8-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 8-K

CURRENT REPORT

Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Date of Report: June 21, 2005

COMMERCIAL NET LEASE REALTY, INC.

(exact name of registrant as specified in its charter)

Maryland	001-11290	56-1431377
(State or other jurisdiction of	(Commission File Number)	(I.R.S. Employment Identification No.)
incorporation or organization)

450 South Orange Avenue, Orlando, Florida 32801
(Address of principal executive offices, including zip code)

(407) 265-7348
(Registrant’s telephone number, including area code)

Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions (see General Instruction A.2. below):

o Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)

o Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)

o Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))

o Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))

Item 8.01. Other Events.

     Commercial Net Lease Realty, Inc. (the “Company”) is revising its historical financial statements in connection with its application of Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”) to certain transactions. During the quarter ended March 31, 2005, the Company sold certain properties and classified others as held for sale. In compliance with SFAS No. 144, the Company has reported revenues, expenses and gain on disposition from these properties as earnings from discontinued operations for each period presented in its quarterly report filed since the date of the dispositions (including the comparable period of the prior year). The Company’s next annual report on Form 10-K will include restated results of operations that reflect this reclassification for prior full years. However, the rules and regulations of the Securities and Exchange Commission (the “SEC”) applicable to the Company require that it reclassify the reported revenue, expenses and gain on disposition from these properties as earnings from discontinued operations in its financial statements for each of the periods presented in the Company’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2005, and in the Company’s annual financial statements for each of the three years presented in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2004, if those financials are incorporated by reference in a registration statement to be filed with the SEC under the Securities Act of 1933, as amended, even though those financial statements relate to a period prior to the transactions giving rise to the reclassification.

     These reclassifications as discontinued operations have no effect on the Company’s reported net earnings available to common shareholders or funds from operations as reported in prior SEC filings. Instead, they present the revenues and expenses relating to properties sold or held for sale as a single line item titled “earnings from discontinued operations,” rather than presenting the revenues and expenses along with the Company’s other earnings from continuing operations.

     In addition, we have included an updated management’s discussion and analysis of the financial condition and results of operations of the Company for the periods presented in the restated financial statements, which the Company believes will be helpful to the reader in reviewing these restated financial statements.

     For the Company’s most recent information concerning its financial condition and results of operations (through the first quarter of 2005), please see the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2005, which is on file with the SEC.

Item 9.01. Financial Statements and Exhibits.

Exhibit 23.1: Consent of KPMG LLP
Exhibit 99.1: Selected Financial Data
Exhibit 99.2: Management’s Discussion and Analysis of Financial Condition and Results of Operations
Exhibit 99.3: Financial Statements and Supplementary Data

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Commercial Net Lease Realty, Inc.
                    (Registrant)

Date: June 21, 2005 By: /s/ Kevin B. Habicht
Kevin B. Habicht
Executive Vice President and
Chief Financial Officer

Exhibit Index

Exhibit No.	Description
Exhibit 23.1:	Consent of KPMG LLP
Exhibit 99.1:	Selected Financial Data
Exhibit 99.2:	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Exhibit 99.3:	Financial Statements and Supplementary Data

EX-23.1

Exhibit 23.1

Consent of Independent Registered Public Accounting Firm

The Board of Directors
Commercial Net Lease Realty, Inc. and Subsidiaries

We consent to the incorporation by reference in the registration statement (no. 333-105635) on Form S-3 and registration statement (no. 333-64794) on Form S-8 of Commercial Net Lease Realty, Inc. and subsidiaries of our report dated March 9, 2005, except for Notes 1, 16, 17 and 22 which are as of June 17, 2005, with respect to the consolidated balance sheets of Commercial Net Lease Realty, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of earnings, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2004, and all related financial statement schedules. Our report refers to the Company’s adoption of FIN No. 46(R) “Consolidation of Variable Interest Entities”. We also consent to the incorporation by reference in the registration statement (no. 333-105635) on Form S-3 and registration statement (no. 333-64794) on Form S-8 of Commercial Net Lease Realty, Inc. and subsidiaries of our report dated March 9, 2005 with respect to management’s assessment of the effectiveness of internal control over financial reporting as of December 31, 2004 and the effectiveness of internal control over financial reporting as of December 31, 2004.

Orlando, Florida
June 17, 2005

EX-99.1

Exhibit 99.1

Selected Financial Data

Historical Financial Highlights
(dollars in thousands, except per share data)

	2004			2003			2002			2001			2000
		(revised)			(revised)			(revised)			(revised)			(revised)
Gross revenues(1)	$	157,277		$	124,248		$	109,812		$	85,554		$	83,495
Earnings from continuing operations before cumulative effect of change in accounting principle		49,259			40,440			33,246			23,204			33,632
Net earnings		64,934			53,473			48,058			28,963			38,251
Total assets		1,300,048			1,213,778			958,300			1,010,009			769,295
Total debt		524,241			467,419			386,912			435,333			360,381
Total equity		756,998			730,754			549,141			564,640			393,901
Cash dividends paid to:
Common stockholders		66,272			55,473			51,178			38,637			37,760
Series A Preferred Stock stockholders		4,008			4,008			4,010			-			-
Series B Convertible Preferred Stock stockholders		1,675			502			-			-			-
Weighted average common shares:
Basic		51,312,434			43,108,213			40,383,405			31,539,857			30,387,371
Diluted		51,742,518			43,896,800			40,588,957			31,717,043			30,407,507
Per share information:
Earnings from continuing operations before cumulative effect of change in accounting principle:
Basic		0.850			0.840			0.720			0.740			1.110
Diluted		0.850			0.830			0.720			0.730			1.110
Net earnings:
Basic		1.150			1.140			1.090			0.920			1.260
Diluted		1.150			1.130			1.090			0.910			1.260
Dividends paid to:
Common stockholders		1.290			1.280			1.270			1.260			1.245
Series A Preferred Stock stockholders		2.250			2.250			2.250			-			-
Series B Convertible Preferred Stock stockholders		167.500			50.250			-			-			-
Other data:
Cash flows provided by (used in):
Operating activities		74,792			48,531			111,589			112,267			14,551
Investing activities		(58,955	)		(251,186	)		(15,142	)		(2,700	)		17,195
Financing activities		(19,225	)		205,965			(101,654	)		(8,878	)		(28,929	)
Funds from operations – diluted(2)		73,065			61,749			54,595			32,034			42,061

(1)

Gross revenues include revenues from the Company’s continuing and discontinued operations. The Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” This statement addresses financial accounting and reporting for the impairment or disposal of long-lived assets and broadens the presentation of discontinued operations in the income statement to include a component of an entity. Accordingly, the results of operations related to these certain properties that have been classified as held for sale or have been disposed of subsequent to December 31, 2001, the effective date of SFAS No. 144, have been reclassified as earnings from discontinued operations. In addition, the Company has also classified revenues and expenses related to the four Investment Properties sold during the quarter ended March 31, 2005 and the one Investment Property held for sale at March 31, 2005, as discontinued operations.

(2)

Funds from Operations, commonly referred to as FFO, is a relative non-GAAP financial measure of operating performance of an equity REIT in order to recognize that income-producing real estate historically has not depreciated on the basis determined under GAAP. FFO is defined by the National Association of Real Estate Investment Trusts and is used by the Company as follows: net earnings (computed in accordance with GAAP) plus depreciation and amortization of assets unique to the real estate industry, excluding gains (or including losses) on the disposition of real estate held for investment, and the Company’s share of these items from the Company’s unconsolidated partnerships.

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FFO is generally considered by industry analysts to be the most appropriate measure of operating performance of real estate companies. FFO does not necessarily represent cash provided by operating activities in accordance with GAAP and should not be considered an alternative to net income as an indication of the Company’s operating performance or to cash flow as a measure of liquidity or ability to make distributions. Management considers FFO an appropriate measure of operating performance of an equity REIT because it primarily excludes the assumption that the value of the real estate assets diminishes predictably over time, and because industry analysts have accepted it as an operating performance measure. The Company’s computation of FFO may differ from the methodology for calculating FFO used by other equity REITs, and therefore, may not be comparable to such other REITs.

The Company has earnings from discontinued operations in each of its segments, real estate held for investment and real estate held for sale. All property dispositions from the Company’s held for investment segment are classified as discontinued operations. In addition, certain properties in the Company’s held for sale segment that have generated revenues before disposition are classified as discontinued operations. These held for sale properties have not historically been classified as discontinued operations, therefore, prior period comparable consolidated financial statements have been restated to include these properties in its earnings from discontinued operations. These adjustments resulted in a decrease in the Company’s reported total revenues and total and per share earnings from continuing operations and an increase in the Company’s earnings from discontinued operations. However, the Company’s total and per share net earnings available to common stockholders are not affected.

The following table reconciles FFO to their most directly comparable GAAP measure, net earnings for the years ended December 31:

	2004			2003			2002			2001			2000
		(revised)			(revised)			(revised)			(revised)			(revised)
Reconciliation of funds from operations:
Net earnings	$	64,934		$	53,473		$	48,058		$	28,963		$	38,251
Real estate, held for investment depreciation and amortization:
Continuing operations		15,049			11,127			9,161			6,953			7,256
Discontinued operations		666			745			1,167			703			582
Partnership real estate depreciation		622			699			479			63			63
Gain on disposition of real estate held for investment		(2,523	)		(287	)		(260	)		(4,648	)		(4,091	)
FFO		78,748			65,757			58,605			32,034			42,061
Series A Preferred Stock dividends		(4,008	)		(4,008	)		(4,010	)		-			-
Series B Convertible Preferred Stock dividends		(1,675	)		(502	)		-			-			-
FFO available to common stockholders – basic		73,065			61,247			54,595			32,034			42,061
Series B Convertible Preferred Stock dividends		-			502			-			-			-
FFO available to common stockholders – diluted	$	73,065		$	61,749		$	54,595		$	32,034		$	42,061

For a discussion of material events affecting the comparability of the information reflected in the selected financial data, refer to the Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

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EX-99.2

Exhibit 99.2

Management’s Discussion and Analysis of Financial Condition and Results of Operations

In compliance with Statement of Financial Accounting Standard (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the consolidated statements of earnings have been revised from those originally reported for the years ended December 31, 2004, 2003 and 2002 in the Company’s Annual Report on Form 10-K for year ended December 31, 2004 to reflect separately the results of discontinued operations for properties sold or classified as held for sale during the quarter ended March 31, 2005. The revision had no impact on the consolidated balance sheets, statements of stockholders’ equity or statements of cash flows. The revisions had no impact on net earnings or net earnings per share for the years ended December 31, 2004, 2003 and 2002. Instead, they present the revenues and expenses relating to properties sold or held for sale as a single line item titled “earnings from discontinued operations,” rather than presenting the revenues and expenses along with the Company’s other earnings from continuing operations.

This information contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements generally are characterized by the use of terms such as “believe,” “expect” and “may.” The terms “Registrant” or “Company” refer to Commercial Net Lease Realty, Inc. and its majority owned and controlled subsidiaries. These subsidiaries include the wholly-owned qualified real estate investment trust (“REIT”) subsidiaries of Commercial Net Lease Realty, Inc., as well as the taxable REIT subsidiary (“TRS”) Commercial Net Lease Realty Services, Inc. and its majority owned and controlled subsidiaries (collectively, “Services”).

Although management 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 set forth in the forward-looking statements. Certain factors that might cause a difference include the following:

•   the ability of tenants to make payments under their respective leases, including the Company’s reliance on certain major tenants and the ability of the Company to re-lease properties that are currently vacant or that become vacant;

•   the ability of the Company to locate suitable tenants for its properties; changes in real estate market conditions; changes in general economic conditions;

•   the ability of the Company to repay debt financing obligations;

•   the ability of the Company to refinance amounts outstanding under its credit facilities at maturity on terms favorable to the Company;

•   continued availability of proceeds from the Company’s debt or equity capital;

•   the ability of the Company to maintain internal controls and processes to ensure all transactions are accounted for properly, all relevant disclosures and filings are timely made in accordance with all rules and regulations, and any potential fraud or embezzlement is thwarted or detected;

•   the availability of other debt and equity financing alternatives; market conditions affecting the Company’s equity capital;

•   ability to sell properties at an attractive return;

•   changes in interest rates under the Company’s current credit facilities and under any additional variable rate debt arrangements that the Company may enter into in the future;

•   the ability of the Company to be in compliance with certain debt covenants; the inherent risks associated with owning real estate (including: local real estate market conditions, governing laws and regulations and illiquidity of real estate investments);

•   the ability of the Company to integrate office properties into existing operations that historically have been primarily focused on retail properties;

•   the loss of any member of the Company’s management team;

•   the ability of the Company to successfully implement its selective acquisition strategy or fully realize the anticipated benefits of renovation or development projects;

•   the ability of the Company to integrate acquired properties and operations into existing operations;

•   recent changes in tax legislation provide favorable treatment for dividends for regular companies, but not generally dividends from real estate investment trusts; and

•   the ability of the Company to qualify as a real estate investment trust for federal income tax purposes.

Given these uncertainties, readers are cautioned not to place undue reliance on such statements. Management of the Company currently knows of no trends that will have a material adverse effect on its liquidity, capital resources or results of operations.

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Overview

Commercial Net Lease Realty, Inc., a Maryland corporation, is a fully integrated REIT formed in 1984. All prior period comparable consolidated financial statements have been derived from the audited consolidated financial statements and have been restated to include the consolidated financial information of Services. Effective January 1, 2004, Services is included in the consolidated financial statements due to the Company’s implementation of Financial Accounting Standards Board (“FASB”) Interpretation No. 46, “Consolidation of Variable Interest Entities,” as amended (“FIN 46R”). The Company holds a 98.7 percent, non-controlling interest in Services and is entitled to receive 98.7 percent of the dividends paid by Services. James M. Seneff, Jr., a director of the Company, Kevin B. Habicht, an officer and director of the Company, and Gary M. Ralston, a former officer and director of the Company, collectively own the remaining 1.3 percent interest, which is 100 percent of the voting interest in Services. Effective January 1, 2005, the Company acquired the remaining 1.3 percent voting interest in Services increasing the Company’s ownership in Services to 100 percent.

The Company’s operations are divided into two primary business segments: real estate held for investment, including structured finance investments, and real estate held for sale. The real estate held for investment (the “Investment Properties”) and structured finance investments (included in mortgages and notes receivable on the balance sheet), are operated through Commercial Net Lease Realty, Inc. and its wholly owned qualified REIT subsidiaries. The Company, directly and indirectly, through investment interests, acquires, owns, invests in, manages and develops primarily single-tenant retail properties that are generally leased to established tenants under long-term commercial net leases. As of December 31, 2004, the Company owned 362 Investment Properties, with an aggregate gross leaseable area of 8,542,000 square feet, located in 38 states and leased to established tenants, including Academy, Barnes & Noble, Best Buy, Borders, CVS, Eckerd, OfficeMax, The Sports Authority, United Rentals and the United States of America. In addition to the Investment Properties, as of December 31, 2004, the Company had $29,390,000 in structured finance investments. The real estate held for sale is operated through Services. Services, directly and indirectly, through investment interests, acquires and develops real estate primarily for the purpose of selling the real estate to purchasers who are looking for replacement like-kind exchange property or to other purchasers with different investment objectives. As of December 31, 2004, Services owned 21 properties that were held for sale (“Inventory Properties”).

The Company’s management team focuses on certain key indicators to evaluate the financial condition and operating performance of the Company. The key indicators for the Company include items such as: the composition of the Company’s portfolio of Investment Properties and structured finance investments (such as tenant, geographic and industry classification diversification); the occupancy rate of the Company’s portfolio of Investment Properties; certain financial performance ratios and profitability measures; and industry trends and performance compared to that of the Company; and returns the Company receives on its invested capital in Services.

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Liquidity

General. Historically, the Company’s demand for funds has been primarily for (i) payment of operating expenses and dividends, (ii) property acquisitions, structured finance investments, capital expenditures and development, either directly or through investment interests, (iii) payment of principal and interest on its outstanding indebtedness and (iv) other investments.

Contractual Obligations and Commercial Commitments. The information in the following table summarizes the Company’s contractual obligations and commercial commitments outstanding as of December 31, 2004. The table presents principal cash flows by year-end of the expected maturity for debt obligations and commercial commitments outstanding as of December 31, 2004. As the table incorporates only those exposures that exist as of December 31, 2004, it does not consider those exposures or positions which may arise after that date.

	Expected Maturity Date
	(dollars in thousands)
	Total		2005		2006		2007		2008		2009		Thereafter
Long-term debt(1)	$	521,109	$	4,070	$	40,276	$	8,776	$	101,156	$	964	$	365,867
Operating lease		13,095		1,165		1,200		1,236		1,273		1,311		6,910
Total contractual cash obligations(2)	$	534,204	$	5,235	$	41,476	$	10,012	$	102,429	$	2,275	$	372,777

 

(1)	Includes amounts outstanding under the revolving credit facility, mortgages and notes payable and financing lease obligation and excludes unamortized note discounts and unamortized interest rate hedge gain. Excludes $4,334,000 of accrued interest payable due in 2005.
(2)	As of December 31, 2004, the Company does not have any other contractual cash obligations, such as purchase obligations, financing lease obligations or other long-term liabilities other than those reflected in the table. In addition to items reflected in the table, the Company has two series of preferred stock with cumulative preferential cash distributions (see “Liquidity – Dividends”).

Management anticipates satisfying these obligations with a combination of the Company’s current capital resources, cash on hand, its revolving credit facility and debt or equity financings.

In addition to the contractual obligations outlined in the above table, in connection with its acquisition of two office buildings and a related parking garage located in the Washington, D.C. metropolitan area (“DC Office Properties”) in August 2003, the Company has agreed to fund $27,322,000 for building and tenant improvements, of which $23,850,000 had been funded as of December 31, 2004. The Company anticipates funding the additional costs from borrowings under the Company’s revolving credit facility, which is anticipated to be substantially complete by June 30, 2005.

In connection with the development of seven Inventory Properties by Services, the Company has agreed to fund construction commitments of $26,409,000, of which $12,248,000 has been funded as of December 31, 2004. The Company anticipates funding the additional costs from borrowings under the Company’s revolving credit facility.

The Company has also guaranteed 41.67 percent of a $15,500,000 promissory note on behalf of an unconsolidated affiliate. The maximum obligation to the Company is $6,458,000 plus interest, and the guarantee shall continue through the loan maturity, which was extended from the original maturity of November 2004 to May 2005. In the event the Company is required to perform under this guarantee, the Company would potentially use proceeds from its revolving credit facility.

Many of the Investment Properties are recently constructed and are generally net leased, therefore management anticipates that capital demands to meet obligations with respect to these Properties will be modest for the foreseeable future and can be met with funds from operations and working capital. The leases typically provide that the tenant bears responsibility for substantially all property costs and expenses associated with ongoing maintenance and operation, including utilities, property taxes and

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insurance. In addition, the Company’s leases generally provide that the tenant is responsible for roof and structural repairs. Certain of the Company’s Investment Properties, including the DC Office Properties, are subject to leases under which the Company retains responsibility for certain costs and expenses associated with the Investment Property. Management anticipates the costs associated with the Company’s vacant Investment Properties or those Investment Properties that become vacant will also be met with funds from operations and working capital. The Company may be required to borrow under the Company’s revolving credit facility or use other sources of capital in the event of unforeseen significant capital expenditures.

The lost revenues and increased property expenses resulting from the rejection by any bankrupt tenant of any of their respective leases with the Company could have a material adverse effect on the liquidity and results of operations of the Company if the Company is unable to re-lease the Investment Properties at comparable rental rates and in a timely manner. As of January 31, 2005, the Company owns 10 vacant, unleased Investment Properties, which account for approximately three percent of the total gross leaseable area of the Company’s portfolio of Investment Properties.

Dividends. The Company has made an election to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, and related regulations. The Company generally will not be subject to federal income tax on income that it distributes to its stockholders, providing it distributes at least 90 percent of its REIT taxable income and meets certain other requirements for qualifying as a REIT. If the Company fails to qualify as a REIT in any taxable year, it will be subject to federal income tax on its taxable income at regular corporate rates and will not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year during which qualification is lost. Such an event could materially affect the Company’s income and its ability to pay dividends. However, the Company believes that it was organized and operated in such a manner as to qualify for treatment as a REIT for the years ended December 31, 2004, 2003 and 2002, and intends to continue to operate the Company so as to remain qualified as a REIT for federal income tax purposes.

