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

FORM 10-Q

Commission file number 0-20047

Corporate Office Properties Trust
(Exact name of registrant as specified in its charter)

Registrant's telephone number, including area code: (410) 730-9092

        Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

ý Yes                                                                                                  o No

        On November 7, 2002, 23,762,552 of the Company's Common Shares of Beneficial Interest, $0.01 par value, were issued.

TABLE OF CONTENTS

FORM 10-Q

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Corporate Office Properties Trust and Subsidiaries
Consolidated Balance Sheets
(Dollars in thousands)

See accompanying notes to financial statements.

3

Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Operations
(Dollars in thousands, except per share data)
(unaudited)

See accompanying notes to financial statements.

4

Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Cash Flows

(Dollars in thousands)
(unaudited)

See accompanying notes to financial statements.

5

Corporate Office Properties Trust and Subsidiaries
Notes to Consolidated Financial Statements

(Dollars in thousands, except per share data)
(unaudited)

1.  Organization

        Corporate Office Properties Trust ("COPT") and subsidiaries (collectively, the "Company") is a fully- integrated and self-managed real estate investment trust ("REIT"). We focus principally on the ownership, management, leasing, acquisition and development of suburban office properties located in select submarkets in the Mid-Atlantic region of the United States. COPT is qualified as a REIT as defined in the Internal Revenue Code and is the successor to a corporation organized in 1988. As of September 30, 2002, our portfolio included 111 office properties, including one owned through a joint venture.

        We conduct almost all of our operations principally through our operating partnership, Corporate Office Properties, L.P. (the "Operating Partnership"), for which we are the managing general partner. The Operating Partnership owns real estate both directly and through subsidiary partnerships and limited liability companies ("LLCs"). The Operating Partnership also owns Corporate Office Management, Inc. ("COMI") (together with its subsidiaries defined as the "Service Companies"). A summary of our Operating Partnership's classes of securities and the percentage of the outstanding units of each class owned by COPT as of September 30, 2002 follows:

2.    Basis of Presentation

        The accompanying unaudited interim consolidated financial statements have been prepared in accordance with the rules and regulations for reporting on Form 10-Q. Accordingly, certain information and disclosures required by accounting principles generally accepted in the United States for complete consolidated financial statements are not included herein. These interim financial statements should be read together with the financial statements and notes thereto included in our 2001 Annual Report on Form 10-K. The interim financial statements on the previous pages reflect all adjustments that we believe are necessary for the fair presentation of our financial position and results of operations for the interim periods presented. These adjustments are of a normal recurring nature. The results of operations for such interim periods are not necessarily indicative of the results for a full year.

        We use three different accounting methods to report our investments in entities: the consolidation method, the equity method and the cost method.

Consolidation Method

        We use the consolidation method when we own most of the outstanding voting interests in an entity and can control its operations. This means the accounts of the entity are combined with our accounts. We eliminate balances and transactions between companies when we consolidate these accounts. Our consolidated financial statements include the accounts of:

•

COPT and its wholly-owned subsidiary, Corporate Office Properties Holdings, Inc.;

•

the Operating Partnership;

•

the Operating Partnership's subsidiary partnerships and LLCs; and

•

COMI.

Equity Method

        We use the equity method of accounting when we own an interest in an entity and can exert significant influence over the entity's operations but cannot control the entity's operations. Under the equity method, we report:

•

our ownership interest in the entity's capital as an investment on our Consolidated Balance Sheets; and



•

our percentage share of the earnings or losses from the entity in our Consolidated Statements of Operations.

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Cost Method

        We use the cost method of accounting when we own an interest in an entity and cannot exert significant influence over the entity's operations. Under the cost method, we report:

•

the cost of our investment in the entity as an investment on our Consolidated Balance Sheets; and



•

distributions to us of the entity's earnings in our Consolidated Statements of Operations.

Reclassification

        We reclassified certain amounts from the prior period to conform to the current period presentation of our consolidated financial statements. These reclassifications did not affect consolidated net income or shareholders' equity.

3.    Summary of Significant Accounting Policies

Use of Estimates in the Preparation of Financial Statements

        We make estimates and assumptions when preparing financial statements under generally accepted accounting principles. These estimates and assumptions affect various matters, including:

•

our reported amounts of assets and liabilities in our Consolidated Balance Sheets at the dates of the financial statements;



•

our disclosure of contingent assets and liabilities at the dates of the financial statements; and



•

our reported amounts of revenues and expenses in our Consolidated Statements of Operations during the reporting periods.

