================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003 ------------------ OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 33-86780 PRUCO LIFE INSURANCE COMPANY IN RESPECT OF PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT - -------------------------------------------------------------------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) ARIZONA 22-1944557 ------------------------------- --------------------------------- (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 213 WASHINGTON STREET, NEWARK, NEW JERSEY 07102-2992 ---------------------------------------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (800) 778-2255 ---------------------------------------------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) INDICATE BY CHECK MARK WHETHER THE REGISTRANT: (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES [X] NO [ ] AMENDMENT ______________________________________________________________________ INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS DEFINED IN RULE 12b-2 OF THE EXCHANGE ACT). YES [ ] NO [X] END OF AMENDMENT _______________________________________________________________ ================================================================================ PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT (REGISTRANT) INDEX ----- PAGE ---- PART I--FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) A. PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT Statements of Net Assets--September 30, 2003 and December 31, 2002... 3 Statements of Operations-- Nine and Three Months Ended September 30, 2003 and 2002.............. 3 Statements of Changes in Net Assets-- Nine and Three Months Ended September 30, 2003 and 2002.............. 3 Notes to the Financial Statements of the Account..................... 4 B. THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP Consolidated Statements of Assets and Liabilities-- September 30, 2003 and December 31, 2002............................. 7 Consolidated Statements of Operations-- Nine and Three Months Ended September 30, 2003 and 2002 ............. 8 Consolidated Statements of Changes in Net Assets-- Nine and Three Months Ended September 30, 2003 and 2002.............. 9 Consolidated Statements of Cash Flows-- Nine and Three Months Ended September 30, 2003 and 2002.............. 10 Consolidated Schedules of Investments-- September 30, 2003 and December 31, 2002............................. 11 Notes to the Financial Statements of the Partnership................. 12 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............................................ 14 Item 3. Quantitative and Qualitative Disclosures About Market Risks.......... 20 Item 4. Controls and Procedures.............................................. 22 PART II--OTHER INFORMATION Item 5. Submission of Matters to a Vote of Security Holders.................. 22 Item 6. Exhibits and Reports on Form 8-K..................................... 22 Signature Page............................................................... 24 2 FINANCIAL STATEMENTS OF PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT STATEMENTS OF NET ASSETS September 30, 2003 and December 31, 2002 SEPTEMBER 30, 2003 (UNAUDITED) DECEMBER 31, 2002 ------------ ------------ ASSETS Investment in The Prudential Variable Contract Real Property Partnership ............. $101,193,943 $101,048,531 ------------ ------------ Net Assets ....................................... $101,193,943 $101,048,531 ------------ ------------ NET ASSETS, representing: Equity of contract owners ........................ $ 73,779,180 $ 75,909,090 Equity of Pruco Life Insurance Company ........... 27,414,763 25,139,441 ------------ ------------ $101,193,943 $101,048,531 ============ ============ Units outstanding ................................ 46,688,219 46,460,669 ============ ============ Portfolio shares held ............................ 4,190,321 4,190,321 Portfolio net asset value per share .............. $ 24.15 $ 24.11 Investment in portfolio shares, at cost .......... $ 45,312,828 $ 45,312,828 STATEMENTS OF OPERATIONS For the nine and three months ended September 30, 2003 and 2002 1/1/2003-9/30/2003 1/1/2002-9/30/2002 7/1/2003-9/30/2003 7/1/2002-9/30/2002 (UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED) ------------ ------------ ------------ ------------ INVESTMENT INCOME Net investment income from Partnership operations ..................................... $ 3,654,923 $ 4,410,241 $ 1,015,119 $ 1,311,826 ------------ ------------ ------------ ------------ EXPENSES Charges to contract owners for assuming mortality risk and expense risk and for administration ......................... 343,045 355,976 114,827 121,502 ------------ ------------ ------------ ------------ NET INVESTMENT INCOME ............................ 3,311,878 4,054,265 900,292 1,190,324 ------------ ------------ ------------ ------------ NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS Net change in unrealized gain (loss) on investments in Partnership ..................... (3,764,970) (4,106,398) (1,104,657) (142,169) Net realized gain (loss) on sale of investments in Partnership ..................... 255,459 218,344 0 219,209 ------------ ------------ ------------ ------------ NET GAIN (LOSS) ON INVESTMENTS ................... (3,509,511) (3,888,054) (1,104,657) 77,040 ------------ ------------ ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS ............... $ (197,633) $ 166,211 $ (204,365) $ 1,267,364 ============ ============ ============ ============ STATEMENTS OF CHANGES IN NET ASSETS For the nine and three months ended September 30, 2003 and 2002 1/1/2003-9/30/2003 1/1/2002-9/30/2002 7/1/2003-9/30/2003 7/1/2002-9/30/2002 (UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED) ------------ ------------ ------------ ------------ OPERATIONS Net investment income ............................ $ 3,311,878 $ 4,054,265 $ 900,292 $ 1,190,324 Net change in unrealized gain (loss) on investments in Partnership .................. (3,764,970) (4,106,398) (1,104,657) (142,169) Net realized gain (loss) on sale of investments in Partnership ..................... 255,459 218,344 0 219,209 ------------ ------------ ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS ............... (197,633) 166,211 (204,365) 1,267,364 ------------ ------------ ------------ ------------ CAPITAL TRANSACTIONS Net withdrawals by contract owners ............... (1,887,159) (1,751,718) (500,001) (560,837) Net contributions (withdrawals) by Pruco Life Insurance Company ................... 2,230,204 (4,115,304) 614,828 (5,540,660) ------------ ------------ ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM CAPITAL TRANSACTIONS ........................... 343,045 (5,867,022) 114,827 (6,101,497) ------------ ------------ ------------ ------------ TOTAL INCREASE (DECREASE) IN NET ASSETS ..................................... 145,412 (5,700,811) (89,538) (4,834,133) NET ASSETS Beginning of period .............................. 101,048,531 108,557,379 101,283,481 107,690,701 ------------ ------------ ------------ ------------ End of period .................................... $101,193,943 $102,856,568 $101,193,943 $102,856,568 ============ ============ ============ ============ THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS 3 NOTES TO THE FINANCIAL STATEMENTS OF PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT SEPTEMBER 30, 2003 (UNAUDITED) NOTE 1: GENERAL Pruco Life Variable Contract Real Property Account (the "Real Property Account") was established on August 27, 1986 and commenced business September 5, 1986. Pursuant to Arizona law, the Real Property Account was established as a separate investment account of Pruco Life Insurance Company ("Pruco Life"), a wholly-owned subsidiary of The Prudential Insurance Company of America ("Prudential"). The assets of the Real Property Account are segregated from Pruco Life's other assets. The Real Property Account is used to fund benefits under certain variable life insurance and variable annuity contracts issued by Pruco Life. These products are Variable Appreciable Life ("VAL"), Variable Life Insurance ("VLI"), Discovery Plus ("SPVA") and Discovery Life Plus ("SPVL"). The assets of the Real Property Account are invested in The Prudential Variable Contract Real Property Partnership (the "Partnership"). The Partnership is organized under New Jersey law and is registered under the Securities Act of 1933. The Partnership is the investment vehicle for assets allocated to the real estate investment option under certain variable life insurance and annuity contracts. The Real Property Account, along with The Prudential Variable Contract Real Property Account and the Pruco Life of New Jersey Variable Contract Real Property Account, are the sole investors in the Partnership. These financial statements should be read in conjunction with the financial statements of the Partnership. The Partnership has a policy of investing at least 65% of its assets in direct ownership interests in income-producing real estate and participating mortgage loans. NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES A. BASIS OF ACCOUNTING The accompanying financial statements are prepared in conformity with accounting principles generally accepted in the United States of America ("GAAP"). The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts and disclosures. Actual results could differ from those estimates. The interim financial data as of September 30, 2003 and for the nine and three months ended September 30, 2003 and September 30, 2002 is unaudited ; however, in the opinion of management, the interim data includes all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the results for the interim periods. B. INVESTMENT IN PARTNERSHIP INTEREST The investment in the Partnership is based on the Real Property Account's proportionate interest of the Partnership's market value. At September 30, 2003 and December 31, 2002 the Real Property Account's interest in the Partnership was 54.8% or 4,190,321 shares. C. INCOME RECOGNITION Net investment income and realized and unrealized gains and losses are recognized daily. Amounts are based upon the Real Property Account's proportionate interest in the Partnership. 