One of the Company’s primary objectives, consistent with its policy of retaining sufficient cash for reserves and working capital purposes and maintaining its status as a REIT, is to distribute a substantial portion of its funds available from operations to its stockholders in the form of dividends. During the years ended December 31, 2004, 2003 and 2002, the Company declared and paid dividends to its common stockholders of $66,272,000, $55,473,000 and $51,178,000 respectively, or $1.29, $1.28 and $1.27 per share, respectively, of common stock.

The following presents the characterizations for tax purposes of such common stock dividends for the years ended December 31:

	2004		2003		2002
Ordinary income		70.99%		75.71%		92.41%
Capital gain		3.13%		-		0.47%
Qualified 5-year Gain		-		0.37%		-
Unrecaptured Section 1250 gain		3.21%		2.88%		0.41%
Nontaxable distributions		22.67%		21.04%		6.71%
		100.00%		100.00%		100.00%

In February 2005, the Company paid dividends to its common stockholders of $16,925,000, or $0.325 per share of stock.

Holders of the 9% Non-Voting Series A Preferred Stock (the “Series A Preferred Stock”) are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at the rate of nine percent of the $25.00 liquidation preference per annum (equivalent to a fixed annual amount of $2.25 per share). For the years ended December 31, 2004, 2003 and 2002, the Company declared and

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paid dividends to its Series A Preferred Stock stockholders of $4,008,000, $4,008,000 and $4,010,000, respectively, or $2.25 per share of stock.

In February 2005, the Company declared dividends of $1,002,000 or $0.5625 per share of Series A Preferred Stock, payable in March 2005.

Holders of the 6.70% Non-Voting Series B Preferred Cumulative Convertible Perpetual Preferred Stock (the “Series B Convertible Preferred Stock”), issued during 2003, are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at the rate of 6.70 percent of the $2,500.00 liquidation preference per annum (equivalent to a fixed annual amount of $167.50 per share). For the years ended December 31, 2004 and 2003, the Company declared and paid dividends to its Series B Convertible Preferred Stock stockholders of $1,675,000 and $502,000, respectively, or $167.50 and $50.25 per share of stock.

In February 2005, the Company declared dividends of $419,000 or $41.875 per share of Series B Convertible Preferred Stock, payable in March 2005.

Property Environmental Considerations. The Company may acquire a property whose environmental site assessment indicates that a contamination or potential contamination exists, subject to a determination of the level of risk and potential cost of remediation. Investments in real property create a potential for environmental liability on the part of the owner of such property from the presence or discharge of hazardous substances on the property. It is the Company’s policy, as a part of its acquisition due diligence process, generally to obtain a Phase I environmental site assessment for each property and, where warranted, a Phase II environmental site assessment. In such cases that the Company intends to acquire real estate where contamination or potential contamination exists, the Company generally requires the seller and/or tenant to (i) remediate the problem prior to the Company’s acquiring the property, (ii) indemnify the Company for environmental liabilities or (iii) agree to other arrangements deemed appropriate by the Company to address environmental conditions at the property. Phase I assessments involve site reconnaissance and review of regulatory files identifying potential areas of concern, whereas Phase II assessments involve some degree of soil and/or groundwater testing. The Company has 12 Investment Properties currently under some level of environmental remediation. In general, the seller or the tenant is contractually responsible for the cost of the environmental remediation for each of these Investment Properties.

Capital Resources

Generally, cash needs for property acquisitions, structured finance investments, capital expenditures, development and other investments have been funded by equity and debt offerings, bank borrowings, the sale of properties and, to a lesser extent, from internally generated funds. Cash needs for other items have been met from operations. Potential future sources of capital include proceeds from the public or private offering of the Company’s debt or equity securities, secured or unsecured borrowings from banks or other lenders, proceeds from the sale of properties, as well as undistributed funds from operations. For the years ended December 31, 2004, 2003, and 2002, the company generated $74,792,000, $48,531,000 and $111,589,000 respectively, of net cash from operating activities. The change in cash provided by operations for the years ended December 31, 2004, 2003 and 2002, is primarily the result of changes in revenues and expenses as discussed in “Results of Operations.” Cash generated from operations could be expected to fluctuate in the future.

Indebtedness. The Company expects to use indebtedness primarily for property acquisitions and development of single-tenant retail and office properties, either directly or through investment interests and structured finance investments.

In May 2003, the Company entered into an amended and restated loan agreement for a $225,000,000 revolving credit facility (the “Credit Facility”) which amended the Company’s existing loan agreement by

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(i) increasing the borrowing capacity to $225,000,000 from $200,000,000, (ii) lowering the interest rates of the tiered rate structure from a maximum of 150 points above LIBOR to a maximum rate of 135 basis points above LIBOR (based upon the debt rating of the Company, the current interest rate is 100 basis points above LIBOR), (iii) requiring the Company to pay a commitment fee based on a tiered rate structure to a maximum of 30 basis points per annum (based upon the debt rating of the Company), (iv) providing for a competitive bid option for up to 50 percent of the facility amount, (v) extending the expiration date to May 9, 2006 and (vi) amending certain of the financial covenants of the Company. The principal balance is due in full upon expiration of the Credit Facility in May 2006, which the Company may request to be extended for an additional 12-month period with the consent of the lender. As of December 31, 2004, $17,900,000 was outstanding and approximately $207,100,000 was available for future borrowings under the Credit Facility, excluding undrawn letters of credit.

In accordance with the terms of the Credit Facility, the Company is required to meet certain restrictive financial covenants, which, among other things, require the Company to maintain certain (i) maximum leverage ratios, (ii) debt service coverage and (iii) cash flow coverage. At December 31, 2004, the Company was in compliance with those covenants. In the event that the Company violates any of the certain restrictive financial covenants, its access to the debt or equity markets may become impaired.

In November 2003, the Company entered into a long-term, fixed rate interest-only loan for $95,000,000. The loan bears interest at a rate of 5.42% per annum with monthly interest payments of $435,000 and the principal balance due in November 2013. Proceeds from the loan were used to pay down outstanding indebtedness of the Company’s Credit Facility. The loan is secured by a first mortgage lien on the DC Office Properties. As of December 31, 2004, the outstanding principal balance was $95,000,000, and the aggregate carrying value of these properties totaled $155,601,000.

In January 1996, the Company entered into a long-term, fixed rate loan for $39,450,000. The loan bears interest at a rate of 7.435% per annum and provides for a ten-year term with monthly principal and interest payments of $330,000 and the balance due in February 2006. The loan is secured by a first mortgage lien on certain of the Company’s Investment Properties. As of December 31, 2004, the outstanding principal balance was $22,466,000, and the aggregate carrying value of these Investment Properties totaled $58,049,000.

In February 2004, the Company increased its ownership in Net Lease Institutional Realty, L.P. to 100 percent (see Capital Resources – Investments in Unconsolidated Affiliates). In October 1997, the partnership entered into a long-term, fixed rated loan for $12,000,000. The loan bears interest at a rate of 7.37% per annum with monthly principal and interest payments of $103,000 and the principal balance due in September 2007. The loan is secured by a first mortgage lien on certain of the partnership’s properties. As of December 31, 2004, the outstanding principal balance was $8,606,000, and the aggregate carrying value of these Investment Properties totaled $28,893,000.

In June 2002, the Company entered into a long-term, fixed rate loan for $21,000,000. The loan bears interest at a rate of 6.9% per annum and provides for a 10-year term, with monthly principal and interest payments of $138,000 and the balance due in July 2012. Proceeds from the loan were used to pay down outstanding indebtedness of the Company’s Credit Facility. The loan is secured by a first mortgage lien on five of the Company’s Investment Properties. As of December 31, 2004, the outstanding principal balance was $20,508,000, and the aggregate carrying value of these Investment Properties totaled $27,111,000.

In February 2004, the Company acquired an Investment Property subject to a mortgage securing a loan for $6,952,000. The loan bears interest at a rate of 6.90% per annum with monthly principal and interest payments of $68,000 and the balance due in January 2016. As of December 31, 2004, the aggregate carrying value of this Investment Property was $12,358,000. The outstanding principal balance as of December 31, 2004, was $6,665,000.

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The Company has acquired four Investment Properties subject to mortgages securing loans in the aggregate original principal balance of $7,214,000 (collectively the “Mortgages”) with the maturities between December 2007 and December 2009. In December 2004, the Company sold one of the properties and the related mortgage was simultaneously paid, which accounted for $2,455,000 of the original principal balance. The remaining Mortgages bear interest at a weighted average rate of 8.45% per annum and have a weighted average remaining maturity of 2.4 years, with an aggregate monthly payment of principal and interest of $60,000. In addition to the Mortgages, the company has letters of credit that also secure two of the loans, which collectively total $2,426,000. As of December 31, 2004, the outstanding principal balances secured by the Mortgages totaled $2,189,000, and the aggregate carrying value of the three Investment Properties and letters of credit totaled $10,751,000.

In July 2002, Services entered into a long-term, fixed rate loan for $2,340,000. The loan bore interest at a rate of 7.42% per annum with monthly principal and interest payments of $18,000 and the principal balance due in July 2012. The loan was secured by a first mortgage lien on one of Services’ properties. In August 2004, the Company disposed of the property, at which time the buyer assumed the loan.

Payments of principal on the mortgage debt and on advances outstanding under the Credit Facility are expected to be met from borrowings under the Credit Facility, proceeds from public or private offerings of the Company’s debt or equity securities, the Company’s secured or unsecured borrowings from banks or other lenders or proceeds from the sale of one or more of its properties.

Debt and Equity Securities. The Company has used, and expects to use in the future, issuances of debt and equity securities primarily to pay down its outstanding indebtedness and to finance investment acquisitions. The Company has maintained investment grade debt ratings from Standard and Poor’s, Moody’s Investor Service and Fitch IBCA on its senior, unsecured debt since 1998. In May 2003, the Company filed a shelf registration statement with the Securities and Exchange Commission, which permits the issuance by the Company of up to $600,000,000 in debt and equity securities; as of December 31, 2004, the Company had $259,167,000 available for issuance under this shelf registration statement.

The Company filed a prospectus supplement to its shelf registration for each issuance of notes outlined in the table below (dollars in thousands).

														Commencement
						Discounted								Day of Semi-
		Purchase				Purchase		Stated			Effective			Annual Interest	Maturity
	Issue Date	Price		Discount(3)		Price		Rate			Rate(4)			Payments	Date
2008 Notes(1)	March 1998	$	100,000	$	271	$	99,729		7.125	%		7.163	%	September 1998	March 2008
2004 Notes(1)(5)	June 1999		100,000		392		99,608		8.125	%		7.547	%	December 1999	June 2004
2010 Notes(1)	September 2000		20,000		126		19,874		8.500	%		8.595	%	March 2001	September 2010
2012 Notes(1)	June 2002		50,000		287		49,713		7.750	%		7.833	%	December 2002	June 2012
2014 Notes(1)(2)(6)	June 2004		150,000		440		149,560		6.250	%		5.910	%	June 2004	June 2014

 

(1)	The proceeds from the note issuance were used to pay down outstanding indebtedness of the Company’s Credit Facility.
(2)	The proceeds from the note issuance were used to repay the obligation of the 2004 Notes.
(3)	The note discounts are amortized to interest expense over the respective term of each debt obligation using the effective interest method.
(4)	Includes the effects of the discount, treasury lock gain and swap gain (as applicable).
(5)	The Company entered into a treasury rate lock agreement which fixed a treasury rate of 5.1854% on a notional amount of $92,000,000. Upon issuance of the 2004 Notes, the Company terminated the treasury rate lock agreement resulting in a gain of $2,679,000. The gain was deferred and amortized as an adjustment to interest expense over the term of the 2004 Notes using the effective interest method.
(6)	The Company entered into a forward starting interest rate swap agreement which fixed a swap rate of 4.61% on a notional amount of $94,000,000. Upon issuance of the 2014 Notes, the Company terminated the forward starting interest rate swap agreement resulting in a gain of $4,148,000. The gain has been deferred and is being amortized as an adjustment to interest expense over the term of the 2014 Notes using the effective interest method.

Each issuance of notes is redeemable at the option of the Company, in whole or in part, at a redemption price equal to the sum of (i) the principal amount of the notes being redeemed plus accrued interest

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thereon through the redemption date and (ii) the make-whole amount, as defined in the respective supplemental indenture notes.

In connection with the debt offerings, the Company incurred debt issuance costs totaling $4,193,000 consisting primarily of underwriting discounts and commissions, legal and accounting fees, rating agency fees and printing expenses. Debt issuance costs have been deferred and are being amortized over the term of the respective notes using the effective interest method.

In accordance with the terms of the indenture, pursuant to which the Company’s notes have been issued, the Company is required to meet certain restrictive financial covenants, which, among other things, require the Company to maintain (i) certain leverage ratios and (ii) certain interest coverage. At December 31, 2004, the Company was in compliance with those covenants. In the event that the Company violates any of the certain restrictive financial covenants, its access to the debt or equity markets may become impaired.

In November 2001, the Company entered into an unsecured $70,000,000 term note (“Term Note”), due November 30, 2004, to finance the acquisition of Captec Net Lease Realty, Inc. (“Captec”) and for the repayment of indebtedness and related expenses in connection therewith. As of December 31, 2003, the Term Note had an outstanding principal balance of $20,000,000. The Term Note bore interest at a rate of 175 basis points above LIBOR. In November 2004, the Company used proceeds from the Credit Facility to repay the obligation of the Term Note.

In December 2001, the Company issued 4,349,918 shares of common stock and 1,999,974 shares of Series A Preferred Stock in connection with the acquisition of Captec (see “Results of Operations – Merger Transactions”). Holders of the Series A Preferred Stock are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at the rate of nine percent of the $25.00 liquidation preference per annum (equivalent to a fixed annual amount of $2.25 per share). The Series A Preferred Stock ranks senior to the Company’s common stock with respect to distribution rights and rights upon liquidation, dissolution or winding up of the Company. The Company may redeem the Series A Preferred Stock on or after December 31, 2006, in whole or from time to time in part, for cash, at a redemption price of $25.00 per share, plus all accumulated and unpaid distributions.

In 2002, as a result of the appraisal action arising out of the Captec merger (see “Results of Operations – Merger Transactions”), the Company reduced the number of common and Series A Preferred Stock shares issued and outstanding by 474,037 and 217,950, respectively. In 2003, the Company further reduced the number of common and Series A Preferred Stock shares issued and outstanding by 823 and 379, respectively. In 2004, the Company further reduced the number of common and Series A Preferred Stock shares issued and outstanding by 51 and 56, respectively. The reduction in shares represent the number of shares that would have been issued to the plaintiffs had they accepted the original merger consideration. As of December 31, 2002, the Company had recorded the value of these shares at the original consideration share price in addition to the cash portion of the original merger consideration as other liabilities totaling $13,278,000. In 2003, the Company used proceeds from its Credit Facility to fund the settlement of the appraisal action.

In May 2003, the Company filed a shelf registration statement with the Securities and Exchange Commission, which permits the issuance by the Company of up to $600,000,000 in debt and equity securities (which includes approximately $89,637,000 of unissued debt and equity securities under the Company’s previous shelf registration statement).

In July 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 5,600,000 shares of common stock and received gross proceeds of $100,800,000. In connection with this offering, the Company incurred stock issuance costs totaling approximately $5,374,000, consisting primarily of underwriters’ commissions and fees, legal and accounting fees and printing expenses. Net proceeds from the offering were used to fund a portion of the acquisition of the DC Office Properties (see “Results of Operations – Property Analysis – Real Estate Held for Investment”).

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In August 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 10,000 shares of Series B Convertible Preferred Stock and received gross proceeds of $25,000,000. In connection with this offering, the Company incurred stock issuance costs totaling approximately $687,000, consisting primarily of placement fees and legal and accounting fees. The Series B Convertible Preferred Stock is convertible at the option of the holder into 1,293,996 shares of the Company’s common stock on and after the first anniversary from the date on which the shares were issued. Holders of the Series B Convertible Preferred Stock are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at the rate of 6.70 percent of the $2,500.00 liquidation preference per annum (equivalent to a fixed annual amount of $167.50 per share). The Series B Convertible Preferred Stock ranks pari passu with the Series A Preferred Stock and senior to the Company’s common stock with respect to distribution rights and rights upon liquidation, dissolution or winding up of the Company. The Company may redeem the Series B Convertible Preferred Stock on or after August 13, 2008, in whole or from time to time in part, for cash, at a redemption price of $2,500.00 per share, plus all accumulated and unpaid distributions. Net proceeds from the offering were used to pay down outstanding indebtedness of the Company’s Credit Facility.

In December 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 3,250,000 shares of common stock and received gross proceeds of $56,517,000. In addition, the Company issued an additional 487,500 shares of common stock in connection with the underwriters’ over-allotment option and received gross proceeds of $8,478,000. In connection with these offerings, the Company incurred stock issuance costs totaling approximately $671,000, consisting primarily of underwriters’ commissions and fees, legal and accounting fees and printing expenses. Net proceeds from these offerings were used to pay down outstanding indebtedness of the Company’s Credit Facility.

Financing Lease Obligation. In July 2004, the Company sold five investment properties for approximately $26,041,000 and subsequently leased back the properties under a 10-year financing lease obligation. The Company may repurchase one or more of the properties subject to put and call options included in the financing lease. In accordance with the provisions of SFAS No. 66, “Accounting for Sales of Real Estate,” the Company has recognized this as a financing transaction. The 10-year financing lease bears an interest rate of 5.00% annually with monthly interest payments of $109,000 and expires in June 2014 unless either the put or call option is exercised. The Company used the proceeds from two properties to reinvest in other Investment Properties and the remaining proceeds to pay down outstanding indebtedness of the Company’s Credit Facility.

Compensation Plan Equity Issuances. The Company believes that equity-based or equity-related compensation is an important element of overall compensation for the Company. Such compensation advances the interest of the Company by encouraging, and providing for, the acquisition of equity interests in the Company by directors, officers and other key associates, thereby aligning their interests with stockholders and providing them with a substantial motivation to enhance stockholder value.

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Pursuant to the Company’s 2000 Performance Incentive Plan, the Company has granted and issued shares of restricted stock to certain officers and directors of the Company. The following information is a summary of the restricted stock grants for the years ended December 31, 2004, 2003 and 2002:

				Number of	Shares are
			Annual	Years for	100% Vested
	Shares		Vesting Rate	Vesting	on
Officers:
June 2002		58,000	15% - 30%	5	January 1, 2007
March 2003		40,407	25%	4	January 1, 2007
March 2003		30,000	15% - 30%	5	January 1, 2008
April 2004		100,000	20%	4	January 1, 2008
April 2004		35,000	20%	5	January 1, 2009
April 2004		50,211	14.3%	6	January 1, 2010
September 2004		15,000	14.3%	6	January 1, 2011
Total issued		328,618
Directors:
June 2002		6,000	50%	2	January 1, 2004
June 2003		6,000	50%	2	January 1, 2005
August 2004		4,500	50%	2	January 1, 2006
December 2004		868	50%	2	January 1, 2006
Total issued		17,368

During 2004 and 2003, the Company cancelled 29,926 and 5,950, respectively, shares of restricted stock.

Investments in Unconsolidated Affiliates. In September 1997, the Company entered into a partnership, Net Lease Institutional Realty, L.P. (the “Partnership”), with the Northern Trust Company, as Trustee of the Retirement Plan for the Chicago Transit Authority Employees (“CTA”). Under the terms of the limited partnership agreement of the Partnership, CTA had the right to convert its 80 percent limited partnership interest into shares of the Company’s common stock. In October 2003, CTA exercised that right, and, based on the terms of and calculation defined in the limited partnership agreement, the Company issued 953,551 shares of common stock to CTA in a private transaction in February 2004 in exchange for CTA’s 80 percent limited partnership interest, increasing the Company’s ownership in the Partnership to 100 percent. Prior to CTA’s exercise, the Company accounted for its 20 percent interest in the Partnership under the equity method of accounting. Net income and losses of the Partnership were allocated to the partners in accordance with their respective percentage interest in the Partnership’s term.

