is highly dependent upon the national economy and customer
demand. In 2003, CRDI experienced reduced lot and unit absorption which resulted
from the product mix available during the year, offset by increases in average
sales prices in lots and units over 2002. In 2004, management expects that CRDI
will be primarily affected by product mix available at its Residential
Development Properties as product inventory is created in 2004 for delivery in
2005.

SIGNIFICANT TRANSACTIONS

During the fourth quarter of 2003 and into the first quarter of 2004,
the Company completed the following significant transactions:

o Disposition of the Company's interests in The Woodlands Land
Development Company, L.P., through which the Company owned its interest
in The Woodlands Residential Development Property, in Woodlands Office
Equities - '95 Limited Partnership, through which the Company owned
four office properties, in The Woodlands Commercial Properties, L.P.,
and in The Woodlands Operating Company, L.P. in December 2003;

o Acquisition of seven Office Properties and nine retail parcels located
in Hughes Center in Las Vegas, Nevada in December 2003 and January
2004;

32

o Sale of an additional 3,400,000 of the Company's Series A Convertible
Cumulative Preferred Shares at $21.98 per share, resulting in proceeds
to the Company, net of placement fees and dividends payable, of
approximately $71.0 million in January 2004; and

o Completion of a $254.4 million mortgage financing by the
Temperature-Controlled Logistics Corporation and the resulting cash
distribution of approximately $90.0 million to the Company in February
2004.

These transactions generated net cash proceeds to the Company in excess
of $200 million. The Company expects to reinvest these cash proceeds primarily
in long term investments in the second and third quarters of 2004. Additionally,
the Company expects to continue to market for sale its remaining non-income
producing land valued in excess of $100 million.

COMPARISON OF THE YEAR ENDED DECEMBER 31, 2003, TO THE YEAR ENDED DECEMBER 31,
2002

The following comparison of the results of operations for the year
ended December 31, 2003, and for the year ended December 31, 2002, reflects the
consolidation of eight of the Resort/Hotel Properties and three of the
Residential Development Properties commencing on February 14, 2002, as a result
of the COPI transaction. Prior to February 14, 2002, the results of operations
of the Resort/Hotel Properties were reflected in the Company's consolidated
financial statements as lease payments and as equity in net income for the
Residential Development Properties. Because the results of operations of these
Properties are consolidated for the full period in 2003, as compared to a
partial period in 2002, the Company's financial statements do not provide a
direct comparison of the results of operations of the Resort/Hotel Properties or
the Residential Development Properties for the full periods in 2003 and 2002.
Additional information on the results of operations of the Resort/Hotel
Properties and the Residential Development Properties for the full periods in
both 2003 and 2002 is provided below under the captions "Resort/Hotel
Properties" and "Residential Development Properties."

PROPERTY REVENUES

Total property revenues decreased $53.2 million, or 5.3%, to $949.2
million for the year ended December 31, 2003, as compared to $1,002.4 million
for the year ended December 31, 2002. The components of the decrease in total
revenues are discussed below.

o Office Property revenues decreased $43.3 million, or 8.0%, to
$495.5 million, primarily due to:

o a decrease of $29.8 million from the 57 consolidated
Office Properties (excluding 2002 and 2003
acquisitions and properties held for sale) that the
Company owned or had an interest in, primarily due a
4.9 percentage point decline in occupancy (from 89.2%
to 84.3%) resulting in decreases in both rental
revenue and operating expense recoveries and
decreases in net parking revenues;

o a decrease of $23.6 million resulting from the
contribution of two Office Properties to joint
ventures in third quarter 2002;

o a decrease of $5.0 million related to net insurance
proceeds received in 2002 as a result of an insurance
claim on one of the Company's Office Properties that
had been damaged as a result of a tornado;

o a decrease of $1.1 million in development revenue
from the construction of 5 Houston Center in 2002;
partially offset by

o an increase of $11.5 million from the acquisition of
Johns Manville Plaza in August 2002, and The
Colonnade in August 2003;

o an increase of $3.7 million resulting from third
party management services and related direct expense
reimbursements; and

o an increase of $1.3 million resulting from deferred
rent recognition for a tenant in 2003.

o Resort/Hotel Property revenues increased $22.5 million, or
11.1%, to $225.6 million, primarily due to the consolidation
of the operations of eight of the Resort/Hotel Properties for
the full period in 2003 as compared to a partial period in
2002 as a result of the COPI transaction (prior to February
14, 2002, the Company recognized lease payments related to
these Properties).

o Residential Development Property revenues decreased $32.4
million, or 12.4%, to $228.2 million, primarily due to a
reduction in lot and unit sales at Desert Mountain and CRDI.

33

PROPERTY EXPENSES

Total property expenses decreased by $15.0 million, or 2.4%, to $620.3
million for the year ended December 31, 2003, as compared to $635.3 million for
the year ended December 31, 2002. The components of the decrease in expenses are
discussed below.

o Office Property expenses decreased $3.1 million, or 1.3%, to
$235.4 million, primarily due to:

o a decrease of $10.9 million resulting from the
contribution of two Office Properties to joint
ventures in 2002;

o a decrease of $1.6 million related to consulting fees
incurred in 2002 on the 5 Houston Center Office
Property development and a reduction in nonrecurring
legal fees for the Office Segment; and

o a decrease of $0.7 million in operating expenses from
the 57 consolidated Office Properties (excluding 2002
and 2003 acquisitions and properties held for sale)
that the Company owned or had an interest in, due to:

o $4.8 million decrease in property taxes and
other taxes and assessments;

o $2.9 million decrease in bad debt expense;

o $2.1 million decrease in building repairs
and maintenance;

o $1.2 million decrease in cleaning and
security expenses; partially offset by

o $10.5 million increase in utilities expense,
primarily attributable to a utility contract
for the Texas Office Properties entered into
in February 2003 in which the Company paid a
higher fixed contract price for actual
electricity consumed; partially offset by

o an increase of $4.3 million from the acquisition of
Johns Manville Plaza in August 2002 and The Colonnade
in August 2003; and

o an increase of $3.1 million related to the cost of
providing third party management services to joint
venture properties, which are recouped by increased
third party fee income and direct expense
reimbursements.

o Resort/Hotel Property expense increased $24.7 million, or
15.6%, to $182.7 million, primarily due to the consolidation
of the operations of eight of the Resort/Hotel Properties for
a full period in 2003, as compared to a partial period in
2002, as a result of the COPI transaction on February 14,
2002.

o Residential Development Property expense decreased $36.6
million, or 15.3%, to $202.2 million, primarily due to a
reduction in lot and unit sales and related costs at Desert
Mountain and CRDI.

OTHER INCOME/EXPENSES

Total other income and expenses decreased $15.4 million, or 5.7%, to
$257.0 million for the year ended December 31, 2003, as compared to $272.4
million the year ended December 31, 2002. The primary components of the decrease
in total other income and expenses are discussed below.

OTHER INCOME

Other income increased $22.5 million, or 21.0%, to $129.8 million for
the year ended December 31, 2003, as compared to $107.3 million for the year
ended December 31, 2002. The primary components of the increase in other income
are discussed below.

o Income from sale of investment in unconsolidated company, net
increased $86.2 million due to the income received from the
sale of the Company's interest in The Woodlands Land
Development Company, L.P. ("WLDC"), Woodlands CPC, and The
Woodlands Operating Company, L.P. in December 2003;

o Equity in net income of unconsolidated companies decreased
$28.8 million, or 53.7% to $24.8 million due to:

o a decrease of $29.4 million in Residential
Development Properties equity in net income,
primarily due to the consolidation of the operations
of Desert Mountain and CRDI for the full period in
2003, as compared to a partial period in 2002, as a
result of the COPI transaction on February 14, 2002;

34

o a decrease of $13.0 million in Office Properties
equity in net income, primarily due to the gain in
2002 from the sale of The Woodlands Mall partnership
interest in which the Company had a 52.5% economic
interest; partially offset by

o an increase of $5.9 million in Resort/Hotel
Properties equity in net income, primarily due to a
gain on the sale of the Ritz Carlton Hotel in
November 2003, and a payment received in 2003 from
the operator of the Resort/Hotel Property pursuant to
the terms of the operating agreement because the
Property did not achieve the specified net operating
income level in 2002;

o an increase of $5.1 million in Temperature-Controlled
Logistics Properties equity in net income due to the
loss on the sale of one facility in 2002 and the gain
on the sale of one facility in 2003, a decrease in
interest expense, an increase in rental income due to
improved operations, an increase in other income
related to interest earned on deferred rent balance
and reduced general and administrative expenses; and

o an increase of $2.6 million in other unconsolidated
companies primarily due to:

o the consolidation of DBL Holdings, Inc.
("DBL") on January 2, 2003, which incurred a
$5.2 million impairment in 2002 for Class
C-1 Notes issued by Juniper CBO 1000-1 Ltd.,
partially offset by earnings from G2
Opportunity Fund, L.P. ("G2") in 2002;

o $1.2 million of equity in earnings from G2
in 2003; partially offset by

o equity losses of $2.4 million in 2003
resulting from operations at the Woodlands
Conference Center and Country Club in 2003.

o Gain on joint venture of properties, net decreased $18.0
million, or 99.4%, due primarily to a net gain of $17.7
million on the joint venture of three properties in 2002.

o Income from investment land sales, net decreased $9.6 million,
or 42.5%, due to the $22.6 million net income on the sale of
three parcels of land, located in Texas and Arizona in 2002,
compared to $13.0 million net income on sale of three parcels
of land, located in Texas in 2003.

o Interest and other income decreased $7.3 million, or 56.2%, to
$5.7 million, primarily due to the payoff of two notes
receivable, a gain on the sale of marketable securities,
partially offset by legal settlement fees, all in 2002.

OTHER EXPENSES

Other expenses increased $7.1 million, or 1.9%, to $386.8 million for
the year ended December 31, 2003, as compared to $379.7 million the year ended
December 31, 2002. The primary components of the increase in other expenses are
discussed below.

o Depreciation expense increased $18.6 million, or 13.4%, to
$157.2 million in 2003, primarily due to:

o $12.3 million increase in Office Property
depreciation, due to:

o $15.9 million increase due to an increase in
building improvements, lease commissions and
other leasing costs;

o an increase of $2.4 million from Johns
Manville Office Property acquired in August
2002; partially offset by

o a decrease of $6.0 million associated with
the disposition of seven Office Properties
in 2002, contribution of two Office
Properties to joint ventures in 2002, and
disposition of five Office Properties in
2003; and

o $6.6 million increase in Residential Development
Property and Resort/Hotel Property.

o Corporate general and administrative expenses increased $6.9
million, or 26.1%, to $33.3 million, primarily due to
increased payroll and benefits, shareholder services,
consulting costs related to the Sarbanes-Oxley Act of 2002,
management information systems and insurance expenses.

o Interest expense decreased $6.9 million, or 3.9%, to $172.1
million, primarily due to a decrease of 0.69% in the weighted
average interest rate, partially offset by an increase of
$73.4 million in the weighted average debt balance.

o Other expenses decreased $6.8 million, or 59.6%, primarily due
to expenses incurred in 2002 of:

o $3.8 million due to legal expenses associated with
matters relating to the Office Segment;

35

o $1.9 million due to expense related to stock option
note term extensions; and

o $1.8 million due to write-off of costs associated
with acquisitions no longer being actively pursued.

o Impairment and other charges related to real estate assets
decreased $4.6 million, or 34.8%, to $8.6 million and is
attributable to:

o a decrease of $9.6 million due to the impairment of
the Canyon Ranch Las Vegas Spa in 2002;

o a decrease of $2.6 million due to the impairment of
the investment in Manalapan in 2002;

o a decrease of $1.0 million due to the impairment on a
parcel of undeveloped land located adjacent to the
Washington Harbour Office Property; partially offset
by

o an increase of $6.5 million due to the impairment
associated with the settlement of HBCLP, Inc.'s real
estate note obligation in 2003;

o an increase of $1.2 million due to the impairment of
the North Dallas Athletic Club in 2003; and

o an increase of $0.9 million due to the impairment of
an executive home in 2003 which the Company acquired
in June 2002 as part of the executive's relocation
agreement with the Company.

INCOME TAX PROVISION

The $30.7 million increase in the income tax provision to $26.3 million
for the year ended December 31, 2003, as compared to the income tax benefit of
$4.4 million for the year ended December 31, 2002, is primarily due to the $34.7
million tax expense related to the gain on the sale of the Company's interests
in WLDC and The Woodlands Operating Company, L.P.

DISCONTINUED OPERATIONS

Income from discontinued operations from assets sold and held for sale
decreased $32.0 million, or 164.9%, to a loss of $12.6 million for the year
ended December 31, 2003. The primary components of the decrease in income from
discontinued operations are discussed below:

o a decrease of $13.9 million, net of minority interest, due to
the impairment in 2003 on the 1800 West Loop South Office
Property;

o a decrease of $11.4 million, net of minority interest, due to
the reduction of net income associated with properties held
for sale in 2003 compared to 2002; and

o a decrease of $6.8 million, net of minority interest, due to
the impairment of two Office Properties and six behavioral
healthcare properties in 2003 compared to three behavioral
healthcare properties in 2002.

RESORT/HOTEL PROPERTIES

The following provides a comparison of the results of operations of the
Resort/Hotel Properties for the years ended December 31, 2003 and 2002.

The net operating income for the Resort/Hotel Properties decreased
$2.2 million, or 4.9%, to $42.9 million, primarily due to an increase of $1.7
million in Resort/Hotel Property expenses, primarily consisting of insurance and
workers' compensation expenses. Resort net operating income as a percentage of
revenue decreased one percentage point from 17% to 16%, and Business Class Hotel
net operating income as a percentage of revenue decreased one percentage point
from 23% to 22%.

36

RESIDENTIAL DEVELOPMENT PROPERTIES

The following provides a comparison of the results of operations of the
Residential Development Properties for the years ended December 31, 2003 and
2002.

Net income for the Residential Development Properties increased $38.0
million, or 92.7%, to $79.1 million, primarily due to:

o an increase of $54.1 million due to the income from sale, net
of taxes, of WLDC;

o an increase of $2.7 million due to a decrease in general and
administrative expenses and increase in club operations income
at Desert Mountain, CRDI and The Woodlands; partially offset
by

o a decrease of approximately $11.6 million due to the sale of
fewer lots and product mix at Desert Mountain, and fewer acres
and product mix at The Woodlands in 2003;

o a decrease of approximately $6.0 million as a result of gains
recognized on the disposition of two properties at The
Woodlands in 2002; and

o a decrease of $0.7 million due to the impairment on a retail
site at CRDI in 2003.

CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE

Cumulative effect of a change in accounting principle increased $9.2
million due to the adoption of SFAS No. 142 on January 1, 2002. As a result of
the initial application of this Statement, the Company recognized a goodwill
impairment charge related to the Temperature-Controlled Logistics Properties of
approximately $9.2 million. This charge was reported as a change in accounting
principle for the year ended December 31, 2002.

37

COMPARISON OF THE YEAR ENDED DECEMBER 31, 2002 TO THE YEAR ENDED DECEMBER 31,
2001

PROPERTY REVENUES

Total property revenues increased $380.8 million, or 61.3%, to $1,002.4
million for the year ended December 31, 2002, as compared to $621.5 million for
the year ended December 31, 2001. The components of the increase in total
revenues are discussed below.

o Residential Development revenues increased $260.5 million due
to the consolidation of the operations of Desert Mountain and
CRDI for the period February 14, 2002 through December 31,
2002, as a result of the COPI transaction (previously the
Company recorded its share of earnings under the equity
method).

o Resort/Hotel Property revenues increased $157.4 million due to
the consolidation of the operations of eight of the
Resort/Hotel Properties for the period February 14, 2002
through December 31, 2002, as a result of the COPI transaction
(previously the Company recognized lease payments related to
these Properties).

o Office Property revenues decreased $37.1 million, or 6.4%, to
$538.8 million, attributable to:

o a decrease of $37.2 million resulting from the
disposition of five Office Properties in 2001 and the
contribution of two Office Properties to joint
ventures in each of 2002 and 2001;

o a decrease of $10.2 million from the 66 consolidated
Office Properties that the Company owned or had an
interest in, primarily due to a decline in the
weighted average full-service rental rates,
reflecting decreases in both rental revenue and
operating expense recoveries, decreased occupancy and
a decrease in net parking revenues;

o a decrease of $3.6 million related to non-recurring
revenue received in 2001; partially offset by

o an increase of $5.9 million from Johns Manville Plaza
Office Property acquired in August 2002 and the
Avallon IV Office Property completed in June 2001;

o a net increase of $7.6 million related to net
insurance proceeds of $5.0 million received in
September 2002 as a result of an insurance claim on
one of the Company's Office Properties that had been
damaged as a result of a tornado and third party fee
and reimbursement of costs related to providing third
party management services of $2.6 million; and

o an increase of $0.6 million in net lease termination
fees to $9.1 million in 2002 (fees are net of
deferred rent receivables write-off).

PROPERTY EXPENSES

Property expenses increased by $387.3 million, or 156.2%, to $635.3
million for the year ended December 31, 2002, as compared to $248.0 million for
the year ended December 31, 2001. The components of the increase in expenses are
discussed below.

o Residential Development Property expense increased $238.7
million due to the consolidation of the operations of Desert
Mountain and CRDI for the period February 14, 2002 through
December 31, 2002, as a result of the COPI transaction.

o Resort/Hotel Property expense increased $158.0 million due to
the consolidation of the operations of eight of the
Resort/Hotel Properties for the period February 14, 2002
through December 31, 2002, as a result of the COPI
transaction.

o Office Property expenses decreased $9.4 million, or 3.8%, to
$238.6 million, primarily attributable to:

o a decrease of $13.4 million due to the disposition of
five Office Properties in 2001, and the contribution
of two Office Properties to joint ventures in each of
2002 and 2001;

o a decrease of $12.3 million in Office Property
utility expense due to lower rates as a result of a
one-year energy contract effective beginning in first
quarter 2002 for certain Texas properties;

o a decrease of $1.8 million in property taxes for the
66 consolidated Office Properties that the Company
owned or had an interest in; partially offset by

o an increase of $17.5 million from the 66 consolidated
Office Properties that the Company owned or had an
interest in, due to:

38

o an increase of $7.9 million in
administrative costs, security, repairs and
maintenance;

o an increase of $4.7 million in insurance
costs;

o an increase of $3.3 million in expenses
related to development and third party
management/leasing fees; and

o an increase of $1.6 million due to the
acquisition of Johns Manville Plaza Office
Property in 2002.

OTHER INCOME /EXPENSES

Total other income and expense decreased $95.9 million, or 26.0%, to
$272.3 million for the year ended December 31, 2002, as compared to $368.2
million for the year ended December 31, 2001. The primary components of the
decrease in total other income and expenses are discussed below.

OTHER INCOME

Other income increased $10.7 million, or 11.1%, to $107.3 million for
the year ended December 31, 2002, as compared to $96.6 million the year ended
December 31, 2001. The components of the increase in other income are discussed
below.

o Income from investment land sales, net increased $22.4
million, to $22.6 million. The primary components of the
increase are:

o an increase of $16.2 million resulting from the gains
on the sale of approximately 10 acres of undeveloped
land located in Houston, Texas and Washington, D.C.
in 2002; and

o an increase of $5.4 million resulting from the gain
on the sale of Canyon Ranch-Tucson land in 2002.

o Gain on joint venture of properties, net increased $10.6
million, or 139.5%, to $18.2 million. The primary components
of the increase are:

o an increase of $21.6 million resulting from the gains
on the partial sales of two Office Properties
contributed to joint ventures in 2002; partially
offset by

o a decrease of $7.6 million resulting from the gains
on the partial sales of two Office Properties
contributed to joint ventures in 2001; and

o a decrease of $3.3 million resulting from the loss on
the partial sale of one Resort/Hotel Property
contributed to a joint venture in 2002.

o Equity in net income of unconsolidated companies increased
$2.3 million, or 4.5%, to $53.6 million primarily attributable
to:

o an increase of $17.3 million in Office Properties
equity in net income, primarily attributable to the
gain from the sale of the Woodlands Mall partnership
interest in which the Company had a 52.5% economic
interest; partially offset by

o a decrease of $9.6 million in other unconsolidated
companies due to a $5.2 million impairment for
DBL-Juniper notes in 2002, lower earnings of $2.6
million from Metropolitan Partners, L.L.C.
("Metropolitan") due to conversion of the Company's
preferred member interest into common stock of
Reckson Associates Realty Corporation ("Reckson") in
May 2001, and lower earnings for DBL and losses for
The Woodlands Operating Company, L.P., aggregating
$1.8 million; and

o a decrease of $4.1 million in Temperature-Controlled
Logistics Properties equity in net income, primarily
as a result of the Company's $2.7 million portion of
AmeriCold Logistics' deferral of rent payable and the
Company's $1.4 million portion of the loss on a sale
of a Temperature-Controlled Logistics Property.

o Interest and other income decreased $24.6 million, or 65.4%,
to $13.0 million, primarily attributable to:

o a net $11.4 million decrease in income and gains
resulting from sales of marketable securities
aggregating $11.9 million in 2001 versus $0.5 million
in 2002;

o a decrease of $6.5 million due to partial payment
received in 2001 from the former tenant of the
behavioral healthcare properties on a working capital
loan and interest that was previously expensed in
conjunction with the recapitalization of the tenant;

o a decrease of $8.6 million due to recognition in 2001
of interest income on COPI notes of $2.8 million, and
lower interest income on cash balances and note
receivable of $5.8 million due to repayment of
certain notes and reduced interest rates;

39

o a decrease in interest income of $1.9 million in 2002
related to lower escrow balances for plaza
renovations at an Office Property that were completed
in 2001; partially offset by

o an increase of $4.5 million due to a litigation
settlement received in 2002.

OTHER EXPENSES

Other expenses decreased $85.2 million, or 18.3%, to $379.7 million for
the year ended December 31, 2002, as compared to $464.9 million the year ended
December 31, 2001. The primary components of the decrease in other expenses are
discussed below.

o Impairment and other charges decreased $92.8 million due to
impairment charges related to COPI in 2001, consisting of the
$74.8 million reduction in net assets, primarily as a result
of the write-down of debt and rental obligations of COPI to
the estimated collateral value of assets to be received and
the estimated $18.0 million of COPI bankruptcy costs to be
funded by the Company.

o Impairment and other charges related to real estate assets
decreased $12.1 million, or 47.8%, to $13.2 million
attributable to:

o a decrease of $11.9 million due to the recognition in
2001 of an impairment charge related to the
conversion of the Company's preferred interest in
Metropolitan into common stock of Reckson;

o a decrease of $8.4 million due to the recognition in
2001 of an impairment charge related to the
behavioral healthcare properties;

o a decrease of $5.0 million due to the recognition in
2001 of an impairment charge related to the Company's
investment in a fund which primarily holds real
estate investments and marketable securities;
partially offset by

o an increase of $12.2 million resulting from the
impairment in 2002 of the Company's investment in
Canyon Ranch Las Vegas Spa of $9.6 million and
investment in Manalapan Partners, L.L.C. of $2.6
million; and

o an increase of $1.0 million resulting from the
impairment of a parcel of undeveloped land adjacent
to the Washington Harbour Office Property in 2002.

o Extinguishment of debt decreased $10.8 million, attributable
to the write-off of deferred financing costs related to the
early extinguishment of the UBS Facility in May 2001.

o Depreciation expense increased $20.6 million, or 17.5%, to
$138.6 million in 2002 due to the consolidation of the
operations of Desert Mountain and CRDI beginning February 14,
2002, as a result of the COPI transaction.

o Other expenses increased $11.4 million, primarily attributable
to:

o an increase of $3.8 million due to legal expenses of
$2.6 million associated with litigation in which the
Company received a settlement and of $1.2 million
associated with litigation on undeveloped land;

o an increase of $2.6 million due to the impairment of
long-term marketable securities;

o an increase of $1.9 million due to expense related to
stock option note term extensions;

o an increase of $1.8 million due to write-off of costs
associated with acquisitions no longer being actively
pursued; and

o an increase of $1.2 million accrual for a penalty
paid by the Company for non-construction of a
convention hotel in downtown Houston.

o Corporate general and administrative expenses increased $3.3
million, or 14.3%, to $26.4 million, primarily due to expenses
related to an officers' incentive compensation plan in 2002.

40

DISCONTINUED OPERATIONS

Income from discontinued operations from assets sold and held for sale
increased $10.1 million, or 108.6%, to $19.4 million for the year ended December
31, 2002. The primary components of the increase in income from discontinued
operations are discussed below:

o an increase of $8.9 million on dispositions attributable to
the gains, net of minority interest, on the sales of seven
Office Properties and two transportation companies in 2002;
and

o an increase of $5.1 million in net income for the Office
Properties sold or held for sale in 2002; partially offset by

o a decrease of $3.2 million due to an impairment charge in 2002
related to two of the seven behavioral healthcare properties
held for sale, which represents the difference between the
carrying value and the estimated sales price less costs of the
sale for these properties.

RESORT/HOTEL PROPERTIES

The following provides a comparison of the results of operations of the
Resort/Hotel Properties for the years ended December 31, 2002 and 2001.

The net operating income for the Resort/Hotel Properties decreased $0.6
million to $45.1 million. Same-store NOI decreased $7.1 million, primarily due
to a decrease in average daily rate of $7, to $238, while occupancy remained
flat at 70%. On October 1, 2001, the Company stopped recording rent under the
leases of the eight Resort/Hotel Properties leased to subsidiaries of COPI,
offsetting the decline experienced in 2002.

RESIDENTIAL DEVELOPMENT PROPERTIES

The following provides a comparison of the results of operations of the
Residential Development Properties for the years ended December 31, 2002 and
2001.

Net income for the Residential Development Properties remained flat,
primarily due to:

o an increase of $4.5 million due to lower cost of sales due to
product mix offset by lower lot sales at Desert Mountain;

o an increase of $2.4 million due to higher lot and unit sales
at CRDI;

41

o an increase of $0.6 million as a result of gains recognized on
the disposition of two properties in 2002, partially offset by
the disposition of two office properties and one retail
property in 2001 at The Woodlands;

o an increase of $0.4 million due to higher acreage sales
partially offset by lower lot sales at The Woodlands;
partially offset by

o a decrease of $8.0 million due to the change in presentation
of capitalized interest due to consolidation of Desert
Mountain and CRDI.

CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE

Cumulative effect of a change in accounting principle decreased $9.2
million due to the adoption of SFAS No. 142 on January 1, 2002. As a result of
the initial application of this Statement, the Company recognized a goodwill
impairment charge related to the Temperature-Controlled Logistics Properties of
approximately $9.2 million. This charge was reported as a change in accounting
principle for the year ended December 31, 2002.

LIQUIDITY AND CAPITAL RESOURCES

Cash and cash equivalents were $78.0 million and $78.4 million at
December 31, 2003 and 2002, respectively. This 0.5% decrease is attributable to
$124.1 million provided by operating activities, partially offset by $124.5
million used in investing and financing activities.

CASH FLOWS

OPERATING ACTIVITIES

The Company's cash provided by operating activities of $124.1 million
is attributable to Property operations.

INVESTING ACTIVITIES

The Company's cash used in investing activities of $32.6 million is
attributable to:

o $100.3 million increase in restricted cash, due
primarily to increased escrow for the purchase of the
remaining Hughes Center Office Properties;

o $77.3 million for revenue enhancing and non-revenue
enhancing tenant improvement and leasing costs for
Office Properties;

o $44.7 million for acquisition of Office Properties,
primarily attributable to the Hughes Center
acquisitions and the acquisition of the Colonnade;

o $42.6 million for development of amenities at the
Residential Development Properties;

o $31.6 million for property improvements for rental
properties, primarily attributable to non-recoverable
building improvements for the Office Properties and
replacement of furniture, fixtures and equipment for
the Resort/Hotel Properties;

o $18.6 million of additional investment in
unconsolidated companies, consisting primarily of
investments in the Office Properties;

42

o $9.6 million for investment in government obligations
in connection with the partial defeasance of a loan;
and

o $6.6 million for development of investment
properties.

The cash used in investing activities is partially offset by:

o $178.7 million of proceeds from sale of investments
in an unconsolidated company and related property
sales;

o $43.2 million of proceeds from property sales;

o $42.7 million from return of investment in
unconsolidated Resort/Hotel Properties, primarily
from the sale of the Ritz Carlton Palm Beach
Resort/Hotel Property, Residential Development
Properties and Office Properties;

o $22.5 million resulting from a decrease in notes
receivable, primarily due to payment on a short-term
seller financing note attributable to the sale of two
Office Properties in The Woodlands and collections on
developer financing notes at the Residential
Development Properties related to lot and unit sales
in 2002; and

o $11.6 million due to the net cash impact of the
consolidation of MVDC, HADC and GDW LLC.

FINANCING ACTIVITIES

The Company's cash used in financing activities of $91.9 million is
primarily attributable to:

o $245.5 million of payments under the Company's credit
facility;

o $175.5 million of distributions to common
shareholders and unitholders;

o $118.9 million of payments under other borrowings,
partially resulting from the payoff of the Cigna
Note;

o $85.4 million of Residential Development Property
note payments;

o $26.3 million of distributions to preferred
shareholders;

o $9.7 million of net capital distributions to joint
venture partners;

o $9.3 million of deferred financing costs; and

o $0.8 million for common shares purchased under a
compensation plan.

The use of cash in financing activities is partially offset by:

o $320.5 million of proceeds from borrowings under the
Company's credit facility, a portion of which were
used to pay off the Cigna Note and for acquisition of
Office Properties, investment in the Residential
Development Properties, tenant improvements,
leasehold commissions and property improvements for
the Office Segment;

o $178.0 million of proceeds from other borrowings,
primarily as a result of the new Cigna Note in May
2003 and the $75 million Fleet Term Loan in November
2003;

o $79.8 million of proceeds from borrowings for
construction costs for infrastructure development on
Residential Development Properties; and

o $1.2 million of net proceeds from the exercise of
options.

43

LIQUIDITY REQUIREMENTS

As of December 31, 2003, the Company had unfunded capital expenditures
of approximately $58.4 million relating to capital investments that are not in
the ordinary course of operations of the Company's business segments. The table
below specifies the Company's requirements for capital expenditures and its
amounts funded as of December 31, 2003, and amounts remaining to be funded
(future fundings classified between short-term and long-term capital
requirements):

(1) All amounts are approximate.

(2) Reflects the Company's estimate of the breakdown between short-term and
long-term capital expenditures.

(3) The capital expenditures reflect the Company's ownership percentage of
30% for Five Post Oak Park Office Property.

(4) Located within the Houston Center Office Property complex.

(5) Represents capital expenditures for infrastructure and amenities. The
Residential Development Segment excludes costs for projects in which
the Company anticipates sales to occur over the next 18 months.

(6) As of December 31, 2003, the Company had invested $30.4 million in
Tahoe Mountain Club, which includes the acquisition of land and
development of a golf course and retail amenities. The Company has
committed to invest an additional $17.1 million in 2004 for the
development of a swim and fitness facility, clubhouse, and completion
of the golf course.

(7) The Company has a $2.4 million construction loan with the purchaser of
the land, which will be secured by 9 developed lots and a $0.4 million
letter of credit. No advances had been made under the loan agreement as
of December 31, 2003, and $0.4 million was advanced in January 2004.

(8) This commitment is related to the Company's investment in a private
equity fund. The commitment is based on cash contributions and
distributions and does not consider equity gains or losses.

(9) The Company expects to form and capitalize Crescent Spinco, which will
be a separate entity to be owned by the Company's shareholders and
unitholders, and to cause the new entity to commit to acquire COPI's
entire membership interest in AmeriCold Logistics.

In addition, the Company has entered into a contract to acquire an
office property for approximately $54.8 million, consisting of $19.2
million in cash and a $35.6 million loan. The acquisition is
anticipated to close in the first quarter of 2004 and is subject to
customary closing conditions.

LIQUIDITY OUTLOOK

The Company expects to fund its short-term capital requirements of
approximately $53.9 million through a combination of, net cash flow from
operations, and borrowings under the Company's credit facility or additional
debt facilities. As of December 31, 2003, the Company had maturing debt
obligations of $350.4 million through December 31, 2004 (see "Debt Financing
Arrangements" in this Item 7 for additional information on debt maturities). The
Company plans to meet these maturing obligations through refinancing or electing
the extension option on the Deutsche Bank-CMBS loan, cash flow from operations
of the Residential Development Properties, and extending the maturity date of
the Fleet Term Note.

The Company expects to meet its other short-term liquidity
requirements, consisting of normal recurring operating expenses, principal and
interest payment requirements, non-revenue enhancing capital expenditures and
revenue enhancing capital expenditures (such as property improvements, tenant
improvements and leasing costs), distributions to shareholders and unitholders,
and unfunded expenses related to the COPI bankruptcy, primarily through cash
flow provided by operating activities. The Company expects to fund the remainder
of these short-term liquidity requirements with borrowings under the Company's
credit facility, return of capital from Residential

44

Development Properties, proceeds from the sale or joint venture of Properties,
and borrowings under additional debt facilities.

The Company's long-term liquidity requirements as of December 31, 2003,
consist primarily of debt maturities after December 31, 2004, which totaled
approximately $2.2 billion (see "Debt Financing Arrangements" in this Item 7 for
additional information on debt maturities). The Company also has $4.5 million of
long-term capital expenditure requirements. The Company expects to meet these
long-term liquidity requirements primarily through refinancing maturing debt
with long-term secured and unsecured debt and through other debt and equity
financing alternatives as well as cash proceeds received from the sale or joint
venture of Properties.

Debt and equity financing alternatives currently available to the
Company to satisfy its liquidity requirements and commitments for material
capital expenditures include:

o Additional proceeds from the Company's Credit Facility under
which the Company had up to $132.6 million of borrowing
capacity available as of December 31, 2003 and $259.6 million
at February 29, 2004;

o Additional proceeds from the refinancing of existing secured
and unsecured debt;

o Additional debt secured by existing underleveraged properties;

o Issuance of additional unsecured debt; and

o Equity offerings including preferred and/or convertible
securities.

The following factors could limit the Company's ability to utilize
these financing alternatives:

o The reduction in the operating results of the Properties
supporting the Company's Credit Facility to a level that would
reduce the availability under the Credit Facility;

o A reduction in the operating results of the Properties could
limit the Company's ability to refinance existing secured and
unsecured debt, or extend maturity dates;

o The Company may be unable to obtain debt or equity financing
on favorable terms, or at all, as a result of the financial
condition of the Company or market conditions at the time the
Company seeks additional financing;

o Restrictions under the Company's debt instruments or
outstanding equity may prohibit it from incurring debt or
issuing equity on terms available under then-prevailing market
conditions or at all; and

o The Company may be unable to service additional or replacement
debt due to increases in interest rates or a decline in the
Company's operating performance.

The Company's portion of unconsolidated debt maturing through December
31, 2004 is $75.8 million. The Company's portion of unconsolidated debt maturing
after December 31, 2004 is $318.6 million. Unconsolidated debt is the liability
of the unconsolidated entity, is typically secured by that entity's property,
and is non-recourse to the Company except where a guarantee exists.

45

OFF-BALANCE SHEET ARRANGEMENTS - GUARANTEE COMMITMENTS

The Company's guarantees in place as of December 31, 2003, are listed
in the table below. For the guarantees on indebtedness, no triggering events or
conditions are anticipated to occur that would require payment under the
guarantees and management believes the assets associated with the loans that are
guaranteed are sufficient to cover the maximum potential amount of future
payments and therefore, would not require the Company to provide additional
collateral to support the guarantees. The Company has not recorded a liability
associated with these guarantees as they were entered into prior to the adoption
of FIN 45.

- -----------------
(1) The Company provides a $7.9 million letter of credit to support the
payment of interest and principal of the Eagle Ranch Metropolitan
District Revenue Development Bonds.

(2) See "Unconsolidated Investments - Unconsolidated Debt Analysis," in
this Item 7, for a description of the terms of this debt.

(3) A fully consolidated entity of CRDI, of which CRDI owns 88.3%, provides
a guarantee of 70% of the outstanding balance of up to a $9.0 million
loan to Blue River Land Company, L.L.C. There was approximately $5.0
million outstanding at December 31, 2003 and the amount guaranteed was
$3.5 million.

(4) The Company and its joint venture partner each provide a $4.3 million
letter of credit to guarantee repayment of up to $8.5 million of the
loan to Main Street Partners, L.P.

CONTRACTUAL OBLIGATIONS

The table below presents, as of December 31, 2003, the Company's future
scheduled payments due under these contractual obligations.

(1) Amounts include scheduled principal and interest payments for
consolidated debt.

(2) This amount was funded in escrow and is included in "Restricted cash"
on the Company's Consolidated Balance Sheets at December 31, 2003, for
the Hughes Center Acquisition. See "Recent Developments - Acquisition
of Hughes Center" in this Item 7 for further information on the Hughes
Center acquisition.

(3) On March 1, 2004, in accordance with the agreement to acquire the
Hughes Center Properties, the Company completed the purchase of two
tracts of undeveloped land in Hughes Center from the Rouse Company for
$10.0 million. The purchase was funded by a $7.5 million loan from the
Rouse Company and a draw on the Company's credit facility.

(4) For further detail of capital expenditure obligations, see table under
"Liquidity Requirements" in this Item 7.

(5) As part of its ongoing operations, the Company executes operating lease
agreements which generally provide customers with leasehold improvement
allowances. Committed leasehold improvement allowances for leases
executed over the past three years have averaged approximately $50.0
million per year. Tenant leasehold improvement amounts are not included
in the above table.

46

DIVERSIFIED TENANT BASE

The Company's top five tenants accounted for approximately 11% of the
Company's total Office Segment rental revenues for the year ended December 31,
2003. The loss of one or more of the Company's major tenants would have a
temporary adverse effect on the Company's financial condition and results of
operations until the Company is able to re-lease the space previously leased to
these tenants. Based on rental revenues from office leases in effect as of
December 31, 2003, no single tenant accounted for more than 5% of the Company's
total Office Segment rental revenues for 2003.

REIT QUALIFICATION

The Company intends to maintain its qualification as a REIT under
Section 856 of the U.S. Internal Revenue Code of 1986, as amended and operates
in a manner intended to enable it to continue to qualify as a REIT. As a REIT,
the Company generally will not be subject to corporate federal income tax on
income that it currently distributes to its shareholders, provided that the
Company satisfies certain organizational and operational requirements of the
Code, including the requirement to distribute at least 90% of its REIT taxable
income to its shareholders.

