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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

FOR QUARTER ENDED June 30, 2004

COMMISSION FILE NUMBER 1-12254

SAUL CENTERS, INC.

(Exact name of registrant as specified in its charter)

7501 Wisconsin Avenue, Bethesda, Maryland 20814

(Address of principal executive office) (Zip Code)

Registrant’s telephone number, including area code (301) 986-6200

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

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

Number of shares of common stock, par value $0.01 per share outstanding as of August 6, 2004: 16,267,000

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SAUL CENTERS, INC.

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Basis of Presentation

In the opinion of management, the accompanying consolidated financial statements reflect all adjustments necessary for the fair presentation of the financial position and results of operations of Saul Centers, Inc. All such adjustments are of a normal recurring nature. These consolidated financial statements and the accompanying notes should be read in conjunction with the audited consolidated financial statements of Saul Centers, Inc. for the year ended December 31, 2003, which are included in its Annual Report on Form 10-K. The results of operations for interim periods are not necessarily indicative of results to be expected for the year.

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Saul Centers, Inc.

CONSOLIDATED BALANCE SHEETS

(Unaudited)

The accompanying notes are an integral part of these statements

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Saul Centers, Inc.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

The accompanying notes are an intregal part of these statements

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Saul Centers, Inc.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Unaudited)

The accompanying notes are an intregal part of these statements

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Saul Centers, Inc.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

The $68,484,000 shown as 2004 real estate acquisitions does not include the $18,025,000 in total assumed mortgages for the properties acquired as the assumption of these mortgages was a non-cash acquisition cost. On February 13, 2004 the Company purchased Boca Valley Plaza for an acquisition cost of $17,865,000 and assumed a mortgage in the amount of $9,200,000 with the balance being paid in cash. On March 25, 2004 the Company purchased Cruse MarketPlace for an acquisition cost of $12,869,000 and assumed a mortgage of $8,825,000 with the balance being paid in cash.

The accompanying notes are an intregal part of these statements

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

1. Organization, Formation and Structure

Organization

Saul Centers, Inc. (“Saul Centers”) was incorporated under the Maryland General Corporation Law on June 10, 1993. Saul Centers operates as a real estate investment trust (a “REIT”) under the Internal Revenue Code of 1986, as amended (the “Code”). Saul Centers generally will not be subject to federal income tax, provided it annually distributes at least 90% of its REIT taxable income to its stockholders and meets certain organizational and other requirements. Saul Centers has made and intends to continue to make regular quarterly distributions to its stockholders. Saul Centers, together with its wholly owned subsidiaries and the limited partnerships of which Saul Centers or one of its subsidiaries is the sole general partner, are referred to collectively as the “Company”. B. Francis Saul II serves as Chairman of the Board of Directors and Chief Executive Officer of Saul Centers.

Saul Centers was formed to continue and expand the shopping center business previously owned and conducted by the B.F. Saul Real Estate Investment Trust, the B.F. Saul Company, Chevy Chase Bank, F.S.B. and certain other affiliated entities, each of which is controlled by B. Francis Saul II and his family members (collectively, “The Saul Organization”). On August 26, 1993, members of The Saul Organization transferred to Saul Holdings Limited Partnership, a newly formed Maryland limited partnership (the “Operating Partnership”), and two newly formed subsidiary limited partnerships (the “Subsidiary Partnerships”, and collectively with the Operating Partnership, the “Partnerships”), shopping center and office properties, and the management functions related to the transferred properties. Since its formation, the Company has developed and purchased additional properties. During 2004 and 2003, the Company developed and purchased several properties. In July 2003 the Company purchased Olde Forte Village, a grocery anchored neighborhood shopping center located in Fort Washington, Maryland. The Company is currently developing Shops at Monocacy, a grocery anchored shopping center in Frederick, Maryland, the land of which was acquired in November 2003. During the fourth quarter of 2003, the Company completed development of Broadlands Village Phase I, an in-line retail and retail pad, grocery anchored shopping center. During the first six months of 2004, the Company purchased a land parcel for development of a 41,000 square foot retail/office property to be known as Kentlands Place, adjacent to its Kentlands Square shopping center and acquired four grocery anchored shopping centers; (1) Boca Valley Plaza, 121,000 square feet, located in Boca Raton, Florida, (2) Countryside, 142,000 square feet located in Loudoun County, Virginia (3) Cruse MarketPlace, 79,000 square feet, located in Forsyth County, Georgia, and (4) Briggs Chaney Plaza, 197,486 square feet, located in Silver Spring, Maryland. As of June 30, 2004, the Company’s properties (the “Current Portfolio Properties”) consisted of 34 operating shopping center properties (the “Shopping Centers”), five predominantly office operating properties (the “Office Properties”) and four (non-operating) development and/or redevelopment properties.