The Company has entered into five limited liability company (“LLC”) agreements (collectively, “CCMH LLCs”) with Orange Avenue Mortgage Investments, Inc. (“OAMI”), formerly known as CNL Commercial Finance, Inc. Each of the LLCs holds an interest in mortgage loans and is 100 percent equity financed. The Company holds a non-voting and non-controlling interest in each of the LLCs and accounts for its investment under the equity method of accounting. The following table summarizes each of the investments as of December 31, 2004:

		Investment
Date of Agreement	LLC Agreement	Interest
June 2001	CCMH I, LLC		42.7	%
December 2001	CCMH II, LLC		44.0	%
June 2002	CCMH III, LLC		36.7	%
December 2002	CCMH IV, LLC		38.3	%
July 2003	CCMH V, LLC		38.4	%

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In 2003, in connection with a loan to OAMI, the Company pledged a portion of its interest in two of the LLC’s as partial collateral for the loan.

In May 2002, the Company purchased a combined 25 percent partnership interest for $750,000 in CNL Plaza, Ltd. and CNL Plaza Venture, Ltd. (collectively, “Plaza”), which owns a 346,000 square foot office building and an interest in an adjacent parking garage. Affiliates of James M. Seneff, Jr. and Robert A. Bourne, each members of the Company’s board of directors, own the remaining partnership interests. Since November 1999, the Company has leased its office space from Plaza. The Company’s lease expires in October 2014. In addition, the Company has severally guaranteed 41.67 percent of a $15,500,000 promissory note on behalf of Plaza. The maximum obligation of the Company is $6,458,000 plus interest. Interest accrues at a rate of LIBOR plus 200 basis points per annum on the unpaid principal amount. This guarantee shall continue through the loan maturity, which was extended from the original maturity of November 2004 to May 2005. Plaza intends to refinance the promissory note in 2005.

Notes Receivable. Structured finance agreements are typically loans secured by a pledge of ownership interests in the borrowers (or their subsidiaries) that own the underlying real estate. These agreements are typically subordinated to senior loans secured by first mortgages encumbering the underlying real estate. Subordinated positions are generally subject to a higher risk of nonpayment of principal and interest than the more senior loans.

In 2004 and 2003, the Company made structured finance investments of $6,857,000 and $43,433,000, respectively. As of December 31, 2004, the structured finance investments bear a weighted average interest rate of 14.3% per annum, of which 12.5% is payable monthly and the remaining 1.8% accrues and is due at maturity. The principal balance of each structured finance investment is due in full at maturity, which range between November 2006 and November 2007. The structured finance investments are secured by the borrowers’ pledge of their respective membership interests in the certain subsidiaries which own real estate. In December 2004, the Company received $20,900,000 in principal payments and a $418,000 prepayment fee. As of December 31, 2004 and 2003, the outstanding receivable balance of the structured finance investments was $29,390,000 and $43,433,000, respectively.

In January 2005, the Company received $3,935,000 in principal payments; the outstanding receivable balance of the remaining structured finance agreements was $25,455,000 with a weighted average interest rate of 11.8% per annum.

Results of Operations

Critical Accounting Policies and Estimates.

In response to the SEC’s Release Numbers 33-8040, “Cautionary Advice Regarding Disclosure About Critical Accounting Policies,” and 33-8056, “Commission Statement About Analysis of Financial Condition and Results of Operations,” the Company’s management has identified the following critical accounting policies that affect the more significant judgments and estimates used in the preparation of the Company’s consolidated financial statements. The preparation of the Company’s consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and judgments on assumptions that affect the reported amounts of assets and liabilities and the 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. On an ongoing basis, management evaluates its estimates and judgments. A summary of the Company’s accounting policies and procedures are included in Note 1 of the Company’s consolidated financial statements. Management believes the following critical accounting policies among others affect its more significant judgment of estimates used in the preparation of the Company’s consolidated financial statements.

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Real Estate Held for Investment and Lease Accounting. The Company records the acquisition of real estate at cost, including acquisition and closing costs. The cost of properties developed by the Company includes direct and indirect costs of construction, property taxes, interest and other miscellaneous costs incurred during the development period until the project is substantially complete and available for occupancy.

Real estate is generally leased to tenants on a net lease basis, whereby the tenant is responsible for all operating expenses relating to the property, including property taxes, insurance, maintenance and repairs. The leases are accounted for using either the operating or the direct financing method. Such methods are described below:

Operating method – Leases accounted for using the operating method are recorded at the cost of the real estate. Revenue is recognized as rentals are earned and expenses (including depreciation) are charged to operations as incurred. Buildings are depreciated on the straight-line method over their estimated useful lives (generally 35 to 40 years). Leasehold interests are amortized on the straight-line method over the terms of their respective leases. When scheduled rentals vary during the lease term, income is recognized on a straight-line basis so as to produce a constant periodic rent over the term of the lease. Accrued rental income is the aggregate difference between the scheduled rents which vary during the lease term and the income recognized on a straight-line basis.

Direct financing method – Leases accounted for using the direct financing method are recorded at their net investment (which at the inception of the lease generally represents the cost of the property). Unearned income is deferred and amortized into income over the lease terms so as to produce a constant periodic rate of return on the Company’s net investment in the leases.

The Company periodically assesses its real estate assets for possible impairment when certain events or changes in circumstances indicate that the carrying value of the asset, including any accrued rental income, may not be recoverable. Management considers current market conditions and tenant credit analysis in determining whether the recoverability of the carrying amount of an asset should be assessed. When an assessment is warranted, management determines whether an impairment in value has occurred by comparing the estimated future cash flows (undiscounted and without interest charges), including the residual value of the real estate, with the carrying cost of the individual asset. If an impairment is indicated, a loss will be recorded for the amount by which the carrying value of the asset exceeds its fair value.

Intangible Assets. In connection with real estate acquisitions, value is assigned to tangible and other intangible assets. These other intangible assets are computed by valuing the property on an as-if-vacant basis and subtracting from the total acquisition cost the sum of the (i) as-if-vacant value, (ii) contractual to market value rent and (iii) value assigned to in-place leases. Deferred revenue or deferred assets recorded in connection with the contractual to market rent value for acquired properties are amortized into rental revenue over the life of the leases. The value assigned to in-place leases is amortized over the life of the leases.

Real Estate Held for Sale. Services acquires, develops and currently owns properties that it intends to sell. The properties that are classified as held for sale at any given time may consist of properties that have been acquired in the marketplace with the intent to resell the properties that have been, or are currently being, constructed by Services. Services’ records the acquisition of the real estate at cost, including the acquisition and closing costs. The cost of the real estate developed by Services includes direct and indirect costs of construction, interest and other miscellaneous costs incurred during the development period until the project is substantially complete and available for occupancy. The asset is not depreciated. In accordance with the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” Services classifies its real estate held for sale as discontinued operations when rental revenues are generated.

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When real estate held for sale is disposed of, the related costs are removed from the accounts and gains and losses from the dispositions are reflected in earnings.

Income Taxes. The Company has made an election to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, and related regulations. The Company generally will not be subject to federal income taxes on amounts distributed to stockholders, providing it distributes at least 90 percent of its real estate investment trust taxable income and meets certain other requirements for qualifying as a REIT. For each of the years in the three-year period ended December 31, 2004, the Company believes it has qualified as a REIT. Not withstanding the Company’s qualification for taxation as a real estate investment trust, the Company is subject to certain state taxes on its income and real estate.

Effective January 1, 2001, Commercial Net Lease Realty, Inc. elected for Services to be treated as a TRS pursuant to the provisions of the REIT Modernization Act. As a TRS, Services is able to engage in activities resulting in income that previously would have been disqualified from being eligible REIT income under the federal income tax regulations. As a result, certain activities of the Company which occur within Services are therefore subject to federal and state income taxes. All provisions for federal income taxes in the accompanying consolidated financial statements are attributable to Services.

Income taxes are accounted for under the asset and liability method as required by SFAS No. 109, “Accounting for Income Taxes.” Deferred tax assets and liabilities are recognized for the temporary differences based on estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

Use of Estimates. Additional critical accounting policies of the Company include management’s estimates and assumptions relating to the reporting of assets and liabilities, revenues and expenses and the disclosure of contingent assets and liabilities to prepare the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. Additional critical accounting policies include management’s estimates of the useful lives used in calculating depreciation expense relating to the Company’s real estate assets, the recoverability of the carrying value of long-lived assets, the collectibility of receivables from tenants, including accrued rental income, and capitalized overhead relating to development projects. Actual results could differ from those estimates.

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Property Analysis

Property Analysis – Real Estate Held for Investment

General. As of December 31, 2004, the Company owned 362 Investment Properties that are leased to established tenants, including Academy, Barnes & Noble, Best Buy, Borders, CVS, Eckerd, OfficeMax, The Sports Authority, United Rentals and the United States of America. Approximately 97 percent of the gross leaseable area of the Company’s portfolio of Investment Properties was leased at December 31, 2004. The following table summarizes the Company’s portfolio of Investment Properties as of December 31:

	2004		2003		2002
Investment Properties Owned:
Number		362		348		350
Total gross leaseable area (square feet)		8,542,000		7,907,000		6,655,000
Investment Properties Leased:
Number		351		337		330
Total gross leaseable area (square feet)		8,322,000		7,669,000		6,293,000
Percent of total gross leaseable area		97%		97%		94%
Weighted average remaining lease term (years)		10		11		12

The Company regularly evaluates its (i) portfolio of Investment Properties, (ii) financial position, (iii) market opportunities and (iv) strategic objectives and, based on certain factors, may decide to acquire or dispose of a given property or portfolio of properties.

Property Acquisitions. Property acquisitions are typically funded using funds from the Company’s revolving credit facility, proceeds for debt or equity offerings and to a lesser extent, proceeds generated from like-kind exchange transactions. The following table summarizes the Investment Property acquisitions for each of the years ended December 31:

	2004		2003		2002
Acquisitions:
Number of Investment Properties		36		23		9
Gross leaseable area (square feet)		825,000		1,439,000		267,000
Construction projects:
Properties completed		-		1		1
Gross leaseable area (square feet)		-		14,000		14,000
Tenant improvements Number of Investment Properties		4		9		7
Total dollars invested	$	139,303,000	$	212,317,000	$	45,541,000

In August 2003, the Company acquired the DC Office Properties. Pursuant to the lease agreement, the Company has agreed to fund $27,322,000 for building and tenant improvements, of which $23,850,000 had been funded as of December 31, 2004. The Company anticipates funding the additional costs, which are anticipated to be substantially complete by June 30, 2005, from borrowings under the Company’s Credit Facility. The properties include two office buildings containing an aggregate of 555,000 rentable square feet and a two-level garage with approximately 1,000 parking spaces.

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Property Dispositions. The Company typically uses property sales proceeds to either (i) pay down the outstanding indebtedness of the Company’s Credit Facility or (ii) reinvest in real estate. The following table summarizes the properties held for investment sold by the Company for each of the years ended December 31:

	2004		2003		2002
Number of properties		20		14		19
Gross leaseable area		155,000		345,000		408,000
Net sales proceeds	$	32,444,000	$	25,023,000	$	29,928,000
Net gain	$	2,452,000	$	161,000	$	256,000

During 2004 and 2003, the Company used the proceeds from the dispositions to pay down the outstanding indebtedness of the Company’s Credit Facility.

During 2002, the Company reinvested the proceeds from three of the investment properties sold to reinvest in additional Investment Properties and the proceeds from the sale of the remaining 16 investment properties to pay down the outstanding indebtedness of the Company’s Credit Facility.

In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the Company has classified its investment properties sold during the years ended December 31, 2004, 2003 and 2002, as discontinued operations. In addition, the Company has classified one leasehold interest that expired during the year ended December 31, 2004 as discontinued operations. The Company has also classified revenues and expenses related to the four Investment Properties sold during the quarter ended March 31, 2005 and the one Investment Property held for sale at March 31, 2005, as discontinued operations. All Investment Properties sold subsequent to December 31, 2001, the effective date of SFAS No. 144, have been reclassified to discontinued operations.

Property Analysis – Real Estate Held for Sale

General. The Company’s real estate held for sale is operated through Services, which directly and indirectly, through investment interests, acquires and develops real estate primarily for the purpose of selling the real estate to purchasers who are looking for replacement like-kind exchange property or to other purchasers with different investment objectives. The following summarizes the Company’s real estate held for sale as of December 31:

	2004		2003		2002
Number of properties held for sale:
Completed Inventory Properties		10		6		15
Properties under construction		7		5		3
Land parcels		4		4		1
Total		21		15		19

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Property Acquisitions. Inventory Property acquisitions are typically funded using funds from the Company’s credit facility and proceeds from debt or equity offerings.

The following table summarizes the Inventory Property acquisitions for each of the years ended December 31:

	2004		2003		2002
Acquisitions:
Number of properties		33		23		13
Dollars invested	$	48,318,000	$	38,836,000	$	11,672,000
Completed construction:
Number of properties		8		8		9
Dollars invested	$	26,366,000	$	23,169,000	$	23,178,000
Total dollars invested in real estate held for sale	$	76,647,000	$	63,469,000	$	30,875,000

Property Dispositions. The following table summarizes the number of inventory properties sold and the corresponding gain recognized from the disposition of real estate held for sale included in earnings from continuing and discontinued operations for each of the years ended December 31 (dollars in thousands):

	2004					2003					2002
	# of					# of					# of
	Properties		Gain			Properties		Gain			Properties		Gain
Continuing operations		7	$	4,700			3	$	3,247			4	$	1,290
Discontinued operations:
Gain				17,885					7,891					4,489
Intersegment eliminations				817					1,037					1,966
				18,702					8,928					6,455
Minority interest				(6,422	)				(986	)				-
Total discontinued operations		17		12,280			26		7,942			21		6,455
		24	$	16,980			29	$	11,189			25	$	7,745

During the years ended December 31, 2004, 2003 and 2002, the Company used the proceeds from the sale of the inventory properties to pay down the outstanding indebtedness of the Company’s Credit Facility.

Merger Transactions

In December 2001, the Company acquired 100 percent of Captec, a publicly traded real estate investment trust, which owned 135 freestanding, net lease properties located in 26 states. Captec shareholders received $11,839,000 in cash, 4,349,918 newly issued shares of the Company’s common stock and 1,999,974 newly issued Series A Preferred Stock (see “Capital Resources – Debt and Equity Securities”). Under the purchase method of accounting, the acquisition price of $124,722,000 was allocated to the assets acquired and liabilities assumed at their fair values. No goodwill was recorded in connection with the acquisition. The merger was unanimously approved by both the Company’s and Captec’s board of directors and Captec’s shareholders. This transaction increased funds from operations, increased diversification, produced cost savings from opportunities for economies of scale and operating efficiencies and enhanced the Company’s capital markets profile.

In January 2002, beneficial owners of shares of Captec stock held of record by Cede & Co. who alleged that they did not vote for the merger (and who alleged that they caused a written demand for appraisal of their Captec shares to be served on Captec), filed in the Chancery Court of the State of Delaware in and

33

for New Castle County a Petition for Appraisal of Stock (“Appraisal Action”). The Appraisal Action alleged that 1,037,946 shares of Captec dissented from the merger and sought to require the Company to pay to all Captec stockholders who demanded appraisal of their shares the fair value of those shares, with interest from the date of the merger. As a result of this action, the plaintiffs were not entitled to receive the Company’s common and Series A Preferred Stock as offered in the original merger consideration. Accordingly, the Company reduced the number of common and Series A Preferred Stock shares issued and outstanding by 474,037 and 217,950, respectively, which represents the number of shares that would have been issued to the plaintiffs had they accepted the original merger consideration. In 2003, the Company further reduced the number of common and Series A Preferred Stock shares issued and outstanding by 823 and 379, respectively. In 2004, the Company further reduced the number of common and Series A Preferred Stock shares issued and outstanding by 51 and 56, respectively. As of December 31, 2002, the Company had recorded the value of these shares at the original consideration share price in addition to the cash portion of the original merger consideration as other liabilities totaling $13,278,000. In February 2003, the Company entered into a settlement agreement with the beneficial owners of the 1,037,946 dissenting shares (including the petitioners in the Appraisal Action) which required the Company to pay $15,569,000 which approximated the value of the original merger consideration (which included cash, common stock and Series A Preferred Stock shares) at the time of the litigation settlement plus the dividends that would have been paid if the shares had been issued at the time of the merger. The Company used proceeds from its Credit Facility to fund the settlement of the legal action. In February 2003, the parties filed a stipulation and order of dismissal and the Court entered the order of dismissal, dismissing the Appraisal Action with prejudice.

Anticipated Merger

In January 2005, the Company entered into an agreement with National Properties Corporation (“NAPE”), which provided that NAPE would merge with and into a subsidiary of the Company. At the time of the merger agreement, NAPE owned 43 properties located in 12 states which were leased to 17 tenants. If the acquisition is consummated, the Company will issue approximately 1,637,000 shares of common stock to holders of NAPE common stock. Total consideration for the merger transaction is estimated to be approximately $61,000,000 based on the Company’s closing stock price on the date of the merger agreement. Completion of the merger is subject to customary closing conditions, including the approval of the holders of a majority of the outstanding shares of NAPE common stock. The Company has entered into a shareholders’ agreement with the holders of approximately 53 percent of the outstanding NAPE common stock whereby these holders have agreed to vote in favor of the merger. However, the Company may terminate the merger agreement if a majority of the NAPE shareholders who are not bound by the shareholders’ agreement do not approve the merger. The merger does not require approval by the Company’s shareholders. The Company anticipates that the merger will be completed not later than the second quarter of 2005.

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Revenue From Operations Analysis

General. During the year ended December 31, 2004, the Company’s rental income increased primarily due to the acquisition of DC Office Properties in August 2003 and other Investment Properties (See “Results of Operations – Property Analysis – Real Estate Held For Investment – Property Acquisitions”) and maintaining an occupancy rate of 97 percent at December 31, 2004 and 2003. The Company anticipates any significant increase in rental income will continue to come primarily from additional property acquisitions.

The following summarizes the Company’s revenues (dollars in thousands):

	2004				2003				2002
			Percent				Percent				Percent
			of Total				of Total				of Total
Rental income(1)	$	109,139		85.7%	$	90,215		89.4%	$	76,607		92.9%
Real estate expense reimbursement from tenants		5,756		4.5%		5,031		5.0%		2,847		3.4%
Gain on disposition of real estate held for sale		4,700		3.7%		3,247		3.2%		1,290		1.6%
Interest and other income from real estate transactions		7,698		6.1%		2,366		2.4%		1,757		2.1%
Total revenue from continuing operations	$	127,293		100.0%	$	100,859		100.0%	$	82,501		100.0%

⁽¹⁾  Includes rental income from operating leases, earned income from direct financing leases and contingent rental income from continuing operations (“Rental Income”).

Revenue From Operations Analysis by Source of Income. The Company has identified two primary business segments, and thus, sources of revenue: (i) earnings from real estate held for investment and (ii) earnings from real estate held for sale. Breaking down revenues into the Company’s two primary operating segments of revenue shows that revenues are historically consistent. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision makers in deciding how to allocate resources and in assessing performance. The following table summarizes the revenues from continuing operations (dollars in thousands):

	2004				2003				2002
			Percent				Percent				Percent
			of Total				of Total				of Total
Real estate, held for investment	$	122,358		96.1%	$	97,005		96.2%	$	80,641		97.7%
Real estate, held for sale		4,935		3.9%		3,854		3.8%		1,860		2.3%
Total revenue from continuing operations	$	127,293		100.0%	$	100,859		100.0%	$	82,501		100.0%

The Company evaluates its ability to pay dividends to stockholders by considering the combined effect of income from continuing and discontinued operations.

Comparison of Year Ended December 31, 2004 to Year Ended December 31, 2003. Rental Income increased 21.0 percent for the year ended December 31, 2004, as compared to the year ended December 31, 2003, primarily due to the addition of an aggregate gross leaseable area of 825,000 square feet to the Company’s portfolio resulting from the acquisition of 36 Investment Properties during the year ended December 31, 2004 and the addition of 24 Investment Properties with an aggregate gross leaseable area of 1,453,000 during the year ended December 31, 2003. However, this increase is partially offset by the investment property dispositions during the years ended December 31, 2004 and 2003.