4 D. EQUITY OF PRUCO LIFE INSURANCE COMPANY Pruco Life maintains a position in the Real Property Account for liquidity purposes including unit purchases and redemptions, Partnership share transactions, and expense processing. The position does not have an effect on the contract owner's account or the related unit value. NOTE 3: CHARGES AND EXPENSES A. MORTALITY RISK AND EXPENSE RISK CHARGES Mortality risk and expense risk charges are determined daily using an effective annual rate of 0.6%, 0.35%, 0.9% and 0.9% for VAL, VLI, SPVA, SPVL, respectively. Mortality risk is that life insurance contract owners may not live as long as estimated or annuitants may live longer than estimated and expense risk is that the cost of issuing and administering the policies may exceed related charges by Pruco Life. B. ADMINISTRATIVE CHARGES Administrative charges are determined daily using an effective annual rate of 0.35% applied daily against the net assets representing equity of contract owners held in each subaccount for SPVA and SPVL. Administrative charges include costs associated with issuing the contract, establishing and maintaining records, and providing reports to contract owners. C. COST OF INSURANCE AND OTHER RELATED CHARGES Contract owner contributions are subject to certain deductions prior to being invested in the Real Property Account. The deductions for VAL and VLI are (1) state premium taxes; (2) sales charges which are deducted in order to compensate Pruco Life for the cost of selling the contract and (3) transaction costs, applicable to VAL, are deducted from each premium payment to cover premium collection and processing costs. Contracts are also subject to monthly charges for the costs of administering the contract to compensate Pruco Life the guaranteed minimum death benefit risk. D. DEFERRED SALES CHARGE A deferred sales charge is imposed upon the surrender of certain variable life insurance contracts to compensate Pruco Life for sales and other marketing expenses. The amount of any sales charge will depend on the number of years that have elapsed since the contract was issued. No sales charge will be imposed after the sixth and tenth year of the contract for SPVL and VAL, respectively. No sales charge will be imposed on death benefits. E. PARTIAL WITHDRAWAL CHARGE A charge is imposed by Pruco Life on partial withdrawals of the cash surrender value for VAL. A charge equal to the lesser of $15 or 2% will be made in connection with each partial withdrawal of the cash surrender value of a contract. NOTE 4: TAXES Pruco Life is taxed as a "life insurance company" as defined by the Internal Revenue Code. The results of operations of the Real Property Account form a part of Prudential's consolidated federal tax return. Under current federal law, no federal income taxes are payable by the Real Property Account. As such, no provision for the tax liability has been recorded in these financial statements. 5 NOTE 5: NET WITHDRAWALS BY CONTRACT OWNERS Contract owner activity for the real estate investment option in Pruco Life's variable insurance and variable annuity products for the nine and three months ended September 30, 2003 and 2002, were as follows: NINE MONTHS ENDED THREE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, 2003 2002 2003 2002 ---------- ---------- -------- -------- (UNAUDITED) (UNAUDITED) VAL $1,548,408 $1,424,151 $393,621 $505,508 VLI 75,276 87,529 29,357 13,006 SPVA 43,596 32,835 8,144 33,133 SPVL 219,879 207,203 68,879 9,190 ---------- ---------- -------- -------- TOTAL $1,887,159 $1,751,718 $500,001 $560,837 ========== ========== ======== ======== NOTE 6: PARTNERSHIP DISTRIBUTIONS As of September 30, 2003, no distributions had been made for the current year from the Partnership. For the year ended December 31, 2002, the Partnership made distributions of $16.1 million. The Pruco Life Real Property Account's share of this distribution was $8.8 million. NOTE 7: UNIT INFORMATION Outstanding units and unit values at September 30, 2003 and December 31, 2002 were as follows: SEPTEMBER 30, 2003 (UNAUDITED) DECEMBER 31, 2002 ------------------ ----------------- UNITS OUTSTANDING: 46,688,219 46,460,669 UNIT VALUE: 1.95710 to 2.27699 1.97263 to 2.27966 6 THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES SEPTEMBER 30, 2003 DECEMBER 31, (UNAUDITED) 2002 ------------ ------------ ASSETS REAL ESTATE INVESTMENTS-- At estimated market value: Real estate and improvements (cost: 09/30/2003--$215,175,886; 12/31/2002--$215,592,277) ........... $191,039,305 $196,631,183 Real estate partnership (cost: 09/30/2003--$10,797,123; 12/31/2002--$9,931,394) ............. 8,961,574 8,978,324 ------------ ------------ Total real estate investments ............ 200,000,879 205,609,507 CASH AND CASH EQUIVALENTS ..................... 31,817,774 18,591,149 OTHER ASSETS (net of allowance for uncollectible accounts: 09/30/2003--$88,200; 12/31/2002--$69,000) ....................... 5,095,082 5,519,457 ------------ ------------ Total assets ............................. $236,913,735 $229,720,113 ============ ============ LIABILITIES MORTGAGE LOANS PAYABLE ........................... 43,793,110 35,699,108 ACCOUNTS PAYABLE AND ACCRUED EXPENSES ............ 3,054,881 3,092,098 DUE TO AFFILIATES ................................ 999,899 907,503 OTHER LIABILITIES ................................ 901,747 911,245 MINORITY INTEREST ................................ 3,545,302 4,756,653 ------------ ------------ Total liabilities ........................ 52,294,939 45,366,607 ------------ ------------ COMMITMENTS AND CONTINGENCIES PARTNERS' EQUITY ................................. 184,618,796 184,353,506 ------------ ------------ Total liabilities and partners' equity ... $236,913,735 $229,720,113 ============ ============ NUMBER OF SHARES OUTSTANDING AT END OF PERIOD .... 7,644,848 7,644,848 ============ ============ SHARE VALUE AT END OF PERIOD ..................... $24.15 $24.11 ============ ============ THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 7 THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) NINE MONTHS ENDED THREE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, ----------------------------- --------------------------- 2003 2002 2003 2002 ----------- ----------- ---------- ---------- INVESTMENT INCOME: Revenue from real estate and improvements .............. $18,037,709 $19,368,812 $ 5,905,056 $6,121,877 ----------- ----------- ----------- ---------- Equity in income of real estate partnership ............ 488,635 160,446 183,672 94,676 Interest on short-term investments ..................... 208,244 373,656 81,022 147,100 ----------- ----------- ----------- ---------- Total investment income ........................... 18,734,588 19,902,914 6,169,750 6,363,653 ----------- ----------- ----------- ---------- EXPENSES: Investment managment fee ............................... 1,838,933 1,879,044 652,741 634,957 Real estate taxes ...................................... 2,005,379 2,035,545 672,615 641,400 Administrative ......................................... 2,550,588 2,505,801 931,685 898,830 Operating .............................................. 3,693,883 3,753,076 1,375,015 1,231,157 Interest expense ....................................... 1,783,992 1,524,079 624,153 506,013 Minority interest ...................................... 193,751 155,596 61,551 57,085 ----------- ----------- ----------- ---------- Total investment expenses ......................... 12,066,526 11,853,141 4,317,760 3,969,442 ----------- ----------- ----------- ---------- NET INVESTMENT INCOME ..................................... 6,668,062 8,049,773 1,851,990 2,394,211 ----------- ----------- ----------- ---------- REALIZED AND UNREALIZED (LOSS) GAIN ON REAL ESTATE INVESTMENTS Net proceeds from real estate investments sold ....................................... 