The Company established Saul QRS, Inc., a wholly owned subsidiary of Saul Centers, to facilitate the placement of collateralized mortgage debt in September 1997. Saul QRS, Inc. was created to succeed to the interest of Saul Centers as the sole general partner of Saul Subsidiary I

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Limited Partnership. The remaining limited partnership interests in Saul Subsidiary I Limited Partnership and Saul Subsidiary II Limited Partnership are held by the Operating Partnership as the sole limited partner. Through this structure, the Company owns 100% of the Current Portfolio Properties.

2. Summary of Significant Accounting Policies

Nature of Operations

The Company, which conducts all of its activities through its subsidiaries, the Operating Partnership and Subsidiary Partnerships, engages in the ownership, operation, management, leasing, acquisition, renovation, expansion, development and financing of community and neighborhood shopping centers and office properties, primarily in the Washington, DC/Baltimore metropolitan area. The Company’s long-term objectives are to increase cash flow from operations and to maximize capital appreciation of its real estate.

Because the properties are located primarily in the Washington, DC/Baltimore metropolitan area, the Company is subject to a concentration of credit risk related to these properties. A majority of the Shopping Centers are anchored by several major tenants. Twenty-three of the Shopping Centers are anchored by a grocery store and offer primarily day-to-day necessities and services. As of June 30, 2004, no single property accounted for more than 7.9% of the total gross leasable area. Only two retail tenants, Giant Food (4.7%), a tenant at eight Shopping Centers and Safeway (2.7%), a tenant at seven Shopping Centers and one office tenant, the United States Government (3.5%), a tenant at five properties, individually accounted for more than 2.5% of the Company’s total revenues for the six months ended June 30, 2004.

Principles of Consolidation

The accompanying consolidated financial statements of the Company include the accounts of Saul Centers, its subsidiaries, and the Operating Partnership and Subsidiary Partnerships which are majority owned by Saul Centers. All significant intercompany balances and transactions have been eliminated in consolidation.

Real Estate Investment Properties

The Company purchases real estate investment properties from time to time and allocates the purchase price to various components, such as land, buildings, and intangibles related to in-place leases and customer relationships in accordance with Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) 141, “Business Combinations.” The purchase price is allocated based on the relative fair value of each component. The fair value of buildings is determined as if the buildings were vacant upon acquisition and subsequently leased at market rental rates. As such, the determination of fair

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

value considers the present value of all cash flows expected to be generated from the property including an initial lease up period. The Company determines the fair value of above and below market intangibles associated with in-place leases by assessing the net effective rent and remaining term of the lease relative to market terms for similar leases at acquisition. In the case of below market leases, the Company considers the remaining contractual lease period and renewal periods, taking into consideration the likelihood of the tenant exercising its renewal options. The fair value of a below market lease component is recorded as deferred income and amortized as additional lease revenue over the remaining contractual lease period and any renewal option periods included in the valuation analysis. The fair value of above market lease intangibles is recorded as a deferred asset and is amortized as a reduction of lease revenue over the remaining contractual lease term. The Company determines the fair value of at-market in-place leases considering the cost of acquiring similar leases, the foregone rents associated with the lease-up period and carrying costs associated with the lease-up period. Intangible assets associated with at-market in-place leases are amortized as additional lease expense over the remaining contractual lease term. To the extent customer relationship intangibles are present in an acquisition, the fair value of the intangibles are amortized over the life of the customer relationship.