Real estate expense reimbursements from tenants increased 14.4 percent for the year ended December 31, 2004, as compared to the year ended December 31, 2003, primarily due to the addition of properties that reimburse for expenses, see “Results of Operations – Property Analysis – Real Estate Held for Investment”.

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The gain on disposition of real estate held for sale included in continuing operations, increased 44.8 percent for the year ended December 31, 2004, as compared to the year ended December 31, 2003, primarily due to the increase in gross margin on sales of inventory properties. During the year ended December 31, 2004, the Company disposed of seven inventory properties and recognized a gain of $4,700,000 compared to three inventory properties for a $3,247,000 gain for the year ended December 31, 2003.

Interest and other income from real estate transactions increased 225.4 percent for the year ended December 31, 2004 as compared to the year ended December 31, 2003, primarily due to the interest earned on the $50,290,000 structured finance investments entered into since October 2003. However, this increase was partially offset by a decrease in development fees.

Comparison of Year Ended December 31, 2003 to Year Ended December 31, 2002. Rental Income increased 17.8 percent for the year ended December 31, 2003 due to a three percent increase in the Company’s Investment Property portfolio occupancy rate (97 percent at December 31, 2003 versus 94 percent at December 31, 2002) and the addition of 24 Investment Properties with an aggregate gross leaseable area of 1,453,000 square feet and the completed tenant improvements on nine Investment Properties. However, this increase is partially offset by the investment property dispositions during the years ended December 31, 2003 and 2002.

Real estate expense reimbursements from tenants increased 76.7 percent for the year ended December 31, 2003, as compared to the year ended December 31, 2002, primarily due to the addition of properties and the addition of real estate expenses reimbursed by tenants from the DC Office Properties, see “Property Analysis – Real Estate Held for Investment”.

The gain on disposition of real estate held for sale included in continuing operations, increased 151.6 percent, as compared to the year ended December 31, 2002, primarily due to the increase in gross margin on sales of inventory properties. During the year ended December 31, 2003, the Company disposed of three inventory properties and recognized a gain of $3,247,000 compared to four inventory properties for a $1,290,000 gain for the year ended December 31, 2002.

Interest and other income from real estate transactions increased 34.7 percent for the year ended December 31, 2003, compared to the year ended December 31, 2002. This increase was primarily attributable to (i) the $45,200,000 structured finance investment entered into in October 2003, and (ii) an increase in development fees. However, the increase was partially offset by a decrease in mortgage interest income.

Expense Analysis

General. During 2004 operating expenses increased primarily as a result of the acquisition of additional properties but remained generally proportionate to the Company’s total revenue. The following summarizes the Company’s expenses (dollars in thousands):

	2004				2003				2002
			Percent				Percent				Percent
			of Total				of Total				of Total
General and administrative	$	22,996		41.4%	$	21,686		48.8%	$	16,317		49.5%
Real estate		12,021		21.7%		7,269		16.4%		4,270		13.0%
Depreciation and amortization		16,728		30.2%		13,054		29.4%		10,745		32.6%
Provision for loss on impairment of real estate		-		0.0%		-		0.0%		1,613		4.9%
Dissenting shareholders’ settlement		-		0.0%		2,413		5.4%		-		0.0%
Transition costs		3,741		6.7%		-		0.0%		-		0.0%
Total operating expenses from continuing operations	$	55,486		100.0%	$	44,422		100.0%	$	32,945		100.0%

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Comparison of Year Ended December 31, 2004 to Year Ended December 31, 2003. In general, operating expenses increased 24.9 percent for the year ended December 31, 2004, over the year ended December 31, 2003, but decreased as a percentage of total revenues by 0.4 percent to 43.6 percent.

General and administrative expenses increased 6.0 percent for the year ended December 31, 2004, but decreased as a percentage of total revenues by 3.4 percent to 18.1 percent. General and administrative expenses increased for the year ended December 31, 2004, primarily as a result of increases in expenses related to personnel. In addition, expenses related to professional services provided to the Company increased for the year ended December 31, 2004. For the year ended December 31, 2004, this increase is partially offset by a decrease in state taxes paid by the Company.

Real estate expenses increased 65.4 percent for the year ended December 31, 2004, and increased as a percentage of total revenues by 2.2 percent to 9.4 percent. Real estate expenses for the year ended December 31, 2004, increased primarily due to the August 2003 acquisition of the DC Office Properties. The DC Office Properties lease and the revenues related to such real estate expenses are included in real estate expense reimbursement from tenants. Real estate expenses related to the DC Office Properties were 61.0 and 52.2 percent, respectively, of total real estate expenses for the years ended December 31, 2004 and 2003, respectively. In addition, real estate expenses on vacant properties increased for the year ended December 31, 2004.

Depreciation and amortization expense increased 28.1 percent for the year ended December 31, 2004, and increased 0.2 percent to 13.1 percent of total revenues for the year ended December 31, 2004. The increase in depreciation and amortization expense for the year ended December 31, 2004, is primarily attributable (i) the depreciation on the acquisition of 36 additional Investment Properties and the tenant improvements on four Investment Properties since December 31, 2003, and (ii) the amortization of additional lease costs. The increase is partially offset by a decrease in the amortization of debt costs and the decrease in depreciation resulting from the disposition of 21 and 14 investment properties during each of the years ended December 31, 2004 and 2003, respectively.

During the year ended December 31, 2003, the Company recorded a dissenting shareholders’ settlement expense of $2,413,000 related to the lawsuit that arose as a result of the merger with Captec in December 2001. (See “Results of Operations – Merger Transactions”).

During the year ended December 31, 2004, the Company recorded transition costs of $3,741,000, including severance, accelerated vesting of restricted stock and recruitment costs in connection with the appointment of Craig Macnab as Chief Executive Officer in February 2004, and the resignation of Gary M. Ralston as President and Chief Operating Officer in May 2004.

Comparison of Year Ended December 31, 2003 to Year Ended December 31, 2002. Operating expenses increased 34.8 percent for the year ended December 31, 2003 over the year ended December 31, 2002, and increased as a percentage of total revenues by 4.1 percent to 44.0 percent.

General and administrative expenses increased 32.9 percent for the year ended December 31, 2003, and increased as a percentage of total revenues by 1.7 percent to 21.5 percent. General and administrative expenses increased for the year ended December 31, 2003 primarily as a result of (i) increases in expenses related to personnel costs, (ii) increases in expenses related to professional services provided to the Company, and (iii) increases in state taxes.

Real estate expenses increased 70.2 percent for the year ended December 31, 2003 primarily due to the August 2003 acquisition of the DC Office Properties, increasing as a percentage of total revenues by 2.0 percent to 7.2 percent. The DC Office Properties lease and the revenues related to such real estate expenses are included in real estate expense reimbursements from tenants. Real estate expenses related to the DC Office Properties were 52.2 percent of total real estate expenses for the year ended December 31,

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2003. The increase in real estate expenses was partially offset by an increase in the Company’s occupancy rate to 97 percent at December 31, 2003 from 94 percent at December 31, 2002.

Depreciation and amortization expense increased 21.5 percent for the year ended December 31, 2003, but decreased as a percentage of total revenues by 0.1 percent to 12.9 percent for the year ended December 31, 2003. The increase in depreciation and amortization expense for the year ended December 31, 2003 is primarily attributable to (i) the depreciation on acquisition of and tenant improvements on additional Investment Properties in 2003, (ii) the amortization of loan costs related to the amended Credit Facility and the Term Note, and (iii) the amortization of additional lease costs.

The Company recorded no loss on impairment of real estate during 2003. The Company recorded a provision for loss on impairment of real estate of $1,613,000 and $1,672,000 in continuing operations and discontinued operations, respectively, in the year ended December 31, 2002. The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Generally, the Company makes a provision for impairment loss if estimated future operating cash flows plus estimated disposition proceeds are less than the current book value. Impairment losses are measured as the amount by which the current book value of the asset exceeds the estimated fair value of the asset.

During the year ended December 31, 2003, the Company recorded a dissenting shareholders’ settlement expense of $2,413,000 related to the Appraisal Action that arose as a result of the merger with Captec in December 2001. (See “Results of Operations – Merger Transactions”).

Analysis of Other Expenses and Revenues

General. During the year ended December 31, 2004, interest and other income and interest expense increased with the acquisition of additional properties but remained generally proportionate to the Company’s total revenue and expenses. The following summarizes the Company’s other expenses (revenues) from continuing operations (dollars in thousands):

	2004					2003					2002
				Percent					Percent					Percent
				of Total					of Total					of Total
Interest and other income	$	(3,808	)		-13.3%	$	(3,345	)		-14.4%	$	(3,890	)		-18.4%
Interest expense		32,381			113.3%		26,629			114.4%		25,034			118.4%
Total other expenses (revenues) from continuing operations	$	28,573			100.0%	$	23,284			100%	$	21,144			100%

Comparison of Year Ended December 31, 2004 to Year Ended December 31, 2003. In general, other expenses (revenues) increased 22.7 percent for the year ended December 31, 2004, over the year ended December 31, 2003, but decreased as a percentage of total revenues by 0.7 percent to 22.4 percent.

Interest expense increased 21.6 percent for the year ended December 31, 2004, but decreased as a percentage of total revenues by 1.0 percent to 25.4 percent for the year ended December 31, 2004. The increase in interest expense for the year ended December 31, 2004, was primarily attributable to an increase in the long-term fixed rate average debt outstanding of $475,802,000 as of December 31, 2004, including the addition of the $95,000,000 fixed rate mortgage loan entered into in November 2003. However, the increase in interest expense was partially offset by a lower average debt outstanding of $39,869,000 as of December 31, 2004 on the Company’s short-term variable interest rate debt.

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Comparison of Year Ended December 31, 2003 to Year Ended December 31, 2002. In general, other expenses (revenues) increased 10.1 percent for the year ended December 31, 2003, over the year ended December 31, 2002, but decreased as a percentage of total revenues by 2.5 percent to 23.1 percent.

Interest and other income decreased 14.0 percent for the year ended December 31, 2003, and decreased as a percentage of total revenues by 1.4 percent to 3.3 percent. Interest and other income decreased for the year ended December 31, 2003, primarily as a result of a decrease of interest earned on a note receivable and a related party line of credit.

Interest expense increased 6.4 percent for the year ended December 31, 2003, but decreased as a percentage of total revenues by 3.9 percent to 26.4 percent for the year ended December 31, 2003. The increase in interest expense for the year ended December 31, 2003, was primarily as a result of refinancing a portion of the Company’s Credit Facility and Term Note to long-term fixed rate debt, including the 2012 Notes and the $21,000,000 fixed rate mortgage loan, both entered into in June 2002 and the addition of the $95,000,000 fixed rate mortgage loan entered into in November 2003, as a means to reduce floating interest rate risk. However, the increase in interest expense was partially offset by a decrease in the average interest rates on the Company’s variable interest rate debt.

Unconsolidated Affiliates

For details on each of the Company’s unconsolidated affiliates, see “Capital Resources – Investments in Unconsolidated Affiliates.”

During the years ended December 31, 2004, 2003 and 2002, the Company recognized equity in earnings of unconsolidated affiliates of $4,724,000, $4,341,000 and $1,800,000, respectively. The increase in equity in earnings of unconsolidated affiliates was primarily attributable to the income earned on investments in mortgage loans.

Earnings from Discontinued Operations

The Company has recorded discontinued operations by the defined Company segments: (i) real estate held for investment and (ii) real estate held for sale. As a result, in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the Company classified the revenues and expenses related to its investment properties that were sold and expired leasehold interests subsequent to December 31, 2001, as discontinued operations. The Company has also classified revenues and expenses related to the four Investment Properties sold during the quarter ended March 31, 2005 and the one Investment Property held for sale at March 31, 2005, as discontinued operations. The Company also classified the revenues and expenses of its held for sale properties that were sold and generated rental revenues as discontinued operations. In addition, the Company also classified the revenues and expenses related to the Inventory Properties held for sale as of December 31, 2004, as discontinued operations.

During the years ended December 31, 2004, 2003 and 2002, the Company recognized earnings from discontinued operations of (dollars in thousands):

	# of Sold				# of Sold				# of Sold
	Properties		2004		Properties		2003		Properties		2002
Real estate, held for investment(1)		21	$	6,129		14	$	6,663		19	$	9,208
Real estate, held for sale		17		9,546		26		6,370		21		5,604
		38	$	15,675		40	$	13,033		40	$	14,812

     ⁽¹⁾2004 includes one expired leasehold interest.

The Company occasionally sells investment properties and may reinvest the proceeds of the sales to purchase new properties. The Company evaluates its ability to pay dividends to stockholders by considering the combined effect of income from continuing and discontinued operations.

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EX-99.3

Exhibit 99.3

Financial Statements and Supplementary Data

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders
Commercial Net Lease Realty, Inc. and Subsidiaries:

We have audited the accompanying consolidated balance sheets of Commercial Net Lease Realty, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of earnings, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2004. In connection with our audits of the consolidated financial statements, we also have audited financial statement schedules III and IV. These consolidated financial statements and financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedules based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Commercial Net Lease Realty, Inc. and subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.

Effective January 1, 2004, the Company implemented Financial Accounting Standards Board Interpretation No. 46, revised December 2003, “Consolidation of Variable Interest Entities” (FIN 46R) and has restated all prior period consolidated financial statements to reflect its adoption.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Commercial Net Lease Realty, Inc.’s internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 9, 2005 expressed an unqualified opinion on management’s assessment of, and the effective operation of, internal control over financial reporting.

Orlando, Florida
March 9, 2005, except for Notes 1, 16, 17
and 22, which are as of June 17, 2005

41

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders
Commercial Net Lease Realty, Inc. and Subsidiaries:

We have audited management’s assessment, included in Management’s Report on Internal Control Over Financial Reporting, that Commercial Net Lease Realty, Inc. maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control–Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Commercial Net Lease Realty, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management’s assessment that Commercial Net Lease Realty, Inc. maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Commercial Net Lease Realty, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Commercial Net Lease Realty, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of earnings, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2004, and the related financial statement schedules III and IV and our report dated March 9, 2005 expressed an unqualified opinion on those consolidated financial statements and the related financial statement schedules III and IV.

Orlando, Florida
March 9, 2005

42

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except per share data)

	December 31,
ASSETS	2004			2003
Real estate, held for investment:
Accounted for using the operating method, net of accumulated depreciation and amortization	$	1,009,397		$	887,124
Accounted for using the direct financing method		102,311			102,970
Real estate, held for sale net of accumulated depreciation		58,049			45,822
Investments in and other receivables from unconsolidated affiliates		29,307			39,606
Line of credit, note and accrued interest receivable from related party		-			16,530
Mortgages, notes and accrued interest receivable, net of allowance of $896 and $979, respectively		45,564			68,423
Cash and cash equivalents		1,947			5,335
Receivables, net of allowance of $924 and $1,590, respectively		6,636			4,740
Accrued rental income, net of allowance		28,619			25,322
Debt costs, net of accumulated amortization of $8,063 and $6,714, respectively		3,926			3,776
Other assets		14,292			11,596
Deferred income tax asset		-			2,534
Total assets	$	1,300,048		$	1,213,778
LIABILITIES AND STOCKHOLDERS’ EQUITY
Line of credit payable	$	17,900		$	27,800
Mortgages payable		157,168			149,861
Notes payable, net of unamortized discount of $847 and $530, respectively, and unamortized interest rate hedge gain of $3,979 and $288, respectively		323,132			289,758
Financing lease obligation		26,041			-
Accrued interest payable		4,334			3,820
Other liabilities		11,745			11,508
Income tax liability		702			-
Total liabilities		541,022			482,747
Minority interest		2,028			277
Stockholders’ equity:
Preferred stock, $0.01 par value. Authorized 15,000,000 shares
Series A, 1,781,589 and 1,781,645 shares issued and outstanding, at December 31, 2004 and 2003, respectively; stated liquidation value of $25 per share		44,540			44,541
Series B convertible, 10,000 shares issued and outstanding, at December 31, 2004 and 2003; stated liquidation value of $2,500 per share		25,000			25,000
Common stock, $0.01 par value. Authorized 190,000,000 shares; 52,077,825 and 50,001,898 shares issued and outstanding at December 31, 2004 and 2003, respectively		521			500
Excess stock, $0.01 par value. Authorized 205,000,000 shares; none issued or outstanding		-			-
Capital in excess of par value		725,337			691,704
Accumulated dividends in excess of net earnings		(35,188	)		(28,167	)
Deferred compensation		(3,212	)		(2,824	)
Total stockholders’ equity		756,998			730,754
	$	1,300,048		$	1,213,778

See accompanying revised notes to consolidated financial statements.

43

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS
(dollars in thousands, except per share data)

	Year Ended December 31,
	2004			2003			2002
		(revised)			(revised)			(revised)
Revenues:
Rental income from operating leases	$	97,867		$	79,155		$	65,342
Earned income from direct financing leases		10,861			10,670			10,864
Real estate expense reimbursement from tenants		5,756			5,031			2,847
Contingent rental income		411			390			401
Gain on disposition of real estate, held for sale		4,700			3,247			1,290
Interest and other income from real estate transactions		7,698			2,366			1,757
		127,293			100,859			82,501
Operating expenses:
General and administrative		22,996			21,686			16,317
Real estate		12,021			7,269			4,270
Depreciation and amortization		16,728			13,054			10,745
Provision for loss on impairment of real estate		-			-			1,613
Dissenting shareholders’ settlement		-			2,413			-
Transition costs		3,741			-			-
		55,486			44,422			32,945
Earnings from operations		71,807			56,437			49,556
Other expenses (revenues):
Interest and other income		(3,808	)		(3,345	)		(3,890	)
Interest expense		32,381			26,629			25,034
		28,573			23,284			21,144
Earnings from continuing operations before provision for income taxes, minority interest and equity in earnings of unconsolidated affiliates		43,234			33,153			28,412
Provision for income taxes		2,544			2,958			3,042
Minority interest		(1,243	)		(12	)		(8	)
Equity in earnings of unconsolidated affiliates		4,724			4,341			1,800
Earnings from continuing operations		49,259			40,440			33,246
Earnings from discontinued operations:
Real estate, held for investment		6,129			6,663			9,208
Real estate, held for sale, net of provision for income taxes and minority interest		9,546			6,370			5,604
		15,675			13,033			14,812
Net earnings		64,934			53,473			48,058
Series A preferred stock dividends		(4,008	)		(4,008	)		(4,010	)
Series B convertible preferred stock dividends		(1,675	)		(502	)		-
Net earnings available to common stockholders – basic		59,251			48,963			44,048
Series B convertible preferred stock dividends		-			502			-
Net earnings available to common stockholders – diluted	$	59,251		$	49,465		$	44,048

See accompanying revised notes to consolidated financial statements.

44

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS – CONTINUED
(dollars in thousands, except per share data)

	Year Ended December 31,
	2004		2003		2002
		(revised)		(revised)		(revised)
Net earnings per share of common stock:
Basic:
Continuing operations	$	0.85	$	0.84	$	0.72
Discontinued operations		0.30		0.30		0.37
Net earnings	$	1.15	$	1.14	$	1.09
Diluted:
Continuing operations	$	0.85	$	0.83	$	0.72
Discontinued operations		0.30		0.30		0.37
Net earnings	$	1.15	$	1.13	$	1.09
Weighted average number of common shares outstanding:
Basic		51,312,434		43,108,213		40,383,405
Diluted		51,742,518		43,896,800		40,588,957

See accompanying revised notes to consolidated financial statements.