5,689,488 6,287,075 -- 6,281,000 Less: Cost of real estate investments sold ............. 6,620,263 9,101,381 -- 9,093,728 Realization of prior periods' unrealized loss on real estate investments sold ............. (1,396,836) (3,212,838) -- (3,263,069) ----------- ----------- ----------- ---------- Net realized gain on real estate investments sold ....................................... 466,061 398,532 -- 450,341 ----------- ----------- ----------- ---------- Change in unrealized loss on real estate investments ............................................ (7,454,802) (7,541,141) $(1,570,950) (139,886) Less: Minority interest in unrealized (loss) gain on investments ............................. (585,969) (45,265) 444,393 170,283 ----------- ----------- ----------- ---------- Net unrealized loss on real estate investments ............................................ (6,868,833) (7,495,876) (2,015,343) (310,169) ----------- ----------- ----------- ---------- NET REALIZED AND UNREALIZED (LOSS) GAIN ON REAL ESTATE INVESTMENTS ............................. (6,402,772) (7,097,344) (2,015,343) 140,172 ----------- ----------- ----------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS .............................. $ 265,290 $ 952,429 $ (163,353) $2,534,383 =========== =========== =========== ========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 8 THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS (UNAUDITED) NINE MONTHS ENDED SEPTEMBER 30, 2003 2002 ------------ ------------ NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS: Net investment income ............................................ $ 6,668,062 $ 8,049,773 Net gain realized on real estate investments sold ................ 466,061 398,532 Net unrealized loss from real estate investments ................. (6,868,833) (7,495,876) ------------ ------------ Net increase in net assets resulting from operations ............. 265,290 952,429 ------------ ------------ NET DECREASE IN NET ASSETS RESULTING FROM CAPITAL TRANSACTIONS: Withdrawals by partners (09/30/2003--0 shares; 09/30/2002--477,261 shares) ............ -- (11,425,060) ------------ ------------ Net decrease in net assets resulting from capital transactions ... -- (11,425,060) ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS ............................... 265,290 (10,472,631) NET ASSETS--Beginning of period ..................................... 184,353,506 198,150,636 ------------ ------------ NET ASSETS--End of period ........................................... $184,618,796 $187,678,005 ============ ============ THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 9 THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) NINE MONTHS NINE MONTHS ENDED ENDED SEPTEMBER 30, 2003 SEPTEMBER 30, 2002 ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net increase increase in net assets resulting from operations ............... $ 265,290 $ 952,429 Adjustments to reconcile net increase (decrease) increase in net assets resulting from operations to net cash flows from operating activities: Net realized and unrealized loss on investments ....................... 6,402,772 7,097,344 Equity in income of real estate partnership in excess/ (less than) distributions ........................................... 460,343 (160,446) Minority interest from operating activities ........................... 193,751 155,596 Bad debt expense ...................................................... 146,108 97,801 Increase in: Dividend receivable ................................................. -- 20,802 Other assets ........................................................ 278,266 463,056 (Decrease) Increase in: Accounts payable and accrued expenses ............................... (37,217) (619,068) Due to affiliates ................................................... 92,396 22,981 Other liabilities ................................................... (9,498) (53,115) ----------- ----------- Net cash flows from operating activities .................................... 7,792,211 7,977,380 ----------- ----------- CASH FLOWS (USED IN) FROM INVESTING ACTIVITIES: Net proceeds from real estate investments sold .............................. 5,689,488 6,287,075 Additions to real estate .................................................... (4,640,975) (1,900,289) Additions to real estate partnership ........................................ (1,326,071) (1,473,929) ----------- ----------- Net cash flows (used in) from investing activities .......................... (277,558) 2,912,857 ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments on mortgage loan payable ................................. (655,998) (503,895) Proceeds from mortgage loan payable ......................................... 8,750,000 -- Withdrawls by Partners ...................................................... -- (11,425,060) Distributions to minority interest partners ................................. (2,382,496) (86,793) Contributions from minority interest partners ............................... 466 31,371 ----------- ----------- Net cash flows from (used in) financing activities .......................... 5,711,972 (11,984,377) ----------- ----------- NET CHANGE IN CASH AND CASH EQUIVALENTS ........................................ 13,226,625 (1,094,140) CASH AND CASH EQUIVALENTS--Beginning of period ................................. 18,591,149 26,615,645 ----------- ----------- CASH AND CASH EQUIVALENTS--End of period ....................................... $31,817,774 $25,521,505 =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest ....................................... $ 1,903,965 $ 1,468,032 =========== =========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 10 THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP SCHEDULE OF INVESTMENTS SEPTEMBER 30, 2003 (UNAUDITED) DECEMBER 31, 2002 ----------------------------- ------------------------------ ESTIMATED ESTIMATED MARKET MARKET COST VALUE COST VALUE ----------------------------------------------------------------- REAL ESTATE AND IMPROVEMENTS-- PERCENTAGE OF NET ASSETS....................... 103.5% 106.7% Location Description - ----------------------------------------------------------------------------------------------------------------------- Lisle, IL Office Building........... $ 23,013,094 $ 12,162,259 $ 22,857,236 $ 13,854,988 Atlanta, GA Garden Apartments......... 15,781,263 17,504,566 15,715,772 17,523,063 Roswell, GA Retail Shopping Center.... 33,041,816 24,999,955 32,895,282 24,903,969 Raleigh, NC Garden Apartments......... 15,945,326 17,500,000 15,943,836 17,502,998 Brentwood, TN Office Building........... 10,384,467 9,263,889 10,320,613 9,651,831 Oakbrook Terrace, IL Office Building........... 14,394,167 9,894,748 14,205,396 11,213,142 Beaverton, OR Office Building........... 11,890,209 10,000,005 11,890,209 10,800,005 Salt Lake City, UT Industrial Building....... -- -- 6,599,482 5,202,646 Aurora, CO Industrial Building....... 10,697,898 9,938,841 10,294,784 10,557,058 Brentwood, TN Office Building........... 9,837,482 6,900,042 9,826,195 7,709,345 * Jacksonville, FL Garden Apartments......... 19,937,291 20,800,000 19,745,855 19,800,000 * Gresham/Salem, OR Garden Apartments......... 19,262,541 18,275,000 18,838,570 18,600,000 Hampton, VA Retail Shopping Center.... 18,013,068 20,000,000 16,446,909 19,300,000 * Ocean City, MD Retail Shopping Center.... 12,977,264 13,800,000 10,012,138 10,012,138 ------------ ------------ ------------ ------------ $215,175,886 $191,039,305 $215,592,277 $196,631,183 ============ ============ ============ ============ REAL ESTATE PARTNERSHIP-- PERCENTAGE OF NET ASSETS....................... 4.9% 4.9% Location Description - ------------------------------------------------------------------------------------------------------------------------- Kansas City, KS; MO Retail Shopping Centers... $ 10,797,123 $ 8,961,574 $ 9,931,394 $ 8,978,324 =================================================================== * Real estate partnerships accounted for by the consolidation method. SEPTEMBER 30, 2003 (UNAUDITED) DECEMBER 31, 2002 ------------------------- ------------------------- FACE ESTIMATED ESTIMATED AMOUNT COST MARKET VALUE COST MARKET VALUE ----------- ----------- ----------- ----------- ----------- CASH AND CASH EQUIVALENTS--PERCENTAGE OF NET ASSETS........... 17.2% 10.1% Federal Home Loan Banks, 0.97%, October 1, 2003 ............. $19,219,000 $19,218,482 $19,218,482 $ -- $ -- Gannett Inc., 1.04%, October 2, 2003 ........................ 472,000 471,809 471,809 -- -- Natl Australia Fdg Delaware Inc., 1.01%, October 2, 2003 .... 600,000 599,765 599,765 -- -- UBS Fin Del, LLC, 1.03%, October 2, 2003 .................... 600,000 599,760 599,760 -- -- Student Loan Marketing Assoc., 1.00%, October 8, 2003 ....... 10,000,000 9,994,444 9,994,444 -- -- Federal National Mortgage Assoc., 1.00%, January 02, 2003 ... 