The Company applied SFAS 141 when it recorded the 2004 acquisitions of Boca Valley Plaza, Countryside, Cruse MarketPlace and Briggs Chaney Plaza. For Boca Valley Plaza, approximately $958,000 of the $17,865,000 total cost of the acquisition, which includes the purchase price and closing costs, was allocated as lease intangible assets and included in lease acquisition costs at June 30, 2004. For Countryside, approximately $1,352,000 of the $30,305,000 total cost of the acquisition was allocated as lease intangible assets and included in lease acquisition costs at June 30, 2004. For Cruse MarketPlace, approximately $670,000 of the $12,768,000 total cost of the acquisition was allocated as lease intangible assets and included in lease acquisition costs at June 30, 2004. For Briggs Chaney Plaza, approximately $1,423,000 of the $27,732,000 total cost of the acquisition, was allocated as lease intangible assets and included in lease acquisition costs at June 30, 2004. The lease intangible assets are being amortized over the remaining periods of the leases acquired.

Real estate investment properties are reviewed for potential impairment losses whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If there is an event or change in circumstance that indicates an impairment in the value of a real estate investment property, the Company’s policy is to assess any impairment in value by making a comparison of the current and projected operating cash flows of the property over its remaining useful life, on an undiscounted basis, to the carrying amount of that property. If such carrying amount is in excess of the estimated projected operating cash flows of the property, the Company would recognize an impairment loss equivalent to an amount required to adjust the carrying amount to its estimated fair market value. Saul Centers adopted SFAS 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” effective January 1, 2002. This Statement addresses financial accounting and reporting for the impairment or disposal of long-lived assets. The Company has not recognized an impairment loss on any of its real estate.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Interest, real estate taxes and other carrying costs are capitalized on projects under development and construction. Interest expense capitalized during the six month periods ended June 30, 2004 and 2003, was $1,542,000 and $540,000, respectively. Once construction is substantially completed and the assets are placed in service, their rental income, direct operating expenses and depreciation are included in current operations. Expenditures for repairs and maintenance are charged to operations as incurred. Repair and maintenance expense, included in property operating expenses for the six month periods ended June 30, 2004 and 2003, was $2,401,000 and $2,658,000, respectively.

A project is considered substantially complete and available for occupancy upon completion of tenant improvements, but no later than one year from the cessation of major construction activity. Substantially completed portions of a project are accounted for as separate projects. Depreciation is calculated using the straight-line method with estimated useful lives of 35 to 50 years for base buildings and up to 20 years for certain other improvements. Depreciation expense during the periods ended June 30, 2004 and 2003, was $8,028,000 and $7,031,000, respectively. Leasehold improvements are amortized over the lives of the related leases using the straight-line method.

Construction In Progress

Construction in progress includes the land, land acquisition costs, predevelopment costs, and development costs of active projects. Predevelopment costs associated with these active projects include closing costs, legal, zoning and permitting costs and other project carrying costs incurred prior to the commencement of construction. Development costs include direct construction costs and indirect costs incurred subsequent to the start of construction such as architectural, engineering, construction management and carrying costs consisting of interest, real estate taxes and insurance. Construction in progress balances as of June 30, 2004 and December 31, 2003 are as follows:

Construction in Progress

(In thousands)

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Cash and Cash Equivalents

Cash and cash equivalents include cash and short-term investments with maturities of three months or less measured from the acquisition date.

Accounts Receivable and Accrued Income

Accounts receivable primarily represent amounts currently due from tenants in accordance with the terms of the respective leases. Receivables are reviewed monthly and reserves are established when, in the opinion of management, collection of the receivable is doubtful. Accounts receivable in the accompanying financial statements are shown net of an allowance for doubtful accounts of $602,000 and $561,000, at June 30, 2004 and December 31, 2003, respectively.