45

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
Years Ended December 31, 2004, 2003 and 2002
(dollars in thousands, except per share data)

				Series B								Accumulated			Deferred			Accumulated
	Series A			Convertible					Capital in			Dividends in			Compensation			Other
	Preferred			Preferred		Common			Excess of Par			Excess of Net			on Restricted			Comprehensive
	Stock			Stock		Stock			Value			Earnings			Stock			Income		Total
Balance at December 21, 2001	$	50,000		$	-	$	406		$	531,677		$	(14,527	)	$	(2,916	)	$	-	$	564,640
Net earnings		-			-		-			-			48,058			-			-		48,058
Dividends declared and paid ($2.25 per share of Series A Preferred Stock)		-			-		-			-			(4,010	)		-			-		(4,010	)
Dividends declared and paid ($1.27 per share of common stock)		-			-		-			-			(51,178	)		-			-		(51,178	)
Reversal of 217,950 shares of preferred stock and 474,037 shares of common stock originally offered to the dissenting stockholders in connection with the merger in 2001		(5,449	)		-		(5	)		(6,509	)		-			-			-		(11,963	)
Issuance of 214,490 shares of common stock		-			-		2			2,752			-			-			-		2,754
Issuance of 64,000 shares of restricted common stock		-			-		1			982			-			(983	)		-		-
Stock issuance costs		-			-		-			(14	)		-			-			-		(14	)
Amortization of deferred compensation		-			-		-			-			-			854			-		854
Balances at December 31, 2002		44,551			-		404			528,888			(21,657	)		(3,045	)		-		549,141
Net earnings		-			-		-			-			53,473			-			-		53,473
Dividends declared and paid ($2.25 per share of Series A Preferred Stock)		-			-		-			-			(4,008	)		-			-		(4,008	)
Dividends declared and paid ($50.25 per share of Series B Convertible Preferred Stock)		-			-		-			-			(502	)		-			-		(502	)
Dividends declared and paid ($1.28 per share of common stock)		-			-		-			-			(55,473	)		-			-		(55,473	)
Reversal of 379 shares of preferred stock and 823 shares of common stock originally offered to the dissenting stockholders in connection with the merger in 2001		(10	)		-		-			(11	)		-			-			-		(21	)
Issuance of 9,528,653 shares of common stock		-			-		95			168,512			-			-			-		168,607
Issuance of 10,000 shares of preferred stock		-			25,000		-			-			-			-			-		25,000
Issuance of 76,407 shares of restricted common stock		-			-		1			1,140			-			(1,141	)		-		-
Cancellation of 5,950 shares of restricted common stock		-			-		-			(91	)		-			91			-		-
Stock issuance costs		-			-		-			(6,734	)		-			-			-		(6,734	)
Amortization of deferred compensation		-			-		-			-			-			1,271			-		1,271
Balances at December 31, 2003		44,541			25,000		500			691,704			(28,167	)		(2,824	)		-		730,754

See accompanying revised notes to consolidated financial statements.

46

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY - CONTINUED
Years Ended December 31, 2004, 2003 and 2002
(dollars in thousands, except per share data)

											Accumulated			Deferred			Accumulated
				Series B				Capital in			Dividends in			Compensation			Other
	Series A			Convertible				Excess of Par			Excess of Net			on Restricted			Comprehensive
	Preferred Stock			Preferred Stock		Common Stock		Value			Earnings			Stock			Income			Total
Balances at December 31, 2003		44,541			25,000		500		691,704			(28,167	)		(2,824	)		-			730,754
Net earnings		-			-		-		-			64,934			-			-			64,934
Dividends declared and paid ($2.25 per share of Series A Preferred Stock)		-			-		-		-			(4,008	)		-			-			(4,008	)
Dividends declared and paid ($167.50 per share of Series B Convertible Preferred Stock)		-			-		-		-			(1,675	)		-			-			(1,675	)
Dividends declared and paid ($1.29 per share of common stock)		-			-		1		1,056			(66,272	)		-			-			(65,215	)
Deferred changes in fair value of interest rate swap		-			-		-		-			-			-			(4,148	)		(4,148	)
Reversal of 56 shares of preferred stock and 51 shares of common stock originally offered to the dissenting stockholders in connection with the merger in 2001		(1	)		-		-		-			-			-			-			(1	)
Issuance of 886,962 shares of common stock		-			-		9		12,129			-			-			-			12,138
Issuance of 953,551 shares of common stock in exchange for a partnership interest		-			-		9		17,440			-			-			-			17,449
Issuance of 205,579 shares of restricted common stock		-			-		2		3,487			-			(3,489	)		-			-
Cancellation of 29,926 shares of restricted common stock		-			-		-		(473	)		-			473			-			-
Stock issuance costs		-			-		-		(6	)		-			-			-			(6	)
Amortization of deferred compensation		-			-		-		-			-			2,628			-			2,628
Termination and reclass of interest rate swap		-			-		-		-			-			-			4,148			4,148
Balances at December 31, 2004	$	44,540		$	25,000	$	521	$	725,337		$	(35,188	)	$	(3,212	)	$	-		$	756,998

See accompanying revised notes to consolidated financial statements.

47

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollars in thousands)

	Year Ended December 31,
	2004			2003			2002
Cash flows from operating activities:
Net earnings	$	64,934		$	53,473		$	48,058
Adjustments to reconcile net earnings to net cash provided by operating activities:
Stock compensation expense		978			1,905			1,682
Depreciation and amortization		17,398			13,799			12,640
Provision for loss on impairment of real estate		-			-			3,285
Amortization of notes payable discount		123			146			128
Amortization of deferred interest rate hedge gains		(457	)		(596	)		(555	)
Equity in earnings of unconsolidated affiliates, net of deferred intercompany profits		(5,064	)		(4,674	)		(1,992	)
Minority interest		1,828			341			8
Gain on disposition of real estate, held for investment		(2,523	)		(287	)		(260	)
Income taxes		3,236			941			1,467
Transition costs		1,929			-			-
Change in operating assets and liabilities, net of assets acquired and liabilities assumed in business combinations:
Additions to real estate, held for sale		(74,024	)		(58,612	)		(27,229	)
Proceeds from disposition of real estate, held for sale		87,321			72,262			88,494
Gain on disposition of real estate, held for sale		(23,402	)		(12,175	)		(7,745	)
Decrease in real estate leased to others using the direct financing method		2,770			2,368			2,165
Increase in work in process		(2,093	)		(2,679	)		(3,694	)
Increase (decrease) in mortgages, notes and accrued interest receivable		6,243			(9,798	)		(1,070	)
Decrease (increase) in receivables		(1,642	)		(2,614	)		263
Increase in accrued rental income		(3,438	)		(6,548	)		(3,172	)
Increase in other assets		(1,456	)		(1,682	)		(493	)
Increase in accrued interest payable		485			246			442
Increase (decrease) in other liabilities		1,646			2,715			(833	)
Net cash provided by operating activities		74,792			48,531			111,589
Cash flows from investing activities:
Proceeds from the disposition of real estate, held for investment		32,639			25,024			29,329
Additions to real estate, held for investment:
Accounted for using the operating method		(134,565	)		(215,730	)		(41,236	)
Accounted for using the direct financing method		-			-			(3,201	)
Investment in unconsolidated affiliates		(4	)		(9,362	)		(14,500	)
Distributions received from unconsolidated affiliates		11,008			5,684			5,785
Increase in mortgages and notes receivable		(6,857	)		(48,328	)		(25	)
Mortgage and notes payments received		23,301			1,785			7,642
Increase in mortgages and other receivables from unconsolidated affiliates		(115,600	)		(119,700	)		(80,900	)
Payments received on mortgages and other receivables from unconsolidated affiliates		132,200			125,900			81,818
Business combination, net of cash acquired		1,068			-			1,319
Payment of lease costs		(1,491	)		(3,127	)		-
Consideration due to the dissenting shareholders in connection with the merger of Captec Net Lease Realty, Inc. (“Captec”) in December 2001		-			(13,278	)		-
Other		(654	)		(54	)		(1,173	)
Net cash used in investing activities		(58,955	)		(251,186	)		(15,142	)

See accompanying revised notes to consolidated financial statements.

48

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS – CONTINUED
(dollars in thousands)

	Year Ended December 31,
	2004			2003			2002
Cash flows from financing activities:
Proceeds from line of credit payable		350,900			352,800			111,500
Repayment of line of credit payable		(360,800	)		(363,900	)		(180,000	)
Proceeds from mortgages payable		406			95,000			23,340
Repayment of mortgages payable		(9,163	)		(2,944	)		(2,547	)
Proceeds from financing lease obligation		26,041			-			-
Proceeds from notes payable		149,560			-			49,713
Proceeds from forward starting interest rate swap		4,148			-			-
Repayment of notes payable		(120,000	)		-			(50,000	)
Payment of debt costs		(1,450	)		(1,900	)		(1,197	)
Proceeds from issuance of Series B Convertible Preferred Stock		-			25,000			-
Proceeds from issuance of common stock		13,230			168,579			2,725
Payment of Series A Preferred Stock dividends		(4,008	)		(4,010	)		(4,007	)
Payment of Series B Convertible Preferred Stock dividends		(1,675	)		(502	)		-
Payment of common stock dividends		(66,272	)		(55,472	)		(51,177	)
Stock issuance costs		(140	)		(6,686	)		(4	)
Other		(2	)		-			-
Net cash provided by (used in) financing activities		(19,225	)		205,965			(101,654	)
Net increase (decrease) in cash and cash equivalents		(3,388	)		3,310			(5,207	)
Cash and cash equivalents at beginning of year		5,335			2,025			7,232
Cash and cash equivalents at end of year	$	1,947		$	5,335		$	2,025
Supplemental disclosure of cash flow information – interest paid, net of amount capitalized	$	33,855		$	28,948		$	27,313
Supplemental disclosure of non-cash investing and financing activities:
Issued 205,579, 76,407 and 64,000 shares of restricted common stock in 2004, 2003 and 2002, respectively, in pursuant to the Company’s 2000 Performance Incentive Plan, including grants in connection with transition costs	$	3,016		$	1,050		$	983
Common and preferred stock dividends for non-dissenting, unexchanged shares held by the Company in connection with the merger of Captec	$	-		$	(1	)	$	4
Cash consideration for non-dissenting, unexchanged shares held by the Company in connection with the merger of Captec	$	-		$	(2	)	$	3
Liability for the consideration due to the dissenting stockholders in connection with the merger of Captec	$	-			-		$	13,278
Note and mortgage notes accepted in connection with real estate transactions	$	-		$	17,123		$	4,344
Acquisition of real estate held for investment and assumption of related mortgage payable	$	7,357		$	-		$	-
Issued 953,551 shares of common stock in 2004 in exchange for a partnership interest	$	17,449		$	-		$	-
Disposition of real estate held for sale and transfer of related mortgage payable	$	2,251		$	-		$	-
Note receivable issued in connection with sale of entity	$	-		$	-		$	25

See accompanying revised notes to consolidated financial statements.

49

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

CONSOLIDATED QUARTERLY FINANCIAL DATA
(unaudited)
(dollars in thousands, except for per share data)

	First		Second		Third		Fourth
2004	Quarter		Quarter		Quarter		Quarter		Year
Gross revenues	$	35,952	$	34,983	$	43,374	$	42,968	$	157,277
Depreciation and amortization expense		4,265		4,265		4,419		4,449		17,398
Interest expense		7,731		7,973		8,744		8,672		33,120
Transition costs		-		3,200		52		489		3,741
Other expenses		8,925		8,812		8,798		9,112		35,647
Net earnings		16,268		12,735		17,005		18,926		64,934
Net earnings per share (2):
Basic		0.29		0.22		0.30		0.34		1.15
Diluted		0.29		0.22		0.30		0.34		1.15
2003
Gross revenues	$	26,370	$	28,090	$	31,236	$	38,551	$	124,247
Depreciation and amortization expense		3,102		3,275		3,330		4,092		13,799
Interest expense		6,523		6,910		6,814		7,658		27,905
Dissenting shareholders’ settlement		2,413		-		-		-		2,413
Other expenses		5,503		5,902		8,048		9,905		29,358
Net earnings		10,154		12,344		15,384		15,591		53,473
Net earnings per share (2):
Basic		0.23		0.28		0.32		0.30		1.14
Diluted		0.23		0.28		0.32		0.30		1.13

(1)

The consolidated quarterly financial data above includes revenues and expenses from the Company’s continuing and discontinued operations. The Financial Accounting Standard Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” This statement addresses financial accounting and reporting for the impairment or disposal of long-lived assets and broadens the presentation of discontinued operations in the income statement to include a component of an entity. Accordingly, the results of operations related to these certain properties that have been classified as held for sale or have been disposed of in 2004 and 2003 have been reclassified as earnings from discontinued operations for each period reported above. The Company has also classified revenues and expenses related to the four Investment Properties sold during the quarter ended March 31, 2005 and the one Investment Property held for sale at March 31, 2005, as discontinued operations. As reported in the current Form 10-K, earnings from discontinued operations for the years ended December 31, 2004 and 2003, were $15,675,000 and $13,033,000, respectively.

(2)

Calculated independently for each period, and consequently, the sum of the quarters may differ from the annual amount.

50

COMMERCIAL NET LEASE REALTY, INC.
and SUBSIDIARIES

REVISED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2004, 2003 and 2002

1.	Organization and Summary of Significant Accounting Policies:
	In compliance with Statement of Financial Accounting Standard (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” issued by the Financial Accounting Standards Board, the consolidated statements of earnings have been revised from those originally reported for the years ended December 31, 2004, 2003 and 2002 in the Company’s Annual Report on Form 10-K for year ended December 31, 2004 to reflect separately the results of discontinued operations for properties sold or classified as held for sale during the quarter ended March 31, 2005. The revision had no impact on the consolidated balance sheets, statements of stockholders’ equity or statements of cash flows. The revisions had no impact on net earnings or net earnings per share for the years ended December 31, 2004, 2003 and 2002. Instead, they present the revenues and expenses relating to properties sold or held for sale as a single line item titled “earnings from discontinued operations,” rather than presenting the revenues and expenses along with the Company’s other earnings from continuing operations.
	Organization and Nature of Business – Commercial Net Lease Realty, Inc., a Maryland corporation, is a fully integrated real estate investment trust (“REIT”) formed in 1984. The term “Company” refers to Commercial Net Lease Realty, Inc. and its majority owned and controlled subsidiaries. These subsidiaries include the wholly-owned qualified REIT subsidiaries of Commercial Net Lease Realty, Inc., as well as the taxable REIT subsidiary (“TRS”), Commercial Net Lease Realty Services, Inc. and its majority owned and controlled subsidiaries (collectively, “Services”). The Company holds a 98.7 percent, non-controlling interest in Services and is entitled to receive 98.7 percent of the dividends paid by Services. James M. Seneff, Jr., a director of the Company, Kevin B. Habicht, an officer and director of the Company, and Gary M. Ralston, a former officer and director of the Company, collectively own the remaining 1.3 percent interest, which is 100 percent of the voting interest in Services. Effective January 1, 2005, the Company acquired the remaining 1.3 percent voting interest in Services increasing the Company’s ownership in Services to 100 percent.
	The Company’s operations are divided into two primary business segments: real estate held for investment and real estate held for sale. The real estate held for investment is operated through Commercial Net Lease Realty, Inc. and its wholly owned qualified REIT subsidiaries. The Company directly and indirectly, through investment interests, acquires, owns, invests in, manages and develops primarily single-tenant retail properties that are generally leased to established tenants under long-term commercial net leases (“Investment Properties”). As of December 31, 2004, the Company owned 362 properties, located in 38 states, that are leased to established tenants, including Academy, Barnes & Noble, Best Buy, Borders, CVS, Eckerd, OfficeMax, The Sports Authority, United Rentals and the United States of America. The real estate held for sale is operated through Services. Services acquires and develops real estate directly and indirectly, through investment interests, primarily for the purpose of selling the real estate to purchasers who are looking for replacement like-kind exchange property or to other purchasers with different investment objectives. As of December 31, 2004, Services owned 21 properties that were held for sale (“Inventory Properties”).
	Principles of Consolidation – In January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46 (revised December 2003), “Consolidation of Variable Interest Entities” (“FIN 46R”). This Interpretation of Accounting Research Bulletin No. 51, “Consolidated Financial Statements”, addresses consolidation by business enterprises of variable interest entities. A variable interest entity refers to certain entities subject to consolidation according to the provisions of this interpretation. This interpretation required existing unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the variable interest entities do not effectively disperse risks among parties involved. Effective January 1, 2004, the Company implemented FIN 46R and under the guidelines of this interpretation, Services met the criteria of a variable interest entity which required consolidation by the Company. Accordingly, effective January 1, 2004, the Company consolidated Services and all prior period comparable condensed consolidated financial statements have been restated to include Services as a consolidated subsidiary. The adoption of this interpretation did not have a significant impact on the financial position or results of operations of the Company.
	Therefore, the Company’s consolidated financial statements include the accounts of each of the respective majority owned and controlled affiliates. All significant intercompany account balances and transactions have been eliminated. The Company applies the equity method of

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accounting to investments in partnerships and joint ventures that are not subject to control by the Company due to the significance of rights held by other parties.

The Company holds a variable interest in, but is not the primary beneficiary of, CNL Plaza Ltd., a variable interest entity. The Company’s maximum exposure to loss as a result of its involvement with CNL Plaza Ltd. as of December 31, 2004, is $6,076,000. As of December 31, 2004, CNL Plaza, Ltd. had total assets and liabilities of $58,913,000 and $62,473,000, respectively.

A wholly-owned subsidiary of Services, CNLRS Equity Ventures, Inc. (“Equity Ventures”), develops real estate through various joint venture development affiliate agreements. Equity Ventures consolidates the joint venture development entities listed in the table below, eliminating significant intercompany balances and transactions and recording a minority interest for its other partners’ ownership percentage. The following table summarizes each of the investments as of December 31, 2004:

Date of			Equity Ventures’
Agreement	Entity Name	Agreement Type	Ownership %
November 2002	WG Grand Prairie TX, LLC	Limited Liability Company		60	%
February 2003	KK-Seminole FL, LLC	Limited Liability Company		40	%
February 2003	Gator Pearson, LLC	Limited Liability Company		50	%
April 2003	MAC Boise ID, LLC	Limited Liability Company		60	%
June 2003	CNLRS WG Grapevine TX, LLC	Limited Liability Company		60	%
January 2004	CNLRS WG Crowley TX, LLC	Limited Liability Company		60	%
February 2004	CNLRS Yosemite Park CO, LLC	Limited Liability Company		50	%
September 2004	CNLRS Bismarck ND, LLC	Limited Liability Company		50	%
October 2004	CNLRS WG Ennis TX, LLC	Limited Liability Company		60	%
November 2004	CNLRS WG Dallas TX, LLC	Limited Liability Company		60	%
December 2004	CNLRS WG Long Beach MS, LLC	Limited Liability Company		50	%
December 2004	CNLRS Arcadian Commons, LLC	Limited Liability Company		50	%

Real Estate Held for Investment – The Company records the acquisition of real estate at cost, including acquisition and closing costs. The cost of properties developed by the Company includes direct and indirect costs of construction, property taxes, interest and other miscellaneous costs incurred during the development period until the project is substantially complete and available for occupancy.

Real estate is generally leased to tenants on a net lease basis, whereby the tenant is responsible for all operating expenses relating to the property, including property taxes, insurance, maintenance and repairs. The leases are accounted for using either the operating or the direct financing method. Such methods are described below:

Operating method – Leases accounted for using the operating method are recorded at the cost of the real estate. Revenue is recognized as rentals are earned and expenses (including depreciation) are charged to operations as incurred. Buildings are depreciated on the straight-line method over their estimated useful lives (generally 35 to 40 years). Leasehold interests are amortized on the straight-line method over the terms of their respective leases. When scheduled rentals vary during the lease term, income is recognized on a straight-line basis so as to produce a constant periodic rent over the term of the lease. Accrued rental income is the aggregate difference between the scheduled rents which vary during the lease term and the income recognized on a straight-line basis.

Direct financing method – Leases accounted for using the direct financing method are recorded at their net investment (which at the inception of the lease generally represents the

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cost of the property). Unearned income is deferred and amortized into income over the lease terms so as to produce a constant periodic rate of return on the Company’s net investment in the leases.

When real estate is disposed of, the related cost, accumulated depreciation or amortization and any accrued rental income for operating leases and the net investment for direct financing leases are removed from the accounts and gains and losses from the dispositions are reflected in income. Gains from disposition of real estate are generally recognized using the full accrual method in accordance with the provisions of SFAS No. 66 “Accounting for Real Estate Sales,” provided that various criteria relating to the terms of the sale and any subsequent involvement by the Company with the real estate sold are met. Lease termination fees are recognized when the related leases are cancelled and the Company no longer has a continuing obligation to provide services to the former tenants.