EQUITY AND DEBT FINANCING

EQUITY FINANCING

SERIES A PREFERRED OFFERING

On January 15, 2004, the Company completed an offering (the "January
2004 Series A Preferred Offering") of an additional 3,400,000 Series A
Convertible Cumulative Preferred Shares (the "Series A Preferred Shares") at a
$21.98 per share price and with a liquidation preference of $25.00 per share for
aggregate total offering proceeds of approximately $74.7 million. The Series A
Preferred Shares are convertible at any time, in whole or in part, at the option
of the holders, into common shares of the Company at a conversion price of
$40.86 per common share (equivalent to a conversion rate of 0.6119 common shares
per Series A Preferred Share), subject to adjustment in certain circumstances.
The Series A Preferred Shares have no stated maturity and are not subject to
sinking fund or mandatory redemption. At any time, the Series A Preferred Shares
may be redeemed, at the Company's option, by paying $25.00 per share plus any
accumulated accrued and unpaid distributions. Dividends on the additional Series
A Preferred Shares are cumulative from November 16, 2003, and are payable
quarterly in arrears on the fifteenth of February, May, August and November,
commencing February 16, 2004. The annual fixed dividend on the Series A
Preferred Shares is $1.6875 per share.

Net proceeds to the Company from the January 2004 Series A Preferred
Offering after underwriting discounts and other offering costs of approximately
$3.7 million were approximately $71.0 million. The Company used the net proceeds
to pay down the Company's credit facility.

SHELF REGISTRATION STATEMENT

On October 29, 1997, the Company filed a shelf registration statement
(the "Shelf Registration Statement") with the SEC relating to the future
offering of up to an aggregate of $1.5 billion of common shares, preferred
shares and warrants exercisable for common shares. Management believes the Shelf
Registration Statement will provide the Company with more efficient and
immediate access to capital markets when considered appropriate. As of March 5,
2004, approximately $510.0 million was available under the Shelf Registration
Statement for the issuance of securities.

47

DEBT FINANCING ARRANGEMENTS

The significant terms of the Company's primary debt financing
arrangements existing as of December 31, 2003, are shown below:

AVERAGE REMAINING TERM 6.8 years
- ---------------------------

(1) For more information regarding the terms of the Company's debt
financing arrangements including the amounts payable at maturity,
properties securing the Company's secured debt and the method of
calculation of the interest rate for the Company's variable rate debt,
see Note 11, "Notes Payable and Borrowings under Credit Facility,"
included in Item 8, "Financial Statements and Supplementary Data."

(2) In August 2007, the interest rate will increase, and the Company is
required to remit, in addition to the monthly debt service payment,
excess property cash flow, as defined, to be applied first against
principal and thereafter against accrued excess interest, as defined.
It is the Company's intention to repay the note in full at such time
(August 2007) by making a final payment of approximately $221.7
million.

(3) In October 2006, the interest rate will adjust based on current
interest rates at that time. It is the Company's intention to repay the
note in full at such time (October 2006) by making a final payment of
approximately $177.8 million.

(4) In January 2004, the Company purchased $170.0 million of U.S. Treasury
and government sponsored agency securities and placed them into a
collateral account for the sole purpose of funding payments of
principal and interest on this loan. The securities have interest and
maturities that coincide with the scheduled debt service payments of
the loan and ultimate payment of principal in March 2006. See further
information provided in this "Debt Financing Arrangements" section of
Item 7.

(5) The Company assumed this note in connection with the acquisition of the
Colonnade. See "Recent Developments" in this Item 7 for additional
information regarding the acquisition of the Colonnade.

(6) The Company assumed this loan in connection with the Hughes Center
acquisitions. The outstanding principal balance of this loan at
maturity will be approximately $8.7 million. The balance at December
31, 2003 includes approximately $1.1 million of premium which will be
amortized over the term of the loan. The effective interest rate,
including the premium, is 3.8%. See "Recent Developments" in this Item
7 for additional information regarding the Hughes Center acquisitions.

(7) In July 2010, the interest rate will adjust based on current interest
rates at that time. It is the Company's intention to repay the note in
full at such time (July 2010) by making a final payment of
approximately $6.1 million.

(8) To incur any additional debt, the indenture requires the Company to
meet thresholds for a number of customary financial and other
covenants, including maximum leverage ratios, minimum debt service
coverage ratios, maximum secured debt as a percentage of total
undepreciated assets, and ongoing maintenance of unencumbered assets.
Additionally, as long as the 2009 Notes are not rated investment grade,
there are restrictions on the Company's ability to make certain
payments including distributions to shareholders and investments.

(9) The Fleet Fund I and II Term Loan requires the Company to maintain
compliance with a number of customary financial and other covenants on
an ongoing basis, including leverage ratios, debt service coverage
ratios, limitations on additional secured and total indebtedness,
limitation on distributions, and a minimum net worth requirement, and
with respect solely to Funding I and Funding II Properties, adjusted
net operating income to actual debt service and adjusted net operating
income to pro forma debt service. The Fleet Term Loan contains similar
covenants.

(10) This loan has two one-year extension options.

(11) In February 2004, the Company exercised its option to extend this loan
until February 2007.

(12) The Credit Facility requires the Company to maintain compliance with a
number of customary financial and other covenants on an ongoing basis,
including leverage ratios, debt service coverage ratios, limitations on
additional secured and total indebtedness, limitations on
distributions, and a minimum net worth requirement, and with respect
solely to Funding VIII, adjusted net operating income to actual debt
service, adjusted net operating income to pro forma debt service,
office assets as a percentage of total

48

assets, and minimum leasing requirements. In addition, availability
under the Credit Facility is limited by total indebtedness to total
asset value.

(13) The outstanding balance excludes letters of credit issued under the
credit facility of $7.9 million.

(14) The overall weighted average interest rate does not include the effect
of the Company's cash flow hedge agreements. Including the effect of
these agreements, the overall weighted average interest rate would have
been 6.84%.

The Company is generally obligated by its debt agreements to comply
with financial covenants, affirmative covenants and negative covenants, or some
combination of these types of covenants. The significant financial covenants
relating to the Company's debt are summarized in the notes to the preceding
table. The affirmative covenants to which the Company is subject under its debt
agreements include, among others, provisions requiring the Company to comply
with all laws relating to operation of any Properties securing the debt,
maintain those Properties in good repair and working order, maintain adequate
insurance and provide timely financial information. The negative covenants under
the Company's debt agreements generally restrict the Company's ability to
transfer or pledge assets or incur additional debt at a subsidiary level, limit
the Company's ability to engage in transactions with affiliates and place
conditions on the Company's or a subsidiary's ability to make distributions.

Failure to comply with covenants generally will result in an event of
default under that debt instrument. Any uncured or unwaived events of default
under the Company's loans can trigger an increase in interest rates, an
acceleration of payment on the loan in default, and for the Company's secured
debt, foreclosure on the Property securing the debt, and could cause the credit
facility to become unavailable to the Company. In addition, an event of default
by the Company or any of its subsidiaries with respect to any indebtedness in
excess of $5.0 million generally will result in an event of default under the
Credit Facility, 2007 bonds, 2009 bonds, the Fleet Fund I and II Term Loan and
the Fleet Term Loan after the notice and cure periods for the other indebtedness
have passed. As a result, any uncured or unwaived event of default could have an
adverse effect on the Company's business, financial condition, or liquidity.

The Company's debt facilities generally prohibit loan prepayment for an
initial period, allow prepayment with a penalty during a following specified
period and allow prepayment without penalty after the expiration of that period.
During the year ended December 31, 2003, there were no circumstances that
required prepayment penalties or increased collateral related to the Company's
existing debt.

DEBT MODIFICATIONS

In April 2003, the Company obtained modifications to certain
definitions relating to financial and other covenants in the Credit Facility and
$275.0 million Fleet Fund I and II Term Loan. The modifications did not alter
the Company's borrowing capacity, scheduled principal payments, interest rates,
or maturity dates.

In October 2003, the Company received approval from the lending group
for the Credit Facility and $275.0 million Fleet Funding I and II Term Loan for
less restrictive key financial and other covenants in each facility. The Company
requested these modifications due to the slowdown in the general business
environment and its impact on the Company's core business cash flow. In exchange
for approving the modifications, the Company agreed to an increase in the
interest rate spread over LIBOR by 25 basis points (approximately $1.6 million
annual interest expense based on maximum borrowings) for both the Credit
Facility and the Term Loan.

As of December 31, 2003, no event of default had occurred, and the
Company was in compliance with all of its financial covenants related to its
outstanding debt.

ADDITIONAL DEBT FINANCING

In January 2004, the Company entered into an agreement with Bank of
America Securities LLC ("Bank of America") and Deutsche Bank for an additional
$275.0 million secured loan. The loan has an initial two-year term maturing in
January 2006, with a one-year extension option and bears interest at an initial
annual rate of LIBOR plus 275 basis points. The rate decreased to LIBOR plus 225
basis points upon closing of syndication of the loan in February 2004. The loan
is secured by 10 of the 12 properties that were in Funding II at December 31,
2003. The loan is subject to the same covenant requirements as the credit
facility. The net proceeds were used to reduce the outstanding principal balance
of the $275.0 million Fleet Fund I and II Term Loan by approximately $104.2
million. The remaining proceeds were used to purchase U.S. Treasury and
government sponsored agency securities in an amount sufficient to defease the
remaining portion of LaSalle Note II.

49

DEFEASANCE OF LASALLE NOTE II

In December 2003, the Company purchased $9.6 million of U.S. Treasury
and government sponsored agency securities and placed those securities into a
collateral account for the sole purpose of funding payments of principal and
interest payments on approximately $8.7 million of the LaSalle Note II, in order
to release the lien on the Las Colinas retail property, which was held in
Funding II and sold on December 15, 2003. The initial weighted average yield on
the securities was 2.10%. In January 2004, the Company purchased an additional
$170.0 million of U.S. Treasury and government sponsored agency securities with
an initial weighted average yield of 1.76% and placed those securities into a
collateral account for the sole purpose of funding payments of principal and
interest on the remainder of the LaSalle Note II, in order to release the lien
on the remaining properties securing the loan. The cash from these marketable
securities have interest and maturities that coincide with the scheduled debt
service payments of the senior notes and ultimate payment of principal.

UNCONSOLIDATED DEBT ARRANGEMENTS

As of December 31, 2003, the total debt of the unconsolidated joint
ventures and investments in which the Company had ownership interests was $1.1
billion, of which the Company's share was $394.4 million. The Company had
guaranteed $7.7 million of this debt as of December 31, 2003. Additional
information relating to the Company's unconsolidated debt financing arrangements
is contained in "Unconsolidated Investments - Unconsolidated Debt Analysis," in
this Item 7.

CONSOLIDATED AND UNCONSOLIDATED DEBT ARRANGEMENTS

The following tables show summary information about the Company's debt,
including its pro rata share of unconsolidated debt, as of December 31, 2003.

- --------------
(1) Balance excludes hedges. The percentages for fixed rate debt and
variable rate debt, including the $542.5 million of hedged variable
rate debt, are 86% and 14%, respectively.

Listed below are the aggregate required principal payments by year as
of December 31, 2003, excluding extension options. Scheduled principal
installments and amounts due at maturity are included. The table assumes no
prepayment of principal will occur.

50

The Company's policy with regard to the incurrence and maintenance of
debt is based on a review and analysis of the following:

o short term and long term capital needs;

o investment opportunities for which capital is required and the
cost of debt in relation to such investment opportunities;

o the type of debt available (secured or unsecured; variable or
fixed);

o the effect of additional debt on existing covenants;

o the maturity of the proposed debt in relation to maturities of
existing debt; and

o exposure to variable rate debt and alternatives such as
interest-rate swaps and cash flow hedges to reduce this
exposure.

DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

The Company's objective in using derivatives is to add stability to
interest expense and to manage its exposure to interest rate movements or other
identified risks. Derivative financial instruments are used to convert a portion
of the Company's variable rate debt to fixed rate debt and to manage its fixed
to variable rate debt ratio. To accomplish this objective, the Company primarily
uses interest rate swaps as part of its cash flow hedging strategy. Interest
rate swaps designated as cash flow hedges involve the payment of fixed rate
amounts in exchange for variable rate payments over the life of the agreements
without exchange of the underlying principal amount. During 2003, such
derivatives were used to hedge the variable cash flows associated with existing
variable rate debt.

As of December 31, 2003, the Company had entered into four cash flow
hedge agreements, which are accounted for in conformity with SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended.

The following table shows information regarding the Company's cash flow
hedge agreements for the year ended December 31, 2003, and additional interest
expense and unrealized gains (losses) recorded in Accumulated Other
Comprehensive Income ("OCI") for the year ended December 31, 2003.

The Company has designated its four cash flow hedge agreements as cash
flow hedges of LIBOR-based monthly interest payments on a designated pool of
variable rate LIBOR indexed debt that re-prices closest to the reset dates of
each cash flow hedge agreement. The cash flow hedges have been and are expected
to remain highly effective. Changes in the fair value of these highly effective
hedging instruments are recorded in Accumulated Other Comprehensive Income. The
effective portion that has been deferred in Accumulated Other Comprehensive
Income will be reclassified to earnings as interest expense when the hedged
items impact earnings. If a cash flow hedge falls outside 80%-125% effectiveness
for a quarter, all changes in the fair value of the cash flow hedge for the
quarter will be recognized in earnings during the current period. If it is
determined based on prospective testing that it is no longer likely a hedge will
be highly effective on a prospective basis, the hedge will no longer be
designated as a cash flow hedge in conformity with SFAS No. 133, as amended. The
Company had no ineffectiveness related to its cash flow hedges, resulting in no
earnings impact for the year ended December 31, 2003.

Over the next 12 months, an estimated $10.1 million will be
reclassified from Accumulated Other Comprehensive Income to interest expense and
charged against earnings related to the effective portions of the cash flow
hedge agreements.

51

CRDI, a consolidated subsidiary of the Company, also uses derivative
financial instruments to convert a portion of its variable rate debt to fixed
rate debt.

The following table shows information regarding CRDI's cash flow hedge
agreements and additional capitalized interest thereon as of and for the year
ended December 31, 2003. Unlike the additional interest on the Company's cash
flow hedges which was expensed, the additional interest on CRDI's cash flow
hedges was capitalized, as it is related to debt incurred for projects that are
currently under development. Also presented are the unrealized gains in
Accumulated Other Comprehensive Income for the year ended December 31, 2003.

CRDI's hedges were perfectly effective and no earnings impact was
experienced in the year ended December 31, 2003.

INTEREST RATE CAPS

In June 2003, CRDI entered into an interest rate cap agreement with
Bank of America with an initial notional amount of $0.8 million, increasing
monthly to up to $28.3 million in September 2004, based on the amount of the
related loan. The agreement limits the interest rate on the notional amount to a
maximum prime rate, as defined in the agreement, of 4.1%.

52

RECENT DEVELOPMENTS

DISPOSITION OF THE WOODLANDS

On December 31, 2003, the Company sold all of its interests in The
Woodlands, Texas, to a subsidiary of the Rouse Company. The interests sold by
the Company consist of:

o a 52.5% economic interest, including a 10% earned promotional
interest, in WLDC, the partnership through which the Company
owned its interest in The Woodlands residential development
property, and a promissory note due in 2007 in the original
principal amount of $10.6 million from WLDC;

o a 75% interest in WOE, the partnership through which the
Company owned its interests in four Office Properties located
in The Woodlands;

o a 52.5% economic interest, including a 10% earned promotional
interest, in Woodlands CPC; and

o a 52.5% economic interest, including a 10% earned promotional
interest, in The Woodlands Operating Company, L.P.

Total consideration to the Company for the sale of its interests in The
Woodlands was $387.0 million, approximately $202.8 million in cash and
approximately $184.2 million in assumption of debt by the purchaser. The Company
received approximately $18.0 million of the $202.8 million cash component prior
to closing in the form of partnership distributions net of working capital
adjustments. The debt represents 52.5% of the debt of the unconsolidated
partnerships through which the Company owned its interests in The Woodlands. The
sale resulted in a net gain of approximately $83.9 million, $49.2 million net of
tax, to the Company. The Company allocated $15.0 million of the total
consideration, which generated a $2.3 million net loss, to the sale of its four
remaining Office Properties in The Woodlands. These Office Properties were
consolidated by the Company and included in its Office Segment.

The Company used approximately $119.2 million of the proceeds from the
sale of its interests in The Woodlands to fund a portion of the acquisition from
the Rouse Company of its interests in Hughes Center in Las Vegas, Nevada, in the
transaction described below. The remaining net proceeds from the sale of The
Woodlands were used to reduce amounts outstanding under the Company's credit
facility.

ACQUISITION OF HUGHES CENTER

In November 2003, the Company entered into a contract to purchase from
the Rouse Company its investment in the Hughes Center office portfolio in Las
Vegas, Nevada. Hughes Center contains seven Class A Office Properties and nine
retail parcels. The total purchase price for the seven Office Properties and the
nine retail parcels was approximately $214.2 million, $119.2 million in cash and
the remaining $95.0 million in assumed debt.

On December 31, 2003, the Company acquired two of the Class A Office
Properties and two retail parcels located within Hughes Center for approximately
$38.9 million, funded by the Company's assumption of a $9.6 million mortgage
loan from The Northwestern Mutual Life Insurance Company and by a portion of the
proceeds from the sale of the Company's interests in The Woodlands. These Office
Properties are wholly-owned and included in the Office Segment.

Subsequent to December 31, 2003, the Company acquired an additional
five Class A Office Properties and seven retail parcels located within Hughes
Center. One of these Office Properties is owned through a joint venture in which
the Company owns a 67% interest. The remaining four Office Properties are
wholly-owned by the Company. The Company acquired these five Office Properties
and seven retail parcels for approximately $175.3 million, funded by the
Company's assumption of approximately $85.4 million in mortgage loans and by a
portion of the proceeds from the sale of the Company's interests in The
Woodlands.

On March 1, 2004, in accordance with the agreement to acquire the
Hughes Center Properties, the Company completed the purchase of two tracts of
undeveloped land in Hughes Center, suitable for up to 400,000

53

square feet of office space, for approximately $10.0 million. The purchase was
funded by approximately $7.5 million in loans from the Rouse Company and a draw
on the Company's credit facility.

OTHER ACQUISITIONS

On August 26, 2003, the Company acquired The Colonnade, an 11-story,
216,000 square foot Class A office tower, located in the Coral Gables submarket
in Miami, Florida. The Company acquired the Office Property for approximately
$51.4 million, funded by the Company's assumption of a $38.0 million loan from
Bank of America and a draw on the Company's credit facility. This Office
Property is wholly-owned and included in the Company's Office Segment.

On August 14, 2003, CRDI, a consolidated subsidiary of the Company,
completed the purchase of a tract of undeveloped land in Eagle County, Colorado,
for approximately $15.5 million, funded by a draw on the Company's credit
facility. This undeveloped land is wholly-owned and included in the Residential
Development Segment.

OTHER DISPOSITIONS

On November 21, 2003, Manalapan Hotel Partners, L.L.C., owned 50% by
the Company and 50% by WB Palm Beach Investors, L.L.C., sold the Ritz Carlton
Palm Beach Resort/Hotel Property in Palm Beach, Florida. The sale generated net
proceeds of approximately $34.7 million, of which the Company's portion was
approximately $18.0 million, and resulted in a net gain of approximately $6.7
million, of which the Company's portion was approximately $3.9 million. The
proceeds from the sale were used primarily to pay down the Company's credit
facility. This Property was an unconsolidated investment and included in the
Resort/Hotel Segment.

On December 15, 2003, the Company completed the sale of the Las Colinas
Plaza retail property in Dallas, Texas. The sale generated net proceeds of
approximately $20.6 million and a net gain of approximately $14.5 million. The
proceeds from the sale were used primarily to pay down the Company's credit
facility. This Property was wholly-owned and included in the Company's Office
Segment.

During the year ended December 31, 2003, the Company sold four parcels
of undeveloped land. The following table presents the dispositions of
undeveloped land for the year ended December 31, 2003, including the location of
the land, acreage, net proceeds received and net gain on sale.

- --------------
(1) The sale included a note receivable in the amount of $11.8 million,
with annual installments of principal and interest payments beginning
June 27, 2004, through maturity on June 27, 2010. The principal payment
amounts are calculated based upon a 20-year amortization and the
interest rate is 4% for the first two years and thereafter the prime
rate, as defined in the note, through maturity.

54

JOINT VENTURES

On October 8, 2003, the Company entered into a joint venture,
Crescent One BriarLake L.P., with affiliates of J.P. Morgan Fleming Asset
Management, Inc. The joint venture purchased BriarLake Plaza, located in the
Westchase submarket of Houston, Texas, for approximately $74.4 million. The
Property is a 20-story, 502,000 square foot Class A office building. The
affiliates of J.P. Morgan Fleming Asset Management, Inc. own a 70% interest, and
the Company owns a 30% interest, in the joint venture. The initial cash equity
contribution to the joint venture was $24.4 million, of which the Company's
portion was $7.3 million. The Company's equity contribution and an additional
working capital contribution of $0.5 million were funded primarily through a
draw under the Company's credit facility. The remainder of the purchase price of
the Property was funded by a secured loan to the joint venture in the amount of
$50.0 million. None of the mortgage financing at the joint venture level is
guaranteed by the Company. The Company manages and leases the Office Property on
a fee basis. This Office Property is an unconsolidated investment and included
in the Company's Office Segment.

BEHAVIORAL HEALTHCARE PROPERTIES

As of December 31, 2000, the Company owned 28 behavioral
healthcare properties in 24 states. The former tenant of the behavioral
healthcare properties declared bankruptcy and ceased operations in 2000.

This table presents the dispositions of behavioral healthcare
properties by year including the number of properties sold, net proceeds
received, gains on sales and impairments recognized. Depreciation has not been
recognized since the dates the behavioral healthcare properties were classified
as held for sale.

- ---------------
(1) The sale of one property on February 27, 2003, also generated a note
receivable in the amount of $0.7 million, with interest only payments
beginning March 2003, through maturity in February 2005. The interest
rate is the prime rate, as defined in the note, plus 1.0%.

(2) The impairment charges represent the difference between the carrying
values and the estimated sales prices less the costs of the sales for
all properties held for sale during the respective year.

As of December 31, 2003, the Company owned one behavioral healthcare
property. After recognition of a $0.9 million impairment relating to this
property in 2003, the carrying value of the remaining behavioral healthcare
property at December 31, 2003 was approximately $2.3 million. The Company has
entered into a contract to sell the property and is anticipating the sale will
close in the second quarter of 2004.

SHARE REPURCHASE PROGRAM

The Company commenced its Share Repurchase Program in March 2000. On
October 15, 2001, the Company's Board of Trust Managers increased from $500.0
million to $800.0 million the amount of outstanding common shares that can be
repurchased from time to time in the open market or through privately negotiated
transactions (the "Share Repurchase Program"). There were no share repurchases
for the year ended December 31, 2003. As of December 31, 2003, the Company had
repurchased 20,256,423 common shares under the Share Repurchase Program, at an
aggregate cost of approximately $386.9 million, resulting in an average
repurchase price of $19.10 per common share. All repurchased shares were
recorded as treasury shares.

55

IMPAIRMENTS

The significant impairment charges recognized by the Company for the
year ended December 31, 2003 are described below. The Company's policy for
impairment recognition is discussed in "Significant Accounting Policies -
Critical Accounting Policies" in this Item 7.

Office Properties

For the year ended December 31, 2003, the Company recognized impairment
charges of $20.4 million, net of minority interests, on three Office Properties
classified as held for sale. The impairment charges are included in "Impairment
charges related to real estate assets from discontinued operations, net of
minority interests" in the Company's Consolidated Statements of Operations. The
impairment charges, net of minority interest, by Office Property are: $13.9
million for 1800 West Loop South in Houston, Texas; $3.6 million for Liberty
Plaza in Dallas, Texas; and $2.9 million for 12404 Park Central in Dallas,
Texas. The impairment charge represents the difference between the carrying
value of the property and the estimated sales price less costs to sell.

Behavioral Healthcare Properties

Information regarding impairment charges on the behavioral healthcare
properties is contained in "Recent Developments - Behavioral Healthcare
Properties" in this Item 7.

HBCLP, Inc.

On December 31, 2003, the Company executed an agreement with HBCLP,
Inc., an unconsolidated investment of the Company that primarily held real
estate investments and marketable securities, pursuant to which the Company
surrendered 100% of its investment in HBCLP, Inc. and released HBCLP, Inc. from
its note obligation to the Company in exchange for cash of $3.0 million and
other assets valued at approximately $8.7 million, resulting in an impairment
charge of approximately $6.5 million reflected in "Impairment charges related to
real estate assets" in the Company's Consolidated Statements of Operations.

Other

On June 28, 2002, the Company purchased the home of an executive
officer to facilitate the hiring and relocation of this executive officer. The
purchase price for the home was approximately $2.6 million. The Company is
actively marketing this asset for sale and recognized an impairment charge of
approximately $0.6 million, net of taxes, during the year ended December 31,
2003, based on market conditions.

UNCONSOLIDATED INVESTMENTS

INVESTMENTS IN UNCONSOLIDATED COMPANIES

The Company has investments of 20% to 50% in eight unconsolidated joint
ventures that own eight Office Properties. In addition, the Company, through
ownership interests of 50% or less, or ownership of non-voting interests only,
has other unconsolidated investments. These investments are accounted for using
the equity method of accounting.

56

The following is a summary of the Company's ownership in significant
unconsolidated joint ventures and investments as of December 31, 2003.

- --------------------

(1) The remaining 50% interest in Main Street Partners, L.P. is owned by
Trizec Properties, Inc.

(2) The remaining 60% interest in Crescent Miami Center, LLC is owned by an
affiliate of a fund managed by JP Morgan Fleming Asset Management, Inc.

(3) The remaining 75% interest in Crescent 5 Houston Center, L.P. is owned
by a pension fund advised by JP Morgan Fleming Asset Management, Inc.

(4) The remaining 80% interest in each of Austin PT BK One Tower Office
Limited Partnership, Houston PT Three Westlake Park Office Limited
Partnership and Houston PT Four Westlake Park Office Limited
Partnership is owned by an affiliate of GE.

(5) The remaining 70% interest in Crescent Five Post Oak Park, L.P. is
owned by an affiliate of GE.

(6) The remaining 70% interest in Crescent One BriarLake Plaza, L.P. is
owned by affiliates of JP Morgan Fleming Asset Management, Inc.

(7) The Company sold its 52.5% economic interest, including a 10% earned
promotional interest, in each of the Woodlands CPC, WLDC and The
Woodlands Operating Company, L.P. on December 31, 2003.

(8) Distributions were made to partners based on specified payout
percentages. During the year ended December 31, 2003, the payout
percentage to the Company was 52.5%.

(9) The remaining 50% interest in Blue River Land Company, L.L.C. is owned
by parties unrelated to the Company.

(10) The remaining 58.3% interest in EW Deer Valley, L.L.C. is owned by
parties unrelated to the Company. EW Deer Valley, L.L.C. was formed to
acquire, hold and dispose of its 3.3% ownership interest in Empire
Mountain Village, L.L.C.

(11) The Company sold its 50% interest in Manalapan on November 21, 2003.

(12) The remaining 60% interest in Vornado Crescent Portland Partnership is
owned by Vornado Realty Trust, L.P.

(13) The remaining 44% in Vornado Crescent Carthage and KC Quarry, L.L.C. is
owned by Vornado Realty Trust, L.P.

(14) The remaining 70% interest in CR License, L.L.C. is owned by an
affiliate of the management company of two of the Company's
Resort/Hotel Properties.

(15) The remaining 35% interest in Canyon Ranch Las Vegas, L.L.C. is owned
by an affiliate of the management company of two of the Company's
Resort/Hotel Properties.

(16) SunTx's objective is to invest in a portfolio of acquisitions that
offer the potential for substantial capital appreciation. The remaining
70.3% of SunTx is owned by a group of individuals unrelated to the
Company. The Company's investment at December 31, 2003, was $10.6
million.

(17) G2 was formed for the purpose of investing in commercial mortgage
backed securities and other commercial real estate investments. The
remaining 87.5% interest in G2 is owned by Goff-Moore Strategic
Partners, L.P. ("GMSPLP") and by parties unrelated to the Company. G2
is managed and controlled by an entity that is owned equally by GMSPLP
and GMAC Commercial Mortgage Corporation ("GMACCM"). See Note 21,
"Related Party Transactions," for information regarding the ownership
interests of trust managers and officers of the Company in GMSPLP.

57

UNCONSOLIDATED DEBT ANALYSIS

The following table shows, as of December 31, 2003, information about
the Company's share of unconsolidated fixed and variable rate debt and does not
take into account any extension options, hedge arrangements or the entities'
anticipated pay-off dates.

- -----------------------
(1) URS Real Estate, L.P. and Americold Real Estate, L.P., subsidiaries of
the Temperature-Controlled Logistics Corporation, expect to repay this
note on the Optional Prepayment Date of April 11, 2008. The overall
weighted average maturity would be 4.21 years based on this date.

(2) Senior Note - Note A: $82.2 million at variable interest rate, LIBOR +
189 basis points, $4.8 million at variable interest rate, LIBOR + 250
basis points with a LIBOR floor of 2.50%. Note B: $24.2 million at
variable interest rate, LIBOR + 650 basis points with a LIBOR floor of
2.50%. Mezzanine Note - $19.3 million at variable interest rate, LIBOR
+ 890 basis points with a LIBOR floor of 3.0%. Interest-rate cap
agreement maximum LIBOR of 4.52% on all notes. All notes amortized
based on a 25-year schedule.

(3) This loan has two one-year extension options.

(4) The Company and its joint venture partner each obtained a separate
Letter of Credit to guarantee the repayment of up to $4.3 million each
of principal of the Main Street Partners, L.P. loan.

(5) The variable rate loan has an interest rate of LIBOR + 300 basis
points. East West Resort Development III, L.P. provides an
unconditional guarantee of up to 70% of the maximum $9.0 million
available under this facility with U.S. Bank National Association.
There was approximately $5.0 million outstanding at December 31, 2003
and the guarantee was equal to $3.5 million.

58

The following table shows, as of December 31, 2003, information about
the Company's share of unconsolidated fixed and variable rate debt and does not
take into account any extension options, hedge arrangements or the entities'
anticipated pay-off dates.

Listed below is the Company's share of aggregate principal payments, by
year, required as of December 31, 2003, related to the Company's unconsolidated
debt. Scheduled principal installments and amounts due at maturity are included.

- -----------------------
(1) These amounts do not represent the effect of extension options.

TEMPERATURE-CONTROLLED LOGISTICS SEGMENT

As of December 31, 2003, the Company held a 40% interest in the
Temperature-Controlled Logistics Partnership, which owns all of the common
stock, representing substantially all of the economic interest of the
Temperature-Controlled Logistics Corporation, which directly or indirectly owns
the 87 Temperature-Controlled Logistics Properties, with an aggregate of
approximately 440.7 million cubic feet (17.5 million square feet) of warehouse
space.

The Temperature-Controlled Logistics Corporation leases the
Temperature-Controlled Logistics Properties to AmeriCold Logistics, a limited
liability company owned 60% by Vornado Operating L.P. and 40% by a subsidiary of
COPI. The Company has no economic interest in AmeriCold Logistics. See Note 23,
"COPI," in Item 8, "Financial Statements and Supplementary Data," for
information on the proposed acquisition of COPI's 40% interest in AmeriCold
Logistics by a new entity to be owned by the Company's shareholders.

AmeriCold Logistics, as sole lessee of the Temperature-Controlled
Logistics Properties, leases the Temperature-Controlled Logistics Properties
from the Temperature-Controlled Logistics Corporation under three triple-net
master leases, as amended. On February 22, 2001, the Temperature-Controlled
Logistics Corporation and AmeriCold Logistics agreed to restructure certain
financial terms of the leases, including a reduction of the rental obligation
for 2001 and 2002, the increase of the Temperature-Controlled Logistics
Corporation's share of capital expenditures for the maintenance of the
properties (effective January 1, 2000) and the extension of the date on which
deferred rent is required to be paid to December 31, 2003. On March 2, 2004, the
Temperature-Controlled Logistics Corporation and Americold Logistics amended the
leases to further extend the deferred rent period to December 31, 2005 from
December 31, 2004. The parties previously extended the deferred rent period to
December 31, 2004 from December 31, 2003, on March 7, 2003.

Under terms of the leases, AmeriCold Logistics elected to defer
$41.8 million of the total $155.5 million of rent payable for the year ended
December 31, 2003. The Company's share of the deferred rent was $16.7 million.
The Company recognizes rental

59

income from the Temperature-Controlled Logistics Properties when earned and
collected and has not recognized the $16.7 million of deferred rent in equity in
net income of the Temperature-Controlled Logistics Properties for the year ended
December 31, 2003. As of December 31, 2003, the Temperature-Controlled Logistics
Corporation's deferred rent and valuation allowance from AmeriCold Logistics
were $82.4 million and $74.3 million, respectively, of which the Company's
portions were $33.0 million and $29.7 million, respectively.

The following table shows the total and the Company's portion of
deferred rent and the valuation allowance for the years ended December 31, 2003,
2002, and 2001:

On February 5, 2004, the Temperature-Controlled Logistics Corporation
completed a $254.4 million mortgage financing with Morgan Stanley Mortgage
Capital Inc., secured by 21 of its owned and seven of its leased
temperature-controlled logistics properties. The loan matures in April 2009,
bears interest at LIBOR plus 295 basis points (with a LIBOR floor of 1.5% with
respect to $54.4 million of the loan) and requires principal payments of $5.0
million annually. The net proceeds to the Temperature-Controlled Logistics
Corporation were approximately $225.0 million, after closing costs, escrow
reserves and the repayment of approximately $12.9 million in existing mortgages.
On February 6, 2004, the Temperature-Controlled Logistics Corporation
distributed cash of approximately $90.0 million to the Company.

On February 23, 2004, Alec Covington, President and Chief Executive
Officer of AmeriCold Logistics, resigned effective March 31, 2004, to take an
opportunity in an unrelated industry. A search to identify a successor is
currently underway. Anthony Cossentino, Chief Financial Officer, will oversee
the AmeriCold business and Mike O'Connell, who has been with AmeriCold for over
ten years, has been promoted to be in charge of all operations and, until a
successor is in place, will report to Mr. Cossentino.

60

SIGNIFICANT ACCOUNTING POLICIES

CRITICAL ACCOUNTING POLICIES

The Company's discussion and analysis of financial condition and
results of operations is based on its consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires the
Company to make estimates and judgments that affect the reported amounts of
assets, liabilities, and contingencies as of the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. The Company evaluates its assumptions and estimates on an
ongoing basis. The Company bases its estimates on historical experience and on
various other assumptions that it believes to be reasonable under the
circumstances. These estimates form the basis for making judgments about the
carrying values of assets and liabilities where that information is available
from other sources. Certain estimates are particularly sensitive due to their
significance to the financial statements. Actual results may differ
significantly from management's estimates. The Company believes that the most
significant accounting policies that involve the use of estimates and
assumptions as to future uncertainties and, therefore, may result in actual
amounts that differ from estimates are the following:

o Impairments,

o Acquisition of operating properties,

o Relative sales method and percentage of completion
(Residential Development entities),

o Gain recognition on sale of real estate assets, and

o Allowance for doubtful accounts.

IMPAIRMENTS. Real estate and leasehold improvements are classified as
long-lived assets held for sale or long-lived assets to be held and used. In
accordance with Statement No. 144, the Company records assets held for sale at
the lower of carrying value or sales price less costs to sell. For assets
classified as held and used, these assets are tested for recoverability when
events or changes in circumstances indicate that the estimated carrying amount
may not be recoverable. An impairment loss is recognized when expected
undiscounted future cash flows from a Property is less than the carrying value
of the Property. The Company's estimates of cash flows of the Properties
requires the Company to make assumptions related to future rental rates,
occupancies, operating expenses, the ability of the Company's tenants to perform
pursuant to their lease obligations and proceeds to be generated from the
eventual sale of the Company's Properties. Any changes in estimated future cash
flows due to changes in the Company's plans or views of market and economic
conditions could result in recognition of additional impairment losses.

If events or circumstances indicate that the fair value of an
investment accounted for using the equity method has declined below its carrying
value and the Company considers the decline to be "other than temporary," the
investment is written down to fair value and an impairment loss is recognized.
The evaluation of impairment for an investment would be based on a number of
factors, including financial condition and operating results for the investment,
inability to remain in compliance with provisions of any related debt
agreements, and recognition of impairments by other investors. Impairment
recognition would negatively impact the recorded value of our investment and
reduce net income.

ACQUISITION OF OPERATING PROPERTIES. The Company allocates the purchase
price of acquired properties to tangible and identified intangible assets
acquired based on their fair values in accordance with SFAS No. 141, "Business
Combinations."

In making estimates of fair value for purposes of allocating purchase
price, management utilizes sources, including, but not limited to, independent
value consulting services, independent appraisals that may be obtained in
connection with financing the respective property, and other market data.
Management also considers information obtained about each property as a result
of its pre-acquisition due diligence, marketing and leasing activities in
estimating the fair value of the tangible and intangible assets acquired.

The aggregate value of the tangible assets acquired is measured based
on the sum of (i) the value of the property and (ii) the present value of the
amortized in-place tenant improvement allowances over the remaining term of each
lease. Management's estimates of the value of the property are made using models
similar to those used by independent appraisers. Factors considered by
management in its analysis include an estimate of carrying costs such

61

as real estate taxes, insurance, and other operating expenses and estimates of
lost rentals during the expected lease-up period assuming current market
conditions. The value of the property is then allocated among building, land,
site improvements, and equipment. The value of tenant improvements is separately
estimated due to the different depreciable lives.

The aggregate value of intangible assets acquired is measured based on
the difference between (i) the purchase price and (ii) the value of the tangible
assets acquired as defined above. This value is then allocated among
above-market and below-market in-place lease values, costs to execute similar
leases (including leasing commissions, legal expenses and other related
expenses), in-place lease values and customer relationship values.

Above-market and below-market in-place lease values for acquired
properties are calculated based on the present value (using a market interest
rate which reflects the risks associated with the leases acquired) of the
difference between (i) the contractual amounts to be paid pursuant to the
in-place leases and (ii) management's estimate of fair market lease rates for
the corresponding in-place leases, measured over a period equal to the remaining
non-cancelable term of the lease for above-market leases and the initial term
plus the term of the below-market fixed rate renewal option, if any, for
below-market leases. The Company performs this analysis on a lease by lease
basis. The capitalized above-market lease values are amortized as a reduction to
rental income over the remaining non-cancelable terms of the respective leases.
The capitalized below-market lease values are amortized as an increase to rental
income over the initial term plus the term of the below-market fixed rate
renewal option, if any, of the respective leases.