In addition to rents due currently, accounts receivable include $10,612,000 and $9,370,000, at June 30, 2004 and December 31, 2003, respectively, representing minimum rental income accrued on a straight-line basis to be paid by tenants over the remaining term of their respective leases. These amounts are presented after netting allowances of $573,000 and $548,000, respectively, for tenants whose rent payment history or financial condition cast doubt upon the tenant’s ability to perform under its lease obligations.

Lease Acquisition Costs

Certain initial direct costs incurred by the Company in negotiating and consummating a successful lease are capitalized and amortized over the initial base term of the lease. These costs total $18,887,000 and $15,344,000, net of accumulated amortization of $8,139,000 and $6,671,000, as of June 30, 2004 and December 31, 2003, respectively. Capitalized leasing costs consist of commissions paid to third party leasing agents as well as internal direct costs such as employee compensation and payroll related fringe benefits directly related to time spent performing leasing related activities. Such activities include evaluating the prospective tenant’s financial condition, evaluating and recording guarantees, collateral and other security arrangements, negotiating lease terms, preparing lease documents and closing the transaction. Lease acquisition costs also include a portion of an acquired property’s purchase price as discussed previously in “Real Estate Investment Properties.”

Deferred Debt Costs

Deferred debt costs consist of financing fees and costs incurred to obtain long-term financing. These fees and costs are being amortized over the terms of the respective loans or agreements. Deferred debt costs totaled $4,509,000 and $4,224,000, and are presented net of accumulated amortization of $3,744,000 and $3,300,000, at June 30, 2004 and December 31, 2003, respectively.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Deferred Income

Deferred income consists of payments received from tenants prior to the time they are earned and recognized by the Company as revenue. These payments include prepayment of the following month’s rent, prepayment of real estate taxes when the taxing jurisdiction has a fiscal year differing from the calendar year reimbursements specified in the lease agreement and advance payments by tenants for tenant construction work provided by the Company.

Revenue Recognition

Rental and interest income is accrued as earned except when doubt exists as to collectibility, in which case the accrual is discontinued. When rental payments due under leases vary from a straight-line basis because of free rent periods or stepped increases, income is recognized on a straight-line basis in accordance with generally accepted accounting principles. Expense recoveries represent a portion of property operating expenses billed to the tenants, including common area maintenance, real estate taxes and other recoverable costs. Expense recoveries are recognized in the period when the expenses are incurred. Rental income based on a tenant’s revenues (“percentage rent”) is accrued when a tenant reports sales that exceed a specified breakpoint.

Income Taxes

The Company made an election to be treated, and intends to continue operating so as to qualify as a REIT under the Internal Revenue Code, commencing with its taxable year ended December 31, 1993. A REIT generally will not be subject to federal income taxation on that portion of its income that qualifies as REIT taxable income to the extent that it distributes at least 90% of its REIT taxable income to stockholders and complies with certain other requirements. Therefore, no provision has been made for federal income taxes in the accompanying consolidated financial statements.

Stock Based Employee Compensation, Deferred Compensation and Stock Plan for Directors

The Company established a stock option plan in 1993 (the “1993 Plan”) for the purpose of attracting and retaining executive officers and other key personnel. The 1993 Plan provides for grants of options to purchase a specified number of shares of common stock. A total of 400,000 shares were made available under the 1993 Plan. The 1993 Plan authorizes the Compensation Committee of the Board of Directors to grant options at an exercise price which may not be less than the market value of the common stock on the date the option is granted.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

On May 23, 2003, the Compensation Committee granted options to purchase a total of 220,000 shares (80,000 shares from incentive stock options and 140,000 shares from nonqualified stock options) to six Company officers (the “2003 Options”). Following the grant of the 2003 Options, no shares were available for issuance under the 1993 Plan. The 2003 Options vest 25% per year over four years and have a term of ten years, subject to earlier expiration upon termination of employment. The exercise price of $24.91 was the market trading price of the Company’s common stock at the time of the award.