Management reviews its real estate for impairment whenever events or changes in circumstances indicate that the carrying value of the asset, including accrued rental income, may not be recoverable through operations. Management determines whether an impairment in value has occurred by comparing the estimated future cash flows (undiscounted and without interest charges), including the residual value of the real estate, with the carrying cost of the individual asset. If an impairment is indicated, a loss will be recorded for the amount by which the carrying value of the asset exceeds its fair value.

Purchase Accounting for Acquisition of Real Estate – For purchases of real estate that were consummated subsequent to June 30, 2001, the effective date of SFAS No. 141, “Business Combinations,” the fair value of the real estate acquired is allocated to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and value of tenant relationships, based in each case on their relative fair values.

The fair value of the tangible assets of an acquired property is determined by valuing the property as if it were vacant, and the “as-if-vacant” value is then allocated to land, building and tenant improvements based on the determination of the relative fair values of these assets. Management uses the as-if-vacant fair value of a property provided by a qualified appraiser.

In allocating the fair value of the identified intangible assets and liabilities of an acquired property, above-market and below-market in-place lease values are recorded as other assets based on the present value (using an 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. The capitalized above-market lease values are amortized as a reduction of 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 and any fixed rate renewal periods in the respective leases. The Company’s leases do not currently include fixed-rate renewal periods.

The aggregate value of other acquired intangible assets, consisting of in-place leases, is measured by the excess of (i) the purchase price paid for a property after adjusting existing in-place leases to market rental rates over (ii) the estimated fair value of the property as-if-vacant, determined as set forth above. The value of in-place leases exclusive of the value of above-market and below-market in-place leases is amortized to expense over the remaining non-cancelable periods of the respective leases. If a lease were to be terminated prior to its stated expiration, all unamortized amounts relating to that lease would be written off.

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Real Estate Held for Sale – Services acquires, develops and currently owns properties that it intends to sell. The properties that are classified as held for sale at any given time may consist of properties that have been acquired in the marketplace with the intent to resell the properties that have been, or are currently being, constructed by Services. Services’ records the acquisition of the real estate at cost, including the acquisition and closing costs. The cost of the real estate developed by Services includes direct and indirect costs of construction, interest and other miscellaneous costs incurred during the development period until the project is substantially complete and available for occupancy. The asset is not depreciated. In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” Services classifies its real estate held for sale as discontinued operations for each property in which rental revenues are generated (see Note 3). When real estate held for sale is disposed of, the related costs are removed from the accounts and gains and losses from the dispositions are reflected in earnings.

Investment in Unconsolidated Affiliates – The Company accounts for each of its investments in unconsolidated affiliates under the equity method of accounting (see Note 4). The Company exercises influence over these unconsolidated affiliates, but does not control them.

Cash and Cash Equivalents – The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Cash and cash equivalents consist of cash and money market accounts. Cash equivalents are stated at cost plus accrued interest, which approximates fair value.

Cash accounts maintained on behalf of the Company in demand deposits at commercial banks and money market funds may exceed federally insured levels; however, the Company has not experienced any losses in such accounts. The Company limits investment of temporary cash investments to financial institutions with high credit standing; therefore, management believes it is not exposed to any significant credit risk on cash and cash equivalents.

Debt Costs – Debt costs incurred in connection with the Company’s $225,000,000 line of credit and mortgages payable have been deferred and are being amortized over the term of the respective loan commitment using the straight-line method which approximates the effective interest method. Debt costs incurred in connection with the term note payable, which matured in November 2004, were amortized over the term using the straight-line method which approximated the effective interest rate. Debt costs incurred in connection with the issuance of the Company’s notes payable have been deferred and are being amortized over the term of the respective debt obligation using the effective interest method.

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Earnings Per Share – Basic net earnings per share is computed by dividing net earnings available to common stockholders by the weighted average number of common shares outstanding during each period. Diluted net earnings per common share is computed by dividing net earnings available to common stockholders for the period by the number of common shares that would have been outstanding assuming the issuance of common shares for all potentially dilutive common shares outstanding during the periods.

The following is a reconciliation of the denominator of the basic net earnings per common share computation to the denominator of the diluted net earnings per common share computation for each of the years ended December 31:

	2004			2003			2002
Weighted average number of common shares outstanding		51,546,814			43,167,433			40,419,876
Restricted stock		(234,380	)		(59,220	)		(36,471	)
Weighted average number of common shares outstanding used in basic earnings per share		51,312,434			43,108,213			40,383,405
Weighted average number of common shares outstanding		51,546,814			43,167,433			40,419,876
Effect of dilutive securities:
Common stock options		192,370			229,495			169,081
Assumed conversion of Series B Convertible Preferred Stock to common stock		-			499,872			-
Directors’ deferred fee plan		3,334			-			-
Weighted average number of common shares outstanding used in diluted earnings per share		51,742,518			43,896,800			40,588,957

The following represents the number of shares of potentially issuable common stock which were not included in computing diluted earnings per common share because their effects were antidilutive:

	2004		2003		2002
Common stock options		-		398,500		454,500

Stock-Based Compensation – At December 31, 2004, the Company had one stock-based compensation plan, which is described more fully in Note 19. Prior to 2003, the Company accounted for the plan under the recognition and measurement provisions of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations. No stock-based compensation costs are reflected in 2002 net earnings, as all options granted under the plan had an exercise price equal to the market value of the underlying common stock at the date of grant. Effective January 1, 2003, the Company adopted the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” prospectively to all employee and director awards granted, modified, or settled after January 1, 2003. Therefore, the cost related to stock-based employee compensation included in the determination of net earnings for 2004 and 2003 is less than that which would have been recognized if the fair value based method had been applied to all awards since the original effective date of SFAS No. 123.

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The following table illustrates the effect on net earnings available to common stockholders and earnings per share if the fair value based method had been applied to all outstanding and unvested awards in each period (dollars in thousands, except per share data):

	2004			2003			2002
Net earnings available to common stockholders – basic, as reported:	$	59,251		$	48,963		$	44,048
Add: stock-based employee compensation expense included in reported net earnings		20			3			-
Deduct: total stock-based employee compensation expense determined under the fair value based method for all awards		(65	)		(74	)		(27	)
Pro forma net earnings available to common stockholders – basic	$	59,206		$	48,892		$	44,021
Net earnings available to common stockholders – diluted, as reported:	$	59,251		$	49,465		$	44,048
Add: stock-based employee compensation expense included in reported net earnings		20			3			-
Deduct: total stock-based employee compensation expense determined under the fair value based method for all awards		(65	)		(74	)		(27	)
Pro forma net earnings available to common stockholders – diluted	$	59,206		$	49,394		$	44,021
Earnings available to common stockholders per common share as reported:
Basic	$	1.15		$	1.14		$	1.09
Diluted	$	1.15		$	1.13		$	1.09
Pro forma earnings available to common stockholders per common share:
Basic	$	1.15		$	1.13		$	1.09
Diluted	$	1.14		$	1.13		$	1.08

There were no options granted in 2004. The fair value of each option grant in 2003 and 2002 is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions: (i) risk free rate of 5.5% for the 2003 grant and 5.4% and 5.5% for the 2002 grants, (ii) expected volatility of 18.0% and 18.0%, respectively, (iii) dividend yields of 9.3% and 9.3%, respectively, and (iv) expected lives of 10 years for each of the 2003 and 2002 grants.

Income Taxes – The Company has made an election to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, and related regulations. The Company generally will not be subject to federal income taxes on amounts distributed to stockholders, providing it distributes at least 90 percent of its real estate investment trust taxable income and meets certain other requirements for qualifying as a REIT. For each of the years in the three-year period ended December 31, 2004, the Company believes it has qualified as a REIT. Not withstanding the Company’s qualification for taxation as a real estate investment trust, the Company is subject to certain state taxes on its income and real estate.

Effective January 1, 2001, Commercial Net Lease Realty, Inc. elected for Services to be treated as a TRS pursuant to the provisions of the REIT Modernization Act. As a TRS, Services is able to engage in activities resulting in income that previously would have been disqualified from being eligible REIT income under the federal income tax regulations. As a result, certain activities of the Company which occur within Services are subject to federal and state income taxes (See “Real Estate Held for Sale”). All provisions for federal income taxes in the accompanying consolidated financial statements are attributable to Services.

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	Income taxes are accounted for under the asset and liability method as required by SFAS No. 109, “Accounting for Income Taxes.” Deferred tax assets and liabilities are recognized for the temporary differences based on estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
	New Accounting Standards –In December 2004, FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets.” This statement is effective for the fiscal years beginning after June 15, 2005. This statement addresses financial accounting and reporting obligations associated with the exchange of nonmonetary assets. The statement eliminates the exception to fair value for exchanges of similar productive assets issued in APB Opinion No. 29, “Accounting for Nonmonetary Transactions,” and replaces it with a general exception for exchange transactions that do not have commercial substance, that is, transactions that are not expected to result in significant changes in the cash flows of the reporting entity. The adoption of this interpretation is not expected to have a significant impact on the financial position or results of operations of the Company.
	In December 2004, FASB revised SFAS No. 123, “Accounting for Stock-Based Compensation.” This revision, SFAS No. 123R, is effective for the first interim or annual reporting period beginning after June 15, 2005. This revision to the statement eliminates the alternative to use APB Opinion No. 25, “Accounting for Stock Issued to Employees,” intrinsic value method of accounting that was provided in Statement 123 as originally issued. An enterprise will initially measure the cost of employee services received in exchange for an award of liability instruments based on its current fair value; the fair value of that award will be remeasured subsequently at each reporting date through the settlement date. Changes in fair value during the requisite service period will be recognized as compensation cost over that period. The adoption of this interpretation is not expected to have a significant impact on the financial position or results of operations of the Company.
	Use of Estimates – Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities, revenues and expenses and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. Significant estimates include provision for impairment and allowances for certain assets, accruals, useful lives of assets and capitalization of costs. Actual results could differ from those estimates.
	Reclassification – Certain items in the prior year’s consolidated financial statements and notes to consolidated financial statements have been reclassified to conform with the 2004 presentation. These reclassifications had no effect on stockholders’ equity or net earnings.
2.	Real Estate Held for Investment:
	Leases – The Company generally leases its Investment Properties to established tenants. As of December 31, 2004, 302 of the Investment Property leases have been classified as operating leases and 69 leases have been classified as direct financing leases. For the Investment Property leases classified as direct financing leases, the building portions of the property leases are accounted for as direct financing leases while the land portions of 46 of these leases are accounted for as operating leases. Substantially all leases have initial terms of 10 to 20 years (expiring between 2005 and 2025) and provide for minimum rentals. In addition, the majority of the leases provide for

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contingent rentals and/or scheduled rent increases over the terms of the leases. Generally, the tenant is also required to pay all property taxes and assessments, substantially maintain the interior and exterior of the building and carry property and liability insurance coverage. Certain of the Company’s Investment Properties are subject to leases under which the Company retains responsibility for certain costs and expenses of the property. As of December 31, 2004, the weighted average remaining lease term was approximately 10 years. Generally, the leases of the Investment Properties provide the tenant with one or more multi-year renewal options subject to generally the same terms and conditions as the initial lease.

Accounted for Using the Operating Method – Real estate subject to operating leases consisted of the following as of December 31 (dollars in thousands):

	2004			2003
Land and improvements	$	431,867		$	384,134
Buildings and improvements		631,306			544,246
Leasehold interests		2,532			3,381
		1,065,705			931,761
Less accumulated depreciation and amortization		(61,720	)		(48,863	)
		1,003,985			882,898
Construction in progress		7,025			6,482
		1,011,010			889,380
Less provision for loss on impairment of real estate		(1,613	)		(2,256	)
	$	1,009,397		$	887,124

In August 2003, the Company acquired two office buildings and a related parking garage located in the Washington, D.C. metropolitan area (“DC Office Properties”) for $142,800,000. In addition, pursuant to the lease agreement, the Company has agreed to fund an additional $27,322,000 for building and tenant improvements, of which $23,850,000 had been funded as of December 31, 2004. The Company anticipates the remaining building and improvements to be substantially completed and funded by June 30, 2005.

Some leases provide for scheduled rent increases throughout the lease term. Such amounts are recognized on a straight-line basis over the terms of the leases. For the years ended December 31, 2004, 2003 and 2002, the Company recognized collectively in continuing and discontinued operations, $3,452,000, $6,756,000 and $3,223,000, respectively, of such income. At December 31, 2004 and 2003, the balance of accrued rental income, net of allowances of $1,620,000 and $1,320,000, respectively, was $28,619,000 and $25,322,000, respectively.

The following is a schedule of future minimum lease payments to be received on noncancellable operating leases at December 31, 2004 (dollars in thousands):

2005	$	105,235
2006		105,333
2007		104,579
2008		102,673
2009		98,336
Thereafter		612,181
	$	1,128,337

Since lease renewal periods are exercisable at the option of the tenant, the above table only presents future minimum lease payments due during the initial lease terms. In addition, this table does not include amounts for potential variable rent increases that are based on the Consumer Price Index (“CPI”) or future contingent rents which may be received on the leases based on a percentage of the tenant’s gross sales.

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Accounted for Using the Direct Financing Method – The following lists the components of net investment in direct financing leases at December 31 (dollars in thousands):

	2004			2003
Minimum lease payments to be received	$	166,849		$	175,236
Estimated unguaranteed residual values		32,623			32,354
Less unearned income		(97,161	)		(104,620	)
Net investment in direct financing leases	$	102,311		$	102,970

The following is a schedule of future minimum lease payments to be received on direct financing leases at December 31, 2004 (dollars in thousands):

2005	$	13,559
2006		13,580
2007		13,631
2008		13,635
2009		13,738
Thereafter		98,706
	$	166,849

	The above table does not include future minimum lease payments for renewal periods, potential variable CPI rent increases or for contingent rental payments that may become due in future periods (See Real Estate – Accounted for Using the Operating Method).
3.	Real Estate Held for Sale:
	As of December 31, 2004, the portfolio of Inventory Properties consisted of 10 completed inventory properties, seven properties under construction and four land parcels.
	Real estate held for sale consisted of the following at December 31 (dollars in thousands):

	2004			2003
Inventory:
Land	$	16,449		$	13,644
Buildings		17,660			17,129
Accumulated depreciation		(81	)		(246	)
		34,028			30,527
Under construction:
Land		13,826			7,226
Work in process		10,195			8,069
		24,021			15,295
	$	58,049		$	45,822

In connection with the development of seven Inventory Properties by Services, the Company has agreed to fund construction commitments of $26,409,000, of which $12,248,000 has been funded as of December 31, 2004.

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The following table summarizes the number of inventory properties sold and the corresponding gain recognized on the disposition of real estate held for sale included in earnings from continuing and discontinued operations for the years ended December 31 (dollars in thousands):

	2004					2003					2002
	# of					# of					# of
	Properties		Gain			Properties		Gain			Properties		Gain
Continuing operations		7	$	4,700			3	$	3,247			4	$	1,290
Discontinued operations:
Gain				17,885					7,891					4,489
Intersegment eliminations				817					1,037					1,966
				18,702					8,928					6,455
Minority interest				(6,422	)				(986	)				-
Total discontinued operations		17		12,280			26		7,942			21		6,455
		24	$	16,980			29	$	11,189			25	$	7,745

4.	Investments in Unconsolidated Affiliates:
	In September 1997, the Company entered into a partnership, Net Lease Institutional Realty, L.P. (the “Partnership”), with the Northern Trust Company, as Trustee of the Retirement Plan for Chicago Transit Authority Employees (“CTA”). Under the terms of the limited partnership agreement of the Partnership, CTA had the option to convert its 80 percent limited partnership interest into shares of the Company’s common stock. In October 2003, CTA exercised that right, and based on the terms of and calculation defined in the limited partnership agreement, the Company issued 953,551 shares of common stock to CTA in a private transaction in February 2004 in exchange for CTA’s 80 percent limited partnership interest, increasing the Company’s ownership in the Partnership to 100 percent. Prior to CTA’s exercise, the Company accounted for its 20 percent interest in the Partnership under the equity method of accounting. Net income and losses of the Partnership were allocated to the partners in accordance with their respective percentage interest during the Partnership’s term.
	The Company received $116,000 in distributions from the Partnership for the year ended December 31, 2003. For the years ended December 31, 2004, 2003 and 2002, the Company recognized earnings of $26,000, $280,000 and $270,000, respectively, from the Partnership. The Company managed the Partnership and pursuant to a management agreement, the Partnership paid the Company $17,000, $193,000 and $193,000 in asset management fees during the years ended December 31, 2004, 2003 and 2002, respectively. The Company did not recognize earnings or receive asset management fees from the Partnership subsequent to increasing its ownership in the Partnership to 100 percent in February 2004.

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The Company has entered into five limited liability company (“LLC”) agreements (collectively, “CCMH LLCs”) with Orange Avenue Mortgage Investments, Inc. (“OAMI”), formerly known as CNL Commercial Finance, Inc. Each of the LLCs holds an interest in mortgage loans and is 100 percent equity financed. The Company holds a non-voting and non-controlling interest in each of the LLCs and accounts for its investment under the equity method of accounting. The following table summarizes each of the investments as of December 31, 2004:

Date of Agreement	LLC Agreement	Investment Interest
June 2001	CCMH I, LLC	42.7%
December 2001	CCMH II, LLC	44.0%
June 2002	CCMH III, LLC	36.7%
December 2002	CCMH IV, LLC	38.3%
July 2003	CCMH V, LLC	38.4%

During the years ended December 31, 2004 and 2003, the Company received $10,562,000 and $4,211,000, respectively, in distributions from the CCMH LLC’s. In 2003, in connection with a loan to OAMI, the Company pledged a portion of its interest in two of the LLC’s as partial collateral for the loan.

The following presents the combined condensed financial information of the CCMH LLCs (dollars in thousands):

	December 31,
	2004		2003
Mortgage assets	$	59,840	$	70,472
Other assets		-		1
Total assets	$	59,840	$	70,473
Total liabilities	$	-	$	-
Members’ equity		59,840		70,473
Total liabilities and members’ equity	$	59,840	$	70,473

	Year Ended December 31,
	2004		2003		2002
Revenues/net earnings	$	9,898	$	9,110	$	5,035

For the years ended December 31, 2004, 2003 and 2002, the Company recognized earnings of $5,042,000, $4,583,000 and $2,445,000, respectively, from the CCMH LLCs.

In May 2002, the Company purchased a combined 25 percent partnership interest in CNL Plaza, Ltd. and CNL Plaza Venture, Ltd. (collectively, “Plaza”) for $750,000. The remaining partnership interests in Plaza are owned by affiliates of James M. Seneff, Jr. and Robert A. Bourne, both members of the Company’s board of directors. Plaza owns a 346,000 square foot office building and an interest in an adjacent parking garage. The Company has severally guaranteed 41.67 percent of a $15,500,000 unsecured promissory note on behalf of Plaza. The maximum obligation of the Company under this guarantee is $6,458,000, plus interest. Interest accrues at a rate of LIBOR plus 200 basis points per annum on the unpaid principal amount. This guarantee shall continue through the loan maturity, which was extended from the original maturity of November 2004 to May 2005. The fair value of the Company’s guarantee is $73,000. During the years ended December 31, 2004, 2003 and 2002 the Company received $446,000, $372,000 and $411,000, respectively, in distributions from Plaza. For the years ended December 31, 2004, 2003 and 2002, the Company recognized a loss from Plaza of $276,000, $306,000 and $159,000, respectively.

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Since November 1999, the Company has leased its office space from Plaza. The Company’s lease expires in October 2014. In addition, other affiliates of James M. Seneff, Jr. also lease office space from Plaza. The Company and other affiliates lease an aggregate of 66 percent of the 346,000 square foot office building. During the years ended December 31, 2004, 2003 and 2002, the Company incurred rental expenses in connection with the lease of $1,018,000, $1,001,000 and $1,222,000, respectively. In May 2000, the Company subleased a portion of its office space to affiliates of James M. Seneff, Jr. During the years ended December 31, 2004, 2003 and 2002, the Company earned $345,000, $338,000 and $270,000, respectively, in rental and accrued rental income from these affiliates.