Management estimates costs to execute leases similar to those acquired
at the property at acquisition based on current market conditions. These costs
are recorded based on the present value of the amortized in-place leasing costs
on a lease by lease basis over the remaining term of each lease.

The in-place lease values and customer relationship values are based on
management's evaluation of the specific characteristics of each customer's lease
and the Company's overall relationship with that respective customer.
Characteristics considered by management in allocating these values include the
nature and extent of the Company's existing business relationships with the
customer, growth prospects for developing new business with the customer, the
customer's credit quality, and the expectation of lease renewals, among other
factors. The in-place lease value and customer relationship value are both
amortized to expense over the initial term of the respective leases and
projected renewal periods, but in no event does the amortization period for the
intangible assets exceed the remaining depreciable life of the building.

Should a tenant terminate its lease, the unamortized portion of the
in-place lease value and the customer relationship value and above-market and
below-market in-place lease values would be charged to expense.

RELATIVE SALES METHOD AND PERCENTAGE OF COMPLETION. The Company uses
the accrual method to recognize earnings from the sale of Residential
Development Properties when a third-party buyer had made an adequate cash down
payment and has attained the attributes of ownership. If a sale does not qualify
for the accrual method of recognition, deferral methods are used as appropriate
including the percentage-of-completion method. In certain cases, when the
Company receives an inadequate cash down payment and takes a promissory note for
the balance of the sales price, revenue recognition is deferred until such time
as sufficient cash is received to meet minimum down payment requirements. The
cost of residential property sold is defined based on the type of product being
purchased. The cost of sales for residential lots is generally determined as a
specific percentage of the sales revenues recognized for each Residential
Development project. The percentages are based on total estimated development
costs and sales revenue for each Residential Development project. These
estimates are revised annually and are based on the then-current development
strategy and operating assumptions utilizing internally developed projections
for product type, revenue and related development costs. The cost of sale for
residential units (such as townhomes and condominiums) is determined using the
relative sales value method. If the residential unit has been sold prior to the
completion of infrastructure cost, and those uncompleted costs are not
significant in relation to total costs, the full accrual method is utilized.
Under this method, 100% of the revenue is recognized, and a commitment liability
is established to reflect the allocated estimated future costs to complete the
residential unit. If the Company's estimates of costs or the percentage of
completion is incorrect, it could result in either an increase or decrease in
cost of sales expense or revenue recognized and therefore, an increase or
decrease in net income.

62

GAIN RECOGNITION ON SALE OF REAL ESTATE ASSETS. The Company performs
evaluations of each real estate sale to determine if full gain recognition is
appropriate in accordance with SFAS No. 66, "Accounting for Sales of Real
Estate." The application of SFAS No. 66 can be complex and requires the Company
to make assumptions including an assessment of whether the risks and rewards of
ownership have been transferred, the extent of the purchaser's investment in the
property being sold, whether the Company's receivables, if any, related to the
sale are collectible and are subject to subordination, and the degree of the
Company's continuing involvement with the real estate asset after the sale. If
full gain recognition is not appropriate, the Company accounts for the sale
under an appropriate deferral method.

ALLOWANCE FOR DOUBTFUL ACCOUNTS. The Company's accounts receivable
balance is reduced by an allowance for amounts that may become uncollectible in
the future. The Company's receivable balance is composed primarily of rents and
operating cost recoveries due from its tenants. The Company also maintains an
allowance for deferred rent receivables which arise from the straight-lining of
rents. The allowance for doubtful accounts is reviewed at least quarterly for
adequacy by reviewing such factors as the credit quality of the Company's
tenants, any delinquency in payment, historical trends and current economic
conditions. If the assumptions regarding the collectibility of accounts
receivable prove incorrect, the Company could experience write-offs in excess of
its allowance for doubtful accounts, which would result in a decrease in net
income.

ADOPTION OF NEW ACCOUNTING STANDARDS

SFAS NO. 145. In April 2002, the Financial Accounting Standards Board
("FASB") issued SFAS No. 145, "Rescission of FASB Statements 4, 44 and 64,
Amendment of FASB Statement No. 13, and Technical Corrections." SFAS No. 145
requires the reporting of gains and losses from early extinguishment of debt be
included in the determination of net income unless criteria in Accounting
Principles Board Opinion No. 30, "Reporting the Results of Operations," which
allows for extraordinary item classification, are met. The provisions of this
Statement related to the rescission of Statement No. 4 are to be applied in
fiscal years beginning after May 15, 2002. The Company adopted this Statement
for fiscal 2003 and had no impact beyond the reclassification of costs related
to early extinguishments of debt, which were shown in the Company's 2001
Consolidated Statements of Operations as an extraordinary item.

SFAS NO. 149. In April 2003, the FASB issued SFAS No. 149, "Amendment
of Statement 133 on Derivative Instruments and Hedging Activities." SFAS No. 149
amends and clarifies the financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." In general, SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003 and for
hedging relationships designated after June 30, 2003. The Company adopted SFAS
No. 149 effective July 1, 2003. The adoption of this Statement did not have a
material impact on the Company's financial condition or its results of
operations.

SFAS NO. 150. In May 2003, the FASB issued SFAS No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 establishes standards for how an issuer should classify
and measure certain financial instruments that have both liability and equity
characteristics. Most provisions of this Statement were to be applied to
financial instruments entered into or modified after May 31, 2003, and to
existing instruments as of the beginning of the first interim financial
reporting period after June 15, 2003. On October 29, 2003, the FASB agreed to
defer indefinitely certain provisions of SFAS No. 150 to noncontrolling
interests in limited life subsidiaries. The Company determined that seven of its
consolidated partnerships were limited life subsidiaries. The carrying value of
the minority interests in these partnerships at December 31, 2003 was $14.6
million, which approximated fair value. The Company is in the process of
amending the partnership agreements to give the partnerships indefinite lives.
The adoption of the remainder of SFAS No. 150 on July 1, 2003, had no impact on
the Company's financial condition or its results of operations.

FASB INTERPRETATION 45. In November 2002, the FASB issued
Interpretation 45, "Guarantors' Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others" ("FIN 45"),
which 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 and liability-recognition requirements for a guarantor of certain
types of debt. The new guidance requires a guarantor to recognize a liability at
the inception

63

of a guarantee which is covered by the new requirements whether or not payment
is probable, creating the new concept of a "stand-ready" obligation. Initial
recognition and initial measurement provisions are applicable on a prospective
basis to guarantees issued or modified after December 31, 2002. See Note 15,
"Commitments, Contingencies and Litigation" in Item 8, "Financial Statements and
Supplementary Data," for disclosure of the Company's guarantees at December 31,
2003. The Company adopted FIN 45 effective January 1, 2003.

FASB INTERPRETATION 46. On January 15, 2003, the FASB approved the
issuance of Interpretation 46, "Consolidation of Variable Interest Entities"
("FIN 46"), as amended, an interpretation of Accounting Research Bulletin No.
51, "Consolidated Financial Statements." Under FIN 46, consolidation
requirements are effective immediately for new Variable Interest Entities
("VIEs") created after January 31, 2003. The consolidation requirements apply to
existing VIEs for financial periods ending after March 15, 2004, except for
Special Purpose Entities which had to be consolidated by December 31, 2003. VIEs
are generally a legal structure used for business enterprises that either do not
have equity investors with voting rights, or have equity investors that do not
provide sufficient financial resources for the entity to support its activities.
The objective of the new guidance is to improve reporting by addressing when a
company should include in its financial statements the assets, liabilities and
activities of another entity such as VIEs. FIN 46 requires VIEs to be
consolidated by a company if the company is subject to a majority of the risk of
loss from the VIE's activities or entitled to receive a majority of the entity's
residual returns or both. FIN 46 also requires disclosures about VIEs that the
company is not required to consolidate but in which it has a significant
variable interest. Certain of the disclosure requirements apply in all financial
statements issued after January 31, 2003, regardless of when the VIEs were
established. These disclosure requirements are as follows: (a) the nature,
purpose, size, and activities of the VIEs; and, (b) the enterprise's maximum
exposure to loss as a result of its involvement with the VIEs. FIN 46 may be
applied prospectively with a cumulative effect adjustment as of the date on
which it is first applied or by restating previously issued financial statements
for one or more years with a cumulative effect adjustment as of the beginning of
the first year restated. Subsequent to January 31, 2003, in connection with the
Hughes Center acquisition, the Company created a VIE by entering into an
exchange agreement with a third party intermediary. This agreement allows the
Company to pursue favorable tax treatment on other properties sold by the
Company within a 180-day period. During the 180-day period, which will end on
June 28, 2004, the third party intermediary is the legal owner of the
properties, although the Company controls the properties, retains all of the
economic benefits and risks associated with these properties, and indemnifies
the third party intermediary and, therefore, the Company will fully
consolidate these properties. On the expiration of the 180-day period, the
Company will take legal ownership of the properties. No other VIEs were created
subsequent to January 31, 2003. Due to the adoption of this Interpretation, the
Company has consolidated GDW LLC, a subsidiary of DMDC, for the year ended
December 31, 2003. The Company is in the process of analyzing other entities
which existed at January 31, 2003 to determine if any qualified as VIEs under
FIN 46. The Company does not believe there will be a material impact to the
Company's financial condition or results of operations from the final adoption
of FIN 46.

MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING. On
June 5, 2003, the SEC issued new rules on internal control over financial
reporting that were mandated by Section 404 of the Sarbanes-Oxley Act of 2002
(the Act). These new rules require management reporting on internal controls
over financial reporting. The new internal control report over financial
reporting is required in the annual report of all registrants, other than
registered investment companies and asset-backed issuers, and should include: a
statement of management's responsibility for establishing and maintaining
adequate internal control over financial reporting for the company; management's
assessment of the effectiveness of the company's internal control over financial
reporting as of the end of the company's most recent fiscal year; a statement
identifying the framework used by management to evaluate the effectiveness of
the company's internal control over financial reporting; and a statement that
the public accounting firm that audited the company's financial statements
included in the annual report has issued an attestation report on management's
assessment of the company's internal control over financial reporting. The
company must file the auditor's attestation report as a part of the annual
report. For the quarters, the new SEC rules require management to evaluate any
change in the company's internal control over financial reporting that occurred
and had a material effect (or is reasonably likely to have a material effect) on
the company's internal control over financial reporting. Also, the SEC adopted
rules to require registrants to provide the certifications on disclosure
controls and on compliance with certain SEC rules and fair presentation mandated
by Sections 302 and 906 of the Act, respectively, as exhibits to periodic
reports. For the Company, the report on internal control over financial
reporting is required in the annual report for the year ended December 31, 2004.

64

PURCHASE OF CERTAIN EQUITY SECURITIES BY THE ISSUER AND OTHERS. On
November 10, 2003, the SEC voted to adopt a rule that provides registrants with
a "safe harbor" from manipulation liability when they repurchase their common
stock in the market in accordance with the rule's manner, timing, price, and
volume conditions. The rule also requires disclosure of all registrant
repurchases, whether or not the repurchases are effected under the safe harbor
rule. The rule was effective December 17, 2003. The repurchase disclosures
required in Form 10-Q and 10-K are required from periods ending after March 15,
2004.

FUNDS FROM OPERATIONS AVAILABLE TO COMMON SHAREHOLDERS

FFO, as used in this document, means:

o Net Income (Loss) - determined in accordance with GAAP;

o excluding gains (or losses) from sales of depreciable
operating property;

o excluding extraordinary items (as defined by GAAP);

o plus depreciation and amortization of real estate assets; and

o after adjustments for unconsolidated partnerships and joint
ventures.

The Company calculates FFO available to common shareholders in the same
manner, except that Net Income (Loss) is replaced by Net Income (Loss) Available
to Common Shareholders.

The National Association of Real Estate Investment Trusts ("NAREIT")
developed FFO as a relative measure of performance and liquidity of an equity
REIT to recognize that income-producing real estate historically has not
depreciated on the basis determined under GAAP. The Company considers FFO
available to common shareholders an appropriate measure of performance for its
investment segments. However, FFO available to common shareholders and FFO
should not be considered an alternative to net income determined in accordance
with GAAP as an indication of the Company's operating performance.

The Company has historically distributed an amount less than FFO
available to common shareholders, primarily due to reserves required for capital
expenditures, including leasing costs. The aggregate cash distributions paid to
common shareholders and unitholders for the years ended December 31, 2003, 2002
and 2001 were $175.5 million, $176.4 million and $245.1 million, respectively.
The Company reported FFO available to common shareholders of $212.6 million,
$238.2 million and $177.1 million, for the years ended December 31, 2003, 2002
and 2001, respectively.

An increase or decrease in FFO available to common shareholders does
not necessarily result in an increase or decrease in aggregate distributions
because the Company's Board of Trust Managers is not required to increase
distributions on a quarterly basis unless necessary for the Company to maintain
REIT status. However, the Company must distribute 90% of its REIT taxable income
(as defined in the Code). Therefore, a significant increase in FFO available to
common shareholders will generally require an increase in distributions to
shareholders and unitholders although not necessarily on a proportionate basis.

Accordingly, the Company believes that to facilitate a clear
understanding of the consolidated historical operating results of the Company,
FFO available to common shareholders should be considered in conjunction with
the Company's net income and cash flows reported in the consolidated financial
statements and notes to the financial statements. However, the Company's measure
of FFO available to common shareholders may not be comparable to similarly
titled measures of other REITs because these REITs may apply the definition of
FFO in a different manner than the Company.

65

CONSOLIDATED STATEMENTS OF FUNDS FROM OPERATIONS AVAILABLE TO COMMON
SHAREHOLDERS
(in thousands)

- --------------------------
(1) To calculate basic funds from operations available to common
shareholders, deduct unitholder minority interest.

(2) Due to the initial adoption of SFAS No. 142 on January 1, 2002, the
Company recognized a goodwill impairment charge related to the
Temperature-Controlled Logistics Properties of approximately $9.2
million.

(3) Includes interest and other income, behavioral healthcare property
income, preferred return paid to GMACCM in 2002, other unconsolidated
companies, less depreciation and amortization of non-real estate assets
and amortization of deferred financing costs, income from investment
land sales, net, and other expenses.

(4) See calculations for the amounts presented in the reconciliation
following this table.

66

The following schedule reconciles the Company's basic weighted average
shares to the diluted weighted average shares/units presented above:

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company's use of financial instruments, such as debt instruments,
subject the Company to market risk which may affect the Company's future
earnings and cash flows as well as the fair value of its assets. Market risk
generally refers to the risk of loss from changes in interest rates and market
prices. The Company manages its market risk by attempting to match anticipated
inflow of cash from its operating, investing and financing activities with
anticipated outflow of cash to fund debt payments, distributions to
shareholders, investments, capital expenditures and other cash requirements. The
Company also enters into derivative financial instruments such as interest rate
swaps to mitigate its interest rate risk on a related financial instrument or to
effectively lock the interest rate on a portion of its variable rate debt.

The following discussion of market risk is based solely on hypothetical
changes in interest rates related to the Company's variable rate debt. This
discussion does not purport to take into account all of the factors that may
affect the financial instruments discussed in this section.

INTEREST RATE RISK

The Company's interest rate risk is most sensitive to fluctuations in
interest rates on its short-term variable rate debt. The Company had total
outstanding debt of approximately $2.6 billion at December 31, 2003, of which
approximately $378.3 million, or approximately 15%, was unhedged variable rate
debt. The variable rate debt is based on an index (LIBOR or Prime plus a credit
spread). The weighted average interest rate on such variable rate debt was 5.2%
as of December 31, 2003. A 10% increase in the underlying index would cause an
increase of 52 basis points to the weighted average interest rate on such
variable rate debt, which would result in an annual decrease in net income and
cash flows of approximately $2.0 million. Conversely, a 10% decrease in the
underlying index would cause a decrease of 52 basis points to the weighted
average interest rate on such unhedged variable rate debt, which would result in
an annual increase in net income and cash flows of approximately $2.0 million
based on the unhedged variable rate debt outstanding as of December 31, 2003.

CASH FLOW HEDGES

The Company uses derivative financial instruments to convert a portion
of its variable rate debt to fixed rate debt and to manage its fixed to variable
rate debt ratio. A description of these derivative financial instruments is
contained in Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Equity and Debt Financing - Derivative
Instruments and Hedging Activities."

67

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

68

REPORT OF INDEPENDENT AUDITORS

Board of Trust Managers and Shareholders
Crescent Real Estate Equities Company and subsidiaries

We have audited the accompanying consolidated balance sheets of Crescent Real
Estate Equities Company and subsidiaries (the "Company") as of December 31, 2003
and 2002, and the related consolidated statements of operations, shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 2003. Our audits also included the financial statement schedule listed in
the index at Item 15(a). These financial statements and schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.

In our opinion, based on our audits, the financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Crescent Real Estate Equities Company and subsidiaries at December 31, 2003 and
2002, and the consolidated results of their operations and their cash flows for
each of the three years in the period ended December 31, 2003, in conformity
with accounting principles generally accepted in the United States. Also, in our
opinion, the related financial statement schedule, when considered in relation
to the basic financial statements taken as a whole, presents fairly, in all
material respects, the information set forth therein.

As discussed in Note 2 to the consolidated financial statements, the Company
adopted Statement of Financial Accounting Standards No. 144, "Accounting for
Impairment or Disposal of Long-Lived Assets," as of January 1, 2002. As a
result, the accompanying consolidated financial statements for 2001, referred to
above, have been restated to conform to the presentation adopted in 2002 in
accordance with accounting principles generally accepted in the United States.

ERNST & YOUNG LLP

Dallas, Texas

February 13, 2004, except
for paragraph three of
Note 8, as to which the
date is March 2, 2004,
and Note 25, as to which
the date is March 9, 2004.

69

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)

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

70

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)

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

71

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)

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

72

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)

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

73

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. ORGANIZATION AND BASIS OF PRESENTATION

Crescent Real Estate Equities Company ("Crescent Equities")
operates as a real estate investment trust for federal income tax purposes (a
"REIT") and, together with its subsidiaries, provides management, leasing and
development services for some of its properties.

The term "Company" includes, unless the context otherwise
indicates, Crescent Equities, a Texas real estate investment trust, and all of
its direct and indirect subsidiaries.

The direct and indirect subsidiaries of Crescent Equities at
December 31, 2003, included:

o CRESCENT REAL ESTATE EQUITIES LIMITED PARTNERSHIP
The "Operating Partnership."

o CRESCENT REAL ESTATE EQUITIES, LTD.
The "General Partner" of the Operating Partnership.

o SUBSIDIARIES OF THE OPERATING PARTNERSHIP AND THE
GENERAL PARTNER

Crescent Equities conducts all of its business through the
Operating Partnership and its other subsidiaries. The Company is structured to
facilitate and maintain the qualification of Crescent Equities as a REIT.

The following table shows the consolidated subsidiaries of the
Company that owned or had an interest in real estate assets and the real estate
assets that each subsidiary owned or had an interest in as of December 31, 2003.

Operating Partnership Wholly-owned assets - The Avallon IV, Datran Center
(two office properties), Houston Center (three office
properties and the Houston Center Shops), Hughes
Center (two office properties, see Note 4,
"Acquisitions," for additional information regarding
the ownership of these properties). These properties
are included in the Company's Office Segment.

Non wholly-owned assets, consolidated - 301 Congress
Avenue (50% interest), included in the Company's
Office Segment. Sonoma Mission Inn (80.1% interest),
included in the Company's Resort/Hotel Segment.

Non wholly-owned assets, unconsolidated - Bank One
Center (50% interest), Bank One Tower (20% interest),
Three Westlake Park (20% interest), Four Westlake
Park (20% interest), Miami Center (40% interest), 5
Houston Center (25% interest), BriarLake Plaza (30%
interest) and Five Post Oak Park (30% interest).
These properties are included in the Company's Office
Segment. The Temperature-Controlled Logistics
Properties (40% interest in 87 properties). These
properties are included in the Company's
Temperature-Controlled Logistics Segment.

Crescent Real Estate
Funding I, L.P.
("Funding I") Wholly-owned assets - The Aberdeen, The Avallon I, II
& III, Carter Burgess Plaza, The Citadel, The
Crescent Atrium, The Crescent Office Towers, Regency
Plaza One, Waterside Commons and 125 E. John
Carpenter Freeway. These properties are included in
the Company's Office Segment.

Crescent Real Estate
Funding II, L.P.
("Funding II") Wholly-owned assets - Albuquerque Plaza, Barton Oaks
Plaza, Briargate Office and Research Center, Liberty
Plaza I & II, MacArthur Center I & II, Ptarmigan
Place, Stanford Corporate Center, Two Renaissance
Square and 12404 Park Central. These properties are
included in the Company's Office Segment. The Hyatt
Regency Albuquerque and the Park Hyatt Beaver Creek
Resort & Spa. These properties are included in the
Company's Resort/Hotel Segment.

Crescent Real Estate
Funding III, IV and V,
L.P. ("Funding III, IV
and V")(1) Wholly-owned assets - Greenway Plaza Office
Properties (ten Office Properties). These properties
are included in the Company's Office Segment.
Renaissance Houston Hotel, included in the Company's
Resort/Hotel Segment.

Crescent Real Estate
Funding VI, L.P.
("Funding VI") Wholly-owned asset - Canyon Ranch - Lenox, included
in the Company's Resort/Hotel Segment.

74

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Crescent Real Estate
Funding VII, L.P.
("Funding VII") Wholly-owned asset - One behavioral healthcare
property.

Crescent Real Estate
Funding VIII, L.P.
("Funding VIII") Wholly-owned assets - The Addison, Addison Tower,
Austin Centre, The Avallon V, Chancellor Park, Frost
Bank Plaza, Greenway I & IA (two office properties),
Greenway II, Johns Manville Plaza, Palisades Central
I, Palisades Central II, Stemmons Place, Trammell
Crow Center(2), 3333 Lee Parkway, 1800 West Loop
South, 5050 Quorum, 44 Cook Street and 55 Madison.
These properties are included in the Company's Office
Segment. The Canyon Ranch - Tucson, Omni Austin
Hotel, and Ventana Inn & Spa, all of which are
included in the Company's Resort/Hotel Segment.

Crescent Real Estate
Funding X, L.P.
("Funding X") Wholly-owned assets - Fountain Place and Post Oak
Central (three Office Properties), all of which are
included in the Company's Office Segment.

Crescent 707 17th
Street, L.L.C Wholly-owned assets - 707 17th Street, included in
the Company's Office Segment, and The Denver Marriott
City Center, included in the Company's Resort/Hotel
Segment.

Crescent Spectrum
Center, L.P. Non wholly-owned assets, consolidated - Spectrum
Center (approximately 100% interest), included in the
Company's Office Segment.

Crescent Colonnade,
L.L.C. Wholly-owned asset - The BAC-Colonnade Building,
included in the Company's Office Segment.

Mira Vista Development
Corp. ("MVDC") Non wholly-owned asset, consolidated - Mira Vista
(98% interest), included in the Company's Residential
Development Segment.

Houston Area
Development Corp.
("HADC") Non wholly-owned assets, consolidated - Falcon Point
(98% interest), Falcon Landing (98% interest) and
Spring Lakes (98% interest). These properties are
included in the Company's Residential Development
Segment.

Desert Mountain
Development Corporation
("DMDC") Non wholly-owned assets, consolidated - Desert
Mountain (93% interest), included in the Company's
Residential Development Segment.

Crescent Resort
Development Inc.
("CRDI") Non wholly-owned assets, consolidated - Eagle Ranch
(60% interest), Main Street Junction (30% interest),
Main Street Station (30% interest), Main Street
Station Vacation Club (30% interest), Riverbend (60%
interest), Park Place at Riverfront (64% interest),
Park Tower at Riverfront (64% interest), Delgany
Lofts (64% interest), Promenade Lofts at Riverfront
(64% interest), Creekside at Riverfront (64%
interest), Cresta (60% interest), Snow Cloud (64%
interest), Horizon Pass Lodge (64% interest), Horizon
Pass Townhomes (64% interest), One Vendue Range (62%
interest), Old Greenwood (71.2% interest), Tahoe
Mountain Resorts (57% - 71.2% interests). These
properties are included in the Company's Residential
Development Segment.

Non wholly-owned assets, unconsolidated - Blue River
Land Company, L.L.C. - Three Peaks (30% interest) and
EW Deer Valley, L.L.C. (41.7% interest), included in
the Company's Residential Development Segment.

Crescent TRS
Holdings Corp. Non wholly-owned assets, unconsolidated - two
quarries (56% interest). These properties are
included in the Company's Temperature-Controlled
Logistics Segment.

- -------------------------

(1) Funding III owns nine of the ten office properties in the
Greenway Plaza office portfolio and the Renaissance Houston
Hotel; Funding IV owns the central heated and chilled water
plant building located at Greenway Plaza; and Funding V owns 9
Greenway, the remaining office property in the Greenway Plaza
office portfolio.

(2) The Company owns the principal economic interest in Trammell
Crow Center through its ownership of fee simple title to the
Property (subject to a ground lease and a leasehold estate
regarding the building) and two mortgage notes encumbering the
leasehold interests in the land and the building.

See Note 9, "Investments in Unconsolidated Companies," for a table that
lists the Company's ownership in significant unconsolidated joint ventures and
investments as of December 31, 2003.

See Note 11, "Notes Payable and Borrowings under Credit Facility," for
a list of certain other subsidiaries of the Company, all of which are
consolidated in the Company's financial statements and were formed primarily for
the purpose of obtaining secured debt or joint venture financing.

75

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEGMENTS

The assets and operations of the Company were divided into four
investment segments at December 31, 2003, as follows:

o Office Segment;

o Resort/Hotel Segment;

o Residential Development Segment; and

o Temperature-Controlled Logistics Segment.

Within these segments, the Company owned in whole or in part the
following real estate assets (the "Properties") as of December 31, 2003:

o OFFICE SEGMENT consisted of 72 office properties,
(collectively referred to as the "Office Properties"), located
in 27 metropolitan submarkets in seven states, with an
aggregate of approximately 30.0 million net rentable square
feet. Sixty-three of the Office Properties are wholly-owned
and nine are owned through joint ventures, one of which is
consolidated and eight of which are unconsolidated.

o RESORT/HOTEL SEGMENT consisted of five luxury and destination
fitness resorts and spas with a total of 1,036 rooms/guest
nights and four upscale business-class hotel properties with a
total of 1,771 rooms (collectively referred to as the
"Resort/Hotel Properties"). Eight of the Resort/Hotel
Properties are wholly-owned, and one of the luxury and
destination fitness resorts and spas is owned through a joint
venture that is consolidated.

o RESIDENTIAL DEVELOPMENT SEGMENT consisted of the Company's
ownership of common stock representing interests of 98% to
100% in four residential development corporations
(collectively referred to as the "Residential Development
Corporations"), which in turn, through partnership
arrangements, owned in whole or in part 23 upscale residential
development properties (collectively referred to as the
"Residential Development Properties").

o TEMPERATURE-CONTROLLED LOGISTICS SEGMENT consisted of the
Company's 40% interest in Vornado Crescent Portland
Partnership (the "Temperature-Controlled Logistics
Partnership") and a 56% non-controlling interest in the
Vornado Crescent Carthage and KC Quarry, L.L.C. The
Temperature-Controlled Logistics Partnership owns all of the
common stock, representing substantially all of the economic
interest, of AmeriCold Realty Corporation (the
"Temperature-Controlled Logistics Corporation"), a REIT. As of
December 31, 2003, the Temperature-Controlled Logistics
Corporation directly or indirectly owned 87
temperature-controlled logistics properties (collectively
referred to as the "Temperature-Controlled Logistics
Properties") with an aggregate of approximately 440.7 million
cubic feet (17.5 million square feet) of warehouse space. As
of December 31, 2003, the Vornado Crescent Carthage and KC
Quarry, L.L.C. own two quarries and the related land. The
Company accounts for its interests in the
Temperature-Controlled Logistics Partnership and in the
Vornado Crescent Carthage and KC Quarry, L.L.C. as
unconsolidated equity entities.

See Note 3, "Segment Reporting," for a table showing selected financial
information for each of these investment segments for the years ended December
31, 2003, 2002 and 2001, and total assets, consolidated property level
financing, consolidated other liabilities, and minority interests for each of
these investment segments at December 31, 2003 and 2002.

For purposes of segment reporting as defined in SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information," and this
Annual Report on Form 10-K, the Office Properties, the Resort/Hotel Properties,
the Residential Development Properties and the Temperature-Controlled Logistics
Properties are considered four separate reportable segments, as described above.
However, for purposes of investor communications, the Company classifies its
luxury and destination fitness resorts and spas and Residential

76

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Development Properties as a single group referred to as the "Resort and
Residential Development Sector" due to the similar characteristics of targeted
customers. This group does not contain the four business-class hotel properties.
Instead, for investor communications, the four business-class hotel properties
are classified with the Temperature-Controlled Logistics Properties as the
Company's "Investment Sector."

BASIS OF PRESENTATION

The accompanying consolidated financial statements of the Company
include all direct and indirect subsidiary entities. The equity interests in
those direct and indirect subsidiaries the Company does not own are reflected as
minority interests. All significant intercompany balances and transactions have
been eliminated.

Certain amounts in prior period financial statements have been
reclassified to conform to the current year presentation.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ADOPTION OF NEW ACCOUNTING STANDARDS

SFAS NO. 145. In April 2002, the FASB issued SFAS No. 145, "Rescission
of FASB Statements 4, 44 and 64, Amendment of FASB Statement No. 13, and
Technical Corrections." SFAS No. 145 requires the reporting of gains and losses
from early extinguishment of debt be included in the determination of net income
unless criteria in Accounting Principles Board Opinion No. 30, "Reporting the
Results of Operations," which allows for extraordinary item classification, are
met. The provisions of this Statement related to the rescission of Statement No.
4 are to be applied in fiscal years beginning after May 15, 2002. The Company
adopted this Statement for fiscal 2003 and had no impact beyond the
classification of costs related to early extinguishments of debt, which were
shown in the Company's 2001 Consolidated Statements of Operations as an
extraordinary item.

SFAS NO. 149. In April 2003, the FASB issued SFAS No. 149, "Amendment
of Statement 133 on Derivative Instruments and Hedging Activities." SFAS No. 149
amends and clarifies the financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." In general, SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003, and for
hedging relationships designated after June 30, 2003. The Company adopted SFAS
No. 149 effective July 1, 2003. The adoption of this Statement did not have a
material impact on the Company's financial condition or its results of
operations.

SFAS NO. 150. In May 2003, the FASB issued SFAS No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 establishes standards for how an issuer should classify
and measure certain financial instruments that have both liability and equity
characteristics. Most provisions of this Statement were to be applied to
financial instruments entered into or modified after May 31, 2003, and to
existing instruments as of the beginning of the first interim financial
reporting period after June 15, 2003. On October 29, 2003, the FASB agreed to
defer indefinitely certain provisions of SFAS No. 150 to noncontrolling
interests in limited life subsidiaries. The Company determined that seven of its
consolidated partnerships were limited life subsidiaries. The carrying value of
the minority interests in these partnerships at December 31, 2003 was $14.6
million, which approximated fair value. The Company is in the process of
amending the partnership agreements to give the partnerships indefinite lives.
The adoption of the remainder of SFAS No. 150 on July 1, 2003, had no impact on
the Company's financial condition or its results of operations.

FASB INTERPRETATION 45. In November 2002, the FASB issued
Interpretation 45, "Guarantors' Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others" ("FIN 45"),
which 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 and liability-recognition requirements for a guarantor of certain
types of debt. The new guidance requires a guarantor to recognize a liability at
the inception of a guarantee

77

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

which is covered by the new requirements whether or not payment is probable,
creating the new concept of a "stand-ready" obligation. Initial recognition and
initial measurement provisions are applicable on a prospective basis to
guarantees issued or modified after December 31, 2002. See Note 15,
"Commitments, Contingencies and Litigation" for disclosure of the Company's
guarantees at December 31, 2003. The Company adopted FIN 45 effective January 1,
2003.

FASB INTERPRETATION 46. On January 15, 2003, the FASB approved the
issuance of Interpretation 46, "Consolidation of Variable Interest Entities"
("FIN 46"), as amended, an interpretation of Accounting Research Bulletin No.
51, "Consolidated Financial Statements." Under FIN 46, consolidation
requirements are effective immediately for new Variable Interest Entities
("VIEs") created after January 31, 2003. The consolidation requirements apply to
existing VIEs for financial periods ending after March 15, 2004, except for
Special Purpose Entities which had to be consolidated by December 31, 2003. VIEs
are generally a legal structure used for business enterprises that either do not
have equity investors with voting rights, or have equity investors that do not
provide sufficient financial resources for the entity to support its activities.
The objective of the new guidance is to improve reporting by addressing when a
company should include in its financial statements the assets, liabilities and
activities of another entity such as VIEs. FIN 46 requires VIEs to be
consolidated by a company if the company is subject to a majority of the risk of
loss from the VIE's activities or entitled to receive a majority of the entity's
residual returns or both. FIN 46 also requires disclosures about VIEs that the
company is not required to consolidate but in which it has a significant
variable interest. Certain of the disclosure requirements apply in all financial
statements issued after January 31, 2003, regardless of when the VIEs were
established. These disclosure requirements are as follows: (a) the nature,
purpose, size, and activities of the VIEs; and, (b) the enterprise's maximum
exposure to loss as a result of its involvement with the VIEs. FIN 46 may be
applied prospectively with a cumulative effect adjustment as of the date on
which it is first applied or by restating previously issued financial statements
for one or more years with a cumulative effect adjustment as of the beginning of
the first year restated. Subsequent to January 31, 2003, in connection with the
Hughes Center acquisition, the Company created a VIE by entering into an
exchange agreement with a third party intermediary. This agreement allows the
Company to pursue favorable tax treatment on other properties sold by the
Company within a 180-day period. During the 180-day period, which will end on
June 28, 2004, the third party intermediary is the legal owner of the
properties, although the Company controls the properties, retains all of the
economic benefits and risks associated with these properties and indemnifies the
third party intermediary and, therefore, the Company will fully consolidate
these Properties. On the expiration of the 180-day period, the Company will take
legal ownership of the properties. No other VIEs were created subsequent to
January 31, 2003. Due to the adoption of this Interpretation, the Company has
consolidated GDW LLC, a subsidiary of DMDC, for the year ended December 31,
2003. The Company is in the process of analyzing other entities which existed at
January 31, 2003 to determine if any qualified as VIEs under FIN 46. The Company
does not believe there will be a material impact to the Company's financial
condition or results of operations from the final adoption of FIN 46.

SIGNIFICANT ACCOUNTING POLICIES

ACQUISITION OF OPERATING PROPERTIES. The Company allocates the purchase
price of acquired properties to tangible and identified intangible assets
acquired based on their fair values in accordance with SFAS No. 141, "Business
Combinations."

In making estimates of fair value for purposes of allocating purchase
price, management utilizes sources, including, but not limited to, independent
value consulting services, independent appraisals that may be obtained in
connection with financing the respective property, and other market data.
Management also considers information obtained about each property as a result
of its pre-acquisition due diligence, marketing and leasing activities in
estimating the fair value of the tangible and intangible assets acquired.

The aggregate value of the tangible assets acquired is measured based
on the sum of (i) the value of the property and (ii) the present value of the
amortized in-place tenant improvement allowances over the remaining term of each
lease. Management's estimates of the value of the property are made using models
similar to those used by independent appraisers. Factors considered by
management in its analysis include an estimate of carrying costs such as real
estate taxes, insurance and other operating expenses and estimates of lost
rentals during the expected lease-up

78

period assuming current market conditions. The value of the property is then
allocated among building, land, site improvements and equipment. The value of
tenant improvements is separately estimated due to the different depreciable
lives.

The aggregate value of intangible assets acquired is measured based on
the difference between (i) the purchase price and (ii) the value of the tangible
assets acquired as defined above. This value is then allocated among
above-market and below-market in-place lease values, costs to execute similar
leases (including leasing commissions, legal expenses and other related
expenses), in-place lease values and customer relationship values.

Above-market and below-market in-place lease values for acquired
properties are calculated based on the present value (using a market interest
rate which reflects the risks associated with the leases acquired) of the
difference between (i) the contractual amounts to be paid pursuant to the
in-place leases and (ii) management's estimate of fair market lease rates for
the corresponding in-place leases, measured over a period equal to the remaining
non-cancelable term of the lease for above-market leases and the initial term
plus the term of the below-market fixed rate renewal option, if any, for
below-market leases. The Company performs this analysis on a lease by lease
basis. The capitalized above-market lease values are amortized as a reduction to
rental income over the remaining non-cancelable terms of the respective leases.
The capitalized below-market lease values are amortized as an increase to rental
income over the initial term plus the term of the below-market fixed rate
renewal option, if any, of the respective leases.

Management estimates costs to execute leases similar to those acquired
at the property at acquisition based on current market conditions. These costs
are recorded based on the present value of the amortized in-place leasing costs
on a lease by lease basis over the remaining term of each lease.

The in-place lease values and customer relationship values are based on
management's evaluation of the specific characteristics of each customer's lease
and the Company's overall relationship with that respective customer.
Characteristics considered by management in allocating these values include the
nature and extent of the Company's existing business relationships with the
customer, growth prospects for developing new business with the customer, the
customer's credit quality and the expectation of lease renewals, among other
factors. The in-place lease value and customer relationship value are both
amortized to expense over the initial term of the respective leases and
projected renewal periods, but in no event does the amortization period for the
intangible assets exceed the remaining depreciable life of the building.

Should a tenant terminate its lease, the unamortized portion of the
in-place lease value and the customer relationship value and above-market and
below-market in-place lease values would be charged to expense.

NET INVESTMENTS IN REAL ESTATE. Real estate, for operating properties,
is carried at cost, net of accumulated depreciation. Betterments, major
renovations, and certain costs directly related to the acquisition, improvements
and leasing of real estate are capitalized. Expenditures for maintenance and
repairs are charged to operations as incurred. Depreciation is computed using
the straight-line method over the estimated useful lives of the assets, as
follows:

Buildings and Improvements 5 to 40 years
Tenant Improvements Terms of leases
Furniture, Fixtures and Equipment 3 to 5 years

Real Estate also includes land and capitalized project costs associated
with the acquisition and the development of land, construction of residential
units, amenities and facilities, interest and loan origination costs on land
under development, and certain general and administrative expenses to the extent
they benefit the development of land. The Company capitalizes interest costs as
a part of the historical cost of acquiring certain assets that qualify for
capitalization under SFAS No. 34, "Capitalization of Interest Cost." The
Company's assets that qualify for accounting treatment under this pronouncement
must require a period of time to prepare for their intended use, such as the
Company's land development project assets that are intended for sale or lease
and constructed as discrete projects. In accordance with the authoritative
guidance, the interest cost capitalized by the Company is the interest

79

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

cost recognized on borrowings and other obligations. The amount capitalized is
an allocation of the interest cost incurred during the period required to
complete the asset. The interest rate for capitalization purposes is based on
the rates of the Company's outstanding borrowings.