Effective January 2003, the Company adopted the fair value method to value employee stock options using the prospective transition method specified under SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure.” The Company had no options eligible for valuation prior to the grant of the 2003 Options. The fair value of the 2003 Options was determined at the time of the award using the Black-Scholes model, a widely used method for valuing stock based employee compensation. Using the Black-Scholes model, the Company determined the total fair value of the 2003 Options to be $332,000 and recognizes compensation expense monthly during the four years the options vest. Compensation expense attributed to the 2003 Options during the six months ended June 30, 2004 was $42,000. The 2003 Options are due to expire May 22, 2013. One-fourth of the 2003 Options are vested as of June 30, 2004 or 55,000 shares. As of June 30, 2004, 7,500 of the vested options have been exercised and 47,500 remain unexercised.

At the annual meeting of the Company’s stockholders in 2004, the stockholders approved the adoption of the 2004 stock plan (the “2004 Plan”) for the purpose of attracting and retaining executive officers, directors and other key personnel. The 2004 Plan provides for grants of options to purchase up to 500,000 shares of common stock as well as grants of up to 100,000 shares of common stock to directors. The 2004 Plan authorizes the Compensation Committee of the Board of Directors to grant options at an exercise price which may not be less than the market value of the common stock on the date the option is granted.

Effective April 26, 2004, the Compensation Committee granted options to purchase a total of 152,500 shares (27,500 shares from incentive stock options and 125,000 shares from nonqualified stock options) to eleven Company officers and to the twelve Company directors (the “2004 Options”). The officers’ 2004 Options vest 25% per year over four years and have a term of ten years, subject to earlier expiration upon termination of employment. The directors’ options are exercisable immediately. The exercise price of $25.78 was the market trading price of the Company’s common stock at the time of the award. Using the Black-Scholes model, the Company determined the total fair value of the 2004 Options to be $359,000, of which $293,000 and $67,000 were the values assigned to the officer options and director options respectively. Because the directors’ options vest immediately, the entire $67,000 was expensed as of the date of grant. The expense of the officers’ options will be recognized as compensation expense monthly during the four years the options vest. Compensation expense attributed to the 2004 Options during the six months ended June 30, 2004 was $80,000. The 2004 Options are due to expire April 25, 2014.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Pursuant to the 2004 Plan, the Compensation Committee established a Deferred Compensation Plan for Directors (the “Plan”) for the benefit of its directors and their beneficiaries. The Plan replaces the Company’s previous Deferred Compensation and Stock Plan for Directors. A director may elect to defer all or part of his or her director’s fees and has the option to have the fees paid in cash, in shares of common stock or in a combination of cash and shares of common stock upon termination from the Board. If the director elects to have fees paid in stock, fees earned during a calendar quarter are aggregated and divided by the market price of the common stock on the quarter’s last trading day to determine the number of shares to be allocated to the director. As of June 30, 2004, 158,000 shares had been credited to the directors’ deferred fee accounts.

The Compensation Committee has also approved the annual award of 200 shares of the Company’s common stock and options to purchase 2,500 shares of common stock as additional compensation to each director serving on the Board of Directors as of the record date for the Annual Meeting of Stockholders. The shares and options are issued on the date of the Annual Meeting and their issuance may not be deferred. The options are immediately exercisable.

Per Share Data

Per share data is calculated in accordance with SFAS No. 128, “Earnings Per Share.” Per share data for net income (basic and diluted) is computed using weighted average shares of common stock. Convertible limited partnership units and employee stock options are the Company’s potentially dilutive securities. For all periods presented, the convertible limited partnership units are anti-dilutive. The options are currently dilutive because the average share price of the Company’s common stock exceeds the exercise prices. The treasury share method was used to measure the effect of the dilution.

Basic and Diluted Shares Outstanding

(In thousands, except per share data)

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Reclassifications

Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation. The reclassifications have no impact on operating results previously reported.