6,928,000 -- -- 6,927,615 6,927,615 Federal National Mortgage Assoc., 1.27%, January 17, 2003 ... 1,218,000 -- -- 1,217,055 1,217,055 Federal Home Loan Mortgage Corp., 1.27%, January 21, 2003 ... 3,461,000 -- -- 3,457,581 3,457,581 Federal National Mortgage Assoc., 1.27%, January 21, 2003 ... 1,288,000 -- -- 1,286,819 1,286,819 Federal National Mortgage Assoc., 1.22%, February 10, 2003 .. 1,000,000 -- -- 998,611 998,611 Federal National Mortgage Assoc., 1.22%, February 13, 2003 .. 2,070,000 -- -- 2,066,913 2,066,913 Federal Farm Credit Banks, 1.22%, February 14, 2003 ......... 1,870,000 -- -- 1,867,148 1,867,148 ----------- ----------- ----------- ----------- TOTAL CASH EQUIVALENTS ...................................... 30,884,260 30,884,260 17,821,742 17,821,742 ----------- ----------- ----------- ----------- CASH ........................................................ 933,514 933,514 769,407 769,407 ----------- ----------- ----------- ----------- TOTAL CASH AND CASH EQUIVALENTS ............................. $31,817,774 $31,817,774 $18,591,149 $18,591,149 ----------- ----------- ----------- ----------- THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 11 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS OF PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP SEPTEMBER 30, 2003 AND 2002 (UNAUDITED) NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying unaudited financial statements included herein have been prepared in accordance with the requirements of Form 10-Q and accounting principles generally accepted in the United States of America for interim financial information. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair statement have been included. Operating results for the nine months ended September 30, 2003 are not necessarily indicative of the results that may be expected for the year ended December 31, 2003. For further information, refer to the financial statements and notes thereto included in each Partner's December 31, 2002 Annual Report on Form 10K. FASB Interpretation No. 46, "Consolidation of Variable Interest Entities", ("FIN 46") was issued in January 2003. On October 9, 2003, FASB issued FASB Staff Position FIN 46-6 deferring the effective date for applying the provisions of FIN 46 for those companies currently accounting for their investments in accordance with the AICPA Audit and Accounting Guide, "Audits of Investment Companies" ("the Audit Guide"). The effective date is delayed while the AICPA finalizes the proposed Statement of Position ("SOP") on the clarification of the scope of the Audit Guide. Following the issuance of the final SOP, the FASB will consider modifying FIN 46 to provide an exception for companies that apply the Audit Guide. The Prudential Variable Contract Real Property Partnership ("Partnership") is awaiting the final determination from the FASB in order to evaluate the extent in which, if any, its equity investments may need to be consolidated as a result of FIN 46. NOTE 2: DISCLOSURE OF NON-CASH INVESTING ACTIVITY On April 15, 2003, a buyout of a minority partner's interest in a consolidated retail asset resulted in an increase in the Partnership's basis in the real estate investment of approximately $1.6 million. NOTE 3: COMMITMENT FROM PARTNER In 1986, the Prudential Insurance Company of America ("Prudential") committed to fund up to $100 million to enable the Prudential Variable Contract Real Property Partnership to acquire real estate investments. Contributions to the Partnership under this commitment were utilized for property acquisitions, and could be returned to Prudential on an ongoing basis from the contract owners' net contributions and other available cash. This commitment terminated on December 31, 2002. Prudential did not make any contributions during the 2002 fiscal year. During the period that this commitment was in effect, Prudential funded $44 million. NOTE 4: RELATED PARTY TRANSACTIONS Pursuant to an investment management agreement, Prudential Investment Management ("PIM") charges the Partnership a daily investment management fee at an annual rate of 1.25% of the average daily gross asset valuation of the Partnership. For the nine months ended September 30, 2003 and 2002 investment management fees incurred by the Partnership were $1,838,933 and $1,879,044 respectively. Management fees incurred by the Partnership for the three months ended September 30, 2003 and 2002 were $652,741 and $634,957, respectively. The Partnership also reimburses Prudential for certain administrative services rendered by PIM. The amounts incurred for the nine months ended September 30, 2003 and 2002 were $87,472 for each period, and are classified as administrative expense in the Consolidated Statements of Operations. Administrative expenses incurred by the Partnership for the three months ended September 30, 2003 and 2002 were $29,157 for each period. 12 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS OF PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP SEPTEMBER 30, 2003 AND 2002 (UNAUDITED) NOTE 5: DEBT On June 27, 2003, a wholly owned property obtained loan financing in the amount of $8.75 million, with a fixed interest rate of 3.09%. The loan matures in five years with monthly payments of interest only and a balloon payment upon maturity. NOTE 6: FINANCIAL HIGHLIGHTS FOR THE NINE MONTHS ENDED --------------------------- SEPTEMBER 30, SEPTEMBER 30, 2003 2002 ------------- ------------- PER SHARE (UNIT) OPERATING PERFORMANCE: Net Asset Value, beginning of period ............... $24.11 $23.82 ------ ------ INCOME FROM INVESTMENT OPERATIONS: Net Investment income, before management fee ....... $ 1.12 $ 1.20 Management fee ..................................... (0.24) (0.23) Net realized and unrealized (loss) gain on investments ................................... (0.84) (0.85) ------ ------ Net Increase in Net Assets Resulting from Operations .............................. 0.04 0.12 ------ ------ NET ASSET VALUE, END OF PERIOD ..................... $24.15 $23.94 ====== ====== (a) TOTAL RETURN BEFORE MANAGEMENT FEE: ............ 1.15% 1.44% RATIOS/SUPPLEMENTAL DATA: Net Assets, end of period (in millions) ............ $ 185 $ 188 Ratios to average net assets (b): Management Fee ................................. 1.00% 0.95% Net Investment Income, before Management Fee ... 4.62% 5.15% (a) Total Return before Management Fee is calculated by linking quarterly returns which are calculated using the formula below: Net Investment Income + Net Realized and Unrealized Gains/(Losses) --------------------------------------------------------------------------- Beg. Net Asset Value + Time Weighted Contributions - Time Weighted Distributions (b) Average net assets are based on beginning of period net assets. 13 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS All of the assets of the Real Property Account (the "Account") are invested in the Prudential Variable Contract Real Property Partnership (the "Partnership"). Correspondingly, the liquidity, capital resources and results of operations for the Real Property Account are contingent upon the Partnership. Therefore, all of management's discussion of these items is at the Partnership level. The partners in the Partnership are The Prudential Insurance Company of America, Pruco Life Insurance Company, and Pruco Life Insurance Company of New Jersey (collectively, the "Partners"). The following analysis of the liquidity and capital resources and results of operations of the Partnership should be read in conjunction with the Financial Statements and the related Notes to the Financial Statements included elsewhere herein. (a) LIQUIDITY AND CAPITAL RESOURCES As of September 30, 2003, the Partnership's liquid assets consisting of cash and cash equivalents were $31.8 million, an increase of $13.2 million from $18.6 million at December 31, 2002. This increase was primarily due to an increase in net cash flows from operations, the sale of the industrial property located in Salt Lake City, Utah on January 28, 2003, the sale of one of the retail centers located in Kansas City, Missouri on April 23, 2003, and mortgage proceeds of $8.75 million received in connection with financing placed on the apartment complex located in Raleigh, North Carolina on June 27, 2003. Sources of liquidity include net cash flow from property operations, interest from short-term investments, sales, and financing. The Partnership's investment policy allows up to 30% investment in cash and short-term obligations, although the Partnership generally holds approximately 10% of its assets in cash and short-term obligations. At September 30, 2003, 13.4% of the Partnership's total assets consisted of cash and short-term obligations. In 1986, the Prudential Insurance Company of America ("Prudential") committed to fund up to $100 million to enable the Partnership to acquire real estate investments. Contributions to the Prudential Variable Contract Real Property Partnership ("Partnership") under this commitment were utilized for property acquisitions, and could be returned to