An impairment loss is recognized on a property by property basis on
Properties classified as held for use, when expected undiscounted cash flows are
less than the carrying value of the property. In cases where the Company does
not expect to recover its carrying costs on a Property, the Company reduces its
carrying costs to fair value, and for Properties held for disposition, the
Company reduces its carrying costs to the fair value less estimated selling
costs. In accordance with SFAS No. 144, the Company records assets held for sale
at the lower of carrying value or sales price less costs to sell. Depreciation
expense is not recognized on Properties classified as held for disposition.

CONCENTRATION OF REAL ESTATE INVESTMENTS. The Company's Office
Properties are located primarily in the Dallas and Houston, Texas, metropolitan
areas. As of December 31, 2003, the Company's Office Properties in Dallas and
Houston represented an aggregate of approximately 72% of its office portfolio
based on total net rentable square feet. As a result of this geographic
concentration, the operations of the Company could be adversely affected by a
recession or general economic downturn in the areas where these Properties are
located.

CASH AND CASH EQUIVALENTS. The Company considers all highly liquid
investments with an original maturity of 90 days or less to be cash and cash
equivalents.

RESTRICTED CASH AND CASH EQUIVALENTS. Restricted cash includes escrows
established pursuant to certain mortgage financing arrangements for real estate
taxes, insurance, security deposits, ground lease expenditures, capital
expenditures and monthly interest carrying costs paid in arrears and capital
requirements related to cash flow hedges. At December 31, 2003, approximately
$97.2 million was included in "Restricted cash" in the Company's Consolidated
Balance Sheets for escrow established pursuant to the acquisition of the five
Office Properties and seven retail parcels within Hughes Center subsequent to
December 31, 2003.

ALLOWANCE FOR DOUBTFUL ACCOUNTS. Accounts receivable are reduced by an
allowance for amounts that may become uncollectible in the future. The Company's
accounts receivable balance consists of rents and operating cost recoveries due
from customers. The Company also maintains an allowance for deferred rent
receivables, which arise from the straight-lining of rents as necessary. The
allowance for doubtful accounts is reviewed at least quarterly for adequacy by
reviewing such factors as the credit quality of our customers, any delinquency
in payment, historical trends and current economic conditions. If the Company's
assumptions regarding the collectibility of accounts receivable prove incorrect,
the Company could experience write-offs in excess of the allowance for doubtful
accounts, which would result in a decrease in the Company's earnings.

INVESTMENTS IN UNCONSOLIDATED COMPANIES. Investments in unconsolidated
joint ventures and companies are accounted for under the equity method because
the Company does not control these entities. These investments are recorded
initially at cost and subsequently adjusted for equity in earnings and cash
contributions and distributions. The Company also recognizes an impairment loss
on an investment by investment basis when the fair value experiences a
non-temporary decline below the carrying value. See Note 9, "Investment in
Unconsolidated Companies."

Upon the adoption of SFAS No. 142 on January 1, 2002, the
Temperature-Controlled Logistics Corporation compared the fair value of
Temperature-Controlled Logistics Properties based on discounted cash flows to
the carrying value of Temperature-Controlled Logistics Properties and the
related goodwill. Based on this test, the fair value did not exceed its carrying
value, and the second step of the impairment test was performed to measure the
impairment loss. The second step compared the implied fair value of goodwill
with the carrying amounts of goodwill which exceeded the fair value on January
1, 2002. As a result, the Company recognized a goodwill impairment charge of
approximately $9.2 million, net of minority interest, due to the initial
application of this Statement. This charge was reported as a change in
accounting principle and is included in the Company's Consolidated Statements of
Operations as a "Cumulative effect of a change in accounting principle" for the
year ended December 31, 2002.

80

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

OTHER ASSETS. Other assets consist principally of leasing costs,
deferred financing costs, intangible assets and marketable securities. Leasing
costs are amortized on a straight-line basis during the terms of the respective
leases, and unamortized leasing costs are written off upon early termination of
lease agreements. Deferred financing costs are amortized on a straight-line
basis (when it approximates the effective interest method) over the shorter of
the expected lives or the terms of the respective loans. The effective interest
method is used to amortize deferred financing costs on loans where the
straight-line basis does not approximate the effective interest method, over the
terms of the respective loans.

Intangible assets, which include memberships, trademarks, and net
intangible leases created by SFAS No. 141 are amortized and reviewed annually
for impairment. Upon the formation of Desert Mountain Properties, L.P. in August
1997, the partnership allocated a portion of the fair value of its assets of
Desert Mountain to the remaining club memberships and recorded the amount as an
intangible asset.

Marketable securities are considered either available-for-sale, trading
or held-to-maturity, in accordance with SFAS No. 115, "Accounting for Certain
Investments in Debt and Equity Securities." Available-for-sale securities are
marked to market value on a monthly basis. The corresponding unrealized gains
and losses are included in accumulated other comprehensive income. When a
decline in the fair value of marketable securities is determined to be other
than temporary, the cost basis is written down to fair value and the amount of
the write-down is included in earnings for the applicable period. A decline in
the fair value of a marketable security is deemed non-temporary if its cost
basis has exceeded its fair value for a period of six to nine months. Trading
securities are marked to market on a monthly basis. The unrealized gains and
losses on trading securities are included in earnings. Held-to-maturity
securities are carried at amortized cost.

FAIR VALUE OF FINANCIAL INSTRUMENTS. The carrying values of cash and
cash equivalents, short-term investments, accounts receivable, accounts payable,
and other liabilities are reasonable estimates of their fair values. The fair
value of the Company's notes payable is most sensitive to fluctuations in
interest rates. Since the Company's $0.9 billion in variable rate debt changes
with these changes in interest rates, it also approximates the fair market value
of the underlying debt. The Company reduces the variability in future cash flows
by maintaining a sizable portion of its debt with fixed payment characteristics.
Although the cash flow to the Company does not change, the fair value of the
$1.7 billion in fixed rate debt, based upon current interest rates for similar
debt instruments with similar payment terms and expected payoff dates, would be
approximately $1.9 billion as of December 31, 2003. Disclosure about fair value
of financial instruments is based on pertinent information available to
management as of December 31, 2003.

DERIVATIVE FINANCIAL INSTRUMENTS. SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," as amended and interpreted,
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and for
hedging activities. The Company's objective in using derivatives is to add
stability to interest expense and to manage its exposure to interest rate
movements or other identified risks. Derivative financial instruments are used
to convert a portion of the Company's variable rate debt to fixed rate debt and
to manage its fixed to variable rate debt ratio.

To accomplish this objective, the Company primarily uses interest rate
swaps as part of its cash flow hedging strategy. Interest rate swaps designated
as cash flow hedges are entered into to achieve a fixed interest rate on
variable rate debt.

The Company measures its derivative instruments and hedging activities
at fair value and records them as an asset or liability, depending on the
Company's rights or obligations under the applicable derivative contract. For
derivatives designated as fair value hedges, the changes in the fair value of
both the derivative instrument and the hedged items are recorded in earnings.
Derivatives used to hedge the exposure to variability in expected future cash
flows, or other types of forecasted transactions, are considered cash flow
hedges. For derivatives designated as cash flow hedges, the effective portions
of changes in fair value of the derivative are reported in other comprehensive
income and are subsequently reclassified into earnings when the hedged item
affects earnings. Changes in fair value of derivative instruments not designated
as hedges and ineffective portions of hedges are recognized in earnings in the
affected period. The Company assesses the effectiveness of each hedging
relationship by comparing the changes

81

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

in fair value or cash flows of the derivative hedging instrument with the
changes in fair value or cash flows of the designated hedged item or
transaction.

As of December 31, 2003, no derivatives were designated as fair value
hedges or hedges of net investments in foreign operations. The Company does not
use derivatives for trading or speculative purposes.

At December 31, 2003, derivatives with a negative fair value of $13.8
million were included in "Accounts payable, accrued expenses and other
liabilities." The change in net unrealized gains of $9.7 million in 2003 for
derivatives designated as cash flow hedges is separately disclosed in the
Consolidated Statements of Shareholders' Equity.

Amounts reported in accumulated other comprehensive income related to
derivatives will be reclassified to interest expense as interest payments are
made on the Company's variable rate debt. The change in net unrealized
gains/losses on cash flow hedges reflects a reclassification of $18.6 million of
net unrealized gains or losses from other comprehensive income to interest
expense during 2003. During 2004, the Company estimates that an additional $10.1
million of unrealized losses will be reclassified to interest expense.

GAIN RECOGNITION ON SALE OF REAL ESTATE ASSETS. The Company performs
evaluations of each real estate sale to determine if full gain recognition is
appropriate in accordance with SFAS No. 66, "Accounting for Sales of Real
Estate." The application of SFAS No. 66 can be complex and requires the Company
to make assumptions including an assessment of whether the risks and rewards of
ownership have been transferred, the extent of the purchaser's investment in the
property being sold, whether the Company's receivables, if any, related to the
sale are collectible and are subject to subordination, and the degree of the
Company's continuing involvement with the real estate asset after the sale. If
full gain recognition is not appropriate, the Company accounts for the sale
under an appropriate deferral method.

REVENUE RECOGNITION - OFFICE PROPERTIES. The Company, as a lessor, has
retained substantially all of the risks and benefits of ownership of the Office
Properties and accounts for its leases as operating leases. Income on leases,
which includes scheduled increases in rental rates during the lease term and/or
abated rent payments for various periods following the tenant's lease
commencement date, is recognized on a straight-line basis. Deferred rent
receivable represents the excess of rental revenue recognized on a straight-line
basis over cash received pursuant to the applicable lease provisions. Office
Property leases generally provide for the reimbursement of annual increases in
operating expenses above base year operating expenses ("excess operating
expenses"), payable to the Company in equal installments throughout the year
based on estimated increases. Any differences between the estimated increase
amounts are adjusted at year end based upon actual expenses incurred.

REVENUE RECOGNITION - RESORT/HOTEL PROPERTIES. On February 14, 2002,
the Company executed an agreement with COPI, pursuant to which COPI transferred
to subsidiaries of the Company, in lieu of foreclosure, COPI's lessee interests
in the eight Resort/Hotel Properties previously leased to COPI. See Note 23,
"COPI." For all of the Resort/Hotel Properties, except the Omni Austin Hotel,
the period February 14, 2002 to December 31, 2003, the Company recognized
revenues for room sales and guest nights and revenues from guest services
whenever rooms were occupied and services had been rendered. Lease revenue is
recognized for the Omni Austin Hotel.

Prior to the enactment of the REIT Modernization Act, the Company's
status as a REIT for federal income tax purposes prohibited it from acting as
lessee for the Resort/Hotel Properties. During 2001, the Company leased all of
the Resort/Hotel Properties, except the Omni Austin Hotel, to subsidiaries of
COPI pursuant to eight separate leases. The Omni Austin Hotel had been leased
under a separate lease to HCD Austin Corporation. The leases provided for the
payment by the lessee of the Resort/Hotel Property of (i) base rent, with
periodic rent increases if applicable, (ii) percentage rent based on a
percentage of gross receipts or gross room revenues, as applicable, above a
specified amount, and (iii) a percentage of gross food and beverage revenues
above a specified amount for certain Resort/Hotel Properties. Base rental income
under these leases was recognized on a straight-line basis over the terms of the
respective leases. Contingent revenue was recognized when the thresholds upon
which it is based had been met.

82

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

REVENUE RECOGNITION - RESIDENTIAL DEVELOPMENT PROPERTIES. The Company
uses the accrual method to recognize earnings from the sale of Residential
Development Properties when a third-party buyer has made an adequate cash down
payment and has attained the attributes of ownership. If a sale does not qualify
for the accrual method of recognition, deferral methods are used as appropriate
including the percentage-of-completion method. In certain cases, when the
Company receives an inadequate cash down payment and takes a promissory note for
the balance of the sales price, revenue recognition is deferred until such time
as sufficient cash is received to meet minimum down payment requirements. The
cost of residential property sold is defined based on the type of product being
purchased. The cost of sales for residential lots is generally determined as a
specific percentage of the sales revenues recognized for each Residential
Development project. The percentages are based on total estimated development
costs and sales revenue for each Residential Development project. These
estimates are revised annually and are based on the then-current development
strategy and operating assumptions utilizing internally developed projections
for product type, revenue and related development costs. The cost of sale for
residential units (such as townhomes and condominiums) is determined using the
relative sales value method. If the residential unit has been sold prior to the
completion of infrastructure cost, and those uncompleted costs are not
significant in relation to total costs, the full accrual method is utilized.
Under this method, 100% of the revenue is recognized, and a commitment liability
is established to reflect the allocated estimated future costs to complete the
residential unit. If the Company's estimates of costs or the percentage of
completion is incorrect, it could result in either an increase or decrease in
cost of sales expense or revenue recognized and therefore, an increase or
decrease in net income.

At the Company's golf clubs, members are expected to pay an advance
initiation fee or refundable deposit upon their acceptance as a member to the
club. These initiation fees and deposits vary in amount based on a variety of
factors such as the supply and demand for the Company's services in each
particular market, number of golf courses and breadth of amenities available to
the members, and the prestige of having the right to membership of the club. A
significant portion of the Company's initiation fees are deferred equity
memberships which are recorded as deferred revenue when sold and recognized as
membership fee revenue on a straight-line basis over the number of months
remaining until the turnover date of the club to the members. Refundable
deposits relate to the non-equity membership portion of each membership sold
which will be refunded upon resignation by the member and upon reissuance of the
membership, or at the termination of the membership as provided by the
membership agreement. The refundable initiation deposit is not recorded as
revenue but rather as a liability due to the refundable nature of the deposit.
The deferred revenue and refundable initiation deposits, net of related deferred
expenses, are presented in the Company's Consolidated Balance Sheets in Accounts
payable, accrued expenses, and other liabilities.

INCOME TAXES. The Company has elected to be taxed as a REIT under
Sections 856 through 860 of the Code and operates in a manner intended to enable
it to continue to qualify as a REIT. As a REIT, the Company generally will not
be subject to corporate federal income tax on net income that it currently
distributes to its shareholders, provided that the Company satisfies certain
organizational and operational requirements including the requirement to
distribute at least 90% of its REIT taxable income to its shareholders each
year. Accordingly, the Company does not believe it will be liable for federal
income taxes on its REIT taxable income or in most of the states in which it
operates.

The Company has elected to treat certain of its corporate subsidiaries
as taxable REIT subsidiaries ("TRS"). In general, a TRS of the Company may
perform additional services for tenants of the Company and generally may engage
in any real estate or non-real estate business (except for the operation or
management of health care facilities or lodging facilities or the provision to
any person, under a franchise, license or otherwise, of rights to any brand name
under which any lodging facility or health care facility is operated). A TRS is
subject to corporate federal income tax, state and local taxes.

USE OF ESTIMATES. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes. Actual results
could differ from those estimates.

83

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

STOCK-BASED COMPENSATION. Effective January 1, 2003, the Company
adopted the fair value expense recognition provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," on a prospective basis as permitted
by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure," which requires that the fair value of stock options at the date of
grant be amortized ratably into expense over the appropriate vesting period.
During the year ended December 31, 2003, the Company granted stock options and
recognized compensation expense that was not significant to its results of
operations. With respect to the Company's stock options which were granted prior
to 2003, the Company accounted for stock-based compensation using the intrinsic
value method prescribed in Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," and related Interpretations ("APB
No. 25"). Under APB No. 25, compensation cost is measured as the excess, if any,
of the quoted market price of the Company's common shares at the date of grant
over the exercise price of the option granted. Compensation cost for stock
options, if any, is recognized ratably over the vesting period. During the year
ended December 31, 2003, no compensation cost was recognized for grants of stock
options made prior to 2003 under the Company's stock option plans ("the Plans")
because the Company's policy is to grant stock options with an exercise price
equal to the quoted closing market price of the Company's common shares on the
grant date. Had compensation cost for the Plans been determined based on the
fair value at the grant dates for awards under the Plans consistent with SFAS
No. 123, the Company's net income (loss) and (loss) earnings per share would
have been reduced to the following pro forma amounts:

84

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

EARNINGS PER SHARE. SFAS No. 128, "Earnings Per Share" ("EPS"),
specifies the computation, presentation and disclosure requirements for earnings
per share.

Basic EPS is computed by dividing net income available to common
stockholders by the weighted average number of shares outstanding for the
period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock, where such exercise or conversion would result in a lower EPS
amount. The Company presents both basic and diluted earnings per share.

The following table presents a reconciliation for the years ended
December 31, 2003, 2002 and 2001 of basic and diluted earnings per share from
"Income (loss) before discontinued operations and cumulative effect of a change
in accounting principle" to "Net (loss) income available to common
shareholders." The table also includes weighted average shares on a basic and
diluted basis.

- ----------------
(1) Anti-dilutive shares not included are 1,527.

85

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

This table presents supplemental cash flows disclosures for the years
ended December 31, 2003, 2002 and 2001.

SUPPLEMENTAL DISCLOSURE TO STATEMENTS OF CASH FLOWS

86

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

3. SEGMENT REPORTING

For purposes of segment reporting as defined in SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information," the
Company currently has four major investment segments based on property type: the
Office Segment; the Resort/Hotel Segment; the Residential Development Segment;
and the Temperature-Controlled Logistics Segment. Management utilizes this
segment structure for making operating decisions and assessing performance.

The Company uses FFO as the measure of segment profit or loss. FFO, as
used in this document, is based on the definition adopted by the Board of
Governors of the National Association of Real Estate Investment Trusts
("NAREIT") and means:

o Net Income (Loss) - determined in accordance with GAAP;

o excluding gains (losses) from sales of depreciable operating
property;

o excluding extraordinary items (as defined by GAAP);

o plus depreciation and amortization of real estate assets; and

o after adjustments for unconsolidated partnerships and joint
ventures.

The Company calculates FFO available to common shareholders in the same
manner, except that Net Income (Loss) is replaced by Net Income (Loss) Available
to Common Shareholders.

NAREIT developed FFO as a relative measure of performance of an equity
REIT to recognize that income-producing real estate historically has not
depreciated on the basis determined under GAAP. The Company considers FFO
available to common shareholders an appropriate measure of performance for an
equity REIT and for its investment segments. However, FFO available to common
shareholders and FFO should not be considered as alternatives to net income
determined in accordance with GAAP as an indication of the Company's operating
performance.

The Company's measure of FFO available to common shareholders may not
be comparable to similarly titled measures of other REITs, if those REITs apply
the definition of FFO in a different manner than the Company.

87

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Selected financial information related to each segment for the years
ended December 31, 2003, 2002 and 2001, and total assets, consolidated property
level financing, consolidated other liabilities, and minority interest for each
of the segments at December 31, 2003, and 2002, are presented below:

See footnotes to the following table.

88

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

See footnotes to the following table.

89

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

See footnotes to the following table.

- ----------

(1) Total property revenue includes lease termination fees (net of the
write-off of deferred rent receivables) of approximately $9.3 million,
$16.7 million, and $8.6 million for the years ended December 31, 2003,
2002, and 2001 respectively.

(2) The Company sold its interest in the The Woodlands Land Development
Company, L.P. on December 31, 2003.

(3) For the purposes of this Note, Corporate and Other includes the total
of: income from investment land sales, net, interest and other income,
corporate general and administrative expense, interest expense,
amortization of deferred financing costs, preferred return paid to GMAC
Commercial Mortgage Corporation ("GMACCM") for 2002, impairment and
other charges related to COPI of $92.8 million for 2001, and other
expenses.

(4) The Company's net book value for the Residential Segment includes total
assets, consolidated property level financing, consolidated other
liabilities and minority interest, totaling $523 million for the year
ended December 31, 2003. The primary components of net book value are
$345 million for CRDI, consisting of Tahoe Mountain Resort properties
of $154 million and Colorado properties of $191 million, $137 million
for Desert Mountain and $41 million for other land development
properties.

(5) Total assets by segment are inclusive of investments in unconsolidated
companies.

(6) Land held for investment or development related to the Office Segment
is $72.7 million.

(7) Inclusive of corporate bonds, credit facility, capital leases and, for
2003, a defeased loan.

90

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4. ACQUISITIONS

OFFICE SEGMENT

On August 26, 2003, the Company acquired The Colonnade, an 11-story,
216,000 square foot Class A office tower, located in the Coral Gables submarket
in Miami, Florida. The Company acquired the Office Property for approximately
$51.4 million, funded by the Company's assumption of a $38.0 million loan from
Bank of America and a draw on the Company's credit facility. This Office
Property is wholly-owned and included in the Company's Office Segment.

In November 2003, the Company entered into a contract to purchase from
the Rouse Company its investment in the Hughes Center office portfolio in Las
Vegas, Nevada. Hughes Center contains seven Class A office properties and nine
retail parcels. The total purchase price for the seven Office Properties and the
nine retail parcels purchased by the Company in December 2003 and February 2004
was approximately $214.2 million, $119.2 million in cash and the remaining $95.0
million in assumed debt.

On December 31, 2003, the Company acquired two of the Class A Office
Properties and two of the retail parcels located within Hughes Center, for
approximately $38.9 million, funded by the Company's assumption of a $9.6
million mortgage loan from The Northwestern Mutual Life Insurance Company and by
a portion of the proceeds from the sale of the Company's interests in The
Woodlands. See Note 6, "Other Dispositions," for information on the sale of
these interests. These Office Properties and retail parcels are wholly-owned and
included in the Office Segment.

Subsequent to December 31, 2003, the Company acquired an additional
five Class A Office Properties and seven retail parcels located within Hughes
Center. One of these Office Properties is owned through a joint venture in which
the Company owns a 67% interest. The remaining four Office Properties are
wholly-owned by the Company. The Company acquired these five Office Properties
and seven retail parcels for approximately $175.3 million, funded by the
Company's assumption of approximately $85.4 million mortgage loans and by a
portion of the proceeds from the sale of the Company's interests in The
Woodlands.

In connection with the Hughes Center acquisition, the Company entered
into an exchange agreement with a third party intermediary for six of the Office
Properties and the nine retail parcels. This agreement is for a maximum term of
180 days and allows the Company to pursue favorable tax treatment on other
properties sold by the Company within this period. During the 180-day period,
which will end on June 28, 2004, the third party intermediary is the legal owner
of the properties, although the Company controls the properties, retains all of
the economic benefits and risks associated with these properties and indemnifies
the third party intermediary and, therefore, the Company will fully consolidate
these Properties. On the expiration of the 180-day period, the Company will take
legal ownership of the properties.

On August 29, 2002, the Company acquired Johns Manville Plaza, a
29-story, 675,000 square foot Class A office building located in Denver,
Colorado. The Company acquired this Office Property for approximately $91.2
million, funded by a draw on the Company's credit facility. This Office Property
is wholly-owned and included in the Company's Office Segment.

On November 26, 2002, the Company purchased Duddlesten Ventures-I,
Ltd.'s 20% interest in the Crescent Duddlesten Hotel Partnership for $11.1
million, funded by a draw on the Company's credit facility, and increasing the
Company's ownership percentage from 80% to 100%. This partnership owned 3.79
acres of undeveloped land in downtown Houston, and therefore the Company
recorded the $11.1 million as an increase to land. See Note 6, "Other
Dispositions," for information regarding the December 31, 2002 sale of
approximately 2.32 acres of this undeveloped land near the Houston Convention
Center, included in 5.5 acres sold on December 31, 2002. The remaining 1.47
acres in downtown Houston are wholly-owned and included in the Company's Office
Segment.

91

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

RESIDENTIAL DEVELOPMENT SEGMENT

On August 14, 2003, CRDI, a consolidated subsidiary of the Company,
completed the purchase of a tract of undeveloped land in Eagle County, Colorado,
for approximately $15.5 million, funded by a draw on the Company's credit
facility.

5. DISCONTINUED OPERATIONS

In August 2001, the FASB issued SFAS No. 144 which requires that the
results of operations of assets sold or held for sale, including any gains or
losses recognized, be disclosed separately in the Company's Consolidated
Statements of Operations. The Company adopted SFAS No. 144 on January 1, 2002.
In accordance with SFAS No. 144, the results of operations of assets sold or
held for sale have been presented as "Income from discontinued operations, net
of minority interests," gain or loss on the assets sold or held for sale have
been presented as "(Loss) gain on real estate from discontinued operations, net
of minority interests" and impairments on the assets sold or held for sale have
been presented as "Impairment charges related to real estate assets from
discontinued operations, net of minority interests" in the accompanying
Consolidated Statements of Operations for the years ended December 31, 2003,
2002 and 2001. The carrying value of the assets held for sale has been reflected
as "Properties held for disposition, net" in the accompanying Consolidated
Balance Sheets as of December 31, 2003 and December 31, 2002.

ASSETS SOLD

OFFICE SEGMENT

The following table presents the dispositions of consolidated Office
Properties for the years ended December 31, 2003 and 2002, including the
Property sold, location of the Property, net proceeds received, and net gain
(loss) on sale.

- ----------

(1) The sale included the Company's four remaining Office Properties in The
Woodlands. These properties were held through Woodlands Office Equities -
'95 Limited Partnership ("WOE"), which was owned 75% by the Company and 25%
by the Woodlands Commercial Properties Company, L.P.

(2) This sale included two Office Properties held through WOE.

(3) This sale also generated a note receivable in the amount of $10.6 million.
The interest rate on the note was 7.5% and all principal and accrued
interest was received on February 19, 2003.

RESIDENTIAL DEVELOPMENT SEGMENT

On December 31, 2002, CRDI, a consolidated subsidiary of the Company,
completed the sale of its 50% interest in two Colorado transportation companies,
EWRT I and EWRT II, to an affiliate of CRDI business partners for $7.0 million,
consisting of $1.4 million in cash and a $5.6 million note receivable. The note
bears interest at 9.0%, with principal and interest payments due annually
beginning December 31, 2004 and a maturity date of December 31, 2008. The
Company recognized a $1.4 million gain, after tax, related to the sale of these
companies.

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CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

BEHAVIORAL HEALTHCARE PROPERTIES

See Note 24, "Behavioral Healthcare Properties," for information on the
dispositions of these properties.

ASSETS HELD FOR SALE

As of December 31, 2003, three Office Properties were classified as
held for sale in accordance with SFAS No. 144. Each Property is currently being
marketed for sale and the Company anticipates the Properties will be sold in
2004.

As of December 31, 2003, the 1800 West Loop South Office Property
located in the West Loop/Galleria submarket in Houston, Texas, was held for
sale. During the year ended December 31, 2003, the Company recognized an
approximately $13.9 million impairment charge, net of minority interests, on the
1800 West Loop South Office Property.

In addition, the Liberty Plaza Office Property located in the
Quorum/Bent Tree submarket in Dallas, Texas, was held for sale as of December
31, 2003. During the fourth quarter of 2003, the Company recognized an
approximately $3.6 million impairment charge, net of minority interests, on the
Liberty Plaza Office Property.

The 12404 Park Central Office Property located in the LBJ Freeway
submarket in Dallas, Texas, was also held for sale as of December 31, 2003.
During the year ended December 31, 2003, the Company recognized an approximately
$2.9 million impairment charge, net of minority interests, on the 12404 Park
Central Office Property.

SUMMARY OF ASSETS HELD FOR SALE

The following table indicates the major classes of assets of the
Properties held for sale as of December 31, 2003, and December 31, 2002.

- ----------

(1) Includes three Office Properties and one behavioral healthcare property.

(2) Includes five Office Properties and seven behavioral healthcare properties.

93

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following tables present rental revenues, operating and other
expenses, depreciation and amortization, unitholder minority interests, net
income, gain on sale of properties, and impairments of real estate for years
ended December 31, 2003, 2002, and 2001, for properties included in discontinued
operations.

6. OTHER DISPOSITIONS

The gains and losses for consolidated asset dispositions during the
years ended December 31, 2003, 2002 and 2001, listed below in this Note did not
meet the criteria which would require reporting under SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets." Accordingly, the related
gains and losses from these consolidated asset dispositions are included in the
Company's Consolidated Statements of Operations as "Loss on property sales,
net."

The gains and losses for all unconsolidated asset dispositions result
in an increase or decrease in the "Equity in net income (loss) of unconsolidated
companies," which is reflected in the Company's Consolidated Statements of
Operations.

The following table presents the dispositions of consolidated Office
Properties for the year ended December 31, 2001, including the property sold,
location of the property, net proceeds received, and net gain (loss) on sale.

- ----------

(1) This sale included two Office Properties.

(2) These Office Properties were held through WOE.

94

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

OFFICE SEGMENT - UNDEVELOPED LAND - CONSOLIDATED

The following table presents the significant dispositions of
undeveloped land for the years end December 31, 2003, 2002 and 2001 including
location of the land, the acreage, net proceeds received, and net gain on sale
included in Income from investment land sales, net in the Consolidated
Statements of Operations.

- ----------

(1) This sale also generated a note receivable in the amount of $11.8 million,
with annual installments of principal and interest payments beginning June
27, 2004, through maturity on June 27, 2010. The principal payment amounts
are calculated based upon a 20-year amortization and the interest rate is 4%
for the first two years and thereafter the prime rate, as defined in the
note, through maturity.

(2) Under the terms of the purchase and sale contract, the purchaser has options
to purchase two additional parcels of undeveloped land from the Company. The
first parcel is comprised of approximately 3.47 acres and has a purchase
option closing deadline of June 2005. Under the terms of the contract, the
Company will lease this parcel to the purchaser from December 2002 through
June 2005. The purchase option closing deadline for the second parcel of
approximately 1.59 acres is June 2007.

OFFICE SEGMENT - UNCONSOLIDATED

During the year ended December 31, 2002, The Woodlands Commercial
Properties Company, L.P. ("Woodlands CPC") sold three office properties and its
50% interest in one industrial property located within The Woodlands, Texas. The
sales generated net proceeds, after the repayment of debt, of approximately
$12.1 million, of which the Company's portion was approximately $6.4 million.
The sales generated a net gain of approximately $13.5 million, of which the
Company's portion was approximately $7.1 million. The proceeds were used
primarily to pay down the Company's credit facility.

On December 19, 2002, the Woodlands CPC sold its 50% interest in the
Woodlands Mall partnership located in The Woodlands, Texas. The sale generated
net proceeds of approximately $38.4 million, of which the Company's 52.5%
interest was approximately $20.2 million. The net gain on the sale of the
property was approximately $33.6 million, of which the Company's portion was
approximately $17.7 million. The proceeds were used primarily to pay down the
Company's credit facility.

During the year ended December 31, 2001, the Woodlands CPC sold one
office/venture tech property located within the Woodlands, Texas. The sale
generated net proceeds, after the repayment of debt, of approximately $2.7
million, of which the Company's portion was approximately $1.3 million. The sale
generated a gain of approximately $3.5 million, of which the Company's portion
was approximately $1.7 million. The funds were used primarily to pay down the
Company's credit facility.

During the year ended December 31, 2001, the Woodlands Land Development
Company, L.P. ("WLDC") sold two office properties and one retail property
located within the Woodlands, Texas. The sales generated net proceeds, after the
repayment of debt, of approximately $41.8 million, of which the Company's
portion was

95

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

approximately $19.7 million. The sale generated a gain of $13.3 million, of
which the Company's portion was $3.8 million. The proceeds were used primarily
to pay down the Company's credit facility.

RESORT/HOTEL SEGMENT - UNDEVELOPED LAND - CONSOLIDATED

On September 30, 2002, the Company completed the sale of 30 acres of
land adjacent to the Company's Canyon Ranch - Tucson Resort/Hotel Property,
located in Tucson, Arizona, to an affiliate of the third party management
company of the Company's Canyon Ranch Resort/Hotel Properties. The sales price
of the land was approximately $9.4 million, for which the Company received $1.9
million of cash proceeds and a promissory note in the amount of $7.5 million
with an interest rate at 6.5%, payable quarterly and maturing on October 1,
2007. The note receivable balance at December 31, 2003 was approximately $5.6
million. The Company recognized a net gain of approximately $5.5 million
included in income from investment land sales, net in the Consolidated
Statements of Operations for 2002. The net cash proceeds from the sale of the
land were used to pay down the Company's credit facility. This land was
wholly-owned by the Company. The Company has committed to fund a $2.4 million
construction loan to the purchaser, which will be secured by 9 developed lots
and a $0.4 million letter of credit. The Company had not funded any of the $2.4
million commitment as of December 31, 2003.

RESIDENTIAL DEVELOPMENT SEGMENT -UNCONSOLIDATED

On December 31, 2003, the Company sold all of its interests in The
Woodlands, Texas, to a subsidiary of the Rouse Company. The interests sold by
the Company consist of:

o a 52.5% economic interest, including a 10% earned promotional interest,
in WLDC, the partnership through which the Company owned its interest
in The Woodlands residential development property, and a promissory
note due in 2007 in the original principal amount of $10.6 million from
WLDC;

o a 75% interest in Woodlands Office Equities - '95 Limited Partnership,
the partnership through which the Company owned its interests in four
office properties located in The Woodlands;

o a 52.5% economic interest, including a 10% earned promotional interest,
in Woodlands CPC; and

o a 52.5% economic interest, including a 10% earned promotional interest,
in The Woodlands Operating Company, L.P.

Total consideration to the Company for the sale of its interests in The
Woodlands was $387.0 million, approximately $202.8 million in cash and
approximately $184.2 million in assumption of debt by the purchaser. The Company
received approximately $18.0 million of the $202.8 million cash component prior
to closing in the form of partnership distributions net of working capital
adjustments. The debt represents 52.5% of the debt of the unconsolidated
partnerships through which the Company owned its interests in The Woodlands. The
sale resulted in a net gain of approximately $83.9 million, $49.2 million net of
tax, to the Company. The Company allocated $15.0 million of the total
consideration, which generated a $2.3 million net loss included in "Gain on real
estate from discontinued operations, net of minority interests" in the Company's
Consolidated Statements of Operations to the sale of its interest in Woodland's
Office Equities - '95 Limited Partnership, which had four remaining office
properties. These Office Properties were consolidated by the Company and
included in its Office Segment and were classified as held for sale. The
remaining $86.2 million gain is included in "Income from sale of investment in
unconsolidated company, net" in the Company's Consolidated Statements of
Operation.

Prior to the sale on December 31, 2003, and at December 31, 2002, $57.5
million and $67.5 million, respectively, were included in "Investment in
unconsolidated companies" on the Consolidated Balance Sheets for the
unconsolidated partnerships through which the Company owned its interests in The
Woodlands. The "Equity in net income (loss) of unconsolidated companies"
included in the Company's Consolidated Statements of Operations for the years
ended December 31, 2003, 2002, and 2001 was $14.6 million, $52.8 million, and
$26.9 million, respectively.

96

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

7. JOINT VENTURES

The Company entered into the following consolidated and unconsolidated
joint ventures during the years ended December 31, 2003, 2002 and 2001:

OFFICE SEGMENT

UNCONSOLIDATED - 2003 TRANSACTIONS

BriarLake Plaza

On October 8, 2003, the Company entered into a joint venture, Crescent
One BriarLake, L.P., with affiliates of J.P. Morgan Fleming Asset Management,
Inc. The joint venture purchased BriarLake Plaza, located in the Westchase
submarket of Houston, Texas, for approximately $74.4 million. The Property is a
20-story, 502,000 square foot Class A office building. The affiliates of J.P.
Morgan Fleming Asset Management, Inc. own a 70% interest, and the Company owns a
30% interest, in the joint venture. The initial cash equity contribution to the
joint venture was $24.4 million, of which the Company's portion was $7.3
million. The Company's equity contribution and an additional working capital
contribution of $0.5 million were funded primarily through a draw under the
Company's credit facility. The remainder of the purchase price of the Property
was funded by a secured loan to the joint venture in the amount of $50.0
million. None of the mortgage financing at the joint venture level is guaranteed
by the Company. The Company manages and leases this Office Property on a fee
basis. This Office Property is an unconsolidated investment and included in the
Company's Office Segment.

UNCONSOLIDATED - 2002 TRANSACTIONS

Three Westlake Park

On August 21, 2002, the Company entered into a joint venture
arrangement with an affiliate of General Electric Pension Fund (the affiliate is
referred to as "GE") in connection with which the Company contributed an Office
Property, Three Westlake Park in Houston, Texas. GE made a cash contribution.
The joint venture is structured such that GE holds an 80% equity interest in
Three Westlake Park, and the Company continues to hold the remaining 20% equity
interest in the Office Property, which is accounted for under the equity method.
The joint venture generated approximately $47.1 million in net cash proceeds to
the Company, resulting from the sale of its 80% equity interest and $6.6 million
from the Company's portion of mortgage financing at the joint venture level.
None of the mortgage financing at the joint venture level is guaranteed by the
Company. The Company has no commitment to reinvest the cash proceeds back into
the joint venture. The joint venture was accounted for as a partial sale of this
Office Property, resulting in a gain of $17.0 million, net of deferred gain of
approximately $4.3 million. The proceeds were used to pay down the Company's
credit facility. The Company manages and leases the Office Property on a fee
basis.

Miami Center

On September 25, 2002, the Company entered into a joint venture
arrangement with an affiliate of a fund managed by JPMorgan Fleming Asset
Management, Inc. (the affiliate is referred to as "JPM Fund I"), in connection
with which JPM Fund I purchased a 60% interest in Crescent Miami Center, L.L.C.
with a cash contribution. Crescent Miami Center, L.L.C. owns a 782,000 square
foot Office Property, Miami Center, located in Miami, Florida. The joint venture
is structured such that JPM Fund I holds a 60% equity interest in Miami Center,
and the Company holds the remaining 40% equity interest in the Office Property,
which is accounted for under the equity method. The joint venture generated
approximately $111.0 million in net cash proceeds to the Company, resulting from
the sale of its 60% equity interest and $32.4 million from the Company's portion
of mortgage financing at the joint venture level. None of the mortgage financing
at the joint venture level is guaranteed by the Company. The Company has no
commitment to reinvest the cash proceeds into the joint venture. The joint
venture was accounted for as a partial sale of this Office Property, resulting
in a gain of approximately $4.6 million, net of deferred gain of approximately
$3.5 million. The proceeds were used to pay down the Company's credit facility.
The Company manages this Office Property on a fee basis.

97

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Five Post Oak Park

On December 20, 2002, the Company entered into a joint venture
arrangement, Five Post Oak Park, L.P., with GE. The joint venture purchased Five
Post Oak Park located in the Galleria area of Houston, Texas, for $64.8 million.
This Property is a 567,000 square foot Class A office building. GE owns a 70%
interest, and the Company owns a 30% interest, in the joint venture. The initial
cash equity contribution to the joint venture was $19.8 million, of which the
Company's portion was $5.9 million. The Company's equity contribution and an
additional working capital contribution of $0.3 million were funded through a
draw under the Company's credit facility. The remainder of the purchase price of
this Property was funded by a secured loan to the joint venture in the amount of
$45.0 million. None of the mortgage financing at the joint venture level is
guaranteed by the Company. The Company manages and leases the Office Property on
a fee basis.