Recent Accounting Pronouncements

In November 2002, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. (“FIN”) 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Direct Guarantees of Indebtedness of Others.” FIN 45 outlines the disclosures to be made by a guarantor in its financial statements about its obligations under certain guarantees. It states that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of its obligation. Saul Centers has guaranteed portions of its Partnership debt obligations, all of which are presented on the consolidated financial statements as mortgage notes payable and revolving credit facility. Saul Centers has guaranteed $2,964,000 of the mortgage notes payable and the entire $22,000,000 outstanding under the revolving credit facility, which are recourse loans made by the Operating Partnership as of June 30, 2004. The balance of the mortgage notes payable totaling $386,580,000 are non-recourse, however, as is customary when obtaining long term non-recourse financing, borrowers such as Saul Centers make certain representations to lenders, for example, that no fraud exists and the officers are authorized to execute loan documents and that there are no environmental matters relating to the properties which are in violation of applicable laws. Borrowers, including Saul Centers, typically agree to assume obligations arising from reliance upon these representations should a third party suffer damages related to individual mortgages. No additional liabilities were recognized as a result of the adoption of FIN 45.

In January 2003, the FASB issued FIN 46, “Consolidation of Variable Interest Entities,” which changes the guidelines for consolidation of and disclosure related to unconsolidated entities, if those unconsolidated entities qualify as variable interest entities, as defined in FIN 46. The Company does not have any unconsolidated entities or variable interest entities and therefore the adoption of FIN 46 will not have an impact upon the consolidated financial statements.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

3. Real Estate Acquired

Boca Valley Plaza

On February 13, 2004, the Company acquired Boca Valley Plaza in Boca Raton, Florida. Boca Valley Plaza is a 121,000 square foot neighborhood shopping center on U.S. Highway 1 in South Florida. The center, constructed in 1988, is 89% leased and anchored by a 42,000 square foot Publix supermarket. The property was acquired for a purchase price of $17.5 million, subject to the assumption of a $9.2 million mortgage (See Note 5). The mortgage assumption was treated as a non-cash acquisition in the Statement of Cash Flows.

Countryside

On February 17, 2004, the Company completed the acquisition of the 130,000 square foot Safeway-anchored Countryside shopping center, its fourth neighborhood shopping center investment in Loudoun County, Virginia. The center is 95% leased and was acquired for a purchase price of $29.7 million.

Cruse MarketPlace

On March 25, 2004, the Company completed the acquisition of the 79,000 square foot Publix-anchored, Cruse MarketPlace located in Forsyth County, Georgia. Cruse MarketPlace was constructed in 2002 and is 97% leased. The center was purchased for $12.6 million subject to the assumption of an $8.8 million mortgage (See Note 5). The mortgage assumption was treated as a non-cash acquisition in the Statement of Cash Flows.

Briggs Chaney Plaza

On April 23, 2004, the Company completed the acquisition of the 197,000 square foot Safeway-anchored Briggs Chaney Plaza shopping center located in Silver Spring, Maryland. The center is 92% leased and was acquired for a purchase price of $27.3 million.

The Company accounted for the Boca Valley Plaza, Countryside, Cruse MarketPlace and Briggs Chaney acquisitions using the purchase method of accounting in accordance with SFAS No. 141, “Business Combinations.” The Company allocates the purchase price to various components, such as land, buildings and intangibles related to in-place leases and customer relationships, if applicable as described in Note 2. The results of operations of the acquired properties are included in the consolidated statements of operations as of the acquisition date.