The following is a schedule of the Company’s future minimum lease payments and the future minimum sublease income from the affiliates related to the office space leased from Plaza at December 31, 2004 (dollars in thousands):

	Lease		Sublease
	Payments		Income		Net
2005	$	1,165	$	522	$	643
2006		1,200		538		662
2007		1,236		554		682
2008		1,273		571		702
2009		1,311		588		723
Thereafter		6,910		3,099		3,811
	$	13,095	$	5,872	$	7,223

Since lease renewal periods are exercisable at the option of the tenant, the above table only presents future minimum lease payments due during the initial lease terms. The Company has the option to renew its lease with Plaza for three successive five-year periods subject to similar terms and conditions as the initial lease.

In 1999, a wholly-owned subsidiary of the Company entered into a membership arrangement, WXI/SMC Real Estate LLC (“WXI”), with Whitehall Street Real Estate Limited Partnership XI. The Company is the sole managing member and holds a 33 1/3 percent interest in WXI. WXI was organized for the purpose of owning, developing, redeveloping, operating, leasing and selling a portfolio of real estate. The Company accounts for its interest under the equity method of accounting. During the years ended December 31, 2004, 2003, and 2002, the Company recognized a loss of $68,000, 570,000, and $1,438,000, respectively. The Company provides certain management services for WXI on behalf of Services pursuant to WXI’s Limited Liability Company Agreement and Property Management and Development Agreement. WXI paid the Company $14,000, $52,000 and $86,000 in fees during the years ended December 31, 2004, 2003 and 2002, respectively.

The following presents a reconciliation of investments in and receivables from unconsolidated affiliates at December 31 (dollars in thousands):

	2004			2003
CCMH LLCs investments	$	29,672		$	35,193
Other:
Investments		(365	)		4,396
Receivables		-			17
	$	29,307		$	39,606

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The following presents a reconciliation of equity in earnings of unconsolidated affiliates for the years ended December 31 (dollars in thousands):

	2004			2003			2002
CCMH LLCs	$	5,042		$	4,583		$	2,445
Other		(318	)		(242	)		(645	)
	$	4,724		$	4,341		$	1,800

5.	Note Receivable:
	Structured finance agreements are typically loans secured by a pledge of ownership interests in the borrowers (or their subsidiaries) that own the underlying real estate. These agreements are typically subordinated to senior loans secured by first mortgages encumbering the underlying real estate. Subordinated positions are generally subject to a higher risk of nonpayment of principal and interest than the more senior loans.
	In 2004 and 2003, the Company made structured finance investments of $6,857,000 and $43,433,000, respectively. As of December 31, 2004, the structured finance investments bear a weighted average interest rate of 14.3% per annum, of which 12.5% is payable monthly and the remaining 1.8% accrues and is due at maturity. The principal balance of each structured finance investment is due in full at maturity, which range between November 2006 and November 2007. The structured finance investments are secured by the borrowers’ pledge of their respective membership interests in the certain subsidiaries which own real estate. In December 2004, the Company received $20,900,000 in principal payments and a $418,000 prepayment fee. As of December 31, 2004 and 2003, the outstanding receivable balance of the structured finance investments was $29,390,000 and $43,433,000, respectively.
6.	Line of Credit Payable:
	In May 2003, the Company entered into an amended and restated loan agreement for a $225,000,000 revolving credit facility (the “Credit Facility”) which amended the Company’s existing loan agreement by (i) increasing the borrowing capacity to $225,000,000 from $200,000,000, (ii) lowering the interest rates of the tiered rate structure to a maximum rate of 135 basis points above LIBOR (based upon the debt rating of the Company, the current interest rate is 100 basis points above LIBOR), (iii) requiring the Company to pay a commitment fee based on a tiered rate structure to a maximum of 30 basis points per annum (based upon the debt rating of the Company), (iv) providing for a competitive bid option for up to 50 percent of the facility amount, (v) extending the expiration date to May 9, 2006 and (vi) amending certain of the financial covenants of the Company. The principal balance is due in full upon expiration of the Credit Facility in May 2006, which the Company may request to be extended for an additional 12-month period with the consent of the lender. As of December 31, 2004 and 2003, $17,900,000 and $27,800,000, respectively, was outstanding under the Credit Facility. The Credit Facility had a weighted average interest rate of 2.72% and 2.41% for the years ended December 31, 2004 and 2003, respectively. In accordance with the terms of the Credit Facility, the Company is required to meet certain restrictive financial covenants, which, among other things, require the Company to maintain certain (i) maximum leverage ratios, (ii) debt service coverage and (iii) cash flow coverage. At December 31, 2004, the Company was in compliance with those covenants.
	For the years ended December 31, 2004, 2003 and 2002, interest cost incurred was $1,084,000, $2,103,000 and $2,562,000, respectively, of which $369,000, $177,000 and $1,000, respectively, was capitalized by the Company as a cost of buildings constructed for its own use, and $813,000, $2,001,000 and $3,162,000, respectively, was charged to operations.

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7.	Mortgages Payable:
	In January 1996, the Company entered into a long-term, fixed rate loan for $39,450,000. The loan bears interest at a rate of 7.435% per annum and provides for a ten-year term with monthly principal and interest payments of $330,000 and the balance due in February 2006. The loan is secured by a first mortgage lien on certain of the Company’s properties. As of December 31, 2004, the aggregate carrying value of these properties totaled $58,049,000. The outstanding principal balance as of December 31, 2004 and 2003 was $22,466,000 and $26,118,000, respectively.
	In February 2004, the Company increased its ownership in the Partnership to 100 percent (see Note 4). In October 1997, the Partnership entered into a long-term, fixed rate loan for $12,000,000. The loan bears interest at a rate of 7.37% per annum with monthly principal and interest payments of $103,000 and the principal balance due in September 2007. The loan is secured by a first mortgage lien on certain of the Partnership’s properties. As of December 31, 2004, the aggregate carrying value of the properties totaled $28,893,000 and the outstanding principal balance was $8,606,000.
	The Company has acquired four properties subject to mortgages securing loans in the aggregate original principal balance of $7,214,000 (collectively the “Mortgages”) with maturities between December 2007 and December 2009. In December 2004, the Company sold one of the properties and the related mortgage was simultaneously paid, which accounted for $2,455,000 of the original principal balance. The remaining Mortgages bear interest at a weighted average rate of 8.45% per annum and have a weighted average maturity of 2.4 years, with an aggregate monthly payment of principal and interest of $60,000. In addition to the Mortgages, the Company has letters of credit that also secure two of the loans, which collectively total $2,426,000. As of December 31, 2004, the aggregate carrying value of these three properties and letters of credit totaled $10,751,000. As of December 31, 2004 and 2003, the outstanding principal balances secured by the Mortgages totaled $2,189,000 and $4,244,000, respectively.
	In connection with the acquisition of Captec Net Lease Realty, Inc. (“Captec”) in December 2001, the Company acquired three properties subject to mortgages securing loans with an aggregate principal balance of $1,806,000 (collectively, the “Captec Mortgages”) with maturities between March 2014 and March 2019. The Captec Mortgages bear interest at a weighted average rate of 9.0% per annum and have a weighted maturity of 7.4 years, with an aggregate monthly payment of principal and interest of $25,000. As of December 31, 2004, the aggregate carrying value of these three properties totaled $4,003,000. As of December 31, 2004 and 2003, the outstanding principal balances of the loans secured by the Captec Mortgages totaled $1,328,000 and $1,497,000, respectively.
	In June 2002, the Company entered into a long-term, fixed rate loan for $21,000,000. The loan bears interest at a rate of 6.9% per annum and provides for a 10-year term, with monthly principal and interest payments of $138,000 and the balance due in July 2012. The loan is secured by a first mortgage lien on five of the Company’s properties. As of December 31, 2004, the aggregate carrying value of these properties totaled $27,111,000. As of December 31, 2004 and 2003, the outstanding principal balance was $20,508,000 and $20,721,000, respectively.
	In July 2002, Services entered into a long-term, fixed rate loan for $2,340,000. The loan bore interest at a rate of 7.42% per annum with monthly principal and interest payments of $18,000 and the principal balance due in July 2012. The loan was secured by a first mortgage lien on one of Services’ properties. As of December 31, 2003, the outstanding principal balance was $2,281,000. In August 2004, the Company disposed of the property, at which time the buyer assumed the loan.

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In November 2003, the Company entered into a long-term, fixed rate interest-only loan for $95,000,000. The loan bears interest at a rate of 5.42% per annum with monthly interest payments of $435,000 and the principal balance due in November 2013. The loan is secured by a first mortgage lien on the DC Office Properties. As of December 31, 2004, the aggregate carrying value of these properties totaled $155,601,000. As of December 31, 2004 and 2003, the outstanding principal balance was $95,000,000.

In February 2004, the Company acquired a property subject to a mortgage securing a loan for $6,952,000. The loan bears interest at a rate of 6.90% per annum with monthly principal and interest payments of $68,000 and the balance due in January 2017. As of December 31, 2004, the aggregate carrying value of the property was $12,358,000. The outstanding principal balance as of December 31, 2004, was $6,665,000.

In December 2004, the Company acquired a property subject to a mortgage securing loan for $408,000. The loan bears interest at a rate of 9.375% per annum with monthly principal and interest payments of $5,000 and the balance due in September 2014. As of December 31, 2004, the aggregate carrying value of this property was $697,000. The outstanding principal balance as of December 31, 2004, was $406,000.

The following is a schedule of the annual maturities of the Company’s mortgages payable (dollars in thousands):

2005	$	4,070
2006		22,376
2007		8,776
2008		1,156
2009		964
Thereafter		119,826
	$	157,168

8.	Notes Payable:
	The Company filed a prospectus supplement to its shelf registration for each issuance of notes outlined in the table below (dollars in thousands).

														Commencement
						Discounted								Day of Semi-
		Purchase				Purchase		Stated			Effective			Annual Interest	Maturity
	Issue Date	Price		Discount(3)		Price		Rate			Rate(4)			Payments	Date
2008 Notes (1)	March 1998	$	100,000	$	271	$	99,729		7.125	%		7.163	%	September 1998	March 2008
2004 Notes(1)(5)	June 1999		100,000		392		99,608		8.125	%		7.547	%	December 1999	June 2004
2010 Notes(1)	September 2000		20,000		126		19,874		8.500	%		8.595	%	March 2001	September 2010
2012 Notes(1)	June 2002		50,000		287		49,713		7.750	%		7.833	%	December 2002	June 2012
2014 Notes(1)(2)(6)	June 2004		150,000		440		149,560		6.250	%		5.910	%	June 2004	June 2014

(1)	The proceeds from the note issuance were used to pay down outstanding indebtedness of the Company’s Credit Facility.
(2)	The proceeds from the note issuance were used to repay the obligation of the 2004 Notes.
(3)	The note discounts are amortized to interest expense over the respective term of each debt obligation using the effective interest method.
(4)	Includes the effects of the discount, treasury lock gain and swap gain (as applicable).
(5)	The Company entered into a treasury rate lock agreement which fixed a treasury rate of 5.1854% on a notional amount of $92,000,000. Upon issuance of the 2004 Notes, the Company terminated the treasury rate lock agreement resulting in a gain of $2,679,000. The gain was deferred and amortized as an adjustment to interest expense over the term of the 2004 Notes using the effective interest method.
(6)	The Company entered into a forward starting interest rate swap agreement which fixed a swap rate of 4.61% on a notional amount of $94,000,000. Upon issuance of the 2014 Notes, the Company terminated the forward starting interest rate swap agreement resulting in a gain of $4,148,000. The gain has been deferred and is being amortized as an adjustment to interest expense over the term of the 2014 Notes using the effective interest method.

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	Each issuance of notes is redeemable at the option of the Company, in whole or in part, at a redemption price equal to the sum of (i) the principal amount of the notes being redeemed plus accrued interest thereon through the redemption date and (ii) the make-whole amount, as defined in the respective supplemental indenture notes.
	In connection with the debt offerings, the Company incurred debt issuance costs totaling $4,193,000 consisting primarily of underwriting discounts and commissions, legal and accounting fees, rating agency fees and printing expenses. Debt issuance costs have been deferred and are being amortized over the term of the respective notes using the effective interest method.
	In accordance with the terms of the indenture, pursuant to which the Company’s notes have been issued, the Company is required to meet certain restrictive financial covenants, which, among other things, require the Company to maintain (i) certain leverage ratios and (ii) certain interest coverage. At December 31, 2004, the Company was in compliance with those covenants.
	In November 2001, the Company entered into an unsecured $70,000,000 term note (“Term Note”), due November 30, 2004, to finance the acquisition of Captec and for the repayment of indebtedness and related expenses in connection therewith. As of December 31, 2003, the Term Note had an outstanding principal balance of $20,000,000. The Term Note bore interest at a rate of 175 basis points above LIBOR. In November 2004, the Company used proceeds from the Credit Facility to repay the obligation of the Term Note. In connection with the Term Note, the Company incurred debt costs of $376,000 consisting primarily of bank commitment fees. The Term Note costs were deferred and amortized over the term of the loan commitment using the straight-line method which approximated the effective interest method.
9.	Financing Lease Obligation:
	In July 2004, the Company sold five investment properties for approximately $26,041,000 and subsequently leased back the properties under a 10-year financing lease obligation. The Company may repurchase one or more of the properties subject to put and call options included in the financing lease. In accordance with the provisions of SFAS No. 66, “Accounting for Sales of Real Estate,” the Company has recorded this transaction as a financing transaction. The 10-year financing lease bears an interest rate of 5% annually with monthly interest payments of $109,000 and expires in June 2014 unless either the put or call option is exercised.
10.	Preferred Stock:
	In December 2001, the Company issued 1,999,974 shares of 9% Non-Voting Series A Preferred Stock (the “Series A Preferred Stock”) in connection with the acquisition of Captec. Holders of the Series A Preferred Stock are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at a rate of nine percent of the $25.00 liquidation preference per annum (equivalent to a fixed annual amount of $2.25 per share). The Series A Preferred Stock ranks senior to the Company’s common stock with respect to distribution rights and rights upon liquidation, dissolution or winding up of the Company. The Company may redeem the Series A Preferred Stock on or after December 31, 2006, in whole or from time to time in part, for cash, at a redemption price of $25.00 per share, plus all accumulated and unpaid distributions.
	In 2004, 2003 and 2002, as a result of a legal action in connection with the merger of Captec, the Company reduced the number of Series A Preferred Stock shares issued and outstanding by 56, 379 and 217,950, respectively.
	In August 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 10,000 shares of 6.70% Non-Voting Series B Cumulative Convertible Perpetual Preferred

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	Stock (the “Series B Convertible Preferred Stock”) and received gross proceeds of $25,000,000. In connection with this offering, the Company incurred stock issuance costs totaling approximately $687,000, consisting primarily of placement fees and legal and accounting fees. The Series B Convertible Preferred Stock is convertible at the option of the holder, into 1,293,996 shares of the Company’s common stock on and after the first anniversary from the date on which the shares were issued. Holders of the Series B Convertible Preferred Stock are entitled to receive, when and as authorized by the board of directors, cumulative preferential cash distributions at the rate of 6.70 percent of the $2,500.00 liquidation preference per annum (equivalent to a fixed annual amount of $167.50 per share). The Series B Convertible Preferred Stock ranks pari passu with the Series A Preferred Stock and ranks senior to the Company’s common stock with respect to distribution rights and rights upon liquidation, dissolution or winding up of the Company. The Company may redeem the Series B Convertible Preferred Stock on or after August 13, 2008, in whole or from time to time in part, for cash, at a redemption price of $2,500.00 per share, plus all accumulated and unpaid distributions.
11.	Common Stock:
	In 2004, 2003 and 2002, as a result of a legal action in connection with the merger of Captec, the Company reduced the number of common stock issued and outstanding by 51, 823 and 474,037, respectively.
	In July 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 5,600,000 shares of common stock and received gross proceeds of $100,800,000. In connection with this offering, the Company incurred stock issuance costs totaling approximately $5,374,000, consisting primarily of underwriters’ commissions and fees, legal and accounting fees and printing expenses.
	In December 2003, the Company filed a prospectus supplement to its shelf registration statement and issued 3,250,000 shares of common stock and received gross proceeds of $56,517,000. Subsequently, the Company issued an additional 487,500 shares in connection with the underwriters’ over-allotment option and received gross proceeds of $8,478,000. In connection with these offerings, the Company incurred stock issuance costs totaling approximately $671,000, consisting primarily of underwriters’ commissions and fees, legal and accounting fees and printing expenses.
	Under the terms of the limited partnership agreement of the Partnership, CTA had the right to convert its 80 percent limited partnership interest into shares of the Company’s common stock (see Note 4). In February 2004, CTA exercised its right to convert and the Company issued 953,551 shares of common stock to CTA in a private transaction in exchange for CTA’s 80 percent limited partnership interest.
12.	Employee Benefit Plan:
	Effective January 1, 1998, the Company adopted a defined contribution retirement plan (the “Retirement Plan”) covering substantially all of the employees of the Company. The Retirement Plan permits participants to defer up to a maximum of 15 percent of their compensation, as defined in the Retirement Plan, subject to limits established by the Internal Revenue Code. The Company matches 50 percent of the participants’ contributions up to a maximum of six percent of a participant’s annual compensation. The Company’s contributions to the Retirement Plan for the years ended December 31, 2004, 2003 and 2002 totaled $140,000, $150,000 and $113,000, respectively.

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13.	Dividends:
	The following presents the characterization for tax purposes of common stock dividends paid to stockholders for the years ended December 31:

	2004		2003		2002
Ordinary income	$	0.916	$	0.969	$	1.174
Capital gain		0.040		-		0.006
Qualified 5-year Gain		-		0.005		-
Unrecaptured Section 1250 Gain		0.041		0.037		0.005
Nontaxable distributions		0.293		0.269		0.085
	$	1.290	$	1.280	$	1.270

	The Series A Preferred Stock dividends of $2.25 per share paid in each of the years ended December 31, 2004, 2003 and 2002, were characterized as ordinary income for tax purposes. The Series B Convertible Preferred Stock dividends of $167.50 and $50.25 per share paid during the years ended December 31, 2004 and 2003, respectively, were characterized as ordinary income for tax purposes.
14.	Dissenting Shareholders’ Settlement:
	During the year ended December 31, 2003, the Company recorded a dissenting shareholders’ settlement expense of $2,413,000 related to the appraisal rights litigation disclosed in Item 3 of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002, that arose as a result of the merger with Captec in December 2001 (the “Appraisal Action”). In February 2003, the Company entered into a settlement agreement with the beneficial owners of the alleged 1,037,946 dissenting shares (including the petitioners in the Appraisal Action) which required the Company to pay $15,569,000, which approximated the value of the original merger consideration (which included cash, common stock and Series A Preferred Stock shares) at the time of the litigation settlement plus the dividends that would have been paid if the shares had been issued at the time of the merger. In February 2003, the parties filed a stipulation and order of dismissal and the Court entered the order of dismissal, dismissing the Appraisal Action with prejudice.
15.	Transition Costs:
	During the year ended December 31, 2004, the Company recorded a transition cost of $3,741,000 including severance, accelerated vesting of restricted stock, and recruitment costs in connection with the appointment of Craig Macnab as Chief Executive Officer in February 2004, and the resignation of Gary M. Ralston as President and Chief Operating Officer in May 2004.
16.	Income Taxes:
	For income tax purposes, the Company has one TRS, Services, in which certain real estate activities are conducted. Services treats depreciation expense and certain other items differently for tax than for financial reporting purposes. The principal differences between Services’ effective tax rates for the years ended December 31, 2004, 2003 and 2002, and the statutory rates relate to state taxes and nondeductible expenses such as meals and entertainment expenses.

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The components of the net income tax asset (liability) consist of the following at December 31 (dollars in thousands):

	2004			2003
Temporary differences:
Depreciation	$	(211	)	$	(249	)
Stock based compensation		59			13
Other		(40	)		(97	)
Net operating loss carryforward		-			2,867
Net deferred income tax asset (liability)	$	(192	)	$	2,534
Current income taxes payable		(510	)		-
Income tax asset (liability)	$	(702	)	$	2,534

In assessing the ability to realize a deferred tax asset, management considers whether it is more likely than not that some portion or all of the deferred tax asset will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon the level of historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize all of the benefits of these deductible differences that existed as of December 31, 2004.