UNCONSOLIDATED - 2001 TRANSACTIONS

Four Westlake Park and Bank One Tower

On July 30, 2001, the Company entered into two joint venture
arrangements with GE in which the Company contributed two Office Properties,
Four Westlake Park in Houston, Texas, and Bank One Tower in Austin, Texas, and
GE made cash contributions. GE holds an 80% equity interest in each of these
Office Properties and the Company holds the remaining 20% equity interest. The
transactions generated approximately $120.0 million in net cash proceeds to the
Company resulting from the sale of its 80% equity interest and from mortgage
financing at the joint venture level. None of the mortgage financing at the
joint venture level is guaranteed by the Company. The Company has no commitment
to reinvest the cash proceeds back into the joint ventures. The joint ventures
were accounted for as partial sales of these Office Properties, resulting in a
gain of approximately $7.6 million, net of a deferred gain of approximately $1.9
million. The proceeds were used to pay down the Company's credit facility. The
Company manages and leases these Office Properties on a fee basis.

5 Houston Center

On June 4, 2001, the Company entered into a joint venture arrangement
with a pension fund advised by JPMorgan Fleming Asset Management, Inc. (the fund
is referred to as "JPM Fund II") to construct the 5 Houston Center Office
Property within the Company's mixed-use Office Property complex in Houston,
Texas. This joint venture is structured such that the fund holds a 75% equity
interest, and the Company holds a 25% equity interest, in the Property. The
Company contributed approximately $8.5 million of land and $12.3 million of
development costs to the joint venture and received a distribution of $14.8
million of net proceeds, resulting in a net equity position of $6.0 million for
the Company. No gain or loss was recognized by the Company on this transaction.
The development was completed on September 16, 2002, and was financed through a
construction loan. The construction loan was refinanced and converted to a
mortgage loan on September 8, 2003. The Company manages and leases this Office
Property on a fee basis.

RESORT/HOTEL SEGMENT

UNCONSOLIDATED - 2003 AND 2002 TRANSACTIONS

Manalapan Hotel Partners

On November 21, 2003, Manalapan Hotel Partners, L.L.C. ("Manalapan"),
owned 50% by the Company and 50% by WB Palm Beach Investors, L.L.C.
("Westbrook"), sold the Ritz Carlton Palm Beach Resort/Hotel Property in Palm
Beach, Florida. The sale generated net proceeds of approximately $34.7 million,
of which the Company's portion was approximately $18.0 million, and generated a
net gain of approximately $6.7 million, of which the Company's portion was
approximately $3.9 million. In addition, Manalapan retained its accounts
receivable of approximately $2.4 million, of which the Company's portion is
approximately $1.3 million, of which

98

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

the Company received approximately $0.6 million in the first quarter of 2004.
The proceeds from the sales were used primarily to pay down the Company's credit
facility. This Property was an unconsolidated investment.

In October 2002, in a series of transactions, the Company acquired the
remaining 75% economic interest in Manalapan. The Company acquired the
additional interests in Manalapan for $6.5 million, which was funded by a draw
on the Company's credit facility. Subsequently, the Company entered into a joint
venture arrangement with Westbrook pursuant to which Westbrook purchased a 50%
equity interest in Manalapan. The Company held the remaining 50% equity
interest. During 2002, the Company recognized an impairment on this investment
of approximately $2.6 million reflected in "Impairment charges related to real
estate assets" to reflect fair value of the Company's 50% equity investment.

CONSOLIDATED - 2002 TRANSACTION

Sonoma Mission Inn & Spa

On September 1, 2002, the Company entered into a joint venture
arrangement with a subsidiary of Fairmont Hotels & Resorts, Inc. (the subsidiary
is referred to as "FHR"), pursuant to which the Company contributed a
Resort/Hotel Property, the Sonoma Mission Inn & Spa in Sonoma County, California
and FHR purchased a 19.9% equity interest in the limited liability company that
owns the Resort/Hotel Property. The Company continues to hold the remaining
80.1% equity interest. The joint venture generated approximately $8.0 million in
net cash proceeds to the Company that were used to pay down the Company's credit
facility. The Company loaned $45.1 million to the joint venture at an interest
rate of LIBOR plus 300 basis points. The maturity date of the loan is the
earlier of the date on which third-party financing is obtained, or one year. The
joint venture exercised its option to extend the Company's $45.1 million loan
for two successive six-month periods by paying a fee. The Company manages the
limited liability company that owns the Sonoma Mission Inn & Spa, and FHR
operates and manages this Property for the tenant under the Fairmont brand. FHR
has a commitment to fund $10.0 million of future renovations at Sonoma Mission
Inn & Spa through a mezzanine loan. As of December 31, 2002, $3.0 million was
outstanding under this loan. This joint venture transaction was accounted for as
a partial sale of this Resort/Hotel Property, resulting in a loss to the Company
of approximately $4.0 million on the interest sold. The joint venture leases
Sonoma Mission Inn & Spa to a taxable REIT subsidiary in which the Company also
holds an 80.1% equity interest.

TEMPERATURE-CONTROLLED LOGISTICS SEGMENT

UNCONSOLIDATED - 2003 AND 2002 TRANSACTIONS

Vornado Crescent Carthage and KC Quarry, L.L.C.

On December 30, 2002, the Company contributed $11.2 million of notes
receivable to purchase a 56% equity interest in VCQ. Vornado Realty Trust L.P.
("Vornado") contributed $8.8 million in cash to purchase a 44% equity interest.
The assets of VCQ include two quarries and the related land, acquired by VCQ
from AmeriCold Logistics LLC ("AmeriCold Logistics"), the tenant of the
Company's Temperature-Controlled Logistics Properties, for a purchase price of
$20.0 million. The purchase price was determined to be fair market value based
on an independent appraisal. The Company's $11.2 million contribution consisted
of three notes receivable from AmeriCold Logistics plus accrued interest, one
for $2.0 million, one for $3.5 million, and one originally for $6.5 million
including principal and interest, but which was paid down to approximately $5.5
million prior to the transaction date.

On December 31, 2002, VCQ purchased $5.7 million of trade receivables
from AmeriCold Logistics at a 2% discount. The Company contributed approximately
$3.1 million to VCQ for the purchase of the receivables. The receivables were
collected during the first quarter of 2003.

On March 28, 2003, VCQ purchased $6.6 million of trade receivables from
AmeriCold Logistics at a 2% discount. VCQ used cash from collection of trade
receivables previously purchased from AmeriCold Logistics and a $2.0 million
contribution from its owners, of which approximately $0.8 million represented
the Company's

99

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

contribution, for the purchase of the trade receivables. The receivables were
collected during the second quarter of 2003.

On May 22, 2003, VCQ distributed cash of $3.2 million to the Company.

8. TEMPERATURE-CONTROLLED LOGISTICS

As of December 31, 2003, the Company held a 40% interest in the
Temperature-Controlled Logistics Partnership, which owns all of the common
stock, representing substantially all of the economic interest, of the
Temperature-Controlled Logistics Corporation, which directly or indirectly owns
the 87 Temperature-Controlled Logistics Properties, with an aggregate of
approximately 440.7 million cubic feet (17.5 million square feet) of warehouse
space.

The Temperature-Controlled Logistics Corporation leases the
Temperature-Controlled Logistics Properties to AmeriCold Logistics, a limited
liability company owned 60% by Vornado Operating L.P. and 40% by a subsidiary of
COPI. The Company has no economic interest in AmeriCold Logistics. See Note 23,
"COPI," for information on the proposed acquisition of COPI's 40% interest in
AmeriCold Logistics by a new entity to be owned by the Company's shareholders.

AmeriCold Logistics, as sole lessee of the Temperature-Controlled
Logistics Properties, leases the Temperature-Controlled Logistics Properties
from the Temperature-Controlled Logistics Corporation under three triple-net
master leases, as amended. On February 22, 2001, the Temperature-Controlled
Logistics Corporation and AmeriCold Logistics agreed to restructure certain
financial terms of the leases, including a reduction of the rental obligation
for 2001 and 2002, the increase of the Temperature-Controlled Logistics
Corporation's share of capital expenditures for the maintenance of the
properties (effective January 1, 2000) and the extension of the date on which
deferred rent is required to be paid to December 31, 2003. On March 2, 2004, the
Temperature-Controlled Logistics Corporation and Americold Logistics amended the
leases to further extend the deferred rent period to December 31, 2005 from
December 31, 2004. The parties previously extended the deferred rent period to
December 31, 2004 from December 31, 2003, on March 7, 2003.

Under terms of the leases, AmeriCold Logistics elected to defer $41.8
million of the total $155.5 million of rent payable for the year ended December
31, 2003. The Company's share of the deferred rent was $16.7 million. The
Company recognizes rental income from the Temperature-Controlled Logistics
Properties when earned and collected and has not recognized the $16.7 million of
deferred rent in equity in net income of the Temperature-Controlled Logistics
Properties for the year ended December 31, 2003. As of December 31, 2003, the
Temperature-Controlled Logistics Corporation's deferred rent and valuation
allowance from AmeriCold Logistics were $82.4 million and $74.3 million,
respectively, of which the Company's portions were $33.0 million and $29.7
million, respectively.

100

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following table shows the total and the Company's portion of
deferred rent and valuation allowance for the years ended December 31, 2003,
2002 and 2001:

As of December 31, 2003, the Company also held a 56% interest in
Vornado Crescent Carthage and KC Quarry, L.L.C. See Note 7, "Joint Ventures -
Temperature-Controlled Logistics Segment," for additional information regarding
this investment.

On February 5, 2004, the Temperature-Controlled Logistics Corporation
completed a $254.4 million mortgage financing with Morgan Stanley Mortgage
Capital Inc., secured by 21 of its owned and seven of its leased
temperature-controlled logistics properties. The loan matures in April 2009,
bears interest at LIBOR plus 295 basis points (with a LIBOR floor of 1.5% with
respect to $54.4 million of the loan) and requires principal payments of $5.0
million annually. The net proceeds to the Temperature-Controlled Logistics
Corporation were approximately $225.0 million, after closing costs and the
repayment of approximately $12.9 million in existing mortgages. On February 6,
2004, the Temperature-Controlled Logistics Corporation distributed cash of
approximately $90.0 million to the Company.

9. INVESTMENTS IN UNCONSOLIDATED COMPANIES

The Company has investments of 20% to 50% in eight unconsolidated joint
ventures that own eight Office Properties. In addition, the Company, through
ownership interests of 50% or less, or ownership of non-voting interests only,
has other unconsolidated investments.

101

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following is a summary of the Company's ownership in significant
unconsolidated joint ventures and equity investments as of December 31, 2003.

- ----------

(1) The remaining 50% interest in Main Street Partners, L.P. is owned by
Trizec Properties, Inc.

(2) The remaining 60% interest in Crescent Miami Center, LLC is owned by an
affiliate of a fund managed by JP Morgan Fleming Asset Management, Inc.

(3) The remaining 75% interest in Crescent 5 Houston Center, L.P. is owned
by a pension fund advised by JP Morgan Fleming Asset Management, Inc.

(4) The remaining 80% interest in each of Austin PT BK One Tower Office
Limited Partnership, Houston PT Three Westlake Park Office Limited
Partnership and Houston PT Four Westlake Park Office Limited
Partnership is owned by an affiliate of GE.

(5) The remaining 70% interest in Crescent Five Post Oak Park, L.P. is
owned by an affiliate of GE.

(6) The remaining 70% interest in Crescent One BriarLake Plaza, L.P. is
owned by affiliates of JP Morgan Fleming Asset Management, Inc.

(7) The Company sold its 52.5% economic interest, including a 10% earned
promotional interest in each of the Woodlands CPC, WLDC and The
Woodlands Operating Company, L.P. on December 31, 2003.

(8) Distributions were made to partners based on specified payout
percentages. During the year ended December 31, 2003, the payout
percentage to the Company was 52.5%.

(9) The remaining 50% interest in Blue River Land Company, L.L.C. is owned
by parties unrelated to the Company.

(10) The remaining 58.3% interest in EW Deer Valley, L.L.C. is owned by
parties unrelated to the Company. EW Deer Valley, L.L.C. was formed to
acquire, hold and dispose of its 3.3% ownership interest in Empire
Mountain Village, L.L.C.

(11) The Company sold its 50% interest in Manalapan on November 21, 2003.

(12) The remaining 60% interest in Vornado Crescent Portland Partnership is
owned by Vornado Realty Trust, L.P.

(13) The remaining 44% in Vornado Crescent Carthage and KC Quarry, L.L.C. is
owned by Vornado Realty Trust, L.P.

(14) The remaining 70% interest in CR License, L.L.C. is owned by an
affiliate of the management company of two of the Company's
Resort/Hotel Properties.

(15) The remaining 35% interest in Canyon Ranch Las Vegas, L.L.C. is owned
by an affiliate of the management company of two of the Company's
Resort/Hotel Properties.

(16) SunTx's objective is to invest in a portfolio of acquisitions that
offer the potential for substantial capital appreciation. The remaining
70.3% of SunTx is owned by a group of individuals unrelated to the
Company. The Company's investment at December 31, 2003, was $10.6
million.

(17) G2 was formed for the purpose of investing in commercial mortgage
backed securities and other commercial real estate investments. The
remaining 87.5% interest in G2 is owned by Goff-Moore Strategic
Partners, L.P. ("GMSPLP") and by parties unrelated to the Company. G2
is managed and controlled by an entity that is owned equally by GMSPLP
and GMAC Commercial Mortgage Corporation ("GMACCM"). See Note 21,
"Related Party Transactions," for information regarding the ownership
interests of trust managers and officers of the Company in GMSPLP.

102

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

IMPAIRMENTS OF UNCONSOLIDATED INVESTMENTS

HBCLP, INC.

On December 31, 2003, the Company executed an agreement with HBCLP,
Inc., pursuant to which the Company surrendered 100% of its investment in HBCLP,
Inc. and released HBCLP, Inc. from its note obligation to the Company in
exchange for cash of $3.0 million and other assets valued at approximately $8.7
million, resulting in an impairment charge of approximately $6.5 million
reflected in "Impairment charges related to real estate assets" in the Company's
Consolidated Statements of Operations.

CR LICENSE, L.L.C. AND CRL INVESTMENTS, INC.

On February 14, 2002, the Company executed an agreement with COPI,
pursuant to which COPI transferred to subsidiaries of the Company, pursuant to a
strict foreclosure, COPI's 1.5% interest in CR License, L.L.C. and 5.0%
interest, representing all of the voting stock, in CRL Investments, Inc. As of
December 31, 2003, the Company had a 30% interest in CR License, L.L.C., the
entity which owns the right to the future use of the "Canyon Ranch" name. In
addition, as of December 31, 2003, the Company had a 100% interest in CRL
Investments, Inc., which owns an approximately 65% economic interest in the
Canyon Ranch Spa Club in the Venetian Hotel in Las Vegas, Nevada ("Canyon Ranch
Las Vegas"). The Company evaluated its investment in Canyon Ranch Las Vegas and
determined that an impairment charge was warranted. Accordingly, a $9.6 million
impairment charge was recognized and reflected in the Company's Consolidated
Statements of Operations for the year ended December 31, 2002 in "Impairment
charges related to real estate assets."

DBL-CBO, INC.

In 1999, DBL-CBO, Inc., a wholly-owned subsidiary of DBL Holdings, Inc.
("DBL"), in which the Company owned a 97.4% non-voting interest at December 31,
2002, acquired an aggregate of $6.0 million in principal amount of Class C-1
Notes issued by Juniper CBO 1999-1 Ltd., a Cayman Islands limited liability
company. Juniper 1999-1 Class C-1 is the privately-placed equity interest of a
collateralized bond obligation. During the year ended December 31, 2002, the
Company recognized a charge related to this investment of $5.2 million reflected
in "Equity in net income (loss) of unconsolidated companies, Other" in the
Company's Consolidated Statements of Operations. As a result of this impairment
charge, at December 31, 2002, this investment was valued at $0.

METROPOLITAN PARTNERS, LLC

On May 24, 2001, the Company converted its $85.0 million preferred
member interest in Metropolitan Partners, LLC into approximately $75.0 million
of common stock of Reckson Associates Realty Corp. ("Reckson"), resulting in an
impairment charge, including deferred acquisition costs of $1.9 million, of
approximately $11.9 million reflected in "Impairments charges related to real
estate assets" in the Company's Consolidated Statements of Operations. The
Company subsequently sold the Reckson common stock on August 17, 2001, for
approximately $78.6 million, resulting in a gain of approximately $3.6 million.
The proceeds were used to pay down the Company's credit facility.

OTHER

During the year ended December 31, 2001, the Company recognized
impairment losses of $5.0 million which were included in "Impairment charges
related to real estate assets" related to the Company's investment in a fund
that primarily held real estate investments and marketable securities.

103

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SUMMARY FINANCIAL INFORMATION

The Company reports its share of income and losses based on its
ownership interest in its respective equity investments, adjusted for any
preference payments. As a result of the Company's transaction with COPI on
February 14, 2002, certain entities that were reported as unconsolidated
entities for the year ended December 31, 2001, are consolidated in the financial
statements for the years ended December 31, 2003 and 2002. Additionally, certain
unconsolidated subsidiaries of the newly consolidated entities are now shown
separately as unconsolidated entities of the Company. As a result of the
Company's January 2, 2003 purchase of the remaining 2.56% economic interest,
representing 100% of the voting stock in DBL, DBL is consolidated in the
December 31, 2003 financial statements. Because DBL owns a majority of the
voting stock of MVDC and HADC, these two Residential Development Corporations
are consolidated in the December 31, 2003 financial statements.

The unconsolidated entities that are included under the headings on the
following tables are summarized below.

Balance Sheets as of December 31, 2003:

o Other Residential Development Corporations - This includes
Blue River Land Company, L.L.C., and EW Deer Valley, L.L.C.;

o Temperature-Controlled Logistics - This includes the
Temperature-Controlled Logistics Partnership and VCQ;

o Office - This includes Main Street Partners, L.P., Houston PT
Three Westlake Park Office Limited Partnership, Houston PT
Four Westlake Park Office Limited Partnership, Austin PT BK
One Tower Office Limited Partnership, Crescent 5 Houston
Center, L.P., Crescent Miami Center, LLC, Crescent Five Post
Oak Park, L.P. and Crescent One BriarLake Plaza, L.P.; and

o Other - This includes Manalapan, CR License, L.L.C., Canyon
Ranch Las Vegas, L.L.C., SunTx and G2.

Balance Sheets as of December 31, 2002:

o WLDC;

o Other Residential Development Corporations - This includes
Blue River Land Company, L.L.C., MVDC and HADC;

o Resort/Hotel - This includes Manalapan;

o Temperature-Controlled Logistics - This includes the
Temperature-Controlled Logistics Partnership and VCQ;

o Office - This includes Main Street Partners, L.P., Houston PT
Three Westlake Park Office Limited Partnership, Houston PT
Four Westlake Park Office Limited Partnership, Austin PT BK
One Tower Office Limited Partnership, Crescent 5 Houston
Center, L.P., Crescent Miami Center, LLC, Crescent Five Post
Oak Park, L.P. and Woodlands CPC; and

o Other - This includes DBL, CR License, L.L.C., The Woodlands
Operating Company, L.P., Canyon Ranch Las Vegas, L.L.C. and
SunTx.

Summary Statements of Operations for the year ended December 31, 2003:

o WLDC;

o Other Residential Development Corporations- This includes the
operating results for Blue River Land Company, L.L.C. and EW
Deer Valley, L.L.C.;

o Resort/Hotel - This includes the operating results for
Manalapan;

o Temperature-Controlled Logistics - This includes the
operating results for the Temperature-Controlled Logistics
Partnership and VCQ;

o Office - This includes the operating results for Main Street
Partners, L.P., Houston PT Three Westlake Park Office Limited
Partnership, Houston PT Four Westlake Park Office Limited
Partnership, Austin PT BK One Tower Office Limited
Partnership, Crescent 5 Houston Center, L.P., Crescent Miami
Center, LLC, Crescent Five Post Oak Park, L.P., Crescent One
BriarLake Plaza, L.P. and Woodlands CPC; and

104

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

o Other - This includes the operating results for CR License,
L.L.C., The Woodlands Operating Company, L.P., Canyon Ranch
Las Vegas, L.L.C., SunTx and G2.

Summary Statements of Operations for the year ended December 31, 2002:

o WLDC - This includes WLDC's operating results for the period
February 15 through December 31, 2002, and TWLC's operating
results for the period January 1, through February 14, 2002;

o Other Residential Development Corporations- This includes the
operating results for DMDC and CRDI for the period January 1,
through February 14, 2002, the operating results of Blue
River Land Company, L.L.C. and Manalapan for the period
February 15, through December 31, 2002, and the operating
results of MVDC and HADC;

o Resort/Hotel - This includes the Company's 50% interest in
Manalapan from October 22, 2002 through December 31, 2002.
Prior to October 22, 2002, CRDI held a 25% interest in
Manalapan, which is included in "Other Residential
Development Corporations;"

o Temperature-Controlled Logistics - This includes the
operating results for the Temperature-Controlled Logistics
Partnership and VCQ;

o Office - This includes the operating results for Main Street
Partners, L.P., Houston PT Three Westlake Park Office Limited
Partnership, Houston PT Four Westlake Park Office Limited
Partnership, Austin PT BK One Tower Office Limited
Partnership, Crescent 5 Houston Center, L.P., Woodlands CPC
and Crescent Miami Center, L.L.C; and

o Other - This includes the operating results for DBL, CR
License, L.L.C., The Woodlands Operating Company, L.P.,
Canyon Ranch Las Vegas, L.L.C., and SunTx.

Summary Statements of Operations for the year ended December 31, 2001:

o Crescent Resort Development, Inc.- This includes the
operating results of CRDI;

o WLDC

o Other Residential Development Corporations - This includes
the operating results of DMDC, MVDC and HADC;

o Temperature-Controlled Logistics - This includes the
operating results for the Temperature-Controlled Logistics
Partnership; and

o Office - This includes the operating results for Main Street
Partners, L.P., Crescent 5 Houston Center, L.P., Houston PT
Four Westlake Park Office Limited Partnership, Austin PT BK
One Tower Office Limited Partnership and Woodlands CPC.

105

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) This column includes information for Manalapan, which was sold on
November 21, 2003.

(2) This column includes information for BriarLake Plaza, which was
acquired through a joint venture October 8, 2003.

(3) Inclusive of the preferred return paid to Vornado Realty Trust (1% per
annum of the total combined assets).

106

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) This column includes information for Three Westlake Park, which was
contributed by the Company to a joint venture on August 21, 2002, Miami
Center, which was contributed by the Company to a joint venture on
September 25, 2002, and Five Post Oak Park, which was acquired by the
Company in a joint venture transaction on December 20, 2002.
Information is included from the date of contribution of Three Westlake
Park and Miami Center and acquisition of Five Post Oak Park.

(2) Inclusive of the preferred return paid to Vornado Realty Trust (1% per
annum of the total combined assets).

(3) Excludes the goodwill write-off for Temperature-Controlled Logistics
Segment, which is recorded in the accompanying financial statements as
a cumulative effect of a change in accounting principle.

(4) Includes impairment of DBL-CBO of $5.2 million.

SUMMARY STATEMENTS OF OPERATIONS:

- ----------

(1) This column includes information for Four Westlake Park and Bank One
Tower, which were contributed by the Company to joint ventures on July
30, 2001. Information for both of these properties is included from the
date of contribution.

(2) Inclusive of the preferred return paid to Vornado Realty Trust (1% per
annum of the total combined assets).

107

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

UNCONSOLIDATED DEBT ANALYSIS

The following table shows, as of December 31, 2003, information about
the Company's share of unconsolidated fixed and variable rate debt and does not
take into account any extension options, hedge arrangements or the entities'
anticipated pay-off dates.

- ----------

(1) URS Real Estate, L.P. and Americold Real Estate, L.P., subsidiaries of
the Temperature-Controlled Logistics Corporation, expect to repay this
note on the Optional Prepayment Date of April 11, 2008. The overall
weighted average maturity would be 4.21 years based on this date.

(2) Senior Note - Note A: $82.2 million at variable interest rate, LIBOR +
189 basis points, $4.8 million at variable interest rate, LIBOR + 250
basis points with a LIBOR floor of 2.50%. Note B: $24.2 million at
variable interest rate, LIBOR + 650 basis points with a LIBOR floor of
2.50%. Mezzanine Note - $19.3 million at variable interest rate, LIBOR
+ 890 basis points with a LIBOR floor of 3.0%. Interest-rate cap
agreement maximum LIBOR of 4.52% on all notes. All notes amortized
based on a 25-year schedule.

(3) This loan has two one-year extension options.

(4) The Company and its joint venture partner each obtained a separate
Letter of Credit to guarantee the repayment of up to $4.3 million each
of principal of the Main Street Partners, L.P. loan.

(5) The variable rate loan has an interest rate of LIBOR + 300 basis
points. East West Resort Development III, L.P. provides an
unconditional guarantee of up to 70% of the maximum $9.0 million
available under this facility with U.S. Bank National Association.
There was approximately $5.0 million outstanding at December 31, 2003,
and the guarantee was equal to $3.5 million.

108

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following table shows, as of December 31, 2003, information about
the Company's share of unconsolidated fixed and variable rate debt and does not
take into account any extension options, hedge arrangements or the entities'
anticipated pay-off dates.

- ----------

(1) These amounts do not represent the effect of extension options.

10. OTHER ASSETS, NET

- ----------

(1) During the year ended December 31, 2003, the Company recognized an
approximately $2.1 million impairment related to its investment in
preferred equity in Captivate Network, Inc.

(2) During the year ended December 31, 2002, the Company recognized
approximately $2.5 million in impairments related to two investments.

109

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

11. NOTES PAYABLE AND BORROWINGS UNDER CREDIT FACILITY

The following is a summary of the Company's debt financing at December
31, 2003 and 2002:

110

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

- ----------

(1) In October 2003, the Company received approval from the lending group
to modify key financial and other covenants in the Fleet I and II Term
Loan. In connection with these modifications, the Company agreed to
increase the interest rate on this loan to LIBOR plus 350 basis points
from LIBOR plus 325 basis points. In December 2003, the Company retired
$10.8 million of the facility to release Las Colinas Plaza and Liberty
Plaza from the collateral pool. In January 2004, the Company retired an
additional $105.0 million to release the remaining Funding II
Properties.

(2) The outstanding balance of this note at maturity will be approximately
$224.1 million.

(3) In August 2007, the interest rate will increase, and the Company is
required to remit, in addition to the monthly debt service payment,
excess property cash flow, as defined, to be applied first against
principal and thereafter against accrued excess interest, as defined.
It is the Company's intention to repay the note in full at such time
(August 2007) by making a final payment of approximately $221.7
million.

(4) This includes both a Deutsche Bank-CMBS note and a Fleet-Mezzanine
note. The notes are due May 2004, and bear interest at the 30-day LIBOR
rate plus a spread of (i) 164.7 basis points for the CMBS note (at
December 31, 2003, the interest rate was 5.147%), and (ii) 600 basis
points for the Mezzanine note (at December 31, 2003, the interest rate
was 9.5%). The blended rate at December 31, 2003, for the two notes was
5.84%. Both notes have a LIBOR floor of 3.5%. The notes have three-year
interest only terms and two one-year extension options. The
Fleet-Mezzanine note is secured by the Company's interests in Funding X
and Crescent Spectrum Center, L.P. and the Company's interest in each
of their general partners.

(5) In October 2006, the interest rate will adjust based on current
interest rates at that time. It is the Company's intention to repay the
note in full at such time (October 2006) by making a final payment of
approximately $177.8 million.

(6) In December 2003, the Company purchased $9.6 million in U.S. Treasury
and government agency sponsored securities to defease approximately
$8.7 million of the loan which related to Las Colinas Plaza, to release
the Property from the Deed of Trust. In January 2004, the Company
purchased $170.0 million in U.S. Treasury and government sponsored
agency securities to defease the remaining amount of the loan and
release the rest of the Funding II Properties. The securities were
placed in a collateral account for the sole purpose of funding payments
of principal and interest on the La Salle Note II. The marketable
securities have interest and maturities that coincide with the
scheduled debt service payments of the loan and ultimate payment of
principal in March 2006.

(7) In February 2004, the Company exercised its option to extend this loan
until February 2007.

(8) During the first quarter of 2003, the Company paid in full the $63.5
million Cigna Note, with a draw under the Company's credit facility and
entered into the $70.0 million loan from Cigna in the second quarter of
2003.

111

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(9) This facility is a $51.8 million line of credit secured by certain DMDC
land and improvements ("vertical facility"), club facilities ("club
loan"), notes receivable ("warehouse facility") and additional land
("short-term facility"). The line restricts the vertical facility and
club loan to a maximum outstanding amount of $40.0 million and is
subject to certain borrowing base limitations and bears interest at
prime (at December 31, 2003, the interest rate was 4.0%). The warehouse
facility bears interest at prime plus 100 basis points (at December 31,
2003, the interest rate was 5.0%) and is limited to $10.0 million. The
short-term facility bears interest at prime plus 50 basis points (at
December 31, 2003, the interest rate was 4.5%) and is limited to $1.8
million. The blended rate at December 31, 2003, for the vertical
facility and club loan, the warehouse facility and the short-term
facility was 4.2%.

(10) The Company assumed this loan in connection with the Colonnade
acquisition. The outstanding principal balance of this loan at maturity
will be approximately $33.4 million.

(11) The outstanding principal balance of this loan at maturity will be
approximately $36.1 million.

(12) In October 2003, the Company refinanced the original $26.0 million
Northwestern Life Note on 301 Congress, bearing interest of 7.66%,
which had a maturity date of January 1, 2004.

(13) The Company assumed this loan in connection with the Hughes Center
acquisitions. The outstanding principal balance of this loan at
maturity will be approximately $8.7 million. The balance at December
31, 2003, includes approximately $1.1 million of premium which will be
amortized over the term of the loan. The effective interest rate,
including the premium, is 3.8%.

(14) The outstanding principal balance of this loan at maturity will be
approximately $8.2 million.

(15) In July 2010, the interest rate will adjust based on current interest
rates at that time. It is the Company's intention to repay the note in
full at such time (July 2010) by making a final payment of
approximately $6.1 million.

(16) The Company's joint venture partner, which owns a 19.9% interest in the
Sonoma Mission Inn & Spa, has a commitment to fund $10.0 million of
future renovations at the Sonoma Mission Inn & Spa through a mezzanine
loan. The Net Operating Income Hurdle Date, as defined in the loan
agreement, is the date as of which the Sonoma Mission Inn & Spa has
achieved an aggregate Adjusted Net Operating Income, as defined in the
loan agreement, of $12 million for a period of 12 consecutive calendar
months.

(17) Includes $10.8 million of fixed rate debt ranging from 2.9% to 10.5%
and $36.5 million of variable rate debt ranging from 4.0% to 5.0%. In
June 2003, CRDI entered into an interest rate cap agreement with Bank
of America with an initial notional amount of $0.8 million, increasing
monthly to up to $28.3 million in September 2004, based on the amount
of the related loan. As of December 2003, $10.9 million was outstanding
under this loan. The agreement limits the interest rate exposure on the
notional amount to a maximum prime rate, as defined in the agreement,
of 4.1%.

(18) To incur any additional debt, the indenture requires the Company to
meet thresholds for a number of customary financial and other covenants
including maximum leverage ratios, minimum debt service coverage
ratios, maximum secured debt as a percentage of total undepreciated
assets, and ongoing maintenance of unencumbered assets. Additionally,
as long as the 2009 Notes are not rated investment grade, there are
restrictions on the Company's ability to make certain payments,
including distributions to shareholders and investments.

(19) The Credit Facility requires the Company to maintain compliance with a
number of customary financial and other covenants on an ongoing basis,
including leverage ratios, debt service coverage ratios, limitations on
additional secured and total indebtedness, limitations on
distributions, and a minimum net worth requirement, and with respect
solely to Funding VIII, adjusted net operating income to actual debt
service, adjusted net operating income to pro forma debt service,
office assets as a percentage of total assets, and minimum leasing
requirements. In addition, availability under the Credit Facility is
limited by total indebtedness to total asset value. At December 31,
2003, the maximum borrowing capacity under the credit facility was
$379.5 million. The outstanding balance excludes letters of credit
issued under the Company's credit facility of $7.9 million which reduce
the Company's maximum borrowing capacity. In November 2003, the Company
and the lending group modified key financial and other covenants in the
Credit Facility. In connection with these modifications, the Company
agreed to increase the interest rate on this facility to LIBOR plus
212.5 basis points from LIBOR plus 187.5 basis points. In December
2003, the Company exercised its option to extend the facility's
maturity to May 2005.

The following table shows information about the Company's consolidated
fixed and variable rate debt and does not take into account any extension
options, hedging arrangements or the Company's anticipated payoff dates.

- ----------

(1) Balance excludes hedges. The percentages for fixed rate debt and
variable rate debt, including the $500.0 million of hedged variable
rate debt, are 85% and 15%, respectively.

(2) Including the effect of hedge arrangements, the overall weighted
average interest rate would remain 6.8%.

112

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Listed below are the aggregate principal payments by year required as
of December 31, 2003 under indebtedness of the Company. Scheduled principal
installments and amounts due at maturity are included.

- ----------

(1) These amounts do not reflect the effect of two one-year extension
options on the Deutsche Bank - CMBS Loan or the extension of the Fleet
Term Loan to 2007.

The Company is generally obligated by its debt agreements to comply
with financial covenants, affirmative covenants and negative covenants, or some
combination of these types of covenants. Failure to comply with covenants
generally will result in an event of default under that debt instrument. Any
uncured or unwaived events of default under the Company's loans can trigger an
increase in interest rates, an acceleration of payment on the loan in default,
and for the Company's secured debt, foreclosure on the Property securing the
debt. In addition, a default by the Company or any of its subsidiaries with
respect to any indebtedness in excess of $5.0 million generally will result in a
default under the Credit Facility, 2007 bonds, 2009 bonds, the Fleet Fund I and
II Term Loan and the Fleet Term Loan after the notice and cure periods for the
other indebtedness have passed. As of December 31, 2003, no event of default had
occurred, and the Company was in compliance with all of covenants related to its
outstanding debt. The Company's debt facilities generally prohibit loan
pre-payment for an initial period, allow pre-payment with a penalty during a
following specified period and allow pre-payment without penalty after the
expiration of that period. During the year ended December 31, 2003, there were
no circumstances that required prepayment or increased collateral related to the
Company's existing debt.

In addition to the subsidiaries listed in Note 1, "Organization and
Basis of Presentation," certain other subsidiaries of the Company were formed
primarily for the purpose of obtaining secured and unsecured debt or joint
venture financings. These entities, all of which are consolidated and are
grouped based on the Properties to which they relate, are: Funding I and Funding
II Properties (CREM Holdings, LLC, Crescent Capital Funding, LLC, Crescent
Funding Interest, LLC, CRE Management I Corp., CRE Management II Corp.); Funding
III Properties (CRE Management III Corp.); Funding IV Properties (CRE Management
IV Corp.); Funding V Properties (CRE Management V Corp.); Funding VI Properties
(CRE Management VI Corp.); Funding VIII Properties (CRE Management VIII, LLC);
707 17th Street (Crescent 707 17th Street, LLC); Funding X Properties (CREF X
Holdings Management, LLC, CREF X Holdings, L.P., CRE Management X, LLC);
Spectrum Center (Spectrum Mortgage Associates, L.P., CSC Holdings Management,
LLC, Crescent SC Holdings, L.P., CSC Management, LLC), The BAC-Colonnade (CEI
Colonnade Holdings, LLC), and Crescent Finance Company.

DEFEASANCE OF LASALLE NOTE II

In December 2003, the Company purchased $9.6 million of U.S. Treasury
and government sponsored agency securities and placed those securities into a
collateral account for the sole purpose of funding payments of principal and
interest payments on approximately $8.7 million of the LaSalle Note II, in order
to release the lien on the Las Colinas retail property, which was held in
Funding II and sold on December 15, 2003. The initial weighted average yield on
the securities was 2.10%. In January 2004, the Company purchased an additional
$170.0 million of U.S. Treasury and government sponsored agency securities with
an initial weighted average yield of 1.76% and placed those securities into a
collateral account for the sole purpose of funding payments of principal and
interest on the remainder of the LaSalle Note II, in order to release the lien
on the remaining properties securing the loan. The

113

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

cash from these marketable securities have interest and maturities that coincide
with the scheduled debt service payments of the senior notes and ultimate
payment of principal.

ADDITIONAL DEBT FINANCING

In January 2004, the Company entered into an agreement with Bank of
America Securities LLC ("Bank of America") and Deutsche Bank for an additional
$275.0 million secured loan. The loan has an initial two-year term maturing in
January 2006, with a one-year extension option and bears interest at an annual
rate of LIBOR plus 275 basis points. This rate decreased to LIBOR plus 225 basis
points upon closing of syndication of the loan in February 2004. The loan is
secured by 10 of the 12 properties that were in Funding II at December 31, 2003.
The loan is subject to the same covenant requirements at the credit facility.
The net proceeds were used to reduce the outstanding principal balance of the
$275.0 million Fleet Fund I and II Term Loan by approximately $104.2 million.
The remaining proceeds were used to purchase U.S. Treasury and government
sponsored agency securities in an amount sufficient to defease the remaining
portion of the LaSalle Note II.

DEBT REFINANCING AND FLEET FACILITY

In May 2001, the Company (i) repaid and retired the UBS Facility which
consisted of the UBS Line of Credit, the UBS Term Loan I and the UBS Term Loan
II; (ii) repaid and retired the iStar Financial Note; and (iii) modified and
replaced the Fleet Term Note II with proceeds from a $970.0 million debt
refinancing. In May 2001, the Company wrote off $10.8 million of deferred
financing costs related to the early extinguishment of the UBS Facility, which
is included in the Company's Consolidated Statements of Operations as
"Extinguishment of debt."

DEBT OFFERING

On April 15, 2002, the Company completed a private offering of $375.0
million in senior, unsecured notes due in 2009. On October 15, 2002, the Company
completed an exchange offer pursuant to which it exchanged notes registered with
the SEC for $325.0 million of the privately issued notes. In addition, the
Company registered for resale the remaining $50.0 million of the privately
issued notes, which were issued to Richard E. Rainwater, the Chairman of the
Board of Trust Managers, and certain of his affiliates and family members. The
notes bear interest at an annual rate of 9.25% and were issued at 100% of issue
price. The notes are callable after April 15, 2006. Interest is payable on April
15, and October 15, of each year, beginning October 15, 2002.