Prudential on an ongoing basis from the contract owners' net contributions and other available cash. This commitment terminated on December 31, 2002. Prudential did not make any contributions during the 2002 fiscal year. During the period that this commitment was in effect, Prudential funded $44 million. The Partnership did not make any distributions to the Partners during the first nine months of 2003. On September 30, 2002 the Partnership made an $11.4 million distribution to the Partners. Distributions may be made to the Partners during 2003 based upon the percentage of assets invested in short-term obligations, taking into consideration anticipated cash needs of the Partnership including potential property acquisitions, property dispositions and capital expenditures. Management anticipates that its current liquid assets and ongoing cash flow from operations will satisfy the Partnership's needs over the next twelve months and the foreseeable future. During the first nine months of 2003, the Partnership spent approximately $4.6 million in capital expenditures on wholly owned and consolidated properties. Approximately $3.0 million was associated with the development of the retail center located in Ocean City, Maryland. The remaining $1.6 million balance was primarily associated with leasing, tenant improvements, and renovations at the apartment complexes located in Jacksonville, Florida and Gresham/Salem, OR, and the industrial building located in Aurora, Colorado, the office building located in Oakbrook Terrace, Illinois, the office building located in Lisle, Illinois, and the retail center located in Roswell, Georgia. The Partnership also increased its investment in real estate partnerships by approximately $1.3 million in connection with the redevelopment and expansion of the retail centers located in Kansas City, Missouri. 14 (b) RESULTS OF OPERATIONS The following is a brief year-to-date and quarterly comparison of the Partnership's results of operations for the periods ended September 30, 2003 and 2002. SEPTEMBER 30, 2003 VS. SEPTEMBER 30, 2002 The following table presents a year-to-date and quarterly comparison of the Partnership's sources of net investment income, and realized and unrealized gains or losses by investment type. NINE MONTHS ENDED QUARTER ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------- --------------------------- 2003 2002 2003 2002 ----------- ----------- ----------- ----------- NET INVESTMENT INCOME: Office properties .......................... $ 1,460,220 $ 3,678,701 $ 374,433 $ 1,048,974 ----------- ----------- ----------- ----------- Apartment complexes ........................ 2,771,247 2,386,497 709,341 827,075 Retail property ............................ 3,193,642 2,738,307 1,127,740 939,859 Industrial properties ...................... 541,673 1,075,228 117,456 358,099 Equity in income of real estate partnership 488,634 160,446 183,671 94,676 Other (including interest income, investment mgt fee, etc.) ............... (1,787,354) (1,989,406) (660,651) (874,472) ----------- ----------- ----------- ----------- TOTAL NET INVESTMENT INCOME ................ $ 6,668,062 $ 8,049,773 $ 1,851,990 $ 2,394,211 ----------- ----------- ----------- ----------- NET UNREALIZED LOSS ON REAL ESTATE INVESTMENTS: Office properties .......................... $(5,428,138) $(4,742,508) $ (822,110) $(1,098,172) Apartment complexes ........................ (571,737) (1,596,259) 23,389 295,615 Retail property ............................ 1,034,852 (1,438,704) (590,466) (213,702) Industrial properties ...................... (1,021,330) 181,838 (313,366) (21,534) Interest in real estate partnership ........ (882,480) 99,757 (312,790) 727,624 ----------- ----------- ----------- ----------- TOTAL NET UNREALIZED LOSS ON REAL ESTATE INVESTMENTS ................. (6,868,833) (7,495,876) (2,015,343) (310,169) ----------- ----------- ----------- ----------- NET REALIZED GAIN ON REAL ESTATE INVESTMENTS: Industrial properties ...................... 466,061 400,110 -- 450,341 Real estate investment trust ............... -- (1,578) -- -- ----------- ----------- ----------- ----------- TOTAL NET REALIZED GAIN ON REAL ESTATE INVESTMENTS ................. 466,061 398,532 -- 450,341 ----------- ----------- ----------- ----------- NET REALIZED AND UNREALIZED (LOSS) GAIN ON REAL ESTATE INVESTMENTS .............. $(6,402,772) $(7,097,344) $(2,015,343) $ 140,172 ----------- ----------- ----------- ----------- NET INVESTMENT INCOME OVERVIEW The Partnership's net investment income for the nine months ended September 30, 2003 was $6.7 million, a decrease of $1.4 million from $8.1 million when compared to the corresponding period in 2002. The Partnership's net investment income for the quarter ended September 30, 2003 was $1.9 million, a decrease of $0.5 million from $2.4 million when compared to the corresponding period in 2002. The decrease is primarily due to increased vacancy within the office portfolio and the sales of the industrial properties in Bolingbrook, Illinois and Salt Lake City, Utah. Equity in income of real estate partnership was $0.5 million for the first nine months of 2003, an increase of $0.3 million from $0.2 million in the corresponding period in 2002. This increase is due to an increase in revenue associated with expansion of the existing grocery store anchor that was completed last quarter. Interest on short-term investments decreased approximately $0.2 million or 44.3% for the nine months ended September 30, 2003 due primarily to lower interest rates. Operating expense increased $0.1 million, or 11.7%, in the third quarter of 2003 compared to the corresponding period in 2002. The increase was primarily due to the Partnership's acquisition of a controlling interest in a retail center located in Ocean City, Maryland in late 2002. 15 Interest expense increased $0.3 million, or 17.1%, in the first nine months of 2003 compared to the corresponding period in 2002, and $0.1 million, or 23.3%, in the third quarter of 2003 compared to the corresponding period in 2002. This increase was primarily due to the Partnership's assumption of a $7.4 million mortgage loan in conjunction with the acquisition of a controlling interest in a retail center located in Ocean City, Maryland in late 2002 and financing of an $8.8 million note placed on the apartment investment located in Raleigh, North Carolina on June 27, 2003. VALUATION OVERVIEW 2003 YEAR-TO-DATE The Partnership experienced a net unrealized loss of $6.9 million for the nine months ended September 30, 2003 compared to a net unrealized loss of $7.5 million during the corresponding period in 2002. The unrealized losses during the first nine months of 2003 were experienced in the office, industrial, equity partnership, and apartment sectors. The office portfolio recorded an unrealized loss totaling $5.4 million primarily due to decreases in occupancy coupled with soft market conditions which have resulted in reductions in market rental rates and increased leasing costs. The industrial property in Aurora, Colorado experienced an unrealized loss of $1.0 million for the first nine months of 2003 due to decreases in market rental rates and capital expenditures at the property that were not reflected as an increase in market value. The equity partnership sector experienced a net unrealized loss of $0.9 million primarily due to capital expenditures that were not reflected as an increase in market value. The apartment sector also experienced an unrealized loss of $0.6 million due to the apartment portfolio located in Gresham/Salem, Oregon. The decrease is a result of projected increases in operating expenses. Offsetting some of these losses were unrealized gains of $1.0 million in the retail sector. Increases in value were primarily due to renovation and re-leasing efforts at the Ocean City, Maryland retail center and a strengthening of market fundamentals at the Hampton, Virginia retail center. THIRD QUARTER 2003 The Partnership experienced a net unrealized loss of $2.0 million for the three months ended September 30, 2003 compared to a net unrealized loss of $0.3 million during the corresponding period in 2002. The unrealized losses for the third quarter were primarily experienced in the office sector ($0.8 million), the retail sector ($0.6 million), the industrial sector ($0.3 million), and the equity partnership sector ($0.3 million) for the same reasons discussed previously. OFFICE PORTFOLIO NET NET INVESTMENT INVESTMENT UNREALIZED UNREALIZED INCOME INCOME (LOSS)/GAIN (LOSS)/GAIN OCCUPANCY OCCUPANCY PROPERTY 09/30/03 09/30/02 09/30/03 09/30/02 09/30/03 09/30/02 - ------------ ---------- ---------- ---------- ---------- --------- --------- YEAR TO DATE Lisle, IL.................. $ 567,140 $1,103,532 $(1,848,587) $ (634,358) 47% 100% Brentwood, TN.............. 502,303 433,032 (451,796) (1,466,128) 78% 78% Oakbrook Terrace, IL....... (43,049) 845,475 (1,507,165) (1,147,282) 36% 79% Beaverton, OR.............. 726,221 832,033 (800,000) (89,123) 81% 