        These estimates involve judgments with respect to, among other things, future economic factors that are difficult to predict and are often beyond management's control. As a result, actual amounts could differ from these estimates.

Minority Interests

        As discussed previously, we consolidate the accounts of our Operating Partnership and its subsidiaries into our financial statements. However, we do not own 100% of the Operating Partnership. Our Operating Partnership also did not own 11% of one of its subsidiary partnerships until September 11, 2002, when it acquired that remaining interest for $124 from Clay W. Hamlin, III, our Chief Executive Officer. In addition, COMI did not own 20% of one of its subsidiaries, Martin G. Knott and Associates, LLC, until May 31, 2002, when it acquired that remaining interest. The amounts reported for minority interests on our Consolidated Balance Sheets represent the portion of these consolidated entities' equity that we do not own. The amounts reported for minority interests on our Consolidated Statements of Operations represent the portion of these consolidated entities' net income not allocated to us.

Earnings Per Share

        We present both basic and diluted earnings per Common Share ("EPS"). We compute basic EPS by dividing income available to common shareholders by the weighted-average number of Common Shares of beneficial interest ("Common Shares") outstanding during the period. Our computation of diluted EPS is similar except that:

•

the denominator is increased to include the weighted-average number of potential additional Common Shares that would have been outstanding if securities that are convertible into our Common Shares were converted; and

•

the numerator is adjusted to add back any convertible preferred dividends and any other changes in income or loss that would result from the assumed conversion into Common Shares.

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Our computation of diluted EPS does not assume conversion of securities into our Common Shares if conversion of those securities would increase our diluted EPS in a given period. A summary of the numerator and denominator for purposes of basic and diluted EPS calculations is as follows (in thousands, except per share data):

        Our diluted EPS computation only assumes the conversion of share options and Series D Cumulative Convertible Redeemable Preferred Shares of beneficial interest (the "Series D Preferred Shares") because conversions of Preferred Units, Series A Convertible Preferred Shares of beneficial interest (the "Series A Preferred Shares") and Common Units and vesting of restricted Common Shares would increase diluted EPS in the periods presented.

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Recent Accounting Pronouncements

        On July 1, 2001 and January 1, 2002, we adopted Statement of Financial Accounting Standards No. 141, "Business Combinations" ("SFAS 141"), and No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"), respectively. SFAS 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. The provisions of SFAS 142 require that (1) amortization of goodwill, including goodwill recorded in past business combinations, be discontinued upon adoption of this standard and (2) goodwill be tested annually for impairment and in interim periods if certain events occur indicating that the carrying value of goodwill may be impaired. After completing an evaluation of our unamortized goodwill under the provisions of SFAS 142, we concluded that our carrying value of goodwill was not impaired as of January 1, 2002 and September 30, 2002. The following table summarizes our goodwill amortization and operating results as if goodwill amortization did not occur in the 2001 periods reported herein.

Diluted EPS on net income available to Common Shareholders reported on our Consolidated Statements of Operations would not have changed if goodwill amortization did not occur in the 2001 periods reported herein.

        On January 1, 2002, we adopted Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS 144"). SFAS 144 provides new guidance on recognition of impairment losses on long-lived assets to be held and used and broadens the definition of what constitutes a discontinued operation and how the results of discontinued operations are to be measured. Our adoption of this standard did not impact our Consolidated Balance Sheets or Statements of Operations.

        In April 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections" ("SFAS No. 145"). SFAS 145 generally eliminates the requirement that gains and losses from the retirement of debt be aggregated and, if material, classified as an extraordinary item, net of the related income tax effect. SFAS 145 also eliminates previously existing inconsistencies between the accounting for sale-leaseback transactions and certain lease modifications that have economic effects similar to that of sale-leaseback transactions. SFAS 145 is effective for us on January 1, 2003, although certain aspects of the standard are effective for transactions occurring after May 15, 2002. Upon adoption, SFAS 145 requires that gains or losses from retirement of debt reported as an extraordinary item in prior periods presented be reclassified. We expect the only impact of our

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adoption on January 1, 2003 will be the reclassification of all prior period losses on early retirement of debt from the line on the Consolidated Statements of Operations entitled "extraordinary item" to the line entitled "amortization of deferred financing costs." These reclassifications will not result in changes to net income available to Common Shareholders or basic and diluted EPS on net income available to Common Shareholders. The following table summarizes our losses from early retirement of debt and change to the line entitled "income before extraordinary item and cumulative effect of accounting change" as if such reclassifications were made for the periods reported herein.