The net proceeds from the offering of notes were approximately $366.5
million. Approximately $309.5 million of the proceeds were used to pay down
amounts outstanding under the Company's credit facility, and the remaining
proceeds were used to pay down $5.0 million of short-term indebtedness and
redeem approximately $52.0 million of preferred Class A Units in Funding IX from
GMACCM. See Note 19, "Sale of Preferred Equity Interests in Subsidiary," for a
description of the Class A Units in Funding IX previously held by GMACCM.

12. INTEREST RATE CAPS

In June 2003, CRDI, a consolidated subsidiary of the Company, entered
into an interest rate cap agreement with Bank of America with an initial
notional amount of $0.8 million, increasing monthly to up to $28.3 million in
September 2004, based on the amount of the related loan. The agreement limits
the interest rate on the notional amount to a maximum prime rate, as defined in
the agreement, of 4.1%.

In connection with the closing of the Deutsche Bank - CMBS Loan in May
2001, the Company entered into a LIBOR interest rate cap struck at 7.16% for a
notional amount of $220.0 million, and simultaneously sold a LIBOR interest rate
cap with the same terms. Since these instruments do not reduce the Company's net
interest rate risk exposure, they do not qualify as hedges and changes to their
respective fair values are charged to earnings as the changes occur. As the
significant terms of these arrangements are substantially the same, the effects
of a revaluation of these instruments are expected to substantially offset each
other.

114

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

13. CASH FLOW HEDGES

The Company uses derivative financial instruments to convert a portion
of its variable rate debt to fixed rate debt and to manage its fixed to variable
rate debt ratio. As of December 31, 2003, the Company had four cash flow hedge
agreements which are accounted for in conformity with SFAS No. 133, "Accounting
for Derivative Instruments and Hedging Activities," as amended.

The following table shows information regarding the Company's cash flow
hedge agreements for the year ended December 31, 2003, and additional interest
expense and unrealized gains (losses) recorded in Accumulated Other
Comprehensive Income ("OCI").

The Company has designated its four cash flow hedge agreements as cash
flow hedges of LIBOR-based monthly interest payments on a designated pool of
variable rate LIBOR indexed debt that re-prices closest to the reset dates of
each cash flow hedge agreement. The cash flow hedges have been and are expected
to remain highly effective. Changes in the fair value of these highly effective
hedging instruments are recorded in Accumulated Other Comprehensive Income. The
effective portion that has been deferred in Accumulated Other Comprehensive
Income will be reclassified to earnings as interest expense when the hedged
items impact earnings. If a cash flow hedge falls outside 80%-125% effectiveness
for a quarter, all changes in the fair value of the cash flow hedge for the
quarter will be recognized in earnings during the current period. If it is
determined based on prospective testing that it is no longer likely a hedge will
be highly effective on a prospective basis, the hedge will no longer be
designated as a cash flow hedge in conformity with SFAS No. 133, as amended. The
Company had no ineffectiveness related to its cash flow hedges, resulting in no
earnings impact for the year ended December 31, 2003.

Over the next 12 months, an estimated $10.1 million will be
reclassified from Accumulated Other Comprehensive Income to interest expense and
charged against earnings related to the effective portions of the cash flow
hedge agreements.

CRDI, a consolidated subsidiary of the Company, also uses derivative
financial instruments to convert a portion of its variable rate debt to fixed
rate debt.

115

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following table shows information regarding CRDI's cash flow hedge
agreements and additional capitalized interest thereon as of and for the year
ended December 31, 2003. Unlike the additional interest on the Company's cash
flow hedges, which was expensed, the additional interest on CRDI's cash flow
hedges was capitalized, as it is related to debt incurred for projects that are
currently under development. Also presented are the unrealized gains in
Accumulated Other Comprehensive Income for the year ended December 31, 2003.

CRDI's hedges were perfectly effective and no earnings impact was
experienced in the year ended December 31, 2003.

14. RENTALS UNDER OPERATING LEASES

As of December 31, 2003, the Company received rental income from the
lessees of 64 consolidated Office Properties and one Resort/Hotel Property under
operating leases.

On February 14, 2002, the Company executed an agreement with COPI,
pursuant to which the Company acquired COPI's lessee interests in the eight
Resort/Hotel Properties previously leased to COPI. Therefore, the Company
stopped recognizing rental income from operating leases for these Resort/Hotel
Properties on February 14, 2002. The lease of the one Resort/Hotel Property for
which the Company continues to recognize rental income under an operating lease
provides for percentage rent. For the years ended December 31, 2003, 2002 and
2001, the percentage rent amounts for the one Resort/Hotel Property were $4.9
million, $4.7 million and $4.9 million, respectively.

In general, Office Property leases provide for the payment of fixed
base rents and the reimbursement by the tenant to the Company of annual
increases in operating expenses in excess of base year operating expenses. The
excess operating expense amounts totaled $80.0 million, $89.4 million and $98.7
million, for the years ended December 31, 2003, 2002 and 2001, respectively.
These excess operating expenses are generally payable in equal installments
throughout the year, based on estimated increases, with any differences adjusted
at year end based upon actual expenses.

116

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For non-cancelable operating leases for wholly-owned and joint venture
consolidated Office Properties owned as of December 31, 2003, future minimum
rentals (base rents) during the next five years and thereafter (excluding tenant
reimbursements of operating expenses for Office Properties) are as follows:

See Note 2, "Summary of Significant Accounting Policies," for
discussion of revenue recognition.

15. COMMITMENTS, CONTINGENCIES AND LITIGATION

COMMITMENTS

LEASE COMMITMENTS

The Company has 13 wholly-owned Properties located on land that is
subject to long-term ground leases, which expire between 2015 and 2080. The
Company also leases parking spaces in a parking garage adjacent to one of its
Properties pursuant to a lease expiring in 2021. Lease expense associated with
these leases during each of the three years ended December 31, 2003, 2002, and
2001 was $2.8 million, $2.7 million and $2.8 million, respectively. Future
minimum lease payments due under such leases as of December 31, 2003, are as
follows:

117

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

GUARANTEE COMMITMENTS

The FASB issued Interpretation 45 requiring a guarantor to disclose its
guarantees. The Company's guarantees in place as of December 31, 2003, are
listed in the table below. For the guarantees on indebtedness, no triggering
events or conditions are anticipated to occur that would require payment under
the guarantees and management believes the assets associated with the loans that
are guaranteed are sufficient to cover the maximum potential amount of future
payments and therefore, would not require the Company to provide additional
capital to support the guarantees. The Company has not recorded a liability
associated with these guarantees as they were entered into prior to the adoption
of FIN 45.

- ----------
(1) The Company provides a $7.9 million letter of credit to support the payment
of interest and principal of the Eagle Ranch Metropolitan District Revenue
Development Bonds.
(2) See Note 9, "Investments in Unconsolidated Companies - Unconsolidated Debt
Analysis," for a description of the terms of this debt.
(3) A fully consolidated entity of CRDI, of which CRDI owns 88.3%, provides a
guarantee of 70% of the outstanding balance of up to a $9.0 million loan to
Blue River Land Company, L.L.C. There was approximately $5.0 million
outstanding at December 31, 2003, and the amount guaranteed was $3.5
million.
(4) The Company and its joint venture partner each provide a $4.3 million
letter of credit to guarantee repayment of up to $8.5 million of the loan
to Main Street Partners, L.P.

OTHER COMMITMENTS

On December 31, 2003, in accordance with the agreement to acquire the
Hughes Center properties, the Company committed to acquire, in March 2004, the
undeveloped land, suitable for up to 400,000 square feet of future office space,
within Hughes Center for approximately $10.0 million, $2.5 million of which is
to be paid in cash and the remaining $7.5 million to be paid by the Company in
the form of a note due December 2005. See Note 25, "Subsequent Events," for
information regarding the purchase of this undeveloped land.

On September 23, 2003, the Company entered into a one year option
agreement for the future sale of approximately 1.5 acres of undeveloped
investment land located in Houston, Texas, for approximately $7.8 million. The
Company received $0.01 million of consideration in September 2003. The option
agreement may be extended up to four years on a yearly basis at the option of
the prospective purchaser for additional consideration.

COPI COMMITMENTS

See Note 23, "COPI," for a description of the Company's commitments
related to the agreement with COPI, executed on February 14, 2002.

CONTINGENCIES

Environmental Matters

All of the Properties have been subjected to Phase I environmental
assessments, and some Properties have been subjected to Phase II soil and ground
water sampling as part of the Phase I assessments. Such assessments have not
revealed, nor is management aware of, any environmental liabilities that
management believes would have a material adverse effect on the financial
position or results of operations of the Company.

118

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

LITIGATION

The Company is involved from time to time in various claims and legal
actions in the ordinary course of business. Management does not believe that the
impact of such matters will have a material adverse effect on the Company's
financial position or results of operations when resolved. During the year ended
December 31, 2003, the Company paid $1.7 million to settle claims arising in the
ordinary course of business. During the year ended December 31, 2002, the
Company received a $4.5 million litigation settlement fee, which is recorded in
"Interest and other income" on the Company's Consolidated Statements of
Operations. In connection with the same litigation, the Company incurred $2.6
million of legal fees, which is included in "Other expenses."

16. STOCK AND UNIT BASED COMPENSATION

STOCK OPTION PLANS

Crescent Equities has two stock incentive plans, the 1995 Stock
Incentive Plan (the "1995 Plan") and the 1994 Stock Incentive Plan (the "1994
Plan"). Due to the approval of the 1995 Plan, additional options and restricted
shares will no longer be granted under the 1994 Plan. Under the 1994 Plan,
Crescent Equities had granted, net of forfeitures, 2,509,800 options which are
fully vested and no restricted shares. The maximum number of options and/or
restricted shares that Crescent Equities was able to initially grant at
inception under the 1995 Plan was 2,850,000 shares. The maximum aggregate number
of shares available for grant under the 1995 Plan increases automatically on
January 1 of each year by an amount equal to 8.5% of the increase in the number
of common shares and units outstanding since January 1 of the preceding year,
subject to certain adjustment provisions. As of January 1, 2004, the number of
shares Crescent Equities may issue under the 1995 Plan is 9,686,745. Under the
1995 Plan, Crescent Equities had issued shares due to the exercise of options
and restricted shares (net of forfeitures) of 2,035,216 and 323,718
respectively, through December 31, 2003. In addition, under the 1995 Plan,
Crescent Equities had granted, net of forfeitures, unexercised options to
purchase 7,096,344 shares as of December 31, 2003. Under both Plans, options are
granted at a price not less than the market value of the shares on the date of
grant and expire ten years from the date of grant. The options that have been
granted under the 1995 Plan vest over five years, with the exception of 500,000
options that vest over two years, 250,000 options that vest over three and a
half years and 60,000 options that vest six months from the initial date of
grant.

In 2002, John Goff, Vice-Chairman of the Board of Trust Managers and
Chief Executive Officer of the Company, was granted the right to earn 300,000
restricted shares under the 1995 Plan. These shares vest at 100,000 shares per
year on February 19, 2005, February 19, 2006 and February 19, 2007. Compensation
expense is being recognized on a straight-line basis. For the year ended
December 31, 2003, approximately $1.2 million was recorded as compensation
expense related to this grant.

119

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

STOCK OPTIONS PLANS

A summary of the status of Crescent Equities' 1994 and 1995 Plans as of
December 31, 2003, 2002 and 2001 and changes during the years then ended is
presented in the table below.

(1) Includes 205 share options which were exchanged for 102.5 unit options (205
common share equivalents) with a weighted average exercise price of $34 during
the year ended December 31, 2003. Excluding these share options, the weighted
average exercise price would have been $19.

The following table summarizes information about the options
outstanding and exercisable at December 31, 2003.

Unit Option Plans

The Operating Partnership has two unit incentive plans, the 1995 Unit
Incentive Plan (the "1995 Unit Plan") and the 1996 Unit Incentive Plan (the
"1996 Unit Plan").

Effective January 2, 2003, the 1995 Unit Plan was amended to make it
available to all employees and advisors of the Company, to provide for the grant
of unit options and to increase the number of units and common shares available
for issuance. Prior to 2003, the 1995 Unit Plan was not available to officers or
trust managers of the Company and did not provide for the grant of options. The
1995 Unit Plan has an aggregate of 400,000 common shares reserved for issuance
upon the exchange of 200,000 units, which are available for issuance. As of
December 31, 2003, an aggregate of 7,012 units had been distributed under the
1995 Unit Plan and during the year ended December 31, 2003, 51,100 unit options
were granted under this plan. In addition, 204,500 stock options were exchanged
for 102,250 unit options during the year ended December 31, 2003. There was no
activity in the 1995 Unit Plan in 2002 or 2001. The unit options granted under
the 1995 Unit Plan were priced at fair market value on the date of grant, vest
over five years and expire ten years from the date of grant. Each unit that was
issued, and each unit received upon exercise of unit options that were granted,
under the 1995 Unit Plan is exchangeable for two common shares or, at the option
of the Company, an equivalent amount of cash, except that any units issued to
executive officers or trust managers will be exchangeable only for treasury
shares unless shareholder approval is received.

120

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The 1996 Unit Plan provides for the grant of options to acquire up to
2,000,000 units. Through December 31, 2003, the Operating Partnership had
granted, net of forfeitures, options to acquire 2,000,000 units. Forfeited
options are available for grant. The unit options granted under the 1996 Unit
Plan were priced at fair market value on the date of grant, generally vest over
seven years, and expire ten years from the date of grant. Pursuant to the terms
of the unit options granted under the 1996 Unit Plan, because the fair market
value of the Company's common shares equaled or exceeded $25.00 for each of ten
consecutive trading days, the vesting of an aggregate of 500,000 units was
accelerated and such units became immediately exercisable in 1996. In addition,
100,000 unit options vest 50% after three years and 50% after five years. Under
the 1996 Unit Plan, each unit that may be purchased is exchangeable, as a result
of shareholder approval in June 1997, for two common shares or, at the option of
the Company, an equivalent amount of cash.

A summary of the status of the Company's 1995 and 1996 Unit Plans as of
December 31, 2003, 2002 and 2001, and changes during the years then ended is
presented in the table below (assumes each unit is exchanged for two common
shares).

(1) Includes 205 share options which were exchanged for 102.5 unit options (205
common share equivalents) with a weighted average exercise price of $34
during the year ended December 31, 2003. Excluding these unit options, the
weighted average exercise price would have been $16.

The following table summarizes information about the unit options
outstanding and exercisable at December 31, 2003.

121

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

UNIT OPTIONS GRANTED UNDER OPERATING PARTNERSHIP AGREEMENT

During the years ended December 31, 2003, 2002 and 2001, the Operating
Partnership granted options to acquire 2,848,571 units, or 5,697,142 common
share equivalents, to officers and employees. The unit options granted were
priced at fair market value on the date of grant, vest over five years and
expire ten years from the date of grant. Each unit received upon exercise of the
unit options will be exchangeable for two common shares or, at the option of the
Company, an equivalent amount of cash, except that the units will be
exchangeable only for treasury shares unless shareholder approval is received.

A summary of the status of the unit options granted under the Operating
Partnership agreement as of December 31, 2003, 2002 and 2001 and changes during
the years then ended is presented in the table below (assumes each unit is
exchanged for two common shares).

The following table summarizes information about the options
outstanding and exercisable at December 31, 2003.

In 2004, the Company has granted options to acquire 62,500 units as an
employment inducement to two new vice presidents, Anthony B. Click and John
Albright. The 125,000 common share equivalents were granted at a price equal to
the fair market value on the date of grant. The unit options vest over five
years, expire ten years from the date of grant and have exchange rights.

STOCK AND UNIT OPTION PLANS

On January 1, 2003, the Company adopted the expense recognition
provisions of SFAS No. 123, "Accounting for Stock Based Compensation" on a
prospective basis as permitted by SFAS No. 148 "Accounting for stock-based
compensation-transition and disclosure." The Company values stock and unit
options issued using the Black-Scholes option-pricing model and recognizes this
value as an expense over the period in which the options vest. Under this
standard, recognition of expense for stock options is applied to all options
granted after the beginning of the year of adoption.

During the year ended December 31, 2003, the Company granted 70,000
stock options under the 1995 Plan, 51,100 unit options under the 1995 Unit Plan,
and 170,000 unit options under no plan. The Company recognized compensation
expense related to these option grants which was not significant to its results
of operations.

122

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

At December 31, 2003, 2002 and 2001, the weighted average fair value of
options granted was $0.63, $1.40, and $1.83, respectively. The fair value of
each option is estimated at the date of grant using the Black-Scholes
option-pricing model based on the expected weighted average assumptions in the
following calculation.

17. MINORITY INTEREST

Minority interest in the Operating Partnership represents the
proportionate share of the equity in the Operating Partnership of limited
partners other than the Company. The ownership share of limited partners other
than the Company is evidenced by Operating Partnership units. The Operating
Partnership pays a regular quarterly distribution to the holders of Operating
Partnership units.

Each Operating Partnership unit may be exchanged for either two common
shares of the Company or, at the election of the Company, cash equal to the fair
market value of two common shares at the time of the exchange. When a unitholder
exchanges a unit, Crescent Equities' percentage interest in the Operating
Partnership increases. During the year ended December 31, 2003, there were 4,995
units exchanged for 9,990 common shares of Crescent Equities.

During the year ended December 31, 2002, Richard E. Rainwater, Chairman
of the Board of Trust Managers of the Company, contributed an aggregate of
4,805,800 common shares to the Operating Partnership in exchange for an
aggregate of 2,402,900 units. See Note 21, "Related Party Transactions - Share
and Unit Exchange by Chairman," for additional information on this transaction.
As a result of these transactions, minority interest increased by $71.3 million
and shareholders' equity decreased by $71.3 million in the Company's
Consolidated Financial Statements.

Minority interest in real estate partnerships represents joint venture
or preferred equity partners' proportionate share of the equity in certain real
estate partnerships. The Company holds a controlling interest in the real estate
partnerships and consolidates the real estate partnerships into the financial
statements of the Company. Income in the real estate partnerships is allocated
to minority interest based on weighted average percentage ownership during the
year.

The following table summarizes minority interest as of December 31,
2003 and 2002:

123

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following table summarizes the minority interests' share of net
income for the years ended December 31, 2003, 2002 and 2001:

(1) Not consolidated in 2001.

18. SHAREHOLDERS' EQUITY

SHARE REPURCHASE PROGRAM

The Company commenced its Share Repurchase Program in March 2000. On
October 15, 2001, the Company's Board of Trust Managers increased from $500.0
million to $800.0 million the amount of outstanding common shares that can be
repurchased from time to time in the open market or through privately negotiated
transactions (the "Share Repurchase Program"). There were no share repurchases
under the program for the year ended December 31, 2003. As of December 31, 2003,
the Company had repurchased 20,256,423 common shares under the Share Repurchase
Program, at an aggregate cost of approximately $386.9 million, resulting in an
average repurchase price of $19.10 per common share. All repurchased shares were
recorded as treasury shares.

SERIES A PREFERRED OFFERINGS

On January 15, 2004, the Company completed an offering (the "January
2004 Series A Preferred Offering") of an additional 3,400,000 Series A
Convertible Cumulative Preferred Shares (the "Series A Preferred Shares") at a
$21.98 per share price and with a liquidation preference of $25.00 per share for
aggregate total offering proceeds of approximately $74.7 million. The Series A
Preferred Shares are convertible at any time, in whole or in part, at the option
of the holders into common shares of the Company at a conversion price of $40.86
per common share (equivalent to a conversion rate of 0.6119 common shares per
Series A Preferred Share), subject to adjustment in certain circumstances. The
Series A Preferred Shares have no stated maturity and are not subject to sinking
fund or mandatory redemption. At any time, the Series A Preferred Shares may be
redeemed, at the Company's option, by paying $25.00 per share plus any
accumulated accrued and unpaid distributions. Dividends on the additional Series
A Preferred Shares are cumulative from November 16, 2003, and are payable
quarterly in arrears on the fifteenth of February, May, August and November,
commencing February 16, 2004. The annual fixed dividend on the Series A
Preferred Shares is $1.6875 per share.

Net proceeds to the Company from the January 2004 Series A Preferred
Offering after underwriting discounts and other offering costs of approximately
$3.7 million were approximately $71.0 million. The Company used the net proceeds
to pay down the Company's credit facility.

On April 26, 2002, the Company completed an institutional placement of
an additional 2,800,000 Series A Preferred Shares resulting in gross proceeds to
the Company of approximately $50.4 million. Net proceeds to the Company after
underwriting discounts and other offering costs of approximately $2.2 million
were approximately $48.2 million. The Company used the net proceeds to redeem
Class A Units issued by its subsidiary, Crescent Real Estate Funding IX L.P.
("Funding IX"), to GMACCM. See Note 19, "Sale of Preferred Equity Interests in
Subsidiary," for a description of the Class A Units.

124

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SERIES B PREFERRED OFFERINGS

On May 17, 2002, the Company completed an offering (the "May 2002
Series B Preferred Offering") of 3,000,000 Series B Cumulative Redeemable
Preferred Shares (the "Series B Preferred Shares") with a liquidation preference
of $25.00 per share for aggregate total offering proceeds of approximately $75.0
million. The Series B Preferred Shares have no stated maturity, are not subject
to sinking fund or mandatory redemption, are not convertible into any other
securities of the Company and may not be redeemed before May 17, 2007, except in
order to preserve the Company's status as a REIT. On or after May 17, 2007, the
Series B Preferred Shares may be redeemed, at the Company's option, by paying
$25.00 per share plus any accumulated, accrued and unpaid distributions.
Dividends on the Series B Preferred Shares are cumulative from the date of
original issuance and are payable quarterly in arrears on the fifteenth of
February, May, August and November, commencing August 15, 2002. The annual fixed
dividend is $2.375 per share.

Net proceeds to the Company from the May 2002 Series B Preferred
Offering after underwriting discounts and other offering costs of approximately
$2.8 million were approximately $72.3 million. The Company used the net proceeds
to redeem Class A Units issued by its subsidiary, Funding IX, to GMACCM.

On June 6, 2002, an additional 400,000 Series B Preferred Shares were
sold resulting in gross proceeds to the Company of approximately $10.0 million.
Net proceeds to the Company after underwriting discounts and other offering
costs of approximately $0.4 million were approximately $9.6 million. As with the
May 2002 Series B Preferred Offering, the Company used the net proceeds to
redeem Class A Units issued by its subsidiary, Funding IX, to GMACCM.

DISTRIBUTIONS

In October 2001, the Company announced that due to its revised cash
flow expectations in the uncertain economic environment and measuring its payout
ratios to those of the Company's peer group, the Company was reducing its
quarterly distribution from $0.55 per common share, or an annualized
distribution of $2.20 per common share, to $0.375 per common share, or an
annualized distribution of $1.50 per common share.

The distributions to common shareholders and unitholders paid during the
years ended December 31, 2003, 2002 and 2001, were $175.5 million, $192.7
million, and $274.4 million, respectively. These distributions represented an
annualized distribution of $1.50, $1.50 and $2.025 per common share and
equivalent unit for the years ended December 31, 2003, 2002, 2001, respectively.
During 2001 and through August 2002, the Company was holding 14,468,623 of its
common shares in its wholly-owned subsidiary, Crescent SH IX, Inc. ("SH IX").
The distribution amounts above include $16.3 million and $29.3 million of
distributions for the years ended December 31, 2002 and 2001, respectively,
which were paid for common shares held by the Company, and which were eliminated
in consolidation. On February 16, 2004, the Company distributed $43.9 million to
common shareholders and unitholders.

Distributions to Series A Preferred shareholders for the years ended
December 31, 2003, 2002 and 2001, were $18.2 million, $17.0 million, and $13.5
million, respectively. The distributions per Series A Preferred share were
$1.6875 per preferred share annualized for each of the three years. On February
16, 2004, the Company distributed $6.0 million to Series A Preferred
shareholders.

Distributions to Series B Preferred shareholders for the years ended
December 31, 2003, and 2002 were $8.1 million and $4.1 million, respectively.
The distributions per Series B Preferred share were $2.3750 per share annualized
for each of the two years. On February 16, 2004, the Company distributed $2.0
million to Series B Preferred shareholders.

125

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

COMMON SHARES

Following is the income tax status of distributions paid on common shares
for the years ended December 31, 2003 and 2002:

During 2002, many of the Company's significant capital transactions
resulted in net capital gain income for income tax purposes. The Company has
distributed to its shareholders the net capital gain income as a capital gain
dividend.

PREFERRED SHARES

Following is the income tax status of distributions paid for the years
ended December 31, 2003, and 2002 to preferred shareholders:

19. SALE OF PREFERRED EQUITY INTERESTS IN SUBSIDIARY

During the year ended December 31, 2000, the Company formed Funding IX
and issued $275.0 million of non-voting redeemable Class A units in Funding IX
(the "Class A Units") to GMACCM. The Class A Units were redeemable at the
Company's option at the original price. As of December 31, 2000, the Company had
redeemed approximately $56.6 million of the Class A units in Funding IX from
GMACCM. All of the Class A Units outstanding at December 31, 2000 were redeemed
by Funding IX during the year ended December 31, 2002. In connection with the
final redemption of Class A Units, SH IX, a wholly-owned subsidiary of the
Company, transferred the 14,468,623 common shares of the Company held by SH IX
to the Company, which holds these common shares as treasury shares, and the
intracompany loan between Funding IX and SH IX was repaid.

126

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

20. INCOME TAXES

TAXABLE CONSOLIDATED ENTITIES

Deferred income taxes reflect the net effects of temporary differences
between the carrying amounts of assets and liabilities of taxable consolidated
entities for financial reporting purposes and the amounts used for income tax
purposes. During 2003 and 2002, the taxable consolidated entities were comprised
of the taxable REIT subsidiaries of the Company.

Significant components of the Company's deferred tax liabilities and
assets at December 31, 2003, and 2002 are as follows:

In addition to the Net Deferred Tax Assets of approximately $29.5
million at December 31, 2002, the Company had a current tax receivable of $10.2
million at December 31, 2002, comprising the total Income tax asset - current
and deferred on the Company's Consolidated Balance Sheets at December 31, 2002.
At December 31, 2003, the Company has a current income tax payable of
approximately $8.0 million.

SFAS No. 109, "Accounting for Income Taxes," requires a valuation
allowance to reduce the deferred tax assets reported if, based on the weight of
the evidence, it is more likely than not that some portion or all of the
deferred tax assets will not be realized. After consideration of all the
evidence, both positive and negative, management determined that a $6.9 million
valuation allowance at December 31, 2003 and 2002, necessary to reduce the
deferred tax assets to the amount that will more likely than not be realized.
The Company has available net operating loss carryforwards of approximately $9.5
million at December 31, 2003, arising from the operation of the consolidated
taxable REIT subsidiaries. The net operating loss carryforwards will expire
between 2017 and 2021. The Company did not record a deferred tax benefit or
expense during the year ended December 31, 2001.

127

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Consolidated income (loss) from continuing operations subject to tax
was $67.5 million and $(20.7) million for the years ended December 31, 2003 and
2002, respectively. The reconciliation of (i) income tax attributable to
consolidated income (loss) subject to tax computed at the U.S. statutory rate to
(ii) income tax benefit is shown below:

The Company's current tax expense for the years ended December 31, 2003
and 2002 was $11.3 and $3.3 million, respectively. The Company's deferred tax
expense (benefit) for the years ended December 31, 2003 and 2002 was $15.0 and
($7.7) million, respectively.

21. RELATED PARTY TRANSACTIONS

DBL HOLDINGS, INC.

Since June 1999, the Company has contributed approximately $23.8
million to DBL. The contribution was used by DBL to make an equity contribution
to DBL-ABC, Inc., a wholly owned subsidiary of DBL, which committed to purchase
an affiliated partnership interest representing a 12.5% interest in G2. G2 was
formed for the purpose of investing in commercial mortgage backed securities and
other commercial real estate investments and is managed and controlled by an
entity (the "G2 General Partner") that is owned equally by GMSPLP and GMAC
Commercial Mortgage Corporation. The G2 General Partner is entitled to an annual
asset management fee. Additionally, the G2 General Partner has a 1% interest in
profits and losses of G2 and, after payment of specified amounts to partners, a
promoted interest based on payments to Unaffiliated Limited Partners. As an
Affiliated Limited Partner, DBL-ABC, Inc.'s returns are not impacted by the G2
General Partner's promoted interest. As of December 31, 2003, DBL-ABC, Inc. has
received approximately $20.9 million cumulative distributions and recognized
approximately $10.0 million cumulative net income bringing the investment
balance to approximately $13.3 million.

The ownership structure of GMSPLP consists of an approximately 86%
limited partnership interest owned directly and indirectly by Richard E.
Rainwater, Chairman of the Board of Trust Managers of the Company, and an
approximately 14% general partnership interest, of which approximately 6% is
owned by Darla Moore, who is married to Mr. Rainwater, and approximately 6% is
owned by John C. Goff, Vice-Chairman of the Company's Board of Trust Managers
and Chief Executive Officer of the Company. The remaining approximately 2%
general partnership interest is owned by unrelated parties.

On January 2, 2003, the Company purchased the remaining 2.56% economic
interest, representing 100% of the voting stock, in DBL from Mr. Goff. Total
consideration paid for Mr. Goff's interest was $0.4 million. The Board of Trust
Managers of the Company, including all the independent trust managers, approved
the transaction based in part on an appraisal of the assets of DBL by an
independent appraisal firm. As a result of this transaction, DBL is wholly-owned
by the Company and is consolidated in the Residential Development Segment as of
and for the year ended December 31, 2003. Also, because DBL owns a majority of
the voting stock in MVDC and HADC, the Company consolidated these two
Residential Development Corporations as of and for the year ended December 31,
2003.

COPI COLORADO, L. P.

On February 14, 2002, the Company executed an agreement with COPI,
pursuant to which COPI transferred to the Company, COPI's 60% general partner
interest in COPI Colorado, L.P. ("COPI Colorado"), the partnership that owned a
10% interest, representing all of the voting stock, in CRDI. John Goff, Vice
Chairman of the Board of Trust Managers and Chief Executive Officer of the
Company, owned a 20% interest in COPI Colorado,

128

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

and the remaining 20% interest was owned by a third party. As a result of this
transaction, the Company indirectly owned a 96% interest in CRDI. John Goff
owned a 2% interest in CRDI and the remaining 2% interest was owned by the third
party. The Company fully consolidated the operations of CRDI as of the date of
the asset transfer.

On December 30, 2002, the Company purchased the 40% interest in COPI
Colorado from Mr. Goff and the third party, bringing the Company's ownership in
COPI Colorado and CRDI to 100%. The purchase price of the 40% interest in COPI
Colorado was $5.6 million, of which $2.8 million was paid to Mr. Goff. The Board
of Trust Managers of the Company, including all of the independent trust
managers, approved the transaction, based in part on an appraisal of the assets
of COPI Colorado by an independent appraisal firm. Subsequent to the
transaction, the Company dissolved COPI Colorado and contributed its assets, all
the voting stock of CRDI, to Crescent TRS Holdings Corp.

LOANS TO EMPLOYEES AND TRUST MANAGERS OF THE COMPANY FOR EXERCISE OF STOCK
OPTIONS AND UNIT OPTIONS

As of December 31, 2003, the Company had approximately $38.0 million
loan balances outstanding, inclusive of current interest accrued of
approximately 0.2 million, to certain employees and trust managers of the
Company on a recourse basis pursuant to the Company's stock incentive plans and
unit incentive plans pursuant to an agreement approved by the Board of Directors
and the Executive Compensation Committee of the Company. The proceeds of these
loans were used by the employees and the trust managers to acquire common shares
of the Company pursuant to the exercise of vested stock and unit options.
Pursuant to the loan agreements, these loans may be repaid in full or in part at
any time without premium or penalty. John Goff, Vice-Chairman of the Board of
Trust Managers and Chief Executive Officer of the Company, had a loan
representing $26.3 million of the $37.8 million total outstanding loans at
December 31, 2003. No conditions exist at December 31, 2003 which would cause
any of the loans to be in default.

Every month, federal short-term, mid-term and long-term rates
(Applicable Federal Rates) ("AFR") are determined and published by the IRS based
upon average market yields of specified maturities. On November 1, 2001,
existing loans were amended to reduce the interest rates for their remaining
terms to the Applicable Federal Rates. As a result, the interest rates on loans
with remaining terms of three years or less at November 1, 2001 were reduced to
approximately 2.7% per year and the interest rates on loans with remaining terms
greater than three years as of November 1, 2001 were reduced to approximately
4.07% per year. These amended interest rates reflected below prevailing market
interest rates and, in accordance with GAAP, the Company recorded $0.8 million
of compensation expense for the year ended December 31, 2001.

The Company granted additional loans during 2002 through July 29, 2002,
with interest rates equal to the AFR of 2.70% to 2.81%, which reflect below
prevailing market interest rates and, in accordance with GAAP, the Company
recorded compensation expense. On July 29, 2002, the loans made pursuant to the
Company's stock incentive plans were amended to extend the remaining terms of
the loans until July 2012, and to stipulate that every three years the interest
rate on the loans would be adjusted to the AFR applicable at that time for a
three-year loan, reflecting a below prevailing market interest rate.
Additionally, the employees and trust managers were given the option, at any
time, to fix the interest rate for each of the loans to the AFR applicable at
that time for a loan with a term equal to the remaining term of the loan. The
July 29, 2002, amendment resulted in $1.9 million of additional compensation
expense for the year ended December 31, 2002, recorded in "Other expenses" in
the Company's Consolidated Statements of Operations. Effective July 29, 2002,
the Company ceased offering to its employees and Trust Managers the option to
obtain loans pursuant to the Company's stock and unit incentive plans. On July
29, 2003, each of the employees and trust managers elected to fix the interest
rate on the loans. As a result, the interest rate on the loans, each with a
remaining term of nine years, was reduced to 2.52% per year.

129

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

DEBT OFFERING

On April 15, 2002, the Company completed a private offering of $375.0
million in senior, unsecured notes due in 2009, $50.0 million of which were
purchased by Richard E. Rainwater, Chairman of the Board of Trust Managers of
the Company, and certain of his affiliates and family members (the "Rainwater
Group"). The notes bear interest at 9.25% and were issued at 100% of issue
price. The Company registered for resale the notes issued to the Rainwater
Group. See Note 11, "Notes Payable and Borrowings under Credit Facility," for
additional information regarding the offering and the notes.

SHARE AND UNIT EXCHANGE BY CHAIRMAN

During 2002, the Company and the Operating Partnership agreed that it
was in the best interest of the Company and its shareholders and of the
Operating Partnership and its partners to permit Richard E. Rainwater, Chairman
of the Board of Trust Managers of the Company, to exchange a portion of his
common shares for units of the Operating Partnership so that additional
purchases of common shares by the Company or Mr. Rainwater, or both, would not
cause Mr. Rainwater to violate REIT equity ownership concentration rules and the
Company's limitations on share ownership as set forth in its Declaration of
Trust.

On October 15, 2002, November 14, 2002, and November 20, 2002, Mr.
Rainwater contributed 3,050,000, 700,800 and 1,055,000, respectively, of his
common shares to the Operating Partnership in exchange for 1,525,000, 350,400
and 527,500 units, respectively. Each of the units issued to Mr. Rainwater may
be exchanged for two common shares. The Operating Partnership immediately
contributed the common shares that it received from Mr. Rainwater, in the
aggregate amount of 4,805,000 common shares, to the Company and, as required by
the limited partnership agreement of the Operating Partnership, redeemed a
portion of the Company's limited partner interest in the Operating Partnership
equal in value to the value of the common shares that the Operating Partnership
contributed to the Company. In accordance with the terms of the Operating
Partnership's limited partnership agreement, the shares and the interest were
valued at the closing price of the Company's common shares on the New York Stock
Exchange on the date immediately preceding the date of the contributions. The
closing price of the common shares was $14.62 on October 14, 2002, $14.94 on
November 13, 2002 and $15.38 on November 19, 2002. As a result of these
transactions, minority interest increased by $71.3 million and shareholders'
equity decreased by $71.3 million and the number of treasury shares increased
by 4,805,000 shares.

In September 2002, Mr. Rainwater sold 300,000 of the Company's common
shares to a family member. In November 2002, in connection with the share and
unit exchange transaction described above, Mr. Rainwater purchased common shares
of the Company in the open market. Because the transactions occurred within a
six month period and the price per share of the September sale exceeded the
price per share of the November purchase, Mr. Rainwater was deemed to have
received a short swing profit under the provisions of Section 16(b) of the
Securities Exchange Act of 1934. In accordance with Section 16(b), Mr. Rainwater
paid the entire $0.3 million amount of the profit to the Company on November 20,
2002. The Company recorded the payment as a credit to additional paid-in
capital.

OTHER

On June 28, 2002, the Company purchased the home of an executive
officer to facilitate the hiring and relocation of this executive officer. The
purchase price for the home was approximately 2.6 million. The Company is
actively marketing this asset for sale and has recognized an impairment charge
of approximately $0.6 million, net of taxes, during the year ended December 31,
2003, based on market conditions.

130

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

22. QUARTERLY FINANCIAL INFORMATION (unaudited)

131

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

132

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

23. COPI

In April 1997, the Company established a new Delaware corporation,
COPI. COPI was formed to become a lessee and operator of various assets to be
acquired by the Company. Subsidiaries of COPI became lessees of eight of the
Resort/Hotel Properties. In addition, the Company made loans to COPI under a
line of credit and various term loans.

The Company stopped recording rent from the leases of the eight
Resort/Hotel Properties leased to subsidiaries of COPI on October 1, 2001, and
recorded impairment and other adjustments related to COPI in the fourth quarter
of 2001, based on the estimated fair value of the underlying assets.

IMPAIRMENT AND OTHER ADJUSTMENTS RELATED TO COPI

Resort/Hotel Accounts Receivable, net of allowance $ 33,200
Resort/Hotel Deferred Rent Receivable 12,700
Notes Receivable and Accrued Interest 71,500
Asset transaction costs 2,800
---------
$ 120,200
Less estimated collateral vale to be received from COPI:
Estimated Fair Value of Resort/Hotel FF&E $ 6,900
Estimated Fair Value of Voting Stock of
Residential Development Corporations 38,500
---------
45,400
---------
Impairment of assets $ 74,800

Plus Estimated Costs Related to COPI bankruptcy 18,000
---------
Impairment and other charges related to COPI $ 92,800
=========

On February 14, 2002, pursuant to an agreement (the "Agreement") with
COPI, the Company acquired COPI's lessee interests in the eight Resort/Hotel
Properties and all of COPI's voting interests in three of the Company's
Residential Development Corporations and other assets. In connection with the
acquisition, COPI's rent and debt obligations to the Company were reduced.