100% Brentwood, TN.............. (292,395) 408,412 (820,590) (1,405,617) 0% 0% Morristown, NJ............. -- 56,217 -- -- ---------- ---------- ----------- ----------- $1,460,220 $3,678,701 $(5,428,138) $(4,742,508) ---------- ---------- ----------- ----------- QUARTER TO DATE Lisle, IL.................. $ 57,497 $ 345,997 $ (493,587) $ (430,000) Brentwood, TN.............. 195,321 151,392 300,000 (37,115) Oakbrook Terrace, IL....... (20,286) 303,890 (128,523) (26,230) Beaverton, OR.............. 231,611 282,098 (400,000) (300,000) Brentwood, TN.............. (89,710) (34,403) (100,000) (304,827) ---------- ---------- ----------- ----------- $ 374,433 $1,048,974 $ (822,110) $(1,098,172) ---------- ---------- ----------- ----------- 16 NET INVESTMENT INCOME Net investment income from property operations for the office sector decreased approximately $0.7 million, or 64.3%, for the quarter ended September 30, 2003 when compared to the corresponding period in 2002. Net investment income from property operations for the office sector also decreased approximately $2.2 million, or 60.3%, for the nine months ended September 30, 2003 when compared to the corresponding period in 2002. Increased vacancy and weak market fundamentals were the primary reasons that net investment income decreased for the office sector. UNREALIZED LOSS THIRD QUARTER 2003: The five office properties owned by the Partnership experienced a net unrealized loss of approximately $0.8 million during the third quarter of 2003, primarily due to softening market conditions. THIRD QUARTER 2002: The five office properties owned by the Partnership experienced a net unrealized loss of approximately $1.1 million during the third quarter of 2002. The unrealized losses are primarily due to impending tenant rollover, softening office market conditions, and increasing capital costs associated with re-tenanting. 2003 YEAR-TO-DATE: The five office properties owned by the Partnership experienced a net unrealized loss of approximately $5.4 million during the first nine months of 2003. The losses were primarily due to decreased occupancy, lower market rents, and increased lease up costs. 2002 YEAR-TO-DATE: The five office properties owned by the Partnership experienced a net unrealized loss of approximately $4.7 million during the first nine months of 2002. The decrease in values was primarily due to a reduction in market rental rates, softening market conditions, and a decrease in occupancy due to various near-term lease expirations, and the move-out of the single tenant occupying all of the space at one of the buildings in Brentwood, Tennessee. As of September 30, 2003 all vacant spaces were being marketed. APARTMENT COMPLEXES NET NET INVESTMENT INVESTMENT UNREALIZED UNREALIZED INCOME INCOME (LOSS)/GAIN (LOSS)/GAIN OCCUPANCY OCCUPANCY PROPERTY 09/30/03 09/30/02 09/30/03 09/30/02 09/30/03 09/30/02 - ------------ ---------- ---------- ---------- ---------- --------- --------- YEAR TO DATE Atlanta, GA................ $ 632,012 $ 551,120 $ (83,988) $ (557,139) 91% 88% Raleigh, NC................ 625,173 777,592 (4,488) (308,160) 93% 90% Jacksonville, FL........... 929,282 625,896 265,710 (405,558) 91% 92% Gresham/Salem, OR.......... 584,780 431,889 (748,971) (325,402) 93% 96% ---------- ---------- --------- ----------- $2,771,247 $2,386,497 $(571,737) $(1,596,259) ---------- ---------- --------- ----------- QUARTER TO DATE Atlanta, GA................ $ 189,497 $ 205,592 $ (21,962) $ -- Raleigh, NC................ 180,600 187,656 (1,490) 300,000 Jacksonville, FL........... 287,459 236,766 272,706 (12,493) Gresham/Salem, OR.......... 51,785 197,061 (225,865) 8,108 ---------- ---------- --------- ----------- $ 709,341 $ 827,075 $ 23,389 $ 295,615 ---------- ---------- --------- ----------- 17 NET INVESTMENT INCOME Net investment income from property operations for the apartment sector was $0.7 million for the quarter ended September 30, 2003, a decrease of $0.1 million, or 14.2%, when compared to the corresponding period in 2002. The decrease is primarily due to a decrease in occupancy at the apartment complex located in Gresham/Salem, Oregon. Net investment income from property operations for the apartment sector was $2.8 million for the nine months ended September 30, 2003, an increase of $0.4 million, or 16.1%, when compared to the corresponding period in 2002. The increases were mainly due to the effect of a reclassification, which took place in 2003, of 2002 repairs and maintenance expenses to building improvements for the apartment complex located in Gresham/Salem, Oregon and increased operational efficiencies at the apartment complex located in Jacksonville, Florida during 2003. UNREALIZED GAIN/LOSS THIRD QUARTER 2003: The apartment complexes owned by the Partnership experienced a net unrealized gain of $0.02 million in the third quarter of 2003. THIRD QUARTER 2002: The apartment complexes owned by the Partnership experienced a net unrealized gain of $0.3 million in the third quarter of 2002, primarily due to the apartment complex located in Raleigh, North Carolina, which increased occupancy from the previous quarter and decreased operating expenses. 2003 YEAR-TO-DATE: The apartment complexes owned by the Partnership experienced a net unrealized loss of $0.6 million for the nine months ended September 30, 2003 compared to a net unrealized loss of $1.6 million for the nine months ended September 30, 2002. The unrealized loss for 2003 was mainly attributable to the apartment complex located in Gresham/Salem, Oregon due to an increase in projected operating expenses. 2002 YEAR-TO-DATE: The apartment complexes owned by the Partnership experienced a net unrealized loss of $1.6 million for the nine months ended September 30, 2002. These unrealized losses were due to softening market conditions, which have resulted in lower short-term occupancy and income projections, increased rental concessions, and increases in operating expense levels. As of September 30, 2003, all available vacant units were being marketed. RETAIL PROPERTIES NET NET INVESTMENT INVESTMENT UNREALIZED UNREALIZED INCOME INCOME (LOSS)/GAIN (LOSS)/GAIN OCCUPANCY OCCUPANCY PROPERTY 09/30/03 09/30/02 09/30/03 09/30/02 09/30/03 09/30/02 - ------------ ---------- ---------- ---------- ----------- --------- --------- YEAR TO DATE Roswell, GA................ $1,983,560 $2,199,652 $ (50,548) $(1,728,342) 93% 92% Hampton, VA................ 781,543 538,655 570,136 289,638 100% 99% Ocean City, MD*............ 428,539 N/A 515,264 N/A 97% N/A ---------- ---------- ---------- ----------- $3,193,642 $2,738,307 $1,034,852 $(1,438,704) ---------- ---------- ---------- ----------- QUARTER TO DATE Roswell, GA................ $ 641,069 $ 741,287 $ (500,000) $ (300,000) Hampton, VA................ 292,863 198,572 3,520 86,298 Ocean City, MD*............ 193,808 N/A (93,986) N/A ---------- ---------- ---------- ----------- $1,127,740 $ 939,859 $ (590,466) $ (213,702) ---------- ---------- ---------- ----------- * Center purchased in November 2002 18 NET INVESTMENT INCOME Net investment income for the Partnership's retail properties was approximately $1.1 million for the quarter ended September 30, 2003, an increase of $0.2 million, or 20.0%, when compared to the corresponding period in 2002. Net investment income for the Partnership's retail properties was approximately $3.2 million for the nine months ended September 30, 2003, an increase of $0.5 million, or 16.6%, when compared to the corresponding period in 2002. This increase was primarily due to the Partnership's acquisition of a controlling interest in a retail center located in Ocean City, Maryland in late 2002. Also on April 15, 2003 the Partnership acquired its joint venture partner's membership interest in the retail center located in Hampton, Virginia, thus entitling the Partnership to all of the net investment income generated by the investment commencing on the buyout date and going forward. UNREALIZED LOSS/GAIN THIRD QUARTER 2003: The retail properties experienced a net unrealized loss of $0.6 million for the quarter ended September 30, 2003. These unrealized losses were primarily experienced by the retail center located in Roswell, Georgia due decreases in market rental rates and shorter-term lease renewals. THIRD QUARTER 2002: The retail properties experienced a net unrealized loss of $0.2 million for the quarter ended September 30, 2002. The retail center located in Roswell, Georgia experienced an unrealized loss of $0.3 million due to lower market rents due to deteriorating market conditions. This loss was offset by a gain of $0.1 million at the Hampton, Virginia retail center due to an increase in occupancy. 2003 YEAR-TO-DATE: The retail properties experienced a net unrealized gain of $1.0 million for the nine months ended September 30, 2003. This gain in value was due to strengthening market fundamentals, and renovation and releasing efforts. 