The following unaudited pro-forma combined condensed statements of operations set forth the consolidated results of operations for the three and six month periods ended June 30, 2004 and 2003, respectively, as if the above described acquisitions had occurred on January 1, 2004 and 2003, respectively. The unaudited pro-forma information does not purport to be indicative of the results that actually would have occurred if the combinations had been in effect for the three and six months ended June 30, 2004 and 2003, respectively.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Pro-Forma Combined Condensed Statements of Operations

4. Minority Interests - Holders of Convertible Limited Partner Units in the Operating Partnership

The Saul Organization has a 24.4% limited partnership interest, represented by 5,194,000 convertible limited partnership units in the Operating Partnership, as of June 30, 2004. These convertible limited partnership units are convertible into shares of Saul Centers’ common stock on a one-for-one basis, provided the rights may not be exercised at any time that The Saul Organization beneficially owns, directly or indirectly, in the aggregate more than 24.9% of the outstanding equity securities of Saul Centers. The limited partnership units were not convertible as of June 30, 2004 because the Saul Organization owned in excess of 24.9% of the Company’s equity securities. The impact of The Saul Organization’s 24.4% limited partnership interest in the Operating Partnership is reflected as minority interests in the accompanying consolidated financial statements. Fully converted partnership units and diluted weighted average shares outstanding for the quarters ended June 30, 2004 and 2003, were 21,316,000 and 20,727,000, respectively. Fully converted partnership units and diluted weighted average shares outstanding for the six month periods ended June 30, 2004 and 2003, were 21,241,000 and 20,622,000, respectively.

5. Mortgage Notes Payable and Revolving Credit Facility

Indebtedness outstanding under mortgage notes payable and revolving credit facility totaled $411,544,000 at June 30, 2004, of which $389,544,000 (94.7%) was fixed rate debt and $22,000,000 (5.3%) was floating rate debt. At June 30, 2004, the Company had a $125,000,000 unsecured revolving credit facility with outstanding borrowings of $22,000,000. The facility matures in August 2005, requires monthly interest payments at a rate of LIBOR plus a spread of

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

1.625% to 1.875% (determined by certain debt service coverage and leverage tests) or upon the bank’s reference rate at the Company’s option and requires the Company to meet certain financial covenants. As of June 30, 2004, borrowings under the facility accrued interest at LIBOR plus 1.625% and the Company was in compliance with all financial covenants. Loan availability is determined by operating income from the Company’s unencumbered properties, which, as of June 30, 2004 would have allowed the Company to borrow an additional $53,000,000 for general corporate use. An additional $50,000,000 is available for funding working capital and operating property acquisitions supported by the unencumbered properties’ internal cash flow growth and operating income of future acquisitions.

On February 13, 2004, the Company obtained a new 15-year $10,200,000 fixed-rate mortgage loan collateralized by Kentlands Square. The loan requires monthly principal and interest payments based upon a fixed interest rate of 5.94% and a 25 year amortization schedule. A balloon payment of $6,039,000 will be due at loan maturity, January 2019. Also on February 13, 2004 the Company purchased Boca Valley Plaza shopping center, located in Boca Raton, Florida. In conjunction with the acquisition, the Company assumed the seller’s non-recourse mortgage of $9,200,000. The loan matures in April 2007 and requires monthly interest only payments at a fixed rate of 6.82%. The loan is subject to prepayment penalties. On March 25, 2004 the Company purchased Cruse MarketPlace shopping center, located in Forsyth County, a suburb of Atlanta, Georgia. In conjunction with the acquisition, the Company assumed the seller’s non-recourse mortgage of $8,825,000. The loan matures in July 2013 at which time a balloon payment of $6,830,000 will be due. The loan requires monthly principal and interest payments based upon a fixed interest rate of 5.77% and a 24 year amortization schedule. On April 26, 2004, the Company obtained a new 15-year $15,500,000 fixed-rate mortgage loan collateralized by Olde Forte Village. The loan requires monthly principal and interest payments based upon a fixed interest rate of 5.76% and a 25 year amortization schedule. A balloon payment of $8,985,000 will be due at loan maturity, May 2019.

The Company has committed to execute a new 15-year $21,000,000 fixed-rate mortgage loan collateralized by Briggs Chaney Plaza. The loan requires monthly principal and interest payments based upon a fixed interest rate of 5.79% and a 25 year amortization schedule. The loan is expected to close during the third quarter of 2004. A balloon payment of $12,192,000 will be due at loan maturity, in the third quarter of 2019.