The Company holds the lessee interests in the eight Resort/Hotel
Properties and the voting interests in the three Residential Development
Corporations through three wholly-owned taxable REIT subsidiaries of the
Company. Since February 15, 2002, the Company has included these assets in its
Resort/Hotel Segment and its Residential Development Segment, and fully
consolidated the operations of the eight Resort/Hotel Properties and the three
Residential Development Corporations.

The Agreement provides that COPI and the Company will jointly seek to
have a pre-packaged bankruptcy plan for COPI, reflecting the terms of the
Agreement, approved by the bankruptcy court. Under the Agreement, the Company
has agreed to provide approximately $14.0 million to COPI in the form of cash
and common shares of the Company to fund costs, claims and expenses relating to
the bankruptcy and related transactions, and to provide for the distribution of
the Company's common shares to the COPI stockholders. The Company also agreed,
however, that it will issue common shares with a minimum dollar value of
approximately $2.2 million to the COPI stockholders, even if it would cause the
total costs, claims and expenses that it pays to exceed $14.0 million. Since
February 15, 2002, the Company has loaned $5.8 million to COPI to fund costs,
claims and expenses relating to the bankruptcy and related transactions.
Currently, the Company estimates that the value of the common shares that will
be issued to the COPI stockholders will be approximately $2.2 million.

In addition, the Company has agreed to use commercially reasonable
efforts to assist COPI in arranging COPI's repayment of its $15.0 million
obligation to Bank of America, together with any accrued interest. The Company
expects to form and capitalize a new entity ("Crescent Spinco"), to be owned by
the shareholders of the Company. Crescent Spinco then would purchase COPI's
interest in AmeriCold Logistics for between $15.0 million

133

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

and $15.5 million. COPI has agreed that it will use the proceeds of the sale of
the AmeriCold Logistics interest to repay Bank of America in full.

COPI obtained the loan from Bank of America primarily to participate in
investments with the Company. At the time COPI obtained the loan, Bank of
America required, as a condition to making the loan, that Richard E. Rainwater,
the Chairman of the Board of Trust Managers of the Company, and John C. Goff,
Vice-Chairman of the Board of Trust Managers and Chief Executive Officer of the
Company, enter into a support agreement with COPI and Bank of America. Pursuant
to the support agreement, Messrs. Rainwater and Goff agreed to make additional
equity investments in COPI if COPI defaulted on payment obligations under its
line of credit with Bank of America and if the net proceeds of an offering of
COPI securities were insufficient to allow COPI to repay Bank of America in
full.

Previously, the Company held a first lien security interest in COPI's
entire membership interest in AmeriCold Logistics. REIT rules prohibit the
Company from acquiring or owning the membership interest that COPI owns in
AmeriCold Logistics. Under the Agreement, the Company agreed to allow COPI to
grant Bank of America a first priority security interest in the membership
interest and to subordinate its own security interest to that of Bank of
America.

On March 6, 2003, the stockholders of COPI approved the pre-packaged
bankruptcy plan for COPI. On March 10, 2003, COPI filed the plan under Chapter
11 of the United States Bankruptcy Code in the United States Bankruptcy Court
for the Northern District of Texas.

If the COPI bankruptcy plan is approved by bankruptcy court, the
holders of COPI's common stock will receive the Company's common shares. As
stockholders of COPI, Mr. Rainwater and Mr. Goff will also receive the Company's
common shares.

Pursuant to the Agreement, the current and former directors and
officers of COPI and the current and former trust managers and officers of the
Company also have received a release from COPI of liability for any actions
taken prior to February 14, 2002, and, depending on various factors, will
receive certain liability releases from COPI and its stockholders under the COPI
bankruptcy plan.

Completion and effectiveness of the pre-packaged bankruptcy plan for
COPI is contingent upon a number of conditions, including the approval of the
plan by certain of COPI's creditors and the confirmation of the plan by the
bankruptcy court.

24. BEHAVIORAL HEALTHCARE PROPERTIES

As of December 31, 2000, the Company owned 28 behavioral healthcare
properties. The former tenant of the behavioral healthcare properties declared
bankruptcy and ceased operations in 2000.

The Company received approximately $6.0 million in repayment of a
working capital loan from the former tenant during the year ended December 31,
2001, which was previously written off and is included in Interest and other
income on the Consolidated Statements of Operations.

134

CRESCENT REAL ESTATE EQUITIES COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

This table presents the dispositions of behavioral healthcare
properties by year including the number of properties sold, net proceeds
received, gains on sales and impairments recognized. Depreciation has not been
recognized since the dates the behavioral healthcare properties were classified
as held for sale.

- ----------

(1) The sale of one property on February 27, 2003 also generated a note
receivable in the amount of $0.7 million, with interest only payments
beginning March 2003, through maturity in February 2005. The interest rate
is the prime rate, as defined in the note, plus 1.0%.

(2) The impairment charges represent the difference between the carrying values
and the estimated sales prices less the costs of the sales for all
properties held for sale during the respective year.

As of December 31, 2003, the Company owned one behavioral healthcare
property. After recognition of a $0.9 million impairment relating to this
property in 2003, the carrying value of the remaining behavioral healthcare
property at December 31, 2003, was approximately $2.3 million. The Company has
entered into a contract to sell the Property and anticipates that the sale will
close in the second quarter of 2004.

25. SUBSEQUENT EVENTS

ASSETS HELD FOR SALE

Subsequent to December 31, 2003, four Office Properties were classified
as held for sale in accordance with SFAS No. 144 as a result of management of
the Company committing to a plan to sell these Office Properties. The
Properties, including 3333 Lee Parkway located in the Uptown/Turtle Creek
submarket in Dallas, Texas, 5050 Quorum and Addison Tower, both located in the
Quorum/Bent Tree submarket in Dallas, Texas and Ptarmigan Place located in the
Cherry Creek submarket in Denver, Colorado, are currently being marketed for
sale and anticipated to be sold during 2004. The following table indicates the
carrying value at December 31, 2003 and 2002 of the major classes of assets of
these Office Properties.

UNDEVELOPED LAND - HUGHES CENTER

On March 1, 2004, in accordance with the agreement to acquire the
Hughes Center Properties, the Company completed the purchase of two tracts of
undeveloped land in Hughes Center from the Rouse Company for $10.0 million. The
purchase was funded by a $7.5 million loan from the Rouse Company and a draw on
the Company's credit facility.

135

SCHEDULE III

CRESCENT REAL ESTATE EQUITIES COMPANY
CONSOLIDATED REAL ESTATE INVESTMENTS AND ACCUMULATED DEPRECIATION
DECEMBER 31, 2003
(dollars in thousands)

136

SCHEDULE III

137

SCHEDULE III

- ----------
(1) Initial costs include purchase price, adjustments related to SFAS 141, and
any costs associated with closing of the Property.
(2) Depreciation of the real estate assets is calculated over the following
estimated useful lives using the straight-line method:
Building and improvements 5 to 40 years
Tenant improvements Terms of leases
Furniture, fixtures, and equipment 3 to 5 years
(3) This Office Property was sold on December 15, 2003.
(4) As of September 30, 2003, Liberty Plaza I and II was held for sale, and is
included in Discontinued Operations in the Company's consolidated financial
statements. Depreciation expense has not been recognized since the date
this Property was held for sale.
(5) As of September 30, 2003, 12404 Park Central was held for sale, and is
included in Discontinued Operations in the Company's consolidated financial
statements. Depreciation expense has not been recognized since the date
this Property was held for sale.
(6) On December 31, 2003, the Company sold its interest in Woodlands Office
Equities, which owned four Office Properties located within The Woodlands,
Texas, and interest in The Woodlands Land Company.
(7) As of March 31, 2003, 1800 West Loop South was held for sale, and is
included in Discontinued Operations in the Company's consolidated financial
statements. Depreciation expense has not been recognized since the date
this Property was held for sale.
(8) Depreciation on behavioral healthcare properties held for sale ceased from
11/11/99 through 12/31/03 (the period over which these properties were held
for sale). During the year ended December 31, 2003, the Company sold six
behavioral healthcare properties. The Company owns one behavioral
healthcare property, which was held for disposition as of December 31,
2003.
(9) This property was acquired on August 26, 2003.
(10) These properties were acquired on December 31, 2003.
(11) Land and cost capitalized subsequent to acquisition includes property under
development and is net of residential development cost of sales.
(12) Beginning on January 2,2003, Mira Vista Development Company and Houston
Area Development Corporation were consolidated in the Company's financial
statements, as a result of the purchase by the Company of the remaining
2.56% voting stock in DBL Holdings, Inc. from John Goff, Vice-Chairman of
the Company's Board of Directors and Chief Executive Officer of the
Company.
(13) On April 24, 2003, the Company sold 0.5 acres of land located in Dallas,
Texas. On May 15, 2003, the Company sold 24.8 acres located in Coppell,
Texas.

138

A summary of combined real estate investments and accumulated depreciation is as
follows:

139

COMBINED FINANCIAL STATEMENTS AND OTHER FINANCIAL INFORMATION

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.
Years ended December 31, 2003 and 2002

140

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combined Financial Statements and Other Financial Information

Years ended December 31, 2003 and 2002

CONTENTS

Report of Independent Auditors....................................................143

Audited Combined Financial Statements

Combined Balance Sheets...........................................................144
Combined Statements of Earnings and Comprehensive Income..........................145
Combined Statements of Changes in Partners' Equity (Deficit)......................146
Combined Statements of Cash Flows.................................................147
Notes to Combined Financial Statements............................................148

Other Financial Information

Report of Independent Auditors on Other Financial Information.....................172

Combining Balance Sheets..........................................................173
Combining Statements of Earnings (Loss) and Comprehensive Income (Loss)...........175
Combining Statements of Changes in Partners' Equity (Deficit).....................177
Combining Statements of Cash Flows................................................178

141

Report of Independent Auditors

To the Executive Committee of
The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

We have audited the accompanying combined balance sheets of The Woodlands Land
Development Company, L.P., The Woodlands Commercial Properties Company, L.P.,
and The Woodlands Operating Company, L.P., Texas limited partnerships,
(collectively, the "Companies"), as of December 31, 2003 and 2002, and the
related combined statements of earnings and comprehensive income, changes in
partners' equity (deficit), and cash flows for the years then ended. These
financial statements are the responsibility of the Companies' management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the combined financial position of the Companies at
December 31, 2003 and 2002, and the combined results of their operations and
their cash flows for the years then ended, in conformity with accounting
principles generally accepted in the United States.

February 9, 2004

142

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combined Balance Sheets

See accompanying notes.

143

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combined Statements of Earnings and Comprehensive Income

See accompanying notes.

144

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combined Statements of Changes in Partners' Equity (Deficit)

See accompanying notes.

145

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combined Statements of Cash Flows

See accompanying notes.

146

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements

December 31, 2003 and 2002

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

CONTROL

The Woodlands Land Development Company, L.P. ("Woodlands Development"), The
Woodlands Commercial Properties Company, L.P. ("Woodlands Commercial"), and The
Woodlands Operating Company, L.P. ("Woodlands Operating"), Texas limited
partnerships (together "The Woodlands Partnerships"), are owned by entities
controlled by The Rouse Company ("Rouse") and Morgan Stanley Real Estate Fund
II, L.P. ("Morgan Stanley"). Woodlands Development and Woodlands Commercial are
successors to The Woodlands Corporation. Prior to July 31, 1997, The Woodlands
Corporation was a wholly owned subsidiary of Mitchell Energy & Development Corp.
On July 31, 1997, The Woodlands Corporation was acquired by Crescent Real Estate
Equities Limited Partnership ("Crescent") and Morgan Stanley. On December 31,
2003, Crescent sold its interest in The Woodlands Partnerships to Rouse.

Woodlands Operating and its subsidiary, WECCR General Partnership ("WECCR GP"),
manage assets owned by Woodlands Commercial and Woodlands Development as
described in Note 8. In July 2000, Woodlands Development and Woodlands
Commercial established subsidiaries, Woodlands VTO 2000 Land, L.P. ("VTO Land"),
and Woodlands VTO 2000 Commercial, L.P. ("VTO Commercial"), to own and operate
certain commercial properties in The Woodlands. These subsidiaries purchased
certain commercial properties owned by Woodlands Development and Woodlands
Commercial. In June 2001, Woodlands Development established a subsidiary, The
Woodlands Hotel, L.P. ("the Hotel"), to construct and operate a hotel in The
Woodlands.

PRINCIPLES OF COMBINATION

The combined financial statements include the accounts of The Woodlands
Partnerships and are combined due to common ownership in certain cases and
management. All significant transactions and accounts between The Woodlands
Partnerships are eliminated in combination. The Woodlands Partnerships follow
the equity method of accounting for their investments in 20% to 50% owned
entities.

147

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

BUSINESS

The Woodlands Partnerships' real estate activities are concentrated in The
Woodlands, a planned community located north of Houston, Texas. Consequently,
these operations and the associated credit risks may be affected, either
positively or negatively, by changes in economic conditions in this geographical
area. Activities associated with The Woodlands Partnerships include residential
and commercial land sales and the construction, operation, and management of
office and industrial buildings, apartments, golf courses, and two hotel
facilities.

REAL ESTATE

Costs associated with the acquisition and development of real estate, including
holding costs consisting principally of interest and ad valorem taxes, are
capitalized as incurred. Capitalization of such holding costs is limited to
properties for which active development continues. Capitalization ceases upon
completion of a property or cessation of development activities. Where
practicable, capitalized costs are specifically assigned to individual assets;
otherwise, costs are allocated based on estimated values of the affected assets.

Long-lived assets are reviewed for impairment when events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. For the years ended
December 31, 2003 and 2002, there were no impairments recognized.

REVENUE RECOGNITION

Staff Accounting Bulletin No. 104 ("SAB 104") provides interpretive guidance on
the proper revenue recognition, presentation, and disclosure in financial
statements. The Woodlands Partnerships have reviewed their revenue recognition
policies and determined that they are in compliance with accounting principles
generally accepted in the United States and the related interpretive guidance
set forth in SAB 104.

148

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

LAND SALES

Earnings from sales of real estate are recognized when a third-party buyer has
made an adequate cash down payment and has attained the attributes of ownership.
Notes received in connection with land sales are discounted when the stated
purchase prices are significantly different from those that would have resulted
from similar cash transactions. The cost of land sold is generally determined as
a specific percentage of the sales revenues recognized for each land development
project. The percentages are based on total estimated development costs and
sales revenues for each project. These estimates are revised annually and are
based on the then-current development strategy and operating assumptions
utilizing internally developed projections for product type, revenue, and
related development cost.

SALES OF COMMERCIAL PROPERTIES

Sales of commercial properties are accounted for under the accrual method when
certain criteria are met. Gains or losses are recognized when a significant down
payment has been made, the earnings process is complete, and the collection of
any remaining receivables is reasonably assured.

LEASE REVENUE

Commercial properties are leased to third-party tenants generally involving
multi-year terms. These leases are accounted for as operating leases. See Note 3
for further discussion.

DEPRECIATION

Depreciation of operating assets is recorded on the straight-line method over
the estimated useful lives of the assets. Useful lives range predominantly from
15 to 40 years for land improvements and buildings, 3 to 20 years for leasehold
improvements, and 3 to 10 years for furniture, fixtures, and equipment. Property
and equipment are carried at cost less accumulated depreciation. Costs incurred
for computer software developed for internal use are capitalized for application
development activities.

149

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

ADVERTISING

Advertising costs are charged to operations when incurred. For the years ended
December 31, 2003 and 2002, advertising costs totaled $4,407,000 and $5,686,000,
respectively.

DEFERRED FINANCING COSTS

Costs incurred to obtain debt financing are deferred and amortized over the
estimated term of the related debt using the interest method.

INCOME TAXES

Woodlands Development, Woodlands Commercial, and Woodlands Operating are not
income tax-paying entities, and all income and expenses are reported by the
partners for tax reporting purposes. No provision for federal income taxes is
included in the accompanying combined financial statements for these entities.
Effective March 1, 2002, WECCR GP elected to be classified as an association
taxable as a corporation for federal income tax purposes. Accordingly, federal
income tax has been provided. For state purposes, WECCR GP is a partnership, and
no state tax has been provided for. WECCR GP had no foreign operations.

The tax returns, the qualification of The Woodlands Partnerships for tax
purposes, and the amount of distributable partnership income or loss are subject
to examination by federal taxing authorities. If such examinations result in
changes with respect to partnership qualification or in changes to distributable
partnership income or loss, the tax liability of the partners could be changed
accordingly.

INVENTORY

Inventory is carried at the lower of cost or market and consists primarily of
golf-related clothing and equipment sold at golf course pro shops and food and
beverages sold at the hotel facilities in The Woodlands. Cost is determined
based on a first-in, first-out method.

150

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

STATEMENTS OF CASH FLOWS

Short-term investments with maturities of three months or less when purchased
are considered to be cash equivalents. Debt borrowings and repayments with
initial terms of three months or less are reported net. For the years ended
December 31, 2003 and 2002, The Woodlands Partnerships paid interest totaling
$19,760,000 and $20,827,000, respectively.

USE OF ESTIMATES

The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from those estimates.

RECLASSIFICATIONS

Certain reclassifications have been made in the prior year's combined financial
statements to conform with classifications used in the current year.

RECENT ACCOUNTING PRONOUNCEMENTS

In November 2002, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of the Indebtedness of Others. This
Interpretation requires a guarantor to recognize, at the inception of a
guarantee issued or modified after December 31, 2002, a liability for the fair
value of the obligation undertaken for issuing the guarantee. Adoption of this
Interpretation did not have a material impact on The Woodlands Partnerships'
results of operations or financial position.

In January 2003, the FASB issued Interpretation No. 46R, Consolidation of
Variable Interest Entities. This Interpretation requires the consolidation of
entities in which an enterprise absorbs a majority of the entity's losses,
receives a majority of the entity's expected residual returns, or both, as a
result of ownership, contractual, or other financial interests in the entity.

151

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Prior to the issuance of this Interpretation, entities were generally
consolidated by an enterprise when it had a controlling interest through
ownership of a majority voting interest. This Interpretation applies immediately
to entities created after January 31, 2003, and with respect to variable
interests held prior to that date, The Woodlands Partnerships will apply the
Interpretation beginning in 2005, when required for nonpublic entities. The
Woodlands Partnerships do not have any variable interests with entities created
after January 31, 2003, and are in the process of evaluating their investments
in variable interest entities created prior to that date. Adoption of this
Interpretation is not expected to have a material impact on The Woodlands
Partnerships' results of operations or financial position.

2. NOTES AND CONTRACTS RECEIVABLE

Notes receivable are carried at cost, net of discounts. At December 31, 2003 and
2002, Woodlands Development held notes and contracts receivable totaling
$31,054,000 and $29,048,000, respectively, including amounts related to utility
district receivables totaling $27,746,000 and $27,904,000, respectively. During
2003 and 2002, Woodlands Development sold $7,000,000 and $13,885,000,
respectively, of its utility district receivables to a financial institution
under a factoring agreement and recorded a retained interest related to these
receivables of $324,000 and $1,305,000, respectively, which is included in the
utility district receivables. The retained interest was calculated using a
discount rate of 5% and assumes the receivables are collected in three years.
Woodlands Development recorded a discount of $215,000 and $600,000 on these
factorings during the years ended December 31, 2003 and 2002, respectively.
Utility district receivables, the collection of which is dependent on the
ability of utility districts in The Woodlands to sell bonds, have a market
interest rate of approximately 4.75% at December 31, 2003. Other notes
receivable totaling $3,308,000 bear interest at an average rate of 6.1%.
Maturities for 2004 through 2008 and thereafter are $186,000, $201,000,
$217,000, $230,000, $-0-, and $2,474,000, respectively.

At December 31, 2003 and 2002, Woodlands Commercial held notes receivable
totaling $200,000 and $366,000, respectively. The notes receivable have stated
interest rates between prime plus .5% and prime plus 1.5%, with a yield of
approximately 5.5% at December 31, 2003. The remaining $200,000 note at December
31, 2003, has no stated maturity.

152

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

3. REAL ESTATE

The following is a summary of real estate (in thousands):

LAND

The principal land development is The Woodlands, a mixed-use, master-planned
community located north of Houston, Texas. Residential land is divided into
eight villages in various stages of development. Each village has or is planned
to contain a variety of housing, neighborhood retail centers, schools, parks,
and other amenities. Woodlands Development controls the development of the
residential communities and produces finished lots for sale to qualified
builders. Housing is constructed in a wide range of pricing and product styles.

Commercial land is divided into distinct centers that serve or are planned to
serve as locations for office buildings, retail and entertainment facilities,
industrial and warehouse facilities, research and technology facilities, and
college and training facilities. Woodlands Development produces finished sites
for third parties or for its own building development activities.

153

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

3. REAL ESTATE (CONTINUED)

COMMERCIAL PROPERTIES

Commercial and industrial properties owned or leased by The Woodlands
Partnerships are leased to third-party tenants. At December 31, 2003 and 2002,
the net book value of assets under operating leases totaled $24,722,000 and
$34,379,000, respectively. Lease terms, including renewal periods, range from 1
to 26 years with an average remaining term of 3 years. Contingent rents include
pass-throughs of incremental operating costs. Minimum future lease revenues from
noncancelable operating leases and subleases exclude contingent rentals that may
be received under certain lease agreements. Tenant rents include rent for
noncancelable operating leases, cancelable leases, and month-to-month rents and
are included in other revenue. For the years ended December 31, 2003 and 2002,
tenant rents totaled $8,589,000 and $9,180,000, respectively. For the years
ended December 31, 2003 and 2002, contingent rents totaled $2,315,000 and
$2,496,000, respectively. Minimum future lease rentals for 2004 through 2008 and
thereafter total $6,616,000, $3,560,000, $2,962,000, $2,438,000, $1,586,000, and
$1,013,000, respectively.

During 2002, The Woodlands Partnerships sold commercial properties for
$37,000,000 and recognized as other revenue a gain on sale of properties of
$11,507,000.

PROPERTIES HELD FOR SALE AND DISCONTINUED OPERATIONS

In December 2002, a subsidiary of Woodlands Commercial acquired the limited
partner interests in two partnerships for which Woodlands Commercial is the
general partner. These properties, with a carrying value of $8,882,000, were
classified as properties held for sale on the combined balance sheet at December
31, 2002. Woodlands Commercial sold these properties in July 2003 for $16.2
million and recognized a gain of $6,186,000. Other partnerships in which
Woodlands Commercial holds an equity interest sold their assets during 2003.
Woodlands Commercial recognized $2,774,000 as its share of the gain from the
sales. In December 2003, Woodlands Development sold a commercial property for
$8.4 million and recognized a loss of $862,000 on the sale.

154

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

3. REAL ESTATE (CONTINUED)

In October 2003, The Woodlands Partnerships contracted with third parties to
provide property management, leasing and related functions that were previously
provided by in-house staff. The Woodlands Partnerships recorded termination
benefits of $505,000 that are included in "operating expenses" in the summary of
discontinued operations below for the year ended December 31, 2003.

A summary of the gain from discontinued operations for the years ended December
31, 2003 and 2002, follows (in thousands):

4. EQUITY INVESTMENTS

During 2003, The Woodlands Partnerships' principal partnership and corporation
interests included the following:

155

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

4. EQUITY INVESTMENTS (CONTINUED)

Other partnerships own various commercial properties, all of which are located
in The Woodlands. Woodlands Operating provides various management and leasing
services to these affiliated entities on the same terms and conditions as those
of unrelated third parties. The Woodlands Partnerships' net investment in each
of these entities is included in the real estate caption on the combined balance
sheets and their shares of these entities' pretax earnings is included in other
revenues on the combined statements of earnings and comprehensive income. A
summary of The Woodlands Partnerships' net investment as of December 31, 2003
and 2002 and their share of pretax earnings for the years then ended follows (in
thousands):

156

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

4. EQUITY INVESTMENTS (CONTINUED)

Summarized financial statement information for partnerships and a corporation in
which The Woodlands Partnerships' have an equity ownership interest at December
31, 2003 and 2002, and for the years then ended follows (in thousands):

Woodlands Commercial has guaranteed mortgage debt of its unconsolidated
affiliates totaling $12,909,000 and $14,733,000 at December 31, 2003 and 2002,
respectively. These guarantees reduce in varying amounts through 2017 and would
require payments only in the event of default on payment by the respective
debtors. Woodlands Commercial believes that the likelihood is remote that
payments will be required under these guarantees.

157

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

4. EQUITY INVESTMENTS (CONTINUED)

In December 2002, Woodlands Commercial sold its interest in The Woodlands Mall
Associates for $43,400,000 and recognized as gain on sale of properties of
$33,628,000.

5. DEBT

A summary of The Woodlands Partnerships' outstanding debt at December 31, 2003
and 2002, follows (in thousands):

BANK CREDIT AGREEMENT

In November 2002, Woodlands Development and Woodlands Commercial renegotiated
their existing bank credit agreement. The new bank credit agreement consists of
a $300 million term loan and a $100 million revolving credit loan. The credit
agreement has a three-year term expiring in November 2005 with two one-year
extension options for the term loan and a one year extension option for the
revolving loan. At December 31, 2003 and 2002, $100,000,000 was available to be
borrowed under the revolving credit agreement. The interest rate, based on the
London Interbank Offered Rate plus a margin, is approximately 4.4% at December
31, 2003. Interest is paid monthly. Commitment fees, based on .25% of the unused
commitment, totaled $109,000 and $126,000 for the years ended December 31, 2003
and 2002, respectively. The credit agreement contains certain restrictions that,
among other things, require the maintenance of specified financial ratios,
restrict indebtedness and sale, lease or transfer of certain assets, and limit
the right of Woodlands Development and Woodlands Commercial to merge with other
companies and make distributions to their partners. At December 31, 2003,
Woodlands Development and Woodlands Commercial were

158

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

5. DEBT (CONTINUED)

in compliance with their debt covenants. Certain assets of Woodlands Development
and Woodlands Commercial, including cash, receivables, commercial properties and
equity investments in joint ventures and partnerships, secure the credit
agreement. Mandatory debt maturities for 2004 and 2005 are $22,500,000 and
$257,500,000, respectively. Payments may be made by Woodlands Development or
Woodlands Commercial or both at their option. In addition to stipulated
principal payments, principal payments are also required based on distributions
to Rouse and Morgan Stanley and certain covenant tests. Prepayments can also be
made at the discretion of Woodlands Development and Woodlands Commercial.
Prepayments on the term loan are subject to a prepayment penalty of up to 1%.

At December 31, 2003, Woodlands Development and Woodlands Commercial had
interest rate swap agreements with two commercial banks to reduce the impact of
increases in interest rates on their bank credit agreement. The interest swap
agreements effectively limits their interest rate exposure on the notional
amount of $100,000,000 to LIBOR rates of 1.735%. The interest swap agreements
expire July 3, 2006. Woodlands Development and Woodlands Commercial are exposed
to credit loss in the event of nonperformance by the other parties. However,
management does not anticipate nonperformance by the other parties.

SUBSIDIARIES' CREDIT AGREEMENTS

VTO Land and VTO Commercial entered into a $67,500,000 credit agreement that had
a three-year term expiring in October 2003 with two one-year extension options.
The first one-year extension option was exercised. The interest rate, based on
the London Interbank Offered Rate plus a margin, is approximately 3.2% and 3.4%
at December 31, 2003 and 2002, respectively. Interest is paid monthly. At
December 31, 2003 and 2002, the outstanding balance was $5,836,000 and
$6,944,000, respectively, for VTO Land and $2,845,000 and $3,385,000,
respectively, for VTO Commercial. The credit agreement contains certain
restrictions that, among other things, require the maintenance of specified
financial ratios and restrict indebtedness and leasing. At December 31, 2003,
VTO Land and VTO Commercial were in compliance with their debt covenants.
Certain assets of the subsidiaries secure the agreement. Debt maturities for
2004 are $8,681,000. VTO Land, VTO Commercial or both may make payments at their
option.

159

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

5. DEBT (CONTINUED)

Prior to 2002, VTO Land and VTO Commercial had entered into an interest rate cap
agreement with a commercial bank to reduce the impact of increases in interest
rates on their credit agreement. The interest cap effectively limited the
interest rate exposure on a notional amount of $33,750,000 to a maximum rate of
1%. The interest cap agreement matured in October 2003 and was not renewed.

The Woodlands Hotel, L.P., a subsidiary of Woodlands Development, has a
$39,000,000 revolving credit agreement to finance the construction of a hotel.
This agreement matures in December 2005. At December 31, 2003 and 2002, the
outstanding balance was $37,762,000 and $32,494,000, respectively. The interest
rate, based on the London Interbank Offered Rate plus a margin, is approximately
4.1% at December 31, 2003. Interest is paid monthly. No principal payments are
due until 2005. The credit agreement contains certain restrictions that, among
other things, restrict indebtedness and leasing. At December 31, 2003, The
Woodlands Hotel, L.P., was in compliance with its debt covenants. Certain assets
of the subsidiary secure the agreement, and Woodlands Development and Woodlands
Commercial have guaranteed repayment of the loan.

DERIVATIVES

Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for
Derivative Instruments and Hedging Activities, SFAS No. 138, Accounting for
Certain Derivative Instruments and Certain Hedging Activities, an amendment of
FASB Statement No. 133, and SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, establish accounting and
reporting standards for derivative instruments and hedging activities.
Derivative instruments are recorded on the balance sheet at fair value by
"marking-to-market" all derivatives at period-end. Changes in fair value are
recorded as an increase or decrease in partners' equity through either
comprehensive income or net earnings, depending on the facts and circumstances
with respect to the derivatives and their documentation. Special accounting for
qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement and requires that a company
must formally document and assess the effectiveness of transactions that receive
hedge accounting. To the extent that changes in market values are initially
recorded in other comprehensive income, such changes reverse out and are
recorded in net earnings in the same period in which the hedged item affects
earnings. During 2003, The Woodlands

160

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

5. DEBT (CONTINUED)

Partnerships recorded a $1,534,000 gain in other comprehensive income related to
hedges. During 2002, The Woodlands Partnerships recorded a $119,000 loss in net
earnings and a $392,000 gain in other comprehensive income related to hedges.

DEBT RELATED TO PROPERTIES HELD FOR SALE

The debt consisted of two mortgages related to the properties held for sale
discussed in Note 3. The mortgages had an average interest rate of 6.8%. The
mortgages were repaid when the two apartment properties were sold in July 2003.

MORTGAGES PAYABLE

The mortgages payable have an average interest rate of 5.9%. Debt maturities for
2004 through 2008 and thereafter total $646,000, $1,676,000, $636,000,
$3,556,000, $6,824,000, and $101,000, respectively. Mortgages payable are all
secured by certain tracts of land.

6. NOTES PAYABLE TO PARTNERS

Woodlands Development has notes payable to its partners totaling $25,000,000.
The notes bear interest at 15%. Interest is payable quarterly. All outstanding
balances are due in 2007. These notes are subordinate to the bank credit
agreement and mortgages payable described above.

7. COMMITMENTS AND CONTINGENCIES

CONTINGENT LIABILITIES

The Woodlands Partnerships had contingent liabilities consisting of letters of
credit and guarantees at December 31, 2003 and 2002, totaling approximately
$9,694,000 and $12,559,000, and $7,721,000 and $7,869,000, respectively. The
letters of credit act as guarantee of payment to third parties in accordance
with specified terms and conditions. The guarantees consist primarily of loan
guarantees and would require payment only in the event of default by the
debtors.

161

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

7. COMMITMENTS AND CONTINGENCIES (CONTINUED)

LEASES

The Woodlands Partnerships have various noncancelable facilities and equipment
lease agreements that provide for aggregate future payments of approximately
$36,965,000. Included in this amount is $9,650,000 for a capital lease of a
convention center facility adjoining a hotel owned by a subsidiary of Woodlands
Development. The lease has a 99-year term expiring in 2101. The present value of
the lease payments, $1,755,000, is included in other liabilities in the
accompanying combining balance sheet at December 31, 2003. Other lease terms
extend to 2009 and have an average remaining term of six years. Minimum rentals
for the years subsequent to December 31, 2003, total approximately (in
thousands):

Rental expense for operating leases for the years ended December 31, 2003 and
2002, were $4,979,000 and $4,922,000, respectively.

162

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

7. COMMITMENTS AND CONTINGENCIES (CONTINUED)

LEGAL ACTIONS

The Woodlands Partnerships are a party to claims and legal actions arising in
the ordinary course of their business and to recurring examinations by the
Internal Revenue Service and other regulatory agencies. Management believes,
after consultation with outside counsel, that adequate financial statement
accruals have been provided for all known litigation contingencies where losses
are deemed probable. Based on the status of other cases, The Woodlands
Partnerships are unable to determine a range of such possible additional losses,
if any, that might be incurred. The Woodlands Partnerships believe it is not
probable that the ultimate resolution of these actions will have a material
adverse effect on their financial position, results of operations, and cash
flows.

8. RELATED-PARTY TRANSACTIONS

Woodlands Operating provides services to Woodlands Development and Woodlands
Commercial under management and advisory services agreements. These agreements
are automatically renewed annually. Woodlands Development and Woodlands
Commercial pay Woodlands Operating a management and advisory fee equal to cost
plus 3%. In addition, they reimburse Woodlands Operating for all costs and
expenses incurred on their behalf. For the years ended December 31, 2003 and
2002, Woodlands Operating recorded revenues of $12,496,000 and $13,337,000,
respectively, for services provided to Woodlands Development and $4,212,000 and
$4,795,000, respectively, for services provided to Woodlands Commercial. These
revenues are eliminated in the accompanying combined financial statements.

Woodlands Operating, through WECCR GP, leases The Woodlands Conference Center
and Country Club ("the Facilities") from Woodlands Commercial. The Facilities
are operated by WECCR GP and consist of a 416-room hotel, conference center,
country clubs, and golf and tennis facilities. The lease agreement has an
eight-year term ending July 31, 2005. WECCR GP operates the Facilities and pays
Woodlands Commercial a base rent of $750,000 per month and a quarterly
percentage rent based on the gross receipts of the Facilities. For the years
ended December 31, 2003 and 2002, rent under the lease agreement totaled
$12,453,000 and $14,315,000, respectively, which has been eliminated in the
accompanying combined financial statements. In 2002, WECCR GP contracted with an
affiliate of Morgan

163

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

8. RELATED-PARTY TRANSACTIONS (CONTINUED)

Stanley to manage the Facilities for a management fee equal to 2.5% of cash
receipts, as defined in the agreement. During 2003 and 2002, the management fee
totaled $1,232,000 and $1,089,000, respectively.

In 1999, Woodlands Development purchased approximately 1,000 acres of land in
The Woodlands from Woodlands Commercial for $33,090,000, the then-current fair
market value, which approximated the carrying cost. The transaction consisted of
cash and a $26,000,000 note. The remaining balance was repaid in 2002. For the
year ended December 31, 2002, interest totaled $80,000. Interest is eliminated
in the accompanying combined financial statements.

9. PARTNERS' EQUITY

Rouse's ownership interests in The Woodlands Partnerships are through TWC Land
Development L.P., TWC Commercial Properties L.P., and TWC Operating L.P. Morgan
Stanley's ownership interests are through MS/TWC Joint Venture and MS TWC, Inc.
The partners' percentage interests are summarized below:

164

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

9. PARTNERS' EQUITY (CONTINUED)

The partnership agreements for each of the partnerships provide, among other
things, the following:

(i) Woodlands Development, Woodlands Commercial, and Woodlands Operating
are each governed by an Executive Committee composed of equal
representation from their respective general partners.

(ii) Net income and losses from operations are currently allocated based on
the payout percentages discussed below. A reclassification of
approximately $730,000 has been made to the 2002 income allocation for
Woodlands Operating between the Morgan Stanley and Crescent partners to
reflect the achievement in 2001 of the payout percentages discussed
below.

(iii) Distributions are made by The Woodlands Partnerships to the partners
based on specified payout percentages and include cumulative preferred
returns to Morgan Stanley's affiliates. The payout percentage to Morgan
Stanley's affiliates is 57.5% until the affiliates receive
distributions on a combined basis equal to their capital contributions
and a 12% cumulative preferred return compounded quarterly. Then, the
payout percentage to Morgan Stanley's affiliates is 50.5% until the
affiliates receive distributions equal to their capital contributions
and an 18% cumulative preferred return compounded quarterly.
Thereafter, the payout percentage to Morgan Stanley's affiliates is
47.5%. During 2001, Morgan Stanley's affiliates received sufficient
cumulative distributions from The Woodlands Partnerships to exceed
Morgan Stanley's affiliates' capital contributions plus cumulative
returns of 18%. Accordingly, Morgan Stanley's affiliates are currently
receiving a payout percentage of 47.5%, and Rouse's affiliates are
receiving 52.5% from The Woodlands Partnerships.

(iv) The Woodlands Partnerships will continue to exist until December 31,
2040, unless terminated earlier due to specified events.

165

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

9. PARTNERS' EQUITY (CONTINUED)

(v) No additional partners may be admitted to The Woodlands Partnerships
unless specific conditions in the partnership agreements are met.
Partnership interests may be transferred to affiliates of Rouse or
Morgan Stanley. Rouse has the right of first refusal to buy the
partnership interests of the Morgan Stanley affiliates at the same
terms and conditions offered to a third-party purchaser or sell its
affiliates' interests to the same third-party purchaser.

(vi) Rouse and Morgan Stanley have the right to offer to purchase the other
partner's affiliates' partnership interests in the event of failure to
make specified capital contributions or a specified default by the
other. Specified defaults include bankruptcy, breach of partnership
covenants, transfer of partnership interests except as permitted by the
partnership agreements, and fraud or gross negligence.

10. FAIR VALUE OF FINANCIAL INSTRUMENTS

The estimated fair values of The Woodlands Partnerships' financial instruments
as of December 31, 2003 and 2002, approximated their carrying amounts, with the
exception of the notes payable to partners for Woodlands Development, which had
an estimated fair value of $31,000,000 and $33,000,000, respectively.

Fair values of notes and contracts receivable were estimated by discounting
future cash flows using interest rates at which similar loans currently could be
made for similar maturities to borrowers with comparable credit ratings. Fair
values of fixed-rate, long-term debt were based on current interest rates
offered to The Woodlands Partnerships for debt with similar remaining
maturities. For floating-rate debt obligations, carrying amounts and fair values
were assumed to be equal because of the nature of these obligations. The
carrying amounts of The Woodlands Partnerships' other financial instruments
approximate their fair values.