2002 YEAR-TO-DATE: The retail properties experienced a net unrealized loss of $1.4 million for the nine months ended September 30, 2002. This was primarily attributable to the center located in Roswell, Georgia due to increased risk that a major tenant would not renew its lease, coupled with a deterioration in the market position of the property and lower market rents. As of September 30, 2003, all vacant spaces were being marketed. INDUSTRIAL PROPERTIES NET NET UNREALIZED/ UNREALIZED/ INVESTMENT INVESTMENT REALIZED REALIZED INCOME INCOME GAIN/(LOSS) GAIN/(LOSS) OCCUPANCY OCCUPANCY PROPERTY 09/30/03 09/30/02 09/30/03 09/30/02 09/30/03 09/30/02 - ------------ -------- ---------- ---------- ----------- --------- --------- YEAR TO DATE Aurora, CO................. $527,986 $ 515,978 $(1,021,330) $ 493,792 79% 75% Bolingbrook, IL............ (146) 229,583 -- 400,110 Sold September 2002 Salt Lake City, UT......... 13,833 329,667 466,061 (311,954) Sold January 2003 -------- ---------- ----------- --------- $541,673 $1,075,228 $ (555,269) $ 581,948 -------- ---------- ----------- --------- QUARTER TO DATE Aurora, CO................. $119,414 $ 160,418 $ (313,366) $ (473) Bolingbrook, IL............ -- 75,249 -- 450,341 Salt Lake City, UT......... (1,958) 122,432 -- (21,061) -------- ---------- ----------- --------- $117,456 $ 358,099 $ (313,366) $ 428,807 -------- ---------- ----------- --------- 19 NET INVESTMENT INCOME Net investment income from property operations for the industrial properties decreased from $0.4 million for the quarter ended September 30, 2002 to $0.1 million for the corresponding period ended September 30, 2003. Net investment income from property operations for the industrial properties decreased from $1.1 million for the nine months ended September 30, 2002 to $0.5 million for the corresponding period ended September 30, 2003. The majority of this decrease was due to the sale of the industrial property located in Bolingbrook, Illinois during the third quarter of 2002 and the sale of the industrial property located in Salt Lake City, Utah during the first quarter of 2003. UNREALIZED LOSS/GAIN THIRD QUARTER 2003: The Aurora, Colorado industrial property owned by the Partnership experienced a net unrealized loss of approximately $0.3 million for the quarter ended September 30, 2003. The unrealized loss experienced in the third quarter is due to capital expenditures at the property that were not reflected as an increase in market value. 2003 YEAR-TO-DATE: The Aurora, Colorado industrial property owned by the Partnership experienced a net unrealized loss of approximately $1.0 million for the nine months ended September 30, 2003 compared to a net unrealized gain of approximately $0.5 million for the nine months ended September 30, 2002. The unrealized loss experienced in 2003 is due to soft market conditions and capital expenditures at the property that were not reflected as an increase in market value. 2002 YEAR-TO-DATE: The two industrial properties owned by the Partnership experienced a net unrealized gain of approximately $0.2 million for the nine months ended September 30, 2002. The majority of the unrealized gain in 2002 was attributable to an increase in market rents. As of September 30, 2003, all vacant spaces were being marketed. REALIZED GAIN On January 28, 2003 the industrial property located in Salt Lake City, Utah was sold for a realized gain of $0.5 million. On September 12, 2002 the industrial property located in Bolingbrook, Illinois was sold for a realized gain of $0.4 million. EQUITY IN INCOME OF REAL ESTATE PARTNERSHIP NET NET INVESTMENT INVESTMENT UNREALIZED UNREALIZED INCOME INCOME (LOSS)/GAIN (LOSS)/GAIN OCCUPANCY OCCUPANCY PROPERTY 09/30/03 09/30/02 09/30/03 09/30/02 09/30/03 09/30/02 - ------------ ---------- ---------- ---------- --------- --------- --------- YEAR TO DATE Kansas City, KS; MO........ $488,634 $160,446 $(882,480) $ 99,757 86% 84% QUARTER TO DATE Kansas City, KS; MO........ $183,671 $ 94,676 $(312,790) $727,624 20 NET INVESTMENT INCOME During the quarter ended September 30, 2003, income from the investment located in Kansas City, Kansas and Missouri amounted to $0.2 million from $0.1 million at September 30, 2002. During the nine months ended September 30, 2003, income from the investment located in Kansas City, Kansas and Missouri amounted to $0.5 million from $0.2 million at September 30, 2002. This increase is due to an increase in revenue associated with expansion of the existing grocery store anchor that was completed last quarter. UNREALIZED LOSS/GAIN THIRD QUARTER 2003: The equity investment experienced a net unrealized loss of $0.3 million and a net unrealized gain of $0.7 million for the quarter ended September 30, 2003 and 2002, respectively. The unrealized loss of $0.3 million experienced during the third quarter of 2003 was due to capital expenditures that were not reflected as an increase in market value. THIRD QUARTER 2002: The unrealized gain of $0.7 million experienced during the third quarter of 2002 was due to renovations from the expansion of the existing grocery store anchor. 2003 YEAR-TO-DATE: The equity investment experienced a net unrealized loss of $0.9 million for the nine months ended September 30, 2003 and a net unrealized gain of $0.1 million for the nine months ends September 30, 2002. The unrealized loss for 2003 was primarily due to renovations from the expansion of the existing grocery store anchor, which were not reflected as an increase in market value. 2002 YEAR-TO-DATE: The unrealized gain of $0.1 million for the nine months ended September 30, 2002 was primarily due to renovations from the expansion of the existing grocery store anchor. As of September 30, 2003, all vacant spaces were being marketed. OTHER Other net investment income increased $0.2 million during the quarter and nine months ended September 30, 2003 compared to the corresponding periods in 2002. Other net investment income includes interest income from short-term investments, investment management fees, and expenses not related to property activities. (c) INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS Certain statements contained in Management's Discussion and Analysis may be considered forward-looking statements. Words such as "expects", "believes", "anticipates", "intends", "plans", or variations of such words are generally part of forward-looking statements. Forward-looking statements are made based upon management's current expectations and beliefs concerning future developments and their potential effects upon the Partnership. There can be no assurance that future developments affecting the Partnership will be those anticipated by management. There are certain important factors that could cause actual results to differ materially from estimates or expectations reflected in such forward-looking statements including without limitation, 21 changes in general economic conditions, including the performance of financial markets and interest rates; market acceptance of new products and distribution channels; competitive, regulatory or tax changes that affect the cost or demand for the Partnership's products; and adverse litigation results. While the Partnership reassesses material trends and uncertainties affecting its financial position and results of operations, it does not intend to review or revise any particular forward-looking statement referenced in this Management's Discussion and Analysis in light of future events. Readers should consider the information referred to above when reviewing any forward-looking statements contained in this Management's Discussion and Analysis. (d) INFLATION The Partnership's leases with a majority of its commercial tenants provide for recoveries of expenses based upon the tenant's proportionate share of, and/or increases in, real estate taxes and certain operating costs, which may reduce the Partnership's exposure to increases in operating costs resulting from inflation. CRITICAL ACCOUNTING POLICIES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires the application of accounting policies that often involve a significant degree of judgment. Management, on an ongoing basis, reviews critical estimates and assumptions. If management determines, as a result of its consideration of facts and circumstances that modifications in assumptions and estimates are appropriate, results of operations and financial position as reported in the Consolidated Financial Statements may change significantly. The following sections discuss critical accounting policies applied in preparing our financial statements that are most dependent on the application of estimates and assumptions. VALUATION OF INVESTMENTS REAL ESTATE INVESTMENTS--The Partnership's investments in real estate are initially valued at their purchase price. Thereafter, real estate investments are reported at their estimated market values based upon appraisal reports prepared by independent real estate appraisers (members of the Appraisal Institute or an equivalent organization) within a reasonable amount of time following acquisition of the real estate and no less frequently than annually