Mortgage notes payable totaled $357,248,000 at December 31, 2003, all of which was fixed rate debt. At December 31, 2003, the Company had no outstanding borrowings on its $125,000,000 unsecured revolving credit facility. Loan availability at December 31, 2003 allowed the Company to borrow up to $75,000,000 for general corporate use. An additional $50,000,000 was available for funding working capital and operating property acquisitions supported by the unencumbered properties’ internal cash flow growth and operating income of future acquisitions.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

At June 30, 2004, the scheduled maturities of all debt, including scheduled principal amortization, for years ending December 31, were as follows:

Debt Maturity Schedule

(In thousands)

6. Stockholders’ Equity and Minority Interests

The Consolidated Statement of Operations for the three months ended June 30, 2004 includes a charge for minority interests of $2,043,000, consisting of $1,545,000 related to The Saul Organization’s share of net income for the quarter, and $498,000 related to distributions to minority interests in excess of allocated net income for the quarter. The minority interests charge for the three months ended June 30, 2003 of $2,020,000 consists of $1,503,000 related to The Saul Organization’s share of net income for the quarter, and $517,000 related to distributions to minority interests in excess of allocated net income for the quarter. The Consolidated Statement of Operations for the six months ended June 30, 2004 includes a charge for minority interests of $4,067,000, consisting of $3,102,000 related to The Saul Organization’s share of net income for the period, and $965,000 related to distributions to minority interests in excess of allocated net income for the period. The minority interests charge for the six months ended June 30, 2003 of $4,040,000 consists of $3,151,000 related to The Saul Organization’s share of net income for the period, and $889,000 related to distributions to minority interests in excess of allocated net income for the period.

7. Related Party Transactions

Chevy Chase Bank, an affiliate of The Saul Organization, leases space in 15 of the Company’s properties. Total rental income from Chevy Chase Bank amounted to $862,000 and $705,000, for the six months ended June 30, 2004 and 2003, respectively.

The Company utilizes Chevy Chase Bank for its various checking and short-term interest bearing money market accounts. As of June 30, 2004, approximately $9,962,000 was held in deposit in these accounts.

On January 23, 2004 the Company purchased a 3.4 acre site, adjacent to the Company’s Kentlands Square property, from a subsidiary of Chevy Chase Bank for $1,425,000. The

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Company is developing retail and office improvements on this site. The purchase price of the property was determined by the average of two independent third party appraisals which were contracted, one on behalf of the Company and one on behalf of the bank.

The Chairman and Chief Executive Officer, the President and the Chief Accounting Officer of the Company are also officers of various members of The Saul Organization and their management time is shared with The Saul Organization. Their annual compensation is fixed by the Compensation Committee of the Board of Directors.

The Company shares with The Saul Organization on a pro-rata basis certain ancillary functions such as computer hardware, software and support services and certain direct and indirect administrative payroll based on management’s estimate of usage or time incurred, as applicable. Billings by the Saul Organization for the Company’s share of these ancillary costs and expenses totaled $1,214,000 and $1,304,000, for the six month periods ended June 30, 2004 and June 30, 2003, respectively. Also, The Saul Organization subleases office space to the Company for its corporate headquarters. The terms of all such arrangements with The Saul Organization, including payments related thereto, are reviewed by the Audit Committee of the Board of Directors.

8. Subsequent Events

In July 2004, the Company closed on a new 15-year $21,350,000 fixed-rate mortgage loan collateralized by Countryside shopping center. The loan requires monthly principal and interest payments based upon a fixed interest rate of 5.62% and a 25 year amortization schedule. A balloon payment of $12,288,000 will be due at loan maturity, July 2019.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

9. Business Segments

The Company has two reportable business segments: Shopping Centers and Office Properties. The accounting policies for the segments presented below are the same as those described in the summary of significant accounting policies (see Note 2). The Company evaluates performance based upon net operating income for properties in each segment.

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Saul Centers, Inc.

Notes to Consolidated Financial Statements

(Unaudited)