166

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

11. EMPLOYEE PLANS

DEFINED CONTRIBUTION PLAN

Woodlands Operating has a 401(k) defined contribution plan that is available to
all full-time employees who meet specified service requirements. The plan is
administered by a third party. Contributions to the plan are based on a match of
employee contributions up to a specified limit. For the years ended December 31,
2003 and 2002, Woodlands Operating contributions totaled approximately $700,000
each year.

SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN

Woodlands Operating has deferred compensation arrangements for a select group of
management employees that provide the opportunity to defer a portion of their
cash compensation. Woodlands Operating's obligations under this plan are
unsecured general obligations to pay in the future the value of the deferred
compensation adjusted to reflect the performance of its investments, whether
positive or negative, of selected measurement options, chosen by each
participant, during the deferral period. Woodlands Operating has established
trust accounts on behalf of the participating employees totaling $2,233,000 and
$1,822,000 that are included in other assets at December 31, 2003 and 2002,
respectively.

INCENTIVE PLANS

Woodlands Operating instituted an incentive compensation plan for certain
employees in 2001. The plan is unfunded and while certain payments are made
currently, a portion of these payments is deferred and will be paid based on a
vesting period of up to three years. For the years ended December 31, 2003 and
2002, expenses recognized by The Woodlands Partnerships under this plan totaled
$2,026,000 and $3,883,000, respectively.

167

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

12. INCOME TAXES

The income tax benefit for the years ended December 31, 2003 and 2002, is as
follows (in thousands):

The income tax benefit reflected in the statements of earnings and comprehensive
income differs from the amounts computed by applying the federal statutory rate
of 35% to income before income taxes as follows (in thousands):

168

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Notes to Combined Financial Statements (continued)

12. INCOME TAXES (CONTINUED)

Deferred taxes are provided for the temporary differences between the financial
reporting basis and the tax basis of WECCR GP's assets and liabilities and for
operating loss carryforwards. Significant components of WECCR GP's net deferred
tax asset are as follows (in thousands):

WECCR GP has net operating loss carryforwards of $3,270,000 and $792,000 at
December 31, 2003 and 2002, respectively, which begin to expire in the year
2022.

SFAS No. 109, Accounting for Income Taxes, requires a valuation allowance to
reduce the deferred tax assets reported if, based on the weight of the evidence,
it is more likely than not that some portion or all of the deferred tax assets
will not be realized. Accordingly, management has provided a valuation allowance
of $7,176,000 and $4,371,000 at December 31, 2003 and 2002, respectively, due to
uncertainties regarding the realizations of certain deferred tax assets in
future periods.

169

OTHER FINANCIAL INFORMATION

170

Report of Independent Auditors on Other Financial Information

To the Executive Committee of
The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Our audits were conducted for the purpose of forming an opinion on the combined
financial statements taken as a whole. The accompanying combining balance sheets
as of December 31, 2003 and 2002, and the related combining statements of
earnings (loss) and comprehensive income (loss), changes in partners' equity
(deficit), and cash flows for the years then ended, are presented for purposes
of additional analysis and are not a required part of the combined financial
statements. Such information has been subjected to the auditing procedures
applied in our audits of the combined financial statements, and in our opinion,
is fairly stated in all material respects in relation to the combined financial
statements taken as a whole.

/s/ Ernst & Young LLP

February 9, 2004

171

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Balance Sheets as of December 31, 2003

172

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Balance Sheets as of December 31, 2002

173

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Statements of Earnings (Loss) and Comprehensive Income (Loss) for the
Year Ended December 31, 2003

174

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Statement of Earnings (Loss) and Comprehensive Income (Loss) for the
Year Ended December 31, 2002

175

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Statements of Changes in Partners' Equity (Deficit) for the Years
Ended December 31, 2003 and 2002

176

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Statements of Cash Flows for the Year Ended
December 31, 2003

177

The Woodlands Land Development Company, L.P.,
The Woodlands Commercial Properties Company, L.P., and
The Woodlands Operating Company, L.P.

Combining Statements of Cash Flows for the Year Ended December 31, 2002

178

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.

UNAUDITED COMBINING FINANCIAL STATEMENTS
DECEMBER 31, 2001 AND 2000

179

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.
UNAUDITED COMBINING BALANCE SHEET AS OF DECEMBER 31, 2001 AND 2000
(DOLLARS IN THOUSANDS)

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

180

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.
UNAUDITED COMBINING STATEMENT OF EARNINGS AND COMPREHENSIVE INCOME FOR THE
YEARS ENDED DECEMBER 31, 2001 AND 2000
(DOLLARS IN THOUSANDS)

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

181

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.
UNAUDITED COMBINING STATEMENT OF CHANGES IN PARTNERS' EQUITY (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2000
(DOLLARS IN THOUSANDS)

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

182

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.
UNAUDITED COMBINING STATEMENT OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31,
2001 AND 2000 (DOLLARS IN THOUSANDS)

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

183

THE WOODLANDS LAND DEVELOPMENT COMPANY, L.P.
THE WOODLANDS COMMERCIAL PROPERTIES COMPANY, L.P.
THE WOODLANDS OPERATING COMPANY, L.P.
NOTES TO COMBINING FINANCIAL STATEMENTS
DECEMBER 31, 2001

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

CONTROL. The Woodlands Land Development Company, L.P. ("Woodlands
Development"), The Woodlands Commercial Properties Company, L.P. ("Woodlands
Commercial"), and The Woodlands Operating Company, L.P. ("Woodlands Operating"),
Texas limited partnerships, (together "the CMS Partnerships") are owned by
entities controlled by Crescent Real Estate Equities Limited Partnership or
Crescent Operating, Inc. (together "Crescent") and Morgan Stanley Real Estate
Fund II, L.P. ("Morgan Stanley"). Woodlands Development and Woodlands Commercial
are successors to The Woodlands Corporation. Prior to July 31, 1997, The
Woodlands Corporation was a wholly owned subsidiary of Mitchell Energy &
Development Corp. On July 31, 1997 The Woodlands Corporation was acquired by
Crescent and Morgan Stanley and merged into Woodlands Commercial, a Texas
limited partnership. Woodlands Commercial was then divided into two
partnerships: Woodlands Commercial and Woodlands Development. Woodlands
Operating and its subsidiary, WECCR General Partnership ("WECCR GP"), purchased
certain assets from Woodlands Commercial. Woodlands Operating and WECCR GP
manage assets owned by Woodlands Commercial and Woodlands Development as
described in Note 8. In July 2000, Woodlands Development and Woodlands
Commercial established Woodlands VTO 2000 Land, LP ("VTO Land"), a subsidiary of
Woodlands Development, and Woodlands VTO 2000 Commercial, LP ("VTO Commercial"),
a subsidiary of Woodlands Commercial, to own and operate certain commercial
properties in The Woodlands. These subsidiaries purchased certain commercial
properties owned by Woodlands Development and Woodlands Commercial. In June
2001, Woodlands Development established a subsidiary, The Woodlands Hotel, LP
("the Hotel") to construct and operate a hotel in The Woodlands.

PRINCIPLES OF COMBINATION. The combining financial statements include
the accounts of the CMS Partnerships and are combined due to common ownership in
certain cases and management. All significant transactions and accounts between
the CMS Partnerships are eliminated in combination. The CMS Partnerships follow
the equity method of accounting for their investments in 20% to 50% owned
entities.

BUSINESS. The CMS Partnerships' real estate activities are concentrated
in The Woodlands, a planned community located north of Houston, Texas.
Consequently, these operations and the associated credit risks may be affected,
either positively or negatively, by changes in economic conditions in this
geographical area. Activities associated with The Woodlands include residential
and commercial land sales and the construction and management of office and
industrial buildings, apartments, retail shopping centers, golf courses and a
conference center and two hotels.

184

REAL ESTATE. Costs associated with the acquisition and development of
real estate, including holding costs consisting principally of interest and ad
valorem taxes, are capitalized as incurred. Capitalization of such holding costs
is limited to properties for which active development continues. Capitalization
ceases upon completion of a property or cessation of development activities.
Where practicable, capitalized costs are specifically assigned to individual
assets; otherwise, costs are allocated based on estimated values of the affected
assets.

Long-lived assets are reviewed for impairment when events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. For the years ended
December 31, 2001 and 2000, there were no impairments recognized.

REVENUE RECOGNITION. Staff Accounting Bulletin No. 101 ("SAB 101")
provides interpretive guidance on the proper revenue recognition, presentation
and disclosure in financial statements. The CMS Partnerships have reviewed their
revenue recognition policies and determined that they are in compliance with
generally accepted accounting principles and the related interpretive guidance
set forth in SAB 101.

LAND SALES. Earnings from sales of real estate are recognized when a
third-party buyer has made an adequate cash down payment and has attained the
attributes of ownership. Notes received in connection with land sales are
discounted when the stated purchase prices are significantly different from
those that would have resulted from similar cash transactions. The cost of land
sold is generally determined as a specific percentage of the sales revenues
recognized for each land development project. The percentages are based on total
estimated development costs and sales revenues for each project. These estimates
are revised annually and are based on the then-current development strategy and
operating assumptions utilizing internally developed projections for product
type, revenue and related development cost.

SALES OF COMMERCIAL PROPERTIES. Sales of commercial properties are
accounted for under the accrual method when certain criteria are met. Gains or
losses are recognized when a significant down payment has been made, the
earnings process is complete, and the collection of any remaining receivables is
reasonably assured. Gains or losses are recognized as other revenue in the
combining statement of earnings and comprehensive income.

LEASE REVENUE. Commercial properties are leased to third-party tenants
generally involving multi-year terms. These leases are accounted for as
operating leases. See Note 3 for further discussion.

DEPRECIATION. Depreciation of operating assets is provided on the
straight-line method over the estimated useful lives of the assets. Useful lives
range from 15 to 50 years for land improvements and buildings, 3 to 20 years for
leasehold improvements and 3 to 10 years for furniture, fixtures and equipment.
Property and equipment are carried at cost less accumulated depreciation. Upon

185

retirement or disposal an asset, the cost is removed from the property account
and the accumulated depreciation is removed from accumulated depreciation. Costs
incurred for computer software developed for internal use are capitalized for
application development activities.

DEFERRED FINANCING COSTS. Costs incurred to obtain debt financing are
deferred and amortized over the estimated term of the related debt.

INCOME TAXES. No provision for Federal income taxes is included in the
accompanying combining financial statements since the CMS Partnerships are not
tax-paying entities and all income and expenses are reported by the partners for
tax reporting purposes.

The tax returns, the qualification of the CMS Partnerships for tax
purposes and the amount of distributable partnership income or loss are subject
to examination by Federal taxing authorities. If such examinations result in
changes with respect to partnership qualification or in changes to distributable
partnership income or loss, the tax liability of the partners could be changed
accordingly.

STATEMENTS OF CASH FLOWS. Short-term investments with original
maturities of three months or less are considered to be cash equivalents. Debt
borrowings and repayments with initial terms of three months or less are
reported net. For the years ended December 31, 2001 and 2000, Woodlands
Development paid interest totaling $24,045,000 and $30,018,000. Woodlands
Commercial paid interest totaling $7,936,000 and $13,460,000. These amounts are
related to debt described in Notes 5, 6 and 8.

USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenues and expenses
during the reporting periods. Actual results could differ from those estimates.

RECENT ACCOUNTING PRONOUNCEMENTS. In August 2001, the Financial
Accounting Standards Board issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long-Lived Assets." which supercedes SFAS No. 121, "Accounting for
the Impairment of Long Lived Assets and for Long-Lived Assets to be Disposed
Of." It also supercedes the accounting and reporting provisions of APB Opinion
No. 30, "Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions." SFAS
No. 144 retains the fundamental provisions of SFAS No. 121 for recognition and
measurement of the impairment of long-lived assets to be held and used and
measurement of the long-lived assets to be disposed of by sale, but broadens the
definition of what constitutes a discontinued operation and how the results of a
discontinued operation are to be measured and presented. SFAS No. 144 is
effective for fiscal years beginning after December 15, 2001. The CMS
Partnerships will adopt SFAS No. 144 on January 1, 2002 and believe that this
adoption will not have a material impact on their results of operations or
financial position.

186

STATEMENT PRESENTATION. Certain reclassifications were made to amounts
previously reported to conform to current year presentation.

(2) NOTES AND CONTRACTS RECEIVABLE

Notes receivable are carried at cost, net of discounts. At December 31,
2001 and 2000, Woodlands Development held notes and contracts receivable
totaling $25,698,000 and $30,471,000, including utility district receivables
totaling $24,394,000 and $30,471,000. Utility district receivables, the
collection of which is dependent on the ability of utility districts in The
Woodlands to sell bonds, have a market interest rate of approximately 5.0% at
December 31, 2001. During 2001 and 2000, Woodlands Development sold $24,050,000
and $27,200,000 of its utility district receivables to a financial institution
under a factoring agreement. The difference between the proceeds and carrying
value of the receivables was an immaterial amount and was recorded as an
addition to land cost.

At December 31, 2001 and 2000, Woodlands Commercial held notes
receivable totaling $170,000 and $377,000. The notes receivable have stated
interest rates between 5.25% and 7.5%, with an average effective yield of
approximately 5.25% at December 31, 2001. Contractual maturities are $170,000 in
2003.

In December 2000, Woodlands Development sold certain notes receivable
totaling $5,560,000 to a financial institution. Woodlands Development has
guaranteed repayment of the notes. For this transaction, no gain or loss was
recognized since the proceeds approximated the carrying value of the notes.

187

(3) REAL ESTATE

The following is a summary of real estate at December 31, 2001 and 2000
(in thousands):

LAND. The principal land development is The Woodlands, a mixed-use,
master-planned community located north of Houston, Texas. Residential land is
divided into seven villages in various stages of development. Each village has
or is planned to contain a variety of housing, neighborhood retail centers,
schools, parks and other amenities. Woodlands Development controls the
development of the residential communities and produces finished lots for sale
to qualified builders. Housing is constructed in a wide range of pricing and
product styles.

Commercial land is divided into distinct centers that serve or are
planned to serve as locations for office buildings, retail and entertainment
facilities, industrial and warehouse facilities, research and technology
facilities, and college and training facilities. Woodlands Development produces
finished sites for third parties or for its own building development activities.

COMMERCIAL PROPERTIES. Commercial, industrial and retail properties
owned or leased by the CMS Partnerships are leased to third-party tenants. At
December 31, 2001, the net book value of assets under operating leases totaled
$24,207,000 for Woodlands Development and $45,660,000 for Woodlands Commercial.
Other commercial properties, which include a hotel, hotel expansion and a golf
course, are under development at December 31, 2001. Lease terms range from one
to eleven years with an average term of five years. Minimum future lease
revenues from noncancellable operating leases and subleases exclude contingent
rentals that may be received under certain lease agreements. Tenant rents
include rent for noncancellable operating leases, cancelable leases and

188

month-to-month rents and are included in other revenue. For the years ended
December 31, 2001 and 2000, tenant rents totaled $6,319,000 and $2,589,000 for
Woodlands Development. Tenant rents totaled $12,404,000 and $27,132,000 for
Woodlands Commercial. Contingent rents include pass-throughs of incremental
operating costs and rents based on a percentage of tenants' sales offset by
certain leasing costs. For the years ended December 31, 2001 and 2000,
contingent rents totaled $873,000 and $63,000 for Woodlands Development.
Contingent rents totaled $2,377,000 and $2,479,000 for the Woodlands Commercial.
Minimum future lease rentals for the years subsequent to December 31, 2001 total
$2,482,000, $2,610,000, $2,576,000, $2,633,000, $2,162,000 and $4,490,000
thereafter for Woodlands Development. Minimum future lease rentals total
$10,926,000, $10,743,000, $8,861,000, $4,599,000, $4,013,000 and $7,469,000
thereafter for Woodlands Commercial.

Woodlands Commercial has two commercial properties held for sale that
are expected to be sold during 2002. These properties have a net book value of
$22,316,000 at December 31, 2001, which is less than their fair value less costs
to sell. During 2001, Woodlands Development and Woodlands Commercial sold
commercial properties for $57,700,000 and $7,900,000 and recognized as other
revenue gains on the sales of $10,662,000 and $3,465,000. During 2000, Woodlands
Commercial sold commercial properties for $61,846,000 and recognized as other
revenue a $15,579,000 gain on the sales.

(4) EQUITY INVESTMENTS

During 2001 and 2000, Woodlands Development and Woodlands Commercial's
principal partnership and corporation interests included the following:

Other partnerships own various commercial properties, all of which are
located in The Woodlands. Woodlands Operating provides various management and
leasing services to these affiliated entities on the same terms and conditions
as unrelated third parties. Woodlands Development and Woodlands Commercial's net
investment in each of these entities is included in the real estate caption on
the combining balance sheets and their share of these entities' pretax earnings
is included in other revenues on the combining statements of earnings and
comprehensive income. A summary of their net investment as of December 31, 2001
and 2000 and their share of pre-tax earnings for the years ended December 31,
2001 and 2000 follows (in thousands):

189

In June 2001, Woodlands Development sold its interest in Sterling Ridge
Retail 2000 for $10,718,000 and recognized as other revenue a gain of
$2,639,000. During 2001 Woodlands Office Equities -'95 sold three commercial
properties for $16,882,000. Woodlands Commercial recognized as other revenue its
share of the gains totaling $1,276,000.

In January 2000, Woodlands Commercial sold its 25% partnership interest
in Woodlands Retail Equities -'96 Limited for approximately $10,300,000 and
recognized as other revenue a gain of approximately $3,800,000.

190

Summarized financial statement information for partnerships and a
corporation in which Woodlands Development and Woodlands Commercial have an
ownership interest at December 31, 2001 and 2000 and for the years ended
December 31, 2001 and 2000 follows (in thousands):

191

Woodlands Development and Woodlands Commercial's investment in their
unconsolidated affiliates exceeds their equity in their net assets. This excess
is being amortized over a 25-year period. For the years ended December 31, 2001
and 2000, amortization of this excess totaled $54,000 each year for Woodlands
Development and $500,000 each year for Woodlands Commercial.

(5) DEBT

A summary of the CMS Partnerships' outstanding debt at December 31,
2001 and 2000 follows (in thousands):

BANK CREDIT AGREEMENT. In November 1999, Woodlands Development and
Woodlands Commercial replaced their existing bank credit agreement and
construction loan agreement with a new facility, consisting of a $300,000,000
term loan and a $100,000,000 revolving loan. The new bank credit agreement has a
three-year term expiring in November 2002 with two one-year extension options
provided to the borrowers. Management expects to exercise the first one-year
extension option or explore other options. The interest rate, based on the
London Interbank Offered Rate plus a margin, is approximately 5.1% at December
31, 2001. Interest is paid monthly. Commitment fees, based on .25% of the unused
commitment, totaled $164,000 and $57,000 for the years ended December 31, 2001
and 2000. The credit agreement contains certain restrictions which, among other
things, require the maintenance of specified financial ratios, restrict
indebtedness and sale, lease or transfer of certain assets, and limit the right
of Woodlands Development and Woodlands Commercial to merge with other companies
and make distributions to their partners. At December 31, 2001, Woodlands
Development and Woodlands Commercial were in compliance with their debt
covenants. Certain assets of Woodlands Development and Woodlands Commercial,
including cash, receivables, commercial properties and equity investments in
joint ventures and partnerships, secure the credit agreement. Mandatory debt
maturities, assuming the extension option is not exercised, are $261,890,000 in
2002. Payments may be made by Woodlands Development or Woodlands Commercial or
both at their option. In addition to stipulated principal payments, principal
payments are also required based on distributions to Crescent and Morgan Stanley
and certain covenant tests. Prepayments can also be made at the discretion of
Woodlands Development and Woodlands Commercial. Prepayments on the term loan are
subject to a prepayment penalty of up to 1%.

192

Woodlands Development and Woodlands Commercial entered into an interest
rate cap agreement with a commercial bank to reduce the impact of increases in
interest rates on their bank credit agreement. The interest cap agreement
effectively limits their interest rate exposure on the notional amount of
$121,000,000 to a maximum LIBOR rate of 9%. The interest cap agreement expires
at the same time as the bank credit agreement. Woodlands Development and
Woodlands Commercial also entered into an interest rate swap agreement with a
commercial bank. Interest on the notional amount of $50,000,000 is paid based on
a fixed LIBOR rate of 2.78%. This agreement expires in October 2002. Woodlands
Development and Woodlands Commercial are exposed to credit loss in the event of
nonperformance by the other parties. However, management does not anticipate
nonperformance by the other parties.

SUBSIDIARIES' CREDIT AGREEMENTS. VTO Land and VTO Commercial entered
into a credit agreement that has a three-year term expiring in October 2003 with
two one-year extension options. The interest rate, based on the London Interbank
Offered Rate plus a margin, is approximately 4.1% at December 31, 2001. Interest
is paid monthly. At December 31, 2001 and 2000, the outstanding balance was
$7,077,000 and $31,727,000 for VTO Land, and $30,887,000 and $35,773,000 for VTO
Commercial. The credit agreement contains certain restrictions which, among
other things, require the maintenance of specified financial ratios and restrict
indebtedness and leasing. At December 31, 2001, VTO Land and VTO Commercial were
in compliance with their debt covenants. Certain assets of the subsidiaries
secure the agreement. Debt maturities for the two years subsequent to December
31, 2001 are $1,043,000 and $36,921,000. VTO Land, VTO Commercial, or both may
make payments at their option.

VTO Land and VTO Commercial entered into an interest rate cap agreement
with a commercial bank to reduce the impact of increases in interest rates on
their credit agreement. The interest cap agreement effectively limits their
interest rate exposure on a notional amount to a maximum LIBOR rate of 9%. The
notional amount is $33,750,000. The interest cap agreement matures at the same
time as the credit agreement. VTO Land and VTO Commercial are exposed to credit
loss in the event of nonperformance by the other party with respect to the
interest cap agreement. However, management does not anticipate nonperformance
by the other party.

In June 2001, The Woodlands Hotel, L.P., a subsidiary of Woodlands
Development, entered into a $39,000,000 credit agreement to finance the
construction of a hotel. This agreement matures in December 2005. At December
31, 2001 the outstanding balance was $5,611,000. The interest rate, based on the
London Interbank Offered Rate plus a margin, is approximately 4.9% at December
31, 2001. Interest is paid monthly. No principal payments are due until 2005.
The credit agreement contains certain restrictions which, among other things,
require the maintenance of specified financial ratios and restrict indebtedness
and leasing. At December 31, 2001, The Woodlands Hotel, L.P. was in compliance
with its debt covenants. Certain assets of the subsidiary secure the agreement.

DERIVATIVES. SFAS No. 133 "Accounting for Derivative Instruments and
Hedging Activities" and SFAS No. 138 "Accounting for Certain Derivative
Instruments and Certain Hedging Activities, an amendment of FASB Statement No.
133" establish accounting and reporting standards for derivative

193

instruments and hedging activities. Derivative instruments are recorded on the
balance sheet at fair value by "marking-to-market" all derivatives at
period-end. Changes in fair value are recorded as an increase or decrease in
partners' equity through either comprehensive income or net earnings, depending
on the facts and circumstances with respect to the derivatives and their
documentation. Special accounting for qualifying hedges allows a derivative's
gains and losses to offset related results on the hedged item in the income
statement, and requires that a company must formally document and assess the
effectiveness of transactions that receive hedge accounting. To the extent that
changes in market values are initially recorded in other comprehensive income,
such changes reverse out and are recorded in net earnings in the same period in
which the hedged item affects earnings. On January 1, 2001 the adoption of these
standards resulted in a reduction of derivative instruments of $744,000. Of this
amount, $352,000 is reported in net earnings as a cumulative effect of a change
in accounting principle and $392,000 is reported in other comprehensive loss.

MORTGAGES PAYABLE. The mortgages payable have debt maturities for the
years subsequent to December 31, 2001 totaling $731,000, $793,000, $3,250,000,
$2,345,000, $4,201,000 and $101,000 thereafter. Mortgages payable are secured by
certain tracts of land.

(6) NOTES PAYABLE TO PARTNERS

Woodlands Development has notes payable to its partners totaling
$25,000,000. The notes bear interest at 15%. Interest is payable quarterly. All
outstanding balances are due in 2007. These notes are subordinate to the bank
credit agreement and mortgages payable described above.

(7) COMMITMENTS AND CONTINGENCIES

CONTINGENT LIABILITIES. At December 31, 2001 and 2000, the CMS
Partnerships had contingent liabilities totaling approximately $13,600,000 and
$11,500,000, consisting of letters of credit and commitments to complete certain
improvements in The Woodlands. Under the terms of a land sales agreement,
Woodlands Development has committed to construct, or cause to be constructed,
certain improvements in The Woodlands and is contingently liable for up to
$2,100,000 in liquidating damages if the improvements are not complete by
certain dates.

194

LEASES. The CMS Partnerships have various noncancellable facilities and
equipment lease agreements which provide for aggregate future payments of
approximately $36,600,000, most of which is due from Woodlands Commercial. Lease
terms extend to 2009 and have an average remaining term of seven years. Minimum
rentals for the years subsequent to December 31, 2001 total approximately
$5,247,000, $5,156,000, $4,791,000, $4,901,000, $5,102,000 and $11,411,000
thereafter. Rental expense for operating leases for the years ended December 31,
2001 and 2000 follows (in thousands):

LEGAL ACTIONS. The 221st Judicial District Court of Montgomery County,
Texas entered a judgment against Woodlands Development in October 1999 awarding
a total of $1,433,000 in damages to the plaintiffs. In addition to these
damages, the judgment also awarded attorneys' fees and postjudgment interest.
Woodlands Development appealed the ruling. In May 2001, the Ninth District Court
of Appeals reversed, reformed and affirmed, in part, the lower court's judgement
and awarded a total of $127,220 that was paid in full by Woodlands Development
to the plaintiffs in August 2001.

The CMS Partnerships are also a party to other claims and legal actions
arising in the ordinary course of their business and to recurring examinations
by the Internal Revenue Service and other regulatory agencies.

Management believes, after consultation with outside counsel, that
adequate financial statement accruals have been provided for all known
litigation contingencies where losses are deemed probable. Based on the status
of the cases, the CMS Partnerships are unable to determine a range of such
possible additional losses, if any, that might be incurred. The CMS Partnerships
believe it is not probable that the ultimate resolution of these actions will
have a material adverse effect on their financial position.

SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN. Woodlands Operating has
deferred compensation arrangements for a select group of management employees
that provides the opportunity to defer a portion of their cash compensation.
Woodlands Operating's obligations under this plan are unsecured general
obligations to pay in the future the value of the deferred compensation adjusted
to reflect the performance of their investments, whether positive or negative,
of selected measurement options, chosen by each participant, during the deferral
period. Woodlands Operating has established trust accounts on behalf of the
participating employees that are included in other assets.

INCENTIVE PLANS. Woodlands Operating instituted an incentive
compensation plan for certain employees effective January 1, 1998. In 2001,
final payments were made to employees and this plan was terminated. Effective in
2001 a new incentive compensation plan was initiated. The plan is unfunded and
while certain payments are made currently, a portion of these payments is
deferred and

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will be paid based on a vesting period of three years. For the years ended
December 31, 2001 and 2000, the CMS Partnerships recognized expenses of
$3,674,000 and $2,744,000 under these plans.

(8) RELATED PARTY TRANSACTIONS

Woodlands Operating provides services to Woodlands Development and
Woodlands Commercial under management and advisory services agreements. These
agreements are automatically renewed annually. Woodlands Development and
Woodlands Commercial pay Woodlands Operating an advisory fee equal to cost plus
3%. In addition, they reimburse Woodlands Operating for all costs and expenses
incurred on their behalf. For the years ended December 31, 2001 and 2000,
Woodlands Operating recorded revenues of $12,795,000 and $12,606,000 for
services provided to Woodlands Development, and $5,129,000 and $6,398,000 for
services provided to Woodlands Commercial.

WECCR GP leases The Woodlands Conference Center, Resort and Country
Club ("the Facilities") from Woodlands Commercial. This agreement has an
eight-year term ending July 31, 2005. WECCR GP operates the Facilities and pays
Woodlands Commercial a base rent of $750,000 per month and a quarterly
percentage rent based on the gross receipts of the Facilities. For the years
ended December 31, 2001 and 2000, rent under the lease agreement totaled
$13,604,000 and $14,349,000.

In July 1999, Woodlands Development purchased approximately 1,000 acres
of land in The Woodlands from Woodlands Commercial for $33,090,000, the then
current fair market value which approximated the carrying cost. No gain or loss
was recognized from the transaction. The transaction consisted of cash and a
$26,000,000 note. The note bears interest at 8.5% and matures in August 2009.
For the years ended December 31, 2001 and 2000, interest totaled $931,000 and
$1,616,000. Interest is eliminated in the accompanying combining financial
statements. Principal and interest payments are due quarterly and additional
principal payments are due when a portion of the land is conveyed to a third
party or built upon. The note is unsecured and subordinate to the bank credit
agreement described in Note 5.

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(9) PARTNERS' EQUITY

Crescent's ownership interests in the CMS Partnerships are through The
Woodlands Land Company, Inc., Crescent Real Estate Equities Limited Partnership,
CresWood Development, L.L.C., and WOCOI Investment Company. Morgan Stanley's
ownership interests are through MS/TWC Joint Venture and MS TWC, Inc. The
partners' percentage interests are summarized below:

The partnership agreements for each of the partnerships provide, among
other things, the following:

(i) Woodlands Development, Woodlands Commercial and Woodlands
Operating are each governed by an Executive Committee composed of equal
representation from their respective general partners.

(ii) Net income and losses from operations are currently
allocated so that partners' capital accounts stand in the ratio of the
percentage interest listed above.

(iii) Distributions are made to partners based on specified
payout percentages and include cumulative preferred returns to Morgan Stanley's
affiliates. The payout percentage to Morgan Stanley's affiliates is 57.5% until
the affiliates receive distributions equal to their capital contributions and a
12% cumulative preferred return compounded quarterly. Then, the payout
percentage to Morgan Stanley's affiliates is 50.5% until the affiliates receive
distributions equal to their capital contributions and an 18% cumulative
preferred return compounded quarterly. Thereafter, the payout percentage to
Morgan Stanley's affiliates is 47.5%. During 2001, Morgan Stanley's affiliates
received sufficient cumulative distributions to exceed their capital
contributions plus cumulative returns of 18%. Accordingly, Morgan Stanley's
affiliates are currently receiving a payout percentage of 47.5% and Crescent's
affiliates are receiving 52.5%.

(iv) The CMS Partnerships will continue to exist until
December 31, 2040 unless terminated earlier due to specified events.

197

(v) No additional partners may be admitted to the CMS
Partnerships unless specific conditions in the partnership agreements are met.
Partnership interests may be transferred to affiliates of Crescent or Morgan
Stanley. Crescent has the right of first refusal to buy the partnership
interests of the Morgan Stanley affiliates at the same terms and conditions
offered to a third party purchaser, or sell its affiliates' interests to the
same third party purchaser.

(vi) Crescent and Morgan Stanley have the right to offer to
purchase the other partner's affiliates' partnership interests in the event of
failure to make specified capital contributions or a specified default by the
other. Specified defaults include bankruptcy, breach of partnership covenants,
transfer of partnership interests except as permitted by the partnership
agreements, and fraud or gross negligence.

(10) FAIR VALUE OF FINANCIAL INSTRUMENTS

The carrying amounts and estimated fair values of the CMS Partnerships'
financial instruments as of December 31, 2001 and 2000 follows (in thousands):

Fair values of notes and contracts receivable were estimated by
discounting future cash flows using interest rates at which similar loans
currently could be made for similar maturities to borrowers with comparable
credit ratings. Fair values of fixed-rate, long-term debt were based on current
interest rates offered to the CMS Partnerships for debt with similar remaining
maturities. For floating-rate debt obligations, carrying amounts and fair values
were assumed to be equal because of the nature of these obligations. The
carrying amounts of the CMS Partnerships' other financial instruments
approximate their fair values.

(11) EMPLOYEE SAVINGS PLAN

Woodlands Operating has a 401(k) defined contribution plan that is
available to all full-time employees who meet specified service requirements.
The plan is administered by a third party. Contributions to the plan are based
on a match of employee contributions up to a specified limit. For

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the years ended December 31, 2001 and 2000, Woodlands Operating contributions
totaled $707,000 and $634,000.

(12) SUBSEQUENT EVENT

On February 14, 2002, Crescent Real Estate Equities Company ("CREEC")
and Crescent Operating, Inc. ("COPI") entered into an agreement that provides
for the transfer of certain assets of COPI to CREEC in satisfaction of
indebtedness and lease obligations and for the filing of a prepackaged
bankruptcy plan by COPI. Pursuant to the agreement, COPI transferred its
interest in The Woodlands Land Company, Inc. to CREEC on February 14, 2002, and
will also transfer its interest in WOCOI Investment Company to CREEC. Management
does not believe that the transfer of COPI's assets to CREEC or the planned
bankruptcy filing by COPI will have a material adverse impact on the financial
position or results of operations of the CMS Partnerships, individually or on a
combined basis.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not applicable.

ITEM 9A. CONTROLS AND PROCEDURES

The Company maintains disclosure controls and procedures that are
designed to ensure that information required to be disclosed in the Company's
reports under the Exchange Act of 1934, as amended (the "Exchange Act") is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission's rules and forms, and that such
information is accumulated and communicated to the Company's management,
including its Chief Executive Officer and its Chief Financial and Accounting
Officer, as appropriate, to allow timely decisions regarding required disclosure
based closely on the definition of "disclosure controls and procedures" in Rule
13a-15(e) promulgated under the Exchange Act. In designing and evaluating the
disclosure controls and procedures, management recognized that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, and management
necessarily was required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.

As of December 31, 2003, the Company carried out an evaluation, under
the supervision and with the participation of the Company's management,
including its Chief Executive Officer and its Chief Financial and Accounting
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures. Based on the foregoing, the Company's Chief
Executive Officer and its Chief Financial and Accounting Officer concluded that
the Company's disclosure controls and procedures were effective.

During the three months ended December 31, 2003, there was no change in
the Company's internal control over financial reporting that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.

200

PART III

Certain information Part III requires is omitted from the Report. The
Registrant will file a definitive proxy statement with the SEC pursuant to
Regulation 14A (the "Proxy Statement") not later than 120 days after the end of
the fiscal year covered by this Report, and certain information to be included
therein is incorporated herein by reference. Only those sections of the Proxy
Statement which specifically address the items set forth herein are incorporated
by reference. Such incorporation does not include the Compensation Committee
Report or the Performance Graph included in the Proxy Statement.

ITEM 10. TRUST MANAGERS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information this Item requires is incorporated by reference to the
Company's Proxy Statement to be filed with the SEC for its annual shareholders'
meeting to be held in June 2004.

ITEM 11. EXECUTIVE COMPENSATION

The information this Item requires is incorporated by reference to the
Company's Proxy Statement to be filed with the SEC for its annual shareholders'
meeting to be held in June 2004.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS

The information this Item requires is incorporated by reference to the
Company's Proxy Statement to be filed with the SEC for its annual shareholders'
meeting to be held in June 2004.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information this Item requires is incorporated by reference to the
Company's Proxy Statement to be filed with the SEC for its annual shareholders'
meeting to be held in June 2004.

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

The information this Item requires is incorporated by reference to the
Company's Proxy Statement to be filed with the SEC for its annual shareholders'
meeting to be held in June 2004.

201

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)(1) Financial Statements

Report of Independent Auditors

Crescent Real Estate Equities Company Consolidated Balance Sheets at
December 31, 2003 and 2002.

Crescent Real Estate Equities Company Consolidated Statements of
Operations for the years ended December 31, 2003, 2002 and 2001.

Crescent Real Estate Equities Company Consolidated Statements of
Shareholders' Equity for the years ended December 31, 2003, 2002 and
2001.

Crescent Real Estate Equities Company Consolidated Statements of Cash
Flows for the years ended December 31, 2003, 2002 and 2001.

Crescent Real Estate Equities Company Notes to Consolidated Financial
Statements.

(a)(2) Financial Statement Schedules and Financial Statements of Subsidiaries
Not Consolidated and Fifty-Percent-or-Less-Owned Persons

Financial Statement Schedules

Schedule III - Crescent Real Estate Equities Company Consolidated Real
Estate Investments and Accumulated Depreciation at December 31, 2003.

All other schedules have been omitted either because they are not
applicable or because the required information has been disclosed in
the Financial Statements and related notes included in the consolidated
statements.

Financial Statements of Subsidiaries Not Consolidated and
Fifty-Percent-or-Less-Owned Persons

The Woodlands Land Development Company, L.P., The Woodlands Commercial
Properties Company, L.P., and The Woodlands Operating Company, L.P.

Report of Independent Auditors..................................................... 142

Combined Balance Sheets at December 31, 2003 and 2002.............................. 143

Combined Statements of Earnings and Comprehensive Income for the years ended
December 31, 2003 and 2002......................................................... 144

Combined Statement of Changes in Partners' Equity (Deficit) for the year ended
December 31, 2003 and 2002 ........................................................ 145

Combined Statements of Cash Flows for the years ended December
31, 2003 and 2002.................................................................. 146

Notes to Combined Financial Statements............................................. 147

The Woodlands Land Development Company, L.P., The Woodlands Commercial
Properties Company, L.P., and the Woodlands Operating Company, L.P.

202

Combining Balance Sheets at December 31, 2001 and 2000 (unaudited)................. 180

Combining Statement of Earnings and Comprehensive Income
for the years Ended December 31, 2001 and 2000 (unaudited)......................... 181

Combining Statements of Changes in Partners' Equity (Deficit)
for the years ended December 31, 2001 and 2000 (unaudited)......................... 182

Combining Statements of Cash Flows for the years
ended December 31, 2001 and 2000 (unaudited)....................................... 183

Notes to Combined Financial Statements (unaudited) ................................ 184

The financial statement schedules and financial statements listed in
this Item 15(a)(2) are contained in Item 8. Financial Statements and
Supplementary Data.

(a)(3) Exhibits

The exhibits required by this item are set forth on the Exhibit Index
attached hereto.

(b) Reports on Form 8-K

None

(c) Exhibits

See Item 15(a)(3) above.

(d) Financial Statement Schedules and Financial Statements of Subsidiaries
Not Consolidated and Fifty-Percent-or-Less-Owned Persons

See Item 15(a)(2) above.

203

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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, on the 10th day of
March, 2004.

CRESCENT REAL ESTATE EQUITIES COMPANY
(Registrant)

By /s/John C. Goff
-----------------------------
John C. Goff
Trust Manager and Chief Executive Officer

SIGNATURES

Pursuant to the requirements of the Securities Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacity and on the dates indicated.

INDEX TO EXHIBITS