thereafter. The Chief Real Estate Appraiser of Prudential Investment Management is responsible to assure that the valuation process provides objective and accurate market value estimates. The purpose of an appraisal is to estimate the market value of real estate as of a specific date. Market value has been defined as the most probable price for which the appraised real estate will sell in a competitive market under all conditions requisite for a fair sale, with the buyer and seller each acting prudently, knowledgeably, and for self interest, and assuming that neither is under undue duress. Real estate partnerships are valued at the Partnership's equity in net assets as reflected in the partnership's financial statements with properties valued as described above. As described above, the estimated market value of real estate and real estate related assets is determined through an appraisal process. These estimated market values may vary significantly from the prices at which the real estate investments would sell since market prices of real estate investments can only be determined by negotiation between a willing buyer and seller. Although the estimated market values represent subjective estimates, management believes these estimated market values are reasonable approximations of market prices and the aggregate value of investments in real estate is fairly presented as of September 30, 2003 and December 31, 2002. OTHER ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 22 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk. The Partnership's exposure to market rate risk for changes in interest rates relates to about 40.96% of its investment portfolio consisting primarily of short-term fixed rate commercial paper and fixed and variable interest rate debt. The Partnership does not use derivative financial instruments. By policy, the Partnership places its investments with high quality debt security issuers, limits the amount of credit exposure to any one issuer, limits duration by restricting the term, and holds investments to maturity except under rare circumstances. The table below presents the amounts and related weighted interest rates of the Partnership's cash equivalents and short-term investments at September 30, 2003: ESTIMATED MARKET VALUE AVERAGE MATURITY (IN $ MILLIONS) INTEREST RATE --------------------------------------------------- Cash equivalents........... 0-3 months $31.8 0.98% The table below discloses the Partnership's fixed and variable rate debt as of September 30, 2003. Approximately $34.1 million of the Partnership's long-term debt bears interest at fixed rates and therefore the fair value of these instruments is affected by changes in market interest rates. The following table presents principal cash flows (in thousands) based upon maturity dates of the debt obligations and the related weighted-average interest rates by expected maturity dates for the fixed rate debt. The interest rate on the variable rate debt is equal to the 6-month Treasury rate plus 1.565%. It is subject to a maximum of 11.345% and a minimum of 2.345%. The interest rate on the variable rate debt as of September 30, 2003 was 3.235%. SEPTEMBER 30, 2003 DEBT (IN $ THOUSANDS), 10/1/2003- ESTIMATED INCLUDING CURRENT PORTION 12/31/2003 2004 2005 2006 2007 THEREAFTER TOTAL FAIR VALUE - ---------------- ---------- ---- ---- ---- ---- ---------- ----- ---------- Average Fixed Interest Rate .... 5.91% 6.31% 6.29% 5.67% 5.65% 6.75% 7.39% Fixed Rate ..................... $173 $719 $ 774 $ 8,479 $588 $23,374 $34,107 $34,351 Variable Rate .................. 73 242 250 9,121 -- -- 9,686 9,442 ----------------------------------------------------------------------------------- Total Mortgage Loans Payable ... $246 $961 $1,024 $17,600 $588 $23,374 $43,793 $43,793 ----------------------------------------------------------------------------------- The Partnership is exposed to market risk from tenants. While the Partnership has not experienced any significant credit losses, in the event of a significant rising interest rate environment and/or economic downturn, defaults could increase and result in losses to the Partnership, which would adversely affect its operating results and liquidity. ITEM 4. CONTROLS AND PROCEDURES In order to ensure that the information we must disclose in our filings with the Securities and Exchange Commission is recorded, processed, summarized, and reported on a timely basis, the Company's management, including our President and Chief Accounting Officer, have reviewed and evaluated the effectiveness of our disclosure controls and procedures, as defined in Exchange Act Rules 13a-15(e) and 15d-15(e), as of September 30, 2003. Based on such evaluation, the President and Chief Accounting Officer have concluded that, as of September 30, 2003, our disclosure controls and procedures were effective in timely alerting them to material information relating to us required to be included in our periodic SEC filings. There has been no change in our internal control over financial reporting during the quarter ended September 30, 2003, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 23 PART II ITEM 5. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Contract owners participating in the Real Property Account have no voting rights with respect to the Real Property Account. ITEM 6. EXHIBITS AND REPORT ON FORM 8-K (A) EXHIBITS 2. Not applicable. 3.1 Amended Articles of Incorporation of Pruco Life Insurance Company filed as Exhibit 1.A.(6)(a) to Form N-8B-2, File No. 2-80513, filed November 22, 1982, and incorporated herein by reference. 3.2 Amended By-Laws of Pruco Life Insurance Company, filed as Exhibit 1.A.(6)(b) to Post-Effective Amendment No. 13 to Form S-6, File No. 2-89558, filed March 2, 1989, and incorporated herein by reference. 3.3 Resolution of the Board of Directors establishing the Pruco Life Variable Contract Real Property Account, filed as Exhibit (3C) to Form S-1, Registration Statement No. 33-8698, filed September 12, 1986, and incorporated herein by reference. 4.1 Variable Life Insurance Contract, filed as Exhibit 1.A.(5)(a) to Pre-Effective Amendment No. 1 to Form S-6, Registration Statement No. 2-80513, filed February 17, 1983, and incorporated herein by reference. 4.2 Revised Variable Appreciable Life Insurance Contract with fixed death benefit, filed as Exhibit 1.A.(5)(f) to Post-Effective Amendment No. 5 to Form S-6, Registration Statement No. 2-89558, filed July 10, 1986, and incorporated herein by reference. 4.3 Revised Variable Appreciable Life Insurance Contract with variable death benefit, filed as Exhibit 1.A.(5)(g) to Post-Effective Amendment No. 5 to Form S-6, Registration Statement No. 2-89558, filed July 10, 1986, and incorporated herein by reference. 4.4 Single Premium Variable Annuity Contract, filed as Exhibit 4(i) to Form N-4, Registration Statement No. 2-99616, filed August 13, 1985, and incorporated herein by reference. 4.5 Flexible Premium Variable Life Insurance Contract, filed as Exhibit 1.A.(5) to Form S-6, Registration Statement No. 2-99260, filed July 29, 1985, and incorporated herein by reference. 9. None. 10.1 Investment Management Agreement between Prudential Investment Management, Inc. and The Prudential Variable Contract Real Property Partnership, filed as Post-Effective Amendment No. 16 to Form S-1, Registration Statement No. 33-20083-01, filed April 10, 2003, and incorporated herein by reference. 10.2 Service Agreement between The Prudential Insurance Company of America and The Prudential Investment Corporation, filed as Exhibit (10B) to Form S-1, Registration Statement No. 33-8698, filed September 12, 1986, and incorporated herein by reference. 10.3 Partnership Agreement of The Prudential Variable Contract Real Property Partnership filed as Exhibit (10C) to Post-Effective Amendment No. 4 to Form S-1, Registration Statement No. 33-8698, filed May 2, 1988, and incorporated herein by reference. 11. Not applicable. 12. Not applicable. 18. None 22. Not applicable. 23. None. 24 24. Not applicable. 27. Not applicable. 31.1 Certification of President required pursuant to Exchange Act Rules 13a-15(e) and 15d-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Chief Accounting Officer required pursuant to Exchange Act Rules 13a-15(e) and 15d-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of President required pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Chief Accounting Officer required pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (B) REPORT ON FORM 8-K None. 25 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PRUCO LIFE INSURANCE COMPANY IN RESPECT OF PRUCO LIFE VARIABLE CONTRACT REAL PROPERTY ACCOUNT -------------------------------------------------- (REGISTRANT) Date: November 14, 2003 By: /s/ Andrew J. Mako ----------------- --------------------------- Andrew J. Mako President and Director Date: November 14, 2003 By: /s/ William J. Eckert, IV ----------------- --------------------------- William J. Eckert, IV Chief Accounting Officer 26