The income tax (expense) benefit has been allocated to earnings (loss) from continuing operations and to earnings (loss) from discontinued operations for the years ended December 31, 2004, 2003 and 2002. The income tax (expense) benefit consists of the following components for the years ended December 31, 2004, 2003 and 2002 (dollars in thousands):

	2004			2003			2002
Net earnings of Services before income taxes	$	7,291		$	2,474		$	1,008
Provision for income taxes:
Current:
Federal		(420	)		-			-
State and local		(90	)		-			-
Deferred:
Federal		(2,356	)		(791	)		(326	)
State and local		(431	)		(148	)		(61	)
Total provision for income taxes		(3,297	)		(939	)		(387	)
Services’ net earnings  from operations	$	3,994		$	1,535		$	621

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17.

Earnings from Discontinued Operations:

Real Estate, Held for Investment – In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the Company has classified the revenues and expenses related all investment properties that were sold and leasehold interests that expired as discontinued operations. The Company has also classified revenues and expenses related to the four Investment Properties sold during the quarter ended March 31, 2005 and the one Investment Property held for sale at March 31, 2005, as discontinued operations. The following is a summary of the earnings from discontinued operations from real estate held for investment for each of the years ended December 31 (dollars in thousands):

	2004			2003			2002
	(revised)			(revised)			(revised)
Revenues:
Rental income from operating leases	$	4,193		$	6,926		$	11,725
Earned income from direct financing leases		246			455			578
Real estate expense reimbursement from tenants		3			28			205
Contingent rental income		-			26			78
Interest and other income from real estate transactions		257			109			19
		4,699			7,544			12,605
Operating expenses:
General and administrative		(4	)		34			35
Real estate		259			219			498
Depreciation and amortization		666			745			1,167
Provision for loss on impairment of real estate		-			-			1,672
		921			998			3,372
Other expenses (revenues):
Interest and other income		(56	)		(100	)		(19	)
Interest expense		228			270			304
		172			170			285
Earnings before gain on disposition of real estate		3,606			6,376			8,948
Gain on disposition of real estate, net of losses on disposition of $544,000, $969,000 and $1,806,000, respectively		2,523			287			260
Earnings from discontinued operations from real estate held for investment	$	6,129		$	6,663		$	9,208

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Real Estate, Held for Sale – During the years ended December 31, 2004, 2003 and 2002, the Company has classified the revenues and expenses related to its held for sale properties, which generated rental revenues, as discontinued operations. In addition, the Company also classified revenues and expenses related to the Inventory Properties that were held for sale as of December 31, 2004, as discontinued operations. The following is a summary of the earnings from discontinued operations from real estate held for sale for each of the years ended December 31 (dollars in thousands):

	2004			2003			2002
	(revised)			(revised)
Revenues:
Rental income from operating leases	$	2,313		$	3,294		$	4,868
Real estate expense reimbursement from tenants		183			123			102
Gain on disposition of real estate held for sale		18,702			8,928			6,455
Interest and other from real estate transactions		224			54			(100	)
		21,422			12,399			11,325
Operating expenses:
General and administrative		33			3			-
Real estate		343			146			89
Depreciation and amortization		4			-			728
		380			149			817
Other expenses (revenues):
Interest and other income		-			-			-
Interest expense		511			1,007			1,475
		511			1,007			1,475
Earnings before provision for income taxes and minority interest		20,531			11,243			9,033
Provision for income taxes		(5,841	)		(3,898	)		(3,429	)
Minority interest		(5,144	)		(975	)		-
Earnings from discontinued operations from real estate held for sale	$	9,546		$	6,370		$	5,604

18.	Derivatives:
	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. As required by SFAS No. 133, the Company records all derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting designation. Derivatives used to hedge the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges.
	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. 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 receipt of variable rate amounts in exchange for fixed-rate payments over the life of the agreements without exchange of the underlying principal amount. To date, such derivatives have been used to hedge the variable cash flows associated with floating rate debt and forecasted interest payments of a forecasted issuance of debt.

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For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative is initially reported in other comprehensive income (outside of earnings) and subsequently reclassified to earnings when the hedged transaction affects earnings, and the ineffective portion of changes in the fair value of the derivative is recognized directly in earnings. The Company had no outstanding derivatives as of December 31, 2004. Additionally, the Company does not use derivatives for trading or speculative purposes or currently have any derivatives that are not designated as hedges.

The Company discontinues hedge accounting prospectively when it is determined that the derivative is no longer effective in offsetting changes in the cash flows of the hedged item, the derivative expires or is sold, terminated, or exercised, the derivative is re-designated as a hedging instrument or management determines that designation of the derivative as a hedging instrument is no longer appropriate.

When hedge accounting is discontinued, the Company continues to carry the derivative at its fair value on the balance sheet, and recognizes any changes in its fair value in earnings or may choose to cash settle the derivative at that time.

In June 2004, the Company terminated its forward-starting interest rate swaps with a notional amount of $94,000,000 that were hedging the risk of changes in forecasted interest payments on a forecasted issuance of long-term debt. The fair value of the interest rate swaps when terminated was an asset of $4,148,000, which had been deferred in other comprehensive income. The hedged forecasted interest payments that were designated in the hedging relationships are still probable of occurring and therefore, the Company reclassified the $4,148,000 gain that was deferred in other comprehensive income as the hedged forecasted interest payments affect earnings. During the year ended December 31, 2004, the Company amortized $169,000 to interest expense from unamortized interest rate hedge gain. During the year ended December 31, 2005, the Company expects to reclassify $326,000 to interest expense. The Company has no derivative financial instruments outstanding at December 31, 2004.

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19.

Performance Incentive Plan:

The Company’s 2000 Performance Incentive Plan (“2000 Plan”) allows the Company to award or grant to key employees, directors and persons performing consulting or advisory services for the Company or its affiliates stock options, stock awards, stock appreciation rights, Phantom Stock Awards, Performance Awards and Leveraged Stock Purchase Awards, each as defined in the 2000 Plan. The following summarizes the stock-based compensation activity for the years December 31:

	Number of Shares
	2004			2003			2002
Outstanding, January 1		1,608,144			1,747,851			1,692,158
Options granted		-			15,000			359,300
Options exercised		(886,962	)		(132,357	)		(180,640	)
Options surrendered		(81,417	)		(22,350	)		(122,967	)
Restricted stock granted		205,579			76,407			64,000
Restricted stock issued		(205,579	)		(76,407	)		(64,000	)
Restricted stock surrendered		(29,926	)		(5,950	)		-
Restricted stock cancelled		29,926			5,950			-
Outstanding, December 31		639,765			1,608,144			1,747,851
Exercisable, December 31		537,244			1,372,184			1,293,284
Available for grant, December 31		1,460,636			1,561,192			1,628,809

The 205,579, 76,407 and 64,000 shares of restricted stock granted during the years ended December 31, 2004, 2003 and 2002, respectively, had a weighted average grant price of $16.97, $14.94 and $15.35, respectively, per share. The following represents the weighted average option exercise price information for the years ended December 31:

	2004		2003		2002
Outstanding, January 1	$	14.51	$	14.44	$	15.79
Granted during the year		-		14.57		15.25
Exercised during the year		13.69		13.51		12.17
Outstanding, December 31		15.33		14.51		14.44
Exercisable, December 31		15.36		14.40		14.58

The following summarizes the outstanding options and the exercisable options at December 31, 2004:

	Option Price Range
	$10.1875		$14.5700
	to		to
	$13.6875		$17.8750		Total
Outstanding options:
Number of shares		144,435		495,330		639,765
Weighted-average exercise price	$	12.13	$	16.27	$	15.33
Weighted-average remaining contractual life in years		3.3		5.1		4.7
Exercisable options:
Number of shares		141,096		396,148		537,244
Weighted-average exercise price	$	12.10	$	16.52	$	15.36

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One-third of the grant to each individual becomes exercisable at the end of each of the first three years of service following the date of the grant and the options’ maximum term is 10 years.
Pursuant to the 2000 Plan, the Company has granted and issued shares of restricted stock to certain officers and directors of the Company. The following is a summary of the restricted stock grants during the years ended December 31, 2004, 2003 and 2002:

				Number of Years for	Shares are 100%
	Shares		Annual Vesting Rate	Vesting	Vested on
Officers: June 2002		58,000	15% - 30%	5	January 1, 2007
March 2003		40,407	25%	4	January 1, 2007
March 2003		30,000	15% - 30%	5	January 1, 2008
April 2004		100,000	20%	4	January 1, 2008
April 2004		35,000	20%	5	January 1, 2009
April 2004		50,211	14.3%	6	January 1, 2010
September 2004		15,000	14.3%	6	January 1, 2011
Total issued		328,618
Directors: June 2002		6,000	50%	2	January 1, 2004
June 2003		6,000	50%	2	January 1, 2005
August 2004		4,500	50%	2	January 1, 2006
December 2004		868	50%	2	January 1, 2006
Total issued		17,368

	During 2004 and 2003, the Company cancelled 29,926 and 5,950, respectively, shares of restricted stock. Compensation expense for the restricted stock is determined based upon the fair value at the date of grant and is recognized as the greater of the amount amortized over a straight lined basis or the amount vested over the vesting periods. For the years ended December 31, 2004, 2003 and 2002, the Company recognized $1,113,000, $1,151,000 and $853,000, respectively, of such expense. In addition, in 2004, the Company recognized $1,397,000 of transition cost related to the vesting of restricted stock.
20.	Fair Value of Financial Instruments:
	The Company believes the carrying value of its Credit Facility approximates fair value based upon its nature, terms and variable interest rate. The Company believes the carrying value of its financing lease obligation approximates fair value based upon its nature, terms and interest rate. The Company believes that the carrying value of its cash and cash equivalents, line of credit, note and accrued interest receivable from related party, mortgages, notes and accrued interest receivable, receivables, mortgages payable, accrued interest payable and other liabilities at December 31, 2004 and 2003 approximate fair value, based upon current market prices of similar issues. At December 31, 2004 and 2003, the fair value of the Company’s notes payable was $353,647,000 and $295,139,000, respectively, based upon the quoted market price.

21.	Related Party Transactions:
	For additional related party disclosures see Note 4.
	The Company has revolving lines of credit with Services that allow for an aggregate borrowing capacity of $105,000,000. The lines of credit each bear interest at prime rate plus 0.25% per annum and expire on May 9, 2006 and are secured by a pledge of the real estate and/or the other

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assets owned by the respective borrower. The outstanding aggregate principal balance of the lines of credit at December 31, 2004 and 2003 was $42,473,000 and $55,234,000, respectively, and bore interest at a rate of 5.50% and 4.25%, respectively, per annum. In connection with the lines of credit from Services, the Company earned $3,819,000, $3,327,000, and $6,018,000 in interest and fees during the years ended December 31, 2004, 2003 and 2002, respectively, each of which was eliminated in consolidation.

In 2004, the Company provided disposition and development services to an affiliate of James M. Seneff Jr. and Robert A. Bourne, each a member of the Company’s board of directors. In connection therewith, the Company received an aggregate of $175,000 in fees.

In September 2000, a wholly-owned subsidiary of Services entered into a $6,000,000 promissory note with an affiliate in which James M. Seneff, Jr., a director of the Company, and Kevin B. Habicht, a director and officer of the Company, own a majority equity interest. The note was secured by the affiliate’s common stock in OAMI, formerly know as CNL Commercial Finance, Inc. In July 2003, the promissory note was paid in full. In addition, the wholly-owned subsidiary of Services has an option with the affiliate to purchase up to approximately 79 percent of all the common shares of OAMI equal to the purchase price paid by the affiliate for such common stock. The option expires on December 31, 2010.

In September 2000, a wholly-owned subsidiary of the Services entered into a $15,000,000 line of credit agreement with OAMI. Interest is payable monthly and the principal balance was due in full upon termination of the line of credit. In March 2004, the maturity date of the line of credit agreement was extended to March 31, 2005. In December 2003, the line of credit was amended to have a borrowing capacity of $35,000,000. In May 2004, the line of credit agreement was amended to temporarily increase the available credit to $45,000,000 until September 2004, at which time the available credit decreased to $35,000,000. In December 2004, the credit agreement was terminated. During the years ended December 31, 2004, 2003 and 2002, the Company recognized $1,732,000, $927,000 and $1,898,000, respectively of interest and fee income related to the line of credit.

An affiliate of James M. Seneff, Jr., a director of the Company, provides certain administrative, tax and technology services to the Company. In connection therewith, the Company paid $999,000, $1,363,000 and $1,258,000 in fees relating to these services during the years ended December 31, 2004, 2003 and 2002, respectively.

In 2002, the Company extended the maturity dates to dates between June and December 2007 on four mortgages securing an original aggregate principal indebtedness totaling $8,514,000 from affiliates of James M. Seneff, Jr. and Robert A. Bourne, each members of the Company’s board of directors. The mortgage loans bear interest at a weighted average of 8.9%, per annum with interest payable monthly or quarterly. As of December 31, 2004 and 2003, the aggregate principal balance of the four mortgages, included in mortgages, notes and accrued interest receivable on the balance sheet, was $2,482,000 and $2,935,000, respectively. In connection therewith, the Company recorded $243,000, $281,000 and $663,000 as interest from unconsolidated affiliates and other mortgage receivables during the years ended December 31, 2004, 2003 and 2002, respectively.

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22.	Segment Information:
	The Company has identified two primary financial segments: (i) real estate held for investment and (ii) real estate held for sale. The following tables represent the segment data and a reconciliation to the Company’s condensed consolidated totals for the years ended December 31, 2004, 2003 and 2002 (dollars in thousands):

	Real Estate								Condensed
	Held for		Real Estate			Eliminations			Consolidated
	Investment		Held for Sale			(Intercompany)			Totals
	(revised)		(revised)						(revised)
2004
External revenues	$	114,900	$	4,695		$	-		$	119,595
Intersegment revenues		3,819		-			(3,819	)		-
Interest revenue		7,976		1,886			-			9,862
Other revenue		1,087		557			-			1,644
Interest expense		32,899		2,315			(2,833	)		32,381
Depreciation and amortization		16,564		164			-			16,728
Operating expenses		28,247		10,679			(168	)		38,758
Equity in earnings of unconsolidated affiliates		8,733		(68	)		(3,941	)		4,724
Provision for income taxes		-		2,544			-			2,544
Minority interest		-		(1,191	)		(52	)		(1,243	)
Earnings (loss) from continuing operations		58,805		(4,735	)		(4,811	)		49,259
Earnings from discontinued operations		6,129		9,546			-			15,675
Net earnings	$	64,934	$	4,811		$	(4,811	)	$	64,934
Assets	$	1,294,755	$	70,980		$	(65,687	)	$	1,300,048
Additions to long-lived assets:
Real estate	$	134,565	$	74,024		$	-		$	208,589

	Real Estate								Condensed
	Held for		Real Estate			Eliminations			Consolidated
	Investment		Held for Sale			(Intercompany)			Totals
	(revised)		(revised)						(revised)
2003
External revenues	$	95,246	$	3,247		$	-		$	98,493
Intersegment revenues		3,327		471			(3,798	)		-
Interest revenue		2,738		1,315			-			4,053
Other revenue		760		898			-			1,658
Interest expense		27,462		1,263			(2,096	)		26,629
Depreciation and amortization		12,824		230			-			13,054
Operating expenses		21,129		10,986			(747	)		31,368
Equity in earnings of unconsolidated affiliates		6,154		(216	)		(1,597	)		4,341
Provision for income taxes		-		2,958			-			2,958
Minority interest		-		8			(20	)		(12	)
Earnings (loss) from continuing operations		46,810		(3,798	)		(2,572	)		40,440
Earnings from discontinued operations		6,663		6,370			-			13,033
Net earnings	$	53,473	$	2,572		$	(2,572	)	$	53,473
Assets	$	1,208,310	$	80,945		$	(75,477	)	$	1,213,778
Additions to long-lived assets:
Real estate	$	215,730	$	58,612		$	-		$	274,342

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	Real Estate								Condensed
	Held for		Real Estate			Eliminations			Consolidated
	Investment		Held for Sale			(Intercompany)			Totals
	(revised)		(revised)						(revised)
2002
External revenues	$	79,454	$	1,290		$	-		$	80,744
Intersegment revenues		6,018		-			(6,018	)		-
Interest revenue		1,742		2,611			-			4,353
Other revenue		724		570			-			1,294
Interest expense		26,417		2,518			(3,901	)		25,034
Depreciation and amortization		10,575		170			-			10,745
Operating expenses		15,311		7,086			(197	)		22,200
Equity in earnings of unconsolidated affiliates		3,215		(756	)		(659	)		1,800
Provision for income taxes		-		3,042			-			3,042
Minority interest		-		-			(8	)		(8	)
Earnings (loss) from continuing operations		38,850		(3,017	)		(2,587	)		33,246
Earnings from discontinued operations		9,208		5,604			-			14,812
Net earnings	$	48,058	$	2,587		$	(2,587	)	$	48,058
Assets	$	954,108	$	77,320		$	(73,128	)	$	958,300
Additions to long-lived assets:
Real estate	$	44,437	$	27,229		$	-		$	71,666

23.	Major Tenants:
	For the years ended December 31, 2004, the Company recorded rental and earned income from one of the Company’s tenants, the United States of America, of $18,181,000. During the years ended December 31, 2003 and 2002, the Company recorded rental and earned income from Eckerd Corporation, of $11,278,000 and $12,467,000, respectively. The rental and earned income from Eckerd Corporation and the United States of America represents more than 10 percent of the Company’s rental and earned income for each of the respective years.
24.	Commitments and Contingencies:
	In January 2002, Calapasas Investment Partnership No. 1 Limited Partnership (“Calapasas”), a Captec stockholder, filed a class action complaint against Captec, certain former Captec directors, and the Company (as successor in interest to Captec). In its complaint Calapasas alleged that Captec and certain of its directors violated provisions of the Securities and Exchange Act of 1934 by misrepresenting the value of certain Captec assets on certain of its financial statements in 2000 and 2001. In July 2004, the parties entered into a Stipulation of Settlement which was filed with the court. Pursuant to the Stipulation of Settlement, the total settlement amount paid to the plaintiffs was $225,000, which included payment of attorneys’ fees and costs to plaintiffs’ counsel. In July 2004, a final judgment of dismissal was entered by the court.
	In the ordinary course of its business, the Company is a party to various other legal actions which management believes is routine in nature and incidental to the operation of the business of the Company. Management believes that the outcome of the proceedings will not have a material adverse effect upon its operations, financial condition or liquidity.

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25.	Subsequent Events:
	In January 2005, the Company entered into a purchase agreement with James M. Seneff, Jr., a director of the Company, Kevin B. Habicht, an officer and director of the Company, and Gary M. Ralston, a former officer and director of the Company, which provided that the Company would acquire their collective 1.3 percent voting interest in Services. Effective, January 1, 2005, the Company acquired the remaining interest in Services increasing the Company’s ownership in Services to 100 percent.
	In January 2005, the Company entered into an agreement with National Properties Corporation (“NAPE”), which provided that NAPE would merge with and into a subsidiary of the Company. At the time of the merger agreement, NAPE owned 43 properties located in 12 states which were leased to 17 tenants. If the acquisition is consummated, the Company will issue approximately 1,637,000 shares of common stock to holders of NAPE common stock. Total consideration for the merger transaction is estimated to be approximately $61,000,000 based on the Company’s closing stock price on the date of the merger agreement. Completion of the merger is subject to customary closing conditions, including the approval of the holders of a majority of the outstanding shares of NAPE common stock. The Company has entered into a shareholders’ agreement with the holders of approximately 53 percent of the outstanding NAPE common stock whereby these holders have agreed to vote in favor of the merger. However, the Company may terminate the merger agreement if a majority of the NAPE shareholders who are not bound by the shareholders’ agreement do not approve the merger. The merger does not require approval by the Company’s shareholders. The Company anticipates that the merger will be completed not later than the second quarter of 2005.

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