4.    Commercial Real Estate Properties

        Operating properties consist of the following:

        Projects under construction or development consist of the following:

Acquisitions

        We acquired the following office properties during the nine months ended September 30, 2002:

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        We also acquired the following during the nine months ended September 30, 2002:

•

a parcel of land located in Annapolis Junction, Maryland that is contiguous to certain of our existing operating properties for $3,757 on January 31, 2002 from an affiliate of Constellation Real Estate, Inc. ("Constellation"). On the date of this transaction, Constellation owned 43% of our Common Shares and had the right to designate nominees for two of the eight positions on our Board of Trustees (see Note 10);



•

a parcel of land located in Chantilly, Virginia for $3,620 on July 18, 2002; and



•

a leasehold interest carrying a right to purchase a parcel of land located in Chantilly, Virginia that is contiguous to two of our existing operating properties for $466 on August 14, 2002.

2002 Construction/Development

        During the nine months ended September 30, 2002, we completed the construction of four office buildings totaling 382,131 square feet. The buildings are located in the Baltimore/Washington Corridor.

        As of September 30, 2002, we are also nearing completion on the construction of two new buildings.

2002 Dispositions

        We sold the following properties during the nine months ended September 30, 2002:

•

a parcel of land located in Hanover, Maryland for $1,300 on March 29, 2002 to a first cousin of Clay W. Hamlin, III, our Chief Executive Officer; we realized a gain of $596 on this sale;



•

a 53,782 square foot office building located in Columbia, Maryland for $7,175 on July 17, 2002, realizing a gain of $374. We occupy a portion of this building under leases carrying four-year terms. Since we continue to lease the property, the gain on the sale was deferred for recognition over the lease terms. Additionally, since we continue to manage the property, the results of operations and the portion of the gain on sale recognized are reflected in continuing operations on our Consolidated Statements of Operations;



•

a parcel of land located in Cranbury, New Jersey for $1,500 on August 9, 2002 to a first cousin of Clay W. Hamlin, III; we realized a gain of $293 on this sale; and



•

a parcel of land located in Oxon Hill, Maryland for $600 on September 30, 2002, realizing a gain of $485.

        The terms of the land parcel sales to Mr. Hamlin's cousins described above were determined as a result of arms-length negotiations. In management's opinion, the resulting sales prices reflect fair value for the properties based on management's knowledge of and experience in the respective real estate markets.

Accounting for Certain Real Estate Joint Ventures

        Prior to 2002, we contributed parcels of land into two real estate joint ventures. In exchange for the contributions of land, we received joint venture interests and $9,600 in cash. Each of these joint ventures constructed office buildings on the land parcels. Each of the joint ventures' operating agreements provided us with the option to acquire the joint venture partners' interests for a pre-determined purchase price over a limited period of time. In February 2002, we acquired the joint venture partner's interest in one of these joint ventures for the pre-determined purchase price of $5,448. In June 2002, we acquired the joint venture partner's interest in the other joint venture for the

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pre-determined purchase price of $6,361. For periods prior to acquiring the joint venture partners' interests, we accounted for our interests in these joint ventures as follows:

•

the costs associated with these land parcels at the time of their respective contributions were reported as commercial real estate properties on our Consolidated Balance Sheets;



•

the cash received from these joint ventures in connection with the land contributions was reported as other liabilities on our Consolidated Balance Sheets. These liabilities were accreted towards the pre-determined purchase price over the life of our option to acquire the joint venture partners' interests. We also reported interest expense in connection with the accretion of these liabilities;



•

as construction of the buildings on these land parcels was completed and operations commenced, we reported 100% of the revenues and expenses associated with these properties on our Consolidated Statements of Operations; and



•

construction costs and debt activity for these projects relating to periods after the respective land contributions were not reported by us.

        Upon completion of these acquisitions, we began consolidating the accounts of the entities with our accounts.

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5.    Investments in and Advances to Unconsolidated Real Estate Joint Ventures

        On February 21, 2002, we acquired the remaining 20% interest in MOR Montpelier LLC not previously owned by us and simultaneously sold the 43,785 square foot building owned by that entity, realizing a gain of $349.

        On February 21, 2002, we also acquired a 50% interest in MOR Montpelier 3 LLC, an entity developing a parcel of land located in Columbia, Maryland.

        Our investments in and advances to unconsolidated real estate joint ventures are accounted for using the equity method of accounting and include the following:

(1)

Includes a mortgage loan receivable of $3,832 at September 30, 2002 and $2,640 at December 31, 2001 carrying an annual interest rate of Prime. The September 30, 2002 balance also includes a $3,750 advance from the joint venture to us. The advance from the joint venture was applied against the mortgage loan receivable in October 2002.

        We have additional commitments pertaining to our real estate joint ventures that are disclosed in Note 15.

        The following table sets forth condensed combined balance sheet information for these unconsolidated real estate joint ventures:

6.    Accounts Receivable

        Our accounts receivable are reported net of an allowance for bad debts of $782 at September 30, 2002 and $723 at December 31, 2001.

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7.    Investments in and Advances to Other Unconsolidated Entities

        Our investments in and advances to other unconsolidated entities include the following:

(1)

Investment includes $245 in notes receivable carrying an interest rate of 12% per annum that are payable on demand.

8.    Deferred Charges

        Deferred charges consist of the following:

(1)

Includes accumulated amortization associated with other intangibles of $151 at September 30, 2002 and $132 at December 31, 2001.

9.    Derivatives

        The following table sets forth derivative contracts we had in place and their respective fair market values ("FMV"):

        We designated each of these derivatives as cash flow hedges. At September 30, 2002, the interest rate swap is effective. During the nine months ended September 30, 2002, we decreased the negative balance in the accumulated other comprehensive loss component of shareholders' equity ("AOCL") and increased minority interests in total by $2,738 to recognize the increase in the fair value of the interest rate swap during that period. Over time, the unrealized loss held in AOCL and minority interests associated with our interest rate swap will be reclassified to earnings. Within the next three months, we expect to reclassify to earnings an estimated $1.0 million of the balances held in AOCL and minority interests.

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        On November 6, 2002 we entered into an interest rate swap agreement with SunTrust Bank that fixes the one-month LIBOR base rate at 2.31% on a notional amount of $50,000. This swap agreement will be effective on January 2, 2003 and carry a two-year term.

10.  Shareholders' Equity

        On March 5, 2002, we participated in an offering of 10,961,000 Common Shares to the public at a price of $12.04 per share; Constellation was the owner of 8,876,172 of these shares and 2,084,828 of these shares were newly issued by us. With the completion of this transaction, Constellation, which had been our largest Common shareholder, no longer owned any of our shares. We contributed the net proceeds from the sale of the newly-issued shares to our Operating Partnership in exchange for 2,084,828 Common Units.

        Also on March 5, 2002, Constellation converted its one remaining Series A Preferred Share into 1.8748 Common Shares. As holder of the Series A Preferred Share, Constellation had the right to nominate two members for election to our Board of Trustees; with the conversion of its Series A Preferred Share into Common Shares, Constellation no longer has that right. Constellation sold one of these Common Shares and we redeemed the fractional share.

        On December 16, 1999, we issued 471,875 Common Shares subject to forfeiture restrictions to certain officers; we issued an additional 12,500 Common Shares to an officer in 2000 that were subject to the same restrictions. The forfeiture restrictions of specified percentages of these shares originally were scheduled to lapse annually through 2004 provided that the officers remain employed by us; in September 2002, the forfeiture restriction lapsing schedule for most of these shares was lengthened to allow for the restrictions to lapse through 2005 and 2006, again provided that the officers remain employed by us. These shares may not be sold, transferred or encumbered while the forfeiture restrictions are in place. Forfeiture restrictions lapsed on 72,659 of these shares in 2002.

        During the nine months ended September 30, 2002, 617,510 Common Units in our Operating Partnership were converted into Common Shares on the basis of one Common Share for each Common Unit.

        We issued 232,798 Common Shares in connection with the exercise of share options during the nine months ended September 30, 2002.

        A summary of the activity in the accumulated other comprehensive loss component of shareholders' equity for the nine months ended September 30, 2002 follows:

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        The components of comprehensive income for the three and nine months ended September 30, 2002 and 2001 follow:

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11.  Dividends and Distributions

        The following summarizes our dividends and distributions for the nine months ended September 30, 2002: